SW Richmond

Predictions for the Coming 'Flation'

You must perceive both the trap and the "solution" in order to see the path we are on.

The Trap: Falling tax revenues due to severe recession will bankrupt states and municipalities (debt default) and severely hamper US Federal spending. The US government deficit for 2009 is projected, WITHOUT ANY STIMULUS BILL, to be $1.2 Trillion, a near triple from 2008. Stimulus package is projected to be at least $800 Billion over two years, so for 2009 alone we are looking at $1.6 Trillion deficit. The Fed and the US government have committed or spent nearly $8 Trillion so far on this bailout. We have thus far funded (borrowed) practically none of this money. The states want a $Trillion or so. Mind-numbing amounts of money have to be borrowed and/or printed to pay for all of this; either that, or the debt must be defaulted. None of this is dollar-positive.

How will we pay for it? Any tax increase will kill what's left of the economy. Foreign lenders are already skeptical; China and Japan, our major Asian lenders, have sent clear signals that they do not intend to continue to lend us the usual amount of money. Japan has floated the idea of buying Treasuries if they are denominated in Yen. Our friends in the Middle East are our other major lenders, and they are in the process right now of accelerating their creation of a Gulf Coat Currency specifically to get off of the dollar, and then to begin pricing oil in GCC's. Their appetite for USD is obviously waning as well. None of this is dollar-positive.

The Fed has stick-saved the US economy numerous times and sometimes is forced to operate in ad hoc mode. They have begun quantitative easing (printing money) and have injected massive amounts of this new money into banks, which the banks have in turn deposited with the Fed as excess reserves. The Fed is paying the banks interest on these excess reserves. So many people say "the Fed can't make the banks lend" but that is nonsense. The Fed is being nice to the banks right now; that will change, and I will explain why and how.

So in a nutshell, the trap is this: falling revenue means swelling deficits, but more borrowing would need to be justified by higher interest rates and higher taxes, which would crush the already-mortally-wound... economy.

The "solution":
1. Currency debasement
2. Bank recapitalization
3. Fiscal stimulus


1. Currency debasement: To try to avoid "beggar-thy-neighbor", the major Western central banks are embarking on a massive and coordinated currency debasement. Mercantilist Asian nations are going along for now but remaining skeptical about new lending to the US. (Middle East nations are not willing to be paid in debased paper and are going to create their own currency to market their precious black gold.) The purpose of currency debasement is, of course, to render debt less onerous by paying it off with inflated currency.

1a. Trap capital by coordinating the debasement among cooperating Western central banks, leaving no safe destination for capital flight.

2. "Recapitalize" banks by injecting them with massive amounts of newly-printed money; the banks will (be allowed to) hang on to this cash bonanza until the remainder of the plan is in place.

3. Enact and begin a massive coordinated global fiscal stimulus plan. There is no point trying to force a massive reignition of lending until the fiscal stimulus is ready to go.

The major part of this effort will being only after the stimulus plans are enacted and money has actually begun to flow to projects, and after some large portion of funding has been put in place. At this point, banks will begin to feel pressure from the Fed and regulators to do something with their cash windfall. How? Simple: "we will guarantee a portion of your losses, make loans or pay interest on your reserves"; "make loans or we will make an example of one of you by revealing your true condition"; if you think authorities are above this kind of extortion, go back to grade school.

Additional regulatory measures could and probably will be used to force money into "productive" uses; the tax code provides a good vehicle for this.

Deflation, if allowed to persist, would destroy the machinery of state, namely tax collection. Anyone who believes that deflation will be allowed to persist ignores the simple fact that government runs on other people's money, that government is primarily interested in self-preservation, and that for that purpose, and that purpose alone, central banks are instituted. Deflation means that people can't afford to eat and that government must borrow money it can never pay back, from skeptical lenders, to feed them. Inflation is the path that preserves the existing political and social order.

I am not saying it will work because I don't believe it will. I am saying I believe that is the plan, and that the plan will be pursued to the bitter end. Odds of it ending in currency destruction are too high for my liking.