Larry Kudlow

The great Bernanke QE2 debate continues to heat up. In the run-up to the G-20 meetings, China, Russia, Germany and others have all come out against the Federal Reserve's quantitative-easing agenda. They don't want hot-money excess dollars to flow into their higher-yielding currencies.

The assault against Bernanke's easy money has reached such fever that President Obama felt it necessary to defend the $600 billion in new-money printing in a news conference in India.

Meanwhile, World Bank President Robert Zoellick has actually called for putting gold back into global money, in order to use it as an international reference point to measure market expectations over inflation or deflation. The former Treasury and State Department official wants a successor to Bretton Woods. To my way of thinking, Zoellick is dead-on right.

And then there's Kevin Warsh's opus op-ed in Monday's Wall Street Journal. I have written about Warsh and his sound-thinking views in the past. Taking a bit of a shot at Bernanke's QE2, the Fed board member basically says: Look, you want better growth, reform the tax code and stop regulating. "The Federal Reserve is not a repair shop for broken fiscal, trade or regulatory policies," he writes.

But in the key part of his op-ed, Warsh calls for a strictly limited QE2, not an open-ended commitment. He describes it as "necessarily limited, circumscribed and subject to regular review." And he goes on to say that if the dollar decline and run-up of commodity prices continues, these inflation signals should stop QE2, regardless of the unemployment rate.

It's noteworthy that both Zoellick and Warsh are using gold, commodities and the dollar as alarm signals -- market-based alarm signals -- that would warn the Fed if it's too loose.

Since Bernanke first hinted at quantitative easing in late August, commodity indexes have jumped nearly 20 percent, gold has hit a new record high over $1,400 an ounce and the dollar has fallen nearly 10 percent against the euro. And riding the crest of easy-money expectations, stocks have increased just less than 20 percent. But is it real? Is it sustainable?

The fact is that Ben Bernanke, who seems wedded to an old-style monetarism, is looking at backward inflation signals such as the consumer price index. And here's the irony in Bernanke's monetarism. In the six months prior to April, the M2 money supply was flat. But since April, M2 has turned up rapidly at a 7 percent annual growth rate. So it looks like people are putting money to work as the whole economy may actually be heating up.

And notice that while M2 growth has surged, so have commodities and gold -- all while the dollar has been declining.

Larry Kudlow

Lawrence Kudlow is host of CNBC’s “The Kudlow Report,” which airs nightly from 7 p.m. to 8 p.m.