A Tale of Two Dollars
Sunday, July 16, 2006
Some time ago, I linked to an article that described the already-dire straits of the Zimbabwean economy when its inflation rate was only 782 per cent. Today, I encountered a lengthier article that not only informs us that the rate is now 1,200 per cent, but that the inflationary policies of the Mugabe regime have acted synergistically with its previous expropriation of land from white-minority farmers to cause the former breadbasket of Africa to see its once-productive farmlands lie fallow. This reads like it was lifted straight out of Atlas Shrugged.
With unemployment at more than 70 percent and the average monthly salary at about 140 U.S. dollars -- not enough to pay rent or school fees -- a vast parallel market has sprung up. Pulling up at a supermarket in the eastern city of Mutare, my former hometown, I was approached by a dozen youths offering to sell me sugar, cooking oil and maize meal -- essential foods that supermarkets must sell at low, state-controlled prices. Informal traders hoard these goods and, when the inevitable shortages come, sell them at inflated prices. Informal trading is illegal, but it is the only way many Zimbabweans earn a living.This is just a taste.
How did Zimbabwe get to this point? It began in the late 1990s when, in order to pay for a costly military incursion into civil war-torn Congo, President Robert Mugabe ordered the printing of vast amounts of money, and inflation climbed steeply.
But it has reached today's levels only since the commercial farm invasions, in which 4,000 out of 4,500 white commercial farmers were kicked off their land, beginning in 2000. White farmers accounted for an estimated 60 percent of the country's foreign currency earnings through the export of tobacco and other crops. The invasions not only crippled domestic production, they scared away foreign investment. To dig itself out of debt and pay its bills, the government has simply printed more money.
Meanwhile, production by "new farmers" -- landless peasants who moved in to occupy the white farms -- is pitifully low. Part of the reason is that although the government offers fuel and maize-seed subsidies to new farmers, many have discovered that it's more profitable to sell the maize seed and fuel on the black market for inflated prices than to use them on the farm. Millions of acres of once-productive commercial farmland lie fallow. The government blames drought, even though the rains have been good.
I found the entire article morbidly fascinating reading, not to mention worth remembering. Why? Because at least one analyst fears that the United States faces the threat of similar inflation down the road unless it drastically changes its ways.
A newly published paper by a researcher for the Federal Reserve Bank of St. Louis warns that a ballooning budget deficit and pension and welfare timebomb is growing into a $65.9 trillion fiscal gap that will force the United States into bankruptcy.And what if we do none of the above? (Or a preferable fourth alternative, abolishment of the welfare state altogether.)
...
How much is $65.9 trillion dollars?
"This figure is more than five times U.S. GDP and almost twice the size of national wealth," writes Kotlikoff.
"One way to wrap one's head around $65.9 trillion is to ask what fiscal adjustments are needed to eliminate this red hole. The answers are terrifying. One solution is an immediate and permanent doubling of personal and corporate income taxes. Another is an immediate and permanent two-thirds cut in Social Security and Medicare benefits. A third alternative, were it feasible, would be to immediately and permanently cut all federal discretionary spending by 143 percent. [link dropped]
Given "the fiscal irresponsibility of both political parties," the professor sees the most likely scenario for maintaining solvency as the government simply printing money to pay its bills.Yes. He said "hyperinflation". Whether Zimbabwe serves us as a cautionary tale or a prophetic one is entirely up to us.
Kotlikoff explains: "This could arise in the context of the Federal Reserve 'being forced' to buy Treasury bills and bonds to reduce interest rates. Specifically, once the financial markets begin to understand the depth and extent of the country's financial insolvency, they will start worrying about inflation and about being paid back in watered-down dollars. This concern will lead them to start dumping their holdings of U.S. Treasuries. In so doing, they'll drive up interest rates, which will lead the Fed to print money to buy up those bonds. The consequence will be more money creation -- exactly what the bond traders will have come to fear. This could lead to spiraling expectations of higher inflation, with the process eventuating in hyperinflation."
So when do we start discussing the phasing-out of social security and other attempts to pretend that the state can create guarantees out of thin air?
-- CAV
8 comments:
Gus, an interesting and timely posting.
Unlike Zimbabwe, however, the U.S. has a formidable gold depository (Fort Knox).
In any hyperinlationary economic climate (or well before) why would the U.S. not wish to sell some of its gold at near hyperinflationary prices (to be repurchased upon price decline)?
The economy of the United States is different from our personal budgets and finances. In addition to the opportunity above, individuals cannot legally print more money (monetize the debt, like Jimmy Carter's inflation).
Next, although we can hold down two or three jobs, we cannot utilize macro economic policies to induce productivity gains, national competitive advantages or resource liquidations. I once worked for a U.S.-based company that had been "nationalized" (WW2 reparations from Germany). Shareholders gained when it was later sold back to its original owner.
I seriously doubt we are at risk of national hyperinflation or bankruptcy, although that is precisely what one party and its propagandistic lawyers would like voters to fear. Yes, there are even uniformed members of the other major party who fear the same result. Their understanding of economics must be suspect, in my humble opinion. An excellent post!
Vigilis,
Thanks for the compliment, but your reply confuses me. If I recall correctly, Fort Knox has only about one tenth of the estimated budget shortfall in gold anyway. (And what would we buy it back WITH? Paper money?)
But your mention of gold does touch upon our problem: our money is fiat currency, unbacked by gold.
No nation is immune to hyperinflation because no nation's government can create wealth ex nihilo, which is what the printing of enormous amounts of unbacked currency -- like ours -- is.
No nation is immune to the laws of causality. If any nation overspends, it will get into trouble in one way or another.
It is the notion that a government can function without regard to its income that is propaganda.
Gus
Gus, a couple of points:
Much of the U.S. debt (comprehended best as a percentage of GDP) is denominated in US$. Inflation and hyperinlation favor debtors in repayments to foreign and domestic creditors (tends to wipe out debt in cheaper units). Although I personally view moderate inflation as undesirable and hyper inflation as ruinous, the U.S. at the expense of its superior credit rating, could easily pay its way out of debt in printed money.
You pose an excellent question. If we sold gold, what currency would we demand in payment (to be used later in repurchase of gold bullion)? Assuming the US$ were already inflationary, what other currency would still be safe? At the amounts involved, none -not the Euro, the Swiss Franc, or the Chinese Yuan.
The U.S. government would dissolve before hyperinflation a became reality. Expecting some apocalypse?
Much of the reported deficit, although appropriated, has still not been spent by the current, adult administration. Wonder why.
Vigilis,
"[T]he U.S. at the expense of its superior credit rating, could easily pay its way out of debt in printed money."
But this is exactly what causes inflation! In a barter economy, if some good becomes extremely plentiful, many (or much) more will be required to make the same trades as before. There is really nothing essentially different about money -- except that with the government printing it, it does not represent anything, even gold.
Am I expecting an apocalypse? No. But I'm not going to pretend that one isn't going to occur if our "adult"administration or its successor doesn't start making some changes soon.
The Republicans are currently different from the Democrats only in degree. Both parties accept the premise that it is OK for the state to expropriate wealth (and Inflation does this by devaluing savings) for the welfare system (i.e., redistribution).
Gus
Gus, we both agree devaluing the dollar is inflationary.
What I am trying to convey is that combined with our vast (but admittedly token) gold reserves whose value would rise in step with either fear or inflation, the notion of bankruptcy is a nonstarter.
The dollar is still the world's reserve currency due to its perceived safety relative to any other. A major consideration in monetary safety is inflationary history. The U.S. budget deficit is forecast to be 2.3 percent of the gross domestic product this year, smaller than that of most European states.
Kotlikoff posits that "The proper way to consider a country's solvency is to examine the lifetime fiscal burdens facing current and future generations. If these burdens exceed the resources of those generations, get close to doing so, or simply get so high as to preclude their full collection, the country's policy will be unsustainable and can constitute or lead to national bankruptcy."
That is nothing new. The future "burdens' will not appy unless the Executive branch spends the funds appropriated. While every new burden will seem more staggering than the last in a growing economy, the U.S. has never succombed to the folly of which Kotlikoff is only the latest sentinel.
Kotlikoff proposes measures to stave off pending doom of national bankruptcy. In other words, he is as political as everyone else and trying to play a bluff. Judging by your own prior postings, I doubt your receptiveness to Koltikoff's remedies would be no better than mine.
Economic growth has always been the alternative. Is there any wonder both major parties have tolerated (if not encouraged) illegal Mexican immigration to promote just that? How much will your house be worth when baby boom mortality loads the market with a surplus of housing?
Vigilis,
You mention the baby boom. Before all those old codgers die, there will be a period during which there are 1 socialist security pensioner per two nonretired workers.
Something's gotta give, and this guy is simply saying that the idiots in Washington are going to take what they think will be the easy way out and try to print money to take care of the problem.
But all that paper is not going to replace all those missing workers in that Ponzi scheme, which is one of the bigger liabilities. But all that paper will royally screw the economy.
You point is good on growth, but I don't think it will be enough on its own....
Gus
The South Africans have hatched their own plan to give land to blacks.
SN,
Splendid.... But not too surprising.
Thanks to the package-dealing of racism with capitalism, the Third World (and countries racing to join it, like SA and several in South America) seems to be rejecting ALL aspects of Western Civilization, including those that might benefit it, like capitalism.
A clearer understanding of what was good and what was bad about the European settlers would be much more helpful there than the wholesale rejection of capitalism and, with it, the parting of some of SA's most productive citizens from their livelihoods.
Gus
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