Tuesday, September 15, 2009

What Will Be the Outcome of Abnormally High Money Growth Rates?

Inflation, naturally.

I hope they can bring them down before it's too late. But everything conspires against keeping inflation down. Money growth rates are high, money stocks are very high, and interest rates are at their historical bottom, meaning that velocity of money can only go up. The state of public finances is disastrous, what for sure will keep economic growth lukewarm, even as we get out of the recession. I wouldn't count on any help coming from the real side of the quantity equation.

So, let's put it all together: high money growth rates, low output growth rates, permanent reductions in aggregate supply due to a lack of government commitment to free markets, free trade and private investments, and heightened expectations of deteriorating public finances and increased taxation. Add to the mix the inevitable rise in the velocity of money as interest rates go up, and the only possible outcome is inflation.

Unless naturally, the administration finally recognizes that it's doing everything wrong and goes into full reverse before it's too late. Any hope that they will do it? How high will real interest rates have to go? Will the Fed be able to pull a hat trick this time and keep inflation low without any help from fiscal authorities? Well, I'm not betting on it - literally, with my own money.

M1 and M2 historical growth rates follow below. Click on the pictures to see how high they're right now.


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