- The Federal Reserve has a 2 percent inflation target annually.
- 2020’s stimulus package injected historic amounts of capital into the economy.
- The 1970’s was a time of massive inflation in the U.S.
- In the 1980’s the U.S. changed the way inflation is measured.
- The U.S. has accumulated historic amounts of debt during an economic boom.
- The buying power the U.S. dollar has dropped dramatically since 1938.
The Federal Reserve has a target inflation rate of 2 percent per year. They have basically been in line with that according to the official methods used to measure inflation.
In March, an unprecedented action took place when the U.S. Treasury merged with the Federal Reserve. With the help of Congress and the President, a 2 trillion dollar emergency stimulus package was rushed through to assist American people and industries. Aside from the typical pork (which I could do an entire article on) the bill did include some funding that should prove helpful to corporate America as well as most citizens. High fives all around, roll the credits? Unfortunately, it’s not quite that simple. There is a distinct probability that the amount of money being injected into the economy has unintended consequences that rival the initial crisis.
Cause and effect
Newton’s third law of motion states that: ‘For every action, there is an equal and opposite reaction.’ The way that the Federal Reserve creates untold sums of money is by going to the bond market, buying bonds then crediting the sellers account. This ‘action’ creates money out of thin air, but too much ‘helicopter money’ causes the price of goods to rise at a rate far faster than wages. This ‘reaction’ creates an increase in poverty, a decrease in quality of life and a financial contraction that ripples across the world.
Too many Tulips
In the 1600’s the Dutch began using tulip bulbs as a form of currency. At the time this was thought to be a good idea. Counterfeiting was near impossible and inflation was controlled because each bulb can only replicate so fast.
The chart above shows that the bulbs rapidly lost value after several years of exponential growth. Eventually the Tulips were basically worthless as currency, too many were in circulation. This rapidly inflated the cost of goods and services for the average Dutch citizen.
More recent examples
In the 1970’s several factors led to double digit inflation at times. The nation was facing an energy crisis, on several fronts. President Nixon unpegged the dollar from gold in 1971, when the U.S. halted the exchange of US dollars for gold from foreign countries. The FED then printed large sums sums of this new fiat money which led to substantial inflation, high unemployment and a reduced quality of life.
It wasn’t until the late 70’s that interest rates finally began to rise. This was followed by a brief but sharp recession in the early 80’s. Unemployment briefly hit 11 percent before the economy finally stabilized and settled around 5 percent by 1987.
How did we get where we are today?
In the 2000’s several socioeconomic situations arose and the FED again purchased large sums of bonds. The 700 billion dollar bailout and ensuing rounds of ‘quantitative easing’ created a financial boom that has been called the ‘greatest economy in history.’ This ‘action’ caused a ‘reaction’, the Herculean debt of today.
2020 has been a crisis filled year for America’s economy. The FED finds itself buying historic amounts of debt and by their own account the liquidity currently being provided is ‘unlimited.’ At this points it’s clear that money is being pumped into the US economy at unprecedented levels, to prop the markets and people back up.
What could happen in the future?
With past examples it’s easier to see what can happen when excess amounts of capital is pumped into the market. Unfortunately, the good times cannot roll forever. If we look at the chart below we can see how the creating of money has accelerated at a rapid rate from 1960 to 2010.
Creating trillions of dollars in credit will in theory improve the financial outlook for the U.S. economy, especially in the short term. Jumpstarting money velocity is very important for the world’s economic gears to turn. The process has been repeated quite successfully for decades now.
The fatigue and stress of this process has resulted in America being trillions of dollars of debt. The U.S. economy has been in the longest bull market in the nation’s history and the national debt has rose to unprecedented levels during that time. What will this debt look like when world’s economy takes a substantial downturn?
The creating of money has caused inflation, though the actual amount is up for debate. Starting in 1980 the U.S. began using different methodology to report the inflation rate.
Will the U.S. see hyperinflation ?
The U.S. is creating untold trillions of dollars what prevents the nation from hyper-inflating like Venezuela? One factor that is often overlooked in the big picture is that oil is traded predominantly in U.S. dollars on the world market. This fact alone creates demand for the dollar, making it a desired commodity for most of the planet. Hyperinflation? Probably not, but the above chart eloquently demonstrates what current monetary policy has done to the purchasing power of the dollar and I expect the trend to continue.
Enjoying our content? Check out another article- How 2020’s economic downturn is eerily similar to the Great Depression