Artificial Economy? Yes. Artificial Inflation? No

by: Paco Ahlgren

"Instead of furthering the inevitable liquidation of the maladjustments brought about by the boom during the last three years, all conceivable means have been used to prevent that readjustment from taking place; and one of these means, which has been repeatedly tried though without success, from the earliest to the most recent stages of depression, has been this deliberate policy of credit expansion. . . . To combat the depression by a forced credit expansion is to attempt to cure the evil by the very means which brought it about; because we are suffering from a misdirection of production, we want to create further misdirection — a procedure that can only lead to a much more severe crisis as soon as the credit expansion comes to an end. . . . It is probably to this experiment, together with the attempts to prevent liquidation once the crisis had come, that we owe the exceptional severity and duration of the depression. We must not forget that, for the last six or eight years, monetary policy all over the world has followed the advice of the stabilizers. It is high time that their influence, which has already done harm enough, should be overthrown."

-- Friedrich August von Hayek (1932)


Your government is creating bubbles all around you. It’s like Ben Bernanke knocked back a couple of handfuls of amphetamines and decided to have a big dance party with a bubble machine. Lawrence Welk would be leading the orchestra if he wasn’t dead. Bubbles. Everywhere. Man, what a bash.

I know we’ve talked a lot over the last year about the $13 trillion obligation the U.S. government has created to fight this economic crisis (and only this economic crisis). Governments around the globe are printing, borrowing, and easing rates with unprecedented fervor, eagerly employing the outmoded and nightmarish Keynesian economic policy now commonly known as quantitative easing.

But none of this is really new. I mean, Japan has been doing it for years. Right? Well, yes… at a time when the rest of the world was in the biggest economic boom -- ever. Smart investors borrowed for nothing in Japan and then invested elsewhere, “risk-free,” at 7.5% (or more). Is it any wonder the Japanese economy never improved?

But now the whole world is doing it. Where are these smart investors going to take their free money now? Nowhere. And so velocity remains nearly at zero… for now.

Because of all this theoretical academic chicanery, however -- even as my nubby little fingers passionately peck out this article -- a bubble, the likes of which we have never seen, is expanding around us. Rates hover at historic lows. Bailouts abound. The federal government is printing more money than ever in history, lending it to itself, and then giving it to banks. As the cash presses against the proverbial dam, and credit eases further, precious metals, agriculture, and oil move ever higher. Treasury yields continue to creep up – despite the Fed’s best efforts to hold down the long-end of the yield curve.

Have you ever seen Monty Python’s The Meaning of Life? Funny movie. Remember the fat guy who exploded in the restaurant? Well that’s what this bubble is going to look like when it blows. But we’re not there yet. Not quite.

And yet, just because this is the ultimate bubble does not mean it’s the only bubble. No, this is but the last in a long line of relatively smaller bubbles your government has manufactured for decades, right under your noses.

Want a few examples?

1. Student loans.

2. Health care.

3. (Everybody's favorite) mortgages.

Do you want to go to school? Are you poor? Well guess who's going to guarantee a loan for you? Yep. Uncle Sam. Cheap, easy money. More demand. Higher prices.

Do you need healthcare or living assistance? Step right up! Your saviors have provided you with a cornucopia of options -- from Medicare, to Medicaid, to everyone's sweetheart: Social Security! And now Our Lord and Savior Barack Obama is promising healthcare “reform.” Do you know what that means? You guessed it. Cheap, easy money. More demand. Higher prices.

Listen, friend. Do you make at least $7 an hour? Do you need a new doublewide? Do I have news for you! Your government, in all its munificence and magnanimity has, for over 70 years, been putting high-risk borrowers like you in their own prefab slices of the American dream! Ask and you shall receive! And now, if you’re a first-time homebuyer, you’re going to get a massive tax credit! Yes! It’s true! Cheap, easy money! More demand. Higher prices. And isn’t that exactly what we want? Really?

This is what happens when money becomes abundant and easy to get! People spend. And when people spend, they create demand for the goods and services on which they spend. And demand creates higher prices. Now think about this… when money becomes abundant for a specific set of goods or services, demand only becomes more focused, and prices within that particular sector or industry rise.

Your government gives away money for many purposes, but perhaps the most publicized and controversial are the areas of student assistance, healthcare, Social Security, and mortgage assistance. Oh, and Cash-for-clunkers. How could I leave that one out?

When your government makes money available, it creates artificial demand for the products and services tied to the industries in focus. The results? Prices in these industries rise. And continue to rise. And continue to rise. Until a bubble forms.

So here's the bad news:

You want to blame Wall Street for the recent housing bubble? Try again. Your government created it (along with so many other bubbles) by encouraging lenders to dole out cheap money to people who couldn't afford the homes they were buying. Now you've seen the results.

Social Security, student lending, and healthcare subsidies are next. Come on. Do you really think the Obama health reform plan is going to make health care cheaper and more abundant? Right. The same day Amtrak becomes solvent.

Barack Obama is an eloquent speaker, and my goodness does he ever exude dignity and poise. And I’m sure his intentions are pure as water from a mountain stream. But I don’t care how well he comes across; he and his new girlfriend Ben Bernanke are going to perpetuate these broken policies, because they have to do something. Right? That’s the political imperative.

So here’s the worst news of all: no longer is the government only creating cheap, easy, abundant cash for specific purposes – like student loans and mortgage assistance. No. Now the government is doing it for the entire economy. That alone is enough to make the Consumer Price Index throb like a toe, freshly stubbed. But then you add to this reckless and profligate mess the fact that the money supply graph has gone vertical in the last year, well…you better believe we’re in trouble.

Do you hear that rumbling noise? The one that sounds like 14 freight trains heading right at you? Yeah. That noise. Well that’s inflation. It’s coming, and it’s got more energy and ire than any hurricane you’ve ever seen.

So board up your windows and doors, because this time it’s for keeps. Even Paul Volcker, in his prime, with a magic wand, a unicorn, a leprechaun, and three eager inflation-fighting little fairies wouldn’t be able to fix this mess.

And Helicopter Ben? Hell. He doesn’t stand a chance.

Disclosures: Paco is long TBT and Gold. He also holds U.S. dollars by necessity, pending the advent of private gold-backed currencies.