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Below is an excerpt from a commentary
originally posted at www.speculative-investor.com on 29th October
2009.
The
following chart shows that bank reserves held at the Fed have increased
100-fold over the past 14 months -- from around $10B in August of 2008 to around
$1000B ($1T) today. It is important to understand that while this explosion
in the reserves of US depository institutions has rightfully prompted much
discussion and consternation, it hasn't directly added to the total supply of
US dollars (bank reserves are not counted in monetary aggregates such as M1,
M2, M3, MZM and TMS). The reason that bank reserves aren't added to the money
supply is that they do not constitute money available to be spent within the
economy; rather, they constitute money that could be loaned into the economy
or used to support additional bank lending in the future.
Bank
lending in the US has declined on a year-over-year basis, so we know that the
spectacular increase in reserves has not YET contributed to monetary
inflation. Many analysts and economists view this as a problem, their belief
being that the banking industry should support the economy by putting its
excess reserves to work. To be more specific, they want the banks to lend
more new money into existence on the basis that more debt is 'just what the
doctor ordered' for an economy weighed down by the highest debt levels in
history.
Not
surprisingly, we see things differently. We think it is fortunate that banks
have, to date, chosen to 'sit' on their reserves, because if they decided to
use the reserves to support trillions of dollars of additional lending then
the inevitable result would not only be an even more troublesome debt burden;
it would also be an inflation problem of immensely destructive proportions.
Even
with the decline in bank lending and the general de-leveraging that has
occurred within the private sector, the government-Fed tag team has managed
to increase the US money supply by around 14% over the past year. If the
private banks were to join the inflation party then the risk of hyperinflation
would greatly increase, and hyperinflation -- leading to what Mises called a
"crack-up boom" -- would be the worst of all possible outcomes. In
particular, it would be an order of magnitude worse than the deflation that
many people still seem to be worried about.
Steve Saville
www.speculative-investor.com
Also by Steve Saville
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