The glories of a little bit of inflation

An excellent analysis and post.

Yes, it is an excellent analysis. The thing to really understand is that our entire economic fabric throughout the world is based upon the idea that a little inflation is good, and indeed necessary for a healthy economy.

Paul Volker has already proved that the government, given a determined enough Fed chief, can break the back of inflation. What we do not know is what does it take to break the back of deflation beyond a WWII and a public works project that spans the Manhattan Project, the Tennessess Valley Authority and the Interstate highway system. Those, are as someone once said, and I believe as Japan would attest, the unknown unknowns.

The reason it is so dangerous is because it can bring about systemic failure of the banking system. As we give up earning power because sales and pricing power go down, the system becomes self-sustaining. Further, it really creates problems for banks in that it makes the likelihood of seeing repayment of loans less likely as well. I'm full on scared of more deflation...and I hope that everybody is praying to God at night for a good bit of inflationary pressure.

But to be honest, I think it is too early to say. How can you have inflation with so many people out of work and a sustained 10% unemployment rate and housing vacancies which are far larger than at anytime since maybe the Great Depression (at least projection-wise if all of the foreclosures go through). A rise in prices only occurs where there is a shortage and relative scarcity of goods, right? Here we have way too many houses, too many cars, and a ton of workers all looking for something to do. Where is the inflationary pressure going to come from? China? Europe?

I would say that seeing inflation in this environment is like seeing green shoots right before a Texas summer. It won't last.