John H. Cochrane’s “What We’ve Learned About Inflation”

The Wall Street Journal of Wednesday, August 2, 2023 featured an article by John H. Cochrane (Hoover Institution and Cato Institute) entitled What We’ve Learned About Inflation.

Preliminarily we state some ideas which, it seems, neither John H. Cochrane nor Alan S. Blinder understand and appreciate:

real analysis (is) identifying money with what money buys. … And that is the source of the problem in real analysis. If you want to treat money that doesn’t make a difference, you can have a beautiful liberal monetary theory. But it doesn’t say the way the thing works. [CWL 21, Editors’ Introduction, xxviii quoting Lonergan]

Money is an instrument invented by man to make possible a large and intricate exchange process. … it remains true that variations in the volume, if not to result in inflation or deflation, postulate some variations in the quantity. Now in the long run these variations in quantity can be had only by the introduction of a money of account, [CWL 21, 104]

in every unit of enterprise there is some determinate turnover magnitude and turnover frequency. The magnitude of the turnover depends upon the number of items handled at once and the selling price of each item. The frequency of turnover depends upon the period of production plus any time lag involved in sales and collection. (CWL 15, 58-59)

Now, if in each unit of enterprise the magnitude and frequency of payments depend upon the magnitude and frequency of turnovers, it follows that with respect to the aggregate of basic units and again with respect to the aggregate of surplus units we have quantities and circuit velocities of money determined by turnover magnitudes and frequencies. (CWL 15, 59)

The purpose of this section is to inquire into the manner in which the rate of saving W is adjusted to the phases of the pure cycle of the productive process. Traditional theory looked to (manipulating) interest rates to provide suitable adjustment. In the main we shall be concerned with factors that are prior to changing interest rates and more effective. (CWL 15, 133-134)

Of these famous twins, inflation swindles those with cash to enrich those with property or debts, while deflation swindles those with property or debts to enrich those with cash; in addition to the swindle each of these twins has his own way of torturing the dynamic flows.

It is now necessary to state the necessary and sufficient condition of constancy or variation in the exchange value of the dummy. To this end we compare two flows of the circulation: the real flow of property, goods, and services, and the dummy flow being given and taken in exchange for the real flow….Accordingly, the necessary and sufficient condition of constant value in the dummy lies in its concomitant variation with the real flow. (CWL 21, 38-39)

More positively, the channels (of the Diagram of Rates of Flow – shown below) account for booms and slumps, for inflation and deflation … [CWL 15, 17]

Money is a dummy invented by humans to enable divided exchange. Money is a promise of trust between people. But, simple as money’s functional purposes may seem, the determinations of how much money to create through the credit function is not well understood. There are natural limits to the supply of money, though the menace of so-called Modern Monetary Quackery’s (mistakenly called “theory”) unconstrained printing of money would not have it so.

Our immediate task is to work out the correlations that exist between the velocity and accelerator rhythms of production and the corresponding rhythms of income and expenditure. The set of such correlations constitutes the mechanical structure, a pattern of laws that stand to economic activity as the laws of mechanics to buildings and machines. [CWL 21, 43]

The whole structure is relational: one cannot conceive the terms without the relations nor the relations without the terms. Both terms and relations constitute a basic framework to be filled out, first, by the advance of the sciences and, secondly, by full information on concrete situations. [CWL 3, 492/516]

The explanatory variables discovered by Lonergan’s heuristic search do not resemble the accounting variables of corporate accounting or their aggregates in Gross Domestic Product.

Lonergan’s critique (shows that) by using the technique of implicit definition, the emphasis shifts from trying to define the relevant variables to searching heuristically for the maximum extent of interconnections and interdependence; and that the variables discovered in this way might not resemble very much the objects (or the aggregates) which, in the first instance, one was thinking about. [Gibbons, 1987]

(Ragnar) Frisch’s failure to develop a significant theory typifies the failure of economists who search for a dynamic heuristic. As well as a fundamental disorientation of approach there is also a tendency to shift to an inadequate level of abstraction with a premature introduction of boundary conditions in a determinate set of differential and difference equations. [McShane, 1980, 114]

To qualify as an acceptable currency: Ideally,

… the dummy must be constant in exchange value, so that equal quantities continue to exchange, in the general case, for equal quantities of goods and services. The alternative to constant value in the dummy is the alternative of inflation and deflation. Of these famous twins, inflation swindles those with cash to enrich those with property or debts, while deflation swindles those with property or debts to enrich those with cash; in addition to the swindle each of these twins has his own way of torturing the dynamic flows; deflation gives producers a steady stream of losses; inflation yields a steady stream of gains to give production a drug-like stimulus. [CWL 21, 37-38]

Volume 15 of the Collected Works of Bernard Lonergan 15 has the subtitle An Essay in Circulation Analysis. The Diagram of Rates of Flow in that essay is a model of the dynamics of the circulation of money. The scheme of circulatory and crossover flows accounts for inflation and deflation.It is an easily mastered scheme, but, to their own great detriment, academic and government economists fail to grasp its intelligibility.

More positively, the channels account for booms and slumps, for inflation and deflation, for changed rates of profit, for the attraction found in a favorable balance of trade, the relief given by deficit spending, and the variant provided by multinational corporations and their opposition to the welfare state. [CWL 15, 17]

It is now necessary to state the necessary and sufficient condition of constancy or variation in the exchange value of the dummy. To this end we compare two flows of the circulation: the real flow of property, goods, and services, and the dummy flow being given and taken in exchange for the real flow….Accordingly, the necessary and sufficient condition of constant value in the dummy lies in its concomitant variation with the real flow. (CWL 21, 38-39)

The objective, dynamic process has two components in its explanation:

… conjugate forms are defined implicitly by their explanatory and empirically verified relations to one another. Still, such relations are general laws; they hold in any number of instances; they admit application to the concrete only through the addition of further determinations, and such further determinations pertain to a non-systematic manifold. There is, then, a primary relativity (e.g. 1. Point-to-point vs. point-to-line; 2. P’Q’ = p’a’Q’ + p”a”Q”; 3. Π”Κ” = π”α”Κ”+ π”α”Κ”) that is contained in the general law; it is inseparable from its base in the conjugate form which implicitly it defines; and to reach the concrete relation that holds at a given place and time, it is not enough to think about the general law; one has to add further determinations that are contingent from the very fact that they have to be obtained from a non-systematic manifold. [CWL 3, 492/516]

The whole structure is relational: one cannot conceive the terms without the relations nor the relations without the terms. Both terms and relations constitute a basic framework to be filled out, first by the advance of the sciences and, secondly, by full information on concrete situations. [CWL 3, 492/516]

… V. Lenzen in his Nature of Physical Theory emphasizes the genetic process that begins from experiential contents of force, heat, extension, duration, etc., to move through a process of redefinition towards terms implicitly defined by empirically established principles and laws. [CWL 3, 81-82/105] (Click here)

Thus the analyst must first discover a purely-relational explanatory theory whose patterns are isomorphic with the abstract correlations in the measured data in order to criticize the managers of the objective, dynamic, economic process. The new explanation would supersede and replace the popular, but insufficiently nuanced, schools of macroeconomics – such as the impoverished school of the fiscal theory of the price level.

… it is necessary to distinguish in concrete relations between two components, namely, a primary relativity and other secondary determinations. Thus, if it is true that the size of A is just twice the size of B, then the primary relativity is a proportion and the secondary determinations are the numerical ratio, twice, and the two observable sizes. Now ‘size’ is a descriptive notion that may be defined as an aspect of things standing in certain relations to our senses, and so it vanishes from an explanatory account of reality. Again, the numerical ratio, twice, specifies the proportion between A and B, but it does so only at a given time under given conditions; moreover, this ratio may change, and the change will occur in accord with probabilities; but while probabilities will explain why objects like A and B every so often have sizes in the ratio of two to one, they will not explain why A and B are in fact in that relation here and now; and so the numerical ratio, twice, is a non-systematic element in the relation. However, if we ask what a proportion is, we necessarily introduce the abstract notion of quantity and we make the discovery that quantities and proportions are terms and relations such that the terms fix the relations and the relations fix the terms. For the notion of quantity is not to be confused with a sensitive or imaginative apprehension of size; a quantity is anything that can serve as a term in a numerical ratio; and, inversely, a proportion, in the present context, is a numerically definable ratio between two quantities. [CWL 3, 491]

And again,

The whole structure is relational: one cannot conceive the terms without the relations nor the relations without the terms. Both terms and relations constitute a basic framework to be filled out, first by the advance of the sciences and, secondly, by full information on concrete situations. [CWL 3, 492/516]

Referring to the recent and current inflation, J. Cochrane states,

(Cochrane) I think the episode is a smashing confirmation of the fiscal theory of the price level.

(Cochrane) Inflation peaked in June 2022 and continues to ease, with interest rates below inflation until April 2023 and no recession. Why? Again, fiscal theory provides a straightforward answer. A one-time $5 trillion fiscal blowout causes a one-time rise in the level of prices, just enough to inflate away the value of the debt by $5 trillion. Then inflation stops, even if the Federal Reserve does nothing.

(Cochrane) The Fed is still important in fiscal theory. The Fed bought about $3 trillion of the new debt and converted it into interest-paying reserves.. Giving people checks backed by reserves is arguably a more powerful inducement to spend than giving people Treasury bonds. Now by raising interest rates, the Fed lowers current inflation but at the cost of more-persistent inflation. That smoothing is beneficial. ¶ These are core propositions of fiscal theory, … at odds with conventional theories.

We simply put forward the following mix of questions and assertions.

- The Fed acts as agent of and for us. We are “We-The-People,” and the Fed is We-acting-by-its-agency. The Executive, Legislative, and Judicial branches of government are We-The-People acting in certain roles. They are not a third party situated outside the system. The Fed reports to Congress and acts in a special role; it is charged to control a) the liquidity and smooth functioning of the banking system, b) the level of employment, and c) the maintaining of a stable currency.
- Any (school of) economic theory – such as fiscal theory, Keynesianism, New Keynesianism, Classical Theory, Neo-Classical Theory, Monetarism – must have a rock-solid set of fundamental terms and relations. It must be an explanatory theory.

real analysis (is) identifying money with what money buys. … And that is the source of the problem in real analysis. If you want to treat money that doesn’t make a difference, you can have a beautiful liberal monetary theory. But it doesn’t say the way the thing works. [CWL 21, Editors’ Introduction, xxviii quoting Lonergan]

A school of economic theory must explain completely the field of its investigation by the abstract functional relations of terms among themselves. Everyday commonsense descriptive terms must be redefined implicitly by the functional relations among themselves, not by descriptive terms of things related to sentient us. This set of now-abstract systematic functional relations can then be applied to the concrete measurements of functional activities in the non-systematic manifold of events in order to explain the particular relations of the current dynamic process.

The concomitance of outlay and expenditure follows from the interaction of supply and demand. The concomitance of income with outlay and expenditure is identical with the adjustment of the rate of saving to the requirements of the (particular phases of the pure cycle of the) productive process. [CWL 15, 144]

(Part Two of CWL 21, entitled Fragments) belongs almost entirely in what I call the Einsteinian context of Part Three, in contrast to the Newtonian achievement of Part One; … [CWL 21, Index, 325]

Taking into account past and (expected) future values does not constitute the creative key transition to dynamics. … Particular boundary conditions, “past and future values” are relatively insignificant for the analysis. What is significant is the Leibnitz-Newtonian shift of context. [McShane, 1980, 127]

A distinction has been drawn between description and explanation. Description deals with things as related to us. Explanation deals with the same things as related among themselves. The two are not totally independent, for they deal with the same things and, as we have seen, description supplies, as it were, the tweezers by which we hold things while explanations are being discovered or verified, applied or revised. … [CWL 3, 291/316]

… again, as to the notion of cause, Newton conceived of his forces as efficient causes, and the modern mechanics drops the notion of force; it gets along perfectly well without it. It thinks in terms of a field theory, the set of relationships between n objects. The field theory is a set of intelligible relations linking what is implicitly defined by the relations themselves; it is a set of relational forms. The form of any element is known through its relations to all other elements. … Field theory is a matter of the immanent intelligibility of the object. (CWL 10, 154)

… Special Relativity is primarily a field theory, that is, it is concerned not with efficient, instrumental, material, or final causes of events, but with the intelligibility immanent in data; but Newtonian dynamics seems primarily a theory of efficient causes, of forces, their action, and the reaction evoked by action. … [3, 43/67]

A science emerges when thinking in a given field moves to the level of system. … The system really emerged with Newton. He laid down a set of basic definitions and axioms, and proceeded to demonstrate and conclude from general principles and laws that had been established empirically by his predecessors. Mechanics became a science in the full sense at that point where it became an organized system. … there is a point in the history of any science when it comes of age, when it has a determinate systematic structure to which corresponds a determinate field.

… real analysis (is) identifying money with what money buys. … If you want to treat money that doesn’t make a difference, you can have a beautiful liberal monetary theory. But it doesn’t say the way the thing works. [CWL 21, Editors’ Introduction, xxviii quoting Lonergan]

- - Thus the analyst must discover an explanatory theory and its framework in order to criticize the managers’ management of the objective, dynamic, economic process. The explanation would supersede and replace inadequate schools of thought.

- - The recent inflow of $5 trillion failed to be correlated with the flows constituted by the magnitude and frequencies of goods and services.

in every unit of enterprise there is some determinate turnover magnitude and turnover frequency. The magnitude of the turnover depends upon the number of items handled at once and the selling price of each item. The frequency of turnover depends upon the period of production plus any time lag involved in sales and collection. (CWL 15, 58-59)

Again,

Money is an instrument invented by man to make possible a large and intricate exchange process. … it remains true that variations in the volume, if not to result in inflation or deflation, postulate some variations in the quantity. Now in the long run these variations in quantity can be had only by the introduction of a money of account, [CWL 21, 104]

Money is a dummy invented by humans to enable divided exchange. Money is a promise of trust between people. But, simple as money’s functional purposes may seem, the determinations of how much money to create through the credit function is not well understood. There are natural limits to the supply of money, though the menace of so-called Modern Monetary Quackery (mistakenly called “theory”) unconstrained printing of money would not have it so..

J. Cochrane quotes Secretary of the Treasury, Janet Yellen:

(Cochrane quoting) Treasury Secretary Janet Yellen argued that “with interest rates at historic lows … debt isn’t a concern, so “the smartest thing we can do is act big.”

but low interest -rate loans, uncorrelated with the aggregate magnitudes and frequencies in the economic system, will, if excessive, sooner or later cause and explain inflation. Again,

DP’ and DP” simply indicate what might be described metaphorically as the inertia of the quantity process of goods and services in its response to acceleration initiated in the circulatory process of payments. Rapid increases or decreases in the (monetary) circulatory process have not a proportionate effect in the (production) quantity process but are in part absorbed by positive or negative price increments. Thus booms are notoriously inflationary and slumps deflationary. Hence DP’ and DP” are best taken as indices of divergence between circulatory and quantity phases. (CWL 21, 134)

Cochrane does not mention winners and losers. CWL 15’s Section 26, “The Cycle of Basic Income,” treats a) the systematic necessity to adjust the rate of saving to the changing requirements of a cycle, b) the theory of the way to balance the crossovers, i.e. I’ = w_in_iy_i , how to adjust the rate of savings, and c) that the adjustment of incomes is prior and more effective than the double-edged monkeying around with a double-edged, manipulated interest rate. All this implies that the private and government operations blindly self-sicken themselves and by hook and crook and blind trial and error self-heal their own operations; and, thus, that credit and blame for the effectiveness or ineffectiveness of lowering or raising interest rates is, for the most part, based upon ignorance of how the process actually works.

Again,

real analysis (is) identifying money with what money buys. … And that is the source of the problem in real analysis. If you want to treat money that doesn’t make a difference, you can have a beautiful liberal monetary theory. But it doesn’t say the way the thing works. [CWL 21, Editors’ Introduction, xxviii quoting Lonergan]

(CWL 15, 133-134) The purpose of this section is to inquire into the manner in which the rate of saving W is adjusted to the phases of the pure cycle of the productive process. Traditional theory looked to (manipulating) interest rates to provide suitable adjustment. In the main we shall be concerned with factors that are prior to changing interest rates and more effective. ¶The simplest manner of attaining a fairly adequate concept of basic income is to divide the economic community into an extremely large number of groups of practically equal income. … In any group i let there be at any given time n_i members; let each member receive an aggregate (basic and surplus) income y_i per interval, so that the whole group receives n_iy_i; finally, let us say that the group directs the fraction w_i of its total income to the basic demand function, so that basic income per interval is given by the equation

I’ = Σw_in_iy_i

… and so one obtains for the increment per interval of basic income the simpler equation

δI’ = Σ (w_iδn_i + n_iδw_i)y_i^{Ftnt 189}

where n_i includes the adjustment due to migration. We shall consider in turn variations in basic income in virtue of δn_iand variations in virtue of δw_i_.… Hence, in migrations from low to less-low income groups, most of the increment of individual total income becomes an increment of basic income; but in migrations from high to still higher income groups, most of the increment of individual total income becomes an increment of surplus income. Evidently, then, suitable migrations are a means of providing adjustments in the community’s rate of saving. To increase the rate of saving, increase the income of the rich; while they may be too distant from the current operations of the economic process to judge, at least they can put their money into the bank or bonds or stocks, and perhaps others there will see how it can best be used. To decrease the rate of saving, increase the income of the poor. … The foregoing is the fundamental mode of adjusting the rate of saving to the phases of the productive cycle. …(and) this fundamental mode of adjustment is complemented by a further mechanism of automatic correction. (price changes) (CWL 15, 133-134)

Traditional theory looked to shifting interest rates to provide suitable adjustment. In the main we shall be concerned with factors that are prior to changing interest rates and more effective. … … Evidently, then, suitable migrations are a means of providing adjustments in the community’s rate of saving. To increase the rate of saving, increase the income of the rich; while they may be too distant from the current operations of the economic process to judge, at least they can put their money into the bank or bonds or stocks, and perhaps others there will see how it can best be used. To decrease the rate of saving, increase the income of the poor. … The foregoing is the fundamental mode of adjusting the rate of saving to the phases of the productive cycle. [CWL 15, 133-134]

The traditional doctrine of thrift and enterprise looked to the supply of and demand for money to adjust interest rates and the adjusted rates to adjust the rate of saving to the requirements of the productive process. But it can be argued that a) this view was not sufficiently nuanced in its estimate of the requirements of the productive process, b) that it missed the magnitude of the problem, and c) that it tended to lump together quite different requirements. … [CWL 15, 140, ftnt. 197]

The difficulty with (traditional) theory is that a.) it lumps together a number of quite different things and b.) it overlooks the order of magnitude of the fundamental problem… [CWL 15, 141-144]

However, the following conclusions seem justified. When the rate of saving is insufficient, increasing interest rates effect an adjustment. This adjustment is not an adjustment of the rate of saving to the productive process but of the productive process to the rate of saving; for small increments in interest rates tend to eliminate all long-term elements in the expansion; and such small increments necessarily precede the preposterously large increments needed to effect the required negative values of dw_i. Finally, the adjustment is delayed, and it does not deserve the name of adjustment. It is delayed because the influence of increasing interest rates on short-term enterprise is small. It does not deserve the name ‘adjustment’ because its effect is not to keep the rate of saving and the productive process in harmony as the expansion continues but simply to end the expansion by eliminating its long-term elements. (CWL 15, 143-44)

Thus, the general theory of circuit acceleration is that it takes place in a constrained and limited way when quantities of money in the circuits are constant, but without let or hindrance (but not necessarily a runaway) when quantities of money are variable. Finally, provided (D’-s’I’), (D”-s”I”), G vary only slightly from zero, so that their action is absorbed by stocks of goods at the final markets, they exercise a stimulating effect in favor of positive or negative circuit acceleration; otherwise their action pertains either to superimposed circuits of favorable balances of foreign trade and deficit government spending, or else to the cyclic phenomena of booms and slumps. (CWL 15, 64-65)

The runway and plane trying to land is an impoverished metaphor for

Multi-point hypothesis: 1) I’ = winiyi, 2) magnitudes and frequencies, 3) phase of the cycle, 4) productivity and capacity, 5) concomitance and solidarity of rates of outlays and employment, 9) tiers of income, propensity, and migrations, 10) money supply, 11) M1 and M2 useless (simply where the money is parked, 12) description vs. explanation

A New Paradigm: Bernard Lonergan's Functional Macroeconomic Dynamics

The Purely Relational Foundations and Derived Superstructure of Macroeconomic Dynamics; An Explanatory Systematics and A New Standard Model of the Objective Economic Process

John H. Cochrane’s “What We’ve Learned About Inflation”

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