The explosion in the assets on the Fed's balance sheet of more than $3.3 trillion since the beginning of the QE process has resulted in the creation of at least that much new money. Using a back-of-the-envelope calculation, the change in currency in circulation as well as demand and savings deposits at commercial banks since the start of QE has been about $4.2 trillion. Net loan growth at those institutions has been about $1.1 trillion.The $3.1 trillion difference is, as expected, close to the growth of the Fed's balance sheet.

Asset Inflation

So, why haven't we had inflation if the money supply has grown so much? Well, we actually have had inflation. The only place we don't find it is in the Bureau of Labor Statistics' CPI calculation.

But, rather than dwelling on this single measure, consider that the form that inflation -- rising prices -- takes very much depends on what Citizen Y does with the newly created money, and what those who receive the money from Y do with it. More concretely, the Fed purchases from the large Wall Street institutions. So, it is likely that we will find inflation if we followed the path of the newly created money from those institutions.

As I have been discussing, about 25% of the newly created money over the past five years has gone into net new lending. Where did the rest of it go? It is a pretty sure bet that, given that these are Wall Street banks, much of it went into the equity and real estate markets. Equity prices as measured by the S&P 500 have risen by 150% over the five-year period, and by 29.6% in 2013 alone. Meanwhile, real estate prices as measured by the Case-Shiller 20-City Composite rose 13.7% last year.

It is also a pretty sure bet that the newly created money found its way into the emerging markets, where interest rates have been higher and the Fed's promise of low U.S. rates for a long period of time (known as the "carry-trade") significantly reduced the risk of the trade.

The latest 12-month official data show that inflation in Brazil is 5.6%, in India 8.8%, in Indonesia 8.2% and in Turkey 7.8%. Of course, we are all aware that the currencies of these countries have been crushed over the past six weeks, as hedge funds and other large investors have, en masse, withdrawn their funds as the prospect of a Fed tapering has become reality, along with expected rising rates.

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