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  • Inflation Threats on the Horizon

    Hardly any Washington policymaker is worrying about inflation right now. Who blames them? The economy continues to contract; prices are falling, not rising; and, President Barack Obama speaks about years, not months, before things are better. Inflation seems about as remote right now as, well, a good return on your stock investments.

    This inattention to future inflation is unfortunate: there are mounting signs that the big bugaboo of the 1970s might be ready for a return visit. No, I’m not seeing rising prices; but I am seeing the foundations of inflation in a dramatic expansion of the sources of money and credit. So, what’s up?
    totalreserves.JPG
    In the very center of contemporary macroeconomics is the view that dramatic growth in the supply of money and credit may likely lead to sharp increases in relative prices or to inflation. The economics go like this. When the Federal Reserve increases the supplies of money and credit above normal levels through lowering key bank interest rates, by expanding its own balance sheet to provide member banks more credit, or by simply printing more money; it changes the ratio between savings and consumption. More money is spent today than otherwise would be the case. The result: prices begin to rise (and, coincidentally, the first step is taken toward a possible recession).

    However, given the aggressive way the Federal Reserve has reacted to the current recession, we may have cause to worry about inflation in the near future. The Fed has dramatically and famously slashed its key interest rates to near the rarely seen 0%. It also has substantially increased the liquidity of the Reserve System through a host of other actions. Since June, the monetary base (or, basically, the reserves held by banks plus the currency part of the money supply) has increased 108 percent. That is, the monetary base has doubled in half a year. More dramatic by far has been the 19 fold increase in reserves at member banks, from $43 billion in June to $821 billion at the end of December. (see charts)

    Because financial institutions are lending at very low levels now, the inflationary threat from all of these excess reserves and from growth in the monetary base is virtually zero. As long as the economy continues to slump, we’re safe from rapid price increases.
    monetarybase.JPG
    However, economic recovery hopefully will be accompanied by increased lending. That’s the whole idea of the Bush and Obama administrations’ financial recovery programs. So, what happens if lending does recover? Given the tremendous amount of liquidity that the Fed has introduced into the financial system, prices may begin moving back up quickly. In other words, we could be in for a lot of inflation.

    We could be, but that depends on what the Federal Reserve decides to do. On the one hand, the Fed could support the recovery and tolerate the growth of inflation. On the other hand, it could focus on the many terrible threats of inflation to our economy’s future and squeeze the liquidity down to stable levels. That decision would cause the economy to slow and might stymie recovery.

    Posted in Ongoing Priorities [slideshow_deploy]

    7 Responses to Inflation Threats on the Horizon

    1. John, Richland, MI 4 says:

      So what do you think is up with President Obama?

      I don't think that it is a coincidence that so many of his

      cabinet selections had committed embarrassing crimes; that he

      has tried to have his stimulus package passed before the

      people would discover the political rewards hidden in the

      package; that he is attempting to correct our economy not with

      proven successful policies but instead with a short-term

      stimulus that Japan attempted about 8 times and only ended up

      in an inflation. What is with the people that they continue to support the President when it is so clear to so many that

      something smells. Well the stink will only get worse.

    2. Valerie Griffin Hele says:

      There is nothing wrong with a short-term stimulus

      package. no one complained former president Bush

      issed one. President Obama can't fix everything

      today.

    3. dummyanalyst says:

      just another dummy analyst using a narrow measure statistic as a sign of coming inflation…

      based on this bozo’s argument… the dramatic increase in the monetary base seen just prior to the great depression was a harbinger of coming inflation… LMFAO… oh man… the ignorance goes on and on and on.

    4. Pingback: Inflation on the way? | Love Me Some Liberty

    5. Dave Bissett says:

      It's interesting to note that during this bust, rent for housing has increased. You would think it would drop. Changes to the money supply take time to trickle into the economy. Government employees recently hired will benefit first, buying cheap goods before enflation has an effect.

      If government is successful in creating inflation by printing fiat dollars, then even the assets it bought at pennies on the dollar will have been a good deal, to be sold later on and at higher prices.

      Alaska was bought at one time for cheap, even today with a crash it's worth more now then what it was bought for

    6. IJN316 says:

      Pres Obama and the Dem Congress spending and taxing ourselves out of this economic crisis is insane. Some of us remember the Carter late 70's with 14% unemployment, 21% inflation, 16% mortgage rates, gas wars….History repeats itself when we make the same mistakes.

      Code word for socialism is "leveling the playing field"…

    7. Pingback: Government Now Needs All That Bailout Money Back « OSPRI BLOG

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