As the economy recovers from the Great Recession, what we can expect?  The answer lies in an understanding of economic fundamentals and the specifics of where the evolving global economy now stands. 

Economies, like business enterprises, expand in part by borrowing money.  But when opportunities seem appealing and risks seem small, there is a strong tendency to borrow too much and expand too much, and then those excesses are reversed during economic downturns with an accompanying loss of economic activity for a time. 

This reversal leads to debt defaults, lower asset prices, and a clearer understanding of risks.  Then, once a stable state is reached, economic activity picks up and expansion begins again, with more borrowing to follow.  Thus, any lively economy experiences natural booms and busts.

The trouble is that people don’t like the downside of this cycle.  It’s painful and puts people out of work.  In extreme cases, people can’t find new jobs and lose their homes. 

So after World War II, the U.S. and most of the countries of Western Europe began putting policies in place that would artificially cushion the blow of the low side of this cycle.  Instead of letting things run their course, the government provided various means to mask the effects of imbalances in liquidity, thus eliminating or softening the recessionary phase of the cycle. 

The recessions that we’ve experienced during the post-war period were, of course, less severe than those that occurred before World War II.  Yet, as a result, the cyclical corrections were never dramatic enough in their effects to completely reverse the deficit in liquidity. 

Once the next cycle of growth occurred — with new debt being added to the leftover debt from the previous period of expansion — the cumulative imbalances grew and liquidity reached another new low at the end of each cycle.  This put the entire financial market at a higher and higher risk of deflation and promised a day of reckoning that would be more painful than any in the past.

That, in turn, put increasing pressure on the government to artificially inflate the economy.  In the recent past, this took the form of encouraging individuals to speed up the velocity of money by spending more.  But spending more meant borrowing more, so debt was...