Re: [A-List] US Dollar Standard: Deficits Do Matter

[William F Hummel <wfhummel@xxxxxxxxx>]

Leigh Harkness wrote:

>The following is an attempt to explain the relationship between money and
>inflation.  Please tear it apart because it does not make total sense to me
>yet.  But if we start exploring the issue, hopefully someone would shed some
>light on the relationship that will make sense.

I see two fundamental problems with your analysis.

First it provides no definition of the "money supply" in
measurable terms.  Does it refer to one of the Fed's monetary
aggregates?  If so, which?  Does it exclude lines of credit, such
as bank lines and credit cards?  Does it exclude near money like
T-bills and other short term debt instruments?

Second, it appears to argue that money (however defined) is an
independent variable rather than a dependent variable.  In our
present day fiat money system, all money is borrowed into
existence, except the small fraction created by the central bank.
That small fraction is the monetary base into which all credit is
presumed to be convertible at maturity.

Credit money represents a balance sheet relation.  Every loan
creates an asset matched by a liability.  When money is equally
an asset and a liability, the borrower must be willing to assume
the liability of the loan, i.e. paying interest and returning the
principal on a date certain.

Any increase in the money supply arises out of the demand for
bank credit, not government spending.  That demand is mainly due
to the desire to finance (1) new enterprise, (2) consumer
spending, or (3) speculative investment.  None of these uses of
credit is the _cause_ of an increase in consumer prices.

Supply affects prices only to the extent that producers can
acquire and maintain a monopoly position, e.g. drug and medical
services.  In years past, labor unions represented a significant
monopoly power that resulted in a cost-push inflation.  These
monopoly positions don't last forever, but they last long enough
to apply upward pressure in the general price level,  That's
largely why we've had a roughly 3% annual inflation rate over the
last fifty years.  The money supply grew as a result.

William F Hummel