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Inflation, GDP and M4

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brightsparkey
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I recently read an interesting article about the true measure of inflation, and given that the official government CPI and RPI figures always seem so unreliable, what with gerrymandering of the basket etc. finding a more fundamental concept of inflation was interesting.

The formula was basically:  GDP growth - M4 growth = inflation on the basis that money supply and GDP should go hand in hand if money is to maintain its value and that any deviation in the money supply would result in inflation. The supposition is that prices as such are irrelevant as they are set by what people will pay,and that the value of money as a medium of exchange is what's of interest.

Its simple and there is some rationale behind it and the resulting figures tally well with my perception of past prices etc. over a long span. but is it a reasonable concept - how legitimate is the theory behind it? 

Now I know that this is at odds with traditional measures of inflation invariable based on a 'basket' of goods - it seem to me that this is leaving out whole swathes of the economy such as property, investments and paper instruments. This subtractive approach seems to be more in line with aims of politics than measuring the value of money.

thanks for any thoughts.

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Brightsparkey,

It is commonly assumed that inflation comes from over-expansion of the money supply.

But if this was true, it would mean that everyone selling something is measuring exactly

how quickly the money supply is expanding and how much to raise prices.

Does this sound realistic to you?

A much better measure of inflation is the gradual rise in ground rent.

Higher rents for retailers require higher prices.

But what causes ground rent to rise?

Increased economic activity in a given area increases interest in land there.

As a city's economy grows (more jobs, more amenities) the area becomes more desireable.

Inflation does not just keep pace with economic growth.

It is caused by economic growth.

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3 hours ago, Sebastien said:

It is commonly assumed that inflation comes from over-expansion of the money supply.

But if this was true, it would mean that everyone selling something is measuring exactly

how quickly the money supply is expanding and how much to raise prices.

No.

As people who receive extra money spend it, this increases demand, which raises prices.  As some prices go up, this increases some people's costs, so they have to raise prices or bargain for higher pay.  People are reacting to the market conditions they encounter.  Even if they aren't even aware of the expansion of the money supply, inflation happens.

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35 minutes ago, Sebastien said:

You are assuming that people spend extra money, rather than saving it or investing it.

This is not self-evident as deterministic consumer behavior, nor is it empirically supported.

 

There will be some spending.  How much depends a lot on what sort of people receive the extra money.  

Increased saving will, by supply and demand, reduce interest rates and increase borrowing.  Much of the borrowed money will be spent on one thing or another.

Increased investing will increase spending on capital improvement.

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43 minutes ago, Sebastien said:

The empirical data collected since WWII suggests that people have spent extra money on their children's college education, not on commodities.

Which people?  Which extra money?

More money spent on education leads to more money spent by educational institutions.

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What you are articulating is called economic determinism.

Economic determinism is that every action of an economic agent is predictable

and follows definite laws.

Economic determinism is not at home in Objectivism.

Objectivists maintain that individuals have free will, and their behavior can only be examined in retrospect, not predicted.

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2 minutes ago, Sebastien said:

If I am acting out of self-interest (which I am),

then make a prediction.

What am I going to say or do next?

In some circumstances, self-interested actions are somewhat predictable.

Your understanding of Objectivism is strange, making it difficult to predict what you will say.

If you see a prediction of your actions, you can act so as to make it fail.

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I actually successfully predicted that you would suggest looking at a prediction and acting to make it fail.

Do you know why?

Because I perceive very clearly that you are on a power trip,

and you're enjoying the ride while trying to pretend that you are not being an asshole.

I know your premises. I can read them like a book.

Don't mess with me. Find another punk who has a chip on his shoulder like you.

Then you can play arrogant together.

Me? No thank you.

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My understanding of Objectivism is strange?

You better do some studying because I've been studying Objectivism a lot harder than you,

which is made very clear simply by critically observing the points you made

with absolutely no sense of pride, integrity, or any morsel of good character at all.

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