In my radio interview on KFNN in Phoenix this morning, we discussed AIER’s recent report that the price level in 2007, as measured by the consumer price index, increased by 4.1 percent – the largest increase in 17 years.

With more time, I would like to have talked about how one of the problems with inflation is that it is likely to have a negative impact on long-term growth. Milton Friedman argued that price inflation was at best a short-term spur to output, but of little positive impact in the long run. The economic distortions caused by price inflation work as a tax on business investment, the accumulation of capital, and business planning in favor of activities that are not affected by price inflation. This inflation tax impedes output and growth.

These effects are clearly visible in annual economic data looking back to 1953. The following chart shows that there is no positive relationship between annual changes in the measured price level (on the horizontal axis) and annual changes in real GDP growth (on the vertical axis). The trend line correlation between the inflation rate and the GDP growth rate between 1953 and 2007 is -0.34. 
 

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