With $1 trillion deficit and $11 trillion national debt, why no inflation?

Filed under: Forecasts, Federal Reserve, Financial Crisis

The government is printing money like there's no tomorrow and running record deficits. So why isn't inflation out of control? To answer that, we need look no further than Economics 101. When demand exceeds supply, prices rise and when supply exceeds demand, prices fall.

Up until July 2008, commodity prices were rising because institutions were able to borrow money to go long commodities and short the dollar. As a result, the demand for commodities exceeded their supply and prices rose -- contributing heavily to rapid inflation. For instance, oil rose from $24 a barrel in January 2001 to peak in July at $147 a barrel. But since then, this commodity trade has evaporated along with access to debt -- and oil now trades 70% lower at $43.

But this fall, there were some slight problems with the financial markets -- for instance, the government decided to let Lehman Brothers file for bankruptcy. This financial collapse has caused banks to clamp down on lending. And since consumers, which account for 70% of GDP growth, depend so heavily on borrowing to finance their consumption, an end to lending cuts way back on their purchasing power. So does their $10 trillion loss of housing and stock wealth in the last year. With the disappearance of debt, demand exceeds supply and prices tumble.

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With $1 trillion deficit and $11 trillion national debt, why no inflation? originally appeared on BloggingStocks on Wed, 10 Dec 2008 11:00:00 EST. Please see our terms for use of feeds.

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