Tuesday, October 28, 2008

Inflation? Naw . . . Bad Economics? Yeah . . .

That giant sucking sound?
That's the tempest readying itself . . .

There is an inflationary spike somewhere out there.
Here is a longer-term view:

Notice how this spike dwarfs 2001 post-9/11.

Monetary Trends
Research Division of the Federal Reserve Bank of St. Louis
November 2008

This won't/can't (please!) continue: by doing so the Fed is both providing the mustard-seeds for the next bubble/bubble-correction, as well as creating inflation.

And while we're at it: let's take a moment on the basic economics of this bailout. Basically, the government has determined to accommodate a higher deficit through this bailout (though watch for the creative accounting techniques that will be used to somehow try to keep this "off the books"). What are the federal government's options to make this accommodation? There are four (4) basic options:
  1. The government can sell its debt domestically and suffer high interest rates;
  2. The government can monetize its debt and suffer inflation;
  3. The government can export its debt and suffer an international trade imbalance;
  4. The government can increase taxes.
These are the basic options for raising more funds. Realistically, the feds will not rely on only one solution too heavily but, instead, will pursue all avenues simultaneously. Theoretically, the most "rational" approach is for the feds to borrow domestically, monetize, sell debt abroad, and levy taxes until the last dollar raised is equally burdensome - so to speak - to the voting public.

Since none of these are popular actions, it provides an interesting case for discovering the ways of human nature in political actions. Over the last century or so, in its efforts to find ever new ways of masking our ability to perceive the true costs involved, the fed has gone from taxing directly to borrowing domestically to monetizing debt to exporting debt to hiding debt (think of the accounting-rules change under the Clinton administration in the late 1990s to hide the true deficit, and thereby create a "surplus").

Now, I just finished saying the feds will not rely on only one solution too heavily; but, there are constraints. If foreign governments can't or won't invest in our debt, option (3) is reduced and creates greater pressure on the other three options, etc. So far, the feds have relied most heavily on option (2), hence the charts above. We'll have to wait to see what comes next.

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