Hyperinflation
Forecast By Monty Pelerin
| October 10, 2010
It is difficult, as I have tried to emphasize, to forecast
the economic future with any high degree of certainty. That
is so because human beings react. That is, as conditions
develop, humans adjust and alter their behavior to adapt
to the changes. So do government policy-makers. Hence, any
economic forecast includes an infinite number of variables
and actors, all of whom have multiple alternatives regarding
responses.
Gonzalo Lira is less cautious than I. He boldly goes out
on a limb and predicts the arrival of hyperinflation in
2012. In his article below, he lays out his scenario in
great specificity.
There is nothing in the article that is implausible or
even improbable. However, when one tries to forecast any
series of events that are time and sequence-dependent, the
final result has very low probability. Event contingency
requires compounding of probabilities. That necessarily
results in a low probability of the final event being forecast
correctly.
Mr. Lira, to his credit or detriment depending upon how
you view such boldness, violates the first rule of economic
forecasting – “if you forecast a number, never
forecast a date.” That way, you can argue that your
forecast is not incorrect, but it is too soon for the outcome
to have developed.
If I had to forecast something as firmly as Mr. Lira has
done, my opinion would not differ much from his. From a
personal standpoint, I consider his outcome the most likely.
Hence, it is something I have prepared my investment portfolio
for, but something I am reluctant to predict.
Signs Hyperinflation Is Arriving Gonzalo Lira
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 its $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—which is actually kind
of funny.
It’s funny because, as you know, I am a conservative
Catholic: I of course put absolutely no stock in the ridiculous
notion that “The Mayans predicted our civilization’s
collapse in 2012!”—that’s all rubbish,
as far as I’m concerned.
It’s just one of those cosmic jokes that 2012 will
turn out to be the year the dollar collapses, and the larger
world economies go down the tubes.