The sudden increase in federal debt and expansion of monetary policy leads many to believe that we should have significant inflation for years to come. Is this true? Let’s first explore what are the contributing factors for inflation and how savvy investors position themselves for the future.
The balance sheet of the Federal Reserve (Fed) has increased by 2.9 trillion USD since the start of March, meaning that in a short period of time (3 months) it has grown more than it did in the five years following the Financial Crisis of 2008. History gives us many examples of countries that have turned to the printing press during times of economic stress and the net result is often inflation or even hyper-inflation. In Argentina for example, the effect of over printing currency between 1975 and 1990 led to an average annual inflation rate of 300%. The result? The loss of purchasing power in the middle class of more than 30%. (Source: CITECO.fr 10000-years-historyeconomics/contemporary-world/hyperinflation-in-argentina).
While an increase in the money supply often leads to higher levels of inflation, increased money supply is not the only factor. An important factor “Velocity”: the speed at which money moves around the system. The velocity of money is at record low levels. The velocity of money has been falling for years as seen in the chart below. This means that the money supply can increase significantly without necessarily causing high levels of inflation if the velocity remains sluggish.