This article (subscribers only) in the Wall Street Journal explains it. The WSJ’s Alen Mattich argues that central bankers want inflation — and that they’re "doing everything they can to engineer substantial rates of [it]."The massive debt loads being carried by most developed countries means that, if at all possible, they need to inflate their way out of trouble.
The U.S.'s massive debt accumulation during the Great Depression and Second World War was eroded through nominal gross domestic product (GDP) growth in the following decades. But the bulk of that nominal growth came in the form of inflation, according to analysis by Joachim Fels at Morgan Stanley. Between 1946 and 2003, the U.S. government’s debt burden fell by an annual average 1.2% of GDP. Around 56% of the decrease in that debt load came from inflation, with the rest from growth in real GDP.
Central bankers know this. Which is why they’re doing everything they can to engineer substantial rates of inflation in their economies.
Take the Bank of England (BOE)… [T]he U.K. carries the biggest burden of private sector, including financial services, debt in the world, while public debt is also growing rapidly. The problem is easy to see. High debt, combined with slow real economic growth, means a heavy interest burden for a long time…
[T]he BOE knows inflation is the only way to alleviate that burden.
There was no better signal of its intention to keep inflation going at a strong clip than during the press conference that followed the BOE’s latest Inflation Report, published this week. BOE Governor Mervyn King made it explicit that in all probability the Bank will resume its quantitative easing program. This will allow the BOE to depreciate sterling, which will boost inflation and help domestic exporters, and will keep market interest rates down, thus lessening the repayment burden.
The BOE’s strategy will work as long as there is insecurity about other currencies (so, comparatively speaking, sterling doesn’t look the disaster it really is). And as long as the markets have faith in its inflation-fighting intentions.
In other words, Mattich is suggesting that the BOE is acting as though it is concerned about inflation, while at the same time actually feeding it.
Here’s an excerpt from the Morgan Stanley analysis mentioned above (prepared by the Morgan Stanley Global Economics Team in Europe). This portion focuses on the likelihood of future inflation in U.S.:[INDENT]US public debt as a share of GDP is now higher than at any other time in history except after World War 2 — and rising: our US colleagues expect public debt to GDP to increase to 87% by 2020…
Stabilisation of public debt to GDP at current levels would require average inflation rates between 4-6% over the coming decade… [Even w]ith an average deficit as low as 3% of GDP, debt stabilisation would require average inflation above 6%. Note that in the current fiscal year (FY) we expect a deficit of 9% of GDP, projected to decline to 5.2% of GDP by 2020…
Should we be worried about ‘debtflation’ — the Fed engineering inflation to keep the debt in check? A forward-looking central bank may prefer to create a little controlled inflation now to the pressure of inflating a lot later on. And the idea of controlled inflation has influential advocates in policy circles.
[/INDENT]It all concerns me enough that I put 20% of my investments in gold.