This was a doubt that I had a few days back. Everybody (at least central banks) has been trying to infuse 'liquidity' into the world markets. Governments are pumping in billions of dollars to infuse cash into the market. Also nobody was lending to one another not because of lack of monet but because of a lack of trust.
My doubt goes like this. The world was awash with liquid money some time back. Because of the sub-prime crisis, assets esp. property have lost value. This only means that the realizable amount a house owner will get if he sells his house has gone down. But there is already money in the system which must be locked somewhere. Now we are trying to infuse extra cash into the system. Some time in the future confidence will return and people will start lending normally and engage in transactions as before. Will the cash being pumpd in right now not add to the cash already existing in the market? Further - right now there is no inflation as such, so the need to pump in more money to counter the loss of value is not there; also no cash is being 'physically destroyed', so what is to stop inflation from arising in the future because of the money being pumped in right now? Can anyone clear this up for me please?
1 comment:
The cash being pumped into the market is essentially to enhance the investor sentiment and the trust in the banks. Anyways the money that comes into the market is from banks. Instead of a natural process they just increased the rate of infusion.
Inflation is a much better phenomenon than deflation. Once the prices start correcting , people generally do not know the end of the pit. Eg : you are building a house. Once you know that the prices of materials will fall , you will wait till eternity so that you will get a good bargain. This inturn leads to reduced demand and forms a vicious cycle.
Hence the govs and banks feel that inflation is a better option than a vicious cycle of deflation. Moreover there are many parameters on which inflation is calculated like the wholesale price index and the consumer index. Pumping in money need not necessarily inflate both these indices.
Disclaimer : I am an Electronics n communications engineer and I am not sure of the terminology or the thought process. These are purely my thoughts.
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