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Is Pent-Up Inflation Likely?


What comes first, the printing or the lending?


In the meantime, the Fed is pretending banks are solvent and banks are pretending they're well capitalized. Furthermore, in a world of falling asset prices and rampant overcapacity, banks have little reason to lend even if they were solvent.

These are simple concepts, yet few understand them. Australian economist Steve Keen is one of few who do. Some don't want to understand because it shatters their hyperinflation dreams.

Steve Keen On the Edge

On Friday, Steve Keen was featured on On the Edge with Max Keiser discussing these issues.

Did the Government Rescue the System?

Steve Keen has a "debtwatch" blog that's well worth following. It's Hard Being a Bear (Part Five): Rescued? is an entry of particular interest.

In explaining his recovery program in April, President Barack Obama noted that:

"There are a lot of Americans who understandably think that government money would be better spent going directly to families and businesses instead of banks -- 'Where's our bailout?,' they ask."

He justified giving the money to the lenders, rather than to the debtors, on the basis of the multiplier effect from bank lending:

"The truth is that a dollar of capital in a bank can actually result in $8 or $10 of loans to families and businesses, a multiplier effect that can ultimately lead to a faster pace of economic growth."

This argument comes straight out of the neoclassical economics textbook. Fortunately, due to the clear manner in which Obama enunciates it, the flaw in this textbook argument is vividly apparent in his speech.

This "multiplier effect" will only work if American families and businesses are willing to take on yet more debt...

So the only way the roughly $1 trillion of money that the Federal Reserve has injected into the banks will result in additional spending is if American families and businesses take out another $8 trillion to $10 trillion in loans. What are the odds that this will happen, when they already owe more than they have ever owed in the history of America?

If the money multiplier was going to ride to the rescue, private debt would need to rise from its current level of $41.5 trillion to about $50 trillion, and this ratio would rise to about 375% -- more than twice the level that ushered in the Great Depression.

Keen concludes:

Obama has been sold a pup by neoclassical economics: Not only did neoclassical theory help cause the crisis, by championing the growth of private debt and the asset bubbles it financed; it also is undermining efforts to reduce the severity of the crisis.

This is unfortunately the good news: The bad news is that this model only considers an economy undergoing a credit crunch, and not also one suffering from a serious debt overhang that only a direct reduction in debt can tackle. That is our actual problem, and while a stimulus will work for a while, the drag from debt-deleveraging is still present. The economy will therefore lapse back into recession soon after the stimulus is removed.

There's much more in the article including charts of US debt (private and government), money multipliers, and money supply.

There's also a very good interview with Michael Hudson about a tax program for US economic recovery, which is based on the concepts of a needed debt destruction as opposed to a bank bailout.

Finally, George Washington's blog discusses the question, "Which comes first: the printing or the lending?"

Of course, I've been with Steve Keen on this issue from the very beginning as noted in Fiat World Mathematical Model and Global Debt Bubble, Causes, and Solutions.

It's good to see others picking up on Keen's construct.

No positions in stocks mentioned.
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