Best of the Week
Most Popular
1. Crude Oil Price Trend Forecast - Saudi's Want $100 for ARAMCO Stock IPO - Nadeem_Walayat
2.Gold Price Focusing on May Cycle Bottom - Jim_Curry
3.Silver, silver, and silver! There’s More Than Silver, People! - P_Radomski_CFA
4.Is the Malaysian Economy a Potemkin Village - Sam_Chee_Kong
5.Stock Market Study Shows Why You Shouldn’t “Sell in May and Go Away” - Troy_Bombardia
6.A Big Stock Market Shock is About to Start - Martin C
7.A Long Term Gold Very Unpopular View - Rambus_Chartology
8.Stock Market “Sell in May and go away” Study When Stocks Are Down YTD - Troy_Bombardia
9.Global Currency RESET Challenge: Ultimate Twist - Jim_Willie_CB
10.The Coming Silver Supply Crunch Is Worse Than You Know - Jeff Clark
Last 7 days
What to Expect at a Critical Stock Market Point: End of a Wave 2 Rally - 25th May 18
Merlin Passes Top Tips for Buying and Using Premium vs Standard, Theme Parks UK - 25th May 18
Trump “Victories” on Trade are Anything But - 25th May 18
Crude Oil: It’s Here! - 25th May 18
Stock Market Distribution Pattern Revealed - 25th May 18
Stock Market Topping - Everything Looks Rosy at the End of a Trend! - 25th May 18
Trump Puts North Korea Nuclear WAR Back on Track as Plans for Nobel Peace Prize Evaporate - 25th May 18
Insane EU GDPR SCAM Triggers Mass Email Spam Attacks! - 24th May 18
Stock Market Higher Again, but Still No Breakout - 24th May 18
Study: Slowing Global Economic Growth IS NOT Bearish for U.S. Stocks - 24th May 18
What if This Week’s Rally in Gold is Already Over? - 24th May 18
EUR/USD – Reward for Bears - 24th May 18
5 Terrible Trading Mistakes That Rookie Investors Keep Making - 24th May 18
More Clarity for the Short Term for Bitcoin Price - 22nd May 18
Study: A Rising and Strong U.S. Dollar Isn’t Consistently Bearish for the Stock Market - 22nd May 18
Gold, Silver & US Dollar Updates with Review of Latest COTS - 22nd May 18
Upside DOW Stock Market Breakout May Be Just the Beginning - 22nd May 18
5 Reasons Why Forex Trading Is Becoming Such A Big Deal In SA - 22nd May 18
Fibonacci And Elliot Wave Predict Stock Market Breakout Highs - 21st May 18
Stock Market Ideal Cycle Low Near - 21st May 18
5 Effects Of Currency Fluctuations On The Economy - 21st May 18
Financial Conditions are Still too Easy for the Stocks Bull Market to End - 21st May 18
US Stock Market Elliott Wave Predictions for 2018 and Beyond - 20th May 18
Are You Still Fearful of Cryptos? - 20th May 18
US Stocks - Why I am Short-term Bearish, Medium-term Bullish - 20th May 18
Looking for a Turn in Gold Price - 20th May 18
GDX Gold Mining Stock Fundamentals 2018 - 19th May 18
Semiconductor Stock Market Canaries: Chirp, Warble… Soon a Croak and Silence? - 19th May 18
Three Drivers of Gold Price - 18th May 18
Gold Market in First Tertile of 2018 - 18th May 18

Market Oracle FREE Newsletter

Trading Lessons

Why There's No Real Inflation - Yet

Economics / Inflation Jan 30, 2013 - 01:16 PM GMT

By: Money_Morning

Economics

Martin Hutchinson writes: According to Milton Friedman, "inflation is always and everywhere a monetary phenomenon."

If that is true, then you have to wonder where the heck all of the inflation is.

Every central bank in the Western world is holding interest rates down, and almost all of them are printing money like it's going out of style.


Five years ago, nearly every economist in the world would have told you this would cause inflation to skyrocket, and the big deficits governments were running would make matters even worse.

Taken together, monetary and fiscal policies are far more extreme than they have ever been.

Yet, inflation has remained rather tame at 2%. In Friedman's world that just wouldn't be possible.

What does it all mean?....

It means even Nobel Prize-winning economists can get it wrong-at least in the short run.

Here's why Friedman has been wrong on inflation so far. It starts with his basic theory.

Friedman's Theory on Inflation
The central equation of Friedman's monetary theory is M*V=P*Y, where M is the money supply, Y is Gross Domestic Product, P is the price level and V is the "velocity" of money, thought of intuitively as the speed at which money moves around the economy.

In this case, the M2 money supply has been increased by 11.5% in the last two months and 8.2% in the past year, while the St. Louis Fed's Money of Zero Maturity (the nearest we can get to the old M3) has increased by 13.1% in the last two months and 8.4% in the last year.

Since GDP is increasing at barely 2%, that ought to mean prices should increase by 6%, just based on the last year's data alone.

Needless to say, that's not happening, since consumer price inflation is under 2%.

Of course, monetarists will tell you that money supply produces inflation only with a lag.

Fine, but it's also true that the M2 money supply has been increasing by 7.4% over the last five years. Admittedly, there was a year in mid-2009-2010 when it stayed flat, but otherwise the monetary base has been increasing at about 8-10% per year.

Again, growth in those five years has been below 2%, and five years is longer than anyone thinks the lag should be. So why isn't inflation at least 5% not 2%?

Monetarists would explain that by telling you that monetary velocity has declined over the last five years.

That's obvious from the equation, but what is monetary velocity and why has it declined?

The velocity of money is simply the average frequency with which a unit of money is spent in a specific period of time. And in our day-to-day activities, it's obvious that monetary velocity has in fact increased.

More people are using debit cards, which cause transactions to move instantaneously from the bank account to the merchant, and many people are using Internet banking, which similarly increases the speed of transactions, reducing both the amount of physical cash carried and the time that old-fashioned checks spend sitting in storage at the U.S. Postal Service.

So what is the problem?

Monetarists will tell you that the decline in monetary velocity is due to the massive balances, over $1 trillion, which the banks have on deposit with the Fed, which just sit there and do nothing.

That's probably correct since while the deposits exist, the ordinary mechanisms of monetary movement simply don't work, since that money has no velocity.

As a result, Bernanke and his overseas cohorts have succeeded in saving themselves from being hindered by a surge in inflation.

The Japanese experience over the last 20 years suggests that this position, with a huge money supply and no inflation, may continue for 20 years or more.

In short, thanks to the banks, Freidman's monetary theory has simply stopped working.

Why Inflation is Headed Our Way Eventually
It's not clear to me whether at some point the banks will start lending the trillion-dollar balances at the Fed, in which case inflation will revive rapidly.

However, there is one other economic theory that is relevant here.

Austrian economists like Ludwig von Mises will tell you that ultra-low interest rates will create an orgy of speculation, in which markets create a huge volume of "malinvestment" - investment that should not economically have been made, and which has less value than its cost.

Eventually-like it did in 1929, the volume of malinvestment becomes so great that a crash occurs, in which all the bad investments have to be written off, huge losses are taken and a wave of bankruptcies sweeps across the economy.

This didn't happen in Japan. The banks went on lending to bad companies, creating a collection of zombies which sapped the vitality from the Japanese economy and has produced more than 20 years of economic stagnation.

In Japan, the politicians have even decided to print more money and do still more deficit spending. Since Japan has debt of 230% of GDP this will almost certainly produce a crisis of confidence, in which buyers stop buying Japan Government Bonds. That will cause the government to default and will more or less shut down the Japanese economy - the worst possible outcome.

Since politicians hate periods of liquidation, they could encourage the same behavior here, in which case growth will continue at current sluggish rates until the Federal deficit becomes so great that nobody will buy U.S. Treasuries.

Again, without a Treasury market, there will be an economic collapse.

At that point, you're likely to get all the inflation you want - it's basically what happened in the German Weimar Republic in 1923.

The point is, Bernanke has created something of a new monetary ground, increasing the money supply rapidly without getting inflation. But it won't last.

At some point we'll get hyperinflation and probably a Treasury default.

For investors the action to take is obvious: Buy gold. At some point fairly soon, you'll need it.

Source :http://moneymorning.com/2013/01/30/why-theres-no-real-inflation-yet/

Money Morning/The Money Map Report

©2013 Monument Street Publishing. All Rights Reserved. Protected by copyright laws of the United States and international treaties. Any reproduction, copying, or redistribution (electronic or otherwise, including on the world wide web), of content from this website, in whole or in part, is strictly prohibited without the express written permission of Monument Street Publishing. 105 West Monument Street, Baltimore MD 21201, Email: customerservice@moneymorning.com

Disclaimer: Nothing published by Money Morning should be considered personalized investment advice. Although our employees may answer your general customer service questions, they are not licensed under securities laws to address your particular investment situation. No communication by our employees to you should be deemed as personalized investent advice. We expressly forbid our writers from having a financial interest in any security recommended to our readers. All of our employees and agents must wait 24 hours after on-line publication, or after the mailing of printed-only publication prior to following an initial recommendation. Any investments recommended by Money Morning should be made only after consulting with your investment advisor and only after reviewing the prospectus or financial statements of the company.

Money Morning Archive

© 2005-2018 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules