Inflation or Not

There is great debate in the markets these days. In the Inflation-wrestling match, we have 2 of the market's biggest giants at odds with each other. In one corner, we have Inflation doves, Goldman Sachs and in the other corner, we have Inflation hawks, Morgan Stanley. Essentially, the question on everyone's mind is: Will Inflation be a problem in the medium term.

According to Goldman Sachs, the Fed can relax as they have time, and plenty of options on how to end their USD1.1 trillion aid to the banking system. In fact, Goldman warned that that the risk going forward was the Fed might not ease quick enough. In a research note, Goldman said it was very unlikely the Fed will err on the accommodative side. And to deal with any threat of inflation, the Fed may reduce or end the emergency and non-emergency lending program, sell or cease to buy securities, issue Fed debt etc. In short, plenty of tools to unwind the excess credit.

This view is also shared by the New York University and many top Fed officials.

On the other hand, Morgan Stanley said the greatest risk is the Fed might keep accommodation too long and lack the political will to raise rates when needed to. Supporters of this view included Allan Meltzer, a Fed Historian and Economics Professor at Carnegie Mellon University who questioned if the Fed has the "guts" to do it. As he puts it : "I don't think there is a snowball chance in hell they will be willing to tighten to slow inflation down."

Right now, few people really bother with inflation and the primary focus is trying to get out of the recession. To them, the inflation discussion seemed distant and academic. But how long will people remain sanguine? Or is there no threat? Frankly, I'm one of those sanguine ones... haven't really thought about it.... and still haven't.