There is a big debate going on right now on whether we should be concerned with inflation. 10 year Treasury securities have started to creep up recently, but it should come as no surprise as everyone knows that the government will need to sell substantial amounts of debt in the next few years.
There is no question that all the debt the government is piling up will increase inflationary pressures down the road. However, the reason it’s not a problem for the moment because demand is so weak and the fact of the matter is, it could be quite some time before that demand recovers.
The Fed has in the past, shown it’s resolve in fighting inflation and there is no reason to believe that they won’t take the necessary steps to combat it once again if they feel it becomes a problem. The main problem I see down the road is that the economy may be entering in a period of higher interest rates, which will be the likely outcome once all that government debt starts to flood the market.
The Fed will probably have to maintain it’s balance sheet operations and continue to be active participants in the Treasuries market if they don’t want those rates to get out of hand. Even once the recession ends, it’s expected to take a long time for the economy to recover to it’s former level and that time frame may be lengthened if the Fed is forced to raise interest rates sooner than they wish.
A lot will depend on how quickly the financial system can recover and whether or not the government will have to spend anymore money to shore it up. During the financial crisis the Fed has had to become the main driver of credit expansion in place of private investment once secondary markets for securitized loans started shutting down. Since short term inflation expectations have been low, the Fed has had the leeway to act aggressively but that may not be the case a few years down the road if and when another recession occurs.
At the moment it’s too early to tell whether or not inflation will become a problem, as we’ve already glaringly seen with the price of oil for instance. Everyone thought inflation was a big problem when oil hit $140 but not when it was under $40 a few months later.
Source: www.banks.com/blogs.
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