Gargantuan U.S. government deficits will cause inflation to take off, claim observers such as Bud Conrad, author of Profiting from the Worlds Economic Crisis. Thats because the U.S. government will take the easy way out and crank up the printing presses to meet its financial obligations.
Instead, what about a replay of the 1980s? The U.S. government under Ronald Reagan spent heavily on military armaments and slashed taxes, resulting inhuge budget deficits. As J. Anthony Boeckh notes in his exceptional book, The Great Reflation, those huge deficits triggered fears they would be monetized and cause inflation to take-off. Sound familiar?
As it turned out, the deficits put upward pressures on interest rates and attracted foreign capital into the U.S. that helped finance the government deficits. This kept inflation at bay by curtailing the need to print of money; the inflow of foreign capital also drove up the value of the U.S. dollar and trimmed inflationary tendencies by dampening the export sector and encouraging a flood of low-priced imports to enter the U.S. (think Wal-Mart).
If this precedent is a portent of what lies ahead, an extended appreciation in the U.S. dollar and even-greater trade deficit could be extrapolated into the next decade. And, as in the 1980s, the consequentdeflection of U.S. spending to trading partners, notably China, could send them further into overdrive and dangerous excesses, culminating in another Plaza Accord-like agreement between the U.S. and its major trading partners to bring the U.S. dollar down.
Im not necessarily suggesting we are in for a replay of the events in the 1980s. I just thought it was interesting that the U.S. has had fears before of large deficits precipitating galloping inflation, and those fears proved to be misplaced. Perhaps the events of the 1980 are something to keep in mind as one of the possible scenarios ahead, although I realize this time around there are some notable differences, such as much higher levels of debt and trade deficits.