Many investors pigeon-hole themselves as “inflationists” or
“deflationists”, where an inflationist is someone who expects more inflation
over the years ahead and a deflationist is someone who expects deflation. I
am grudgingly in the inflation camp, because the overall case for more
inflation is strong.
I use the word “grudgingly” in the above sentence for two reasons. First,
more inflation adds to the existing economic problems and will eventually
result in major social upheaval, so when I predict that there will be
inflation as far as the eye can see I don’t want to be right. Second, it
means that I get lumped together with the perennial forecasters of imminent
hyperinflation, even though my only mentions of hyperinflation over the past
17 years were to explain why it had zero probability of happening anytime
soon.
With regard to the US situation, the main reason the case for more
inflation is strong is that it doesn’t depend on private-sector credit
expansion; it depends on the ability and willingness of the Fed to monetise
sufficient assets to keep the total supply of money growing. A consistent
theme in my commentaries over the 17 years since the birth of the TSI
subscription service has been that the Fed could and would keep the inflation
going after the private sector became saturated with debt.
Prior to 2008 there was very little in the way of empirical evidence to
support the belief that the Fed could keep the inflation going in the face of
a private-sector credit contraction, but that’s no longer the case. Thanks to
what happened during 2008-2014 we can now be certain that the Fed has the
ability to counteract the effects on money supply, asset prices and the
so-called “general price level” of widespread private-sector de-leveraging.
The only question left open to debate is: will the Fed CHOOSE to do whatever
it takes to keep the inflation going in the future?
Based on the publicly-stated views of those who operate the monetary
levers as well as on the economic remedies prescribed by today’s most
influential economists and financial journalists, there’s a high probability
that the answer is yes. At least, there is a high probability that the answer
will be yes until the fear of inflation becomes much greater than the fear of
deflation. However, the Fed is faced with a difficult challenge. It does not
(I assume) want to engineer a steep decline in the dollar’s purchasing power,
so every step of the way it tries to do no more than the minimum necessary to
ensure a steady and modest rate of purchasing-power loss, with 2%-per-year
having become the semi-official target.
The challenge is actually more than difficult; it’s impossible. The
impossible-to-solve problem faced by the Fed and all the other central banks
is that it can never be determined, in real time, what the aforementioned
“minimum” is, because money-supply changes affect the economy in
unpredictable ways and with large/variable delays. The economy therefore ends
up careening all over the place and we occasionally get deflation scares,
which are periods when it seems as if genuine deflation is about to happen.
Paradoxically, the deflation scares are highly inflationary because they
always prompt the Fed to ramp up the rate of money pumping, but while a
deflation scare is in progress it can feel like the deflationists are finally
going to be right.
I’m not ruling out the possibility that the deflationists will eventually
be right. I hope that they will be right in the not-too-distant future,
because more inflation will only add to the economic distortions and lead to
an even bigger problem down the track. It’s just that they are, in effect,
betting that devotees to the central planning ideology will suddenly realise
the error of their ways and let nature take its course. The odds are very
much against this bet paying off.
