Inflationomics

Traditionally Hyperinflations Were a Local Phenomenon

Ever wonder why the hyperinflation in Germany during the 1920s was limited to Germany, or the hyperinflation in Zimbabwe a few years ago was limited to Zimbabwe?

Was it because the German/Zimbabwean businesspeople (and only German/Zimbabwean businesspeople) suddenly became greedy and wanted higher prices for their goods?  Was it because speculators in those countries (and only those countries) drove goods prices higher?  Or could it have been because the central banks in those countries (and only those countries) printed the local currencies to excess?

If the cause of inflation had been greedy businesspeople raising prices, one must wonder why greedy businesspeople around the world didn’t join in on the price raising.  If it is so easy for the local businesses to ignore international competition and raise prices at will, why don’t greedy business people just raise prices now, wherever they are?  Maybe they don’t have the power to do so…maybe they don’t have that much control over the money and must limit price rises to what the market will bear.  Consumers, not businesspeople, dictate how high prices can be raised.

If the cause of inflation had been speculators bidding prices higher, why didn’t the added activity attract speculators from around the world?  Why did speculators try to avoid German Marks/Zimbabwe Dollars?  Maybe they avoided those currencies because the governments in those countries made speculation more difficult, or maybe the profits to be gained by trading depreciating Marks/Zim dollars were illusory and not worth the effort.  Maybe it was better to hold U.S. dollars or gold instead and buy cheap German/Zimbabwean goods with strong currencies and/or gold.

I’m inclined to look to the people who had complete control over the currencies in question; i.e., the local central banks.  The German people had no choice as to which currency to use.  Germany had legal tender laws requiring Germans to accept Marks for all debts public and private.  Same for the Zimbabweans.  Furthermore, the local central banks controlled the supply of Marks/Zimdollars and printed them until the supply was much greater than the demand.  In the end, so many Marks/Zimdollars were printed that they no longer served their purpose; i.e., to act as a medium of exchange.  At that point, Germans/Zimbabweans had to find something else to use as a medium of exchange…something more reliable.  U.S. dollars were a favorite substitute, as were gold and silver.

Today, the situation is somewhat different.  Today, the world is on a U.S. dollar standard; i.e., U.S. dollars are held by other central banks/governments around the world as a store of value, and much of the world’s commerce is conducted with U.S. dollars.  When Saudi Arabia sells oil, it receives U.S. dollars in exchange.  When Chile sells copper, it receives U.S. dollars in exchange.  When China sells computers, it receives U.S. dollars in exchange.  Furthermore, China holds over $1 trillion U.S. dollars as a store of value.  So when the U.S. Federal Reserve Bank (Fed) prints more U.S. dollars, this not only affects U.S. citizens, it also affects the rest of the world and their U.S. dollar holdings.  The more U.S. dollars are printed, the less each one is worth, assuming the same or falling demand.  (Fiat money also follows the laws of supply and demand.)

Because the U.S. Congress has been unable to control government spending, central banks around the world are questioning the wisdom of holding U.S. dollars into the future.  They believe more U.S. dollars will be printed (thus reducing the value of their holdings) to pay for the large debts and deficits incurred by the U.S. government.  Thus, some central banks are looking into alternatives to holding U.S. dollars—and the demand for alternatives is growing.  Alternatives like gold, silver, farmland, oil, gas…anything tangible.  As the demand for alternatives grows, the demand for U.S. dollars declines, along with its value.

So the question is:  can the rest of the world separate itself from the U.S. dollar in time to avoid the coming inflation tsunami?  Answer:  not likely….which means that the next hyper-inflation (of the U.S. dollar) will not be a local phenomenon; it will be a world-wide one.  For some ideas on how to cope with inflationary times, see www.inflationarytimes.com.

Robert Jackson Smith

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