Is Inflation Right Around the Corner?

by: Mikhail Aristakesyan

Over the past year and a half economists have often clashed in heated debates about that lies ahead. Inflation or deflation?

Some of them say that inflation is inevitable because of numerous assistance programs pursued by the Federal Reserve and the US government, with huge liquidity cushions available on the markets. Below is data that validates this statement.

US assistance programs, USD tn

FRS

“Money creation”

3.76

Collateral swaps

0.2

Government

Guarantees

2.08

Insurance

3.74

Capital

0.7

Total (% of GDP)

73%

Source: Bank of England, Financial Stability Report, June 2009

Opponents provide no less logical reasons as to the inflation which could arise if lending is in decline, given that since October 2008 through March 2010 the aggregate amount of credits, loans and funds provided on lease terms by US commercial banks declined by USD 1.5 tn, or slightly less than 10% of the aggregate amount.

I have always subscribed to the former viewpoint. Since the Great Depression in the 1930s deflation has been cited as enemy number one for the economy. In actuality, though deflation has not been the root of the problems, but a consequence of US Fed actions to weaken the dollar by creating an excessive liquidity cushion. This was done to help the Bank of England maintain the artificially inflated fixed rate of the British pound against gold. But this is a different can of worms. And taking into account the fact that the gold standard is history now and all currencies are not secured by any assets, theoretically it won’t be a challenge for regulatory authorities to avoid deflation, as once Fed chairman Ben S. Bernanke confirmed in his famous helicopter money statement.

This is why I believe that it makes sense to speak neither about inflation nor deflation, but about the timing when this liquidity provided to banks will spill over to the real economy, which will inevitably lead to the emergence of inflationary pressures, albeit with a certain time lag. Over the past four weeks, the cumulative amount of loans, lending facilities and allocations provided under leasing agreements to US commercial banks has swollen by USD 855 bn.


Source: Board of Governors of the Federal Reserve System

It seems quite likely that we are going through a turning point right now, with inflationary trends likely to be exacerbated considerably as early as this year. This will come as a positive catalyst for the commodity market, with commodity prices likely to remain on the rise over the next twelve months, in my opinion. On the other hand, however, the performance of the Treasuries will be far from stellar over the same period of time. Rising inflation will continue to keep prices under pressure.

Disclosure: Long: non-US gold and silver ETFs