krebscycle

On page 4 of Nobel Prize winning economist Tom Sargent’s paper on Latin American Hyperinflation you can find the following statement that, on the surface, looks like a scientific claim:

The two fixed points are on different sides of the peak of the Laffer curve, so increases in the deficit raise π₁, but lower π₂

The “Laffer curve” however, is not an actual mathematical or scientific concept, so “fixed points” on a Laffer curve are like “right angles of a round square”  or “prime divisors of moonbeam auras”  – a meaningless concatenation of mathematical terms with nonsense. Laffer’s idea is that a 0% tax rate and a 100% tax rate would both result in 0 government revenue (because at 100% tax rate nobody would pay taxes). Therefore, Laffer reasons, there must be a relationship between tax rate and tax revenue that follows a nice single peak curve that peaks somewhere, generally assumed by right wing crackpots to be closer to 0 than to 100. It follows that by cutting taxes, governments can move back up the curve and increase revenue if they are on the downslope of the curve. There is zero evidence of such a curve and a little thinking shows why it is so implausible. If there was a Laffer Curve, then a military dictatorship spending money on corruption, guns, secret police, and medals would be located at the same place on the curve as a government investing in infrastructure, healthcare, and education as long as they both taxed at the same aggregate rate. This would be true only if all government spending was equally wasteful. By pretending the Laffer Curve describes reality, Sargent  can smuggle  this article of rightwing ideology into to his supposedly scientific analysis

Assuming that there has to be a curve, let alone a parabola   between two known zero points is an error that would get you failed out of any basic statistics course. Pop songs usually start and end in silence  is there a pop song curve that tells where we can find the loudest part in any pop
song?  Obviously, between the start and end of the song,  volume is not just a function of time since the song started, but depends on many other variables.  Similarly, government revenue is not a purely function of tax rate but of a combination of variables including things like how well taxes are enforced, who gets taxed, and the underlying strength of the economy and – and this is a taboo idea for Sargent’s economics – how the tax revenue is spent.   To show that there is such a curve Laffer would have had to show revenue depends only or predominantly on tax rate not just that is possibly plausibly bracketed by extreme rates.  Even Sargent doesn’t take this nonsense seriously, as he switches, without any notice from the Laffer curve on tax rates to a Laffer-esque curve implying a relationship between spending and deficits. One bogus curve is apparently as good as any other. Conveniently, all this helps him show that inflation is caused by too much government spending and cured by the kind of sensible financial prudence Augusto Pinochet brought to Chile along with torture, gang rape, firing squads, and mass impoverishment.

But although fiscal reforms play some role in bringing down hyperinflation in the 1970s, deficit shocks are the driving force in the conquest of Chilean inflation. After the tumult of the 1970s the economy engaged in a more stable fiscal policy, resulting in relatively stable inflation. -Sargent.

Assuming that “the economy engaged in a more stable fiscal policy” means anything at all, here is Wikipedia, which, as usual, is a much more reliable and reputable source of information than wingnut economists.

Chronic inflation had plagued the Chilean economy for decades when Pinochet took power, and was threatening to become hyperinflation. Between September 1973 and October 1975, the consumer price index rose over 3,000%. In order to combat this persistent problem and pave the way for economic growth, the Chicago Boys
recommended dramatic cuts in social services. The junta put the group’s recommendations into effect, and cumulative cuts in health funding totaled 60% between 1973 and 1988.

The cuts caused a significant rise in many preventable diseases and mental health
problems. These included rises in typhoid (121 percent), viral hepatitis, and the frequency and seriousness of mental ailments among
the unemployed.

Exchange rate depreciations and cutbacks in government spending produced a depression. Industrial and agricultural production declined. Massive unemployment, estimated at 25% in 1977 (it was only 3% in 1972), and continuing inflation eroded the living standard of workers and many members of the middle class to subsistence levels. The under-employed informal sector also mushroomed in size.

In 1982-1983 Chile witnessed a severe economic crises with a surge in unemployment and a meltdown of the financial sector.^[55] 16 out of 50 financial institutions faced bankruptcy.^[56] In 1982 the two biggest banks were nationalized to prevent an even worse credit crunch. In 1983 another five banks were nationalized and two banks had to be put under government supervision.^[57] The central bank took over foreign debts. Critics ridiculed the economic policy of the Chicago Boys as “Chicago way to socialism”

Note that the record shows that hyperinflation was cured in Chile by a  depression and fiscal collapse followed by government takeover of finance, not “more stable fiscal policy”. Prices go down when economies collapse and make most people desperately poor.  Apparently, Adam Smith’s notion of supply and demand is not applicable in modern macroeconomics.  How does Sargent deal with historical data that shows Chilean hyperinflation taking off
precisely as the dictatorship slashed spending? Oh, that’s easy, he omits it.

In our estimation,  d_t is arbitrarily normalized. When comparing to actual data, weneed to re-normalize it. We do so by matching the average of medians of simulated annual deficits to the average of actual annual deficits over the sample for Argentina, Bolivia, Brazil, and Peru. For Chile, we use the average over the sample** excluding the hyperinflation period 1971-1975 **during which large simulated deficits are caused by a large variance of deficit shocks

There you go: science, economics style.