Although we had retail price deflation (due to manufacturing being shifted to low cost developing economies like China and India), asset bubbles were created that were exacerbated by lax monetary policy. Central banks should have recognised these assets bubbles as the inflationary phenomena that they were and increased rates to balance western economies. Rather central banks saw these bubbles, not as rational responses to money flow from east to west, but as irrational and strange one off occurrences that would fix themselves with no long term consequences.
Economists and central banks ignored the fact that inflation should have been showing up very strongly in the Chinese economy as so much money was flowing in so quickly from the US and other western countries. The Chinese government, rather than spend the money from state bank deposits and taxation in China was buy up all the US bonds that it could. Thus the dollar was protected and America could live well beyond its means and buy even more Chinese goods.
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Friday 16 January 2009
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