Rebuilding the Theoretical Model of Inflation with Loanable Funds

The core concepts of price, output and inflation and expectations that underpin the credit cycle in Chapters 8 and 10 are now explained consistently using aggregate demand and supply, which is used to explain the growth of loans, and consequently, to explain the endogenous flow of the money supply with inflation, or, too much money chasing too few goods (and services). Now put this into reverse. Deflation can happen because of rapid growth of real output, but it can also be caused by the desires of commercial banks to avoid default risk, and because of the consequent loss to the economy of access to credit. The analysis here will show that in recent years, concerning the great financial crisis, the lender of last resort interventions have just about staved off economic depression, but the demand management and fiscal policies described as austerity have perpetuated the current fragility of the economy with growing income inequality. Government policy reactions to the coronavirus epidemic may renew these problems. For example, the U.K. policy of channelling financial assistance to business through commercial bank loans has been relatively slow to work, and unsuccessful. Inequality in many economies has been increased by aiding ‘standard’ jobs and businesses, but often not those in the ‘gig’ economy.