If this graphic is not alarming, I don’t know what is:
Arthur Laffer, writing at the WSJ (emphasis added): Get Ready for Inflation and Higher Interest Rates
The unprecedented expansion of the money supply could make the ’70s look benign.
Here we stand more than a year into a grave economic crisis with a projected budget deficit of 13% of GDP. That’s more than twice the size of the next largest deficit since World War II. And this projected deficit is the culmination of a year when the federal government, at taxpayers’ expense, acquired enormous stakes in the banking, auto, mortgage, health-care and insurance industries.
The percentage increase in the monetary base is the largest increase in the past 50 years by a factor of 10 (see chart nearby). It is so far outside the realm of our prior experiential base that historical comparisons are rendered difficult if not meaningless. The currency-in-circulation component of the monetary base — which prior to the expansion had comprised 95% of the monetary base — has risen by a little less than 10%, while bank reserves have increased almost 20-fold. Now the currency-in-circulation component of the monetary base is a smidgen less than 50% of the monetary base. Yikes!
What’s coming up next?
It’s difficult to estimate the magnitude of the inflationary and interest-rate consequences of the Fed’s actions because, frankly, we haven’t ever seen anything like this in the U.S. To date what’s happened is potentially far more inflationary than were the monetary policies of the 1970s, when the prime interest rate peaked at 21.5% and inflation peaked in the low double digits. Gold prices went from $35 per ounce to $850 per ounce, and the dollar collapsed on the foreign exchanges. It wasn’t a pretty picture.
Laffer proposes that the Fed increase reserve requirements on member banks to absorb the excess reserves. I doubt that the Fed is willing to do that.
Expect very high inflation. How high? Time will tell.
There’s a way to nip this in the bud: First, the Treasury and Fed should work together to protect the value of the dollar. Here’s how they do it. At the Fed’s June meeting in two weeks, Ben Bernanke should put in the FOMC minutes a clear reference to an exit strategy that will curb the massive money creation that Art Laffer wrote about in today’s Wall Street Journal. Next, at its September meeting, the Fed should raise its target rate — which is now 0.0 to 0.25 percent — pulling it up to 25 basis points, the upper end of the current range. That’s a small, even tiny, move that would represent about a 12 basis-point hike. But the move would at least send a signal that the Fed has an exit strategy from excess money that it intends to implement. Just that tiny move would go a long way towards protecting the dollar and knocking down inflation fears.
At the same time, the Treasury should purchase dollars in the open market to reinforce the much-neglected King Dollar scenario. In the long-run, Treasury interventions won’t work. But in the short-run, when combined with a Fed exit strategy, a dollar intervention will work.
Let’s hope the Fed does what Kudlow suggests. However, my gut tells me that the guy who couldn’t figure out TurboTax has no idea what Kudlow’s talking about.