Inflation Series – Inflation Causes Malinvestment.

Inflation: Artificial expansion of the money supply.

Let’s start with supply and demand. The supply of loanable funds and the demand for loanable funds is part of the natural market mechanism that determines the market rate of interest. When allowed to operate this disequilibrium-tending-towards-equilibrium coordinates goods and services in the present and goods and services in the future.

When the currency is counterfeited by the central bank the funny money has to enter into the economy somewhere and by design the central bank uses the banking system to inject the expanded supply of money. If you visualize the effect of an increase in the supply of money (the supply curve moves to the right), now as loanable funds, you will see that the effect is to artificially push down the interest rate. 

The signal that is sent is that there is a greater supply of loanable funds. This alters the pattern of present goods and services and it alters the pattern of future goods and services. The faulty signal causes errors in judgment. The investment errors resulting from judgments made based on distorted prices – the interest rate is a price – causes malinvestment.

The regression theorem of interventionism ‘pins the tail’ of the tremendous costs associated with the errors caused by distorting the interest rate ‘on the donkey’ or ‘jackass’ – the interventionist central bank.

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