I am Tumbles, and I have had the relationship between interest rates and inflation explained many times. I have gone back and forth with chatGPT about it on more than one occasion. I still do not grasp the fundamental mechanisms at play.
Resolution Criteria
This resolves YES if Tumbles feels he grasps the shape of the fundamental mechanisms that connect the federal interest rate to inflation. If others say I get it because I am able to repeat the correct explanation, but I don't feel it is clicking together for me, that's not good enough for a YES resolution.
This also resolves YES if Tumbles decides the mainstream understanding of the relationship between interest rates and inflation is wrong. Such confidence would require Tumbles having a fairly robust alternative story.
It doesn't matter where understanding comes from, whether it's explained to me in the comments or if I just wake up one night and get it.
Resolves NO at scheduled close date.
Relevant points as I currently understand them:
'Inflation' is the rate at which the value of money (per unit of money) decreases. The value of money drifts and oscillates for various reasons, but is most fundamentally determined by the ratio of money to real goods/wealth/stuff. Printing money makes inflation go up because there is then more money relative to real goods. Collecting taxes makes inflation go down because there is less money. If the value of money goes up for less fundamental reasons, perhaps because people think there is less money than there is, one could expect the market to eventually correct for that error.
What it means for the federal reserve to 'set the interest rate' is for the reserve to adjust the interest rate banks pay for short term loans from the reserve as part of regular operation. Raising this rate directly influences other interest rates. This makes sense to me.
The federal government funds deficit spending in part with loans from the federal reserve, which are sort of loans to themselves, so the interest rate doesn't actually matter. This makes sense to me and I've been told it's important for answering my questions but I do not yet grasp how it fits into the story about inflation.
When a bank gives out a loan, it is increasing the money supply because it creates those deposits basically out of nothing. This does not make any sense at all to me, since banks are private institutions that must cover the cost somehow of all loans they give out, but this is a constant staple of explanations I've received in the past.
When interest rates are high, people spend/invest less and save more, and so the money supply is reduced. This does not make sense to me. The impact on saving/investing makes sense, but it seems to me any impact on inflation in this way should be strictly temporary, since all money saved instead of invested is still out there to be spent in the future.
1,000@jim That makes sense and could be the start of an alternative story to the mainstream one, it would be pretty funny if raising the interest rate was literally fundamentally just putting the breaks on the economy lol. My first reaction is that this is such a different explanation than I usually get that it must be in the wrong direction, but actually, it does sort of flow from the "decreasing the money supply by increasing saving" part of explanations.
The weird thing about this explanation is that making less wealth for the sake of having less wealth seems bad and stupid. But it's at least plausible that people simply straightforwardly dislike inflation more than they like having wealth (at the relevant rate of tradeoff).
"The fed doesn't control inflation by controlling the money supply, they control inflation by choosing how much wealth to destroy" is a pretty funny take. Perhaps I'll try wearing it for a while and seeing what sort of pushback I get.