Juggling in an Elevator

Once it has finished its initial acceleration, and has reached its steady speed of about 30ft/sec, you can juggle in a descending  elevator just like you would standing on the floor waiting for the elevator. Seen from outside, your upward toss of maybe 15ft/sec would be revealed as not an upward toss, but a reduction in how fast the ball is descending, but from inside the elevator, it still looks like an upward toss. Looking at inflation only from the perspective of consumer prices can lead us to a similar deception. Government economists speak of the dangers of deflation and assure us that inflation is well under control, but is that true?

A currency is stable when the money supply keeps pace with the growth in goods and services produced within the country. But with millions out of work and businesses cutting back across the country, can we logically agree that our real output of goods and services is keeping pace with the real money supply? (M2 graph from Wikipedia) Of course not. Our output of goods and services has declined since 2007, while money supply, through loose credit and Federal Reserve actions has grown at record levels. Monetarily, we are in the midst of an inflation not seen since the Carter administration.

So, why don’t we see the wage and price escalation we associate with inflation?Because we aren’t looking outside the elevator.

Prices are set by supply and demand, and demand is so low, due to high unemployment and low consumer confidence, that prices cannot rise. Businesses can’t raise prices, so they just don’t grow or produce at capacity. They can’t, because outside the elevator, the costs of production are visible to them. Prices for gold, industrial metals, oil, and other nation’s currencies,which allow us to see outside the elevator, are rapidly rising.So, the monetary inflation which is taking place is, for now, expressed in high unemployment and low growth instead of rising prices, because US businesses cannot sell their wares at prices which make it worth producing them.

As soon as we get any measurable real recovery in our economy, the trillions of dollars of capital business is sitting on, out on the sidelines, will come out and that hidden inflation will be expressed in more traditional measurements such as prices and wages. But by then it will be too late to properly manage that inflation, as it will have already occurred.

So, how did we get into this mess? John Maynard Keynes advocated leveling out the highs and lows of the business cycle with government spending to stimulate aggregate demand in the lows to encourage full employment, but he also advocated generally frugal government and paying off government debt in good times. The Pseudo-Keynesians who have been the darlings of both major parties for the last 30 years have instead engaged in constant stimulation of the economy, in good times and bad, with only the means of stimulus changing with the change in majority status.

These policies of eternal stimulus, primarily through the actions of the Federal Reserve, have left us with a money supply which bears no relationship to the country’s true wealth or production.

But like juggling in that elevator, sooner or later, the car stops and you return to the real world.

3 Responses to Juggling in an Elevator

  1. Glen Bowman says:

    Does increasing money supply NECESSARILY lead to asset inflation?

    Usually, but not always. As always, the answer from the data is, it DEPENDS.

    Increasing money supply can (usually) lead to increased bank lending, since banks can lend out many times over the deposits it has on hand.

    THAT’S where the inflation can come from (remember the real estate bubble?).

    But ARE banks taking advantage of their leverage and lending money NOW?


    Percentage-wise, bank lending has fallen to around a six-decade LOW. You have noticed banks CLOSING, not cropping up to lend money, right?

    The number of commercial real estate loans still to be written off are mind-boggling; corporations (including banks) are cleaning up their balance sheets, not plowing it into the economy. Hence the absence of inflation.

    Gold bugs who are looking (and praying?) for inflation are (once again) out of touch. Glenn Beck and his followers better lock in some of their gains in gold!

    We are living in unusual times, and what may seem counter-intuitive may actually be true.

  2. Glen Bowman says:

    But we have deficits and spending, so therefore hyperinflation is coming.

    Sounds good, but a thoroughly unpersuasive argument, in THIS weird economic environment.

    Japan cut rates, overspent, and borrowed, and they have had, what, twenty years of DEFLATION. NOT inflation. Japan used to be the 2nd largest economy in the world (now 3rd), so the analogy is valid.

    Some were short Japanese gov’t bonds because they thought it was an easy short (how much lower can those yields go, so went the argument).

    Until the slack in the labor market is reduced (low weekly hours, high unemployment) inflation simply is not a threat.

    The 10 year is close to record low yields. Obviously, bond buyers (arguably the most astute investor) are looking for more economic softness, not inflation.

    When the Bid to Cover ratio of the Treasury Bonds comes way down (at the moment it is oversubscribed by a factor over four), that will be a sign of impending inflation. Buyers will start demanding greater yield, and THEN we will know that inflation is coming.

    When that moment comes, it will be time to short gov’t paper, but that moment is certainly not now. At least not with MY money! 🙂

    • Don Tabor says:

      Thanks for the visit. I am late responding as I was at a Halloween party last night.

      From your reply, I would think that you are looking at it as an investment matter, which is OK, and good luck to you in exploiting the roller coaster, but keep in mind that viewpoint is necessarily from within the elevator.

      I too am making preparations for getting out of bonds and into inflation hedges when the time is right, though shorting requires a precision of timing I don’t claim to have and expertise I lack.

      But for the purposes of political comment, I think we should look at this from a policy point of view. Assume we are successful in getting out of bonds at the right time, or even shorting them. That would be good for us, but someone is going to get hurt holding those bonds. Probably pensioners and people with managed retirement accounts will find no chair when the music stops. Do we want to be the guys hated for taking advantage of the collapse of the bond market, the next Goldman-Sachs?

      The harm in bubbles is not because of the collapse but in having a bubble in the first place. And this easy money, perpetual stimulus policy from Washington and the Fed is responsible for one bubble after another, often as a result of trying to fix the previous bubble.

      As to the basic question of whether current policies are inflationary and their effect is inevitable, though temporarily delayed, can you posit a happy ending to the current imbalance of money supply and the real wealth and productivity of the nation without a runaway inflation at some point? Because I can’t. I don’t see any way out of this trap what doesn’t hurt someone very badly, and likely it will be my grandchildren.

      I don’t see wealth and productivity catching up with the current, insanely high, money supply, under the conditions of low demand and investment we now have, and further Pseudo-Keynseian stimulus would require adding to the money supply and making the inevitable stagflation even worse. It looks like a long, slow climb out, a la Japan, might be the best we can hope for.

      So, what is the exit strategy that doesn’t involve ruining someone’s life?

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