Is Inflation Real?

Just My Imagination

I tell you I can visualize it all
This couldn't be a dream for too real it all seems
But it was just my imagination
 Once again runnin' way with me.

Inflation seems real, but it may be just our imagination.

Price inflation seems real.  Every year things get more expensive.  But it hasn’t always been this way.  See my earlier posting. https://dbeagan.blogspot.com/2018/08/the-happening-riding-high-on-top-of.html.  There was a time when prices seemed stable.  Prices rise because demand is increasing at a faster rate than supply.  Demand is growing because the economy is growing.  Everyone knows this, including the suppliers.  They should increase supply at the rate of demand in order to increase their profits. They know how much demand is growing, or is there some other reason why there is still inflation?

The US dollar serves as the medium of exchange in the United States, but also serves as the de facto international currency.  It did not have to serve as the international reserve currency.  John Maynard Keynes proposed at the 1946 Bretton Woods Conference that the international currency exchange should be the bancor, French for bank gold.  This was rejected in favor of a system a system of pegged exchange rates ultimately tied to physical gold in a system managed by the World Bank and International Monetary Fund, IMF. In practice, that system implicitly established the United States dollar, USD, as a reserve currency convertible to gold at a fixed price on demand by other governments. The dollar was implicitly established as the reserve by the large trade surplus and gold reserves held by the US at the time of the conference.

But these conditions would not endure for ever.  By the early 1970s, the US trade surplus was no more, and, in 1971, Nixon decoupled the US dollar from gold. This made the US dollar the explicit, not just the implicit, international currency.  A period of monetary inflation ensued, but this is only inflation based on the previous year. In fact, the Consumer Price Index, a measure of inflation, has consistently risen since that time, even while annual inflation has been declining.  Since 1971, the CPI appears to have been growing at a linear rate.  While Year Over Year, YOY, inflation from 2018 to 2019 was 1.8%, inflation from 1971 to 2019 was 531%.  Inflation reached a maximum annual inflation of 13.5% in 1980.  By contrast a linear regression of the CPI, assumes that much of the inflation happened immediately in 1971 when it was forecast to be a maximum of 21%, but by 2019, its forecast annual inflation drops to 1.8%, and has increased from 1971 by 549%.

Why is there any inflation at all? As stated in the  earlier posting, this is because of the Triffin dilemma. Since the USD is the international reserve currency, trade between, for example, China and Nigeria, even though it does not involve the United States, may require USD.  The growth in international trade according to World Trade Organization is forecast to be 1.6% in 2019.

The United States Federal Reserve Bank has been adjusting US monetary policy to reach its goal of 2% annual inflation but has admitted failure.  I am proposing that if the USD is the international trading exchange, then “inflation” is a consequence. If the USD was NOT the international exchange, then inflation might be just my imagination, and 0% would be the real inflation, which is certainly better than the Federal Reserve’s 2% goal.