Some perspective
My dad often remarked that a single dollar paid the monthly rent on the house that provided a roof over the family seven in which he grew up in Upper Michigan in the early 1900s. His dad, my grandfather, who was long dead when I was born, made a dollar a day back then as the sawyer in the local lumber mill, the highest paid skilled laborer in the mill. My father had only a high school education, but he lived through the Great Depression of the 1930s and, perhaps as a result, he understood that the value of money is not constant, it erodes over time.
One of the earliest lessons my dad preached to me was that if you took the little money you could save and “stuffed it under your mattress” it would lose its value. To keep up with “inflation” you needed to have a savings account with a reputable local bank, an account that was protected by the Federal Deposit Insurance Corporation (FDIC) against the bank failures he had lived through in the 1930s. Just as importantly, he emphasized that you had to make sure that your savings account paid a rate of interest that exceeded the rate of inflation—otherwise what you could buy with your saved dollars would diminish. In this same context dad would discuss the “hyperinflation” that destabilized Germany in the 1920s, impoverished common folk and led to the rise of the Nazis and the Second World War—one more example of the potential instability of the value of money.
Note that in my youth in the 1950s and 60s “credit cards” were in their infancy, money was tangible as paper bills or coins or paper checks written on money held in a bank as a “checking account”. The closest one came back then to saddling yourself with consumer debt was buying something “on time” or on “layaway”, both of which were anathema to my parents. You either saved up to buy a thing you wanted or you went without. With the single exception of a carefully-researched mortgage to buy a home, saddling oneself with paying interest to purchase something was viewed with great suspicion. After all, over time the value of one’s money was going to erode thanks to inflation. Adding an obligation to pay interest on a purchase was to compound that erosion.
My point in recounting all this is to emphasize that “inflation,” the devaluation of money with time, and the instability of the value of money, is embedded in our lives and the nature of money.
Inflation is expressed as a rate of rise, the percentage change from one year to the next, of the surveyed price of a defined basket of goods and services chosen to mirror the “cost of living”. Every year since 1955 that percentage change has been a positive number, i.e. every year since 1955 the cost of living has risen by an amount that has varied from 0.25% to a high (in 1980) of 18% with a corresponding decrease in what a dollar can buy.
In an ideal, vaunted (and non-existent), totally “free market” economy the price of goods is determined by “supply and demand”. If supply is limited by some shortage of the materials with which to make the goods (or by the sort of supply chain disruption experienced in the late pandemic) and demand is stable, the price will increase by “cost-push inflation”. Similarly, if consumers “demand” more of something the price will also increase, “demand-pull” inflation. Like so much else in economics, this is a wild over-simplification. For example, “demand” is determined as much by the total amount of money available (and who has access to that money) as it is by the desire of consumers to purchase a product or service.
Here’s where the “monetary policy” of the Federal Reserve comes in. Since the “1951 Accord” between the Federal Reserve and the U.S. Treasury Department, the Federal Reserve has acted independent of the executive branch of the federal government (i.e. the president and political parties) to try to control the rate of inflation via “monetary policy.” As a practical matter, that means that the Federal Reserve, currently headed by Jerome Powell, adjusts the availability of money in the economy to try to target the year-to-year rate of inflation to around 2%. The Fed has several means to change the money available in the economy. The one you most hear about is by adjusting the “federal funds rate,” the interest rate “at which depository institutions (banks and credit unions) lend reserve balances to other depository institutions overnight on an uncollateralized basis.” Changes in the federal funds rate either restrict or loosen the money available for borrowing in the economy, for example, the terms on which banks offer mortgages to prospective home buyers.
With some rare but notable blips (like that 18% rise in 1980 mentioned above) the Federal Reserve’s independent adjustment of “monetary policy” has kept the rate of inflation in the U.S. above zero and fairly stable since 1954. (See this table.) Note, though, that, in those 70 years, the overall cost of living still increased each year. “Controlling inflation” means only that the rate of rise of prices has been reduced to what is considered an acceptable level. Ongoing erosion in the value of money, a reduction in the purchasing power of money over time, is baked into how our system works. Anyone who wistfully points to a gallon of gasoline costing thirty-five cents in the 1960s or longs for the price of goods even five years ago needs to see those prices through the lens of inflation.
Over the seventy years from 1954 to 2024, the average annual rate of inflation has been approximately 3.5% (derived from manipulations of this formula), a remarkable achievement considering all the financial crises of our earlier history. However, that also means that what a dollar would buy in 1954 is the same as what $11.70 will buy in 2024 dollars, which harkens back to my father’s comments about savings account interest levels and inflation. (A useful rule of thumb: a dollar today has the same buying power as ten cents did in 1964, a factor of 10, i.e., roughly speaking, $15K invested in 1964 would have to have grown to $150K just to have the same value today.)
Many voters are convinced that whoever is president at the time is responsible for the rate of inflation, i.e. the rise in the cost of living. Trump recently fueled that belief by accusing the Federal Reserve of “playing politics” by lowering the federal funds rate a half a percentage point, even though the Fed was clearly responding (belatedly, at that) to data confirming that the rate of inflation was nearing the Fed’s target of 2%.
Anyone who demeans the Fed’s largely successful effort over the last 70 years to tame the rate of inflation ought to spend some time in a country like Argentina, where the Argentina peso routinely loses value (i.e. prices rise) significantly from morning to evening and prices are written in chalk.
Keep to the high ground,
Jerry