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1 History and Inflation
My interest in inflation was piqued when in 2007 Argentina's director of consumer pricing, Graciela Bevacqua, at the INDEC, the official statistics agency, was fired for not being willing to falsify her agency's inflation statistics to satisfy the government led by President Cristina Fernández de Kirchner. The situation became a global incident when the International Monetary Fund (IMF) gave a report on Argentina to the IMF board which could have resulted in the country being censured and expelled from the IMF. The official Argentine data reported inflation at 10%, while independent data provided by as many as nine private agencies indicated that inflation was actually more than double that at between 25% and 30%. The government's efforts to keep the numbers low and fool the public were in response to rising prices that had resulted in mass protests against the Kirchner government. When IMF Chair Christine Lagarde said that if Argentina did not start producing reliable statistics, she would give the country a “red card,” Kirchner – speaking at the UN General Assembly – said: “Argentina is not a soccer team, it's a sovereign country and accepts no threats or pressures… In the game of comparing football with economics and politics, let me say that the President of FIFA has been far more successful and satisfactory than that of the IMF Executive Board.”1 (Of course, that was before the FIFA Board was found to be engaged in rampant corruption.) In 2007, the Kirchner government not only dismissed Graciela Bevacqua, but also fined her and charged her with embezzlement. Graciela spoke out and claimed that her superiors had asked her to delete decimals from the inflation calculations. The American Statistical Association protested the persecution its colleague was facing in Argentina, but to no avail. Graciela was replaced. More of that case later.
History as Inflation
“I do not think it an exaggeration,” the economist Friedrich Hayek once wrote, “to say that history is largely a history of inflation…”2 Price rises can be witnessed around the world, as indicated by Germany's Weimar Republic hyperinflation in the early 1920s, the inflation of Eastern Europe following the collapse of the Berlin Wall in 1989, the stagflation of many Western countries in the 1970s, and the inflation that Japan witnessed following the end of the economic miracle in the 1960s.
It's important for us to look at the consequences of such information flows regarding “inflation,” “deflation,” “hyperinflation,” etc. and what are the effects on decision‐making not only in governments but also in business and investment. We want to look at the impact of inflation/deflation statistical information flows and how they can be so misleading.
Importance of Inflation Numbers
Ever since the earliest price indices were first introduced at the start of the eighteenth century, the measurement of inflation and attempts to control its growth have become increasingly salient. After the Second World War, full employment was seen as one of the major goals of economic policy. Then, over the next forty years, price stability took its place as the primary economic aim of governments and central banks. As mentioned previously, it was Ronald Reagan in the 1980s who described the threat of inflation as being “…as violent as a mugger, as frightening as an armed robber and as deadly as a hitman.”3 Showing the priorities of modern governments, in 1991 the then British Chancellor, Norman Lamont, told the House of Commons that: “… rising unemployment and the recession have been the price that we have had to pay to get inflation down. That price is well worth paying. That focus on keeping inflation down remains at the heart of monetary policy.”4
Central banks around the world are charged with keeping inflation at an agreed rate. For example, in the UK each year, the Chancellor of the Exchequer writes to the Governor of the Bank, confirming what the inflation target is. Should the inflation rate deviate from this target by more than 1%, the Governor must write to the Chancellor, explaining why the inflation target has been missed and what steps the Bank is going to take to rectify the situation.
Price instability is, of course, not just an issue for governments. For investors, information regarding the rate of inflation plays an important part in deciding where they put their money. Rising levels of inflation supposedly reduce the value of savings and investment unless interest rates and returns on investment keep pace. This has an impact on everyone – from those with savings in a bank account, to where pension funds are being invested.
The Long Coffin
At the center of the Bank of England is a small courtyard garden, which is the preserve of the incumbent governor. Originally, the garden was a graveyard. When the Bank moved to Threadneedle Street in 1734, it soon expanded to take over the church next door which was subsequently deconsecrated and demolished. However, the decision was taken to leave the graveyard there. In the 1920s and 1930s, when the Bank needed rebuilding again, the Garden Court was dug up to reveal several coffins, one of which was the curiosity of William Jenkins. Jenkins worked at the Bank in the late 1700s, was 6 feet 7 inches tall, and was buried in the Garden Court as his friends were worried that his body might be stolen and sold. Such was the size of Jenkins’ coffin that when it was moved to Nunhead Cemetery, it had to be placed in the catacombs as it was too long for the vaults.
Back at the restored Garden Court meanwhile, as part of the renovations the Court was planted with mulberry trees. The reason for the choice of trees was twofold. First, there was the practical consideration that the roots of the mulberry tree grow horizontally, rather than straight down into the ground: handy when the Bank of England’s gold vaults (which contain some 400,000 bars of gold) are directly underneath. Second, and more symbolically, the mulberry tree has played a critical role in the history of money. In seventh‐century China, the bark of the mulberry tree was used to make the earliest form of paper currency. The old saying has it that money doesn’t grow on trees. But in early China, it did; and when it arrived, inflation was swift to follow.
Marco Polo and Money
In 1271, the traveler and explorer Marco Polo set off for the court of Khubilai (otherwise known as Kublai Khan) the same year the latter established the Yuan Dynasty and became Emperor of China. Polo's journey to reach Khubilai's court at Shangdu took him four years and was not without incident: the fall of the city of Xiangyang in 1273 to Khubilai's troops was just one episode in which Polo was involved. All of this, and his impressions of Khubilai's court, Polo wrote up in a book that in France was traditionally called Le Livre des Merveilles (The Book of Marvels) and which is known in English more prosaically as, simply, The Travels.
Out of the many marvels that Marco Polo was struck by was the Yuan Dynasty's use of banknotes. “The emperor's mint is in this city of Khanbaliq,” he wrote, “and it is set up in such a way that might well say he has mastered the art of alchemy.” Polo described in detail how the Great Khan, as he called him, went about making the notes: “He has the bark stripped from trees – to be precise, from the mulberry trees whose leaves are eaten by silkworms. Then the thin layer of bast fiber between the bark and the wood of the tree is removed. After being ground and pounded it is pressed with the aid of glue into sheets like those of cotton paper, which are completely black. And when these sheets are ready, they are cut up into pieces of different sizes, rectangular in shape and of greater length than breadth. And they are made with such authority and solemnity as if they were cast from pure gold or silver … when everything has been done correctly the chief of the officials deputed by the emperor