Eric Mackintosh

4/15/02

“Zero Inflation: Prescription for Recession” by Michael Meeropol

 

Allen Greenspan and State Representative Stephen L. Neal have proposed that the Federal Government use monetary and fiscal policies to try to reduce inflation to zero within the next five years, (1990).  Why reduce inflation to zero, Neal is lobbying congress because he states that a reduction to zero inflation will:

 

1. Reduce interest rates and maintain them at their lowest possible levels.
2. Promote the highest possible sustainable level of unemployment.
3. Produce the maximum sustainable rate of economic growth.
4. Increase the national savings rate as well as increase investment, thereby boosting productivity and raising the standard of living.
5. Stabilize the economy by allowing long term contracts between employers and workers to be more predictable as well as credit contracts between debtors and lenders.

 

Basically, Meeropol disagrees with all of the points made by congressman Neal and Greenspan then sites historical examples dating back to the late 70s early 80s when Volcker supported zero inflationary policies during the Reagan/Carter administrations. 

1. The experience of the eighties demonstrated that tight monetary policy made real interest rates rise.  A substantial rise in the real interest rates will increase the business failure rate and put a strangle hold on small debtor businesses.
2. Zero inflation will not reduce and sustain a minimal unemployment rate.  History shows that unemployment during the inflationary 70s averaged 6.17% and 7.49% in the low inflationary 80s.  Meeropol states that to reduce inflation, it is necessary to increase unemployment.
3. The low inflation 80s has seen only a slightly higher rate of growth than the 70s and a slower growth in real GNP as well as wages.  Lower inflation does not correspond to higher growth, as history shows.
4. The 1970s had higher rates of investment and savings than the 1980s.  “If the effort to achieve zero inflation raises real interest rates dramatically, it will slow down the growth of demand and thus be associated with lower rates of investment.” 
5. Stabilizing the economy can only take place if employers and producers believe that the Federal Government will stick with the zero inflation policy.  Contracts are designed according to past inflationary results and figures.  Therefore it will take a few years before these figures will make it into new contracts with workers and for capital.  Thus putting the economy into a recession, like in 1981-82, and hopefully a recovery will take place afterwards, 1983-84. 

 

Meeropol also explains that inflation reduces the real tax burden of the general public because the Federal Government is a net debtor, and low inflation hurts debtors and helps creditors by making borrowed money worth less and easier to pay back.  Inflation in the 70s benefited most people in the country because the majority of people in the country were net debtors.  Mortgages on houses rose slowly while appreciation on homes rose faster, thus benefiting debtors.  Also inflation benefited small businesses by reducing their debt and enabling them to invest in new technology, thus increasing investment.  Meeropol states that, “it is essential that we recognize that associated with a move toward zero inflation would be an increased redistribution of income away from low income people toward high income people.”  The majority of state representatives are high income people, no wonder some of them support the zero inflation resolution.