Saturday, September 10, 2011

Putting the Hyper-Inflation Cart Before the Accelerating Price-Inflation Horse

I have received a few emails pointing me to a Gary North article where he argues that hyperinflation is not likely in the United States. I can't argue that his scenario is not one potential scenario, but I don't think it is the only possible scenario.

The first problem is that even if a runaway inflation were to occur, we are very far off time wise from such a situation (minimum two years). No one knows what the political climate will be like or what the overall attitude toward money printing will be, at that time.

MMT'ers are gaining in popularity and they hold policy views that could easily lead us toward hyper-inflation. If the MMT view gains popularity, I could easily see a period of hyper-inflation in the US.

Second, it is not exactly clear that the Federal Reserve understands at all times what it is doing as far as money creation. As I regularly point out here, Bernanke has tweaked the way the Fed controls the money supply in ways that make it much more difficult to understand how quickly money supply will grow in the future. The prime example being the $1.6 trillion sitting as excess reserves  that are now slowly leaking out into the economy. If the leaking accelerates, will this concern Bernanke? Will he act to drain leaking reserves, a drain that would likely have a major upward effect on interest rates? No one knows how this will play out.

Third, it is a serious mistake to overestimate the economic intelligence of government economic advisers and officials. North, himself, points to the mad money printing period under Fed chairman G. William Miller. Given the erratic money supply stop and go money growth policies under Bernanke and his peculiar tweaking of policy tools, the only thing you can really say for certain about Bernanke is that he is one odd duck. I would in no manner try to venture a guess as to what Bernanke is going to do six months from now, especially given that money supply (M2) is now growing at 15% plus. Does he even know this is occurring?

Finally, the big problem with North's scenario is the fact that the dollar is the world's reserve currency. Currently, as various crises pop up around the world, it is clear that the dollar is still respected as a safe haven (as evidenced by the low interest rates on Treasury securities and the flight to these securities during each crisis), but as Bernanke keeps the printing presses running, at some point the global attitude about the dollar could shift dramatically and every central banker that now hugs dollars could choose to ditch those dollars. It is likely that not even hell has a downward swirling slide comparable to the slide that the dollar will take, if the worlds bankers decide to shun the dollar. Such a shipping of dollars back to our shores could in itself cause a hyper-inflation that would be very hard for even a skilled Federal Reserve chairman to handle (and I don't think Bernanke is so skilled).

These are some of the factors that make it very difficult to envision what may happen in the economy beyond six months out. That said, North's point that the economy is in essentially a "Boom-bust, boom-bust, boom-bust:..pattern" is very important. All too often, those who understand some elements of the boom-bust cycle think it a one go round on the merry-go-round and once the downtrend hits, it is a downtrend forevermore.

It's not necessarily so, the cycle is as North's states, "Boom-bust, boom-bust, boom-bust." I see many Austrian-type commentators forecast more doom for the current economy and even higher unemployment, but as I have been trying to point out, we are much more likely in the early stages of a new Fed manipulated boom. Unemployment in the private sector is improving at the same pace as the last cycle and price inflation at the producer level has been trending upward since the start of the year.

So don't put me in the more unemployment camp or the mild inflation camp,or in the non-hyperinflation camp. Long term there are too many unknowns to be in any camp, especially when you have a machine known as the Fed that can shoot out billions trillions of dollars whenever it chooses and the size of the manipulated part of the economy gets bigger and bigger. I just watch what the Fed is doing and adjust accordingly on a roughly six month basis. The constant adjustments are no way to live, but are necessary because of the fact that we do have a central bank, the Federal Reserve, that manipulates up and down the money supply. Right now, because of the new money accelerated growth that is occurring,  I anticipate that the climb in price inflation is going to escalate dramatically, where this spike in price inflation will stop, I have no idea. I just take it six months at a time.


  1. I agree with you that there are more scenarios than North considers. Even he agrees that if the government were to nationalize the Fed then hyper-inflation would be a possibility. But if the banksters realized the jig was up would they fold for the good of the country or would they hyper-inflate in order to hang on to power for a couple more years? I'd bet on hyper-inflation.

    However, I'm wondering how far inflation will be able to go. With 10-year Treasuries we're already at a 2% rate of return with a 3.6% official inflation rate. So effective yields are already negative. So how much further can yields go? But if yields can't decline, prices can't continue to rise. Yields are going to have to go up and interest rates are going to have to rise which means declining bond prices.

    But how high does inflation have to get before inflationary expectations set in? High inflationary expectations could send money velocity higher fueling yet more inflation, but they would also sent interest rates soaring. So it seems to me that we're not just looking at an end to the bull market in bonds, we're more likely looking at the bursting of the bond market bubble and a downturn at least as bad as 2008-9. I don't have a crystal ball, but that strikes me as the most likely scenario. That this might be accompanied by a collapse in the dollar as well also doesn't strike me as out of the question. Our current policies are very, very risky.

  2. Short term,as Europe decides who fails,money will be going into gold and US treasuries. When Europe has settled down, it's our turn. Money will go into gold and the Euro. Hyper inflate? Maybe. All I know is that the US is being kept on life support by 0% rates. If we do half of the right thing, this service sector economy is in for big trouble. It's a matter of when,not if in my opinion. I think the big hedge is gold. You will be in better shape if you own enough.

  3. I read all Gary North articles on lewrockwell. A year after learning about the Fed, I still can't believe just how absurd our financial system is. One thing I think is a safe bet is that our government will not cut spending in any meaningful way as long as they have a printing press at their disposal.

  4. I was thinking about this too, and along the same lines. Thanks for posting you thoughts.

  5. There is one thing all the "hyperinflation is impossible because it is not in their interest to bring it on" folks. "They" are not infallible, people. Of course it is not in their interest for it to happen. Still, it is a good argument, in that while they are reckless when it comes to "us" (anyone who is not "them" LOL), they won't intentionally destroy the system that enriches them. As long as our suffering doesn't get to the breaking point, they win. The problem is, that breaking point is very elastic. As long as times are good, most people seem to care less about increasing tyranny. But when times aren't good, and getting worse, well, that line might be very adjust, possibly to their detriment.

  6. I'm glad you brought up the reserve currency issue. I felt that overlooking this was the single biggest issue in North's analysis. The dollar being the world's reserve currency has allowed the Fed to act more irresponsibly (i.e. without higher inflation than we've had) than it would have been able to otherwise. The Fed has made the rest of the world our bitches, but that's about to end. Ron Paul's warnings are going over the heads of the politicians, pundits, and voters, but he is spot-on in making this a huge issue.

  7. I'm not an economist so much of this is over my head but I found this April piece by John Hussman interesting

    particularly the section

    "Charles Plosser and the 50% contraction of the Fed's balance sheet"

    It's quite worrying how precarious all this stuff is.

  8. It would be interesting if you commented on Mish stating that money supply is growing but credit is not. And Austrians who look only at the money supply growth are missing a key ingredient to price inflation.

  9. I agree with you that there are more scenarios than North considers. Argentina had a currency peg for roughly ten years, and when its economy crashed in 2001, the currency dropped by around 75%. The US has a currency peg with China, a major trading partner, and the dollar is the global reserve currency, of course, so I think a brief plummet by at least, say, 50%, is likely when the world definitively decides to dump the dollar. The number is less because China's economy isn't far bigger than ours, to say the least, but the number might also be much higher (say, 92%) because the Argentine peso wasn't the global reserve currency. I can't think that holding dollars in anything but the very short-term is sensible.
    Perhaps the most valuable side of Dr. North's predictions these years hasn't been what would happen while to the price of gold while the bubble was first blowing, 2003-2008, but the behavior in which the fed was likely to engage afterwords. Faber, Schiff, and Rogers have already been doing the former - simple necessary predictions of the Austrian school. I hope that makes sense.

  10. MMTers have made it to Goldman Sachs: