Inflation Or Deflation?

Inflation or Deflation?
[courtesy Google Images]

There’s also always evidence of deflation.  Some prices are falling.

Whether we live in a time that can be accurately described as “inflationary” or “deflationary” depends on whether prices are predominantly rising or predominantly falling.

Right now, we seem to live at a time that’s confused and unclear.  More importantly, we are living in a moment where it’s unclear whether we are headed to more deflation or more inflation.

To understand where we might be headed, here are some arguments:

Premises:

•  Inflation makes debts cheaper and easier to repay since they are repaid with devalued, inflated, cheaper dollars.

Inflation tends to stimulate the economy by making currency less valuable and thereby increasing the consumers’ inclination spend quickly and before their currency loses its value.

Inflation is typically associated with economic booms.

Inflation is great for borrowers and debtors and terrible for lenders and creditors.

As the world’s biggest debtor and borrower, in order to survive, the US government wants and even needs inflation.

•  Conversely, deflation makes debts more costly and harder to repay since those debts are repaid with deflated, more valuable dollars.

Deflation tends to slow the economy by making currency more valuable and increasing the people’s inclination to save their currency rather than spend it because it’s gaining value.

Deflation is typically associated with economic depressions.

As deflation persists, existing debts can grow so large in terms of purchasing power that the debts can’t be paid and debtors are increasingly forced to declare bankruptcy.

As world’s biggest debtor, the U.S. government can’t stand—and might not even survive—a prolonged period of deflation.

Government fears and hates deflation.

Evidence

A.D. 1971:

President Nixon stopped redeeming foreign-held US dollars with gold and thereby converted the dollar into a pure fiat currency.  The market price for gold was $45.

A.D. 1972:

The Nixon administration reached an audacious deal with Saudi Arabia:  the US would guarantee Saudi Arabian security; the Saudis would only sell their crude oil for dollars.  Later, a similar agreement was reached with OPEC.

Result?  Anyone who wanted to purchase crude oil on the international markets had to first have intrinsically-worthless fiat dollars.  The resulting international demand for dollars created the dollar’s perceived value and status as “petro-dollar”.  The dollar was implicitly backed by crude oil and therefore allowed to continue as World Reserve Currency—despite the fact that it was no longer backed by gold or silver.

Gold was $64.

A.D. 2000:

The US was the world’s only, undisputed super-power.  The US dollar’s value on the US Dollar Index (USDX) was 125.  The market price for gold was $273.

A.D. 2001:

Saddam Hussein began to sell Iraqi crude for euros and threatened the dollar’s hegemony as the world’s only petro-currency.  Gold: $265.  USDX: 125

A.D. 2003:

Under the pretext of seeking to destroy Weapons of Mass Destruction, the US invaded Iraq.  Gold: $417.  USDX: 80

A.D. 2011:

Prior to A.D. 2011, government policy was to inflate the fiat dollar.  Price of gold and the USDX are evidence of that policy.

However, starting in A.D. 2011, CNN-Money published “IMF calls for dollar alternative” and claimed,

“The International Monetary Fund issued a report Thursday on a possible replacement for the dollar as the world’s reserve currency.

“The IMF said Special Drawing Rights, or SDRs, could help stabilize the global financial system . . . . as a less volatile alternative to the U.S. dollar.

“The goal is to have a reserve asset for central banks that better reflects the global economy since the dollar is vulnerable to swings in the domestic economy and changes in U.S. policy.

“The IMF also proposed creating SDR-denominated bonds, which could reduce central banks’ dependence on U.S. Treasuries. The Fund also suggested that certain assets, such as oil and gold, which are traded in U.S. dollars, could be priced using SDRs.”

That report went largely unnoticed, but it was big news.  The almighty IMF was saying:

1)  Since A.D. 2000, the fiat dollar’s value had fallen from 125 to 72 on the USDX and was therefore deemed too “volatile” to continue as the World Reserve Currency;

2)  The fiat dollar should be replaced as World Reserve Currency with Special Drawing Rights (SDRs) issued by the IMF.  That would make the SDRs the “World Reserve Currency”.

5)  Replacing the dollar with SDRs would serve the best interests of central banks and the global economy.

4)  The role of US Treasuries on the international financial systems should be replaced by bonds issued by the IMF and valued in SDRs.  That would dramatically reduce the demand for and value of US Treasuries.

5)  The price of crude oil should be denominated in SDRs rather than US dollars.  That would make the SDR the world’s “petro-currency”.

The IMF was clearly attacking the US dollar’s hegemony as “petro-currency” and World Reserve Currency.

• USDX fell to 72, reversed, and began an initially slow rise to today’s 97—that’s a four-year, 35% increase in the purchasing power of the fiat dollar as measured by the USDX.
• Gold hit its all-time high, $1911—and began a 4-year, 42% descent to (now) $1,100
• the US military leaves Iraq.

You can see the probable correlation between the 35% rise in the USDX and the 42% fall in the price of gold–especially in the USDX low of 72 and the gold peak of $1911.

But were these A.D. 2011 events merely coincidental?  Or are they evidence that government’s pro-inflation policy of most of the previous 70 years was giving way to a pro-deflation policy?

Did the IMF threat to replace the fiat dollar as World Reserve Currency throw the US government and Federal Reserve into a panic?  Did that panic cause government and the Fed to start raising the USDX and lowering the price of gold in order to maintain the fiat dollar’s status as “World Reserve Currency”?

Remember, since A.D. 1971 the only thing that really gave the fiat dollar any value was its status as the world’s “petro-currency” and World Reserve Currency.  If the dollar lost either status, it would also inflate, lose much of its perceived value, and perhaps die in hyperinflation within two or three years.

Did the US government and Federal Reserve embark in A.D. 2011 on a policy of international dollar deflation in order to preserve the fiat dollar?  Did they risk the US domestic economy stagnating or even falling into depression, in order to preserve the fiat dollar?  Did they increase government’s debt burden and risk of insolvency in order to protect the fiat dollar?

IF the feds/Fed adopted a policy in A.D. 2011 to cause dollar deflation in the international/USDX level, that policy seems to have worked well enough to stop the IMF’s proposed replacement of the dollar as World Reserve Currency—at least, until now.

A.D. 2014

USDX 80  Gold $1,300

USDX deflation accelerates.  The USDX rises over 25% from 80 (2014) to nearly 100 in early A.D. 2015.  Gold falls another 15% to today’s $1,100.

Was the 2014 acceleration in deflation accidental?  Or was it evidence of the feds/Fed determination to preserve the dollar’s status as World Reserve Currency in the face of growing competition for that status from the Chinese Yuan?

A.D. 2015

Reuters recently published an article entitled, “Opportunities open up as U.S., UK prepare to go it alone on rates”.  According to that article,

“Amid all the uncertainty swirling around financial markets, one clear picture is emerging: U.S. and UK interest rates will soon rise, while most of the rest of the world is easing monetary policy.” 

In other words, much of the rest of the world is promoting inflation by lowering interest rates and increasing their domestic money supplies, thereby making it easier for domestic consumers to borrow and spend and more profitable for domestic industries to export goods to foreign countries.

The U.S. and UK, however, are allegedly preparing to raise interest rates and thereby increase the forces of deflation that make it more expensive for US and UK consumers to borrow and spend, harder for US and UK industries to export, and harder for the US and UK governments to repay existing national debts or borrow more.

If both the US and UK officially raise interest rates and thereby risk causing deflation and even economic depression, then the accelerated deflation seen on the USDX over the past sixteen months is probably not accidental.  It’s probably the result of intentional policy.

Why might government want to cause deflation?

On the domestic level, causing deflation is tantamount to economic suicide.

However, a strong dollar on the international level will tend to resist attempts by the Chinese Yuan and/or IMF SDRs to seize the roles of “petro-currency” and World Reserve Currency from the US dollar.

Faced with growing competition from other currencies and the threat of dollar destruction, it’s conceivable that the government and Federal Reserve embarked on a policy to make the dollar more valuable on the international level.  That might explain why they’re at least allowing and perhaps encouraging dollar deflation on the international level.

So long as the dollar is increasing in value (deflating), the world will demand dollars.  So long as the world demands dollars, the dollar will continue to retain at least some of its status as World Reserve Currency.

Nevertheless, if government and Federal Reserve policy is to support the dollar with international deflation, they’re risking the spread of deflation into the domestic economy and collapse of the US economy.  If so, for the powers that run this country, the dollar is more important than the American people or the U.S. economy.

Reuters:

“[T]he United States and Britain will be swimming against the global tide. No fewer than 37 central banks have eased monetary policy so far this year to boost growth, fight deflation or both.”

Interesting, hmm?  37 central banks are fighting deflation while the US and UK appear to embrace deflation.  Are the US and UK super-smart or super-stupid?

Clearly, we are at some sort of inflection point in international finance.  The US and UK are either about to be brilliantly strengthened or catastrophically weakened.

QE4?

Are we getting closer to another dose of Quantitative Easing (QE4)?  Could QE4 cause sufficient inflation to reduce the deflationary pressures currently on the dollar and US economy?

If not, has government conceded that since QEs 1, 2 & 3 failed to cause much inflation, QE4 will also fail?

Has government grown so impotent that it’s resigned to suffering more deflation?  Or is government intentionally causing more deflation (at least on the international level) to protect the dollar’s status as World Reserve Currency?

Unless our government is bent on pushing the US economy into a depression, government should still prefer inflation to deflation.  Recent evidence of accelerating dollar deflation refutes that proposition, but let’s pretend it’s true.

If it were, we might ask the following:

1) IF government still wants and needs more inflation to stimulate the economy and pay off the national debt with cheaper dollars; and,

2) IF the government and Fed are convinced that QE4 won’t succeed at producing more inflation; and,

3) IF near-zero interest rates can’t cause more inflation and economic stimulation; then,

4) Are we doomed to succumb to deflation and economic depression no matter what?  Or,

5) Is there some other way to create inflation?

The answer to the question at #4 is “Not necessarily—we might still escape deflation.”

The answer to the question at #5 is “Yes—there are other ways to create inflation.”

Inflation by Declaration

Because they’re covert, creating inflation by printing more currency and artificially suppressing interest rates are preferred methods to cause inflation.  The public doesn’t understand them.  Also, their effects aren’t usually sudden and occur slowly.  Thus, these two methods (printing more dollars and lowering interest rates) are sneaky since, in theory, they allow government to avoid the blame for causing inflation.

But, if government were sufficiently desperate, it could cause significant inflation overnight by simply declaring that the purchasing power of the dollar had been reduced by, say, 50%.  The resulting inflation would be sudden, overt and undeniable. Government would have to take the blame. But sufficient inflation might be achieved to offset the forces of deflation that’ve been significant since A.D. 2008 and actually “stimulate” the economy.

Devaluation by declaration might be achieved by issuing a new pink currency to replace our green currency at a ratio and value that were designed to cause significant inflation.  There might even be a way to somehow suddenly increase prices by edict without actually replacing our green currency.

You might go to sleep on Friday with $20,000 in your bank account and wake up on Monday morning to learn that government had declared that the purchasing power of Friday’s $20,000 was reduced to, say, $10,000.  Creditors would scream.  Debtors would cheer.  Since most Americans are debtors, the cheers might drown out the screams.  For a while.

Inflation by Disconnection

Prior to A.D. 1971, paper dollars had value on international markets because they were connected to, and redeemable in, gold.  When Nixon stopped redeeming foreign-held dollars with gold, he disconnected paper dollars from gold, dollars lost value, prices rose, and American suffered a spike in inflation.  The disconnection of gold from paper dollars caused inflation.

Secretary of State Kissinger subsequently negotiated a deal whereby the sale of all crude oil on international markets could be achieved only by payments in fiat dollars.  Kissinger connected fiat dollars to crude oil.  That connection gave new value to the fiat dollar.  Inflation persisted at a modest rate and the dollar retained its position as World Reserve Currency.

It follows that if today’s government really wanted to cause dollar inflation, no matter what the cost, all they’d have to do is disconnect fiat dollars from the sale of crude oil. If other currencies could also purchase crude oil, the dollar’s petro-currency hegemony would be eroded.  As that hegemony disappeared, the dollar should spiral deeper into inflation, devaluation and worthlessness.

To some extent, this erosion is already happening.  During the 1970s, 80s and 90s, the dollar was used to purchase nearly 100% of crude oil sold on international markets.  Today, only about 80% of international crude oil sales are made with dollars.  Over time, that percentage is certain to decline further.  If the dollar is no longer “the” primary “petro-currency,” the dollar’s value (purchasing power) will fall.  That’s inflation.

My point is that government has the means to create significant, sudden and overt inflation if they really wanted to do so:  just cause or allow the “petro-dollar” to be increasingly disconnected from its link to crude oil and status as exclusive “petro-currency”.

October 20^th?

All of which leads me to a recent report by Stansberry Research entitled “First Look: U.S. Dollar Substitute to Go Public on Oct 20th?”

According to Stansberry,

“On Oct 20th of this year, the IMF is expected to announce a reserve currency alternative to the U.S. dollar.”

Remember the CNN-Money report from A.D. 2011 that the IMF had threatened to create an alternative World Reserve Currency to replace the fiat dollar?  That new currency was to be based on SDRs.

IF the Stansberry report is accurate, it may be that on October 20^th, we’ll see a new, international currency that either supplants or replaces the US dollar as “petro-currency” and/or World Reserve Currency.  One result of this new currency should be at least two or three years of significant dollar inflation.

If the US government wants inflation (at least for a couple more years), a new World Reserve Currency would achieve that object without placing exclusive blame on the US government.

•  After reading the Stansberry report, a SecretsOfTheFed.com headline asked “Is the IMF trying to beat China in the creation of a new reserve currency?” SecretsOfTheFed.com speculated:

“Earlier this year, China announced that they will have their new SWIFT system fully functional by either September or October and can then fully float the Yuan currency worldwide. . . . However, a new report from Stansberry Research is alleges that the IMF sit by idly while the East wrests control from them over the [next] global monetary system, and could be finalizing plans of their own to replace the dollar before China does.”

Could it be that the dollar is admitted by all to be near death and no longer worth fighting for?

Could it be that the real battle for the title of “World Reserve Currency” is not between the (nearly dead) dollar and the Chinese Yuan—but between the Chinese Yuan and the IMFs SDRs?

Are we less than three months away from the end of dollar deflation and the resumption of dollar inflation?

Perhaps, those questions will be answered October 20^th.

Whatever those answers may be, it looks, seems, and feels as if we’re on the verge of “something big”.  Big inflation or big deflation.

I expect we’ll see another six to twelve months of deflation (at least) followed by a last attempt to cause inflation and perhaps even hyperinflation.

The dollar won’t die in deflation.  It might die in hyperinflation.

Either way, “something big” concerning our monetary system seems imminent.

Buckle up.