As the European Central Bank has proven (most notably, with its Long Term Refinancing Operation), massive liquidity injections can forestall insolvency. The hope – in the U.S. and even more so in Europe – is that, if the economic engine is given enough time, it will eventually heal itself. What are the risks? If the injections are stopped before the engine is fully functional, the result will be deflation. If the injections continue after the engine is fully functional, the result will be inflation.
Fed Chairman Bernanke and other central bankers are walking a tightrope, with deflation on one side and inflation on the other. In a circus, the tightrope walker can see how much further he must go to reach his destination and how far he will fall if he loses his balance. Central bankers lack the tightrope watcher’s knowledge. Tightrope walkers have a less risky occupation.