Inflatulation

Tuesday, 17 August 2010 19:32 Dodgy dossier
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Following publication of the official exchange of monthly letters between the Governor of The Bank of England and The Chancellor of the Exchequer regarding the monthly inflation target we have been passed copies of the private correspondence between the two men. Dodgy Dossier cannot guarantee the validity of the letters but they seem sufficiently genuine for us to reprint them here.
11 Drowning Street
London SW1
Dear Mervyn

Thank you for your letter informing me of the latest annual rate of inflation – down to 3.1% but still above the 2% target.

I do hope you have recovered from the adverse press comments reminding us you have been off target 42 weeks out of 51. I expect it was just a glitch in a computer or something. Nothing serious to worry about, I’m sure!

I am sorry to bother you at this time, but as you know I’m new to the job and am finding this inflation business a bit tricky to get my head around. Everybody talks about it as if they know what it means and I feel a bit of a chump just having to nod and agree with whatever they say. There doesn’t seem to be any clear definition that I can find anywhere.

Inflation is supposed to be ‘bad’ right? The economy is in danger and you may have to put the brakes on by increasing the Base Rate. But if the banks charge more for mortgages and loans to businesses, producers will increase their prices and people will have less to spend in the shops and the economy will go into a nosedive, won’t it? Or am I missing something? I mean, if prices are going up now with the bank rate at next to nothing aren’t they going to go up again if the interest rate goes up a notch?

What I don’t understand is that just because some prices have gone up everybody is rushing round in a panic and wringing their hands. So, prices go up. This could be due to a shortage of supply or excess in demand. People have fixed wages and incomes. It simply means they have to spend less on the things that have gone up in price and wait for the market to stabilise. Right?

And another thing. They are saying that one of the causes of inflation was the 2½% rise in VAT in January. But I’m planning another 2½% in January. Why didn’t someone tell me a VAT hike would be inflationary – I am the Chancellor for goodness sake.

One last thing. I seem to remember someone telling me that an increase in the supply of money and credit unsupported by an increase in the production of goods and services has something to do with inflation. Can you elaborate?

I’d be very grateful for any clarification you could provide so I will be fully briefed for my next meeting with Dave and the Treasury bods next week.

Kindest regards,

George

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Bank of England
Threadnoodle Street
London EC2R 8AH

Dear George

I find your letter a little difficult to answer, as you really should have attended economic classes and learnt about the causes and effects of inflation.

Unfortunately there is no general agreement as to the cause of inflation. Here are some of the widely used definitions
  1. Decline in purchasing power
  2. Rising prices in general
  3. Rising consumer prices (CPI)
  4. Rising producer prices (PPI)
  5. Expansion of money supply and credit
  6. Rising prices due to expansion of money supply and credit
The most common definition of inflation is a rise in prices as this is what we want the people to believe. We use a number of wise sounding phrases to make it appear as if we know what inflation is – for example: ‘The rate at which prices are rising reflects the amount of spending in the economy compared with what can be produced, and the pressure this demand puts on company costs and prices. If the value of spending increases too quickly, costs and prices tend to rise – that’s inflation.’

You see, it would take a real economist weeks to understand this type of language! The whole point is that if we confuse the people all the time it allows us to print money, I mean Quantitative Ease, at will, thereby generally inflating prices everywhere while proclaiming we are "inflation fighters".

But seriously, I suppose the best definition for inflation I can offer is a paragraph from The Intelligent Woman’s Guide to Socialism by a chap you may be familiar with – George Bernard Shaw. He summed the whole thing up very neatly by saying: ‘Inflation, by raising prices, enables the debtor to cheat the creditor. Deflation, by lowering them, enables the creditor to cheat the debtor. Therefore the most sacred economic duty of a Government is to keep the value of money steady: and it is because Governments can play tricks with the value of money that it is of such vital importance that they should consist of men who are honest, and who understand money thoroughly.’

But for goodness sake don’t quote this and let the cat out of the bag or we will all be in trouble. Let me know if you need any further pointers and for goodness sake don’t do a Harold Wilson and start talking about the ‘pound in your pocket’. That really would put an end to your career.

Yours thrustworthily

Mervyn King
Governor
 

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