The slack in labor and goods markets points to a period of subdued unflation or disinflation in the U.S.The negative output gap augurs continued low core inflation though the year, while headline inflation may pick up from the fading base effects of lower commodity prices. In the edium-term downside risks to inflation include sluggish aggregate demand and the negative output gap. First, money supply increases alone will not generate inflation. The velocity of money has slowed and the money multiplier has fallen. Despite growth in excess reserves, credit growth has not yet picked up. Inflation is more a story for the longer-term than the medium term. If and when credit growth does pick up and an economic recovery is clearly underway, the Fed would have to shift into tightening mode, disposing of assets on its balance sheet and shrinking bank reserves to prevent the sharply higher money supply from translating into overly easy credit and high inflation. Some analysts believe the risks of inflation will arise from the Fed having a difficult time exiting from monetary easing, while some analysts believe that the risk to inflation will arise from increasing political pressure to monetize and inflate away the value of public debt.
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