Reply To: Why haven't we seen massive price inflation?


The purchasing power of money depends on the stock of money and money demand. The stock of money consists of money plus money substitutes. In our economy, money is Federal Reserve Notes printed by the Federal Reserve and a major money substitute is bank issued checkable deposits. Banks issue checkable deposits relative to reserves of FRN or deposits they hold at the FR.

In the last few years, the Federal Reserve has increased bank reserves tremendously by purchasing assets from banks. This has not led to tremendous price inflation because banks have chosen to hold the reserves as assets and not issue fiduciary media against them. They are doing this to improve their liquidity and solvency. Also, the demand for credit during downturns typically dries up pushing interest rates down. The banks calculate that the miniscule interest rates are not worth the risk of putting new loans on their balance sheets at this time.

Even so, the stock of money has been increasing modestly. The reason why this has not caused more price inflation is that demand for money has been rising. People typically hold more money during downturns to improve their liquidity and solvency. Investors are also holding cash waiting for the the uncertainty of current conditions to abate.

As soon as conditions move toward normalcy, then price inflation will begin pick up.