Nearly a year ago, Mike Moffatt and I independently posted items in which we didn't focus on (or, in my case, overlooked) the short-run implications of the credit meltdown. Instead we wondered, even fretted, that gubmnts might try to stimulate their economies both with monetary policy and with monetized debt, both of which would lead to higher inflation rates in the future.
Let's face it. We were right. here is one succinct statement of the situation [h/t to BenS]:
[W]ill it be possible to fund the massive budget deficits, and now creation and expansion of new government policies, without at some point resorting to monetizing the debt[?] It is hard to see how, especially if heavier regulation and slower-growth policies are adopted.
Perhaps less-known but more frightening is the incredible growth in the money supply over the past year or so. I first found out about this a few weeks ago in this post by Peter Robinson which links to this extraordinary graph from the St. Louis Fed. Note the 2009 figures (and below the chart you can click on it to see different benchmark comparisons).
Why has this incredible boost in the money supply had no impact? Presumably because the "velocity" of money has remained low--people and banks are hoarding money, rather than spending, borrowing, and lending it. Assuming velocity rises again, however, we may be looking at an inflationary spiral like we've never seen before in this country.
....
Here is the graph referred to in the above excerpt. It shows the adjusted monetary base in the US from about 1910 to the present. Is that last skyrocketing of the adjusted monetary base scary or what??!!!
As I wrote to BenS and company in response to their questions about the above segment,
"This is almost certainly
correct. I was writing and worrying about this problem (as a potential problem,
mind you) a year ago. And last week I listened to a podcast of Alan Meltzer
saying similar things.
"The quantity equation of money says MV = PQ, where M is the money supply, V is
the number of times (on average) that each dollar is spent in the economy, P is
the overall price level, and Q is the output of real goods and services. [For more on the quantity theory, see this link, supplied by Jack; note, too that concern about monetizing the debt is consistent with both the quantity theory and the fiscal theory of inflation.]
"If Q isn’t growing much, and if M is skyrocketing, then the only things that
can happen to keep both sides of the equation equal to each other are (1) a drop in V and/or (2) an increase in P. So far, because of fear,
risk, etc., V is dropping like mad because of the desire by so many of us to stay liquid and hold portfolios with very low risk. The
drop in V is helping to keep prices from rising much. Also, the phenomenal drop
in oil and food prices is helping to keep prices down. But over the next 6 -12
months, watch for V to increase as people start to spend more and invest more.
And then watch out for 1980s style stagflation all over again.
"Both Bush and Obama tried for the political sop of short-term stimulation. What
the world will suffer from, though, is long-term over-involvement in the economy by
gubmnts, massive inflationary pressures, probably more price controls to try
stifle inflation, and even as we come out of the recession (and as a result of
the rising social safety net) more unemployment --- hence stagflation.
"These long-term problems worry me much more than the current downturn."
Meanwhile, many learned economists are still concerned about making sure the Fed re-inflates the economy in the short-run (see this, h/t to libfree). If they are correct that the economy needs re-inflating (I'm skeptical), and if they are correct that monetary policy can do this without expanding the size of gubmnt even more (I'm not so sure on this one either, but I guess the Fed could start massive purchases of longer-term gubmnt bonds), and if they are correct that such monetary policies can be effectively timed and reversed when all this liquidity really floods the markets for goods and services (and especially commodities), well maybe I will go along with them. But I really doubt it.