Saturday, August 28, 2010

Let's talk disequilibrium

Consider the case when money and goods are close to balance, and Central Banker noticeably lowers one year rates  Deposits move from short to long, getting invested on long term bond, forcing the Banker to buy more and more one year notes.

The money flows mostly to long term bonds until the curve is back in its original shape.  Inventory tends to bottle up at the long term warehouses, but by a fraction of the rate that money flows.  Business start, mildy, accepting consolidation at the producer end (long term end).  Pretty soon  the economy sees shortages at the retail end.

The shortages at retail likely appeared after the consolidation of inventory at the long end, well, conservation of mass makes it so.  That deflation, or contraction at the root of distribution is a Kocherlakota Deflation, producers buy less input and hoard cash.

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