Via Market Ticker
Today’s lesson that you should have derived from your elementary and middle-school math is served….
Let’s recap first.
GDP = C + I + G + (x – i), where “C” is consumption, “I” is investment, “G” is government spending and (x – i) is net exports.
GDP must be bought with something, and that “something” must either be money or credit. Since each “unit” of money or credit “turns over” in the economy some number of times in a year, and the unit of time in GDP is a year, we have:
GDP = ((M + C) * V), where “M” = money (earned output from personal production), “C” = credit (a promise to produce tomorrow) and “V” = Velocity (number of times the “M” or “C” turns over.)
Now let’s look at “M”, or “money.” We think of “money” as cash, but in fact “M” is a subset of something larger, otherwise known as “wealth”, or “W”. Wealth is that which you’ve previously earned and retain. “M” is that which you can immediately dispose of and is a subset of “W”.
There are two forms of “C”, or credit. “C” either comes into existence because you sequester some of your “W”, or it comes into existence without such a sequester.
When you take a loan backed by collateral you are making liquid current wealth. In doing so you post as reserve something you hold as wealth. This is not inflationary for that reason — you withdraw from the market the potential use of that wealth during the time the loan is outstanding by posting it as security.
But when you have unsecured credit outstanding that is pure monetary inflation because you posted exactly nothing against it other than your word you will pay, and that has no wealth value (it is “on the come” that you will earn wealth tomorrow.)