How Thick Can You Get?

Only now, we are told, are the markets beginning to register the fear of growing inflation.  After months of propaganda on the dangers of deflation a few of the dunderheads that run our financial system are beginning to wake up to a spark of reality. 

One sign of the change is the demand for US Treasury-protected securities which has accelerated in the past month.  Supplies for such bonds held by Wall St. dealers are at their lowest level for three years.   

Even before the last round of "quantitative easing", the Bank of England increased the money supply by a cool 280% to fight off recession.  This action may have lessened the immediate impact of the recession.  But increasing the money supply in this way massively increases the likelihood of run-away inflation. 

Most of the funny money has been used to buy Government debt.  We still have no idea, when the Government stops the printing presses and floats its record debt on the market, who out there is going to buy. 

This is where the economic debate has been made juvenile.  The Government has continuously argued that to cut back on its reflationary measures will push the country into deeper recession. 

These inflationary measures centre on the cut in VAT and similar small scale initiatives.  I say small scale initiatives because these sums have to be compared with the major reflation of borrowing £200 billion a year for goodness knows how many years in order to meet the Government deficit.

What this debate takes no account of is what will happen once the Government has to test the market with its debt.  It is here that the commitment and timing of public expenditure cuts are so important.

There will be a cost even if the markets are convinced by Government and Opposition alike that they will bring the mega deficit under control.  It is inconceivable that long term interest rates won't be pushed up that will poleaxe investment programmes on which our sustained long-term recovery depends.  The sooner the markets believe we mean business the smaller will be the rise in long term interest rates.  

Far from there being a sustained period of deflation that most commentators have signed up to, the Governor of the Bank of England will shortly have to write the Chancellor explaining why on the fiddled inflation index, prices have risen above 2% and it won't be long before we are looking back at the "good old days" of 2% inflation.  

Date added: Tuesday 10th November 2009