Comments on Market Skeptics: The Dynamics of Inflation and Hyperinflation

"Secondly, it's rather amazing that you just autom...

2008-12-15T18:35:00.000-08:00

"Secondly, it's rather amazing that you just automatically assume that increasing the money supply will increase velocity."

No, I have never said that increasing the money supply will increase velocity. The danger of hyperinflation lies in a dramatic increase in the velocity of money due to a loss of confidence, not in changes in the money supply. See how deflation creates hyperinflation

"Thirdly, We are in a deflationary spiral; the Fed is running printing presses non-stop, yet prices keep falling, and money keeps being destroyed with each write-down or charge-off. The reason for this is that banks just aren't lending, and consumers/businesses are unable or unwilling to take on any additional debt. After Lehman was allowed to fail, the money markets seized up, and velocity has declined epically."

Yes, we are in a deflationary spiral. But let me ask you this: do you know what a "deflationary spiral" does to a nation's economy, especially for a country like the US which is totally addicted to spending and debt? The credit crisis will crush our GDP, while our national debt grows by trillions. Do you really think the rest of the world is going to keep financing our trade deficits while our debt-to-GDP ratio gets increasingly absurd?

Again, I address this in how deflation creates hyperinflation

"Fourthly, hyperinflation is not the guaranteed outcome of a loss of investor confidence in the solvency of the government. Rather, the most likely outcome is sky-high interest rates for a time, as we had in 1982."

There is no comparison between 1980s and today. Back then, we hadn't yet outsourced our manufacturing sector and we were not totally dependent on foreign oil (relative to today). The US also owed little money to foreign creditors. The annual inflation rate remained under 5 percent throughout most of the 1980s. There was never the risk of the dollar losing all value (hyperinflation).

To produce true hyperinflation, a deflationary collapse is necessary. See how deflation creates hyperinflation

Towards the end of the week, I will write a blog entry covering why the US faces hyperinflation and not high inflation like in the 1980s.

"Finally, it seems that you forget that the United States is not the only country affected by this mess."

I have not forgotten. I will address the issue in greater detail later this week. In the meantime, here are two questions for you:

What types of goods get hurt the worst in a "deflationary spiral" (like the great depression)?
What does the US make?

Sorry, these equations are "pulled out some academ...

2008-12-15T14:03:00.000-08:00

Sorry, these equations are "pulled out some academic's nether-regions" to put it politely. They are approximations to approximations that only apply at best in steady-state, equilibrium situations. Those conditions aren't even met in the best of economic times.

Here's a test for any formula you (or the Fed or the US Government) must use in times like this, which is a time of extreme transient, non-equilibrium economic activity.

If formula isn't a differential equation or it is not the actual solution to such a well-formed differential equation, it is completely worthless to predict any transient phenomena and thus completely wrong as a tool to imagine what man-made inputs will cause things to move in the desired direction.

Further, if that differential equation is based on a model that makes any assumptions that include presumed equilibrium, instantaneous market clearing, or perfect open or closed market systems, then the formula is completely wrong as well.

The bad news is that all endogenous growth models make these assumptions as do all monetary models! And they are all very wrong for any predictions of transient phenomena as a result.

But even worse, differential equations and the systems such equations describe are finicky creatures. Pushing when you should be pulling can make things worse, sometimes much, much worse. Transient responses can especially be very counterintuitive.

And that effect can be trivially shown with a 2nd order linear differential equation yet economic systems are distinctly nonlinear which is even worse.

Misusing a poorly formed model in this way is like giving a loaded gun to 5-year old and not expecting bad things to happen.

Or to put it another way: you brought a linear equation to a fight and nature brought a differential equation and its complete solution. Guess who loses.

In the first place, the MV=PQ equation is applicab...

2008-12-14T17:22:00.000-08:00

In the first place, the MV=PQ equation is applicable only to closed economies.

Secondly, it's rather amazing that you just automatically assume that increasing the money supply will increase velocity. This assumption flies in the face of observed evidence.

Thirdly, We are in a deflationary spiral; the Fed is running printing presses non-stop, yet prices keep falling, and money keeps being destroyed with each write-down or charge-off. The reason for this is that banks just aren't lending, and consumers/businesses are unable or unwilling to take on any additional debt. After Lehman was allowed to fail, the money markets seized up, and velocity has declined epically.

Fourthly, hyperinflation is not the guaranteed outcome of a loss of investor confidence in the solvency of the government. Rather, the most likely outcome is sky-high interest rates for a time, as we had in 1982.

Finally, it seems that you forget that the United States is not the only country affected by this mess. Many other countries are passing massive spending packages as well, or will in the near future. The central banks of many other nations are likewise running the printing presses, because they've also seen velocity fall off a cliff. I don't know if you've paid any attention to this debacle outside of some reactionary lusting for the collapse of the United States, but all of a sudden, a lot of those developing markets which looked invincible a year ago are now in even bigger trouble than the US. Check out, for instance, the rate at which Russia is burning through its forex reserves.

the st louis fed data showed that the money veloci...

2008-12-12T16:37:00.000-08:00

the st louis fed data showed that the money velocity has recently plunged. The hyperinflation spiral as described in your quoted text first needs an triggering event to get start the process. What will be that trigger? ha, a trillion dollar question.

I am a little confused as to why it's assumed that...

2008-12-11T19:34:00.000-08:00

I am a little confused as to why it's assumed that money put into circulation increases money velocity automatically. I don't think you can make that assumption especially in todays economic climate where tremendous amounts of money have recently been put into circulation only to sit in a bank vault filling up an otherwise empty balance sheet in the recipients account, thats the short term condition. I believe that money is a time bomb for sure, but until it finds a new speculative instrument to latch onto,it will most likely just sit in government bonds (like the current bubble we have in bonds? 4 week treasuries at 0 percent? Can you say final bubble?) When that one pops it will be an undermining of the very financial system and will crash the dollar.

By the way good call on the dollar. It just cut through its 50day moving average like a hot knife through butter. "Get ready for da pain!"