Deflation, Hyperinflation, Stagflation, and Where We Are Going

 

This is a repost of a column from four years ago almost to the day.

This is where I make the case most explicitly for the stagflation forecast I made in 2005.

Although I add one parenthetical note and some underlining for emphasis, otherwise I did not have to change a word.  I could have rewritten a few things a little more smoothly but at this point why bother.

I believe that things are playing out pretty much as I had thought with a few notable exceptions on the particulars.    The 'top down' approach to monetary stimulus favored by the Fed and their Banks and their politicians is fostering more inequality and slack aggregate demand while inflating select asset prices, a type of stagflation.  The 'inflation' component of that has not yet set in yet generally, but is certainly visible to anyone who uses incidental things like healthcare, higher education, and food. 

I think that the same dynamic is playing out in Europe and the UK.

It will end involuntarily in a social dislocation, or by a voluntary reform.  Since the oligarchs have apparently not yet been satisfied in their acquisition and looting, they believe that they can keep pushing the envelope for now.

One new area of thought for me now is how China and Russia and a few of their friends will attempt to implement a new regional currency and a global reserve currency with some inclusion or reference to gold, and perhaps silver.  That they are leaning into this area is to be found in their own words and actions.  

What I am struggling with is how they might do this without exposing themselves to currency manipulation and rigging, which is probably a lot easier to accept as a given now than it was in 2011, although it was certainly occurring before all these market rigging scandals broke.   I don't think a market was left untouched.

I suspect it will center around the terms for the exchange and the valuation or peg.  A misstep will open them to the predations of the global hedge funds and the Banks, and the status quo centered on the Dollar. 

One of the more interesting facets of this will be how this new monetary group deals with the bucket shops on the Hudson, that great price setting mechanism without a firm tie to reality.  I believe that recent developments are suggesting that they will make those markets as they are less relevant to the real world, which is precisely both their strength and their weakness. 

Their strength is that they may set price without the necessary reference to real world market supply and demand for surprisingly protracted periods of time.  And this is also their weakness, because with the right push in the right direction it will not take much to displace them since they do not have their feet firmly planted on anything substantial. 

The trick to be to throw them over without undue collateral damage to the real economy, a task that is not without some significant efforts.  If only the Banks would show the same forethought and courtesy when triggering their own financial crises.

16 April 2011

A Review on Where We Stand with Regard to Deflation, Hyperinflation and Stagflation

Well, the good news for everyone is that nothing seems inevitable here, that there is almost always a choice, but it is often wrapped up in a nice looking rationale, with all the compulsion of a necessity, for the good of the people.  Us versus them in a battle for survival and all that. 

And clever leaders on the extremes provide the 'them' to be dehumanized and objectified.  The leftist wishes to murder the bankers, and the fascist the lower classes and outsiders.  The extremes of both end up making life miserable for almost everybody except for a privileged few.

And so I reiterate that in a purely fiat currency, the money supply is indeed fiat, by command.

People like to make arguments about this or that, about how so and so has proved that the Fed does not or cannot do this or that, that banks really create money only by borrowing, that borrowing must precede this or that.

It's mostly based on a fundamental misunderstanding of what money is all about, with a laser beam focus on hair-splitting technical definitions and loquacious arguments more confusing than illuminating, lost in details.  In a simple word, rubbish.

Absent some external standard or compulsion, the only limiting factor on the creation of a fiat currency is the value at exchange of the issuers bonds and notes, and currency which is nothing more than a note of zero duration without coupon.

If I had control of the Fed, unless someone stopped me, I could deliver to you hyperinflation or deflation without all that much difficulty from a technical standpoint. The policy reaction of those who might be in a position to fire or lynch me is another matter.  The Fed not only has the power to influence money creation in the private banking system.  It has the ability to expand its balance sheet and take on existing debt of almost any type at will and at any price it chooses.

But that is the case as long as the Fed has at least one willing partner in the primary dealers, and the Treasury is in agreement. And even that requirement for a primary dealer is not all that much of an issue given the amounts of existing sovereign and private debts of which the Fed might avail itself for the forseeable future.

So at the end of the day, a thinking deflationist is almost reduced to the argument that 'the authorities will not allow it' or 'will choose deflation rather than inflation'  And this is technically correct. However, let us consider my earlier statement about those who might fire or lynch one for making a highly unpopular choice.

It is economic suicide for a net debtor to willingly engage in deflation when they have other options at their disposal, and especially when those decisions involve people outside the system.

That is not to say that the deciders could not opt for economic suicide, but the people designated to suffer and die for that choice and cause might not take kindly to it. Deflation favors the creditors significantly, and those creditors tend to be a minority of domestic elites and foreign entities.   Both the extremes, hyperinflation and deflation, are choices best implemented in autocratic governments.

There are those who observe that Franklin Roosevelt 'saved capitalism' by his actions in the 1930's and I believe they are correct. If one considers the various other outcomes in large developed nations to the Great Depression, whether it be Italy, Germany, Russia, or Spain, the US came out of it fairly intact politically. People conveniently overlook the undercurrent of insurrection and violence that was festering amongst the suffering multitudes, and the growth of domestic fascist and communist organizations.  There were several plots to overthrow the elected government by military means, although the history books tend to overlook them.

So it is really about making the best choice amongst bad choices. This is why governments choose to devalue their currency, either with quantitative easing, or explicitly against some external standard as the US did in 1933. Because when the debt is unpayable, it must be liquidated, and the pain will be distributed in a way that best preserves the status quo.

Hyperinflation and a protracted deflation are both very destructive choices. So therefore no rational government will choose either option.

They *could* have those choices imposed upon them, either by military force, political force, or by economic force. Economic force is almost always the cause of hyperinflation.

So you can see why a 'managed inflation' is the most likely outcome at least in the US. The mechanism has been in place and performing this function for the last 100 years.

The problem or twist this time around comes when the monetary stimulus does not increase jobs and the median wages, because of some inherent and unreformed tendency in the economy to focus money creation and its benefits to a narrow portion of the populace. The result of this is stagflation which although not indefinitely sustainable can be maintained for decades. 

Most third world republics are like this.  A vibrant and resilient middle class is sine qua non for a successful democratic republic, and this has strong implications for the median wage.  The benefits and the risks of growth and productivity must be spread widely amongst the participants.  Oligarchies tend to spread only the risks, keeping most of the benefits to themselves.

This is essentially the reasoning that occurred to me when I looked at the US economy and monetary system in the year 2000.

The one point I remain a little unclear on is how 'hard' the law is regarding the direct monetization of debt issued by the Treasury. I am not an attorney, but I am informed by those familiary with federal statutes that this is a gray area in the existing law but currently prohibited.  But it is easily overcome as I said with the inclusion of one or two amiable primary dealers who will allow the debt issued by Treasury to 'pass through' their hands in the market, on its way to the Fed at a subsidized rate.  For this reason, and for purposes of policy matters, and occasional economic warfare, countries may tolerate TBTF financial institutions with whom they have 'an understanding.' 

I have also come to the conclusion that no one knows the future with any certainty, so we must rely probability and risk management to guide our actions.

So really absent new data the argument is pointless, a matter of uninformed opinions. The dollar will continue to depreciate, (but the DX Index will be highly misleading - Jesse) and gold and silver and harder currencies appreciate (Well that one has gone sideways for now in this metals bear market - Jesse), until the fundamental situation changes and the US economic system is reformed.

I think there are other probable outcomes that involve world government and a currency war, and this also is playing out pretty much as I expected.  Fiat currency can take on the characteristics of a Ponzi scheme, whose survival is only possible by continuing growth until all resistance is overcome.

This is the conclusion I came to in 2000. I admit I was surprised by the Fed's willingness to create a massive housing bubble, and the willingness of the US government to whore out the middle class in their deals with mercantilist nations; their hypocrisy knows no bounds.

So that is the basis of much of my thinking and I wanted to take a moment to share it with you in a compact, highly condensed format.

I remain a little unsettled on the issue of hyperinflation, because there is the possibility that a large bloc of countries could join together to repudiate the dollar. Since so much dollar debt is held in these foreign hands, that is the kind of exogenous force that could trigger a bout of what might be termed hyperinflation. I don't see the dollar going to zero in this, but rather the dollar having a couple of zeros knocked off it, with a new dollar being issued. I have read John Williams case for hyperinflation several times now, and see nothing more compelling in it.

Indeed I think the reissue of the dollar with a few zeros gone is inevitable. It is the timing of that event that is problematic. It could be one year, or it could be fifty years. There is a big difference there for your investment strategy.

“One day you will go the ATM and the dollars will be Blue---not Green ---and you will get a few less than you expected.”

And yes, the government could just get medieval on your asses, and seize all the gold and silver, force you to take the value of the dollar at whatever they say it should be.  (As the MMT crowd has suggested - Jesse)   They could also seize all the farm land, all the means of production, and tell certain groups of people to get on freight trains for resettlement in Nevada. I think we can stipulate that governments can do this, and the people can accept it to varying degrees. If you wish to make this the dominant assumption in your planning then by all means.

For those who simply say "I disagree" or "Go read so and so he has proved this or that" I say that people believe lots of things, and can find data selectively to support almost any outcome they prefer,  But the market is the arbiter here, and the verdict so far is beyond all question. The Fed is doing exactly what they said they would do, so there should be no surprises. And they have more in their bag of tricks.

If there is new data I would certainly adjust my thinking but absent that I now consider this settled to my satisfaction, and wish to turn instead to more thinking on what changes need to occur to prevent the system breaking down, and restoring it to some semblance of reasonable functionality.

Gold Daily and Silver Weekly Charts - Harbor Lights

“At the center of our being is a point of nothingness which is untouched by sin and by illusion, a point of pure truth, a point or spark which belongs entirely to God, which is never at our disposal, from which God disposes our lives, which is inaccessible to the fantasies of our own mind or the brutalities of our own will.

This little point of nothingness and of absolute poverty is the pure glory of God in us.  It is like a pure diamond, blazing with the invisible light of heaven. It is in everybody, and if we could see it we would see these billions of points of light coming together in the face and blaze of a sun that would make all the darkness and cruelty of life vanish completely."

Thomas Merton, Conjectures of a Guilty Bystander

"There may be a great fire in our soul, yet no one ever comes to warm himself at it, and the passers-by see only a wisp of smoke coming through the chimney, and go along their way. Look here, now, what must be done? Must one tend that inner fire, have salt in oneself, wait patiently yet with how much impatience for the hour when somebody will come and sit down near it-maybe to stay? Let him who believes in God wait for the hour that will come sooner or later."

Vincent Van Gogh, Letter 133

 

We're on the April contract delivery process now, and the action today was likely a follow through from last week's option expiration.

 

April will be an 'active month' for gold.

 

Non-Farm Payrolls on Friday.

 

Have a pleasant evening.

SP 500 and NDX Futures Daily Charts - Toddling Towards the Non-Farm Payrolls Boogie Woogie

Another glorious day in the Pax Americana dominated by grift, spin, weak economic results, and 'technical trade.'

 

In case you were wondering who might benefit from higher short term interest rates, the first chart below is an interest rate sensitivity study from JP Morgan.  It is not certainly a complete picture, but it is indicative of their positioning perhaps.

 

Have a pleasant evening.

 

 

 

 

 

 

Gold Daily and Silver Weekly Charts - Non-Farm Payrolls Next Week

"We sometimes forget that central banking as we know it today is, in fact, largely an invention of the past hundred years or so, even though a few central banks can trace their ancestry back to the early nineteenth century or before.

It is a sobering fact that the prominence of central banks in this century has coincided with a general tendency towards more inflation, not less. If the overriding objective is price stability, we did better with the nineteenth-century gold standard and passive central banks, with currency boards, or even with `free banking.'

The truly unique power of a central bank, after all, is the power to create money, and ultimately the power to create is the power to destroy."

Paul Volcker, foreword to The Central Banks, 1995

Price stability is not, of course, the only priority of a central bank, depending on how narrowly or broadly one wishes to define it.  But I think that the record of the Federal Reserve over the past twenty to thirty years is abysmal enough to cast doubt on their competency and objectivity by almost any other range of metrics, considering the prolonged stagnant real wage, growing wealth inequality, massively fraudulent banking system, and serial asset bubbles interspersed with systemic crises.

 

Austerity and financial repression for the people, and quantitative easing and subsidized money for the Banks and financiers that caused the crises.   In what rational universe does this make sense?

What has gone wrong with our great experiment in central banking and fiat money is a good question,  but for another day.   But history does suggest that no class or organization is worthy of holding such power, without even more powerful safeguards against its abuse.

 

Gold and silver were capped around the round numbers for the better part of the day, and took a little cheap shot in the after hours as they did in the early open in New York.

Bubbe Yellen spoke at the San Francisco Fed near the close, basically stirring the verbal pot for the Fed's intended escape from the zero interest rate bound while hedging their bets broadly.  See Janet Yellen's Pat Paulsen Speech.

That the program has been a failure to stimulate the economy, instead fostering bubbles, speculation, and much greater wealth inequality while failing to encourage organic growth in wages and livable jobs is besides the point.

The wealthy and the Banks are doing great, and look forward to doing even better as they continue to consolidate production and acquiring income producing assets on the cheap and paying for them with inflated paper like stock and bonds.

I have included the economic calendar for next week below, because it is likely to be more of an influence on the metals. Especially so in light of Bubbe's remarks about data dependency and the categories of data which she is setting her eyes upon.

The problem is much more than the Fed. The trade deals being negotiated, TTIP and TTP, are designed to continue to erode the power of people to make choices for their nation in terms of standards of living, social justice, child labor, environment, and so forth.

The bigger picture, which so few really understand, is the ongoing currency war, and the changes that are taking place to progress the post-Bretton Woods status quo. They cannot understand it because they have really known nothing else in their lifetimes, and their knowledge of history is highly selective and often wanting. They grasp on to often self-serving, crackpot theories to reassure themselves that change is not coming, and their pampered places are secure.

Change is coming. It may be entering modestly seated on the colt of an ass, but depending on how it is received, it may be bringing redemption for those who receive it, and a stinging rebuke for the den of thieves that have distorted the courtyards of the markets.

The choice is of course ours, but all things considered, we seem to be a people generally inclined to making very bad choices and building desolate places, and painting the bones of our folly contained therein with a thin coating of whitewash and rationalization. Those who rule those foul places were better off if they had never been born.

"And when he drew near and saw the City, he wept over it, saying, 'Would that you, even you, had known on this day the things that make for peace and prosperity! But now they are hidden from your eyes.  For the days will come when your enemies will set up barriers around you, and surround you, and hem you in on every side, and tear you down to the ground, you and your children within you. And they will not leave one stone upon another in you, because you did not know the time of your judgement and redemption.'”

Have a pleasant weekend.

 

 

 

SP 500 and NDX Futures Daily Charts - Begin the Beguiled

Stocks largely moved sideways on the weak economic data this morning.

After the bell it was revealed that Intel would like to purchase chipmaker Altera. The consolidation of industry continues.

After a largely directionless day, there was a little bit of a lift into the close as Chairman Yellen talked about the bias to raise interest rates for the purpose of 'normalization,' but slowly and with an eye on the data.

Nothing new here. The Fed wishes to get off ZIRP at least nominally to give themselves some policy latitude for the future and to widen the spreads and bets available to the Banks.

And so they are likely to 'get her done' and not blanch from the task until they start to blow up the real economy in a manner more overtly than they have already been doing through their distortions over the past thirty years or so.

The Fed is bank-centric. They are a creature of the Banks. Unfortunately so are the politicians, so the broader public may find themselves in difficult circumstances.

I doubt that this will change or improve until there is substantial discomfort felt by the ruling elite. Nothing new there. And the more vocal portion of the public, the twenty percent I like to think of as the 'beguiled,' will be busy trying to push each other under the bus as it were, and kick the other guy off the life raft, because that is much easier than facing the real issues of reform.

At some point the beguiled will wake up, and then we will see a social phenomenon that 'no one will understand.' It is hard to get the herd moving, but once they start to move the force and momentum of their movement can be impressive and fairly durable. As a child of the 50's and 60's who was not unfamiliar with seeing armed soldiers and tanks in the streets of major urban areas, I can assure you that this phenomenon is more common in history than you probably imagine.

That is not to say it is a good thing, or a desirable thing. But it is becoming almost an inevitable thing given the inability of the upper crust to disengage themselves from the credibility trap, and their ill gotten gains from their abuses of power.

Have a pleasant weekend.

 

 

 

Gold Daily and Silver Weekly Charts - Ship of Fools

Gold and silver caught an overnight flight to safety on the war breaking out between Saudi Arabia, Egypt, and Yemen on the overnight.

 

Gold hit a high around 1218 or so on the spot price, but was pushed back down towards 1203 during the New York trading hours.

 

The miners were hit rather hard, which sometimes portends a hit on the metals the next day.  Let's see how that works out.  These mechanisms and influences are not linear.

 

It would be in the manner of the bucket shop to give a gut check on a price drop to those new holders of futures contracts from today's precious metals option expiration.  But since I cannot see into all the players hands, to know who is holding what with any confidence, it is too hard to say.

 

I do think that the US Fed will raise rates this year by some token amount, unless the wheels completely fall off the economy for two quarters in a row.  The first quarter is looking increasingly dismal, but it is easy to dismiss that as a one-off due to the weather.

 

The pampered princes and princesses of the Feds would like to raise rates for the benefit of their Bankers.  And they will perform as required.  Like the politicians, this is why they are there, to give plunder the appearance of legitimacy. 

 

But at the end of the day, they are, for the most part, a collection of willful, self-deceiving fools who are plunging madly forward without a clear vision or care for what is just across the horizon, whether it be a shoal or an iceberg.   They are now operating on necessity, defined by their own selfish needs.  Just following orders.  Whose orders, what priorities, well, that is another question altogether.  But not yours. 

 

If you want someone to tell you exactly what will happen or what to do next you can find plenty of people who are willing to do it, for a price, generally denominated in money and power. Just look for the wild claims, self-promotion, and screaming headlines. 

 

If they knew, they would not tell you. 

 

There are so many big changes happening behind the scenes.  No one can really predict exactly which way they will go.  But I am increasingly confident that we have the lay of the land mapped out correctly.  And I think that the signs are knowable.

 

The currency war is the pivotal event of our time.  If you do not yet understand what is going on there, you will be tossed around like a small boat, directionless in a tempest, because you cannot see beyond the nearest waves.

 

Keep an eye on China and Russia.  This does look like a pivotal year, but we have been close before, and the can keeps getting kicked further down the road.  The longer we wait, the greater the break.

 

If someone knows which way the Chinese leadership will finally go, I should like to know it.  But I don't think even they know that yet.

 

What you can do, above all, remember what is truly important, what lasts.  And now is a very good time to sort that out, because when the time comes, there will be no time.

 

Have a pleasant evening.