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  • One Hyperinflationist has a go at it

    Thursday, October 28, 2010

    Signs Hyperinflation Is Arriving


    This post is gonna be short and sweet—and scary:

    Back in late August, I argued that hyperinflation would be triggered by a run on Treasury bonds. I described how such a run might happen, and argued that if Treasuries were no longer considered safe, then commodities would become the store of value.

    Such a run on commodities, I further argued, would inevitably lead to price increases and a rise in the Consumer Price Index, which would initially be interpreted by the Federal Reserve, the Federal government, as well as the commentariat, as a good thing: A sign that “the economy is recovering”, a sign that “normalcy” was returning.

    I argued that—far from being “a sign of recovery”—rising CPI would be the sign that things were about to get ugly.

    I concluded that, like the stagflation of ‘79, inflation would rise to the double digits relatively quickly. However, unlike in 1980, when Paul Volcker raised interest rates severely in order to halt inflation, in today’s weakened macro-economic environment, that remedy is simply not available to Ben Bernanke.

    Therefore, I predicted that inflation would spiral out of control, and turn into hyperinflation of the U.S. dollar.

    A lot of people claimed I was on drugs when I wrote this.

    Now? Not so much.

    In my initial argument, I was sure that there would come a moment when Treasury bond holders would realize that they are the New & Improved Toxic Asset—as everyone knows, there is no way the U.S. Federal government can pay the outstanding debt it has: It’s simply too big.

    So I assumed that, when the market collectively realized this, there would be a panic in Treasuries. This panic, of course, would lead to the spike in commodities.

    However, I am no longer certain if there will ever be such a panic in Treasuries. Backstop Benny has been so adroit at propping up Treasuries and keeping their yields low, the Stealth Monetization has been so effective, the TBTF banks’ arbitrage trade between the Fed’s liquidity windows and Treasury bond yields has been so lucrative, and the bond market itself is so aware that Bernanke will do anything to protect and backstop Treasuries, that I no longer think that there will necessarily be such a panic.

    But that doesn’t mean that the second part of my thesis—commodities rising, which will trigger inflation, which will devolve into hyperinflation—will not occur.

    In fact, it is occurring.

    The two key commodities that have been rising as of late are oil and grains, specifically wheat, corn and livestock feed. The BLS report on Producer Price Index of commodities is here.

    Grains as a class have risen over 33% year-over-year. Refined oil products have risen just shy of 13%, with home heating oil rising 18% year-over-year. In other words: Food, gasoline and heating oil have risen by double digits since 2009. And the 2010-‘11 winter in the northern hemisphere is approaching.

    A friend of mine, SB, a commodities trader, pointed out to me that big producers are hedged against rising commodities prices. As he put it to me in a private e-mail, “We sometimes forget that the commodity markets aren’t solely speculative. Most futures contracts are bought by companies who use those commodities in their products, and are thus hedging their costs to produce those products.”

    Very true: But SB also pointed out that, hedged or not, the lag time between agricultural commodities and the markets is about six-to-nine months, on average. So he thought that the rise in grains, which really took off in June–July, would hit the supermarket shelves in January–March.

    He also pointed out that, with higher commodity costs and lower consumption, companies are going to be between the Devil and the deep blue sea. My own take is, if you can’t get more customers, then you’re just gonna have to charge more from the ones you got.

    Coupled to these price increases is the ongoing Currency War: The U.S.—contrary to Secretary Timothy Geithner’s statements—is trying to debase the dollar, so as to make U.S. exports more attractive to foreign consumers. This has created strains with China, Europe and the emerging markets.

    A beggar-thy-neighbor monetary policy works for small countries getting out of a hole of their own making: It doesn’t work for the world’s largest single economy with the world’s reserve currency, in the middle of a Global Depression.

    On the contrary, it creates a backlash; the ongoing tiff over rare-earth minerals with China is just the beginning. This could easily be exacerbated by clumsy politicking, and turn into a full-on trade war.

    What’s so bad with a trade war, you ask? Why nothing, not a thing—if you want to pay through the nose for imported goods. If you enjoy paying 10, 20, 30% more for imported goods—then hey, let’s just stick it to them China-men! They’re still Commies, after all!

    Furthermore, as regards the Federal Reserve policy, the upcoming Quantitative Easing 2, and the actions of its chairman, Ben Bernanke: There is an increasing sense in the financial markets that Backstop Benny and his Lollipop Gang don’t have the foggiest clue about what they’re doing.

    Consider:

    Bruce Krasting just yesterday wrote a very on-the-money précis of the trial balloons the Fed is floating, as regards to QE2: Basically, Bernanke through his WSJ mouthpiece said that the Fed was going to go for a cautious, incrementalist approach, vis-à-vis QE2: “A couple of hundred billion at a time”. You know: “Just the tip—just to see how it feels.”

    But then on the other hand, also just yesterday, Tyler Durden at Zero Hedge had a justifiable freak-out over the NY Fed asking Primary Dealers for their thoughts on the size of QE2. According to Bloomberg, the NY Fed was asking the dealers how big they thought QE2 would be, and how big they thought it ought be: $250 billion? $500 billion? A trillion? A trillion every six months? (Or as Tyler pointed out, $2 trillion for 2011.)

    That’s like asking a bunch of junkies how much smack they want for the upcoming year—half a kilo? A full kilo? Two kilos?

    What the hell you think the junkies are gonna say?

    Between BK’s clear reading of the tea leaves coming from the Wall Street Journal, and TD’s also very clear reading of the tea leaves by way of Bloomberg, you’re getting a seriously contradictory message: The Fed is going to lightly tap-tap-tap liquidity into the markets—just a little—just a few hundred billion dollars at a time—

    —while at the same time, the Fed is saying to the Primary Dealers, “We’re gonna make you guys happy-happy-happy with a righteously sized QE2!”

    The contradictory messages don’t pacify the financial markets—on the contrary, they make the markets simultaneously contemptuous of Bernanke and the Fed, while very frightened as to what they will ultimately do.

    What happens when the financial markets don’t really know what the central bank is going to do, and suspect that the central bankers themselves aren’t too clear either?

    Guess.

    So to sum up, we have:
    • Rising commodity prices, the effects of which (because of hedging) will be felt most severely in the period January–March of 2011.
    • A beggar-thy-neighbor race-to-the-bottom Currency War, that might well devolve into a Trade War, which would force up prices on imported goods.
    • A Federal Reserve that does not seem to know what it is doing, as regards another round of Quantitative Easing, which is making the financial markets very nervous—nervous about the Fed’s ultimate responsibility, which is safeguarding the U.S. dollar.
    • A U.S. economy that is weak to the point of collapse, where not even 0.25% interest rates are sparking investment and growth—and which therefore prohibits the Fed from raising interest rates, if need be.
    • A U.S. fiscal deficit which is close to 10% of GDP annually, and which is therefore unsustainable—especially considering that the total U.S. fiscal debt is well over 100% of GDP.
    These factors all point to one and the same thing:

    An imminent currency collapse.

    Therefore, I am confident in predicting the following sequence of events:
    • By March of 2011, once higher commodity prices reach the marketplace, monthly CPI will be at an annualized rate of not less than 5%.
    • By July of 2011, annualized CPI will be no less than 8% annualized.
    • By October of 2011, annualized CPI will have crossed 10%.
    • By March of 2012, annualized CPI will cross the hyperinflationary tipping point of 15%.
    After that, CPI will rapidly increase, much like it did in 1980.

    What the mainstream commentariat will make of all this will be really something: When CPI reaches 5% by the winter of 2011, pundits and economists and the Fed and the Obama administration will all say the same thing: “Happy days are here again! People are spending! The economy is back on track!”

    However, by the late spring, early summer of 2011, people will realize what’s going on—and the Federal Reserve will initially be unwilling to drastically raise interest rates so as to quell inflation.

    Actually, the Fed won’t be able to raise rates, at least not like Volcker did back in 1980: The U.S. economy will be too weak, and the Federal government’s balance sheet will be too distressed, with it’s $1.5 trillion deficit. So at first, the Fed will have to let the rising inflation rate slide, and keep trying hard to explain it away as “a sign of a recovering economy”.

    Once the Fed realizes that the rising CPI is not a sign of a reignited economy, but rather a sign of the collapsing dollar, they will pursue a puerile “inflation fighting” scheme of incremental interest rate hikes—much like G. William Miller, the Chairman of the Fed from January of ‘78 to August of ‘79, pursued so unsuccessfully.

    2012 will be the bad year: I predict that hyperinflation’s tipping point will be no later than the first quarter of 2012. From there, it will accelerate. By the end of 2012, I would not be surprised if the CPI for the year averaged 30%.

    By that point, the rest of the economy—unemployment, GDP, all the rest of it—will be in the toilet. By that point, the rest of the economy will no longer matter: The collapsing dollar will make 2012 the really really bad year of our Global Depression.

    http://gonzalolira.blogspot.com/2010...-arriving.html

  • #2
    Re: One Hyperinflationist has a go at it

    thanks for posting! what i find fascinating that he touches on but doesn't elaborate, is that the Federal debt is just a touch shy of $14T. Federal Revs are call them $2.4T. Federal interest expense is around $165B, or 7% of Federal revs. At $14T, every 100bps higher interest rates = $140B, or another 6% of Federal revs. If we just go back to mid-90's levels of interest rates, you suddenly have your Federal interest expense moving well over 10%, & possibly over 20% of revenues...

    ...b/c the convexity of asset prices & demand to higher interest rates are probably going to be much higher this cycle - when you go from 6% to 8% on mortgage rates, it hurts, but incrementally...when you go from 4% to 7%...it hurts a lot worse...so in theory, interest rate hikes will hit the economy harder/faster, hurting Federal revenues faster, than in prior recessions...

    This speaks to what I think is a key crux of Gonzalo's point, one which IMO is irrefutable - the Fed absolutely cannot raise interest rates to stem the tide of burgeoning inflation...so the question is when does the crowd that understands this & gets spooked by this fact hit a tipping point...

    I had a very interesting conversation with an institutional money manager recently, when discussing positive ag fundamentals & which stocks were best to play them, & he surprised me w/the comment "Do you know my mandate allows me to just go buy corn futures? Maybe that's the cleanest way to play this..."

    Comment


    • #3
      Re: One Hyperinflationist has a go at it

      Originally posted by coolhand View Post
      thanks for posting! what i find fascinating that he touches on but doesn't elaborate, is that the Federal debt is just a touch shy of $14T. Federal Revs are call them $2.4T. Federal interest expense is around $165B, or 7% of Federal revs. At $14T, every 100bps higher interest rates = $140B, or another 6% of Federal revs. If we just go back to mid-90's levels of interest rates, you suddenly have your Federal interest expense moving well over 10%, & possibly over 20% of revenues...

      ...b/c the convexity of asset prices & demand to higher interest rates are probably going to be much higher this cycle - when you go from 6% to 8% on mortgage rates, it hurts, but incrementally...when you go from 4% to 7%...it hurts a lot worse...so in theory, interest rate hikes will hit the economy harder/faster, hurting Federal revenues faster, than in prior recessions...

      This speaks to what I think is a key crux of Gonzalo's point, one which IMO is irrefutable - the Fed absolutely cannot raise interest rates to stem the tide of burgeoning inflation...so the question is when does the crowd that understands this & gets spooked by this fact hit a tipping point...

      I had a very interesting conversation with an institutional money manager recently, when discussing positive ag fundamentals & which stocks were best to play them, & he surprised me w/the comment "Do you know my mandate allows me to just go buy corn futures? Maybe that's the cleanest way to play this..."
      hunted around & found this here in 'junk economics'. fred must have moved it here because ej showed 10 ways from sunday for 10 yrs that the fed will not stop ka-poom inflation with interest rate hikes... that prescription is for the imf's nation state debt serfs only.

      the usa has 8000 tons of gold. what's all that gold for? hmmmmm...

      notice that hudson is now talking gold? 3 yrs ago when he first appeared on this site... not a word.

      Comment


      • #4
        Re: One Hyperinflationist has a go at it

        Originally posted by coolhand
        the Fed absolutely cannot raise interest rates to stem the tide of burgeoning inflation
        I disagree.

        The Fed can't raise rates presently, as that would be seen by the public as further crushing an economy already weak.

        But once inflation gets a start, and the public message is turned around to blame inflation for our economic woes, then the public will demand that the Fed raise rates, to "fix" the problem, just like Volker did in the early 1980's.

        Sharply rising food and gas prices focus the public's attention like the hangman's noose focuses the prisoner's attention.
        Most folks are good; a few aren't.

        Comment


        • #5
          Re: One Hyperinflationist has a go at it

          Originally posted by ThePythonicCow View Post
          I disagree.

          The Fed can't raise rates presently, as that would be seen by the public as further crushing an economy already weak.

          But once inflation gets a start, and the public message is turned around to blame inflation for our economic woes, then the public will demand that the Fed raise rates, to "fix" the problem, just like Volker did in the early 1980's.

          Sharply rising food and gas prices focus the public's attention like the hangman's noose focuses the prisoner's attention.
          There certainly will be pressure from the "that's what Volcker did -- and it worked" crowd.

          The circumstances are completely different, but I don't discount that we may see the attempt at some point. Perhaps after inflation has dissolved the debt overhand to a manageable level.

          Comment


          • #6
            Re: One Hyperinflationist has a go at it

            Originally posted by jpatter666 View Post
            There certainly will be pressure from the "that's what Volcker did -- and it worked" crowd.

            The circumstances are completely different, but I don't discount that we may see the attempt at some point. Perhaps after inflation has dissolved the debt overhand to a manageable level.
            I'll wager you a beer (if we're ever in the same town together so that the wager can be collected in person) that when we see that attempt (to do like Volcker and fight inflation with rising interest rates, despite a continued crappy economy), the real value (even using the jtabeb standard of real -- gold and silver) of the U.S. Treasury debt will be greater than it is now, not less, much less dissolved.
            Most folks are good; a few aren't.

            Comment


            • #7
              Re: One Hyperinflationist has a go at it

              Originally posted by ThePythonicCow View Post
              I'll wager you a beer (if we're ever in the same town together so that the wager can be collected in person) that when we see that attempt (to do like Volcker and fight inflation with rising interest rates, despite a continued crappy economy), the real value (even using the jtabeb standard of real -- gold and silver) of the U.S. Treasury debt will be greater than it is now, not less, much less dissolved.
              No way. ;-) Because I'm expecting the attempt to be to early (as you indicate) and for the first attempt to fail.

              Comment


              • #8
                Re: One Hyperinflationist has a go at it

                I hear you Metalman, & entirely agree w/EJ's premise of "what's the 8,000 tons of gold for...", but you'll have to color me skeptical that the US gov't still has all 8,000 tons of that gold, given that it hasn't been audited in my lifetime. Given the events of the last 2-3 years, you'll have to forgive me for my unwillingness to take the gov't at its word.

                One former gold analyst I respect thinks the US still has a lot of that gold, but not all 8,000 tons of it anymore. At any rate, your point holds - the gold is there to back the US currency & short circuit a hyperinflation; good news is that gold would have to be a lot higher from here to be equal to its 1979 ratio to the US money supply...and there weren't trillions of derivatives out then...

                Comment


                • #9
                  Re: One Hyperinflationist has a go at it

                  TPC - you are assuming the Fed works for the American public, or cares if their food/gas prices are rising sharply. I disagree that they do. Yesterday's Bloomberg article noting that the NY Fed recently solicited the Primary Dealers for their opinion about the appropriate size of QE 2 suggests the Fed works for the banks.

                  I note the NY Fed did not ask me if I like $7 corn or $4.50 gasoline.

                  I hope you are right - I am sitting on a 5% 30-yr fixed jumbo mortgage, and am effectively cash collateralized on it with inflation-sensitive investments. I would love for my bank to pay me 8% interest on my mortgage balance like the Volcker years while I'm paying them tax-effected 5% (3.5% net) interest on my mortgage. I'll incorporate myself as a bank. Too many customers like me & they will be insolvent, but the other way!!

                  IMO, if the banks are insolvent, the Fed will do what they need to do to keep them solvent. Everyone else be damned.

                  Comment


                  • #10
                    Re: One Hyperinflationist has a go at it

                    think you're dead right here on the real value of the debt rising - b/c you have to keep pace w/rising healthcare, soc security, etc. costs, & can't when your COLA is running faster

                    Comment


                    • #11
                      Re: One Hyperinflationist has a go at it

                      I think Bernanke announced that as his plan in a speech not long ago; from another post recently

                      1. Crank up hot inflation to drag up interest rates to pull the fed up off the zero bound and start an overheated inflationary economy
                      2. crank up interest rates to kill the inflation by killing the economy like Volker did
                      3. then cut interest rates to restart the economy.


                      The only debate here is the severity of the inflation. Gonzalo Lira says "hyper", EJ says "high".

                      Comment


                      • #12
                        Re: One Hyperinflationist has a go at it

                        Volcker was dealing with much more accurate CPI data, per Shadowstats - Bernanke is dealing with OER & other "core CPI" monstrosities that would suggest he may always be behind real inflation...

                        Comment


                        • #13
                          Re: One Hyperinflationist has a go at it

                          Gonzalo says that inflation will hit 30%... Isnt that exactly what EJ says? EJ obviously said it first, so Gonazalo subscribes to that view, not exactly junk.....

                          Comment


                          • #14
                            Re: One Hyperinflationist has a go at it

                            Originally posted by coolhand View Post
                            I hear you Metalman, & entirely agree w/EJ's premise of "what's the 8,000 tons of gold for...", but you'll have to color me skeptical that the US gov't still has all 8,000 tons of that gold, given that it hasn't been audited in my lifetime. Given the events of the last 2-3 years, you'll have to forgive me for my unwillingness to take the gov't at its word.

                            One former gold analyst I respect thinks the US still has a lot of that gold, but not all 8,000 tons of it anymore. At any rate, your point holds - the gold is there to back the US currency & short circuit a hyperinflation; good news is that gold would have to be a lot higher from here to be equal to its 1979 ratio to the US money supply...and there weren't trillions of derivatives out then...
                            the gold's there. the usa gov't lies plenty but why lie about that? of any country the usa has the most gold by far & has to... the dollar's gotta be 'emergency' backed by gold... but not 1-to-1. formulas on gold bugger sites... $100 trillion world dollar money supply / 256,000,000 oz = $390,000/oz... silly.

                            a modern gold standard is fractional... @ 100:1, $4000/oz covers $100 trillion.

                            Comment


                            • #15
                              Re: One Hyperinflationist has a go at it

                              Originally posted by metalman View Post
                              the gold's there. the usa gov't lies plenty but why lie about that? of any country the usa has the most gold by far & has to... the dollar's gotta be 'emergency' backed by gold... but not 1-to-1. formulas on gold bugger sites... $100 trillion world dollar money supply / 256,000,000 oz = $390,000/oz... silly.

                              a modern gold standard is fractional... @ 100:1, $4000/oz covers $100 trillion.
                              Same reason they lie about peak cheap oil - telling the truth is never expedient in a country with a 2-yr election cycle & no term limits. If the gold is there in reduced amounts, that obviously raises the price of gold.

                              Agreed that $390k is silly, although it'd be nice !! I think the $7,000-36,000/oz range makes sense to me...fully back the US dollar depending on how you want to define US money supply, once you achieve that, you can go back to a Bretton Woods-type arrangement (we have the gold, everyone else holds fully gold-backed dollars) - if you don't like that arrangement, you are free to speak to our customer service dept, otherwise known as the USMC.

                              Sooner or later, we'll get it right - historically devaluing v. oil worked in spurring inflation, but we've reached the terminus of that arrangement - devaluing from $82 oil is only self-defeating. Peak cheap oil ending it. Deflating all our debt against gold, then all other countries hold gold-backed dollars will work. If we don't do it, someone else will get a gold backed currency - IMO, there is a big 1st mover advantage - believe Jim Rickards has hinted at this in past interviews.

                              The longer we seem reticent to make this move, the more likely it seems to me that our gold holdings are not what we claim them to be...either that or they are just trying to move gold higher slowly, b/c a sharp, sudden move higher would cause the big bullion banks that are short gold to go "tits up" as a friend likes to say!

                              Comment

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