Inflation Expectations
Why Bernanke Rightfully Fears Them
Jay Taylor
Ludwig von Mises observed that fiat money can be inflated as long as people think it will end one day. However, if people begin to think inflation will continue forever or, worse yet, if they think it will accelerate, it’s “game over” for the scumbag thieves who are in the process of robbing honest, hardworking people, who actually create wealth.
Who are the scumbag thieves I speak of? Primarily, they are the bankers and politicians, who form this unholy alliance of thieves. Politicians are always seeking to get elected by giving as many things away to voters as
possible, without taxing them. The Federal Reserve-backed banking system provides the cover for the economic lies and dishonesty of our elected officials. As Ronald Reagan quipped, “They say politics is the second-oldest
profession and I’ve been around it long enough to know it has a lot in common with the oldest profession.”
Like hookers, politicians turn their own kind of tricks. They trick voters into thinking they are getting something for nothing while they are having their pockets picked by $135 oil prices caused mostly by an increase in the money supply used to finance the exact giveaway programs that get these clowns elected time after time!
The connection to the growth of money supply has been downplayed as a cause of inflation, for obvious reasons. Politicians do not want the general populace to understand the connection between an increased money supply used to fund government wars and social programs so they can keep on practicing their form of “prostitution.” Yet, the mainstream does in fact seem to have some vague view of a connection between “lower interest rates” and inflation. Of course what they don’t say is that lower interest rates are orchestrated by the Federal Reserve’s increasing the money supply out of thin air (creating money with a keystroke of their computers).
But one thing mainstream pundits and policy makers never talk about is velocity of money. The velocity of money is simply the rate at which money turns over, or changes hands. When prices are rising slowly, people are less eager to trade their paper money for real, tangible items, because they are confident they can buy what they need in the future at the same or even lower prices. However, when people lose confidence in the stability of the purchasing power of their currency, they tend to buy today for fear the price will rise even more tomorrow. I can tell you from personal experience, I have stopped by the gas pumps to top my tank a few times recently as the price of gas has been rising at a faster and faster pace. In other words, when an inflationary psychology sets in, the velocity of money increases.
Money velocity is very important. Think about it. If the velocity of money turns over twice as fast as in the past, it has the same impact on prices as if the money supply doubled! In the 1970s, this inflationary psychology was
very near to getting out of hand. That is when Paul Volcker stepped in as Chairman of the Fed to inflict painful, double-digit interest rates on the American people. The pain was great, but the dollar, which was rapidly
disintegrating towards its intrinsic value of zero, was saved. The dollar was saved and by a policy that boosted “real” interest rates to the highest level (7% to 10%) since the Civil War. The velocity of the dollar slowed down drastically. Prices plunged and we started a long period of disinflation, which has only recently ended. That painful measure paved the way for a protracted period of growth in America.
I have mentioned frequently in this letter that I had a chat with Marc Faber and Congressman Ron Paul about whether either of them thought we could ever see another Volcker-type Fed chairman again. Neither of these highly respected people thought that was remotely possible. However, I think it could happen again and so does Richard Maybury, editor of Early Warning Report. Richard assigns a 25% probability that if inflation gets bad enough, we could get “another” Paul Volcker. Here is what he said about that in his 12-page June/July letter:
“I know of no time in the Fed’s 94 year existence in which Congress wanted it to be responsible with the dollar—except possibly in one emergency case, the 1979 panic.
“At the moment, I see no evidence they are feeling that kind of desperation, and I don’t think we will see a serious tightening until they do.
“The only thing likely to cause those emotions is a repeat of 1979, a global run on the dollar, generating daily news stories the politicians find terrifying.”
In other words, if the general public—the people who re-elect congressmen to office—are so upset by rising prices that they demand a real solution, not a phony one like price controls (which by the way were tried during the 1990s before Volcker arrived on the scene), Maybury believes it is conceivable another tight money policy (defined as a policy or high real inflation adjusted interest rates) could happen.
If we were to get that kind of policy, that is when I think Ian Gordon’s Kondratieff winter would occur. I think a 25% probability of that kind of outcome is too high, at least at this point in time, because I think Americans
have been kept entirely stupid by false inflation numbers and constant lies spun by America’s propaganda machine. Keeping people dumbed down on inflation and the loss of purchasing power is essential to the perpetuation of the inflation scam that our government and central bankers are inflicting on us. As von Mises observed, once people really start losing confidence in the value of their currency, they flee from it, at which point it very rapidly moves toward the intrinsic value of the paper it is printed on—or, in a word, ZERO!
Money Velocity—Where Are We Now?
Maybury points out that most economists totally ignore this concept, which really is a measure of how quickly money changes hands. Maybury points out that virtually no economists talk about money velocity even though it is hugely important in explaining price changes in the economy. He observes that if money turns over twice as fast, in effect it has the same impact on the money supply as if the money supply were to double. Certainly Bernanke understands this fact, which in my view is why he and other Fed officials have been jawboning the public into thinking the dollar will retain its purchasing power. Getting rid of inflationary expectations is extremely important because it buys more time to inflate, as the Fed continues to inflate the money supply to bail out banks that are continuing to experience nightmarish loan problems, not to mention the need to continue printing money to pay for America’s military and ongoing socialism.
Maybury notes there are three stages of monetary velocity:
- “During Stage 1, prices do not rise as fast as the money supply because people don’t recognize what is happening. They hold on to their money in the hope and expectations that purchasing power will increase as it did for many items during the 1990s and early 2000s.
- “During Stage 2, many people have caught on, and are spending their money quickly. Prices rise faster than the money supply because each unit of the money is changing hands faster. Many people want to get rid of it quickly and are willing to accept less for it.
- “In the third stage, the runaway, the whole population is in a panic to get rid of the money as soon as they get their hands on it, and they money declines to its real value, which is the value of scrap paper.”
He then states, “In other words, in Stage 1, the currency is not losing its value very fast because people still trust it. In Stage 2, the currency is in trouble. In the last half of Stage 2, it’s circling the drain. In Stage 3, it’s going down the drain.”
Unfortunately there are no good measures of monetary velocity. However, as Maybury illuminates, if prices are
rising faster than the money supply (M-3) and if many people are expressing a fear of holding dollars, that is strong anecdotal evidence that monetary velocity is on the rise. It is certainly hard to quantify it, but it is happening.
So where does Maybury think we are now? He picks out two different graphics to illustrate: (1) where foreigners are with respect to this increasing monetary velocity, and (2) where Americans are in this process.
Richard suggests that foreigners are about midway along in the second stage and that Americans are about midway along in the first stage. Americans are the last to realize what is going on, which by the way is one reason I think resource stocks are not doing all that well just yet. I like to say you won’t find one out of a thousand Americans who think buying gold, silver, and copper stocks is a good thing to do. But in Vancouver, at a conference that I just attended, a lot of people understand that the U.S. dollar is about to “circle the drain” if that process has not yet started.
Has the inflation rate exceeded the growth of M-3? Well, according to economist John Williams, M-3 has been rising at a rate of about 16.4%. That is higher than John’s CPI number, which is 11.6%; so according to Maybury’s definition, we would still be in Stage 1. However, as he points out, some key elements in the economy, like wheat, gasoline, and euros, feed through the economy and eventually are likely to put upward pressure on a host of other prices, and those prices will accelerate if the velocity of money continues to increase.
Measuring velocity is not easy. However, I am considering watching both the inflation and M-3 numbers as published by John Williams in his Shadow Government Statistics newsletter. In fact, a change in this relationship may very well be another leading indicator that could be put into our IDW, which, as can be seen below, continues to collaborate the notion of increasing velocity.
June 20, 2008
Jay Taylor, Editor of J Taylor's Gold & Technology Stocks
www.miningstocks.com
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