Economic Collapse (Prepping for Tomorrow Book 2) Page 7

  Further, as the value of the Japanese yen is manipulated, the Bank of Japan increased its production of Y10,000 bills exponentially in early 2016. As interest rates have remained at zero worldwide, and negative interest rates came into use, the Japanese are keeping their money at home, rather than in banks. In 2015, it was estimated that the amount of yen stashed out of the banking system rose from five trillion yen to forty trillion yen. To provide historical context, similar activity was taken in Zimbabwe at the start of its hyperinflationary period.

  There has been no period of deflation since the six year period from 1927 to 1933, so few living Americans have experienced this. Had the Fed not poured a massive amount of money into the economy from 2009-2013, the US would have experienced deflation. Deflation existed, but it was covered with wallpaper in the form of newly printed Federal Reserve Notes, our currency. As a result, the national debt has risen from $10 trillion to nearly $19 trillion since 2009.

  Deflation is the Fed's worst nightmare for many reasons. Deflation increases the real value of government debt, making it harder to repay. Deflation also increases the value of private debt, creating a wave of defaults and bankruptcies. A period of deflation in the United States at this time could be catastrophic.

  Chapter Ten

  Stagflation

  Stagflation, a hybrid of stagnant inflation, is a condition of slow economic growth and relatively high unemployment—economic stagnation—accompanied by rising prices, or inflation together with a decline in Gross Domestic Product (GDP). Stagflation is an economic problem defined in equal parts by its rarity and by the lack of consensus among academics on a precise definition.

  Under most circumstances, when unemployment is high, spending declines, as do prices of goods. Stagflation occurs during a period of rising prices while unemployment increases and spending reductions. Stagflation can prove to be a particularly severe problem for governments to deal with due to the fact that most policies designed to lower inflation tend to make it more difficult for the unemployed, and policies designed to ease unemployment necessarily results in increased inflation.

  In the 1970s, world oil prices rose dramatically, increasing the costs of goods and contributing to an increase in unemployment. The following period of stagnation increased the inflationary effects on the economy. Since the OPEC oil embargo created a crisis in the 1970s, there has been little consensus on what else contributed to the resulting stagflation. Each school of economics offers their understanding of what exactly went wrong and why. But the numbers speak for themselves. Inflation rose from a low of 5.2% in 1977 to a high of 14.8% in 1980. During the same period, unemployment fluctuated from a low of 5.9% to a high of 10.4%.

  Theories on the Causes of Stagflation

  There are two main theories on what causes stagflation. Using the price of oil as an example, one theory states that this economic phenomenon is caused when a sudden increase in the cost of oil reduces an economy's productive capacity. When transportation costs rise, producing products and getting them to shelves gets more expensive, and prices rise even as people get laid off.

  Another theory is that the confluence of stagnation and inflation are results of poorly made economic policy. Allowing inflation to run rampant, and then suddenly snapping the reigns on inflation is one example of a poor policy that some have argued can contribute to stagflation. While others cite harsh regulation of markets, goods, and labor combined with allowing central banks to print excessive amounts of money, as another possible cause of stagflation.

  Contemporary economists like Oliver Blanchard cite both supply shocks on the prices of goods and worker output, as well as incorrect predictions made by Keynesian economists as the cause of stagflation and the inability to understand it.

  Since 2009, following the Federal Reserve's policy of quantitative easing which substantially increased the money supply, some economists argue the Fed is out of options to combat any number of things, including a plummeting dollar, rising inflation, and consumer prices.

  "The biggest bubble of them all, the one in U.S. Treasuries, may finally be pricked," warns economist Peter Schiff. "That is when the Fed's nightmare scenario finally becomes everyone's reality."

  What to Watch For

  The website Market Watch recently issued a warning to its online visitors concerning the risk of a period of stagflation. The article provided the following:

  "It has been a long time since the U.S. economy experienced stagflation—which Bank of America defines narrowly as any period when growth breaks below the 25th percentile of its historical average while inflation trends above its 75th percentile.

  When making these determinations, BoA uses growth data dating back to 1960, but only factors in core inflation dating back to 1990. It does this to eliminate the exorbitantly high inflation from the 70s and 80s from calculations of the historical average.

  For stagflation to recur, according to Bank of America's standards, GDP growth would need to slip below 1.4% while the quarterly growth rate for core PCE (Personal Consumption Expenditures are measures of price changes in consumer goods and services) rises above 2.3%. Bank of America calculates quarterly changes in core PCE at an annualized rate.

  That's not such an outlandish idea: growth during the fourth quarter of 2015 was just 1%, according to the most recent reading.

  Meanwhile, core inflation nearly doubled in the 12 months leading up to January, according to the PCE.

  Bank of America's big data leading indicator suggests this might already be happening. It's forecasting below-trend growth for both the first and second quarters. The indicator is compiled "from a large panel of economic and financial variables," the analysts said.

  So how should investors prepare for this eventuality? According to Bank of America's historical analysis of market trends, gold, oil and U.S. Treasurys tend to outperform during periods of stagflation, while equities tend to underperform.

  The U.S. dollar also tends to weaken, but the impact is more muted."

  Stagflation, while rare, has historic precedent during our lifetimes. The tools available to central banks cannot adequately control all three variables which embody periods of stagflation. It is yet another reminder to keep an eye on inflation, unemployment, and GDP numbers.

  Chapter Eleven

  Hyperinflation

  Hyperinflation is an extremely rapid period of inflation, usually caused by a rapid increase in the money supply. The most common cause of hyperinflation is the unrestrained printing of fiat currency.

  Unfortunately, there is no exact percentage where inflation turns from ordinary inflation to hyperinflation. One can't argue that 9.9% inflation is normal while 10% inflation is hyperinflation. Typically, a period of hyperinflation gets progressively worse. Every month the inflation rate increases until the curve goes hyperbolic.

  When associated with depressions, hyperinflation coincides with a sharp increase in the money supply not supported by gross domestic product growth, resulting in an imbalance in the supply and demand for the money. Left unchecked this causes prices to increase, as the currency loses its value.

  Unlike low inflation, where the process of rising prices is gradual and not noticeable except by studying past market prices, hyperinflation sees a rapid and continuing increase in nominal prices and the supply of money. Because people try to get rid of the devaluing money as quickly as possible, the price levels rise even more rapidly than the money supply. The real stock of money—the amount of circulating money divided by the price level, decreases.

  A hyperinflationary period is usually caused by large persistent government deficits financed primarily by money creation rather than taxation or borrowing. Hyperinflation is often associated with wars, their aftermath, sociopolitical upheavals, or other crises that make it difficult for the government to tax the population. A sharp decrease in real tax revenue coupled with a strong need to maintain the status quo, together with an inability or unwillingness to borrow, can lead a country into
an economic condition wrought with hyperinflation.

  When associated with wars, hyperinflation often occurs when there is a loss of confidence in a currency's ability to maintain its value in the aftermath. Because of this, sellers demand a risk premium to accept the currency, and they do this by raising their prices.

  Hyperinflation effectively destroys the purchasing power of private and public savings, distorts the economy in favor of the hoarding of real assets, causes the monetary base to flee the country, and makes the afflicted country unfavorable to investment. But one of the most important characteristics of hyperinflation is the accelerating substitution of the inflating money for that of more stable foreign currencies, gold, and silver.

  Causes of Hyperinflation

  There are several theories on the causes of hyperinflation. But nearly all hyperinflationary periods have been caused by government budget deficits financed by money creation by its central bank. After an analysis of twenty-nine recent examples, economists conclude that runaway deficits have caused at least twenty-five of them.

  Moreover, a necessary condition for hyperinflation has been the existence of fiat money not convertible at a fixed parity into gold or silver. This theory is suggested by the fact that most known hyperinflations in history with some exceptions, such as the French hyperinflation of 1789-1796, occurred after the breakdown of the gold standard during the time of World War I.

  Hyperinflationary Episodes

  Hyperinflation is not as uncommon as you think. The above chart provides a list of twenty nations that have experienced a hyperinflationary period in the last fifty years. Two of the best-known examples include the hyperinflation of Weimar Germany and the more recent Zimbabwean hyperinflation period which reached 2.2 Million Percent.

  Weimar Germany, 1914 – 1923

  In Germany, prices doubled in only five years between 1914 and 1919, but then the economy fell into a death spiral of hyperinflation at the rate of one trillion to one.

  During this five year period, and as time passed, economic conditions worsened, retailers and service providers stopped asking for currency, seeking payment in barter exchange instead. Prices rose not just by the day, but by the hour. If you had your morning coffee in a café, and you preferred drinking two cups rather than one, it was less expensive to order both cups at the same time.

  The flight from currency that had begun with the buying of diamonds, gold, country houses, and antiques now extended to minor and common household items. During times of hyperinflation, people realize their money will be worth less tomorrow, so they exchange any cash they have for any physical goods they can get their hands on—whether needed or not. After all, a bar of soap will still be a bar of soap tomorrow, but it may take twice as many dollars to buy it. Excessive consumer spending has the effect of further stoking the fires of inflation by increasing the velocity of money.

  Hyperinflation leads to lawlessness and societal collapse. In most cases of hyperinflation, the lack of a reliable system of exchange leads to a breakdown in society and a wild-west sort of atmosphere.

  In Germany, the law-abiding country crumbled into petty thievery. Copper pipes and brass fixtures weren't safe. Gasoline was siphoned from cars. People bought things they didn't need and used them to barter. Prostitutes of both sexes roamed the streets, exchanging services for goods.

  By 1922, the gold value of money in circulation fell from three hundred million marks before World War I to twenty million marks. The Reichsbank, Germany's central bank at the time, attempted to stem the currency collapse by printing more marks, which only caused a more rapid devaluation. 1923 was the height of the hyperinflationary period. The rate of inflation hit 3.2 million percent per month—the equivalent of prices doubling every two days.

  Zimbabwe, 1998 – 2008

  At the time of the nation's independence in 1980, the exchange rate of the Zimbabwe dollar to the US dollar was about 1.25. In 1998, President Robert Mugabe had consolidated his power over the entire socialist government. As part of his social reforms, he forcibly took real estate from white settlers throughout the country and returned it to native Zimbabweans. The government taking of income-producing private lands effectively halted the production of food in the country, which was their leading export. The political and social unrest discouraged foreign investment in the country. Mugabe and the Zimbabwe central bank responded by printing more money with higher face values.

  By 2008 the hyperinflation rate in Zimbabwe had reached 2.2 million percent. Eggs sold for a million Zimbabwe dollars each. There was no stable medium of exchange. The overall impact of hyperinflation was 1 = 1025. Inflation was making it impossible for families to afford basic commodities they needed to live day by day. The media interviewed one Chivhu resident who asked to be identified only as Innocent. She said inflation is obliging many Zimbabweans to make a living by means that are sometimes less than reputable.

  The final result was a total elimination of the Zimbabwean dollar and only foreign currencies were traded thereafter.

  Examples of Hyperinflation Throughout History

  United States 1779

  47% inflation per month. During the Revolutionary War, the Continental Congress created a paper currency called Continental Currency. Until then, the colonies had issued their own fiat currencies, each less valuable than the British pound. Each colonial government got to devalue it as they saw fit, hoping and praying that they could tax the citizenry enough to get the fiat money back and retire it. Adam Smith called this a fraudulent scheme.

  At the same time, the Spanish dollar – perhaps the first modern-day world currency – had been circulating in the U.S. as well. Somehow, this hodge-podge system of using precious metals, various fiat currencies, international currencies, and even beaver pelts as currency hummed along for some time. But the newly convened Continental Congress, leaders of a forthcoming nation during it's revolution, saw fit to step in and issue its own currency. Only it issued way too much.

  Within a few years, the newly created currency wasn't worth but pennies on the dollar. It's not that the people lost confidence in them—it's that the government screwed up. By November 1779, Continental Currency had a monthly inflation rate of 47%. Quite simply, it put the ancient Roman drachma to shame.

  United States 1861-1865

  Total hyperinflation of 1,200 to 1. The civil war exhibited one of the classic hyperinflations of history with confederate notes becoming worthless by the end of the war. But interestingly inflation was not a straight line to infinity. Confederate notes provided an excellent lesson in how money supply affects currency value.

  From October of 1861 to March of 1864 the commodity price index rose an average rate of 10 percent per month. When the Civil War ended in April 1865 the cost of living in the South was 92 times what it was before the war started. This inflation was obviously caused by the expansion of the money supply. The role of the money supply in establishing the price level is confirmed even more strongly by the results of an attempt to curb the growth of the money supply in 1864.

  This is an explicit example of how currency creation results in inflation.

  Austria 1914- 1923

  Inflation in one year (1922) reached 1426% and overall the consumer price index rose by a factor of 11,836. Political ineptitude ruled the day in post-World War I Austria. All state agencies ran at a loss resulting in massive deficits for their time. The result, like in other cases, was a period of hyperinflation fueled by the printing of the Austrian krone.

  Hungary 1945-1946

  Total hyperinflation 400,000,000,000,000,000,000,000,000,000 to 1. Political instability caused by a rift with the former Soviet Union resulted in a crashing economy. To solve the problem, the Hungarian government levied a twenty percent tax on all private bank deposits. The actions caused mistrust in the banks by the public, who pulled their deposits out of the depository institutions. Unable to tax the citizenry, the government resorted to printing money. Some historians believe this hyperinfla
tion was actually an act of war as Russian Marxists tried to destroy the Hungarian middle and upper classes.

  China 1947-1949

  Total hyperinflation 15,000,000,000,000,000,000 to 1. China had an early history of troubles caused by hyperinflation. As one of the first users of fiat currency, they funded their wars with the printing of money. The economic collapse led to the demise of the Yuan Dynasty via a revolution.

  France 1789-1803

  The Assignats were created as notes by the French government based on the value of confiscated church property. But they were printed with no relation to the underlying value and eventually became totally worthless.

  Egypt 276 AD – 334 AD

  One million percent inflation in fifty-eight years. A measure of wheat which sold for 200 drachmae in 276 AD increased to more than 2,000,000 drachmae in 334 AD

  Hungary 1919-1924

  Inflation reached 98% per month in 1922

  Poland 1918-1924

  Hyperinflation reached 800,000 to 1

  Philippines 1942-1944

  Conquering Japanese army issued fiat currency which rapidly became worthless.