Hoenig Sees Inflation Ahead
By Staff News & Analysis - June 18, 2010

Hoenig continues to advocate for raising federal funds rate … Tom Hoenig, president of the Federal Reserve Bank of Kansas City, again made a case for raising the federal funds rate as he spoke to members of The Kansas City Club on Thursday afternoon. The federal funds rate, the overnight interest rate banks can charge to lend money to other banks through the Federal Reserve, is the main tool the Fed uses to control the economy. The rate is about 0.2 percent, its lowest in 65 years. Earlier this month, Hoenig argued that he wants to move the federal funds target rate to 1 percent by the end of summer. He further explained that position on Thursday. The United States is on track this year for 3 percent to 3.5 percent growth in gross domestic product, he said, and though that may not be thrilling, it's still a systematic improvement. "If that trend continues — although the job market is coming back very slowly — then we should see a slow but steady increase," Hoenig said. "That should bring us back to our potential in two to two-and-a-half years. It's that period I'm thinking about. I'm not thinking about next quarter." Hoenig said the longer the Federal Reserve keeps rates below its long-term equilibrium point of about 3 percent, the more likely it is to cause imbalances in the economy down the road. – Kansas City Business Journal

Dominant Social Theme: Let us raise rates judiciously …

Free-Market Analysis: In numerous articles we have examined the inflation versus deflation argument and come to the conclusion that while there is a good deal of price deflation taking place, we have had difficulty ascertaining how the money stock is being lowered by such deflation. Because of this we believe that eventually America and the West in general will experience inflation – or more likely "biflation" (as one feedbacker wrote to us) or stagflation, though it will not be the money stock itself that is involved so much as prices.

Here are a few articles we wrote previously dealing with this topic:

Deflation as a Scare Tactic

Deflation Is Good

Britain to See Inflation

It is immensely confusing in this Keynesian day-and-age to get these explanations correct. It is as if the ability to verbalize the ins and outs of society's most basic stuff, money, has been banished from the lips of even the savviest observers. Inflation and deflation, with the exception of skilled hard-money observers such as Gary North, are virtually always used as catch-all terms that can refer either to the money supply itself (the classical definition) or prices (a Keynesian approach).

We actually find the argument to be something of a dominant social theme. The constant palaver over what comes next for Western economies is a fear-based promotion because it separates out the causes and effects of over-printing money from the action itself. Thus it is that some Federal Reserve bankers – like Hoenig as excerpted in the article above – can make the argument for aggressive action against potential price inflation while other central bankers in America and certainly throughout the West are far less concerned.

The promotion itself is built around the distancing that such statements provide. If one central banker argues for tightening while others argue for the status quo, or even for loosening (lowering rates further – though it is hard to see how that can be done right now), then the impression is given that price inflation and deflation are extraneous things. They are NOT. Central banks are inflation machines! Almost always the modern central bank inflates, prints and circulates more money than the economy would generate via a free-market currency.

When central bankers step in front of microphones and speak of their "fears" of "inflation," they are in fact being disingenuous. The best way to get rid of the inflation/deflation argument would be to do away with mercantilist private/public central banks and let real money (gold and silver), along with Real Bills, circulate freely. The market itself would then adjust to the available money stock, with or without "free" or fractional reserve banking and the entire inflation-deflation argument would be no more.

But while we wait for that miraculous day, bankers will continue to step up in front of the cameras to speak about their fears of "inflation" or "deflation" as if they themselves, and their institutions, are not the cause of it. It is a perfect fear-based meme, one that both upsets the public that tunes in and at the same time encourages those who are concerned to choose sides within the mechanism of central banking nonetheless. The argument is circular and airless. So long as central banking is not explained properly, there are only two alternatives: agitate for central bankers to print more money or less.

The central banking meme, therefore, is one of the most important if not THE most important meme of all. The ability to print as much money as one likes and lend it to whomever one likes is a great privilege. It is like owning a goose that lays gold and silver eggs. The only more fundamental dominant social theme may be that of the state itself, and its speciously positioned opposition to "anarchy."

To read more, click here: False Meme of Anarchy.

In pointing out that the inflation versus deflation argument is disingenuous we are not necessarily concluding that central bankers are entirely aware of the promotion. The beauty of the power-elite system is that it sets parameters and then lets individuals fill in the lacunae. You may wish to be a central banker and pursue that "career" and indeed work within the central banking community without ever deciding that you are merely a promotional shill for more powerful entities. This is of course the best kind of promotion, when the promoters involved believe in their product.

Hoenig, we reckon, is genuinely worried about price inflation. He has made his point strongly and on several occasions and we have no reason not to take him at his word just because he is a central banker. In fact even the most cynical, mercantilist, central bankers might wish to push their opinions if they see a risk that the system can blow up. We actually tend to agree with Hoenig, though our solution would be to get rid of central banking rather than to tighten the money supply.

In any event, Hoenig's argument complements what we have written. There is too much money in the system – the American system certainly – and that money needs to be taken out of the system before it begins to circulate. There is no question then that the Federal Reserve has inflated – it has – but the more important issue in a sense is whether or not price inflation will follow on the heels of monetary inflation.

The whole issue, of course, is complicated – as we mentioned before – by the inability of most anyone including economists to make the proper distinction between the money supply itself and the consequent price fluctuation of money stuff. There are, for instance, a great many eloquent deflationists within the alternative media community that are predicting such ruinous "deflation" that it will inevitably bring down the economy itself. We agree that price deflation is a serious concern, but at the same time we wonder about the mechanism of monetary (versus price) deflation.

Even if monetary deflation feeds on itself, we are still left with the question of where the money goes. If the money does not "go away" – if it stays in circulation – it can ultimately cause price inflation. During the kind of vast economic bust that the West is suffering from currently, there can obviously be a great deal of price deflation, especially if people are refusing to "spend." But at some point, the currencies that have been printed so prodigiously will start to circulate. This is what Hoenig is concerned about.

But it is a measure of the difficulty that central banks have in terms of withdrawing money from the system, that Hoenig is currently a lonely voice. We have brought this up before. Who is to say when central banks should start to withdraw money, or how much? This the Achilles' Heel of central banking, that there is no mechanism that explains when to draw down the money supply.

After Thoughts

With such a weak (jobless) recovery in the States, and in Europe, too, central banks are apt to leave money in the system far too long. The end result: stagflation, a combination of a sluggish economy and increased price inflation. First price deflation, then inflation. Hoenig is right to anticipate price inflation, but who is to say his timing is correct? His seeming certainty, in our estimation, is a kind of promotion, no matter how sincere his motives.

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