#121 The Inflation Tax

the christian economist dave arnott

#121 The Inflation Tax

Christians are taught to save money, and avoid debt.  But our national economic decision-makers are encouraging the opposite because of the inflation tax. 


All dogs will go to heaven, but no taxes will.  The idea actually stems from James Madison, who wrote in Federalist #51: If men were angels, no government would be necessary.”  You see, the purpose of taxes is to fund the government.  It is only necessary because humans have a fallen nature.  When we’re angels, in heaven, no government will be necessary, so taxes won’t exist.  Actually, stating that the purpose of taxes is to fund the government, puts me in something of a minority these days.  In the textbook we use at Dallas Baptist University, our author, Gregory Mankiw says that 83% of economists agree that the redistribution of income is an acceptable role for the government.  

As we will see in today’s podcast, wealth is being redistributed by the inflation tax.  But it’s being distributed in a regressive form: More is being taken from the poor in taxes because of inflation.

In our recent book Biblical Economic Policy, Sergiy Saydometov and I explain that taxes are a necessary evil in a fallen world.  So, the first assumption is that they should be kept as low as possible, and clearly, they won’t exist in a perfect state, as we perceive heaven to be. 

How we got here

In the macro model that you’re now looking at, I explain the two entities that have an impact on the US economy: The government with fiscal policy and the Federal Reserve Bank, which guides Monetary Policy.  Milton Friedman famously said, “Inflation is always and everywhere a monetary phenomenon.”  Well, he died in 2006, but I think he would change his mind if he saw the kind of outrageous spending that’s going on today.  He might say that inflation is caused by monetary AND fiscal policy.  I don’t think he ever predicted that the US government’s fiscal policy would produce a $2.5 trillion annual deficit. 

Here’s a one-sentence summary of fiscal and monetary policy that caused inflation to be at a 40-year high: The government spent too much money, and the Fed kept the interest rate at zero for too long.  Done. 

For more details about how the federal government is pumping up this historic inflation, I will refer you to my podcast #101, Inflating Inflation 

The Dual Mandate

When the Fed was founded in 1913, it had ONE mandate: Stable prices.  Their job was to control inflation, which you see on the left side of the Macro model.  In 1977, they received their second mandate: Full employment, on the right side of the diagram.  Old foggies like me think they should have only one mandate: Controlling inflation.  And it’s times like this, with inflation running at 7.5% that guys like me look like geniuses.  The reason we are having inflation, at least from the monetary point of view, is because the Fed kept the interest rate near zero to try to lower unemployment.  It worked, but it caused inflation.  Matthew 6:24 says you can’t serve two masters, for either he will hate the one, and love the other, or else he will hold to the one, and despise the other.  That scripture applies to the Fed, which tries to do two things at the same time. 

There’s another reason the Fed should not have a second mandate for controlling unemployment.  That’s because monetary policy can lower unemployment only for the short term, and eventually, it will return to its natural rate.  For more on that, see my podcast #21 titled Economic Humanism, and #41 In the Fed we Trust

Five Inflation Taxes 

1.  The Wages Tax

In economics, “real” means after inflation.  Inflation is now reducing the real earnings of many Americans. As the purchasing power of a dollar falls, many Americans are taxed on the extent to which their paychecks aren’t keeping up with inflation.  The latest numbers I saw, indicated that inflation was about 7.8% and wages were up about 5.5%.  If you’re doing the math, that means workers are suffering about a 2.3% loss in real wages. 

You might be thinking at this point, “Well, who cares?  Inflation is defined as increased costs and wages.  If my wages go up with costs, so what?  Here are just two “So what’s”: 

As you make more money, you move up to a higher tax bracket.  It’s called “Bracket creep.”  To the young women in my class, that sounds like a guy they dated in high school, and the real thing is as dangerous.  

The price of imports goes up.  This is another podcast, but I think we may be leaving a golden age of low-cost products in the US.  A perfect storm of about five effects are happening at the same time: The great resignation, (people leaving the workforce) inflation, declining real wages, tariff increases, and shrinking world trade.  Look for more on that topic in an upcoming podcast. 

2. The Housing Tax

While homeowners are likely happy to see the value of their homes rising, they won’t be so excited when their property taxes go up at their next assessment. They can also expect to face higher insurance premiums on their inflated home values. The cost of utilities is rising. And, the poor, who often are renters, are not immune from these inflationary pressures, since landlords pass along their inflation-driven costs.


3. The Food Tax

Another way inflation is raising taxes on ordinary Americans is through the taxes on the goods and services they consume. The costs of groceries and going out to eat are increasing.  Economics is the study of the production and distribution of products and services.  Well, ALL products get distributed.  And, people who provide services “distribute” themselves in planes, trains, and automobiles. 


4. The Sales Tax

Sales taxes are set as a percentage of the item.  As the price goes up, the percentage remains the same, but the total sales tax goes up.  Some states even tax food.  

While teaching in Eastern Europe, I showed the students my receipt from the local grocery store and complained about the 21% Value Added Tax on food.  An Eastern European student asked, “You have to make the poor pay taxes in some form.”  I was astounded.  To my Western ears, making the poor pay” didn’t ring well.  But, that’s what’s happening now in my country.  The poor are being forced to pay higher prices for goods, and the sales taxes that come with them.  Oh, by the way, food is not taxed in the US, but just about everything else you buy is.  And those are regressive taxes, that increase as you proceed down the “food chain,” to use a phrase, or as income decreases, to be more specific.

5. The Retirement Tax

As I get closer to retirement, along with my fellow 75 million baby boomers, I am becoming more concerned that my savings from 50 years in the workforce will be enough.  The inflation tax is particularly difficult for retirees because it eats away at the real rates of return on savings accounts, certificates of deposits, and fixed-income securities. Americans with such savings are receiving negative rates of return after adjusting for inflation.  The Fed raised the discount rate to a range of .25% to .50 this month.  Inflation is at 7.8%.  7.8 minus .50 means retirees are losing over 7% each year.  Each year!  Over three years, compounded, that’s a quarter of your lifestyle.  A pretty smart guy once called compound interest “The eighth wonder of the world.”  He said, “He who understands it, earns it; he who doesn’t, pays for it.”  That smart guy was Albert Einstein.  He gave a pretty good explanation for what’s happening in the middle of the year 2022.  The Federal Government is reducing the pain of paying off its debt, on the back of the poor, who are paying the inflation taxes. 

Regressive Taxes

While the wealthy can hire experts to shelter their income and savings from inflation, poor people don’t have financial advisors to move their investments to gold, real estate, and stocks that go up with inflation.  And, to make the point more carefully, the poor don’t have investments.  They have to buy milk and diapers on the daily market at inflated prices, while the rich can delay the purchase of yachts and vacation homes. 

Poor people spend a much larger portion of their earnings on essentials such as groceries and rent.  The current inflation tax we are now suffering under the Biden administration falls most heavily on the poorest Americans.

Earn, Save, Give

Who benefits from inflation?  Those in debt.  Scripture tells us to avoid debt as much as possible, but inflation encourages it.  In podcast #10 I quoted John Wesley saying “Earn all you can, save all you can, give all you can.”  Inflation encourages people to “Spend all you can,” because dollars lose value the longer you hold them.  Let that fact sink in, Dollars LOSE value.  

The Brazilian economy still shows signs of the constant inflation that plagued the country for the last half of the 20th century.  In 1942, they called it the cruzeiro, then in 1967, it was trashed and replaced by the new cruzeiro, and in 1994 it was replaced by the real, the plural of which is hay-ice.  Sorry, I always mispronounce that.    

Even today, some years later, a culture of spending money still exists in Brazil.  They don’t keep money, because it are accustomed to spending it as fast as they can.  It’s really quite astounding.  In a Wal-Mart ad, you will see the cash price and the monthly payment plan price.  You see, taking on debt and spending money quickly is encouraged in an inflationary environment that eats away at the value of a currency.  Upon returning to the US, after my first visit to Brazil, I concluded, “A Dave Ramsey seminar would save Brazil.”  Meaning that Dave Ramsey encourages people to save and avoid debt, while inflation encourages them to spend, and take on debt.

Both of these encouragements, that are currently being promoted by the fiscal and monetary policy are anti-Biblical.  We are taught to save money, and avoid debt.  But our national economic decision-makers are encouraging the opposite. 

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