Want Inflation Now? [Andrew Stuttaford]

For all the good that stimulus packages may or may not do, one of the key features of our current predicament is that the overall level of borrowing, particularly of consumers (and, ahem, governments) remains too high. Crispin Odey, one of the more successful (and more prescient) U.K. hedge-fund managers, looked at this issue in a recent column for the FT. Here's a key extract:
Something has to be done about the debt itself. Governments that choose to try and prolong the old model of a credit-based, consumer-driven economy will fail. It doesn’t work. Short term cash boosts that don’t tackle the debt issue will also fail. Instead, governments should tackle the root of the problem. When markets see that governments understand this, confidence, and the credit it sustains, will return. This solution looks unpalatable, even iconoclastic, against the standards of the post-1980s economic consensus. But that consensus must be challenged. The G20 in April is an opportunity to do that. The world’s total outstanding debts have to be reduced. Our populations and companies need the means and the time to pay them off. These means are profits and pay rises. The other thing we need is inflation.

Inflation will allow debt to reduce day by day. Price rises will make companies going concerns, earning their way back to profit. Pay rises will enable households and consumers to pay down what they owe while saving more and spending some. And inflation allows interest rates to rise but still remain negative in real terms. It is healthier that people receive an annual pay rise than take out an extra annual loan - as they have been doing since 2000. This package will allow markets to breathe again.Inflation is coming in any case as a by-product of today’s world-wide policy intervention. If it comes by force through currency and debt dislocation, then it may come as hyper-inflation at terrible social cost. But it is not useful to see hyper-inflation and deflation as opposite ends of the spectrum. They sit too close to each other on the circle.

Both kill economies and businesses. Our aim must be to achieve an inflationary world until the debt comes down, choosing the right target for the times. The responsible choice is to opt for managed change, to deal with the pain inflation will inflict, at its acutest in the first years, and to fix an exit strategy. We should choose to take this path, set a softer inflation target rate and use forms of quantitative easing, with fiscal action to encourage wage rises. To fight inflation is to fight the last war. In a modern monetary economy the mortal enemy is deflation, and the absence of growth, profits, and wage increases. With the world economy re-started, with the engines of economic growth and job creation running again, and with total debt reducing, we will have time to rebuild sustainable national economies, tackling the problems of imbalances in trade and savings, oil dependence, and ageing populations. With debt coming down, innovation will find the investment it needs to pull us through. Only by getting quickly to a sustainable economic equilibrium can you prevent destruction of our economies.

In a world of debt and deflation, inflation is our friend. Being responsible means recognising that truth.

Food for thought. It's worth adding, of course, that to pull this off without triggering an inflationary spiral would, to put it mildly, a remarkable achievement. Bake into that mix the prospect of what increased inflationary expectations could mean for the cost of borrowing (and what it could mean for the current bubble in Treasuries) and one is reminded yet again that there is no easy way out of this mess.

And as if that is not enough gloom, as you read the full piece, note another undercurrent that runs through Mr. Odey's argument, the rising danger of political and social ferment, a danger that is often overlooked by market fundamentalists.