The M1 money supply has been increasing and there are high levels of liquidity. Central banks around the world, including emerging economies, have used expansionary monetary policy (cutting interest rate) to ensure this. Besides that, large amounts of capital and liquidity are being injected into the economies around the world. Theoretically, from a monetary perspective, this is highly inflationary.
However, it is the banks and other investors who are increasingly unwilling to lend money. The rates at which banks lend money to each other remain extremely high and mortgage rates are rising, despite global interest rate cuts by central banks. Banks are not facing a liquidity problem as they have ample reserves. The problem is that they are unwilling to lend for fear that borrowers will default on their loans.
Banks are hoarding cash, and consumers have increased saving. So when there is enough money going around, but nobody wants to lend/invest it, the result is a credit crisis.
If demand collapses, and goods start to pile up, prices fall (due to a surplus),w which leads to deflation. This is what is happening in the current economy.
Currently, in the battle between inflationary forces (too much money floating around) and deflationary forces (the unwillingness to lend/invest), the deflationary forces are winning in the economies around the world as the severe credit squeeze and deleveraging that has been taking place are working their way through the system. But inflation lurks in the background.
1 comment:
If you look at the money multiplier (st. louis fed website) you can see that in the past year, it has decreased by 25%. This is a simple explanation of why more currency in the system is not generating more inflation. Banks are hoarding cash in their reserves and the reserve ratio is increasing, which is decreasing the money multiplier.
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