Inflation - A Study

Plenty of people believe the US government and the Federal Reserve when they say that inflation is benign.  However if you review their policies you will know that inflation is inevitable and that this scam has been played out decade after decade.  In order to address this I have provided you a brief study on inflation and its causes.

How is inflation created?  Well it is a policy not a requirement.  The policy is determined at the government and the Federal Reserve levels.  In our case Bernanke has as his mantra that there will be no deflation and so he is doing everything in his power to re-inflate while still preaching no inflation!

How is he doing this?  Well there is really only one way to create inflation and that is to create a larger pool of money.  In the good old days of the gold standard there was no inflation as you had to add to your gold reserves in order to create an increase in the money supply.  With the move to the current fiat money system it is easy to increase the money supply; just start your printers.  In fact in the US it is even easier than anywhere else as all the money is the same size so just change the number on the bill and there you are.

Creating money supply means that there is more money chasing the same basket of goods.  More demand leads to higher prices.  Now the argument against this theory is that the velocity of money is stagnant so there is no inflation.  Velocity of money is the term used to define how many times a dollar moves through the system.  Money times velocity equals a country's GDP so a low velocity of money can offset massive money printing.  Well to some degree this is correct.  The cogs of the wheels of commerce have ground to a halt as banks try to recapitalize their balance sheets and so the bulk of the money being printed is locked up in bank vaults.  This is a temporary state of affairs as regardless of where the money goes it will ultimately create inflation.

How is this possible?  At present if you are a banker and you are with one of the fortunate banks that was rescued by the Federal Reserve you are enjoying unprecedented profits.  You are sending out massive bonuses to your staff and life is good.  The rest of the country and most citizens do not feel this joy initially until this money starts to roll into other areas of the economy.  So let's follow the thread a bit more closely.

After watching the bankers get their bonuses commodities started to move.  Oil moved up from $30 a barrel to over $90, gold moved from $800 an ounce to over $1,400, wheat moved from $5 a bushel to $8 a bushel, and on and on it went in the commodity world.  So now you have the farmers and the miners suddenly quiet as they are now enjoying the benefits of inflation. 

What about the masses?  At what point do they share in this joy?  Well that is the problem with inflation.  Certain groups enjoy the riches and the rest are left to pay the price and that is precisely what is happening.  Furthermore as the money printing was not working that effectively the policy has been accelerated through a weak dollar.

A weak dollar increases the price of all imported goods and commodities thereby accelerating the inflation rate.  This is "stealth" inflation as most citizens do not tie the impact of a weak currency on the inflation rate.  To this end the government is playing a very dangerous hand.  In thinking that they can continue to print money to the order of $3T over the next three years on top of the already $14T of debt and keep inflation under control is sheer lunacy.  It is clear that the dollar will continue to slide and at some point this may turn into a complete collapse when the world finally loses faith in the US and its policies.

Apparently (according to our leadership) this is not a problem as long as we study the core rate of inflation rather than general price moves and as long as the stock market keeps going up.  Once again the bankers are enjoying that ride as the bulk of the citizens have limited exposure to the stock market.  Furthermore I believe that the market itself is being manipulated by the key players at the expense of the common man.  Be very careful of this market, do not chase it higher, look to short long term treasuries and watch the dollar closely for signs that the orderly demise has turned into a rout.