One of the most predictable things in economics is the effects of printing more worthless fiat currency also sometimes called by its fancy name “quantitative easing” (QE). When a nation creates too much of its own money without sufficient economic backing, the value of that money declines. Each unit of cash is worth less than it used to be, because the overall purchasing power and value of the money has dropped.
Over the last two years, the US federal government has in effect printed over a trillion dollars to pay for projects and bailouts which it does not have the economic backing to support. That's an enormous amount of extra money dumped into the US economy in TARP bailouts and “stimulus” spending in a very short period of time.
Yet, country is facing stagflation – stagnant wage earning and prices – if not deflation. How could this be?
The first answer is the most obvious one: economies are always more complex than simple models and education can explain. The larger the economy, the more complex it becomes to the point at which no one fully can understand it. That much is always true, yet that does not answer the question completely. For the rest of the answer, we have to go to Midwesterner at the English blog Samizdata:
On October 3rd of 2008, Republicrats and Democans responded to the failure of Lehman Brothers, bankruptcy of Bear Stearns, incipient collapse of AIG Insurance, threatened insolvency of other major financial institutions, and general panic in the financial community, by passing Public Law 110-343. This law contained two basic sections. The most infamous brought us the first of the 'TARP–ulus' genre. But a very important offsetting function was contained in another place in that same law that is known as the Emergency Economic Stabilization Act of 2008. Way down in the fine print, it authorized the Federal Reserve Bank to begin immediately paying banks to not loan out money. That was not their exact choice of words. In fact, read Section 128 where they did it and it is almost impossible to tell what exactly they were doing.
Three days later on October 6th of 2008, the Federal Reserve Bank announced it would begin paying banks to not lend money. Again, not their exact choice of words.
Within less than a month the Federal Reserve Bank began discreetly 'monetizing' by purchasing Fannie and Freddie debt.
By March of 2009, attempts at discretion fell by the wayside and the Federal Reserve began buying US Treasurys outright. Put simply this means that the Federal Reserve began 'printing' money and giving it to the United States Treasury to spend.
During this period of time (from September 2008 through current) the St Louis Adjusted Monetary Base went up by approximately 1 trillion dollars.
In three months of late 2008, the excess bank reserves skyrocketed by almost a trillion dollars. In other words, banks are now sitting on about one trillion dollars which they are being paid by the US Federal Government to not let out into the economy.
Ordinarily banks are required to deposit a fraction of their money with the Federal Reserve Bank (Fed) to act as a buffer against sudden loss of funds and insure their depositors. The Fed then would pay these banks interest on this money. The recent changes in laws allowed the banks to put much more into these reserves, which they did.
Since that time, as charts at Samizdata show, consumer prices have flattened out and stagflation has occurred. If this money being held in the Federal Reserve was let out into the market, the value of the dollar would plummet and consumer prices would rush upward, triggering heavy inflation and even worse economic conditions.
Basically when the stimulus and TARP money went through the various places it was sent, it would go to a bank then get tucked away into this fund, not entering the economy like it normally would in loans and other financial devices.
Now, I'm no master economist and my crystal ball doesn't work any better than yours but this seems to me an untenable situation. This money cannot simply stay in a fund like that forever, and the US is paying banks to essentially not loan, which costs us every day.
What happens when this money finally makes it out into the economy? What mechanism is preventing this from happening and how long will it work? An awful lot is resting on how this works out and this information seems extraordinarily unknown for such as significant series of events.
All I know is that I don't trust financial giants and government bureaucrats to handle it particularly well. If we ever could in the past, after the last few years I think we all can agree that we cannot trust them any longer.