Inflation: Good for Entrepreneurs, Good for Business Confidence?

Let’s keep this between you and me, but until yesterday I’ve never read Keynes’ Essays in Persuasion.

As we discussed before, fewer businesses are opening in this recession (and previous recessions) and they are more likely to fail:


I was talking about this, the concept of “business confidence” and inflation with my friend JW Mason, who pointed out to me that entrepreneurs benefit from inflation and suffer from de/disinflation, as they are net debtors. Established companies, sitting on cash reserves, as well as financial firms, sitting on worthless mortgage debt, have a vested interest in fighting inflation; new businesses, the kind that drive innovation and employment, have the opposite incentives.

You wouldn’t necessarily want to take out a loan to open a business in a field where prices are falling – now would you want to do that in an economy where prices are falling or not increasing as fast or as steady as they used to be?

I was like “Woah did you just think of that right now?” and he said no, Keynes wrote that like 80 years ago. Oh.

Keynes, “The Social Consequences of Changes in the Value of Money” (1923), Essays in Persuasion:

Now it follows from this, not merely that the actual occurrence of price changes profits some classes and injures others…but that a general fear of falling prices may inhibit the productive process altogether.  For if prices are expected to fall, not enough risk-takers can be found who are willing to carry a speculative “bull” position, and this means that entrepreneurs will be reluctant to embark on lengthy productive processes involving a money outlay long in advance of money recoupment,-whence unemployment.  The fact of falling prices injures entrepreneurs;  consequently the fear of falling prices causes them to protect themselves by curtailing their operations;  yet it is upon the aggregate of their individual estimations of the risk, and their willingness to run the risk, that the activity of production and of employment mainly depends.

The Deflation which causes falling prices means Impoverishment to labour and to enterprise by leading entrepreneurs to restrict production, in their endeavour to avoid loss to themselves; and is therefore disastrous to employment…These results are not so marked as those emphasised above, because borrowers are in a better position to protect themselves from the worst effects of Deflation than lenders are to protect themselves from those of Inflation, and because labour is in a better position to protect itself from overexertion in good times than from underemployment in bad times.

Thus Inflation is unjust and Deflation is inexpedient.  Of the two perhaps Deflation is, if we rule out exaggerated inflations such as that of Germany, the worse;  because it is worse, in an impoverished world, to provoke unemployment than to disappoint the rentier.

So efforts to actual get a functional inflation target are going to do more for business interests than putting a thousand JP Morgan executives into the Obama administration. But that’s only if we define business interests as new businesses creating jobs, innovation and opportunity, not businesses trying to safeguard cash reserves.

Where is the research on this linkage between new businesses, entrepreneurs, and inflation?

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9 Responses to Inflation: Good for Entrepreneurs, Good for Business Confidence?

  1. Mandrake says:

    … and this is precisely why austerity is being sought. And why the right pushes “strong dollar policy” and ridicules any policy that might “debase” the dollar. They want deflation. The monied interests’ competitive advantage increases if they’re the only ones getting any of the benefit.

  2. Start with an average family income of 35,000 to 40,000

    Now start subtracting all of the built in expenses related to taxation, SS, plus insurance, rent, food, medical & car…

    Assuming there is a few thousand left over, if the average family has 15,000 dollars in credit card debt, the payment per month would be around 300 to 400 dollars, over the course of the year that would be 3,600 to 4,800 easily erasing any hope for keeping some change.

    The chance for economic stabilization is thwarted by consumer credit card debt at high interest rate charges that begets more of the same.

    Now factor in the drop of consumer wealth, versus consumer credit card debt which has only gone down because of credit card write offs. The ratio of Credit Card Debt overall consumer wealth has exploded in the past 3 years, and the “forgiven” credit card debt still exists in the consumers life for the next ten years anyways as zombie debt…

    The above scenarios enslave and deny new entrepreneurial ventures and keep feeding the wall street machine that does not create anything, it just subdivides existing entities taking a bigger and bigger piece of a shrinking pie.

  3. The problem is UNexpected disinflation. At the time of writing the loan, inflation expectations are built into the negotiated contract. If a small business expects 2% deflation, they can negotiate rates 2% below their expected real return (or lower). And it sounds crazy but if expected deflation is large then they should be able to negotiate for the bank to pay them interest on the loan.

    Once the contract is written unexpectedly bad disinflation hurts the borrower because the real terms of the loan are worse. So, the badness is in the surprise (and the direction of the surprise). This suggests good policy isn’t necessary in particular level of inflation, but constant, easily foreseeable inflation.

  4. Bruce Wilder says:

    “financial firms, sitting on worthless mortgage debt, have a vested interest in fighting inflation”

    I’m not sure I entirely understand the logic, here. Do we expect inflation to result in higher, nominal mortgage interest rates, and, therefore, retarded effects of general inflation on house prices, or the willingness of wage-earners, presumably benefitting from wage inflation, to continue in debt peonage?

  5. K. Williams says:

    “You wouldn’t necessarily want to take out a loan to open a business in a field where prices are falling – now would you want to do that in an economy where prices are falling or not increasing as fast or as steady as they used to be?”

    You’re making, as is your wont, a huge leap here, trying to argue that 1% inflation is the same as the deflation Keynes is talking about. It’s not. I mean, this economy needs more inflation for a variety of reasons, but nothing Keynes says suggests that entrepreneurship would be impeded by prices that rise 1-1.5% a year instead of 3% a year. The entire post is a speculative and unjustified extrapolation from JMK’s argument.

  6. Mike says:

    K. Williams,

    But what about a slow disinflationary downward trend, with an uncertain lower bound?

  7. sraffa says:

    Will is absolutely right about the expectation of inflation mattering, not the level.

    There is a zero lower bound though: No contract would be written that pays off less in the future than now, as the bank can always put its money in its vaults instead. We’re far from that, but headed in that direction unless disinflation is stopped.

    Mike-It’s kind of odd that you went for Keynes instead of Fisher (1933) on Debt-Deflation which seems to be a better reference, but I’ve never read Essays in Persuasion so I don’t know for sure.

  8. Yonemoto says:

    but you’re forgetting:

    “and they are more likely to fail”

    That’s because when inflation creates an environment of easy money, you will see the pool of talent diluted by idiots. The bottom line is at any given point in time there is a limited capacity of society to innovate and create value, and inflation will malign the market signals showing what’s a good investment and what’s not. Sure, you’ll create more entrepreneurship, but more entrepreneurs will be spending money wastefully on stupid junk, fraud, and fictional nonsense. This is hardly a sustainable business model. For example, this guy got 70 million dollars!

    http://www.blacklightpower.com/

  9. Yonemoto says:

    to clarify – the failure part is a result of the previous malinvestment caused by the era of inflation, and the deflationary trend in entrepreneurial ventures failing is just a clearing out of the crap/cruft that we’d already built up. Using inflation to cover up the mistakes of the past (i.e. prop up “entrepreneurialism”) has the distinct flavor of an east asian society doing all it can to “save face” while the actual foundation is crumbling underneath.

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