Between a debt rock and a monetary hard place

Henry C. K. Liu in the Asia Times explains the inflation/deflation issue in the best summary I’ve seen lately.  The bottom line:  Using monetary policy (“printing money”) to keep up the current debt bubble will not work, and will cause hyperinflation.  The alternative is to allow the credit bubble to burst, an unavoidable reality in the long term anyway.  Liu’s article gives an accurate, highly readable and concise summary of the inflation/deflation debate as it has unfolded until now.  

Among the highlights are not only Liu’s synthesis of economic theories (Friedman, Minsky, Taylor, for example), but his commentary on less renowned “economists:”

“The faith-based Larry Kudlow & Company program on CNBC, where participants are asked to declare with solemn piety: “I believe free market capitalism is the best route to prosperity” as an article of faith, is increasingly attracting viewers for its entertainment value rather than for the quality of its analysis, particularly when the host continues to repeat with a straight face his tiresome mantra that the Goldilocks economy is alive and well in the face of serious systemic financial disaster.”

And, if you read nothing else, here’s the money quote:

“Global inflation outlook for 2008 does not justify an accommodating monetary policy stance for any central bank. Risk of a recession in the US looms larger by the day from the collapse of the debt bubble, yet monetary policy is not an effective tool to prevent that prospect. A debt bubble will eventually have to burst to allow overblown asset prices to self-correct. If a central bank, as Greenspan claims, should not and cannot intervene on asset prices on the way up, but starts to target them on the way down, it fuels inflationary expectations. Low interest rates had caused the price bubble; and resorting to lowering interest rates to keep prices up after the bubble burst risks hyperinflation.

If higher inflation to the level needed to sustain the expanding debt bubble is tolerated, serious convulsions in global bond markets and the foreign exchange market and serious disruption to the global flows of funds can be expected. If high inflation is not tolerated, a violent burst of the debt bubble may be the outcome. While the market pushes the Fed to allow inflation to moderate price correction, it is far from clear that the damage to the global economy from inflation will be less than that from market price correction.”
Full article:  “Inflation Targeting”


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