In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time. When the general price level rises, each unit of currency buys fewer goods and services. Consequently, inflation also reflects an erosion in the purchasing power of money – a loss of real value in the internal medium of exchange and unit of account in the economy. A chief measure of price inflation is the inflation rate, the annualized percentage change in a general price index (normally the Consumer Price Index) over time.

Inflation's effects on an economy are various and can be simultaneously positive and negative. Negative effects of inflation include a decrease in the real value of money and other monetary items over time, uncertainty over future inflation may discourage investment and savings, and high inflation may lead to shortages of goods if consumers begin hoarding out of concern that prices will increase in the future. Positive effects include ensuring central banks can adjust nominal interest rates (intended to mitigate recessions), and encouraging investment in non-monetary capital projects.

Economists generally agree that high rates of inflation and hyperinflation are caused by an excessive growth of the money supply. Views on which factors determine low to moderate rates of inflation are more varied. Low or moderate inflation may be attributed to fluctuations in real demand for goods and services, or changes in available supplies such as during scarcities, as well as to growth in the money supply. However, the consensus view is that a long sustained period of inflation is caused by money supply growing faster than the rate of economic growth.

Today, most mainstream economists favor a low, steady rate of inflation. Low (as opposed to zero or negative) inflation may reduce the severity of economic recessions by enabling the labor market to adjust more quickly in a downturn, and reduce the risk that a liquidity trap prevents monetary policy from stabilizing the economy. The task of keeping the rate of inflation low and stable is usually given to monetary authorities. Generally, these monetary authorities are the central banks that control the size of the money supply through the setting of interest rates, through open market operations, and through the setting of banking reserve requirements.

History

Increases in the quantity of money or in the overall money supply (or debasement of the means of exchange) have occurred in many different societies throughout history, changing with different forms of money used. For instance, when gold was used as currency, the government could collect gold coins, melt them down, mix them with other metals such as silver, copper or lead, and reissue them at the same nominal value. By diluting the gold with other metals, the government could issue more coins without also needing to increase the amount of gold used to make them. When the cost of each coin is lowered in this way, the government profits from an increase in seigniorage. This practice would increase the money supply but at the same time the relative value of each coin would be lowered. As the relative value of the coins becomes less, consumers would need to give more coins in exchange for the same goods and services as before. These goods and services would experience a price increase as the value of each coin is reduced.

Historically, infusions of gold or silver into an economy also led to inflation. From the second half of the 15th century to the first half of the 17th, Western Europe experienced a major inflationary cycle referred to as the "price revolution", with prices on average rising perhaps sixfold over 150 years. This was largely caused by the sudden influx of gold and silver from the New World into Habsburg Spain. The silver spread throughout a previously cash-starved Europe and caused widespread inflation. Demographic factors also contributed to upward pressure on prices, with European population growth after depopulation caused by the Black Death pandemic.

By the nineteenth century, economists categorized three separate factors that cause a rise or fall in the price of goods: a change in the ''value'' or production costs of the good, a change in the ''price of money'' which then was usually a fluctuation in the commodity price of the metallic content in the currency, and ''currency depreciation'' resulting from an increased supply of currency relative to the quantity of redeemable metal backing the currency. Following the proliferation of private banknote currency printed during the American Civil War, the term "inflation" started to appear as a direct reference to the ''currency depreciation'' that occurred as the quantity of redeemable banknotes outstripped the quantity of metal available for their redemption. The term inflation then referred to the devaluation of the currency, and not to a rise in the price of goods.

This relationship between the over-supply of banknotes and a resulting depreciation in their value was noted by earlier classical economists such as David Hume and David Ricardo, who would go on to examine and debate to what effect a currency devaluation (later termed ''monetary inflation'') has on the price of goods (later termed ''price inflation'', and eventually just ''inflation'').

The adoption of fiat currency (paper money) by many countries, from the 18th century onwards, made much larger variations in the supply of money possible. Since then, huge increases in the supply of paper money have taken place in a number of countries, producing hyperinflations -- episodes of extreme inflation rates much higher than those observed in earlier periods of commodity money. The hyperinflation in the Weimar Republic of Germany is a notable example.

Related definitions

The term "inflation" originally referred to increases in the amount of money in circulation, and some economists still use the word in this way. However, most economists today use the term "inflation" to refer to a rise in the price level. An increase in the money supply may be called monetary inflation, to distinguish it from rising prices, which may also for clarity be called 'price inflation'. Economists generally agree that in the long run, inflation is caused by increases in the money supply. However, in the short and medium term, inflation is largely dependent on supply and demand pressures in the economy.

Other economic concepts related to inflation include: deflation – a fall in the general price level; disinflation – a decrease in the rate of inflation; hyperinflation – an out-of-control inflationary spiral; stagflation – a combination of inflation, slow economic growth and high unemployment; and reflation – an attempt to raise the general level of prices to counteract deflationary pressures.

Since there are many possible measures of the price level, there are many possible measures of price inflation. Most frequently, the term "inflation" refers to a rise in a broad price index representing the overall price level for goods and services in the economy. The Consumer Price Index (CPI), the Personal Consumption Expenditures Price Index (PCEPI) and the GDP deflator are some examples of broad price indices. However, "inflation" may also be used to describe a rising price level within a narrower set of assets, goods or services within the economy, such as commodities (including food, fuel, metals), financial assets (such as stocks, bonds and real estate), services (such as entertainment and health care), or labor. The Reuters-CRB Index (CCI), the Producer Price Index, and Employment Cost Index (ECI) are examples of narrow price indices used to measure price inflation in particular sectors of the economy. Core inflation is a measure of inflation for a subset of consumer prices that excludes food and energy prices, which rise and fall more than other prices in the short term. The Federal Reserve Board pays particular attention to the core inflation rate to get a better estimate of long-term future inflation trends overall.

Measures

Inflation is usually estimated by calculating the inflation rate of a price index, usually the Consumer Price Index. The Consumer Price Index measures prices of a selection of goods and services purchased by a "typical consumer".

Other widely used price indices for calculating price inflation include the following:

Producer price indices (PPIs) which measures average changes in prices received by domestic producers for their output. This differs from the CPI in that price subsidization, profits, and taxes may cause the amount received by the producer to differ from what the consumer paid. There is also typically a delay between an increase in the PPI and any eventual increase in the CPI. Producer price index measures the pressure being put on producers by the costs of their raw materials. This could be "passed on" to consumers, or it could be absorbed by profits, or offset by increasing productivity. In India and the United States, an earlier version of the PPI was called the Wholesale Price Index.

Commodity price indices, which measure the price of a selection of commodities. In the present commodity price indices are weighted by the relative importance of the components to the "all in" cost of an employee.

Core price indices: because food and oil prices can change quickly due to changes in supply and demand conditions in the food and oil markets, it can be difficult to detect the long run trend in price levels when those prices are included. Therefore most statistical agencies also report a measure of 'core inflation', which removes the most volatile components (such as food and oil) from a broad price index like the CPI. Because core inflation is less affected by short run supply and demand conditions in specific markets, central banks rely on it to better measure the inflationary impact of current monetary policy.

Other common measures of inflation are:

GDP deflator is a measure of the price of all the goods and services included in gross domestic product (GDP). The US Commerce Department publishes a deflator series for US GDP, defined as its nominal GDP measure divided by its real GDP measure.

Regional inflation The Bureau of Labor Statistics breaks down CPI-U calculations down to different regions of the US.

Historical inflation Before collecting consistent econometric data became standard for governments, and for the purpose of comparing absolute, rather than relative standards of living, various economists have calculated imputed inflation figures. Most inflation data before the early 20th century is imputed based on the known costs of goods, rather than compiled at the time. It is also used to adjust for the differences in real standard of living for the presence of technology.

Asset price inflation is an undue increase in the prices of real or financial assets, such as stock (equity) and real estate. While there is no widely accepted index of this type, some central bankers have suggested that it would be better to aim at stabilizing a wider general price level inflation measure that includes some asset prices, instead of stabilizing CPI or core inflation only. The reason is that by raising interest rates when stock prices or real estate prices rise, and lowering them when these asset prices fall, central banks might be more successful in avoiding bubbles and crashes in asset prices.

Issues in measuring

Measuring inflation in an economy requires objective means of differentiating changes in nominal prices on a common set of goods and services, and distinguishing them from those price shifts resulting from changes in value such as volume, quality, or performance. For example, if the price of a 10 oz. can of corn changes from $0.90 to $1.00 over the course of a year, with no change in quality, then this price difference represents inflation. This single price change would not, however, represent general inflation in an overall economy. To measure overall inflation, the price change of a large "basket" of representative goods and services is measured. This is the purpose of a price index, which is the combined price of a "basket" of many goods and services. The combined price is the sum of the weighted average prices of items in the "basket". A weighted price is calculated by multiplying the unit price of an item to the number of those items the average consumer purchases. Weighted pricing is a necessary means to measuring the impact of individual unit price changes on the economy's overall inflation. The Consumer Price Index, for example, uses data collected by surveying households to determine what proportion of the typical consumer's overall spending is spent on specific goods and services, and weights the average prices of those items accordingly. Those weighted average prices are combined to calculate the overall price. To better relate price changes over time, indexes typically choose a "base year" price and assign it a value of 100. Index prices in subsequent years are then expressed in relation to the base year price.While comparing inflation measures for various periods one has to take into consideration the Base effect (inflation) as well.

Inflation measures are often modified over time, either for the relative weight of goods in the basket, or in the way in which goods and services from the present are compared with goods and services from the past. Over time adjustments are made to the type of goods and services selected in order to reflect changes in the sorts of goods and services purchased by 'typical consumers'. New products may be introduced, older products disappear, the quality of existing products may change, and consumer preferences can shift. Both the sorts of goods and services which are included in the "basket" and the weighted price used in inflation measures will be changed over time in order to keep pace with the changing marketplace.

Inflation numbers are often seasonally adjusted in order to differentiate expected cyclical cost shifts. For example, home heating costs are expected to rise in colder months, and seasonal adjustments are often used when measuring for inflation to compensate for cyclical spikes in energy or fuel demand. Inflation numbers may be averaged or otherwise subjected to statistical techniques in order to remove statistical noise and volatility of individual prices.

When looking at inflation, economic institutions may focus only on certain kinds of prices, or ''special indices'', such as the core inflation index which is used by central banks to formulate monetary policy.

Most inflation indices are calculated from weighted averages of selected price changes. This necessarily introduces distortion, and can lead to legitimate disputes about what the true inflation rate is. This problem can be overcome by including all available price changes in the calculation, and then choosing the median value.

Effects

General

An increase in the general level of prices implies a decrease in the purchasing power of the currency. That is, when the general level of prices rises, each monetary unit buys fewer goods and services. The effect of inflation is not distributed evenly in the economy, and as a consequence there are hidden costs to some and benefits to others from this decrease in the purchasing power of money. For example, with inflation, lenders or depositors who are paid a fixed rate of interest on loans or deposits will lose purchasing power from their interest earnings, while their borrowers benefit. Individuals or institutions with cash assets will experience a decline in the purchasing power of their holdings. Increases in payments to workers and pensioners often lag behind inflation, especially for those with fixed payments.

Increases in the price level (inflation) erode the real value of money (the functional currency) and other items with an underlying monetary nature (e.g. loans and bonds).

Debtors who have debts with a fixed nominal rate of interest will see a reduction in the "real" interest rate as the inflation rate rises. The real interest on a loan is the nominal rate minus the inflation rate (approximately ). For example if you take a loan where the stated interest rate is 6% and the inflation rate is at 3%, the real interest rate that you are paying for the loan is 3%. It would also hold true that if you had a loan at a fixed interest rate of 6% and the inflation rate jumped to 20% you would have a real interest rate of -14%. Banks and other lenders adjust for this inflation risk either by including an inflation premium in the costs of lending the money by creating a higher initial stated interest rate or by setting the interest at a variable rate. As the rate of inflation decreases, this has the opposite (negative) effect on borrowers.

Negative

High or unpredictable inflation rates are regarded as harmful to an overall economy. They add inefficiencies in the market, and make it difficult for companies to budget or plan long-term. Inflation can act as a drag on productivity as companies are forced to shift resources away from products and services in order to focus on profit and losses from currency inflation. Uncertainty about the future purchasing power of money discourages investment and saving. And inflation can impose hidden tax increases, as inflated earnings push taxpayers into higher income tax rates unless the tax brackets are indexed to inflation.

With high inflation, purchasing power is redistributed from those on fixed nominal incomes, such as some pensioners whose pensions are not indexed to the price level, towards those with variable incomes whose earnings may better keep pace with the inflation. This redistribution of purchasing power will also occur between international trading partners. Where fixed exchange rates are imposed, higher inflation in one economy than another will cause the first economy's exports to become more expensive and affect the balance of trade. There can also be negative impacts to trade from an increased instability in currency exchange prices caused by unpredictable inflation.

;Cost-push inflation: High inflation can prompt employees to demand rapid wage increases, to keep up with consumer prices. In the cost-push theory of inflation, rising wages in turn can help fuel inflation. In the case of collective bargaining, wage growth will be set as a function of inflationary expectations, which will be higher when inflation is high. This can cause a wage spiral. In a sense, inflation begets further inflationary expectations, which beget further inflation.

;Hoarding: People buy durable and/or non-perishable commodities and other goods as stores of wealth, to avoid the losses expected from the declining purchasing power of money, creating shortages of the hoarded goods.

;Social unrest and revolts: Inflation can lead to massive demonstrations and revolutions. For example, inflation and in particular food inflation is considered as one of the main reasons that caused the 2010–2011 Tunisian revolution and the 2011 Egyptian revolution, according to many observators including Robert Zoellick, president of the World Bank. Tunisian president Zine El Abidine Ben Ali was ousted, Egyptian President Hosni Mubarak was also ousted after only 18 days of demonstrations, and protests soon spread in many countries of North Africa and Middle East.

;Hyperinflation: If inflation gets totally out of control (in the upward direction), it can grossly interfere with the normal workings of the economy, hurting its ability to supply goods. Hyperinflation can lead to the abandonment of the use of the country's currency, leading to the inefficiencies of barter.

;Allocative efficiency: A change in the supply or demand for a good will normally cause its relative price to change, signaling to buyers and sellers that they should re-allocate resources in response to the new market conditions. But when prices are constantly changing due to inflation, price changes due to genuine relative price signals are difficult to distinguish from price changes due to general inflation, so agents are slow to respond to them. The result is a loss of allocative efficiency.

;Shoe leather cost: High inflation increases the opportunity cost of holding cash balances and can induce people to hold a greater portion of their assets in interest paying accounts. However, since cash is still needed in order to carry out transactions this means that more "trips to the bank" are necessary in order to make withdrawals, proverbially wearing out the "shoe leather" with each trip.

;Menu costs: With high inflation, firms must change their prices often in order to keep up with economy-wide changes. But often changing prices is itself a costly activity whether explicitly, as with the need to print new menus, or implicitly.

;Business cycles: According to the Austrian Business Cycle Theory, inflation sets off the business cycle. Austrian economists hold this to be the most damaging effect of inflation. According to Austrian theory, artificially low interest rates and the associated increase in the money supply lead to reckless, speculative borrowing, resulting in clusters of malinvestments, which eventually have to be liquidated as they become unsustainable.

Positive

;Labor-market adjustments: Keynesians believe that nominal wages are slow to adjust downwards. This can lead to prolonged disequilibrium and high unemployment in the labor market. Since inflation would lower the real wage if nominal wages are kept constant, Keynesians argue that some inflation is good for the economy, as it would allow labor markets to reach equilibrium faster.

;Room to maneuver: The primary tools for controlling the money supply are the ability to set the discount rate, the rate at which banks can borrow from the central bank, and open market operations which are the central bank's interventions into the bonds market with the aim of affecting the nominal interest rate. If an economy finds itself in a recession with already low, or even zero, nominal interest rates, then the bank cannot cut these rates further (since negative nominal interest rates are impossible) in order to stimulate the economy - this situation is known as a liquidity trap. A moderate level of inflation tends to ensure that nominal interest rates stay sufficiently above zero so that if the need arises the bank can cut the nominal interest rate.

;Mundell-Tobin effect: The Nobel laureate Robert Mundell noted that moderate inflation would induce savers to substitute lending for some money holding as a means to finance future spending. That substitution would cause market clearing real interest rates to fall. The lower real rate of interest would induce more borrowing to finance investment. In a similar vein, Nobel laureate James Tobin noted that such inflation would cause businesses to substitute investment in physical capital (plant, equipment, and inventories) for money balances in their asset portfolios. That substitution would mean choosing the making of investments with lower rates of real return. (The rates of return are lower because the investments with higher rates of return were already being made before.) The two related effects are known as the Mundell-Tobin effect. Unless the economy is already overinvesting according to models of economic growth theory, that extra investment resulting from the effect would be seen as positive.

;Instability with Deflation: Economist S.C. Tsaing noted that once substantial deflation is expected, two important effects will appear; both a result of money holding substituting for lending as a vehicle for saving. The first was that continually falling prices and the resulting incentive to hoard money will cause instability resulting from the likely increasing fear, while money hoards grow in value, that the value of those hoards are at risk, as people realize that a movement to trade those money hoards for real goods and assets will quickly drive those prices up. Any movement to spend those hoards "once started would become a tremendous avalanche, which could rampage for a long time before it would spend itself." Thus, a regime of long-term deflation is likely to be interrupted by periodic spikes of rapid inflation and consequent real economic disruptions. Moderate and stable inflation would avoid such a seesawing of price movements.

;Financial Market Inefficiency with Deflation: The second effect noted by Tsaing is that when savers have substituted money holding for lending on financial markets, the role of those markets in channeling savings into investment is undermined. With nominal interest rates driven to zero, or near zero, from the competition with a high return money asset, there would be no price mechanism in whatever is left of those markets. With financial markets effectively euthanized, the remaining goods and physical asset prices would move in perverse directions. For example, an increased desire to save could not push interest rates further down (and thereby stimulate investment) but would instead cause additional money hoarding, driving consumer prices further down and making investment in consumer goods production thereby less attractive. Moderate inflation, once its expectation is incorporated into nominal interest rates, would give those interest rates room to go both up and down in response to shifting investment opportunities, or savers' preferences, and thus allow financial markets to function in a more normal fashion.

Causes

Historically, a great deal of economic literature was concerned with the question of what causes inflation and what effect it has. There were different schools of thought as to the causes of inflation. Most can be divided into two broad areas: quality theories of inflation and quantity theories of inflation. The quality theory of inflation rests on the expectation of a seller accepting currency to be able to exchange that currency at a later time for goods that are desirable as a buyer. The quantity theory of inflation rests on the quantity equation of money, that relates the money supply, its velocity, and the nominal value of exchanges. Adam Smith and David Hume proposed a quantity theory of inflation for money, and a quality theory of inflation for production.

Currently, the quantity theory of money is widely accepted as an accurate model of inflation in the long run. Consequently, there is now broad agreement among economists that in the long run, the inflation rate is essentially dependent on the growth rate of money supply. However, in the short and medium term inflation may be affected by supply and demand pressures in the economy, and influenced by the relative elasticity of wages, prices and interest rates. The question of whether the short-term effects last long enough to be important is the central topic of debate between monetarist and Keynesian economists. In monetarism prices and wages adjust quickly enough to make other factors merely marginal behavior on a general trend-line. In the Keynesian view, prices and wages adjust at different rates, and these differences have enough effects on real output to be "long term" in the view of people in an economy.

Keynesian view

Keynesian economic theory proposes that changes in money supply do not directly affect prices, and that visible inflation is the result of pressures in the economy expressing themselves in prices. The supply of money is a major, but not the only, cause of inflation.

There are three major types of inflation, as part of what Robert J. Gordon calls the "triangle model":

''Demand-pull inflation'' is caused by increases in aggregate demand due to increased private and government spending, etc. Demand inflation is constructive to a faster rate of economic growth since the excess demand and favourable market conditions will stimulate investment and expansion.

''Cost-push inflation'', also called "supply shock inflation," is caused by a drop in aggregate supply (potential output). This may be due to natural disasters, or increased prices of inputs. For example, a sudden decrease in the supply of oil, leading to increased oil prices, can cause cost-push inflation. Producers for whom oil is a part of their costs could then pass this on to consumers in the form of increased prices. Another example stems from unexpectedly high Insured Losses, either legitimate (catastrophes) or fraudulent (which might be particularly prevalent in times of recession).

Built-in inflation is induced by adaptive expectations, and is often linked to the "price/wage spiral". It involves workers trying to keep their wages up with prices (above the rate of inflation), and firms passing these higher labor costs on to their customers as higher prices, leading to a 'vicious circle'. Built-in inflation reflects events in the past, and so might be seen as hangover inflation.

Demand-pull theory states that the rate of inflation accelerates whenever aggregate demand is increased beyond the ability of the economy to produce (its potential output). Hence, any factor that increases aggregate demand can cause inflation. However, in the long run, aggregate demand can be held above productive capacity only by increasing the quantity of money in circulation faster than the real growth rate of the economy. Another (although much less common) cause can be a rapid decline in the ''demand'' for money, as happened in Europe during the Black Death, or in the Japanese occupied territories just before the defeat of Japan in 1945.

The effect of money on inflation is most obvious when governments finance spending in a crisis, such as a civil war, by printing money excessively. This sometimes leads to hyperinflation, a condition where prices can double in a month or less. Money supply is also thought to play a major role in determining moderate levels of inflation, although there are differences of opinion on how important it is. For example, Monetarist economists believe that the link is very strong; Keynesian economists, by contrast, typically emphasize the role of aggregate demand in the economy rather than the money supply in determining inflation. That is, for Keynesians, the money supply is only one determinant of aggregate demand.

Some Keynesian economists also disagree with the notion that central banks fully control the money supply, arguing that central banks have little control, since the money supply adapts to the demand for bank credit issued by commercial banks. This is known as the theory of endogenous money, and has been advocated strongly by post-Keynesians as far back as the 1960s. It has today become a central focus of Taylor rule advocates. This position is not universally accepted – banks create money by making loans, but the aggregate volume of these loans diminishes as real interest rates increase. Thus, central banks can influence the money supply by making money cheaper or more expensive, thus increasing or decreasing its production.

A fundamental concept in inflation analysis is the relationship between inflation and unemployment, called the Phillips curve. This model suggests that there is a trade-off between price stability and employment. Therefore, some level of inflation could be considered desirable in order to minimize unemployment. The Phillips curve model described the U.S. experience well in the 1960s but failed to describe the combination of rising inflation and economic stagnation (sometimes referred to as ''stagflation'') experienced in the 1970s.

Thus, modern macroeconomics describes inflation using a Phillips curve that ''shifts'' (so the trade-off between inflation and unemployment changes) because of such matters as supply shocks and inflation becoming built into the normal workings of the economy. The former refers to such events as the oil shocks of the 1970s, while the latter refers to the price/wage spiral and inflationary expectations implying that the economy "normally" suffers from inflation. Thus, the Phillips curve represents only the demand-pull component of the triangle model.

Another concept of note is the potential output (sometimes called the "natural gross domestic product"), a level of GDP, where the economy is at its optimal level of production given institutional and natural constraints. (This level of output corresponds to the Non-Accelerating Inflation Rate of Unemployment, NAIRU, or the "natural" rate of unemployment or the full-employment unemployment rate.) If GDP exceeds its potential (and unemployment is below the NAIRU), the theory says that inflation will ''accelerate'' as suppliers increase their prices and built-in inflation worsens. If GDP falls below its potential level (and unemployment is above the NAIRU), inflation will ''decelerate'' as suppliers attempt to fill excess capacity, cutting prices and undermining built-in inflation.

However, one problem with this theory for policy-making purposes is that the exact level of potential output (and of the NAIRU) is generally unknown and tends to change over time. Inflation also seems to act in an asymmetric way, rising more quickly than it falls. Worse, it can change because of policy: for example, high unemployment under British Prime Minister Margaret Thatcher might have led to a rise in the NAIRU (and a fall in potential) because many of the unemployed found themselves as structurally unemployed (also see unemployment), unable to find jobs that fit their skills. A rise in structural unemployment implies that a smaller percentage of the labor force can find jobs at the NAIRU, where the economy avoids crossing the threshold into the realm of accelerating inflation.

Monetarist view

Monetarists believe the most significant factor influencing inflation or deflation is how fast the money supply grows or shrinks. They consider fiscal policy, or government spending and taxation, as ineffective in controlling inflation. According to the famous monetarist economist Milton Friedman, ''"Inflation is always and everywhere a monetary phenomenon."'' Some monetarists, however, will qualify this by making an exception for very short-term circumstances.

Monetarists assert that the empirical study of monetary history shows that inflation has always been a monetary phenomenon. The quantity theory of money, simply stated, says that any change in the amount of money in a system will change the price level. This theory begins with the equation of exchange:

:$MV\; =\; PQ$ where :$M$ is the nominal quantity of money. :$V$ is the velocity of money in final expenditures; :$P$ is the general price level; :$Q$ is an index of the real value of final expenditures;

In this formula, the general price level is related to the level of real economic activity (''Q''), the quantity of money (''M'') and the velocity of money (''V''). The formula is an identity because the velocity of money (''V'') is defined to be the ratio of final nominal expenditure ($PQ$) to the quantity of money (''M'').

Monetarists assume that the velocity of money is unaffected by monetary policy (at least in the long run), and the real value of output is determined in the long run by the productive capacity of the economy. Under these assumptions, the primary driver of the change in the general price level is changes in the quantity of money. With exogenous velocity (that is, velocity being determined externally and not being influenced by monetary policy), the money supply determines the value of nominal output (which equals final expenditure) in the short run. In practice, velocity is not exogenous in the short run, and so the formula does not necessarily imply a stable short-run relationship between the money supply and nominal output. However, in the long run, changes in velocity are assumed to be determined by the evolution of the payments mechanism. If velocity is relatively unaffected by monetary policy, the long-run rate of increase in prices (the inflation rate) is equal to the long run growth rate of the money supply plus the exogenous long-run rate of velocity growth minus the long run growth rate of real output. Austrians stress that inflation affects prices in various degree, i.e. that prices rise more sharply in some sectors than in other sectors of the economy. The reason for the disparity is that excess money will be concentrated to certain sectors, such as housing, stocks or health care. Because of this disparity, Austrians argue that the aggregate price level can be very misleading when observing the effects of inflation. Austrian economists measure inflation by calculating the growth of new units of money that are available for immediate use in exchange, that have been created over time.

Real bills doctrine

Within the context of a fixed specie basis for money, one important controversy was between the quantity theory of money and the real bills doctrine (RBD). Within this context, quantity theory applies to the level of fractional reserve accounting allowed against specie, generally gold, held by a bank. Currency and banking schools of economics argue the RBD, that banks should also be able to issue currency against bills of trading, which is "real bills" that they buy from merchants. This theory was important in the 19th century in debates between "Banking" and "Currency" schools of monetary soundness, and in the formation of the Federal Reserve. In the wake of the collapse of the international gold standard post 1913, and the move towards deficit financing of government, RBD has remained a minor topic, primarily of interest in limited contexts, such as currency boards. It is generally held in ill repute today, with Frederic Mishkin, a governor of the Federal Reserve going so far as to say it had been "completely discredited."

The debate between currency, or quantity theory, and banking schools in Britain during the 19th century prefigures current questions about the credibility of money in the present. In the 19th century the banking school had greater influence in policy in the United States and Great Britain, while the currency school had more influence "on the continent", that is in non-British countries, particularly in the Latin Monetary Union and the earlier Scandinavia monetary union.

Anti-classical or backing theory

Another issue associated with classical political economy is the anti-classical hypothesis of money, or "backing theory". The backing theory argues that the value of money is determined by the assets and liabilities of the issuing agency. Unlike the Quantity Theory of classical political economy, the backing theory argues that issuing authorities can issue money without causing inflation so long as the money issuer has sufficient assets to cover redemptions. There are very few backing theorists, making quantity theory the dominant theory explaining inflation.

Controlling inflation

A variety of policies have been used to control inflation.

Monetary policy

Today the primary tool for controlling inflation is monetary policy. Most central banks are tasked with keeping the federal funds lending rate at a low level, normally to a target rate around 2% to 3% per annum, and within a targeted low inflation range, somewhere from about 2% to 6% per annum. A low positive inflation is usually targeted, as deflationary conditions are seen as dangerous for the health of the economy.

There are a number of methods that have been suggested to control inflation. Central banks such as the U.S. Federal Reserve can affect inflation to a significant extent through setting interest rates and through other operations. High interest rates and slow growth of the money supply are the traditional ways through which central banks fight or prevent inflation, though they have different approaches. For instance, some follow a symmetrical inflation target while others only control inflation when it rises above a target, whether express or implied.

Monetarists emphasize keeping the growth rate of money steady, and using monetary policy to control inflation (increasing interest rates, slowing the rise in the money supply). Keynesians emphasize reducing aggregate demand during economic expansions and increasing demand during recessions to keep inflation stable. Control of aggregate demand can be achieved using both monetary policy and fiscal policy (increased taxation or reduced government spending to reduce demand).

Fixed exchange rates

Under a fixed exchange rate currency regime, a country's currency is tied in value to another single currency or to a basket of other currencies (or sometimes to another measure of value, such as gold). A fixed exchange rate is usually used to stabilize the value of a currency, vis-a-vis the currency it is pegged to. It can also be used as a means to control inflation. However, as the value of the reference currency rises and falls, so does the currency pegged to it. This essentially means that the inflation rate in the fixed exchange rate country is determined by the inflation rate of the country the currency is pegged to. In addition, a fixed exchange rate prevents a government from using domestic monetary policy in order to achieve macroeconomic stability.

Under the Bretton Woods agreement, most countries around the world had currencies that were fixed to the US dollar. This limited inflation in those countries, but also exposed them to the danger of speculative attacks. After the Bretton Woods agreement broke down in the early 1970s, countries gradually turned to floating exchange rates. However, in the later part of the 20th century, some countries reverted to a fixed exchange rate as part of an attempt to control inflation. This policy of using a fixed exchange rate to control inflation was used in many countries in South America in the later part of the 20th century (e.g. Argentina (1991-2002), Bolivia, Brazil, and Chile).

Gold standard

The gold standard is a monetary system in which a region's common media of exchange are paper notes that are normally freely convertible into pre-set, fixed quantities of gold. The standard specifies how the gold backing would be implemented, including the amount of specie per currency unit. The currency itself has no ''innate value'', but is accepted by traders because it can be redeemed for the equivalent specie. A U.S. silver certificate, for example, could be redeemed for an actual piece of silver.

The gold standard was partially abandoned via the international adoption of the Bretton Woods System. Under this system all other major currencies were tied at fixed rates to the dollar, which itself was tied to gold at the rate of $35 per ounce. The Bretton Woods system broke down in 1971, causing most countries to switch to fiat money – money backed only by the laws of the country.

Economies based on the gold standard rarely experience inflation above 2 percent annually. Under a gold standard, the long term rate of inflation (or deflation) would be determined by the growth rate of the supply of gold relative to total output. Critics argue that this will cause arbitrary fluctuations in the inflation rate, and that monetary policy would essentially be determined by gold mining, which some believe contributed to the Great Depression.

Wage and price controls

Another method attempted in the past have been wage and price controls ("incomes policies"). Wage and price controls have been successful in wartime environments in combination with rationing. However, their use in other contexts is far more mixed. Notable failures of their use include the 1972 imposition of wage and price controls by Richard Nixon. More successful examples include the Prices and Incomes Accord in Australia and the Wassenaar Agreement in the Netherlands.

In general wage and price controls are regarded as a temporary and exceptional measure, only effective when coupled with policies designed to reduce the underlying causes of inflation during the wage and price control regime, for example, winning the war being fought. They often have perverse effects, due to the distorted signals they send to the market. Artificially low prices often cause rationing and shortages and discourage future investment, resulting in yet further shortages. The usual economic analysis is that any product or service that is under-priced is overconsumed. For example, if the official price of bread is too low, there will be too little bread at official prices, and too little investment in bread making by the market to satisfy future needs, thereby exacerbating the problem in the long term.

Temporary controls may ''complement'' a recession as a way to fight inflation: the controls make the recession more efficient as a way to fight inflation (reducing the need to increase unemployment), while the recession prevents the kinds of distortions that controls cause when demand is high. However, in general the advice of economists is not to impose price controls but to liberalize prices by assuming that the economy will adjust and abandon unprofitable economic activity. The lower activity will place fewer demands on whatever commodities were driving inflation, whether labor or resources, and inflation will fall with total economic output. This often produces a severe recession, as productive capacity is reallocated and is thus often very unpopular with the people whose livelihoods are destroyed (see creative destruction).

Cost-of-living allowance

The real purchasing-power of fixed payments is eroded by inflation unless they are inflation-adjusted to keep their real values constant. In many countries, employment contracts, pension benefits, and government entitlements (such as social security) are tied to a cost-of-living index, typically to the consumer price index. A ''cost-of-living allowance'' (COLA) adjusts salaries based on changes in a cost-of-living index. Salaries are typically adjusted annually in low inflation economies. During hyperinflation they are adjusted more often. They may also be tied to a cost-of-living index that varies by geographic location if the employee moves.

Annual escalation clauses in employment contracts can specify retroactive or future percentage increases in worker pay which are not tied to any index. These negotiated increases in pay are colloquially referred to as cost-of-living adjustments or cost-of-living increases because of their similarity to increases tied to externally determined indexes. Many economists and compensation analysts consider the idea of predetermined future "cost of living increases" to be misleading for two reasons: (1) For most recent periods in the industrialized world, average wages have increased faster than most calculated cost-of-living indexes, reflecting the influence of rising productivity and worker bargaining power rather than simply living costs, and (2) most cost-of-living indexes are not forward-looking, but instead compare current or historical data.

Penalty units

If laws are written with actual monetary values, and inflation occurs, then those values can fall behind, and make the values trivial. It would take a lot of effort to rewrite all the laws to keep up with inflation. A better way is to define all fines in terms of Penalty units, and redefine the that single PU value as required.

See also

Notes

References

Further reading

Auernheimer, Leonardo, "The Honest Government's Guide to the Revenue From the Creation of Money," Journal of Political Economy, Vol. 82, No. 3, May/June 1974, pp. 598-606.

Baumol, William J. and Alan S. Blinder, ''Macroeconomics: Principles and Policy'', Tenth edition. Thomson South-Western, 2006. ISBN 0-324-22114-2

Friedman, Milton, Nobel lecture: Inflation and unemployment 1977

Hazlitt, Henry, ''What You Should Know About Inflation''

Laguerodie, Stephanie and Vergara, Francisco, The Theory of Price Controls (from Review of Political Economy)

Mishkin, Frederic S., ''The Economics of Money, Banking, and Financial Markets'', New York, Harper Collins, 1995.

Murphy, Robert P., Is Inflation Harmless or Even Good?, Mises Institute

Nenovsky. N, (2007). „Exchange Rate and Inflation: France and Bulgaria in the Interwar Period and the Contribution of Albert Aftalion (1874-1956)“''.Bulgarian National Bank,(2006)

Vasudevan, Ramaa, "What is the relation between inflation and unemployment?," in ''Dollars & Sense'', September/October 2006

Federal Reserve Bank of Boston, "Understanding Inflation and the Implications for Monetary Policy: A Phillips Curve Retrospective", Conference Series 53, June 9–11, 2008, Chatham, Massachusetts. (Also cf. Phillips curve article)

External links

NASA inflation calculator

United States Bureau of Labor Statistics Consumer Price Index homepage

Inflation 1290-2006 - Based on the historical Consumer Price Index of the Swedish Riksbank

Inflation Calculator

Summary of current international inflation figures - CPI and HICP

Summary of current inflation in Euro Area - CPI and HICP

Category:Basic financial concepts Category:Economic problems

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Name	Christopher Hamlin Martenson
Birth date	September 15, 1962
Known for	Former Vice President of Pfizer, Inc. and Science Applications International Corporation
Nationality	USA }}

Christopher Martenson, PhD, is an American scientist who has done research in biochemistry, neurotoxicology, applied pharmacology and in vitro techniques. He received his doctorate in neurotoxicology at Duke University in 1994 with his thesis ''Acrylamide neurotoxicity: effect on neuronal growth cones and axonal fast transport'', and completed a post-doctoral programme at that university in 1995–1997 where he specialised in neuronal signal transduction and transport. Martenson also holds an MBA degree from Cornell University (1998) and is a fellow of the Post Carbon Institute.

Career

Christopher Martenson was Consultant In Business Development and Strategies of Pfizer, Inc. Later he became the Vice President of the company, and later still – a Vice President of Science Applications International Corporation's Life Sciences Division, which position he held till July 2005.

In more recent years Martenson stepped away from biological sciences and management to develop an educational video seminar series called The Crash Course (originally published in October 2008) based on neo-malthusian concepts. The course investigates the ways in which the economy, the environment and energy are interlinked and interact.

Publications

#Axonal transport: beyond kinesin and cytoplasmic dynein, ''Current opinion in neurobiology'', 1991–Oct, vol. 1 (issue 3): pp. 393–398 #Fast axonal transport is required for growth cone advance, ''Nature'', 366, 66–69 (4 November 1993) #Acrylamide neurotoxicity: effect on neuronal growth cones and axonal fast transport, a ''Duke University'' thesis, Ph.D. M377A 1994 LSC. #''In Vitro'' Acrylamide exposure alters growth cone morphology, ''Toxicology and Applied Pharmacology'', Volume 131, Issue 1, March 1995, pp. 119–129 #The effect of acrylamide and other sulfhydryl alkylators on the ability of Dynein and Kinesin to translocate microtubules ''in Vitro'', ''Toxicology and Applied Pharmacology'', Volume 133, Issue 1, July 1995, pp. 73–81 #Calmodulin dynamics within intact hippocampal cells, ''Duke University'', 1F32NS010263-01 (1996) #Inhibition of Lyn function in mast cell activation by SH3 domain binding peptides, ''Biochemistry'', 1997, 36 (31), pp. 9388–9394 #Internal trafficking and surface mobility of a functionally intact beta 2-adrenergic receptor – green fluorescent protein conjugate, ''Molecular Pharmacology'', 51:177–184 (1997) #Cornell equity research of ArQule, Inc., ''Cornell University'', 17 November 1997

References

Category:1962 births Category:Living people

name	Paul Krugman
school tradition	Keynesian economics
color	darkorange
birth date	February 28, 1953
birth place	Albany, New York
nationality	United States
institution	Princeton University,London School of Economics
field	International economics, Macroeconomics
alma mater	MIT (PhD)Yale University (B.A.)
influences	John Maynard KeynesJohn HicksJagdish BhagwatiRudi DornbuschJames TobinAvinash DixitJoseph Stiglitz
opposed	Freshwater economics Austrian school
influenced	Marc Melitz
contributions	International Trade TheoryNew Trade TheoryNew Economic Geography
awards	John Bates Clark Medal (1991)Príncipe de Asturias Prize (2004)Nobel Memorial Prize in Economics (2008)
signature
repec prefix	e
repec id	pkr10 }}

Paul Robin Krugman (; born February 28, 1953) is an American economist, professor of Economics and International Affairs at the Woodrow Wilson School of Public and International Affairs at Princeton University, Centenary Professor at the London School of Economics, and an op-ed columnist for ''The New York Times''. In 2008, Krugman won the Nobel Memorial Prize in Economics for his contributions to New Trade Theory and New Economic Geography. According to the Nobel Prize Committee, the prize was given for Krugman's work explaining the patterns of international trade and the geographic concentration of wealth, by examining the impact of economies of scale and of consumer preferences for diverse goods and services.

Krugman is known in academia for his work on international economics (including trade theory, economic geography, and international finance), liquidity traps and currency crises. According to the IDEAS/RePEc rankings, he is the 15th most widely cited economist in the world today.

, Krugman has authored 20 books and has published over 200 scholarly articles in professional journals and edited volumes. He has also written more than 750 columns dealing with current economic and political issues for ''The New York Times''. Krugman's ''International Economics: Theory and Policy'', co-authored with Maurice Obstfeld, is a standard college textbook on international economics. He also writes on political and economic topics for the general public, as well as on topics ranging from income distribution to international economics. Krugman considers himself a liberal, calling one of his books and his ''New York Times'' blog "The Conscience of a Liberal".

Personal life

Krugman is the son of David and Anita Krugman and the grandson of Jewish immigrants from Brest-Litovsk. He was born in Albany, NY and grew up in Nassau County, New York. He graduated from John F. Kennedy High School in Bellmore. He is married to Robin Wells, his second wife, a yoga instructor and academic economist who has collaborated on textbooks with Krugman. Krugman reports that he is a distant relative of conservative journalist David Frum. He has described himself as a "Loner. Ordinarily shy. Shy with individuals."

According to Krugman, his interest in economics began with Isaac Asimov's ''Foundation'' novels, in which the social scientists of the future use "psychohistory" to attempt to save civilization. Since "psychohistory" in Asimov's sense of the word does not exist, Krugman turned to economics, which he considered the next best thing.

Academic career

Krugman earned his B.A. in economics from Yale University in 1974 and his PhD from the Massachusetts Institute of Technology (MIT) in 1977. While at MIT he was part of a small group of MIT students sent to work for the Central Bank of Portugal for three months in summer 1976, in the chaotic aftermath of the Carnation Revolution. From 1982 to 1983, he spent a year working at the Reagan White House as a staff member of the Council of Economic Advisers. He taught at Yale University, MIT, UC Berkeley, the London School of Economics, and Stanford University before joining Princeton University in 2000 as professor of economics and international affairs. He is also currently a centenary professor at the London School of Economics, and a member of the Group of Thirty international economic body. He has been a research associate at the National Bureau of Economic Research since 1979. Most recently, Dr. Krugman was President of the Eastern Economic Association.

Paul Krugman has written extensively on international economics, including international trade, economic geography, and international finance. The Research Papers in Economics project ranked him as the 14th most influential economist in the world as of March 2011 based on his academic contributions. Krugman's ''International Economics: Theory and Policy'', co-authored with Maurice Obstfeld, is a standard college textbook on international economics. Krugman also writes on economic topics for the general public, sometimes on international economic topics but also on income distribution and public policy.

The Nobel Prize Committee stated that Krugman's main contribution is his analysis of the impact of economies of scale, combined with the assumption that consumers appreciate diversity, on international trade and on the location of economic activity. The importance of spatial issues in economics has been enhanced by Krugman's ability to popularize this complicated theory with the help of easy-to-read books and state-of-the-art syntheses. "Krugman was beyond doubt the key player in 'placing geographical analysis squarely in the economic mainstream' ... and in conferring it the central role it now assumes."

In 1978, Krugman wrote ''The Theory of Interstellar Trade'', a tongue-in-cheek essay on computing interest rates on goods in transit near the speed of light. He says he wrote it to cheer himself up when he was "an oppressed assistant professor".

New trade theory

Prior to Krugman's work, trade theory (see David Ricardo and Hecksher-Ohlin model) emphasized trade based on the comparative advantage of countries with very different characteristics, such as a country with a high agricultural productivity trading agricultural products for industrial products from a country with a high industrial productivity. However, in the 20th century, an ever larger share of trade occurred between countries with very similar characteristics, which is difficult to explain by comparative advantage. Krugman's explanation of trade between similar countries was proposed in a 1979 paper in the ''Journal of International Economics'', and involves two key assumptions: that consumers prefer a diverse choice of brands, and that production favors economies of scale. Consumers' preference for diversity explains the survival of different versions of cars like Volvo and BMW. But because of economies of scale, it is not profitable to spread the production of Volvos all over the world; instead, it is concentrated in a few factories and therefore in a few countries (or maybe just one). This logic explains how each country may specialize in producing a few brands of any given type of product, instead of specializing in different types of products.

Many models of international trade now follow Krugman's lead, incorporating economies of scale in production and a preference for diversity in consumption. This way of modeling trade has come to be called New Trade Theory.

Krugman's theory also took into account transportation costs, a key feature in producing the "home market effect", which would later feature in his work on the new economic geography. The home market effect "states that, ceteris paribus, the country with the larger demand for a good shall, at equilibrium, produce a more than proportionate share of that good and be a net exporter of it." The home market effect was an unexpected result, and Krugman initially questioned it, but ultimately concluded that the mathematics of the model were correct.

When there are economies of scale in production, it is possible that countries may become 'locked in' to disadvantageous patterns of trade. Nonetheless, trade remains beneficial in general, even between similar countries, because it permits firms to save on costs by producing at a larger, more efficient scale, and because it increases the range of brands available and sharpens the competition between firms. Krugman has usually been supportive of free trade and globalization. He has also been critical of industrial policy, which New Trade Theory suggests might offer nations rent-seeking advantages if "strategic industries" can be identified, saying it's not clear that such identification can be done accurately enough to matter.

New economic geography

It took an interval of eleven years, but ultimately Krugman's work on New Trade Theory (NTT) converged to what is usually called the "new economic geography" (NEG), which Krugman began to develop in a seminal 1991 paper in the ''Journal of Political Economy''. In Krugman's own words, the passage from NTT to NEG was "obvious in retrospect; but it certainly took me a while to see it. ... The only good news was that nobody else picked up that $100 bill lying on the sidewalk in the interim." This would become Krugman's most-cited academic paper: by early 2009, it had 857 citations, more than double his second-ranked paper. Krugman called the paper "the love of my life in academic work."

The "home market effect" that Krugman discovered in NTT also features in NEG, which interprets agglomeration "as the outcome of the interaction of increasing returns, trade costs and factor price differences." If trade is largely shaped by economies of scale, as Krugman's trade theory argues, then those economic regions with most production will be more profitable and will therefore attract even more production. That is, NTT trade theory implies that instead of spreading out evenly around the world, production will tend to concentrate in a few countries, regions, or cities, which will become densely populated but will also have higher levels of income.

International finance

Krugman has also been influential in the field of international finance. As a graduate student, Krugman visited the Federal Reserve Board, where Stephen Salant and Dale Henderson were completing their discussion paper on speculative attacks in the gold market. Krugman adapted their model for the foreign exchange market, resulting in a 1979 paper on currency crises in the ''Journal of Money, Credit, and Banking'', which showed that fixed exchange rate regimes are unlikely to end smoothly: instead, they end in a sudden speculative attack. Krugman's paper is considered one of the main contributions to the 'first generation' of currency crisis models, and it is his second-most-cited paper (457 citations as of early 2009).

In response to the global financial crisis of 2008, Krugman proposed, in an informal "mimeo" style of publication, an "international finance multiplier", to help explain the unexpected speed with which the global crisis had occurred. He argued that when, ''"highly leveraged financial institutions [HLIs], which do a lot of cross-border investment [....] lose heavily in one market [...] they find themselves undercapitalized, and have to sell off assets across the board. This drives down prices, putting pressure on the balance sheets of other HLIs, and so on."'' Such a rapid contagion had hitherto been considered unlikely because of "decoupling" in a globalized economy. He first announced that he was working on such a model on his blog, on October 5, 2008. Within days of its appearance, it was being discussed on some popular economics-oriented blogs. The note was soon being cited in papers (draft and published) by other economists, even though it had not itself been through ordinary peer review processes.

Macroeconomics and fiscal policy

Krugman has done much to revive discussion of the liquidity trap as a topic in economics. He recommended aggressive fiscal policy to counter Japan's lost decade in the 1990s, arguing that the country was mired in a Keynesian liquidity trap. The debate he started at that time over liquidity traps and what policies best address them continues in the economics literature.

Krugman had argued in ''The Return of Depression Economics'' that Japan was in a liquidity trap in the late 1990s, since the central bank could not drop interest rates any lower to escape economic stagnation. The core of Krugman's policy proposal for addressing Japan's liquidity trap was inflation targeting, which, he argued "most nearly approaches the usual goal of modern stabilization policy, which is to provide adequate demand in a clean, unobtrusive way that does not distort the allocation of resources." The proposal appeared first in a web posting on his academic site. This mimeo-draft was soon cited, but was also misread by some as repeating his earlier advice that Japan's best hope was in "turning on the printing presses", as recommended by Milton Friedman, John Makin, and others.

Krugman has since drawn parallels between Japan's 'lost decade' and the late 2000s recession, arguing that expansionary fiscal policy is necessary as the major industrialized economies are mired in a liquidity trap. In response to economists who point out that the Japanese economy recovered despite not pursuing his policy prescriptions, Krugman maintains that it was an export-led boom that pulled Japan out of its economic slump in the late-90s, rather than reforms of the financial system.

Nobel Memorial Prize

Krugman was awarded the Nobel Memorial Prize in Economic Sciences, the sole recipient for 2008. This prize includes an award of about $1.4 million and was given to Krugman for his work associated with New Trade Theory and the New Economic Geography. In the words of the prize committee, "By having integrated economies of scale into explicit general equilibrium models, Paul Krugman has deepened our understanding of the determinants of trade and the location of economic activity."

Awards

1991, American Economic Association, John Bates Clark Medal. Since it was awarded to only one person, once every two years (prior to 2009), ''The Economist'' has described the Clark Medal as 'slightly harder to get than a Nobel prize'. 1992, Fellow of the American Academy of Arts and Sciences (AAAS). 1995, Adam Smith Award of the National Association for Business Economics

1998, Doctor ''honoris causa'' in Economics awarded by Free University of Berlin Freie Universität Berlin in Germany

2000, H.C. Recktenwald Prize in Economics, awarded by University of Erlangen-Nuremberg in Germany.

2002, ''Editor and Publisher'', Columnist of the Year. 2004, Fundación Príncipe de Asturias (Spain), Prince of Asturias Awards in Social Sciences. 2004, Doctor of Humane Letters ''honoris causa'', Haverford College 2008, Nobel Memorial Prize in Economics (formally The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel) for Krugman's contributions to New Trade Theory. He became the twelfth John Bates Clark Medal winner to be awarded the Nobel Memorial Prize.

Author

In the 1990s, besides academic books and textbooks, Krugman increasingly began writing books for a general audience on issues he considered important for public policy. In ''The Age of Diminished Expectations'' (1990), he wrote in particular about the increasing US income inequality in the "New Economy" of the 1990s. He attributes the rise in income inequality in part to changes in technology, but principally to a change in political atmosphere which he attributes to Movement Conservatives.

In September 2003, Krugman published a collection of his columns under the title, ''The Great Unraveling'', about the Bush administration's economic and foreign policies and the US economy in the early 2000s. His columns argued that the large deficits during that time were generated by the Bush administration as a result of decreasing taxes on the rich, increasing public spending, and fighting the Iraq war. Krugman wrote that these policies were unsustainable in the long run and would eventually generate a major economic crisis. The book was a best-seller.

In 2007, Krugman published ''The Conscience of a Liberal,'' whose title references Barry Goldwater's ''Conscience of a Conservative''. It details the history of wealth and income gaps in the United States in the 20th century. The book describes how the gap between rich and poor declined greatly in middle of the century, and then widened in the last two decades to levels higher even than in the 1920s. Most economists (including Krugman) had regarded the late-20th century divergence as resulting largely from changes in technology and trade. In ''Conscience'', Krugman argues that government policies played a much greater role than commonly thought both in reducing inequality in the 1930s through 1970s and in increasing it in the 1980s through the present, and criticizes the Bush administration for implementing policies that Krugman believes widened the gap between the rich and poor.

Krugman also argued that Republicans owed their electoral successes to their ability to exploit the race issue to win political dominance of the South. Krugman argues that Ronald Reagan had used the "Southern Strategy" to signal sympathy for racism without saying anything overtly racist, citing as an example Reagan's coining of the term "welfare queen".

In his book, Krugman proposed a "new New Deal", which included placing more emphasis on social and medical programs and less on national defense. Liberal journalist and author Michael Tomasky argued that in ''The Conscience of a Liberal'' Krugman is committed "to accurate history even when some fudging might be in order for the sake of political expediency." In a review for ''The New York Times'', Pulitzer prize-winning historian David M. Kennedy stated, "Like the rants of Rush Limbaugh or the films of Michael Moore, Krugman's shrill polemic may hearten the faithful, but it will do little to persuade the unconvinced".

In late 2008, Krugman published a substantial updating of an earlier work, entitled "The Return of Depression Economics and the Crisis of 2008". In the book, he discusses the failure of the United States regulatory system to keep pace with a financial system increasingly out-of-control, and the causes of and possible ways to contain the greatest financial crisis since the 1930s.

Published works

Academic books (authored or coauthored)

''The Spatial Economy – Cities, Regions and International Trade'' (July 1999), with Masahisa Fujita and Anthony Venables. MIT Press, ISBN 0-262-06204-6

''The Self Organizing Economy'' (February 1996), ISBN 1-55786-698-8

''EMU and the Regions'' (December 1995), with Guillermo de la Dehesa. ISBN 1-56708-038-3

''Development, Geography, and Economic Theory (Ohlin Lectures)'' (September 1995), ISBN 0-262-11203-5

''Foreign Direct Investment in the United States (3rd Edition)'' (February 1995), with Edward M. Graham. ISBN 0-88132-204-0

''World Savings Shortage'' (September 1994), ISBN 0-88132-161-3

''What Do We Need to Know About the International Monetary System? (Essays in International Finance, No 190 July 1993)'' ISBN 0-88165-097-8

''Currencies and Crises'' (June 1992), ISBN 0-262-11165-9

''Geography and Trade (Gaston Eyskens Lecture Series)'' (August 1991), ISBN 0-262-11159-4

''The Risks Facing the World Economy'' (July 1991), with Guillermo de la Dehesa and Charles Taylor. ISBN 1-56708-073-1

''Has the Adjustment Process Worked? (Policy Analyses in International Economics, 34)'' (June 1991), ISBN 0-88132-116-8

''Rethinking International Trade'' (April 1990), ISBN 0-262-11148-9

''Trade Policy and Market Structure'' (March 1989), with Elhanan Helpman. ISBN 0-262-08182-2

''Exchange-Rate Instability (Lionel Robbins Lectures)'' (November 1988), ISBN 0-262-11140-3

''Adjustment in the World Economy'' (August 1987) ISBN 1-56708-023-5

''Market Structure and Foreign Trade: Increasing Returns, Imperfect Competition, and the International Economy'' (May 1985), with Elhanan Helpman. ISBN 0-262-08150-4

Academic books (edited or coedited)

''Currency Crises (National Bureau of Economic Research Conference Report)'' (September 2000), ISBN 0-226-45462-2

''Trade with Japan : Has the Door Opened Wider? (National Bureau of Economic Research Project Report)'' (March 1995), ISBN 0-226-45459-2

''Empirical Studies of Strategic Trade Policy (National Bureau of Economic Research Project Report)'' (April 1994), co-edited with Alasdair Smith. ISBN 0-226-45460-6

''Exchange Rate Targets and Currency Bands'' (October 1991), co-edited with Marcus Miller. ISBN 0-521-41533-0

''Strategic Trade Policy and the New International Economics'' (January 1986), ISBN 0-262-11112-8

Economics textbooks

''Economics: European Edition'' (Spring 2007), with Robin Wells and Kathryn Graddy. ISBN 0-7167-9956-1

''Macroeconomics'' (February 2006), with Robin Wells. ISBN 0-7167-6763-5

''Economics'', first edition (December 2005), with Robin Wells. ISBN 1-57259-150-1

''Economics'', second edition (2009), with Robin Wells. ISBN 0-7167-7158-6

''Microeconomics'' (March 2004), with Robin Wells. ISBN 0-7167-5997-7

''International Economics: Theory and Policy'', with Maurice Obstfeld. 7th Edition (2006), ISBN 0-321-29383-5; 1st Edition (1998), ISBN 0-673-52186-9

Books for a general audience

''The Return of Depression Economics and the Crisis of 2008'' (December 2008) ISBN 0-393-07101-4

*An updated version of his previous work.

''The Conscience of a Liberal'' (October 2007) ISBN 0-393-06069-1

''The Great Unraveling: Losing Our Way in the New Century'' (September 2003) ISBN 0-393-05850-6

*A book of his ''The New York Times'' columns, many deal with the economic policies of the Bush administration or the economy in general.

''Fuzzy Math: The Essential Guide to the Bush Tax Plan'' (May 4, 2001) ISBN 0-393-05062-9

''The Return of Depression Economics'' (May 1999) ISBN 0-393-04839-X

*Considers the long economic stagnation of Japan through the 1990s, the Asian financial crisis, and problems in Latin America.

* ''The Return of Depression Economics and the Crisis of 2008'' (December 2008) ISBN 0-393-07101-4

''The Accidental Theorist and Other Dispatches from the Dismal Science'' (May 1998) ISBN 0-393-04638-9

*Essay collection, primarily from Krugman's writing for ''Slate''.

''Pop Internationalism'' (March 1996) ISBN 0-262-11210-8

*Essay collection, covering largely the same ground as ''Peddling Prosperity''.

''Peddling Prosperity: Economic Sense and Nonsense in an Age of Diminished Expectations'' (April 1995) ISBN 0-393-31292-5

*History of economic thought from the first rumblings of revolt against Keynesian economics to the present, for the layman.

''The Age of Diminished Expectations: U.S. Economic Policy in the 1990s'' (1990) ISBN 0-262-11156-X

* A "briefing book" on the major policy issues around the economy.

* Revised and Updated, January 1994, ISBN 0-262-61092-2

* Third Edition, August 1997, ISBN 0-262-11224-8

Selected academic articles

(1998) 'It's Baaack: Japan's Slump and the Return of the Liquidity Trap' ''Brookings Papers on Economic Activity'' 1998, pp. 137–205.

(1996) 'Are currency crises self-fulfilling?' ''NBER Macroeconomics Annual'' 11, pp. 345–78.

(1995)

(1991) 'Increasing returns and economic geography'. ''Journal of Political Economy'' 99, pp. 483–99.

(1991)

(1991) 'History versus expectations'. ''Quarterly Journal of Economics'' 106 (2), pp. 651–67.

(1981) 'Intra-industry specialization and the gains from trade'. ''Journal of Political Economy'' 89, pp. 959–73.

(1980) 'Scale economies, product differentiation, and the pattern of trade'. ''American Economic Review'' 70, pp. 950–59.

(1979) 'A model of balance-of-payments crises'. ''Journal of Money, Credit, and Banking'' 11, pp. 311–25.

(1979) 'Increasing returns, monopolistic competition, and international trade'. ''Journal of International Economics'' 9, pp. 469–79.

Commentator

Economist J. Peter Neary has noted that Krugman "has written on a wide range of topics, always combining one of the best prose styles in the profession with an ability to construct elegant, insightful and useful models." Neary added that "no discussion of his work could fail to mention his transition from Academic Superstar to Public Intellectual. Through his extensive writings, including a regular column for ''The New York Times'', monographs and textbooks at every level, and books on economics and current affairs for the general public ... he has probably done more than any other writer to explain economic principles to a wide audience." Krugman has been described as the most controversial economist in his generation and according to Michael Tomasky since 1992 he has moved "from being a center-left scholar to being a liberal polemicist." In 2010, ''The Economist'' described him as a left-leaning pundit.

From the mid-1990s onwards, Krugman wrote for ''Fortune'' (1997–99) and ''Slate'' (1996–99), and then for ''The Harvard Business Review'', ''Foreign Policy'', ''The Economist'', ''Harper's'', and ''Washington Monthly''. In this period Krugman critiqued various positions commonly taken on economic issues from across the political spectrum, from protectionism and opposition to the World Trade Organization on the left to supply side economics on the right.

During the 1992 presidential campaign Krugman praised Bill Clinton's economic plan in ''The New York Times'', and Clinton's campaign used some of Krugman's work on income inequality. At the time, it was considered likely that Clinton would offer him a position in the new administration, but allegedly Krugman's volatility and outspokenness caused Clinton to look elsewhere. Krugman later said that he was "temperamentally unsuited for that kind of role. You have to be very good at people skills, biting your tongue when people say silly things." In a Fresh Dialogues interview, Krugman added, "you have to be reasonably organized...I can move into a pristine office and within three days it will look like a grenade went off."

In 1999, near the height of the dot com boom, ''The New York Times'' approached Krugman to write a bi-weekly column on "the vagaries of business and economics in an age of prosperity." His first columns in 2000 addressed business and economic issues, but as the 2000 US presidential campaign progressed, Krugman increasingly focused on George W. Bush's policy proposals. According to Krugman, this was partly due to "the silence of the media - those 'liberal media' conservatives complain about...." Krugman accused Bush of repeatedly misrepresenting his proposals, and criticized the proposals themselves. After Bush's election, and his perseverance with his proposed tax cut in the midst of the slump (which Krugman argued would do little to help the economy but substantially raise the fiscal deficit), Krugman's columns grew angrier and more focused on the administration. As Alan Blinder put it in 2002, "There's been a kind of missionary quality to his writing since then ... He's trying to stop something now, using the power of the pen." Partly as a result, Krugman's twice-weekly column on the Op-Ed page of ''The New York Times'' has made him, according to Nicholas Confessore, "the most important political columnist in America... he is almost alone in analyzing the most important story in politics in recent years – the seamless melding of corporate, class, and political party interests at which the Bush administration excels." In an interview in late 2009, Krugman said his missionary zeal had changed in the post-Bush era and he described the Obama administration as "good guys but not as forceful as I'd like...When I argue with them in my column this is a serious discussion. We really are in effect speaking across the transom here." Krugman says he's more effective at driving change outside the administration than inside it, "now, I'm trying to make this progressive moment in American history a success. So that's where I'm pushing."

Krugman's columns have drawn criticism as well as praise. A 2003 article in ''The Economist'' questioned Krugman's "growing tendency to attribute all the world's ills to George Bush," citing critics who felt that "his relentless partisanship is getting in the way of his argument" and claiming errors of economic and political reasoning in his columns. Daniel Okrent, a former ''The New York Times'' ombudsman, in his farewell column, criticized Krugman for what he said was "the disturbing habit of shaping, slicing and selectively citing numbers in a fashion that pleases his acolytes but leaves him open to substantive assaults."

Krugman's New York Times blog is "The Conscience of a Liberal," devoted largely to economics and politics. Krugman has become a favorite of netroots liberals because of his robust, full-throated defense of liberal economic and social policies, and his aggressiveness in their defense, which is generally uncharacteristic of establishment media figures. Because of this implacability, Krugman has been (favorably) referred to by many online commentators and bloggers (such as Andrew Sullivan and John Cole) as "K-Thug."

East Asian growth

In a 1994 ''Foreign Affairs'' article, Paul Krugman argued that it was a myth that the economic successes of the East Asian 'tigers' constituted an economic miracle. He argued that their rise was fueled by mobilizing resources and that their growth rates would inevitably slow. His article helped popularize the argument made by Lawrence Lau and Alwyn Young, among others, that the growth of economies in East Asia was not the result of new and original economic models, but rather from high capital investment and increasing labor force participation, and that total factor productivity had not increased. Krugman argued that in the long term, only increasing total factor productivity can lead to sustained economic growth. Krugman's article was highly criticized in many Asian countries when it first appeared, and subsequent studies disputed some of Krugman's conclusions. However, it also stimulated a great deal of research, and may have caused the Singapore government to provide incentives for technological progress.

During the 1997 Asian financial crisis, Krugman advocated currency controls as a way to mitigate the crisis. Writing in a ''Fortune'' magazine article, he suggested exchange controls as "a solution so unfashionable, so stigmatized, that hardly anyone has dared suggest it." Malaysia was the only country that adopted such controls, and although the Malaysian government credited its rapid economic recovery on currency controls, the relationship is disputed. Krugman later stated that the controls might not have been necessary at the time they were applied, but that nevertheless "Malaysia has proved a point—namely, that controlling capital in a crisis is at least feasible." Krugman more recently pointed out that emergency capital controls have even been endorsed by the IMF, and are no longer considered radical policy.

U.S. economic policies

In the early 2000s, Krugman repeatedly criticized the Bush tax cuts, both before and after they were enacted. Krugman argued that the tax cuts enlarged the budget deficit without improving the economy, and that they enriched the wealthy – worsening income distribution in the US. Krugman advocated lower interest rates (to promote spending on housing and other durable goods), and increased government spending on infrastructure, military, and unemployment benefits, arguing that these policies would have a larger stimulus effect, and unlike permanent tax cuts, would only temporarily increase the budget deficit.

In August 2005, after Alan Greenspan expressed concern over housing markets, Krugman criticized Greenspan's earlier reluctance to regulate the mortgage and related financial markets, arguing that "[he's] like a man who suggests leaving the barn door ajar, and then – after the horse is gone – delivers a lecture on the importance of keeping your animals properly locked up."

Krugman has repeatedly expressed his view that Greenspan and Phil Gramm are the two individuals most responsible for causing the subprime crisis. Krugman points to Greenspan and Gramm for the key roles they played in keeping derivatives, financial markets, and investment banks unregulated, and to the Gramm-Leach-Bliley Act, which repealed Great Depression era safeguards that prevented commercial banks, investment banks and insurance companies from merging.

Krugman has also been critical of some of the Obama administration's economic policies. He has criticized the Obama stimulus plan as being too small and inadequate given the size of the economy and the banking rescue plan as misdirected; Krugman wrote in ''The New York Times'': "an overwhelming majority [of the American public] believes that the government is spending too much to help large financial institutions. This suggests that the administration's money-for-nothing financial policy will eventually deplete its political capital." In particular, he considered the Obama administration's actions to prop up the US financial system in 2009 to be impractical and unduly favorable to Wall Street bankers. In anticipation of President Obama's Job Summit in December 2009, Krugman said in a Fresh Dialogues interview, "This jobs summit can't be an empty exercise…he can't come out with a proposal for $10 or $20 Billion of stuff because people will view that as a joke. There has to be a significant job proposal…I have in mind something like $300 Billion."

Krugman has recently criticized China's exchange rate policy, which he believes to be a significant drag on global economic recovery from the Late-2000s recession, and he has advocated a "surcharge" on Chinese imports to the US in response. Jeremy Warner of ''The Daily Telegraph'' accused Krugman of advocating a return to self-destructive protectionism.

In April 2010, as the Senate began considering new financial regulations, Krugman argued that the regulations should not only regulate financial innovation, but also tax financial-industry profits and remuneration. He cited a paper by Andrei Shleifer and Robert Vishny released the previous week, which concludes that most innovation was in fact about "providing investors with false substitutes for [traditional] assets like bank deposits," and once investors realize the sheer number of securities that are unsafe a "flight to safety" occurs which necessarily leads to "financial fragility."

In his June 28, 2010 column in ''The New York Times'', in light of the recent G-20 Toronto Summit, Krugman criticized world leaders for agreeing to halve deficits by 2013. Krugman claimed that these efforts could lead the global economy into the early stages of a "third depression" and leave "millions of lives blighted by the absence of jobs." He advocated instead the continued stimulus of economies to foster greater growth.

Economic views

Krugman identifies as a Keynesian and a saltwater economist, and he has criticized the freshwater school on macroeconomics. Though he applies New Keynesian theory in some of his work, he has also criticized it for lacking predictive power and for hewing to ideas like the Efficient Markets Hypothesis and Rational Expectations.

In the wake of the 2007-2009 financial crisis he has remarked that he is "gravitating towards a Keynes-Fisher-Minsky view of macroeconomics." Post-Keynesian observers cite commonalities between Krugman's views and those of the Post-Keynesian school. In recent academic work, he has collaborated with Gauti Eggertsson on a New Keynesian model of debt-overhang and debt-driven slumps. This theory argues that the "paradox of toil", together with the paradox of flexibility, can exacerbate a liquidity trap, reducing demand and employment.

Political views

Krugman describes himself as liberal, and has explained that he views the term "liberal" in the American context to mean "more or less what social democratic means in Europe." In a 2009 ''Newsweek'' article, Evan Thomas described Krugman as having "all the credentials of a ranking member of the East coast liberal establishment" but also as someone who is anti-establishment, a "scourge of the Bush administration," and a critic of the Obama administration. In 1996, ''Newsweek'' [[Michael Hirsh (journalist)|Michael Hirsh ]] remarked "Say this for Krugman: though an unabashed liberal ... he's ideologically colorblind. He savages the supply-siders of the Reagan-Bush era with the same glee as he does the 'strategic traders' of the Clinton administration."

Krugman has advocated free markets in contexts where they are often viewed as controversial. He has written against rent control in favor of supply and demand, likened the opposition against free trade and globalization to the opposition against evolution via natural selection, opposed farm subsidies, argued that "sweatshops" are preferable to unemployment, dismissed the case for 'living wages', argued against mandates, subsidies, and tax breaks for ethanol, questioned NASA's manned space flights, and has written against U.S. zoning laws and European labor market regulation.

Free trade

Krugman's views on free trade have provoked considerable ire from the anti-globalism movement. He once famously quipped that, "If there were an Economist's Creed, it would surely contain the affirmations 'I understand the Principle of Comparative Advantage' and 'I advocate Free Trade'."

Although Krugman argues in the same article that, given the findings of New Trade Theory, : ... free trade is not passé, but it is an idea that has irretrievably lost its innocence. Its status has shifted from optimum to reasonable rule of thumb...it can never again be asserted as the policy that economic theory tells us is always right.

Krugman nevertheless declares in favor of free trade given the enormous political costs of actively engaging in strategic trade policy (i.e. rent-seeking) and because there is no clear method for a government to discover which industries will ultimately yield positive returns. Furthermore, Krugman expressed in that article that the phenomena of increasing returns (of which strategic trade policy depends) by no means disproves the underlying truth behind comparative advantage.

U.S. race relations

Krugman has repeatedly criticized the Republican Party leadership for what he sees as a strategic (but largely tacit) reliance on racial divisions. In his ''Conscience of a Liberal'', he wrote

Krugman also once wrote in defense of Glenn Loury, a conservative black economist, that Loury, in defiance of many African-American political leaders, had clearly seen and articulated that "the problems facing African-Americans had changed. The biggest barrier to progress was no longer active racism of whites but internal social problems of the black community."

On working in the Reagan Administration

Krugman worked for Martin Feldstein when the latter was appointed chairman of the Council of Economic Advisers and chief economic advisor to President Ronald Reagan. He later wrote in an autobiographical essay, "It was, in a way, strange for me to be part of the Reagan Administration. I was then and still am an unabashed defender of the welfare state, which I regard as the most decent social arrangement yet devised." Krugman found the time "thrilling, then disillusioning". He did not fit into the Washington political environment, and was not tempted to stay on.

On Gordon Brown vs David Cameron

Krugman has praised Gordon Brown, the former British Prime Minister, whom he described as "more impressive than any US politician" after a three-hour conversation with him. Krugman asserted that Brown "defined the character of the worldwide financial rescue effort" and urged British voters not to support the opposition Conservative Party in the 2010 General Election, arguing their Party Leader David Cameron "has had little to offer other than to raise the red flag of fiscal panic."

Controversies

Enron

In early 1999, Krugman served on an advisory panel (including Larry Lindsey and Robert Zoellick) that offered Enron executives briefings on economic and political issues. He resigned from the panel in the fall of 1999 to comply with ''The New York Times'' rules regarding conflicts of interest, when he accepted the ''Times'' offer to become an op-ed columnist. Krugman later stated that he was paid $37,500 (not $50,000 as often reported - his early resignation cost him part of his fee), and that, for consulting that required him to spend four days in Houston, the fee was "rather low compared with my usual rates", which were around $20,000 for a one-hour speech. He also stated that the advisory panel "had no function that I was aware of", and that he later interpreted his role as being "just another brick in the wall" Enron used to build an image.

When the story of Enron's corporate scandals broke two years later, Krugman was accused of unethical journalism, specifically of having a conflict of interest. Some of his critics claimed that "The Ascent of E-man," an article Krugman wrote for Fortune magazine about the rise of the market as illustrated by Enron's energy trading, was biased by Krugman's earlier consulting work for them. Krugman later argued that "The Ascent of E-Man" was in character, writing "I have always been a free-market Keynesian: I like free markets, but I want some government supervision to correct market failures and ensure stability." Krugman noted his previous relationship with Enron in that article and in other articles he wrote on the company. Krugman was one of the first to argue that deregulation of the California energy market had led to market manipulation by energy companies.

References in popular culture

Krugman appears as himself in a cameo in the 2010 comedy film ''Get Him to the Greek''.

Krugman is the subject of the satirical folk song "The Krugman Blues" from Loudon Wainwright III's 2010 album ''10 Songs For The New Depression''.^video

See also

Capitol Hill Baby-Sitting Co-op, popularized in Krugman's book, ''Peddling Prosperity''

List of economists

List of Jewish Nobel laureates

List of newspaper columnists

References

External links

Paul Krugman uFollow page with an index of his columns and posts

Profile and column archive at ''The New York Times''

* The Conscience of a Liberal blog

KrugmanOnline.com features books by Paul Krugman, a custom search engine, and aggregated content from the web.

The Unofficial Paul Krugman Archive contains nearly all his pre-Times Select articles

Paul Krugman (MIT) archives of his Slate and Fortune columns plus other writings 1996-2000

The Increasing Returns Revolution in Trade and Geography 2008 lecture at NobelPrize.org

Profile and Papers at Research Papers in Economics/RePEc

Publications at the National Bureau of Economic Research

Video: Open Mind Interview, 2002: Part One, 2002,Part Two

Audio: The New Class War In America featuring Amy Goodman, Paul Krugman, Greg Palast and Randi Rhodes recorded on June 13, 2006 at The New York Society for Ethical Culture, mp3 format, Video: alternate

Video: Paul Krugman speaks at the World Affairs Council - September 2007

Video: The Conscience of a Liberal (November 3, 2007) - lecture from Mr. Krugman's 2007 book tour.

Video of debate/discussion with Paul Krugman and Mario Cuomo on Bloggingheads.tv

How Paul Krugman Found Politics, Larissa MacFarquhar, ''The New Yorker'', March 1, 2010

Paul Krugman's video interview on Big Think

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