Monday, 19 February 2018

Its Not Inflation Driving Interest Rates Higher (2/10) - Money and Inflation

Money and Inflation 

When it comes to paper banknotes the possibility of melting them down to obtain their value is not possible, because the paper they are printed on has negligible value. If more of these notes are put into circulation than the amount of money they represent, the value of each note will thereby fall proportionately. So, if a central bank simply prints more of these notes, or engages in QE etc. this does not increase the amount of money in circulation, it only increases the quantity of money tokens in circulation, and thereby reduces the value of each of these tokens. In short, it creates inflation, because the money price of commodities rises in proportion to the rise in the quantity of money tokens thrown into circulation. But, it does not do so evenly, because once the additional money tokens are thrown into circulation, the central bank has no control over where those money tokens go. 

It may go to buy imported commodities, for example, where there are insufficient commodities produced in the home market to satisfy this inflated demand; it may go to inflate demand for particular types of commodities, rather than others, so that the money prices of some commodities may, in the short-term, rise proportionately more, whilst the prices of others rise proportionately less, or even fall; or it may go into the purchase of assets, rather than commodities, thereby sparking a speculative frenzy, as the rising prices of those assets cause speculators to buy more of them in the expectation of future capital gains. QE has been a means of the central bank actually controlling where some of the money tokens, it has printed, goes, because the central bank itself uses the additional liquidity to buy those assets, buying government bonds, mortgage bonds, and so on. In doing so, it promotes such a speculative frenzy, and thereby encourages other owners of potential money-capital to use it for such gambling. 

Although the central banks have claimed that QE was intended to stimulate the economy, and to fight deflation, its actual intention was the exact opposite. Its intention was to inflate asset prices, and in doing so to attract additional funds into that speculation, so that the asset prices that had been deflated in 2008, were pumped up again. It was facilitated by the actions of conservative governments that implemented austerity programmes to reduce the level of aggregate demand in the real economy, and thereby to reduce the demand for money-capital, so as to keep interest rates low, and raise the capitalised value of financial assets. Other programmes by conservative governments facilitated the driving of this liquidity into speculation and away from real economic activity. For example, governments created various programmes to prop up house and other property prices, they encouraged speculation in property from buy to let landlords, and established various scams to get people to buy overpriced houses, such as with the Help to Buy scams introduced in Britain. 

That is why, as I said at the start, government bond yields are a bad measure of actual interest rates, because they are so heavily manipulated. A better measure of interest rates is what small and medium sized businesses have to pay to borrow for real capital investment. There we find that there has been a dearth of available funds. The smaller businesses have often had to rely on use of personal credit cards to raise money, with interest rates of up to 30% p.a. Medium sized businesses have had to rely on their own profits for investment, or have resorted increasingly to peer to peer lending schemes, with interest rates of around 10% p.a. 

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