E How Government Causes Inflation

We know that inflation is the debasement of money by government. The effects of inflation show up in the form of rising prices over time. The rising prices are a reflection of the loss of purchasing power of the currency involved. For our purposes, that means the U.S. dollar.

The chart below depicts increases in the Consumer Price Index, year-to-year, dating back to 1914...

source

The green columns indicate years during which the prices of goods and services - as represented by the CPI - increased. This is  "a reflection of the loss of purchasing power" of the U.S. dollar.

The red columns indicate years during which the prices of goods and services declined. The falling prices in those years are "a reflection of the increase in purchasing power of the U.S. dollar".

The overwhelming predominance of green years vs red years (red years of significance are 1921-22, 1926-28 1930-32, 1938) indicates an ongoing, long-term decline in the value of the U.S. dollar - over many decades. However, the extent of the decline is easily underestimated.

The effects are cumulative. And when one learns that the U.S. dollar has lost ninety-eight percent of its purchasing power over the course of the period depicted in the chart above, the gravity of the situation is worsened considerably.

How does the government "cause", or create, inflation?

The term government includes central banks. The U.S. Treasury, in conjunction with the Federal Reserve, continually expands the supply of money and credit by issuing Treasury Bonds, Notes, and Bills.

The Federal Reserve receives the newly certified Treasury securities and then issues a credit to the U.S. Treasury reflecting the amount of the Treasury Securities which are now on deposit with the Fed.

The U.S. Treasury proceeds to spend the new funds which it has received from the Federal Reserve, and the Fed subsequently places the Treasury securities with certain primary dealers, who, in turn, offer them to investors. The investors include foreign governments, large corporations, and private individuals.

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Kelsey Williams is the author of two books: INFLATION, WHAT IT IS, WHAT IT ISN'T, AND WHO'S RESPONSIBLE FOR IT  and   more

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Gary Anderson 1 year ago Contributor's comment

If you had a million dollars of government treasuries, you would trade them for the cash banks create. That is not strictly speaking, fiat money. Fiat money is not backed by assets. Your treasuries were debt to the government, but assets belonging to you. Without them, or a house, etc, you could not get the bank loan.

Kelsey Williams 1 year ago Author's comment

Gary, thanks for your comment. To clarify: The original money credited to the government in exchange for the Treasury Securities (a government IOU, promise to pay) is strictly new money that is created out of thin air. It is 'monetizing the debt' at the point of origin. It does not come from money or assets already in the system. My hypothetical example in the article was meant to relate the issue on a more familiar level as well as illustrate the absurdity of the Fed/Treasury transaction. However, even on a retail basis - whatever collateral is provided by the borrower - the loan proceeds advanced are a creation of new money, too. All loans made by banks are 'new money' that is then added to the system. That is only possible due to our system of fractional-reserve banking. Our money today is mostly credit. The 'dollar' balances in the system are over-leveraged and under-collateralized.

Gary Anderson 1 year ago Contributor's comment

Yes, but Kelsey, my idea of real fiat money is that which has no collateral backing at all. Being under-collateralized is likely, especially in derivatives markets. Hopefully you will share more of that insight in the future! Thanks, author.