Why Your Government Likes Inflation

There are so many benefits for governments to create inflation, that the temptation is very difficult to resist. However, history shows that many governments have overdone it and ended up destroying their monetary system and their entire economy. A prudent person might ask, “If the consequences of inflation can be so dire, why would the various governments want to embrace it in the first place?” I might be able to explain it with a dozen delicious, raised-glazed donuts: They are simply too tasty to resist.

Big Debtor
The US government owes more money (approximately 12-trillion dollars) than any company or individual on the planet. By manipulating policies so that there is a constant rate of inflation (They seem to like one to two percent), they can pay back the debt with cheaper dollars. For instance if they can borrow a dollar that can buy one-hundred paperclips, but slowly devalue the dollar (by printing more of them) by two percent per year, then after 10 years they can pay back the debt with a dollar that is only worth 80 paper clips.

Bracket Creep
If the government can keep the price of everything going up, they collect more money. As an example, if a union carpenter sees prices going up all around him, he will need a raise when his contract is over. Carpenters, and others like him, move into higher tax brackets as their wages increase and the government collects more money from them in the form of income taxes. Furthermore, the same principle applies as investments such as homes and stocks rise: The government collects more Capital Gains tax. Penny Jobs tries to explain it, but i think I do a better job.

State and local governments
Local governments also like it when inflation drives prices up. As goods get more expensive, revenues from sales taxes increase right along with them. Furthermore, when home prices rise, home owners tend to refinance their homes and spend the money.

The Citizens
Inflation benefits most citizens, especially those with major assets such as homes. If your house is worth $150,000 and you owe $140,000 you don’t have enough equity to sell or refinance your home. But if the home price jumps to $200,000 your debt becomes a much smaller percentage of the homes value (even though the new dollars are not worth a lot). Therefore you can get to the equity and enhance your life.
When the FEDs release extra dollars into society and those new dollars begin to move around, the people get a certain comfort level and spend any money that lands in their laps. As a result, they stimulate the economy which, in turn, sends new funds back to the governments.

However, people with large savings accounts or fixed incomes do not like inflation because the printing of new money makes each dollar less valuable. In cases like this, seniors watch their life time savings become less meaningful and as prices go up their income does not keep pace.

How They Do It
Basically, the government measures the sum of all of the new products that are created (Gross Domestic Product) and then release new money into society to cover the value of those goods. To create inflation they simply release slightly more money than those goods are really worth. For more on this topic, visit our friends at Seeking Alpha.

What say you?

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