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One of the biggest misconceptions about inflation is that the US Dollar needs to collapse in order for inflation to occur. While a currency collapse often accompanies periods of heightened inflation, this is not necessarily true. Case in point, the US Dollar actually rallied this year despite commodity prices exploding higher
As you can see, we’ve had an inflationary spike in commodity prices in 2010 despite the US Dollar rallying 2% during that time. Indeed, the inflation the US is experiencing today is rather unusual as it has been accompanied by deflation at the same time. As I write this, the US is experiencing deflation in housing prices and incomes combined with inflation in the cost of living (energy, food, commodity prices).
Thus, we see deflation and inflation occurring simultaneously. It’s not surprising as the Fed’s primary moves since the Financial Crisis hit are:
1) Buying debt
2) Pumping money into the banks
The first move was designed to attempt to stop debt deflation. As I’ve noted in other articles, the Fed is failing miserably at this (bonds are tanking).
The purpose of the Fed’s secondary move was to shore up the banks’ balance sheets (with hundreds of trillions in derivative exposure and off-balance sheet toxic debt, most US banks are insolvent). Indeed, the monetary base has more the doubled since the Financial Crisis began.
What you’re looking at is the Fed producing $1.2 trillion of money out of thin air. The reason we haven’t yet seen inflation in the form of a US Dollar collapse is because:
1) Europe is imploding pushing the US Dollar up
2) Banks are sitting on this money (not lending) so it’s not getting into the economy
Regarding #2, the below chart explains everything:
The above chart depicts the amount of money US banks are sitting on in excess of what the Fed requires them to hold (all banks must hold a certain amount of cash in reserves).
As you can see, up until early 2010, US commercial banks were sitting on nearly $1.2 trillion in excess reserves. So in plain terms, the Fed’s money pumping (at least the money we know of) has simply been sitting on banks’ balance sheets. In other words, banks aren’t lending it out, so it’s not getting into the economy (yet).
This is why the US Dollar has yet to truly collapse: the Fed’s money pumps have yet to get into the economy. Instead, the banks are just sitting on them. However, this doesn’t account for the Fed money pumps that are non-public.
It’s no secret that the Fed has been pumping hundreds of billions of Dollars to financial firms without the public’s consent. According to the Neil Barofsky, Special Inspector General of the TARP program, the Wall Street bailout could end up costing the US up to $23 trillion before it’s over.
Obviously a heck of a lot of money has been flowing into Wall Street that we don’t know about. And Wall Street has done what it does best, pour this money into the financial markets… which has driven stocks, commodities, and risk assets in general THROUGH the roof. This is also why stocks and commodities have displayed such an unusually high correlation since the Fed started its QE 1 program in March 2009: it’s all about Wall Street putting some of the Fed’s money pumps into the markets.
Thus today in the US we have debt and housing deflation… combined with cost of living and asset price inflation.
However, I want to stress that the inflation we are seeing today is just a taste of what’s to come in the next year. Indeed, our current inflation is all about loose money flowing into commodities, pushing up the cost of living. This is the financial speculation form of inflation and is just a precursor to the next, FAR MORE serious stage of inflation: the currency collapse.
Yes, deflationary forces remain a risk in the near-term given the systemic risk in place today (we never cleaned up the 2008 mess properly). But ultimately inflation is the end game. And when it hits in the form of currency collapse it will be fast AND violent.