Flipping the Line: We didn't get hyperinflation in 2008; we won't get it now
We should be more worried about low economic growth than inflation
The Line welcomes angry rebuttals and responses to our work. The best will be featured in our ongoing series, Flipping the Line. Today, Matthew Alexandris replies to Meaghie Champion’s fears about inflation and money supply.
In Meaghie Champion’s recent article at The Line, “Caution: Inflation Ahead,” she warns that both Canada and the U.S. are at risk of hyperinflation due to governments running up extraordinary debts in response to COVID-19.
Champion argues that increases in each country's money supply, which are much higher than in previous years, can potentially overheat their economies in the coming months to the point that they may resemble the inflation crisis seen in Venezuela.
This type of inflation fearmongering was commonplace in the response to the 2008 Great Recession. It proved to be false. But as Champion rightfully points out, the deficits governments are running in the response to this crisis are much larger than the ones after the Great Recession.
However, the problem with Champion’s article is that her forecast relies on the same oversimplified and outdated economic theories that fell flat years ago.
For example, Champion argues that we should be concerned about the action taken by the central banks to purchase government bonds — a practice known as quantitative easing (QE) — because it adds new money into the economy. She goes as far as to call it “the recipe for hyperinflation.”
But the reason why the Bank of Canada and the Federal Reserve have embraced QE is to respond to the health and economic crisis created by COVID-19. The pandemic and repeated government lockdowns created an economic environment of high unemployment, falling GDP, and fear for investors. Under these dire economic conditions, Canada and the U.S.’s economy were facing economic contraction rather than growth; inflation rates fell below or near the bottom of our inflation rate target.
That’s why the Bank of Canada has embraced QE; it wanted to give the economy the boost it needs to help inflation remain stable and counter the risk of deflation.
There is little reason to believe that embracing QE will inevitably lead to spiralling inflation rates, let alone hyperinflation. Central banks in Japan, the U.S., Europe and Britain all struggled to get inflation back up to their two per cent targets despite an influx of billions into the economy over the past decade or so.
When a country is in recession, like what Canada and the U.S. are experiencing now, an economy’s output of goods and services declines, meaning that the actual output is less than what an economy could produce at full capacity. The difference between the actual output of the economy and its potential output is referred to as the output gap. COVID-19 caused supply and demand shocks that created a negative output gap. Under these conditions, we should expect that prices will begin to fall to reflect weak demand. Since 2007, the output gap in the U.S. has repeatedly been revised downward to reflect lagging economic growth.
Although Champion does not argue this specifically, it needs to be emphasized that just because central banks have printed massive amounts of money, it does not mean that they have begun to embrace Modern Monetary Theory (MMT).
Both Tiff Macklem and Jay Powell have criticized MMT. Macklem said last September that, “[w]hen you look at MMT, there’s really no evidence in history that it’s worked,” while Powell put it more harshly saying, “MMT is just flat-out wrong.”
While printing money to finance deficits will surely scare monetarists, it should not. QE is a monetary policy tool, albeit an unconventional one, used to keep prices stable in the face of an economic standstill. Keynesian economists have pushed governments to employ a large fiscal and monetary response to stabilize the economy after a period of crisis, like the one caused by COVID-19, for nearly a century.
The crux of Champion’s argument concerns the relationship between money supply and inflation. According to Champion, recent surges in money supply in Canada and the U.S. over the past year (as well as an influx of U.S. currency back to U.S. shores) could cause inflation to spiral.
Yes, Canada and the U.S. have taken on much more debt and printed much more money responding to COVID-19 than the Great Recession. However, that does not necessarily mean that these countries are on the verge of hyperinflation.
There were several reasons why that proved to be the case in 2008, and why it will not be the case now.
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