- Money Morning Australia

The Depression You Better Hope We Have…

Written on 20 June 2011 by Kris Sayce

The Depression You Better Hope We Have…

The Depression You Better Hope We Have…

We’re often asked why hasn’t the U.S. suffered hyper-inflation… what with the trillions of dollars printed by the U.S. Federal Reserve.

The answer is quite simple.  Although we’ll admit we overlooked it at first…

With a gold standard, a nation owed money (creditor nation) by another nation (debtor nation) can demand payment in gold.

But without a gold standard, the creditor nation can only receive paper or electronic money… money created by the flick of a switch.

That’s when inflation troubles begin.

But still, it doesn’t explain why Weimar Germany and Zimbabwe had hyper-inflation whereas today the Western world doesn’t.

Here’s the key: hyper-inflation only takes hold if a nation expands the money supply much faster than other nations… and if creditors have real alternatives to the inflated money.

That’s why Weimar Germany and Zimbabwe had hyper-inflation.  And why the Western world doesn’t today.

Let me sum it up for you…

Why hyper-inflation happens

Following World War I, Germany had to pay compensation to the victors in gold or foreign currency.

But because Germany didn’t hold enough gold or foreign currency, it had to print new money to swap it for gold and foreign currency.

Clearly when your intention is to devalue the currency, working fast is critical.

Because as soon as the market gets wind of the plan, holders of the money will look to get rid of it as quickly as possible in exchange for something else.

That explains the speed of Weimar Germany’s inflation:

Source: Wikipedia

In a matter of months, one gold Mark (money convertible into gold) had increased in value from 1,000 “paper” Marks to one trillion “paper” Marks.

The story is similar for Zimbabwe.  Once the central bank began printing money, creditors stopped accepting Zimbabwe dollars – because they knew they were being devalued.

They preferred a better store of wealth – such as the U.S. dollar!

But while hyper-inflation is bad, what the Western world is experiencing is much worse.  Because there isn’t a fixed conversion for paper money into gold for any currency, all central banks and governments know they can inflate the money supply.

As long as they don’t go too crazy.

That’s the main reason many central banks publish an inflation target.

They don’t do it for information purposes.  And it isn’t to try and cap inflation.  It’s there as a form of price-signalling… showing other central banks how much they can increase their money supply without causing a run on the currency.

As long as every central bank knows the limits, they can engineer a globally co-ordinated period of inflation… without fear of causing hyper-inflation.

And boy, has it worked.

How the misery is spread far and wide

Trouble is, it punishes the whole world – not just one nation.

And because gold is demonised as a “barbarous relic”, and even blamed for past depressions, most people – even pro investors – don’t realise the value of their money is being eroded.

That’s the “good” thing about hyper-inflation.  You’re in no doubt what’s happening.  You can see your wealth destroyed right before your eyes.

But with slow burning inflation caused by central bankers, the effects are near impossible to notice at the time.  It’s only years later you wonder how you can earn three times as much as you used to, yet you’re still no better off.

You can see the difference clearly in these two charts.  First, this chart from the Bank of England showing the annual inflation rate since 1790:

Source: Bank of England

And second this chart showing the U.S. inflation rate from 1914:

File:US Historical Inflation.svg
Source: Wikipedia

When gold was considered as money, you can see inflationary periods followed by deflationary periods.

Wealth erosion didn’t happen over the long run.  And purchasing power was broadly constant.

But once the monetary system removed gold and silver, there have been no periods of deflation.

Even during economic downturns, there hasn’t been deflation… only more inflation.

Why the worst is yet to come

During the past two years the U.S. Federal Reserve has created almost $2 trillion of extra money to keep the U.S. from collapsing.

And what has it achieved?  According to Bloomberg News:

“The US economy will grow 2.5 per cent this year, down from 2.8 per cent projected in April, the IMF said today, citing higher commodity prices and bad weather in the first quarter and a weak housing market.”

The U.S. economy got a temporary inflation boost.  And now the impact has gone.

If central banks want to postpone the overdue depression, it can only do one thing: and that’s print more money.  Given a choice between that and allowing the global economy to collapse on their watch we know which they’ll choose.

The fact is, as strange as it sounds, the world needs a depression.

It needs to purge the economy of all the past mistakes.  Sure, you can sit there and hope it doesn’t happen.  But that’s just accepting you’re happy for your wealth to be destroyed by slow-burning inflation…

This is much worse than the quick shock of hyper-inflation.  But the slow-burn can’t and won’t last.

Our guess is that time is fast approaching.  And that means inflation – even though it may not be hyper-inflation – is set to soar.


Kris Sayce
Money Morning Australia

P.S. Protecting your wealth against inflation should be top of your to-do list.  Inflation is the number one killer of wealth in the Western world, and if you’re not doing anything to protect yourself from it you won’t be able to maintain your current standard of living, let alone improve it.  In his latest issue of Diggers & Drillers, Dr. Alex Cowie gave his readers the lowdown on wealth protection and how you can keep it away from the prying eyes of the banking system and the government.  Click here for more…

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Kris Sayce
Kris is never one to pull punches when discussing market developments and economic events that can affect your wealth. He’ll take anyone to task — banks, governments, big business — if he thinks they’re trying to pull a fast one with your money. Kris is also the investment director for Australian Small-Cap Investigator, Diggers and Drillers and Revolutionary Tech Investor. If you’d like to more about Kris’ financial world view and investing philosophy then join him on Google+. It's where he shares investment insight, commentary and ideas that he can't always fit into his regular Money Morning essays. Read more about Publisher and Investment Director Kris Sayce.

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20 Comments For This Post

  1. Jt Says:

    I don’t understand. What is the argument for a depression (pretty big call!).

    From what I hear, the US private sector has amassed a huge level of savings. Private consumers have also put off consumption and have been deleveraging over the last 3-4 years.
    House prices have fallen a fair bit from their peak. The economy has been flat over this period (remember the US recession started well before the rest of the world).

    Are we still predicting a depression from here??

    The only sector I can see in the US that is struggling is the public sector, but you’d think that once the private sector starts picking up, they can start getting the public sector into better shape too. That is a more likely outcome, than suggesting that the public sector will pull the entire economy into a depression.

  2. The Wolf Says:

    The fact is, as strange as it sounds, the world needs a depression.


  3. MD Says:

    At hyper inflation – I would suggest protecting your wealth in property.
    As crazy as that sounds….

  4. Peter Fraser Says:

    OTOH – the Nazis printed money without any gold and they didn’t suffer hyperinflation.

    Napolean did much the same thing when France was broke.

  5. Jay Says:

    Well part of the several issues facing the US economy is the rate of credit creation vs debt expansion, which as we can see is nearing its vertical asymptote in the not too distant future. The US is in need of debt restructure and reduction rather than chasing its tail through credit creation. This issue is macro economic and therefore controlling all economic sectors within. The way this issue is handled will determine the length of its future recovery and size of the fallout. So far this hasnt been resolved and will continue to the point where printing money becomes useless.. or it may already be the case. This in my view is the real challenge ahead for the US which could lead to a depression.

  6. Beauner Says:

    The US is already in Depression in many areas.

    The recovery will never happen.

  7. Peter Fraser Says:

    Beau – never?

    Of course it will.

  8. Triune Rational Brain Says:

    Well Kris it’s taken 6 months but now you realise that FED only creates electronic credit not real cold hard cash like Nazi Germany and Zambabwe.
    But difference there, too much credit will cause DEFLATION.
    Look at some cold hard facts.
    NO real cold hard cash is getting to the PEOPLE in the USA only credit.
    Has USA lost a major war had to give away it’s best assets and resources like Germany after WW1?
    Is USA surround by hostile enemies ready to close borders and harbours to stop exports like Zambabwe or Germany?
    Are white farmers being killed in the USA like Zambabwe?
    USA has deep water safe harbours to export through out the world , nobody would dare take on American in a major war.
    America has massive natural resourses and some very clever resourceful businessmen.
    In otherwords to say American is like Zambabwe or Nazi Germany is like saying the Sydney Opera House is moving to the local Pub in the Western Surburbs to get a education in music culture.

  9. Beauner Says:

    Peter – a recovery to WHAT exactly?

    To how things were during the 2000 – 2008 period?

    I should say, yes there will be a recovery, but it is not going to look like anything related to the past. It will not come about from financial manipulation from the Fed or from the Government.

    The era of a US led and dominant role has been and gone. And so to, will everything that has arisen as a result of that.

    My two cents…. :D

  10. peter fraser Says:

    But Beau – you said never. I will believe ‘long time” but I don’t buy never. I’ll bet that people in 1932 said the world would never recover, but it did.

    The recovery could come in many forms. the world is constantly changing regardless of financial events.

  11. Triune Rational Brain Says:

    1932 is very popular at the moment, everyone is thinking a recovery is on?
    So lets look again at the cold hard facts is this climate 1932?
    1929 the DOW drop nearly 48% in just under 3 months it took DOW 2008 GFC, 17 months to fall over 50%.
    This bear market is very slow and weak compare with 1929 t0 1932 crash 89% loss.
    Evidence is clear nothing like 1932 Dow needs to crash to under 3000 points come even close to 1929 to 1932 depression.
    So beware of a nasty bear market when everyone is talking 1932.

  12. neil Says:

    I think you’ve stumbled onto something Kris; the only HOPE for the world is if the INFLATION is raised all at the same time by most nations – via electronic means/ printing money from nothing. Obviously the West & the USA are doing this and crossing everything, hoping that a ‘recovery’ will transpire and drag us out and up. Trouble is all the QE’s have not worked, so it does nor look promising. I understand what you say about a recession/depression and Paul Keating agreed with you – ‘this is the recession we had to have!’

  13. The Wolf Says:

    Was reading an article on likely events over the next 12 months…

    * Collapse of Spanish and Italian economies
    * Chinese “miracle” unmasked as a fraud powered by huge increases in bad lending from state controlled banks
    * Investors will fall back into the USD
    * Gold will continue to see support
    * Euro to collapse… AUD to get crushed given it is viewed as a proxy for the Chinese economy… (and we can all guess what that means for the Australian economy and as sharp as bowling ball Waaaayne Swan’s budget)
    * +12 months… Euro ceases to exist…

    Claimed that this crash will make 2008 look like a mild cold… because western economies / balance sheets are worse off than they were in 2008…because primarily no-one took their medicine and lumps back in 2008/2009 to write off the junk and let banks / businesses go under… and purge the economy off the detritus…

  14. Pete Says:

    When Hitler came to power in 1933 the Nazi’s mobilized the whole nation with ministry of works credits, 1 Mark for 1 Marks worth of work or production, this included farming etc, so as people started to get paid they started to purchase and so the economy grew, internally, without any banks

    Germany then went on to trade externally by barter as they had no gold or foreign currency, and then they started the military build up, the pogroms, Poland and the rest is history, thank god, or the tea pot orbiting the sun between mercury and Venus.

    I seriously doubt that this could work in the modern world, and if so only for a short time, unless the country had abundant raw materials, a population who are regimented and willing to work hard, for very little return, and no Banks, but would the bankers let you get away with it, Imagine if a country could actually run it’s own economy without debt, inflation or interest, the Germans had the right idea initially, just wish they could have left the genocide and racial hatred out of the equation, xenophobia, a Greek word, please explain

    By the way I am not a fan of Nazi Germany, this is from my high school history learnt in the 70′s in the UK, and military service in Germany during the 80′s

  15. Beauner Says:

    Yes Peter – but the population back then was nearly 2 thirds less, and the planet was not using resources at the rate it is now.

    For a recovery to happen, imo, the world needs access to cheap, abundant resources. Do they exist? Do cheap abundant food sources exist? Is Oil easier to obtain? Will derivatives stop being used to rort prices? Does the West have a population that is getting younger? Will corporate and government corruption suddenly become non-existent for the recovery?

    There are many factors pointing towards a big crash, instead of a miracle recovery, even a prolonged recovery.

    I’m not holding my breath. :D

  16. drood Says:

    Wolf…Where was that article i,d like to have a read.

  17. Peter Fraser Says:

    Fair enough Beau, but history has been full of ebb and flow economic times, nothing ever stays the same, not the good nor the bad times. But it may get worse before it gets better, which I think is your main point.

  18. Pete Says:

    I think personally that we will see a worldwide depression going into the mid 2020′s after that my crystal ball is a little foggy

  19. The Wolf Says:

    drood… it was contained within a Stansberry Advisory newsletter… came out on Thursday or Friday last week… if you google them you will find a lot of stuff to read… Porter Stansberry is the champion on “The End of America” theme…

  20. drood Says:

    Thanks wolf , interesting reading a guy who seems to know what he,s talking about.

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