Fears that new liquidity cycle will stoke inflation

Financial Times ^ | March 16 2008 | Chris Flood

[Aristotelian]

Efforts by the Federal Reserve to restore order to financial markets are about to enter a new and potentially dangerous phase.

The Fed is expected to cut US interest rates by 75 basis points to 2.25 per cent, following its recent, more aggressive policy moves to improve liquidity conditions. There re-mains a clear possibility that interest rates will only be reduced by 50 basis points as policymakers attempt to evaluate the impact of their earlier efforts to restore confidence to financial markets.

Joachim Fels of Morgan Stanley says the Fed is about to enter a new phase in the easing of monetary policy that will take real interest rates below zero. This would be achieved with a 75 basis point cut. Morgan Stanley forecasts a further 50 basis points reduction to 1.75 per cent in April and rates to then remain on hold for the remainder of 2008.

Mr Fels says this marks the start of a new global liquidity cycle in which the combined but not necessarily co-ordinated efforts of central banks should lift growth and asset prices in 2009. However, the clear danger is that easier monetary policies will cement a new regime of higher global inflation, undoing years of hard work by policymakers to anchor price stability and inflation expectations.

[Aristotelian]

Inflation = too much money chasing too few goods

[Capt. Tom]

Inflation = too much money chasing too few goods

That's one way of looking at it.

I look at as other countries finding out you are just printing more money to spend without corresponding budget cuts, so they want more money for their goods because you devalued your currency. - tom

[TCats]

"Inflation = too much money chasing too few goods"

AKA as 'Demand Pull'. We also have a good case of 'Cost Push' Inflation as well. A double whammy that is almost certain to complete the destruction of the Dollar engineered by our Gov'ts Fiscal and Monetary Policies.

[bjs1779]

[trumandogz]

I look at as other countries finding out you are just printing more money to spend without corresponding budget cuts, so they want more money for their goods because you devalued your currency. - tom

Good Job, looks like you paid attention in Economics class in high school However, it is unfortunate and far too many Americans elected not to pay attention in their high school economics class and have no understanding whatsoever of the subject and how it impacts their daily life.

So yes, that money in your pocket in worth 30% less than it was a couple years ago due to out of control federal spending and the devaluation of our currency. We are living in a time that is no different than the Jimmy Carter inflation of the 1070's.

[KantianBurke]

“However, it is unfortunate and far too many Americans elected not to pay attention in their high school economics class and have no understanding whatsoever of the subject and how it impacts their daily life.

So yes, that money in your pocket in worth 30% less than it was a couple years ago due to out of control federal spending and the devaluation of our currency.”

I’d disagree. Most Americans understand economics but love their free govt goodies more. Take the free pills for granny act. Or the attempt at reforming SS. Even on FR there were howls against it.

[AzSteven]

Stupid Rhodium investment is going nowhere...

[reefdiver]

Not a big shopper, but stopped by a Wal Mart , packed, had to walk the long walk. All the malls were packed. Lot’s of money was passed , goods purchased, restaurants packed. Some body saying all over America this is going to stop tomorrow, or by Friday? Probely not. Go on with your lives, These people belong some where else, not here. God bless ya all , Going to bed

[trumandogz]

We are living in a time that is no different than the Jimmy Carter inflation of the 1970's.

[muawiyah]

http://www.federalreserve.gov/boarddocs/speeches/2005/20050119/default.htm

is worth reading.<P>True enough the classical definition of inflation is that it involves too much money chasing too few goods and services.  <P>On the other hand, productivity improvement can result in too little money chasing too many goods and services.<P>The loss of money occurs with a decline in demand for lines of credit as products become less costly at the producer and wholesale levels.  This drives down interest rates, and as they decline fewer and fewer people invest in lending institutions.<P>The United States has been banging away with 4%, 4.5% and nearly 5% productivity improvements each year since something like 1995 so we should have already seen the effect.   Even a 2.5% productivity improvement sustained over several years in the ramp up to the higher levels ought to have destroyed many retail credit operators ~ e.g. Savings and Loan Associations ~ and we saw them wiped out during such a ramp up period.<P>There are other ways for liquidity to be reduced by productivity improvement ~ bet some of the guys at Bear-Sterns will be on the lecture circuit telling us about them in the next few months.<P>But whatever impact inflation might have the deflation created by productivity improvement can be equally devastating, or worse.  One of the problems in dealing with deflation is that you can't go below 0% interest rates in the effort to control the growth of money.  Rather you have to bite the bullet and start up the presses.

[bjs1779]

Stupid Rhodium investment is going nowhere...

Thats an ounce you know, not a ton. : )

[trumandogz]

Lot’s of money was passed...

Yes, lots of money passed from Wal Mart shoppers to the Chi-Coms and then borrowed from the Chi-Coms by Wal Mart shoppers in order to pay down their credit cards.

[spanalot]

I think commodities will plummet this week - think deflation.

[trumandogz]

There is no difference between inflation and devaluation of the currency.

Therefore, 15% inflation in 1978 in the same as a 15% devaluation in 2008.

President Bush, Meet President Carter.

[4Liberty]

If interest rates fall, prices for loans fall, and firms borrow more. So the argument in your snippet doesn’t make sense.

Deflation is good for lenders, bad for borrowers.
Inflation is good for borrowers, bad for lenders.

Why should one be ‘better’ than the other?????

Why is deflation (a gradual lowering of prices) necessarily “bad”???

Deflation does not mean people “won’t invest”; real capital gains are still an incentive to invest in that particular situation.

I am not a deflationist, I am simply saying that inflation has it’s downsides, too — and in a number equal to those of INflation. Neither is “better” or worse than the other.

[Iron Munro]

“That men do not learn very much from the lessons of history is the most important of all the lessons that History has to teach”

— Aldous Huxley

Take away their printing presses.

[muawiyah]

Look closely at those "

" marks. For one reason or the other FR's format program refused to recognize them.

No, that's not what I said.

First, recognize that an improvement in productivity may or may not be reflected in a price decrease. Sometimes it shows up in other ways that a company does business, e.g. borrowing less money, seeking funds in capital markets, and maybe even telling the employees lies and whacking their salaries ~ and since you always have some Democrats on the payroll they're going to believe that laying off workers always means the company is in trouble and they'll go along with getting their paychecks trimmed.

In general, though, over the long run, productivity improvements do have a deflationary impact.

Leaping ahead to the end, deflation is less readily dealt with than inflation. You cannot, after all, set a discount rate less than 0%.

[bjs1779]

[bjs1779]

I see the dollar continues to do well.

[yefragetuwrabrumuy]

I wonder if they will be willing to accept inflation in lieu of the alternative? Remember that inflation affects international trade far more than domestic.

When prices rise, the cushion is the public. They demand higher returns and wages, but they can also save less with their substantial reserves. Finally they can buy less, as during the bitter Carter-era stagflation, caused by Jimmy’s greed.

Inflation in some products will neutralize the effect of deflation in others (housing). Inflation also heats the economy to some extent, so helps to limit recession.

The extra low value of the dollar makes “buying American” very attractive to foreigners. But it kills their exports to America.

Inflation favors debtors, and since the US government is the biggest debtor in the world, it might reduce the pressure to make good on those debts.

As a nation the US has had an unnaturally low inflation rate since the destructive Carter years. But perhaps having a 5%-8% inflation rate for a few years might not be such a bad thing, compared to the alternative.