The first of these ideas says that if demand for a product rises and the supply does not then its price is going to increase. Economists would say this is so basic that no one could really argue with it. So let me do so.
First, this assumes that there are no alternative products available. The reality is that there usually are. Few things are so essential now that this is not the case.
Spud is assuming that economists haven’t heard of substitution now, is he? Seriously, he can’t be this dim, can he?
What is necessary then for inflation to happen is that not just one product must suffer excess demand, but all must.
There is an alternative theory out there, that inflation is an excess supply of money, the one thing…..
The point is, that what quantitative easing did was create new money. This is indisputable. That’s what the Bank of England says it does. That’s not news then. Or a shock. It’s a statement of fact.
But what is not a fact is that this leads to inflation, as some economists claim. They quote the quantity theory of money. This is a piece of economics that says if there is more money chasing the same quantity of goods prices go up. This is why they say we face inflation now.
They note that quantitative easing (QE) creates money without any more work being done and without any extra tax being due so they argue that this must lead to inflation. But they are wrong, for a number of reasons.
The most important reason is that they assume the government creates all money when making their claim. It is true that the government is important when money creation is being considered but it most certainly does not create all money. That’s because banks also create money.
Banks create money by lending. That is how all money is created. So, when lending increases the money supply goes up. The corollary is that when loans are repaid then the money supply goes down. There are few other rules in economics as basic as that.
And in the money equation. MV=PQ, the rate at which narrow money – the BoE created kind – turns into wide money, the form that influences inflation, is the rate at which banks increase their lending. Or, as we can also put it, V in the equation. V is hugely suppressed at present. One US measure of it went from 3 in 1960 to 11 in 2010 or so and is now back at 3 again. And the P³ bet is that it won;t go back to 11. Not everyone else is quite so sure…..