Safe Haven | The First Steps to Hyper-Inflation:

Retail prices inflate in an overheating economy when there is a supply shortage of consumer goods. Because demand outstrips supply the producer has the whip hand, and he exploits it by asking more money for his goods. But look around you today and you will see there is no supply side shortage in the world economy. So if we do get inflation it's not going to be because of overheating.

Hyper-inflation, on the other hand, has little to do with supply side shortages and overheated economies. It happens when a currency dies. Once the realization grips savers (not consumers) that their money is losing its purchasing power then they exit money and look for better stores of value.

So while 'normal' inflation is driven by consumer-pull for goods, hyper-inflation is driven by saver-push of money, and this explains a big qualitative difference between inflation and hyper-inflation.

I read a lot of blog posts about our economy and the big debate is inflation or deflation? And by that is usually meant price inflation vs. price deflation.

The article I've linked to explains that it is the wrong debate. The correct discussion is whether our currency will collapse due to a lack of confidence in its long term value.

If you loan me $10.00 and I pay you interest on the $10.00 by printing $1.00 every year you'll eventually realize I'm not good for the original $10.00. I'll even tell you I'm giving you a printed $1.00 - it will be an IOU. But I'll also give you a song and dance about how I'm investing for the future and it's better for you to get the IOU rather than your money back at this time.

It's the same with $10 trillion and $1 trillion. If the US prints $1 or $2 trillion every year, China is going to figure out we're not good for the $10 trillion in loans we have outstanding. Bad money chases out good money - so China is perhaps "stuck" with some IOUs from us but in the meantime they are hoarding gold, oil, copper, and other commodities that will have long term value.

The US debt situation is beyond anything the Federal Reserve can handle (not that the Fed should exist at all... but I digress). Right now, government spending has gone insane with debts that exceed all accumulated debt since the country was created. The only way to avoid hyper inflation is to either default on some loans or to drastically cut back on government spending. It's hard to see either event happening.

Remember, inflation is not uniform. The first beneficiary is the person that prints the money. The second is the person that gets the printed money and it dilutes (slowly) from there.

So, I'm a beneficiary of the stimulus money because I'm getting a new road intersection put in nearby. But before me is the construction company. And before the construction company is the city who I'm sure carved off some administration fees. But after all of us early beneficiaries is everyone else whose dollars are now worth a little bit less at the store. So prices go up. But not uniformly. It happens in fits and starts.

Hyperinflation is when people catch on to what's going on and refuse to hold cash because they can't trust the value it will have in a year, a month, a week, or a day. If you're China you need to have confidence in the dollar for 10 or 20 years or 30 years.

Why would they? We keep printing IOUs. Our nation's books are open. It's no secret what we are doing. The Federal Reserve claims to be buying US Treasuries to keep the interest rates down. What if they didn't? Not only would the rates go up but it is entirely possible that the latest allotment of IOUs would not sell out!

Again, the only fix is to either default on some loans or to drastically cut back government spending. That means canceling the wars; canceling the stimulus; canceling medicare; canceling social security. I don't see that happening. So the debt will be papered over with IOUs held by the Federal Reserve. "Don't worry," they say, "We're good for it ... just not at this time."

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