Tag Archives: hyperinflation in the US

Central Banks are seeking to devalue currencies. Will it ultimately destroy trust?

22 Mar

Fiat money is worth nothing without trust. History has shown that the general populace has great distrust of paper money, hence the need for its backing with some form of physical currency such as gold, silver or copper. Yet here we are, with no such backing (the gold standard was abandoned some 40 years ago), and Central Banks appear to be acting with very little regard to the value of trust.

The new Bank of England Governor, Mark Carney wants to adopt more unconventional monetary policies, Ben Bernanke has indicated that the Fed will continue to print and the Bank of Japan’s new governor has set his sights on aggressively tackling deflation through monetary easing. When everyone is so focused on one thing, it is easy to lose sight of what is really going on.

Inflationary expectations have risen consistently over the past three years. Equity markets have more than doubled from the market lows. The top 1% of US earners now account for over 21% of US total income. Inequality, not surprisingly, has risen substantially – see chart below.


(Source: Gini Co-efficient, Bloomberg)

The Gini coefficient is a measure of equality, where 0 corresponds with perfect equality and 1 corresponds with perfect inequality. US inequality has consistently been rising since the 1970’s along with the percentage of top earners that account for a greater portion of total income:

Top earners

(Source: Dylan Grice, The Edelweiss Journal)

Every crisis has a breaking point. That day may still be a long way away, but there is no doubt that we will face greater headwinds down the line.

Dylan Grice, the former global strategist at Société Générale, has recently joined Edelweiss Holdings Limited where he published last week an very interesting report on the value of trust.

The report is very much worth a read and while there is little one can do to prevent the ensuing crisis, there is no harm in being aware of what can happen when trust disappears within a society.

Trust, hyperinflation and the end of the dollar

13 Feb

Economists love debating the reasons for inflation. Many argue that money supply alone can result in inflation, whereas others believe it is down to capacity constraints in an economy or advancements in technology. The reality is that the causes of inflation are immensely diverse and one reason is never the sole contributor, nor is there a unique common cause of inflation in previous hyperinflationary times.

Instead, hyperinflation is typically caused by a very severe exogenous shock, that then usually forces policymakers to take overly aggressive action in order to overcome their difficulties.

War, the collapse of regimes and currency pegs all feature as severe shocks in previous cases of hyperinflation. Clearly we have none of these yet, but the credit crisis was as close to a severe shock as one could possibly imagine. And how have policymakers responded? Br printing money. We are now 5 years into the crisis and the rate a which central banks globally are printing money is only accelerating.

So why haven’t we seen hyperinflation yet?

It takes time. For the last 40 years Monetary supply in the US (M2) has been growing at an average pace of about 6.75% a year vs. average annual inflation of 4.3%. Clearly the increasingly efficient economy and advancement of technology of the past 40 years have been deflationary enough to keep the CPI below money supply. John Edwards, of Shadowstats, argues that M3 is a better indication of inflationary expectations but sadly the US stopped reporting this some years ago.

m2 and cpi

In any case, if we overlay the monetary base chart over the M2 chart, it is clear that 4 years ago these decoupled SUBSTANTIALLY! This is the effect of QE which has essentially flooded the US monetary base with newly created dollars. It takes time but this will eventually feed through to M2.

monetary base and m2

As it does feed through, prices have to re-adjust (i.e. rise) as people’s perception of the value of that currency diminishes. As trust in a currency’s value disappears, so do people’s willingness to hold onto it, opting instead for alternative currencies or real goods such as property, gold etc, once again compounding the effects of rising prices. And so the spiral goes.

I have no doubt the FED intends to halt QE before we get close to this. But as every episode in history has suggested once the floodgates are opened it is very very difficult to close them again.

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Could hyperinflation in the US be a reality?

11 Feb

Since 2007 the Federal Reserve has expanded its balance sheet by US$2.5 trillion since 2007. To put this in context, it took almost 100 years for the Fed to build its balance sheet to US$0.9 trillion and it then almost tripled this in the last four years.

Like the Fed, many of the world’s central banks have employed the unorthodox (yet now very conventional) monetary policy known as quantitative easing. It is impossible to know what the effects might have been if no intervention had taken place – and policymakers do at least deserve some credit for attempting to tackle the enormity of the credit crisis – but nothing hides the fact that QE is one enormous experiment that could undermine the trust in the perceived value of paper money.

Most cases of hyperinflation occur when governments abuse their trust and monopoly over currency issuance. As pointed out by Reinhart & Rogoff in their excellent book, “This time is different”, a systematic analysis of the data set show that inflation crises and exchange rate crises have travelled hand in hand in the overwhelming majority of episodes across time and countries. Combine this with the fact that most crises are associated to excessive levels of debt (the US national debt now stands at $16.5 trillion, a very excessive 103% of GDP) and we are left with a nasty combination of factors that could have severe consequences for the US dollar.

debt to gdp dec 31

Source: Zerohedge

The economy encompasses such a huge set of variables that determining its precise direction is clearly impossible. Many economists and analysts actually predict deflation as a result of consumers saving more and spending less to reduce the record levels of leverage that has been built since the 1970’s. Others use Japan as the example of a nation that attempted QE and is still mired in inflation.

True Japan attempted QE (although it dwarfs in comparison to the Fed’s QE) and yes consumers will save more. But the crucial and vital point is that the value of a $100 note will only persist for as long as consumers believe its value will hold. No central banker in history has ever attempted to produce hyperinflation. They have all attempted to print money as a short term measure to help fund wars, reparations and… to debts. They all believed they could end it as easily as they started it.

Unfortunately 800 years of financial crises tell us otherwise.


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