Thoughts from the Frontline

Can “It” Happen Here?

By John Mauldin

October 15, 2011

Choose your language

Can “It” Happen Here?
How Could This All Happen?
Currencies, Culture, and Chaos
What Causes Hyperinflation?
A Very Frank Idea
But What About the $70 Trillion in Off-Balance-Sheet Debt?
New York, London, South Africa, and the Future

"Bankruptcies of governments have, on the whole, done less harm to mankind than their ability to raise loans."

- R.H. Tawney, Religion and the Rise of Capitalism, 1926

"By a continuing process of inflation, government can confiscate, secretly and unobserved, an important part of the wealth of their citizens.

- John Maynard Keynes, Economic Consequences of Peace

"Unemployed men took one or two rucksacks and went from peasant to peasant. They even took the train to favorable locations to get foodstuffs illegally which they sold afterwards in the town at three or fourfold the prices they had paid themselves. First the peasants were happy about the great amount of paper money which rained into their houses for their eggs and butter… However, when they came to town with their full briefcases to buy goods, they discovered to their chagrin that, whereas they had only asked for a fivefold price for their produce, the prices for scythe, hammer and cauldron, which they wanted to buy, had risen by a factor of 50."

- Stefan Zweig, The World of Yesterday, 1944.

The beginning of the end of the Weimar Republic was some 89 years ago this week. There is a stream of opinion that the US is headed for the same type of end. How else can it be, given that we owe some $75-80 trillion dollars in the coming years, over 5 times current GDP and growing every year? Remember the good old days of about 5-6 years ago (if memory serves me correctly) when it was only $50 trillion? With a nod to Bernanke's helicopter speech, where he detailed how the Fed could prevent deflation, I ask the opposite question, "Can ‘it' (hyperinflation) really happen here?" I write this on a plane flying to NYC, with a tighter deadline than normal, so let's see how far we can get. More on where I'm heading at the end of the letter.

But first, let me quickly call to your attention a speaking engagement that I'm doing November 9 in Atlanta. It is for Hedge Funds Care, and it's a wonderful event for a children's charity. If you can make it, I hope to see you there. You can learn more and register at http://www.hedgefundscare.org/event.asp?eventID=74.

Can "It" Happen Here?

I was inspired for this week's letter by a piece by Art Cashin (whom I will get to have dinner with Monday). His daily letter always begins with an anecdote from history. Yesterday it was about Weimar, told in his own inimitable style. So without any edits, class will commence, with Professor Cashin at the chalk board.

An Encore Presentation

By Art Cashin

Originally, on this…

Discuss This

9 comments

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Comments

Bob Gifford

Oct. 20, 2011, 1:21 p.m.

Avoiding the potential debt that supporting the baby boomers with Social Security and Medicare is only part of the problem. The cause is that we have a population that is aging and in spite of the fact that it is a very wealthy generation, they have not saved anywhere near enough to support themselves in a retirement that will average 20 years. They are going to have to work longer and be productive. That means more jobs, because we will still have more younger people who want and need to work. We need productive jobs. Businesses will have to be free to create them. It can only happen in capitalism. Not this mostly government controlled thing we have now, which has seen a reduction in our standard of living and our assets (in 1999 dollars the Dow today would be around 8400). Otherwise, with or without the entitlements, we will have high unemployment and lots of destitute, sick elderly. We will have a depression.

josh osborne

Oct. 19, 2011, 12:09 p.m.

I have done some searching on the concept of “velocity of money”, and it is possible that it is a misconception of the circumstances surrounding the beginning of an inflation cycle. If this is the case, inflation could very well still be a very major threat….. I will post what I have found…......
The following is from Austrian economist, Steven Saville:

Many analysts will undoubtedly claim that the increasing rate of money-supply growth isn’t important because the velocity of money will remain low, but such claims reveal a misunderstanding. There is no magical quantity called “velocity” that operates independently of money supply and demand, causing prices to rise during some periods and to fall during others. Like changes in the purchasing power of money, the thing commonly called “money velocity” is simply an effect of inflation.
By way of further explanation, during the early part of a major upward trend in money-supply growth it will typically be the case that inflation is not widely perceived as a problem. Actually, it’s quite likely that deflation will be seen as the bigger threat. This is the situation that we often refer to as a “deflation scare”—rising money-supply growth (inflation) combined with rising fear of deflation, with the fear of deflation being fanned by falling commodity and equity prices.
During the early part of an inflation cycle the demand for cash balances will tend to be relatively high—due to falling inflation expectations—and the average economist will perceive a low “velocity of money”. But as time goes by the effects of the increased rate of money-supply growth will start becoming apparent and people will become a little more conscious of the inflation threat, the result being a decline in the demand for cash balances (people will begin to save less cash). The average economist will interpret this as an increase in the velocity of money and may well conclude that prices have begun to rise in response to the increased velocity. Clearly, though, both the increase in velocity and the rise in the general price level are just lagged EFFECTS of the preceding money-supply growth.
The bottom line is that “money velocity” is a redundant concept at best and a misleading one at worst.

Dave Scotese

Oct. 16, 2011, 6:10 p.m.

Steve Beach said what I was going to say - the velocity of money is not under anyone’s control, but its possible rate of change is proportional to the concentration of the money supply.  What’s the average excess of reserves in the banking system?

Frank’s proposal is a concrete example of a class of political behaviors that could usher in the hyperinflation.  If banks aren’t lending, and the perception is that their failure to do so is hurting us, how long do you think it will take our fearless leaders to compel them, somehow, to unleash the tidal wave of money that is on the sidelines?  It would certainly provide several months worth of apparent relief, don’t you think?  Long enough for the 99% to lose interest and go back to job-seeking.  Then what?

John Uphoff

Oct. 16, 2011, 12:51 p.m.

“And aâ?¦..trillion that would require $500 million every week for 40 years.”
Source: JohnMauldin.com (http://s.tt/13w6y)

If we have a 100 million families in the U.S., that would be $5/week per family for 40 years to knock off a trillion dollars of debt. That’s about $250 per family per year. Two percent inflation and an eventual economic recovery will do additional debt reduction. Some families could afford much more. Yes, cuts in spending are needed, but a little increase in revenues could go a long way over many years to gradually eliminate our debt.

Ed Matluck

Oct. 16, 2011, 8:27 a.m.

John,
Great article.  I think it is important to remember that historians are now pretty confident that the Weimar inflation was delibertly induced by the central bank to punist the West and effectively not pay the war reperations.  the bank did not preceive the political impact the inflation would hav on the democratic process of the rise of Hitler but clearly caused both.  As long as the Fed. does not make this mistake I believe “It can’t happen here”. 

Note also that there are no historical examples of hyper inclation of a reserve currency except Gold.

guido romero

Oct. 16, 2011, 1:25 a.m.

Hello John,

That Brazil and Argentina should have “successfully” used hyperinflation is a matter of opinion. I can find you a number of people that lost most and in many cases all they had ever worked for and are still trying to rebuild their lives today.

The problem in the use of inflation or its hyper cousin, is two fold. In a first instance, inflation conforms to the law of diminishing marginal utility hence the reason, for example, that since 1980 Federal Debt in the US progressed from 2Trillion to 15Trillion today but GDP only went from 6Trillion to 14Trillion during the same period of time.

The second problem is highlighted by Stefan Zweig’s excerpt above. It is the problem of the point of ingress of the newly created money into the economy. Newly created currency is injected into the economy through exclusive gates. Thus new money does not reach all economic actors simultaneously.

When you combine the above two characteristics of inflation, surely you must realize that inflation does not “help” everyone to the same degree. Rather, as the new money makes its appearance, the Primary Dealers gain the most whereas as the money finally reaches the pockets of the common man, a far greater degree of purchasing power has been stripped out. And, in an environment of low velocity as we have today, by the time the money reaches the pockets of the average person, most of the purchasing power has been lost.

In other thoughts, there is something you do not touch upon at all in making use of intra war Germany as an example. That would be the rise of Hitler and how he was able to finance the rebuilding of Germany. Inflation was most definitely not part of the strategy.

Steven Smith 26339

Oct. 15, 2011, 10:47 p.m.

No.  I can not concieve a war to erupt in Europe.  There is Nuclear deterence now a day’s.  We’ll all enjoy the cheaper labor cost that are growing.

I know I should say this, but how about a war in the South Pacific, eventually.  Macao make 4 times as much in profit from gambling than the whole State of Nevada, now a day’s.  It’s been only a few years since Macao started.  Myanmar is still a Military run government.  Lots of strict Religious laws govern things down there.

Sorry, could resist say that.  It’s been onmy mind for a year or so now.

I live in Las Vegas, Nevada U.S.

Jerrold Meyer

Oct. 15, 2011, 9:23 p.m.

This posting makes a powerful argument against the U.S. facing very high or even hyper-inflation down the road. But it fails to discuss one of the major points brought up by Stansberry, Casey, and that group, namely that the burgeoning U.S. debt will ultimately lead to a loss of the dollar being the world’s reserve currency, thereby resulting in mounting prices for oil and other imports. I would like to hear others’ opinions on (1) the likelihood of the dollar losing its reserve currency status, and (2) how bad the consequences are likely to be for our economy and especially for inflation.

jesusfreakinco _

Oct. 15, 2011, 8:44 p.m.

John,

Interesting thesis on how we avoid hyperinflation.  I watch and listen to all those that say hyperinflation is inevitable.  The alternative may not be any better, best I can tell from your comments.  I’d love to hear more about how life will be in what would be a severe depression if we don’t hyperinflate - and to have some examples of that - future topic…

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