In the past weeks, I've digested as much inflation paranoia as I can stomach. Far from double-digit debasement of the dollar, current data suggests a coming period of relatively moderate inflation, highlighted only by pockets of significant price increases. Nervous investors who reshuffle their portfolios to brace for an impact that may not come could pay the price for their panic.

Breaking down the inflation equation
In the broadest sense, inflation results from too much money chasing too few goods. On its own, an increase in the money supply -- which has most definitely occurred -- won't cause a widespread spike in prices. True inflation also requires the "chasing goods" factor: vibrant economic activity, fed by robust employment and a healthy lending environment. Needless to say, I don't think we'll be seeing that anytime soon.

Of course, you don’t have to believe me on any of this. Nobel-prize-winning economist Paul Krugman recently explained why runaway inflation looks more like fearmongering and politicking than sound analysis. Addressing concerns about the expanded money supply, Krugman wrote:

[The Fed] has been buying lots of debt both from the government and from the private sector, and paying for these purchases by crediting banks with extra reserves. And in ordinary times, this would be highly inflationary: banks, flush with reserves, would increase loans, which would drive up demand, which would push up prices. But these aren’t ordinary times. Banks aren’t lending out their extra reserves. They’re just sitting on them … So the Fed isn’t really printing money after all.

OK, fine, but surely the recent Fed actions must be inflationary at some point -- right? Not necessarily, Krugman argued:

The Bank of Japan, faced with economic difficulties not too different from those we face today, purchased debt on a huge scale between 1997 and 2003. What happened to consumer prices? They fell.

Finally, there is the nagging question of whether the U.S., unable to sell enough Treasuries, will ultimately be forced to meet its debt obligations by printing money, devaluing the dollar in the process. This outcome seems plausible when one considers forecasts that U.S. debt will soon exceed 100% of GDP.

Here, Krugman points out that Belgium, Canada, and Japan have all faced similar fiscal binds in recent decades, but none of these governments resorted to debt monetization.

Admittedly, the above statistics do not inspire giddy optimism. But history also indicates that there is little cause for panic. Investors currently moving their portfolios into inflation-proof bomb shelters could be disappointed when the shrapnel doesn’t start to fly. Continued...