Saturday, February 12, 2011

Is Price Inflation Coming?

Robert Murphy has written an article, published on the Mises Institute website, on the subject of price inflation.  Murphy is one who has predicted stagflation.  The recession part of it has been correct, especially with unemployment so high.  But Murphy admits that there has been little vindication yet when it comes to price inflation.

Some libertarians would argue that we have price inflation.  We can look at health insurance, grocery prices, college tuition, and the stock market.  For the stock market, this is an asset class that is not a good qualification for consumer goods.  While monetary inflation certainly causes asset bubbles, it is hard to put this into the category of price inflation, only because it is not seen as a bad thing by the general population.

It is hard to count college tuition and healthcare costs because the government is so heavily involved.  All of the regulations raise prices for us and it doesn't matter whether there is inflation or not.

For grocery prices, this is certainly a consumer good and it affects everyone.  The only problem is, while prices have been going up a little, it is not significant enough to grab people's attention.  People can live with a 5% rise in grocery prices for a year.  It may not even be that high.

So while we certainly have monetary inflation, we do not have high price inflation.  I know many libertarians don't like the CPI, but it is still a good measurement of the trend and it is showing that price inflation is still low.

In his article, Murphy shows a long-term chart of the adjusted monetary base.  You can see where it more than doubled, starting in late 2008.  We have never seen anything like this.  We also haven't seen excess reserves increase like they have.  We are in a unique situation in modern day America.

While Bernanke seems to like the current situation where all of the monetary inflation has gone into excess reserves, I don't think it can last forever.  Even if it did last forever, there will be a shakeout eventually.  There was a lot of malinvestment from the Fed's loose monetary policy of the 1990's and 2000's.  A lot of resources were diverted into unsustainable things like real estate.  These resources need to adjust back to their proper place according to consumers.  This can take time and it will take a lot more time when the government is interfering with the correction process.

Whether the banks start to lend or not, Bernanke and the Fed will be faced with a choice sooner or later. They will have to choose between massive price inflation and depression.  I still think they will choose price inflation to begin with, if it is just to kick the can down the road.  Ultimately, the Fed will have to tighten up its monetary stance to avoid hyperinflation.  This will cause a massive depression that most people have never seen.

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