“Inflation can be pursued only so long as the public still does not believe it will continue. Once the people generally realize that the inflation will be continued on and on and that the value of the monetary unit will decline more and more, then the fate of the money is sealed. Only the belief, that the inflation will come to a stop, maintains the value of the notes.” — Ludwig von Mises
This economic collapse will be the metric for all future crashes and currency failures. It will be the beacon by which we forever view recession, stimulus, inflation, and the average American. It will create global unrest on a level never before seen, and the world order is going to transform unimaginably. I predict within the next few decades, Austrian theory will be the basis of all economic and financial curricula in the world. And I believe Keynesian theory will be an afterthought — taught as an obscure history course.
Something recently came to my attention, regarding this Ponzi scheme Washington has labeled “stimulus.” According to the Congressional Budget Office, the so-called American Recovery and Reinvestment Act (ARRA) — whose primary purpose has been to stimulate the economy in order to create jobs — failed miserably at its purported task. Indeed, “five programs accounted for more than 80% of the outlays from ARRA in 2009: Medicaid, unemployment compensation, Social Security … grants to state and local governments … and student aid.”
This means that the money intended to create jobs actually funded programs for people who weren’t working. Perhaps it is my abject ignorance, but I simply do not see how funding unemployment creates any inspiration for the unemployed to seek jobs. Why would anyone work when the government is handing her a big fat check? Further, if she did get a job, the government would just take her money away from her and give it to the people who aren’t working.
And then there are the defenders of these policies… one reader sent me a scathing note last week saying, “You may think the people in Washington are stupid, but they’re a lot smarter than you. That’s why they’re in Washington and you’re not.”
Thanks to this person, I have learned that I can be grateful to my own ignorance for keeping me out of Washington. That’s one less thing to worry about.
A little history please…
The government is like a bunch of drunk three-year-olds driving bumper cars. Why anyone defends Keynes, Obama, John Galbraith, Robert Reich, George Soros, Paul Krugman, or any of the other contemporary “pundits” affecting global monetary and fiscal policy is utterly confounding. I find it exceedingly difficult to comprehend, but some people sincerely believe prosperity, innovation, and higher standards of living derive from the government — that the gaggle of egomaniacle vote-jockeying politicians in Washington (or anywhere else) are actually capable of creating the conditions, technological advancements, and financial security that lead to human progress.
Treasuries are weakening. We know the Chinese are buying gold and spurning long-term U.S. debt. At some point, the world will stop lending money to the United States at these low yields (or at any yield). This cannot last forever.
The dollar continues to get hammered, because even dyed-in-the-wool Keynesians know you can’t print and ease like this without some horrible consequences down the road. Unemployment rages, gold continues to outperform.
People know in their hearts that printing money is inflationary. The dollar has lost 96% of its value in the last hundred years. These policies simply don’t work. I’m trying very hard not to sound arrogant, or even overly self-confident; if I am wrong, I want to know why, and I want to know soon!
Nonetheless, the Fed is printing trillions of dollars, and the Treasury is going to try to auction off trillions more dollars worth of debt in the foreseeable future, further flooding the global market. Americans manufacture very little, and yet we consume at a gluttonous rate.
What To Do with Interest Rates
I can’t restate this enough: when the Fed increases the money supply, that is inflation! If people don’t spend, then we won’t see an increase in prices and interest rates right away. But make no mistake about it: yields and prices will rise. And the longer they stay low, the more explosively they’re going to surge when the time comes.
It’s true that banks and consumers are hoarding cash. And the Fed, in all its “wisdom,” keeps printing. But the day will come when the dam can’t withstand the strain any longer. People will spend. And spend. And spend. And then what will the Fed do? How will it know the precise moment to reverse course?
The chances of the Fed being precisely correct in its timing is almost nil, and any misjudgment is going to cost the world — big time. Remember, just because an economy has started a recovery does not mean that it feels like it has turned. People will still be reeling from the pain. So even if the Fed times its policies perfectly, it still must find the political courage to to raise rates.
It’s hard to imagine a scenario in which the Fed soaks up excess liquidity without raising rates. But let’s back up a bit…
The Fed is printing money to re-ignite the economy. Once that policy finds success, the Fed must reclaim those dollars to stave off inflationary price and interest rate increases. But to do that, it will have to use something to get those dollars out of the economy. And the only effective instrument I can see for this purpose is U.S. Treasuries — the Fed will sell its stockpile of bonds, in exchange for dollars, thus pulling currency out of the economy.
But this presents yet another problem: if the Fed is selling massive amounts of Treasuries in an environment where rates and prices are rising, it’s going to have to offer higher yields (or lower relative prices) on the Treasuries it’s selling. Remember that bond prices move inversely to interest rates. So sell pressure on Treasuries is necessarily going to put upward momentum on rates.
Are you starting to see how much trouble the United States is in? Bear in mind that the country went into the Great Depression with almost no debt, and it issued debt to help get out of the situation! If you think about where things are right now — with the U.S. holding more debt than ever before in history — how will it create yet more debt to get out of this predicament? How long will the Chinese, the Japanese, and the Saudis keep lending America money?
At some point the U.S. default risk becomes too great, and foreigners will stop lending to us. When you add into this equation the fact that the U.S. is paying less than 5% on 30-year debt… it just doesn’t make any sense! Why would anyone continue to borrow long-term debt at these rates?
What will inflation mean for you?
Everyone knows what the Fed is doing. Everyone knows that printing money results in rising prices and interest rates. It’s like we’re sitting at the top of the roller coaster, hovering, not moving up, but not moving down. And yet, the momentum is there… the anticipation is building, and we know we’re going to plummet…
All it’s going to take is a little push, and the whole thing will fall apart. It’s not enough to say that printing money is inflationary. No. It’s the fact that everyone knows that printing money is inflationary; this is a self-fulfilling prophesy. If the expectation is higher prices and interest rates, then people are more than likely already preparing for the inevitable.
We got through the 70s and 80s by the skin of our teeth. But we were a creditor nation, and most of our consumer debt was at fixed rates. Today, we’re a debtor nation, and a huge portion of our consumer debt is variable. Once rates begin to move higher, consumers are going to get crushed.
In the 1980s, mortgage interest rates went to 15% or higher, but to my knowledge, there was no such thing as an adjustable rate mortgage. If you borrowed at 15%, it was fixed, but at least you knew what you were getting into. More importantly, if you had borrowed at, say, 7% in the 1960s, your rate stayed at 7%. So you actually benefited from rising rates and prices!
Let’s say, however, you borrowed at 7%, but your mortgage was adjustable. Then what would your mortgage look like as rates rocketed over 15%? Well, that’s where we’re headed. And it’s not only adjustable rate mortgages.
Your credit card company knows you have impeccable credit. So they gave you a credit card at prime-plus-one, and you’re probably paying some phenomenally low rate. Enjoy it while it lasts, because credit card default is about to be the next mother-of-all-issues, and you, the consumer, are going to get hit from all sides. Here’s the other terrifying variable in the coming credit card catastrophe:
The government recently made it illegal for credit card companies to price for risk. This means no more teaser rates, and no more retroactive penalties, among other things. That actually probably sounds great on the surface, doesn’t it? Well, like most things the government hands us, no matter how good it looks on paper, it’s not.
As interest rates and prices increase, so will credit card defaults. And because credit card companies are going to be scared of more defaults — and because they know that they’re going to be prohibited from re-pricing for risk going forward — they’re going to punish all of us.
Here’s a true story. several months ago, I was carrying a hefty balance on one of my cards at 7%. With no warning, my credit card company raised my rate to 24.6% in one billing cycle. Fortunately, I had the cash to pay it off, but somehow I just don’t think I’m representative of the rest of the the consuming U.S. public. This is only the beginning. As prices and rates rise — along with defaults — credit card companies will protect themselves.
I get called a conspiracy theorist a lot. That’s incorrect, but it doesn’t bother me. What is correct is that I am an Austrian economist, and I am often inspired by the precision with which the school’s founders predicted the economic maelstrom we now find ourselves in.