I was on the Max Keiser show talking to Max about precious metals, currency debasement and hyperinflation. Max was pushing the view that the U.S. was on its way to hyperinflation due to its reckless monetary policy. I argued against this view. The video is below, but let me argue my case first.
People arguing that hyperinflation is around the corner usually are pushing this view because of an ideological bias against fiat money. This is a bias I share because I believe that fiat money allows excessive money creation that winds up as a credit super bubble - and our experience over the past 40 years demonstrates this. However, I don't let this bias get in the way of my analysis of the economics of the situation. I have a better understanding of the fiat money system because I am not anchored in a gold-standard mentality when looking at the constraints on government in the fiat money system and the types of events that lead to hyperinflation. The hyperinflation talk is a gimmick used to push a particular ideological viewpoint. While I share that viewpoint and don't like fiat money, I am not a fear monger, so you won't see pushing an ideological agenda which has the economics wrong.
Here are a few bullet points that are salient for understanding fiat money and hyperinflation.
So what about Hyperinflation?
Weimar Germany 1919-1923
After World War I, every nation which fought was broke because of the war's cost. No country had enough gold assets to repay the billions of dollars they owed. And this was a multilateral problem. For example, Britain could not repay its debts to the US until the other Allies repaid their debts to Britain. The Americans were not sympathetic. The prevailing desire was recovering the over $25.5 billion the US had loaned to other nations during the war.
As a result of these debts, the war's victors laid out draconian terms to punish the Germans in the Treaty of Versailles in 1919. War reparations were one third of Germany's spending. Therefore, Germany's budget deficit was half of GDP. (The situation in Iceland due to Icesave's collapse comes to mind here). And to make things even worse, reparations were in a foreign currency.
It's not as if the Germans could print off a bunch of Reichsmarks to make good on their reparations (The Reichsmark is the more legitimate currency that came into being after the hyperinflation). When the Germans defaulted on their obligations, the Belgians and the French moved in and occupied the Ruhr region, Germany's industrial heartland. The result was widespread strikes and idled productive capacity. Afterwards, demand for goods in Germany far outstripped the productive supply.
So, with a huge portion of tax revenue going to pay reparations in foreign currency, the German government turned to the printing presses to make good on its domestic obligations. The surge in money supply and the lack of productive resources led to hyperinflation and collapse.
The key to Weimar's hyperinflation was two-fold.
That's Weimar.
Zimbabwe
While the facts in Zimbabwe are different, the underlying causes for hyperinflation were the same: foreign currency obligations and a loss of productive capacity.
Zimbabwe had established Independence from Britain in 1980. Yet, by the late 1990s 70% of productive arable land was still held by the small minority 1% of white farmers in the country. After years of talk about redistribution, in 2000, the President Robert Mugabe began to redistribute this land.
The redistribution process was a disaster, both legally and economically. Many whites fled as violence escalated. The result was an enormous decline in Zimbabwe's agricultural production. With agricultural production having plummeted, Zimbabwe was forced to pay to import food in hard currency.
Meanwhile, the government turned to the printing presses to fulfil its domestic obligations. as in Germany, the foreign currency obligations, the loss of productive capacity and the money printing was a toxic brew which ended in hyperinflation.
-Hyperinflation in the USA, May 2010
As you can see from the two most severe cases of hyperinflation, the problem in each case was a loss of productive capacity, foreign currency liabilities, and a loss of the ability to tax. When the economy is overheating, traditionally we think of interest rates, the price of money, as the mechanism which government could use to slow things down and bring inflation to heel. However, fiscal policy is effective here. If government increases taxes, it cools the economy and reduces consumption, relieving the pressure on productive capacity. Thus, the loss of the ability to tax is central in hyperinflation.
In the German example, the Germans had a huge foreign currency liability that it had to pay, meaning it could not make good on the liability by printing money. It was a currency user as far as these liabilities went. Meanwhile, with productive capacity limited, the government was then unable to ease price pressure through the tax lever. The shortage of goods drove up prices inexorably and the government was forced to turn to the printing press in order to meet its domestic obligations.
In the Zimbabwe example, taxes were again central. Unable to recoup enough tax revenue and with large foreign currency obligations and a loss of productive capacity, the government resorted to printing money in an environment where prices were rising.
So, hyperinflation has very specific preconditions that are not apparent in the U.S..
In short, there will be no hyperinflation in the U.S. any time soon.
As to fiat money and the need for a new world order, that is a separate topic to take up at a later date.
Watch our segment from about 10 minutes into the video below.
Enjoy.
Stock prices have reached what looks like a permanently high plateau.— Irving Fisher, 1929
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