What the monetarists (or the first of them to be equipped with computers) found was that when the growth rate of the money supply rises:
* The initial effect is on the prices of bonds and stocks, an effect that comes within a few months.
* The peak effect on the growth rate of economic activity comes about 18 to 30 months after the pick-up in the growth rate of the money supply.
* The peak effect on the rate of consumer price inflation comes about 12 to 18 months after that, which is to say it comes 30 to 48 months after the peak growth rate in the money supply.
Specific to this financial cycle:
If you apply the findings of the monetarists to the present situation, here's what you get. The peak growth rate in the money supply occurred last December, so based on the general monetarist schedule:
* Some of the effect on stocks and bonds should already have been felt.
* The peak effect on economic activity should come between the middle of 2010 and the middle of 2011.
* The peak effect on consumer price inflation should come between the middle of 2011 and the end of 2012.
1. When you hear would-be opinion leaders cite the current absence of rising prices at the supermarket as proof that all the new money isn't a source of inflation, don't believe them. It is much too early for the inflation bomb to be going off, even though the powder has been packed and the fuse has been lit.
2. If the large and growing federal deficits and the Federal Reserve's unprecedentedly easy policies tempt you to leverage up on inflation-sensitive assets, such as gold, give the idea a second thought. It likely will be a year or more until price inflation becomes obvious and undeniable (which is what it would take to bring the general public into the gold market). In the meantime, your inflation-sensitive assets could get paddled rudely as the deleveraging that began last year continues.
For at least the next year, the simple, fire-and-forget strategy is 50-50 gold and cash – gold for what looks to be inevitable but on its own schedule, cash to be ready for the bargains that may show up while we're waiting for the inevitable to arrive.