Tags: Obama | stimulus | dollar

It's Stimulating — for Inflation

Tuesday, 10 Feb 2009 05:18 PM

By Phil Brennan

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While the battle rages over the merits and demerits of the so-called Obama/Pelosi/Reid stimulus package, nobody seems concerned about the effect it will have on the good old Yankee dollar.

The dollar once was said to be as good as gold. Today, because of the squandermania of both Republican and Democratic Congresses, it's as good as fool's gold and on its way to being worth about two sheets of toilet paper because of the spending spree in Washington.

To appreciate the deadly effect the stimulus bill and other alleged fiscal remedies will have on our currency, it is important to understand how spending enormous sums of borrowed money affects the value of the dollar.

While somewhat complicated to understand, the nature of inflation — a process in which the amount of currency in circulation is vastly increased by mumbo-jumbo formulas designed to allow government to spend money it does not have, as in the present case — the bottom line is that deficit spending reduces the value of the currency.

Inflation has been defined as too much money chasing too few goods. In that case, the goods magically assume greater value while the currency loses part of its value. That is not the case here.

To finance the stimulus and various bailout programs, stone-broke Uncle Sam needs to go abroad, where some nations such as China have ready cash on hand, to borrow the money to fund its attempts to get the economy moving again. In return, Uncle Sam gives the lending countries government bonds, which in this case are simply IOUs our grandchildren will have to pay.

Aside from the fact that future taxpayers are going to be saddled with the cost of paying the huge interest payments on the money we borrowed, as well as repaying the borrowed money itself, Uncle Sam is going to be in hock as far into the future as the mind of man can reckon.

In the process of borrowing vast sums of money and shoveling it out in programs designed to stimulate the economy, we are in effect increasing the amount of currency in circulation. And when there is more money in circulation while the value of things to spend it on remain constant, the less the value of the dollar. That's inflation, which is not the rise in the cost of goods and services as is generally believed, but the increase in the money supply.

Writing in the Feb. 6 Wall Street Journal, former Journal deputy editorial page editor George Melloan noted that, "Since the beginning of December, the U.S. dollar is down 3.6 percent against the Euro. Yet far from rising, crude oil prices have sunk over that same period, losing 21 percent of their value in New York."

Noting that the Congressional Budget Office is predicting that the federal deficit will reach $1.2 trillion in this fiscal year, more than double the $455 billion deficit posted for fiscal 2008, with some private estimates putting the likely outcome even higher, Melloan warned that it "will drive up interest costs in the federal budget even if Treasury yields stay low. But if a drop in world market demand for Treasuries sends borrowing costs upward, there could be a ballooning of the interest cost line in the budget that will worsen an already frightening outlook. Credit for the rest of the economy will become more dear as well, worsening the recession. Treasury's Wednesday announcement that it will sell a record $67 billion in notes and bonds next week and $493 billion in this quarter weakened Treasury prices, revealing market sensitivity to heavy financing."

Where does all that lead us? Writes Melloan: "The stimulus package is rolling through Congress like an express train packed with goodies, so an enormous deficit seems to be a given. Entitlements will go up instead of being brought under better control, auguring big future deficits." He asks where the Treasury will "find all those trillions in a depressed world economy?

"There is only one answer. The Obama administration and Congress will call on Ben Bernanke at the Fed to demand that he create more dollars — lots and lots of them. The Fed already is talking of buying longer-term Treasuries to support the market, so it will be more of the same — much more."

The result is called inflation, prompting Melloan to worry: "The Fed's outpouring of dollar liquidity after the September crash replaced the liquidity lost by the financial sector and has so far caused no significant uptick in consumer prices. But the worry lies in what will happen next."

He concludes that "Inflation is the product of the demand for money as well as of the supply. And if the Fed finances federal deficits in a moribund economy, it can create more money than the economy can use. The result is ‘stagflation,’ a term coined to describe the 1970s experience. As the global economy slows and Congress relies more on the Fed to finance a huge deficit, there is a very real danger of a return of stagflation. I wonder why no one in Congress or the Obama administration has thought of that as a potential consequence of their stimulus package."

My answer: is "No they haven't." They are solely focused on today and tomorrow, and their attitude seems to be, “We'll worry about the future when we get there.”

Phil Brennan writes for Newsmax.com. He is editor and publisher of Wednesday on the Web (http://www.pvbr.com) and was Washington columnist (Cato) for National Review magazine in the 1960s. He is a trustee of the Lincoln Heritage Institute and a member of the Association For Intelligence Officers. He can be reached at pvb@pvbr.

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