The Only Way Out Is Either Hyperinflation Or Defaulting To The Fed
Summary
- The amount of US and global debt has massively increased in a matter of months.
- The debt was unmanageable before - global debt-to-GDP was at an all-time high in January.
- Maybe defaulting to the Fed is the answer no one is talking about.
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The arithmetic makes it plain that inflation is a far more devastating tax than anything that has been enacted by our legislatures. The inflation tax has a fantastic ability to simply consume capital.
- Warren Buffett
When does the money run out? Does it? There is a massive public dilemma happening right now in the back of minds of economists around the world. The general public is on board with bailing out unemployed citizens with massive monetary and fiscal stimulus, but they should also be concerned with what happens next and the long-term growth implications of current stimulus. After all, the money will not run out. But we are borrowing from the future, and eventually, it must be paid back in one way or another. As I mentioned on the Lead-Lag Report, I see two probable outcomes, and neither of them is fiscal responsibility, higher taxes, and paying off the debt in a reasonable matter. I think the only way the world, and the US, is going to pay back the unreasonable debt burden created is going to hyperinflation or defaulting to the Fed - the next great policy twist in Federal Reserve history.
A look at the global debt-to-GDP ratio does not give much comfort, either. It hit a record 322% in January, and the US debt-to-GDP was sitting around 107%. With an economic recession (numerator dropping) and increasing debt (denominator decreasing), what do you think will happen to these numbers when it’s all over? Up, up, and away! Just not in a good way. This means that servicing and refinancing this debt overall is a tricky and expensive endeavor, and there already wasn’t room to move before. It’s easy for the consensus to forget that we do, eventually, have to raise interest rates. Right now, it’s like a Formula 1 racer with half-done tires with his pedal to the metal. Eventually, he will have to slow down or the momentum will take him off course and he will crash and burn. This is akin to what the fiscal and monetary stimulus is doing - gas pedal pushed, but eventually, will have to slow down when inflation hits. Will it, is the only question - the Fed has promised zero rates through 2021 at this point, and possibly 2022. How on earth will it fight inflation as it comes? We’re already seeing it creep up in certain sectors like groceries and staples. There’s a corner coming up in the next few years, and the brakes need to be ready.
With a sharp contraction in corporate earnings, combined with sharp and mounting job losses, the debt service burden was increasing, and the aggressive monetary and fiscal response was warranted. Gross government issuance hit an all-time monthly record of over $2.1 trillion in March ($3.2 trillion including other sectors), an estimate of the global debt-to-GDP ratio increasing to 342% from the 322% mentioned before. That is, if there’s only a 3% contraction in global economic activity this year, paired with net government borrowing doubling. Are we on the road to hyperinflation to pay off this debt? It is possible. There just wasn’t enough policy space in interest rates before the crisis happened to boost the economy without printing extreme amounts of money. Look, it might not happen right away - in fact, we might see deflation first, especially if there’s a second wave of coronavirus that shuts down the economy again.
Will the Fed stop printing money when that happens? Not likely to be immediate. The US economy is addicted to stimulus. Look at what happened in 2018 when the Fed was selling off balance sheet assets and hiking rates - the market collapsed in December. Coming out of the crisis, if, say, a vaccine is developed, with all this stimulus still in place, consumers are going to spend like crazy because governments have been footing the bill for them over the short term, they get their jobs back and continue to make money. That is going to hike prices. Is that necessarily a bad thing? Debt is expensive, but not if there are hyperinflationary forces cutting the cost of it down. Maybe that’s the playbook here. Worked pretty well for Venezuela.
The other option that is not talked about much is what if the Fed just lets the government and corporations default to it? A happy reset, if you will. It would not be met well politically, but at some point, the Fed will want to raise rates. If we see extremely high inflation, the only defense is to raise rates - hard to do that when debt-to-GDP levels would throw you into a massive depression. Why not let some “little” defaults happen to push the ultimate goal of fighting the nasty inflation bug. The Fed is already buying corporate junk bonds, effectively putting worthless debt on its books, turning crap into Fed-backed instantly. What if it would just “write it off” as Kramer and Seinfeld posited, so the Fed can hike rates without it affecting the debt-service ratios that will be too effective. America could be the next Greece. Wouldn’t mind some of those Ouzo shots right about now and retirement at 50, especially after this market. We don’t really know how this all will work in practise; we only have economic theory. As the lockdowns have been a great scientific experiment to see if we can defeat a virus, the global monetary and fiscal stimulus run is the great economic experiment. Only the history books will know what happens next.
So, what to do? It would be amiss if you didn’t have some gold (GLD) exposure in your portfolio to fight the fiat currency expansion. If you’re a fixed-income investor, shortening up the duration by buying something like BIL or SHY might be better than shooting to the long end of the curve, given what interest rates do when inflation and expansion happen (hint: it’s not good for prices). Stock markets have certainly been a good place to “hide out” in during this crisis, especially tech winners. Continue to add to names that are earning good money in bad times, and you might even want to add a bunch of junk bonds to your portfolio, since the Fed is just going to bail them out anyway (kidding, sort of). Look, the two ideas of hyperinflation and defaulting to the Fed are a bit of a stretch, I will admit. But they look more probable now than ever before. The only other ways out are a massive hike in taxes to start paying down the debt, or GDP that grows exponentially so that remittances increase naturally. Neither of those look probable, in my estimation, at least in the short term, and the latter solution has inflation implications, as mentioned above. Prepare, don’t react.
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Comments (517)
As for massive tax hikes to pay down debt... If Japan is any indication, government debt is not the burden it used to be. There are clearly very strong global deflationary forces, but economists are still unable to find a conclusive explanation. The (once popular) Asian savings glut theory is not very convincing. Until we know precisely why this is occurring, it will be difficult to predict an imminent reversal.My best guess is that technology and globalization have:- tremendously reduced the need for capital investment
- kept a lid on middle-class wages
- prevented price increases on manufactured goods, and
- replaced an almost endless array of physical goods and services with free and infinitely scalable ones, residing in a single, inexpensive phoneSince Japan was hit first, followed by Europe, perhaps the (uneven) collapse of global population growth is playing a role. Honestly, it's hard to say - I'd love to hear your thoughts.All I know for sure is that this crisis is much more inflationary than what we saw in 2008. In 2010, I realized that gold at $1300 was no longer cheap, and concluded that we are destined to follow in Japan's footsteps - with collapsing inflation and interest rates. I wouldn't make the same prediction this time around.PS: I also agree that hyperinflation predictions are absurd.
1. Free college education-with the decreasing youth population for middle class families the colleges will turn to any warm body just to keep paying the bills. They do not care in the least if someone graduates as long as they can keep the government footing the bill for a couple years of that warm body.
2. More free healthcare for immigrants. The Dems know that to insure a strong electorate base you need to expand the populations dependent on the Federal Government. Look for dreamers to become US citizens.
3. More money for public education: the Dems have to reward those that support their party most and that the public educators.
4. More Federal Workers to enforce all the new regulations coming this way.
5. Send money to big Democratic states to help out with their growing debts.
6. Federal Pension bailout for state and local governments underfunded pension programs.The debt crisis will never change till people stop buying our federal bonds. Hyperinflation will only occur when exporters stop selling us goods in US currency. Neither which I see occurring in the next decade. So why not sell debt, have the Fed buy it back and just print more paper? Its work for the past 3 decades.
www.centerforhealthsecurity.org/...Boy, those guys are good at predicting and preparing for the future ... what incredible luck! And precisely 0.0% of mass media ever pointed out this incredibly "coincidental" planning.
The Fed has been floating the idea of permanently monetizing the debt for at least the past 5 years. They know the end game. Why else do you think that MMT has been growing in popularity? They will try to do it in a controlled manner so as not to cause hyperinflation. History shows that this has never worked for long. Go figure.
No. In an economic recession, the denominator drops, and with increasing debt the numerator increases.
USA is bankrupt now, but the Feds have the power to print money endlessly and the sham goes on without the public being any the wiser. Governments are hostages in the sham.The only way to erase counterfeit money (fiat money) and counterfeit assets amounting to hundreds of trillions of dollars is to erase the debts associated with these fake assets. They are not toxic assets. They are fake assets.• You cannot solve the debt problem by issuing more debt. You solve the debt problem by cancelling, completely, all national, corporate and personal debt. You do this simultaneously across the planet, and you do it permanently.
Debt forgiveness has a sound basis in law. It reflects the century-old legal principle of the Doctrine of Odious Debts.
Millions of people depending on pensions and 401K retirees probably disagree with this approach.The Fed owns a lot of debt, but much of that debt is an asset for private citizens also.
This. Exactly this.
Privatize the Federal Government. Nobody misses them during a shutdown.
@marsland
"This. Exactly this.
Privatize the Federal Government. Nobody misses them during a shutdown."
---------------------------Completely wrong, %100.Government spending is the only reason the economy is still floating. The Covid shutdown, without massive government spending to support the economy would have quickly resulted in financial collapse, cascading defaults of mortgages, loans, the entities that issued those debts, the investors who hold them.There's a reason why, around the world, all sorts of different governments ranging from very right wing to leftists have chosen a different path than you suggest.When there is no demand in the economy -- _EVERYONE_ misses government spending.It's a really basic concept, good to try to get you head around it.
But would the percentage of payed interest to GDP not be a better measure?
Because as long as rates are low households and goverments should be able to sustain extended debt-levels.
If pricing power (inflation) evolves (for instance steel get's more expensive) the FED could allocate money in a different way.
Sell gold, unwind bond purchases, ...
The goverment could raise (e.g.) income-taxes as well.
-》Less purchase-power for people
= less demand
= less inflation pressure.Or maybe (bold) goverment could even subsidize food with more debt.
Debt would rise further, but inflation would not have an impact for the public.
But at some point it might be more and more difficult to sell US-bonds.
The dollar might lose value.
-How much depends on the needs of other countrys and as well how other countrys do relativ to the US.
On the other hand the dollar should be supported because commodities around the globe are priced in dollar.A ("slightly") weaker dollar should improve consumption of comodities in the world and (as well) give exports from the US an advantage.
->Production in the US could become more attractive.
More US-production means more value is created in the US.
That, at some point, would support the dollar as well.Maybe a modest inflation (2-7% in average) could be tolerated.
Because with that debt private household and company-debt will shrink over the next decades to more sustainable levels.And as long no huge country is able to offer high yields (for save bonds) -no pressure would be there to jack up rates.Tricky but not hopeless. -Or ?
Jamaica has issues that cause the talent to flee. Exhorbitant real estate and living costs, 40% tax rate, lousy public health care, basically a socialist government. Anybody who can, leaves. I have a 6 year old Jamaican grandniece who is brilliant. Let’s hope she can get back to school because she’s bound for better things.
Also, have you tried to locate a chest freezer lately? I found 2...but they were in Puerto Rico.
Fixed currencies did not work any more than Gold did for one simple reason, we constantly create more demand for money. Both population growth and the number of new things and services is constantly growing. Ridiculous to think gold keeps up with that kind of demand growth for exchange. What don't you get about money is for exchanging things within a society easier?It flat does not work to have a set exchange rate in a single currency for a commodity like gold with a finite supply, as comforting as that thought might seem to some.rkets.If anything those countries you site failed because they did not respond to change well- ie lack of Capitalism and Free Markets coupled with extremely slow trade exchange.
Gold is not liquid or supply able to vary with demand for exchange.
If in fact, you do have all currencies constantly changing in things like population, relative competitiveness, the rate they exchange things externally and internally, it makes zero sense to have gold as some intermediary exchange- that function is called free market FX in Capitalism.
Japan is not the Reserve currency. Its slower GDP growth rate makes it possible to borrow at lower inflation taming rates than what it receives in Interest from the US debt it owns. They literally make money lending to the US and it helped keep their goods cheaper here.
Says a lot about our financial education system.
Of course you’ve read Toynbee’s “A study of History”
www.thebalance.com/...
Also, do you think hyperinflation, as defined by inflation in prices over 50% per month, is really possible, or just high inflation?