In 2008, after the huge quantitative easing, many economists have suggested that the US would soon experience Weimar Republic-like inflation. Critics argued that the pouring of trillions of dollars would with no doubt result in hyper inflation. However reality brought us a different result. Although the Fed’s Balance sheet has quadrupled since 2008, Consumer Price Index (CPI) has only averaged 2,4 percent. Analysts claim this as strange and warn about the exit strategy, they say that the exit from this expansive policy might be painful.
I do not disagree with them on this last point, the exit strategy will be fundamental in securing the success of the policy, however, I believe analysts fail in understanding the root causes of this phenomena. We have to go back to the beginning of the crisis to understand what happened in the monetary economy. During the housing boom, the monetary economy was clearly leveraged and winning the fight against “real economy gravity,” when things turned for the worst the leveraged money disappeared quickly, those who had the liquid cash took it away from the economy (safe havens). Unable to leverage its cash position, the financial system suffered the pressure of the gravity, our typically inflationary economy with economic agents counting on constantly higher prices in the real estate market, found itself with a big hole derived from the lower leverage and from the money taken out of the market.
This big hole had to be bridged. Not creating a monetary bridge would result in deflation since the “household equity” that provided consumers with additional consumer power was contracting, which would result in lower demand for the same supply. At this point I would believe that this was a lesson learned by policy makers, the Great Depression wasn’t in vain. However, in Europe, nothing was learned. They failed to understand that housing bubble popped, cutting consumers purchasing power, which lead to lower income taxes by the governments which finally resulted in huge public deficits in many European economies. Failing to understand this was the unemployment sentence for the Europeans. The truth is that it was not only possible, but actually vital to expand the monetary base to avoid deflation.
What was done was nothing of the sort. Letting the hole without a bridge was the worst mistake possible, the consequence is deflation, which is already going on in Europe, not in the official figures, but the symptoms are there. The raise in real sovereign debt, the depressed consumption, the only reason why the purchasing power is not raising is because of the taxes that are also raising and eating a substantial part of the purchase power of the ones left employed.
On the other hand, the US were able to avoid a huge depression creating a monetary bridge able to cushion the impact of the monetary economy in the real economy. Now, the economic evolution is sometimes tricky, this policy might result in pronounced inflation in the future if the policymakers are not careful, but that may just be a price to pay for not having social convulsion.