Inflationn adjusted working wages for the last 30 years have remained about the same , however the lavish lifestyle of the recent 2000's used debt to make up for wages. With debt now cutailed, the consumer spending(70% of the economy) is cutailed. this is deflationary. The USA economy must now rely on the true products and services we produce. this is now a falling number. The USA is now in a downward spiral of layoffs and lower prices of products to attract buyers. This my be now self sustaining. A large percentage of the working force is 2 paychecks from losing everything. This will get worse before it gets better. When the economy does turn positve, there will be massive inflation from ,the all the fiat money used as bailouts (note so far only 1% of GDP), but it may take longer than most economists think....

It is difficult to predict the timing of upsurge in inflation,but this excess money supply does create inflation .Nixon's refusal to come up with the Gold in 1971 and subsequent increase in money supply took several years for inflation to materialise.

In 1970s gold tripled in value , but this increase in gold price happened over several years

http://inflationdata.com/inflation/Inflation_Rate/HistoricalInflation.aspx?dsInflation_currentPage=2

Several people have commented on the meaning or definition of inflation.

Historically, there have been several widely used definitions:

1. Inflation as an increase in the money supply (monetary inflation);

2. Inflation as a general rise in the level of prices in the economy (price inflation).

3. Inflation as an increase in the supply of money that exceeds the increase in the quantity of goods and services produced during a period of time, such that there is a general rise of prices in the economy.

4. Inflation as an increase in the supply of money during a period of time that exceeds any increase in the demand for cash balances or the money-facilitating transactions in the economy such that prices in general rise in the economy.

There would be a set of comparable definitions for the meaning of deflation.

There are a whole array of conceptual problems in definitions 2, 3, and 4.

First, what is the meaning of "the general level of prices" in the economy? This is usually answered by referring to any number of statistical measurements in "price indexes," for example the consumer price index or the wholesale price index, or the producer price index.

Which of these indexes is chosen -- since they focus on different prices that do not always move in the same direction or to the same degree -- will influence whether one concludes that prices in general have increased (or decreased) and there for whether "price inflation" (or "price deflation") has been or is occurring.

Furthermore, how one constructs each of these indexes influences the outcome -- what goods are included in the index, what "weight" or relative importance is assigned to each of the goods in the index "basket" that is being tracked through time. (There are other conceptual issues as well, such as estimating changes in the quality of goods in the basket over time, the fact that over time there may be shifts in the goods people actually consume or use in production over time, or the relative amounts they purchase, which modifies the relevancy of the "weights"of the goods in the basket.)

There are a variety of policy issues surrounding the following of a price level index as a policy norm.

For instance, "price deflation" is being raised as a "boggy-man" right now because it is used as a synonym for falling aggregate demand leading to declining output and rising unemployment.

But if a wide variety of consumer goods and producer goods prices, and the wages of labor in certain occupations and sectors of the economy have been pushed up during the "boom" period of the business cycle to levels that are unsustainable after the bursting of the "bubbles," then the fall in such prices and wages may be necessary elements in the adjustment of the economy back to sustainable balance and growth.

There is also the fact that an economy may experience a period of falling prices ("price deflation") that is the result of increases in output and productivity that enables more goods to be offered on the market at lower prices due to greater supplies and lower costs of production.

In this instance -- which happened through a good part of the second half of the 19th century in America -- consumers see improved standards of living through a rise in the value or purchasing power of every unit of money they earn and spend.

This is most certainly a "good deflation." Think of computer prices or big flat-screen television prices over the last decade. In a growing economy, as one good after another had such cost-efficiency improvements and productivity gains, any
calculated consumer price index would track a falling "price level." But it should not be interpreted for policy purposes as a "bad" that needs to be either prevented or reversed.

Focusing on price level "inflation" or "deflation" also hides from view the fact that monetary changes (increases or decreases in the money supply) never impact all prices at the same time or the same degree.

An increase in the money supply (broadly defined) is "injected" into the economy at some point, such as the banking system. It affects interest rates first due to the attempt by financial institutions experiencing an increase in available "loanable funds" to attract additional borrowers.

These additional loans are usually for investment purposes, or consumer durables such as houses or cars, for instance. Those receiving the loans with the newly created money spend it on the various goods and services they choose to purchase, raising the demands and the prices of first some goods and then others.

Slowly but surely the money works its way through the economy pushing up one set of prices, then another, and then another, in a particular temporal sequence depending on the actual spending patterns of such new group of recipients of the new money.

This is what economists often mean by the "non-neutrality of money." All the influences and effects from this process is hidden from view by narrowly focusing on the "general price level" and whether or not it is moving in a price "inflationary" or "deflationary" direction.

Monetary changes may be thought of like a pebble dropped in a pond of water. There is an epicenter where it first impacts, and they over time a series of ripples are sent out from that point until, finally, the entire surface of the water will be affected by the "disturbance" caused by the pebble hitting the surface.

Thus, in general, it seems to me better to focus on the causal factor -- changes in the money supply -- and view that as the "inflationary" or "deflationary" force. Any and all changes in the general "scale" of prices, and any changes in the "structure of relative prices" due to changes in the money supply start from that causal factor.

Finally, I did emphasize in my article that whether or not prices would rise (or fall) in general would be determined by the interrelationship between the increase in the supply of money and the short-run and longer-run demand by consumers, producers, and financial institutions to hold cash balances. Thus, I did not ignore the "velocity" element.

The velocity of the circulation of money, after all, is nothing more than its inverse: the decision by market participants to hold certain average cash balances over a period of time and therefore their chosen rate of spending out of income.

Richard Ebeling

Clearly the collapse of credit has overwhelmed the expansion of money supply by the Fed currently, so we have deflation rather than inflation. The tricky part will come when (and if) we reach the point where people start spending, and banks start lending again. More important, how quickly will that change in attitude happen? When (and if)it does, the huge increase of money supply which has built up, combined no doubt with huge fiscal stimulus from congress, will become a nasty inflationary problem.

There are plenty of us around who lived through the 70s, and know how to play the inflation game. A switch from "avoid owning any assets" to "borrow all you can and buy hard assets" could happen very quickly. As another reader commented, the Fed is clearly aware of this, but it will be interesting to see if they can keep it all under control. We do live in interesting times.

I have a question for the experts out there...It seems to me that we are experiencing the result of a massive pullout of foreign investors. I would think that this would leave a large void of capital in the country. Is the Fed trying to print money to replace what has been lost?? If so, I'm looking forward to a fresh outlook on foreign relations.

hjk- you are right. Inflation is an increase in the general price level caused by errant monetary policy (i.e. too much money supplied relative to money demand). In a credit crisis as we are now in the demand to hold cash and near cash equivalents is very high (look at the brief negative yield experienced on short term treasuries as evidence, or the surging balances in money markets). Expressed in a monetary equation MV = PQ this demand to hold liquid cash balances results in a plummeting velocity (V) which means unless the Fed dramatically offsets the drop in velocity with an expansion of monetary growth (M) you get either dramatically falling prices (p) and lower real GDP output (Q). Richard Eberling's definition of inflation is patently false... you can not look at the change in money supply without context for V, P, or Q and draw any conclusion. Money supply is expanding dramatically to offset the decline in velocity and forestall a deflation and even more dramatic drop in output. Eberling's description of inflation as just a measure of money supply growth (disconnected from prices and changes in price level) is one of the most absurd ideas I have read in a long time, and certainly is NOT an idea endorsed by any economist I have read including Adam Smith.

Tyson:

I think it's safe to say that the Fed is "printing money." But you might be interested in these comments from an old Wall Street Journal (Sep. 19, '08): "the Treasury is selling securities in the markets and leaving the proceeds at the Fed," or in other words, "the Treasury has sucked up cash already in the economy and deposited it at the Fed to be redeployed elsewhere."

By the way, I think the legend in the graph is wrong. Shouldn't the blue line be M1 and the orange line be M2?

Richard,

Under normal circumstances, there is no question that the degree of monetary creation is highly inflationary. However, we are hardly in normal circumstances, and there are massively disinflationary forces coming about by the marking to market of various structured debt instruments nearly to zero, and the resulting equity disintegration of financial banks and non-banks.
I'm going to side with Roubini on this one and claim that the deleveraging is so spectacular and massive that we have reached a point where massive monetary creation fails to exceed the massive monetary destruction occuring in the financial markets. Or, in other words, despite asymptotically vertical old style M growth the net result on the total monetary growth remains negative. And with banks and consumers lacking confidence in the financial markets, the minsky moment has been reached, further influencing the problem by a declining Velocity of money.
Basic stuff, but that's what I believe. While if this monetary phenomenon is protracted, we will unquestionably see inflation, for all intents and purposes we are Japan now, and there has been no inflation of signficance there.
Regards

Question:
What impact does the baby boomer segment getting out of the workforce (going into retirement) and also going into super savings mode (scared of losing their hard earned money) have on Year GDP.
If you look closely GDP has not grown in any 1 segment other than Real Estate (which grew out of low interest rates) and the Government spending.

So there is quite a bit of less demand now and will continue unitl around 2017 - peak of baby boomer retiring.

I would say there is alot of deflationary forces invisible to the idea if there is alot less demand and dollars circulating in the economy.

RDR