Monetary inflation is likely to be directed at resolving two broad problems: providing a safety net for the banks and big businesses, as well as funding rising government deficits. Therefore, the amount of quantitative easing, which will be central to satisfying these objectives, will soar.
The effect on markets will differ from being a rerun of the 1929–32 example in one key respect. Ninety years ago, the two major currencies, the dollar and sterling, were on a gold exchange standard, which meant that during the crisis asset and commodity prices were effectively measured in gold. Today, there is no gold backing and prices will be measured in expanding quantities of fiat currency.
Prices measured in fiat currencies will be determined ultimately by the course of monetary policy. But in real terms, the outlook is for a repeat of the conditions that afflicted markets and economies during and following the 1929 Wall Street crash. A further difference from the Depression years is that today Western governments have extensive legal obligations to provide their citizens with welfare, the cost of which is escalating in real terms. Add to this the cost of rising unemployment and a decline in tax revenue and we can see that government deficits and debts will increase rapidly even in a moderate recession.
This brings us to an additional problem, likely to be evident in a secondary phase of the credit crisis. As it becomes obvious that the purchasing power of fiat currencies is being undermined at a rate which is impossible to conceal through statistical methods, the discounted value of future money reflected in its time preference will rise irrespective of interest rate policy. Consequently, borrowers will be faced with rising interest rates to compensate for both increasing time preference and the additional loan risk faced by lending to different classes of borrowers.
Besides closing off virtually all debt financing for businesses and increasingly indebted consumers, this will play havoc with governments accustomed to borrowing at
The world of fiat currencies faces no less than its last hurrah. Indeed, some of
None of them will work, because even a new form of money will require inflation to rescue government finances and prevent financial and economic failure. The accelerating pace of monetary creation to address these problems will remain the one problem central to the failure of a system of credit and monetary creation: the impossibility of resolving the debt trap that has ensnared us all.
Just as Germany found in 1923, monetary inflation as a means of funding government and other economic liabilities is a process that rapidly gets out of its control. Eventually, people understand the debasement fraud and begin to dispose of the fiat currency as rapidly as possible. It then has no value.
The ending of the fiat currency regime is bound to terminate the repeating cycles of bank credit
- Source, Alasdair Macleod via Mises
