If you read the economic news like my fiance does anything with Kate Gosselin’s picture on the cover then you’ve been hearing a lot about hyperinflation lately.  If you don’t then here’s a little catch-up.

Inflation is the increase in the price of goods over time.  It’s usually around 2-3% which is generally considered stable.  It’s why you can’t get a Coke for 5 cents anymore but even at $1.50 today it’s not bankrupting you.

HYPERinflation would therefore be self-explanatory.  The value of a currency quickly, and painfully, decreases.  Right now you can go fill up your tank for $40 and probably and have enough left over for a 40oz a Mt. Dew.  That isn’t too painful.  What if in 6 months that same tank was $100?  What if by Labor Day in 2010 it would set you back $950?  All this time the price of oil and gas to the rest of the world was flat.  That’s hyperinflation.  Mint.com had a great post of 9 currencies that failed because of hyperinflation, they’re stories are much worse than what I gave you above.

So why are economists, pundits, and know-nothings like me talking about hyperinflation?  This usually comes about due to irresponsible fiscal and monetary policy.  The overall supply of money in the economy increases at a rate that at some point becomes uncontrollable.  As a government, you can technically print as much money as you wish to meet your expenses.  If you increase the money supply by 1% over the course of a year, the corresponding inflation rate would also be 1%, all else equal.  This is because with everyone now having 1% more money chasing after the same supply of goods the price of those goods will increase equally.  Now in the real world many factors contribute to inflation.  The same applies for hyperinflation.  No one act can cause hyperinflation to occur.  However a sustained effort by the government to flood the economy with cash could knock down the first domino.

A series of events like that which started in 2008 with our stimulus checks.  This money was “printed” and increased the overall money supply in the US.  Just about every bailout, stimulus, rebate, or tax cut since then has achieved the same outcome of increasing the supply of money.  This chart below, borrowed from Clusterstock (whom I love so dearly), accurately shows the increase in money supply of the last few years.  Ignore the inflation metric for a second, we’ll get to that.

As you can see with the blue line, the money supply has increased considerably and we can only expect it to continue to do so for the immediate future.

Now you’re pretty smart, relative to chimpanzees at least, and so even though I told you to ignore inflation on the chart you still looked at it.  You’re seeing we’ve actually experienced deflation over the last year or so.  In fact, over the last 12 months the inflation rate has been negative 1.3%, the largest decline since Truman ran the world was president.  talk about how we’re deflating now and that isn’t good. yield curve expecting inflation, it will come.  In the first few paragraphs I just rationally explained why increasing the money supply would send inflation up.  But here’s proof that isn’t happening.

Be cool baby.  The inflation doesn’t immediately occur as soon as money enters the market.  Money takes a while to get into the corners of the economy.  When you take that first sip of Miller High Life Mt. Dew you don’t immediately have to go break the seal in the ladies room.  It takes time.  Disturbing analogies aside, there is a very real concern about inflation.  The Federal Reserve and economists alike aren’t blown away by the most recent inflation numbers.  This is a residual effect of an economy that is still suffering.  You might think that deflation might be a good thing.  Prices are cheaper right?  Well it also means we aren’t buying stuff, which means companies lose money, which means they do layoffs, which means we don’t have money to buy stuff, which mean prices go down further.  It’s a circling drain.  The huge increase in money supply exists to keep this very thing from happening.  The government is intentionally creating inflation.  It just hasn’t started yet.

So will we see hyperinflation?  Dunno.  Once we start to get some economic recovery we’ll likely see inflation pick back up.  It’s the role of the Fed to make sure this doesn’t get out of control.  They have a number of tools for this, most notably would be to raise interest rates.  This makes borrowing money (also known as purchasing money) more expensive and discourages us from doing so.  That however may not be enough.  The federal government could do us all a favor by reducing their national debt.  We’ll see if that happens.

To be sure, the cheap interest rates we’ve see over the last 12 months won’t be here for long.  As soon as economic recovery is generally accepted to be on track, then interest rates will go up to bring that money supply back down.

By The Weakonomist

The Weakonomist is the founder of Weakonomics. Clicking the picture of the puppy will tell you more about him. If you like what you're reading consider subscribing to the blog, following him on Twitter, and checking out the related posts below. Please consider a donation if you really enjoy Weakonomics.

categories: economics, government