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The Washington Post released an article today stating that the price of coal has risen by more than 50% over the last five months. Earlier in the week, I gave a brief explanation of the economic theory I developed 5 years ago called Energy-based inflation.

The article published by the Washington Post creates an even greater awareness of the important of energy prices in the inflation rate of an economy. According to the US Department of Energy, we generate 49% of our energy from coal, which means that US businesses are not likely going to absorb the increase in energy costs. The costs are going to be passed along to the consumer. Guess which bill you are going to pay with your federal tax rebate? You might as well start writing the check to you local electric company.

One short-term solution would be for the Federal Reserve to choke the economy with a steep shortening of the money supply to force a deep recession. I’m sure this won’t happen, but it would actually produce the best result down the road. By choking the economy, it would force people and businesses to heavily reduce the consumption of energy. It would also result in considerable loss of jobs that would ripple into the economies of countries like China (the largest consumer of energy in the world). With American consumption down, Chinese energy demand would rapidly slow down. The problem with this solution is that it cost hundreds of thousands, if no millions, of jobs around the world. It would also create significant instability in the financial markets as investors would pull substantial investments out of China.

Another solution would be for the Federal Reserve to continue to lower rates to help spur consumer spending and business investment. The issue with this is the energy-based inflation will just be exacerbated by the expanding money supply. Inflation will then have two driving forces: (1) high demand for energy and low supply; (2) an expanding American money supply. Ultimately, this will lead to further devaluation of the dollar and relatively few Americans better in a couple years than we are right now. There is a long-term solution to energy-based inflation, however.

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