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Tuesday, December 1, 2009

A (Small) Rant by Me, followed by Steve Saville: Inflating Away the Debt? Not Really

I wrote this earlier today in my other blog and am reposting here. I am not expecting much agreement. That's fine, I am not looking for it. Just offering up my viewpoint.

My rant is at the beginning in black and Saville's article is at the end in blue.


Another good read by Saville. He has said these things before, but they are definitely worth saying again.

I think the outcome will be inflationary. That has been the plan (by the government, Treasury, and Fed) all along. Inflation = monetary inflation. Inflation is *NOT* price inflation. The first is a cause, the second is an effect.

Blah, blah, blah, monstrous debt, blah, blah, blah, debt collapse, blah, blah, blah, velocity of money.... As you can tell, I don't really buy the deflationist argument. And it's not like I don't understand it, or think it is completely meritless, it is simply not the primary force. And instead of writing a nice rebuttal (which I have done more times than I can remember) I am being lazy, blunt and a bit imprecise.

I do think we will get another deflation scare (much like the last one), but as long as there is a Federal reserve, the outcome will be inflationary

And for everybody arguing that monetary inflation will lead to the nominal increase of all assets denominated in Federal Reserve Notes (US Dollars) .... You are wrong.

Again, I have said this more politely and eloquently in the past. But I am cranky today, so I am being blunt. Sue me.

Inflation helps the government. First and foremost. In terms of the debt burden, it directly helps the inflators (the public debt issuers), it screws the debt holders (China and Japan mostly in the case of US Treasuries). It does *not* directly benefit the citizens of debt issuing nations.



Inflation enters into the economy very unevenly and in fact changes the structure of the economy. It is no accident how financially top-heavy our economy has become. The government benefits first, then industries most closely tied to the government (finanicals), and last on the food chain (as always) is the general public.

That may not sit well with a lot of you. Sorry, but it's true.

The only way assets price would go up / debt burdens would go down across the board would be if the inflated money by-passed the Treasury / government / financials and went directly to the populace. Ben's famous "helicopter drop" analogy. But even then the benefit is completely illusory (as prices across the board would increase evenly for everybody).

So inflation as we have it now disproportionately helps the very few and hurts the majority.

Getting back to asset prices: monetary inflation does not lead to across the board even price inflation. Even in an inflationary environment, the price (both nominal but most especially real) of many assets will fall. This is a demand issue due to poor fundamentals and mal-investment at the macro level and not because of "deflation".

The price of real goods (commodities) and most especially gold will rise in an inflationary environment and most other assets (such as equities as a general asset class) will fall.

Things you own fall in value, and then things everybody needs to buy will cost more.


Inflating Away the Debt? Not Really -- http://news.goldseek.com/SpeculativeInvestor/1259651220.php
by Steve Saville

December 01, 2009

According to popular opinion, a benefit of inflation is that it reduces the debt burden by reducing the value of the currency in which the debt must be repaid. An associated belief is that when the Fed and other central banks create money out of nothing they are acting to "inflate away" the debt and are thus performing a useful service on behalf of everyone who owes a lot of money. But as is often the case when it comes to central-bank and government manipulations of money and credit, there's a big difference between the way things are commonly portrayed/perceived and the way they are in reality.

If the central bank and the government really wanted to inflate-away the debt then they could do it by handing out money to everyone in proportion to each person's existing holding of money. For example, a 20% increase in the money supply could be effected by giving everyone a dollar for every five dollars they currently held, so someone who previously had a $10,000 savings account would suddenly have $12,000 in their account. Because the new money would be spread throughout the economy in proportion to the original distribution of money, and because everyone would be aware of what was going on, a broad-based increase in prices (a reduction in the purchasing power of money) would quickly follow the money-supply increase. This, we think, would be the least-harmful way to inflate the money supply, and it could actually create a benefit to most debtors (at the expense of most creditors).

However, the primary purpose of monetary inflation is NOT to inflate away the general public's debt. Its purpose is, instead, to help or reward special interest groups with the aim of attaining, or retaining, political power. As we've explained in many earlier commentaries, the new money doesn't get evenly distributed throughout the economy; it enters the economy at discreet points and benefits the first users at the expense of everyone else.

In the US, the government is by far the biggest beneficiary of monetary inflation, followed by the banks. Via the power of inflation, the US government has managed to transfer massive wealth from the rest of the economy to the banking industry over the past 15 months. It was also able to obtain for itself a large slice of the US auto industry, and is now preparing to drastically expand its control over healthcare and energy production/consumption. It's amazing what you can accomplish when you can create, for yourself, an unlimited amount of legal tender.

The money that the government creates for itself via the tool known as the central bank will eventually ripple through the economy and find its way into the bank accounts and wallets of average working men, but by that time living expenses and interest rates will have risen by enough to more than offset any possible 'benefit'. Moreover, the number of working men will be less, because the economic distortions wrought by the monetary inflation will result in greater unemployment.

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