Putting Down a Marker

Economists John Greenwood and Steve H. Hanke put down a marker in their op-ed in the Wall Street Journal. Inflation will be transitory but it won’t be transitory transitory:

Let’s take a look at the U.S. bathtub. During the early months of the Covid-19 pandemic, the faucet was wide open. Between December 2019 and August 2021, the U.S. money supply, measured by M2, grew by $5.5 trillion, a stunning 35.7% increase in only a year and a half, driven primarily by the Fed’s purchases of Treasurys and mortgage-backed securities. In light of anticipated Federal Reserve tapering, we estimate that by the end of 2024 the money supply will grow another $5.1 trillion.

Out of the total $10.6 trillion in new money, real GDP growth will drain roughly $1.4 trillion. Another $1 trillion will flow down the money demand drain. Since the amount of money flowing into the bathtub far exceeds the two outflows, the excess money in the tub—around $8.2 trillion—will hit the inflation overflow drain.

The huge monetary expansion—$5.5 trillion already in the bathtub—is starting to reach the overflow. Persistent, not transitory, inflation will be with us for the next two to three years.

The rest of the op-ed is devoted to their bathtub metaphor for money and inflation. Money pour in through the faucet and drains out via economic growth, money that the public wishes to hold relative to its income, and inflation.

If they’re correct, what’s the right policy response? And an additional extra credit question: can the president’s party hold onto their razor-thin majorities in Congress with the right policy response?

6 comments… add one
  • TastyBits Link

    With the damage being done, I think that 1970’s stagflation will be a best-case scenario, but I have a bad feeling that it will be closer to a depression.

    The money being created is not being used for production, and at some point the debt used to create it will crash. It is possible this will lead to a hyper-deflation event, and then, it will take years to get out of the hole.

  • Grey Shambler Link

    ‘70’s stagflation:
    Makes me think back. I was in my 20’s and I don’t remember that because I was working two jobs trying to earn all I could. Bought our house in 1984 @18%, actually didn’t know that was high.
    If Tasty Bits is right, I hope that the country has enough energetic young people to pull us through.

  • Andy Link

    I still don’t think there’s enough information or historical experience to have much confidence in the near or medium term future.

  • Grey Shambler Link

    Would you say that uncertainty is the reason big banks are hoarding cash in the face of inflation?
    What I mean is that they don’t know what rates will do, or when, but they can hardly go down?
    Or, do they give credence to Tastys prophecy of deflation?

  • Would you say that uncertainty is the reason big banks are hoarding cash in the face of inflation?

    IF banks are hoarding cash it’s because they’re still being paid to do it. Risk-free revenue has a certain attraction.

    Their incentives are now completely screwed up.


    The Federal Reserve continues to pay banks to hold excess cash reserves in cash.

  • Grey Shambler Link

    Well now, that’s the piece of the puzzle I hadn’t seen. Thanks.

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