Wednesday, January 16, 2008

The politics of stagflation

Yesterday we heard that the Producer Price Index (PPI), which measures inflation at the wholesale level, was up 6.3% for 2007. Today, we learned that the Consumer Price Index (CPI). which measures retail prices, was up 4.1% -- the largest increase since 1990, and up quite a bit from last year's 2.5%.

Driving those increases were sharp increases in commodity prices -- crude oil, of course, but also corn, soybeans, cattle, copper, uranium, and other raw materials needed for production. The increases are demand driven. Developing countries, especially China and India, are now in the market for products previously hogged up by the United States and Western Europe. As the Chinese and Indian economies continue to grow, competition -- and prices -- can only increase.

There are those, in government and the business community, whose rose-colored glasses seem to be affixed to their heads with nails driven through their frontal lobes. A few still say we can dodge the recession that already has started; others claim that a recession in the United States will halt the growth of commodity prices.

Sorry, but it ain't gonna happen. We're in for a rough ride.

When prices are going up and incomes are going down, both consumers and businesses suffer. In last few recessions, people maintained their standards of living by using credit. This time around, though, credit is tight. Lots of people already carry more debt than they can pay back, and banks finally are raising their lending standards to where they should have been all along.

As I explained a couple of posts ago, when you have inflation and recession at the same time, it's called stagflation -- and interest rate cuts by the Fed won't solve the problem. Lower interest rates, combined with our weak dollar, will just make it harder to attract the foreign capital we'll need to get the economy going again.

So if the Fed can't save us, who can?

Oh, crap. Looks like it's gonna have to be Congress. Oh, crap, crap, crap! But what, you ask, can Congress do?

A really great start would be removing the tariff on imported ethanol, currently 54 cents a gallon. Brazilian ethanol, made from sugar cane, would be cheaper than our own, which is made primarily from corn. There would be some impact on gasoline prices, but even more impact on the price of food.

Corn used for ethanol can't be used to feed animals, so meat, egg, and dairy prices have gone up sharply. As more agricultural land is used to grow corn for ethanol, there is less available to grow wheat and other grains, pushing food prices even higher. Also, let's not forget the cost of the corn sweeteners that add empty calories to so much of what we eat.

While it's eliminating the ethanol tariff, Congress also could switch the $2.5 billion subsidy paid for production of corn-based ethanol to more cost-efficient forms of alternative energy. Once food and energy prices drop, consumers will have more money to spend in other sectors of the economy. Wouldn't that be great?

It won't happen, of course, because the agribusiness lobby is just too strong, and some of our elected representatives are just too dependent on agribusiness money. Instead, we'll get a few tax cuts and a few spending programs, all targeted at recession rather than inflation, and all more cosmetic than functional.

And we'll all just tighten our belts and try to ride it out.

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