Why haven't we seen massive price inflation?

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  • #17635
    tatefegley
    Member

    Here is a recent Krugman blog post where he calls Austrian economics a cult:

    http://krugman.blogs.nytimes.com/2013/02/20/fine-austrian-whines/?smid=fb-share

    It seems that his go-to argument is that the price inflation by some Austrians hasn’t occurred (I don’t think he knows much of anything about the school itself to make knowledgeable criticisms of it).

    So, why haven’t we seen the price inflation that some have predicted? How should one respond to Krugman’s argument?

    [Please forgive if this question has already been asked countless times.]

    #17636
    jmherbener
    Participant

    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.

    #17637
    andrew.bonk
    Member

    If you haven’t listened to Peter Schiff’s video on the topic it is worth the 15 minute run time. He argues the CPI figures they use are deliberately designed to hide the inflation numbers. Schiff does his own inflation “test” by selecting twenty typical items people buy every week. His results are interesting if not convincing.

    http://www.europac.net/media/video_blog/inflation_propaganda_exposed

    #17638

    ” 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.”

    Can someone expand on this? I have a hard time understanding a lot of this.

    #17639
    jmherbener
    Participant

    Banks offering checking accounts to customers. Banks will redeem a customers’ checking account balances on demand at par for cash. Because of this, merchants accept checks drawn on these accounts instead of cash. They are money substitutes.

    Banks hold only a fraction of reserves of money for redemption against their customers’ checking accounts. In normal times, banks in the U.S. hold around 5 percent reserves against their customers’ checking account balances. For every $100 you have in your checking account, your bank has $5 in reserves.

    Our central bank, the Federal Reserve System (FRS) or Federal Reserve (FR) for short, allows banks to hold either cash, which are Federal Reserve Notes (FRN), or checking account balances that banks have at the FRS as reserves against the checking account balances customers have at the banks.

    #17640

    Thank you!

    #17641

    What assets does the FR buy from banks? I thought they bought treasury bonds and sold them to the public.

    #17642
    jmherbener
    Participant

    In normal times the FR does buy Treasury securities, almost exclusively. But it has the legal authority to buy a wide variety of assets. Since the crisis began the FR has purchased nearly $1 trillion in mortgage backed securities (MBS) and continues to buy $85 billion a month of Treasuries and MBS.

    #17643

    Awesome, thank you!

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