NCPA - National Center for Policy Analysis

Inflation Threatens

February 3, 2011

Symptoms of price inflation have begun to pop up in many countries, says Alvaro Vargas Llosa, a senior fellow of the Center on Global Prosperity at the Independent Institute.

A major factor in what is happening is the liquidity disease of our times -- "quantitative easing," the artificial creation of money as a way to spur a full economic recovery in the wake of the 2007-2008 financial calamity.  The theory says that the money created by the government will prompt more spending, lifting businesses out of their morass.  What really happens is that the money first goes to the financial markets, whose players mostly create bubbles by investing in whatever is fashionable.   The reason is twofold, says Vargas Llosa.

  • One, financial players expect to make quick money.
  • Two, families and businesses reeling from the credit excesses of recent years are not ready to borrow as much as their governments say they shouldand banks are probably not willing to lend as easily as they used to.

For a while, then, it looks as if more quantitative easing is necessary because consumption remains insufficient and unemployment high.  So central banks print even more money.  To justify themselves, sometimes they point to (highly unrepresentative) consumer price indexes that show low inflation.  Until, of course, it is too late and the symptoms begin to show up everywhere.  Yes, everywhere: even in the United States, where, against every effort by the Federal Reserve to keep it very low, the 10-year bond yield has shot up, reflecting the fear of many investors that the authorities will soon be compelled to raise interest rates, says Vargas Llosa.

Source: Alvaro Vargas Llosa, "The Specter of Inflation," Independent Institute, January 26, 2011.

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