Economic Theory (notebook scribbles edition)

Here's the question I came up with while reading Ludvig Von Mises' "'The Causes of the Economic Crisis' and Other Essays Before and After the Great Depression": When central banks print notes to sterilize inflows of foreign money, why is there such a delay between printing money and price inflation/monetary depreciation? In addition, credit growth pushes down interest rates. Why? Increase of supply... but then doesn't inflation cause higher rates?

Maybe this is the same problem in different words. Let's construct a timeline to get a more detailed view of what's actually happening. First, foreign money comes in. Then the central bank buys said foreign exchange by printing money (notes) or extending credit. At this point, let's assume interest rates may be either high or low. If real interest rates are high, money/credit will go into savings, lowering rates. If rates are low, money goes to buying assets or goods, raising prices. Only after rates have been driven lower do rates rise on the back of price inflation, usually with the help of the central bank pushing rates lower. (Obviously, this whole scenario assumes a substantial increase in a nation's money/credit supply.)

On top of that, as rates stay low, the savings flow reverses and pours more money into goods/assets, further increasing prices.

hmmmm... gotta think about this...

Pro - credit expansion/printing always seems to lower rates...
Pro - as rates go lower with the help of what Mises calls "forced savings" (exporters saving a portion of the money they get from exchanging foreign currency at the CB) the currency devalues, creating a more favorable exchange rate for exporters and the boom takes off.

how does forex depreciation jive w. rising rates? - maybe an example would help - how 'bout China...? - Ususally, by the time rates start to rise, it's because the boom has imploded. The first Asian crisis, for example.

shit - don't know if this works... what about pressure from dollar devaluation on all pegged currencies? Can't leave that out of the mix.

Problem solved: if the money's been pegged to dollar, it can rise against the dollar and still fall against goods. Actually this isn't a problem as long as the peg remains.

Next question: Does reflexivity play a role in the process?

How do market manipulations/distortions/sentiment change "fundamentals"?

- Printing money should cause interest rates to rise, however, if the printing goes into savings, it will bring rates down. (Ex.: forex comes into country, central bank buys with printed money, exporter buys govt bonds with money = govt bond yields down, prices up.) This would be an (eventually) self-defeating vicious circle. However, the issue is more complicated because CB's often engage in setting interest rates as well as forex rates. This puts further pressure on lowering rates.

- But this isn't truly "reflexive" in the sense of a self-reinforcing market disruption because lower rates lower the money value. Wait! - it does, because (when the money value falls against foreign money) then more forex comes into the country. - On top of that, more credit is available within the country as credit availability raises collateral values (and banks feel more comfortable lending money).

This seems completely illogical and counterintuitive. The reason it's true, however, is because the depreciation of the money is hidden by the rise in asset prices. While it takes years for inflation to trickle down into consumer goods, interest rates drop quickly. Also there is additional demand for the money from foreign speculators who wish to take advantage of rising collateral values. This further confuses the issue by creating demand for money with a declining interest rate.

That's all for now. Most of this probably doesn't make sense. However, it's a more grammatically correct rendering of my recent notebook brainstorming. Perhaps someday I will distill something valuable out of it.