Inflation is a word which stirs fear in the minds of good citizens everywhere. But what exactly is inflation, and how much concern should Americans devote toward its looming specter?

Merriam-Webster Dictionary defines inflation as "a continuing rise in the general price level usually attributed to an increase in the volume of money and credit relative to available goods and services".ⁱ

Inflation is a disproportionate increase in the amount of money printed and circulated by a country's government to the amount of goods and services produced in that country during the same time period.

For example, if workers in America produced 500 cars in the month of February worth $10,000 each, a corresponding amount of money could be printed and put into circulation to match the value of those 500 cars -- $5 million. If the amount of money printed by the government was exactly equal to the value of the 500 cars, inflation should be zero because the amount of money printed was in direct proportion to the number of cars produced.

On the other hand, if the government instead prints $6 million dollars ($1 million greater than the value of the cars), the result will be inflation. Since the value of the cars is less than the amount of money printed, the price of the cars will rise to match the additional $1 million dollars printed by the government. So a car that should cost $10,000 will now cost $12,000.

This is a simplified example; nevertheless it illustrates that the government's printing unwarranted amounts of money causes inflation. The resulting rise in prices is an effect of inflation.

How does inflation fit into the current American economic picture? To understand this, look at what the Federal Reserve is doing. The Federal Reserve is the private central bank of the United States chartered by Congress in 1913 by the Federal Reserve Act to manage the money supply in order to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates”.ⁱⁱ Promoting stable prices means printing (or ceasing to print) the necessary amount of money to keep inflation under control.

Has the Federal Reserve succeeded in promoting stable prices? Consider this chart of the amount of money put into circulation by the Federal Reserve in the United States from 1980 to present.

Source: Federal Reserve of St. Louis, http://research.stlouisfed.org/fred2/series/BASE

The huge spike at 2008-2009 is the result of the spending bills passed by Congress collectively known as stimulus." A good illustration of this is Glenn Beck's recent history of the Federal Reserve's money management.ⁱⁱⁱ Why would the Federal Reserve print more money just because Congress passes bills? Aren't they supposed to print money to keep up with private production of goods and services? Well, here we have discovered the nasty political secret that affects us all. When Congress spends more money than it takes in as taxes from you and me, it must get the extra money from somewhere. That somewhere is the Federal Reserve.

Basically, the Federal Reserve prints money to make up for Congress's deficits. But, as we discussed before, if the Federal Reserve prints money at a faster rate than the private sector of the United States economy produces goods and services, there will be inflation.

The spike in the above graph indicates that, since the latter part of 2008, the Federal Reserve has been printing money faster than any time in our history. However, during the same time period, America has not increased its production of goods and services. In fact, production of goods and services has DECREASED, as indicated by the latest GDP data. In October, November, and December 2008, GDP fell by 6.2%.^iv

So while production fell by 6.2%, the Federal Reserve more than doubled the amount of money in circulation, violating the basic rule that to prevent inflation the money supply should keep pace with production. In order to prevent inflation, the Fed should not have printed any money whatsoever during the last quarter of 2008.
However, because Congress passed massive stimulus bills that must somehow be paid for, the Fed printed money faster than any time in our nation's history. This can only lead to inflation down the road, since there tends to be a lag time between increases in the money supply and increases in prices.

So what is the worst case scenario if inflation gets entirely out of hand? We have two examples to consider, one being the German Weimar Republic in the period after World War I and the present day example of Zimbabwe in Africa.

The Weimar Republic was the government in Germany after the First World War. Since Germany lost the war, the Treaty of Versailles required Germany to pay huge amounts of reparations to the winning countries. The German government was forced to print large quantities of money to pay these reparations even though the country was not producing enough goods and services to justify the increase in the money supply. Prices doubled in the years 1914 to 1919, but in one five month period of 1922 prices again doubled! To protect their savings, Germans began buying goods such as pianos, diamonds, and gold. Eventually, the German mark became so worthless that the people were reduced to bartering to obtain necessities. Bars of soap were traded for gasoline. Cocaine became a popular currency”. By November 1923, one U.S. Dollar was equal to one TRILLION German marks, leading housewives to burn marks instead of wood. The resulting inflation and destruction of the Germans' life savings contributed to the rise of Adolph Hitler, who promised to restore Germany's economy and way of life.^v

In the nation of Zimbabwe, a contemporary example of hyperinflation exists. The tyrannical government of President Robert Mugabe, which has held in power since 1980, runs the presses day and night to finance lavish lifestyles for the inner ring of favored party members while the majority of the Zimbabwean people cannot afford bread. The Zimbabwean economy has been in decline ever since Mugabe came to power, and a country which once grew so much food that it exported the excess to other African nations now has citizens literally dying in the streets from starvation and malnutrition. In the former breadbasket of Africa” mothers now dredge the rivers and dig in the dirt to find traces of gold to exchange for bread to feed their children, as this heartbreaking video shows.^vi In 2008, the Zimbabwean money supply grew at an incomprehensible 658 BILLION percent, causing the government to knock twelve zeroes off their currency to try to halt the inflation, unsuccessfully as it turned out.^vii Zim dollars have become even more worthless than the German mark, and Zimbabweans have found better uses for their money than as currency to purchase needed food.

Granted, these are the worst case scenarios of hyperinflation, but could inflation reach such excessive levels in America? Yes and no. Any government can create hyperinflation by running the printing presses nonstop, but economic predictions are a murky science. However, we will most likely see inflation in the future since the Federal Reserve is printing money to finance Congress's and Obama's profligate spending while our private sector production is shrinking. How bad it will get depends on how recklessly our government keeps spending money it does not have. All the same, fasten your seat belts; it could be a bumpy ride.

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