Huge Inflation

What an absurd old world we live in. The Bank of England is worried about deflation, but only so it can justify the massive inflation it's cooking up. Barack Obama is outraged about US$165 million in bonuses at AIG and will use all legal means to stop them. Like he doesn't have anything better to do. Here in Australia, local shares will probably follow New York's lead and head down. Top Stocks on Wall Street finished up four days in a row, but couldn't make it five. There was no Earth-shattering earnings news. That left plenty of room for grandstanding and other chicanery.

Before we get to the chicanery, what's shaking in the local market? The banks were up. Australia's banks never had the chance to gorge themselves on the stuff that's choking their counterparts in Europe and North America. They were stuck, instead, with large portfolios of residential mortgages. Plus, you can't short sell them anyway. So how low could they go?

Markets are still in a kind of suspended animation, waiting to see if there is any coherent, intelligent, effective response by the financial players or their regulators to...you know...solve the problems. It could be a long wait.

All hole and no donut. That about sums up the response of the economists and officials trying to un-freeze credit markets and get the economy going. Why on Earth is the President of the United States taking time to sort out how much people at AIG get paid? Probably because he wants to distract attention away from how much money he plans to spend, and spend ineffectively.

Look, there's Elvis! Hey king!

That's what distractions are, attempts to change the subject or divert focus.

Distract from what? Huge inflation. Yes. Yes. We know. There is no huge inflation now. In fact, industrial production in the United States fell for the fourth month in a row. It hasn't been this low since 2002. But then, why would output grow when demand is falling and credit remains tight?

Money supply is not falling. Yet the good people who write the Bank of England's Quarterly Bulletin are still warning of a "debt deflation trap." You'll find all the good stuff beginning on page 39. The Bank warns that the cost of debts is rising relative to everything else, making it harder for heavily indebted Britons to pay off debts. Britons are, by the way, heavily indebted.

But are falling prices really so inherently evil? Really...whoever complained about a cheaper cheeseburger? When was the last time you bellyached about the ever-declining price of a pint of beer?

The Bank study resurrects the last period of sustained deflation and connects it with the economic misery of the times, in the 1930s. Then, too, output collapsed. The world's productive capacity far exceeded its demand. And money supply, for a time, briefly shrank as banks (who create most of the money in the fiat system) went out of business.

But all of this talk about the evil of falling prices is just a ruse. Excess capacity exists because the preceding inflationary bubble helped build factories to produce goods sold to people who bought them with credit. The demand was illusory. Unfortunately, the factories were real...it took real labour, real energy, and real raw materials to build them. They remained idle and unproductive unstill something else came along (World War Two) to reignite demand and the need for wartime production.

Falling prices aren't inherently evil. If prices fall low enough, low cost producers of a given good or service are driven out of business. Supply tightens. Prices rise.

No...what the BoE and the Fed are doing is evoking the nightmare of the Depression to justify the coming inflation. The fiat money system can't function without just a little inflation. The gradual erosion of purchasing power is what makes it unnoticeable and thus tolerable to private citizens. They don't really notice it 2-3% at a time.

The trouble for the global system now is the tower of debts looming over the public and private sector in many economies. It's all well and good if the general price level falls. But it's no good if, while asset values like top stocks and homes fall, debts remain fixed. An increase in the preference for cash makes debts a lot harder to pay off.

Of course, as you know by now, the preferred government answer is to inflate. This is what made the Chinese nervous last week as they reviewed Obama's budget. But the BoE and the Fed have been quite clear about their intentions. They will inflate as much as they need to in order to get nominal asset prices stable.

There are some investors who buy the Fed's bogus line that it can withdraw liquidity and sterilize its money printing before it leads to inflation in the economy. Believing this is a serious mistake that could cost you a lot of money.

The hedge against these inflationary policies (including here in Australia) is to invest in assets priced in dollars which cannot be created by a printing press. That includes oil, precious metals, and other energy commodities. The nominal price of these assets should rise as the money supply rises.

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It seems everyone loved yesterday's missive from James Howard Kunstler. I received this one just in time for today's send:

"Thank you for the James Kunstler article on South Africa.  It is an interesting contrast to the PBS article on the revitalization of the Joberg gold mining tunnels.  I am more inclined to believe Kunstler. 
 
"The Melrose Arch is a true example of community building, a possibility that is mostly ignored globally.
 
"Keep up these thought-provoking articles in Whiskey."

You're welcome and we aim to try.

But one Shooter makes this point:

"Unfortunately but undeniably, NO black governed nation has ever prospered.  On the contrary, nations blacks have seized from white rule, and those that have always been black governed have steadily and often rapidly become dependent on the other nations of the world for gifts, grants, and donated food, [and are] usually ruled by despotic dictators, kings, and 'emperors'.

"Haiti, taken from the French when it was a productive society, and Mugabe-transformed Zimbabwe where rich, bountiful farms are now fallow wastelands are just two prime examples countries  the incompetence, inability, and corruption have destroyed.  A few years ago more than a few highly reputable studies disclosed that after the 40+ years and many billions of aid from a wide spectrum of nations, the entire African continent is much worse off, living standards unimproved, hunger and extreme poverty widespread, all the efforts and treasure totally and completely wasted and the area daily descending into hell on earth."

And I had such high hopes for the republic I was planning to found. (Check my picture on the Whiskey & Gunpowder authors' page to see why that was funny.)

Haiti ― the first independent black nation to emerge after white folk got so globally adventurous ― isn't exactly a shining example.

I'd like to point out, however, that it was the white nations of the world that had those cute little multi-year nervous breakdowns in 1918 and again in 1938.

And this whole fiat money experiment and encroaching collectivism don't bode too well for the pale-faced nations either. That one thing you started in North America in the late 18th Century held some promise, but you see how that's turning out. Nice republic…too bad we couldn't keep it.

I'd say that human governments in general just don't stand the test of time. It's a basic Whiskey Bar tenet: The world goes to Hell…regularly…