Good post. I agree with much of what you say, up to the point...
"... when the economy fails to miraculously recover as the Fed predicted it would, it'll start pursuing policy to increase the amount of money that's spent in the economy, possibly by reducing the rate banks get by depositing at the fed, and that's when inflation will start to pick up in pace in the economy. The inflation that comes with an increased monetary base is currently delayed and has not arrived in the economy yet."
First, I am not sure what scope there is for the Fed to lower rates on reserves and uninvested clearing account balances. My understanding is that the Fed pays 0.25% for reserves and 0% for uninvested balances: http://www.federalreserve.gov/monetarypolicy/20081216d.htm
I think that the past radical expansion of the money base and absence of inflation suggests that the causal connection between the two is remote. I think that the Fed could buy a another $4 trillion in bonds without achieving anything more that driving down bond rates and making significant increases to their annual interest earnings.
Inflation follows when spending levels increase consumption to a point where the economy can't keep supply levels high enough to match the demand. That hasn't happened yet, and it may not happen if the Fed continues to expand its balance sheet.
1. Banks may not choose to lend.
2. If lending activity (prompted by QE?) is directed into investment capacity that increases supply, there is a case for doubling QE without the risk of inflation.
I think that it is a big mistake to make an automatic connection between QE and inflation without thinking through the mechanics.
