Inflation is this hazy concept, that seems simple on the surface, but gets complicated the more you think about it. Inflation has been paraded in recent years as the evil monster, but it is not always a bad thing. It is a tool in the armory of Central Bankers, and has been ominously called the “nuclear option”.Lets say there is a Mr. Gabbar Singh. Mr. Gabbar has been living beyond his means the last few years. He ran up huge credit card bills and borrowed money to buy a large house. He also bought 2 cars, a flat screen plasma TV and a whole bunch of Chinese toys. Now, he suddenly finds himself $50,000 in debt. He has a job that pays $50 an hour, so he’s going to have to work 1000 hours to pay off all his debt. In short, he’s in financial trouble.

Now lets say the central bank in Mr. Gabbar’s country decides to inflate the currency. Overnight, it prints several truckloads of money, causing 50% inflation! Prices everywhere rise, and so do wages, by 50%, because of the inflation.

Now, Mr. Gabbar is making $75 an hour, but the amount of money he owes the bank stays at $50,000. This is the key. The amount of money he owes the bank doesn’t change, but each dollar is now worth less. He has to now only work 666 hours to pay off his debt! By inflating by 50%, the central bank has reduced the real debt on Mr. Gabbar by a third! Mr. Gabbar lives happily ever after!

But wait, there is a catch. Lets say there is another Ms. Basanti. Ms. Basanti has been a good citizen for the last few years, has been regularly putting 20% of her income into savings. She hasn’t binged on debt like Mr. Gabbar, and has lived within her means. She has $50,000 in savings in a bank.

Now there is suddenly 50% inflation. The amount of money in the bank stays at $50,000, but it is now worth much less. Ms. Basanti has been saving to buy a small apartment, which cost $50,000, but because of the inflation, it is now worth $75,000. She has to now work for an additional 500 hours to be able to afford the apartment. If it wasn’t for the inflation, she could have bought the apartment today.

Inflation helps those in debt and hurts those that have saved. By printing all that money, the central bank has reward Mr. Gabbar Singh for his bad and reckless behavior, while it has hurt the model citizen Ms. Basanti. This is the “moral hazard” argument.

And here’s the twist in the story: If a country is filled with Mr. Gabbars and only a few Ms. Basantis, overall, it is a benefit to the country to inflate the currency. This is the situation the US finds itself in today. It is a nation full of debtors – Its citizens are in debt, its local governments, medicare, medicaid is in debt, and the central government is also in massive debt. The inflation nuclear option is starting to look real good at this point.