In today's Globe and Mail, Avner Mandelman has a column which you can read here. Avner Mandelman is president and chief investment officer of Giraffe Capital Corp. He is stating that inflation is very under reported in the US right now, then goes on to explain why he thinks that inflation is raising its ugly head again. He states that he believes that it is due to the velocity of money. In previous postings, I have stated that money has to move in order to do work, and if it is not moving (equivalent of being stuffed in a mattress for example) it may as well not exist. Avner thinks that this round of inflation is mainly due to money moving faster than it has in the past. He claims that this faster movement is being caused by technology. Click a mouse and voila, money has moved. While I agree to some extent that yes, money can move faster and thus might contribute to some rise in commodity prices, I feel that this effect is a minor one. Money has been moving a bit faster for quite a few years now, but I don't think anything radical has happened here to explain inflation.
I'll tell you what I think is happening. I think that large pools of offshore US dollars are making their way back into the mainstream US economy. If US dollars are used extensively as a medium of exchange in other areas of the globe, especially areas that don't do a lot of trading with the US itself, then those dollars may as well not exist as far as the US is concerned. US dollars are widely accepted all over the planet and have been used as a major medium of exchange outside the US. For example, El Salvador uses the US dollar as its official currency. Those dollars can flow all over El Salvador as a medium of exchange, and as long as El Salvador doesn't chase US goods or services or bids up commodities (such as oil) that the US is also trying to buy, then those dollars may as well simply not exist as far as the US is concerned. Of course El Salvador does a lot of trade with the US so in reality this example doesn't really apply, I just use it as a hypothetical one to illustrate my point.
So why are these previously isolated dollars now starting to find their way home? Well, in one simple word, the Euro. The Euro is a relatively new currency that is an alternative to the US dollar since it is also being widely accepted worldwide as a medium of exchange. A lot of foreign entities, formerly holding US dollars, are now opting to hold some Euros instead. Those displaced US dollars are now starting to come home to roost. Also remember all the spending on the Iraq war, much of it done in newly "printed" US dollars? Those billions of dollars spent overseas are also finding their way back to the US. This whole thing has been fairly obvious as we watch the US dollar fall with respect to the Euro.
To "somerize" lol, all this, the money supply doesn't have to actually grow to cause inflation, it just has to effectively grow with respect to the particular economy where you are measuring the inflation. Velocity changes just don't cut it, in my opinion anyway.
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