The recent story about inflation sparked a lot of interest from readers. A common question was, “ok, now I understand inflation a lot more, but what do we do about it?”
I’d like to say “glad you asked!” But I can’t. I’m sorry to say, but there’s no easy way to explain how to reduce inflation, let alone to actually reduce it.
As the inflation story pointed out, there are several ways to cause inflation. Most of those ways were due to pleasant things happening: getting a pay raise, getting cash from the government, or watching the value of your 401K jump up.
Similarly, there are several ways to reduce inflation. But unfortunately, none are pleasant. And all are complex.
It’s been said that in order to curb inflation, government “is in the position of the chaperone who has ordered the punch bowl removed just when the party was really warming up." True that!
I’ll try to use Coal Town again but as an imperfect example. In Coal Town’s case, an easy (but problematic) solution is to do the opposite of what caused inflation to begin with. But, can you imagine how reducing the pay of each coal miner would go over? Torches and pitchforks anyone?
Anyway, here are a couple of tools the government has to curb inflation:
Increase Bank Reserves
As you know, banks take in deposits that they then lend out. The interest they earn on the loan, minus the interest they pay on the deposit is their gross profit.
The Federal Reserve Bank requires that all federally-insured banks keep a cash reserve, and these reserves are dollars that the bank can’t lend.
The First National Bank of Coal Town has $1 billion in deposits. Previously the bank needed to keep 10% of that amount in reserve. This left the bank $900 million to lend. In trying to reduce inflation, the Federal Reserve changes their reserve requirement to 15%. Because of this change the bank must stop lending until their loan balance drops to $850 million.
Betty, over at Betty’s Diner, was planning to borrow $100,000 to expand the diner and get a larger grill for her popular HumongoBurgers. But because of the freeze on lending, she needs to postpone this work.
Increase Interest Rates
When banks borrow money (which they do when their deposits aren’t sufficient to meet loan demand), the rate they pay is much lower than what you or I would pay. The Federal Reserve Bank has a special interest rate that they charge banks to borrow from them. When this rate is raised, the rates that banks charge their customers for loans goes up in tandem.
In Coal Town Marcy, the owner of the Holy Cannoli Bakery, wanted a loan for a new energy-efficient oven. But, because the Federal Reserve Bank increased their loan rates, the First National Bank of Coal Town raised their business loan rates higher than Marcy could afford.
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See the common thread here? In both examples, the consumer has postponed or cancelled purchases. Across the US economy, the only way to reduce inflation is to slow down the economy. Slowing the economy means low or even negative growth. And, negative growth over two calendar quarters means recession. And, all of this involves pain.
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Given all the recent brouhaha over disinformation, I thought this was worth a read:
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Incompetent Revenue Service
I pay my taxes. Begrudgingly, but I pay them just like everyone else. We can debate whether the taxes we pay are too high, too low or just right, but at least I expect some reasonable level of competence from our government.
Ok, I can hear you saying it now: “Government? Competence? Yeah, right!”
I’ve written several times that over the last couple of years that government, businesses and basically anyone who doesn’t want to do something uses Covid as an excuse. “Cause Covid” is just too convenient when there’s something you don’t want to do.
Well, the IRS is not above scapegoating Covid to cover their incompetence. And, their handling of my taxes is a perfect example.
I have my own consulting business and my tax return is rather involved. Forms no one has ever seen before spit out of Turbo Tax every year when I print my return.
I always file my returns on paper and avoid electronic filing. Why? I should put all my personal financial data out there in the ether? My social security number and many personal financial facts are just ripe for identity theft. What could possibly go wrong?
Anyway, it seems like the IRS can’t keep up with the paperwork that they require. According to one of my friends (a 9:59 Club member) who’s daughter works for the IRS, the IRS has used “cause Covid” as the excuse for them falling behind in processing paper returns. They’ve been stashing mail bags full of them in semi-trailers for 2+ years!
I can attest to this because my 2019 return didn’t get processed until sometime in 2021. (Heaven help me if I didn’t send payment for 2019 until 2021!)
I filed my 2020 return on time and was due a $2K refund which I applied to my 2021 taxes. This year I filed my 2021 taxes and all was well until this week. I got a $2K check from the IRS with a note telling me:
“We could not apply any of the 2020 overpayment as you requested because we already processed your 2021 tax return.”
Arrrrrg! Now I need to file an amended return and probably pay a penalty. Thanks Uncle Sam!
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Full Contact Baseball!
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