The Low Inflation 'Puzzle' and Financial Crises

Abstract

Low and unresponsive inflation has been termed a “puzzle.” The paper describes a formula for which these conditions have been a prediction since early 2016.

The Money Value Formula analyzes the unit value of a currency solely as a function of long lags of monetary aggregates. The Formula produces a significant statistical explanation for virtually all variability of forward long-term inflation. Its U.S. inflation forecasts are comparable to recognized leaders in accuracy with potential applicability to international economies as well.

Inflation Elasticity, the responsiveness of inflation to monetary stimulus, is derived from the Formula and becomes increasingly inelastic at a geometric rate, explaining central banks’ difficulty attaining targets. The onset of financial crises in four major advanced economies is linked to unanticipated real monetary expansion as economies transition from elastic to inelastic inflation with disinflation spurring unsustainable credit growth for central banks, banking systems, and entire economies.