Denying prosperity by misunderstanding inflation

Goodness me, Deborah Coddington's quite reasonable article pointing out the absurdity and destructiveness of the Reserve Bank's myopic control of interest rates has caused the mild-mannered DPF to reach for his smelling salts.

Perhaps he just doesn't understand basic economics, huh? Tell me again how it's a good thing to strangle producers and exporters in a bid to keep down the prices of property? As I asked last time Bollard flopped out his blunt instrument:

• Does anyone else wonder at the sanity of strangling the backbone of our economy -- producers and exporters -- in order to deal to "the profligate household sector"? Is that sane? And, given that many household borrowers are fairly well insulated from Reserve Bank interest rate hikes, will another Reserve Bank interest rate hike deal to them anyway?
• And why should they be 'dealt to' anyway? Why is the 'price stability' of Bollard's 'basket of goods' such an important thing, and should New Zealand producers and exporters be sacrificed on the 'cross of stability' of this basket? Don't prices in a free market rise and fall naturally as a way of clearing markets? Is that such a bad thing? Don't free markets, when they're left free, exhibit over time a gentle 'deflation'? Why is that a problem?
• How "profligate" is the household sector? Why is it "profligate" to pay what you can afford? And just whose money is it anyway?

There is an enormous misconception about inflation that helps fuel the Reserve Bank's meddling, and that sees otherwise intelligent free-marketeers supporting the meddling. What is usually thought of as inflation, ie., a galloping increase in prices and a consequent fall in the purchasing power of a dollar, is in fact the consequence of real inflation, ie., the money supply being inflated. 'Price inflation,' has become become conflated and confused with real inflation. There is no way to determine the difference between price increases due to the increase in the money supply -- ie., 'price inflation,' prices increasing for real and genuine market-induced reasons, just as there is no way for the interest rates to to stop 'price inflation' without also stifling producers and exporters.

The biggest effect of the Reserve Bank's inflation fighting has been to strangle producers and exporters and to deny New Zealand's future prosperity, just as much and in a similar way as Muldoon's wages and prices freeze of 1973 did the same job. The truth is that as long as the money supply itself is not inflated (which is what 'inflation' actually means) there is little need and every reason not to try and achieve price stability. Let prices be what they should be: signals to the market, not a call for strangulation and the use of Alan Bollard's blunt instrument.

[UPDATE: A couple of years ago, Don Brash defended the Reserve Bank at an Auckland SOLO conference -- an audience of committed libertarians. His presentation, 'Do We Need a Central Bank?' is linked here in MP3 (64MB though, so you'll need broadband). As you'd expect, the question period was very, emm, interesting.]

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