Inflation is Government’s Best Friend

Midway through the DNC Convention week we are back to ground zero in the National Presidential Election sweepstakes. The economy is in a state of limbo just now emerging from a faux Covid-induced overspending and a 22% overall inflationary spiral that has created a dichotomy between those who benefit—investors in some asset classes, and those who pay the piper—consumers. But who really benefits the most from inflation—GOVERNMENT!

Let’s never forget what Milton Friedman said that in all cases “inflation is caused by too much money chasing after too few goods and services”. Let’s also never forget that inflation causes increased prices, not the other way around. Kamila and her Keynesian sycophants, and may I add a few too many Republicans, seem not to understand these basic economic truths.

In an article in Economic Help by Tejan Pettinger inflation makes it easier for governments to pay back debt:

“There are a few reasons inflation makes it easier for a government to pay its debt, especially when inflation is higher than expected. In summary:

1. Higher inflation increases nominal tax revenues (if prices are higher, the government will collect more VAT and consumption taxes and workers’ pay more income tax)
2. Higher inflation reduces the real value of debt, bondholders on fixed interest rates will see a fall in the real value of their bonds and it becomes easier for the government to pay back these bonds.
3. Higher inflation can enable the government to freeze income tax thresholds, so more workers pay higher tax rates – it becomes a way to increase tax revenues without increasing tax rates.”

Let’s take a closer look at what happens in the government bond markets:

Bondholders lose out. On a $1000 bond, the government will still only have to pay back $1,000. But inflation has reduced the value of that $1,000 bond (real value is now $900.)

The inflation rate (10%) is higher than the interest rate (2%) on the bond, so the holder of the bond will lose the real value in their investment by 8%.

Inflation means that repaying bondholders requires a smaller percentage of the government’s total tax revenue – so it is easier for the government to pay back the original debt they borrowed.

The Government (borrower) is better off; bondholders (savers) are worse off as a result of inflation.

The same calculus regarding inflated property values is in play as homeowners—especially senior citizens on fixed incomes, are being taxed out of their homes at inflated values. A hybrid “mark to sale” model should be considered ASAP in our State, instead of taxing a homeowner on a portion of their wealth that they have yet to spend.

In Idaho, we are about to discuss the repeal of the grocery tax, or a decrease in the State sales tax, or an increase for certain groups of people and families in food tax credits, or most likely a combination of these ideas.

When food costs 20% more, a $5 box of cereal now costs $6. Before you would have paid 30 cents of tax, now you pay 36 cents of tax. You pay 20% more for the cereal and 20% more in taxes. The government is taking 6 cents more out of your pocket for a box of cereal sold in this example – because the tax is a percentage and is now applied to a higher sales price. If your wages did not increase 20% you would lose. Unless the tax is reduced or eliminated altogether the government is the winner in this transaction.

Let’s not forget that the State Revenues are seeing the advantage of inflation that is becoming a bigger burden on the backs of citizens—at least those who pay taxes.

Any discussion about tax reform—sales, grocery, income, or property should be done with the idea that the government, under conditions of inflation, always has a headwind when collecting taxes. And let us hope that our legislative leaders believe that their first duty is to citizens (constituents, voters) and not to the government agencies that they are charged with regulating and overseeing.

The inflation of the last four years is the single biggest reason for tax reform this legislative session.