Guest post by Azizonomics.
UBS’ Larry Hatheway — who once issued some fairly sane advice when he recommended the purchase of tinned goods and small calibre firearms in the case of a Euro collapse — thinks 1000% inflation could be beneficial:
When 1000% inflation can be desirable
In fact, the costs associated with inflation (price change) are less than commonly supposed. There is the famous “sticker price cost” – the cost of constantly changing price labels – but in a world of electronic displays and web based ordering this is not a serious economic cost (in fact, it never was). To take an extreme position, one can make the economic argument that there are only limited costs in having inflation running at 1000% per year, with one caveat. 1000% inflation is perfectly acceptable, as long as the 1000% inflation rate is stable at 1000%, and it is anticipated. Of course, one can argue that high inflation tends to be associated with high inflation volatility and uncertainty (and that is true empirically), but economically it is the volatility and uncertainty that does most of the damage.
The maximum damage from inflation comes if it is unexpected or if it is unpredictable.Unexpected inflation causes damage, because the investor who holds bonds yielding 1% for a decade is going to feel cheated if inflation turns out to be 1000%. Of course, no one would voluntarily buy 1% yielding bonds if 1000% inflation was expected. Thaler’s Law comes into operation here; people dislike losing money more than they like making money. As a result episodes of unexpected inflation will lead to a significant adverse reaction on the part of consumers.
Unpredictable inflation is damaging because it causes uncertainty over an investment time horizon – and that uncertainty is a risk that will demand a compensating premium. What the inflation uncertainty risk does is raise the real cost of capital. If I think inflation will be 3% but I am not sure whether it will be 3%, 0%, or 6%, I am likely to demand compensation for the 3% inflation risk but then additional compensation for the possibility that the inflation risk is as high as 6%. The additional compensation is an addition to the real cost of capital.
With Gold showing relative strength during this week’s risk off, we would like you to remind the real reasons behind buying Gold. Courtesy SK Options.
Gold serves numerous functions as an investment. Traditional reasons for investing in gold include:
- Investment market declines
- Burgeoning national debt
- Currency failure
- War or other extreme events
- Social unrest
Some would argue these entire phenomenon are related. For instance investment market declines can lead to war which can be followed by inflation which can lead to currency failure – just look to Germany in the 1920s for proof of this (albeit in a mixed order of events).
Basically, gold is protection against various ugly or undesirable societal, political, economic and financial occurrences. That reasoning broadly explains gold’s rise from $650 in 2007 to approximately $1800 today. Gold has risen over the last few years on the back of uncertainty and weakness in major global economies.
But of all the reasons given to invest in gold, the most common traditionally and the one we hear most often is protection against inflation. Inflation is often a consequence of increases in the supply of money that don’t coincide with an increase in the output of goods and services – basically, higher prices as a result of excess money competing for a fixed number of goods.
When it comes to sleepless nights, Toimi Soini of Finland originally set the record by using the “toothpicks under the eyelids” method for 11 straight days. In hindsight, Toimi was an amateur. You wouldn’t know it, but the nice people running the Bank of Canada have gone sleepless since 2003 – that’s 3,564 days without sweet dreams. Yet, that’s nothing compared to the very private folks at the Swiss National Bank. These super-secretive bankers have surpassed over 4,660 sleepless nights – despite living in Zzzzzzurich. This, of course brings us to the World record for sleepless nights. At 5,025 nights and counting, the always polite and well dressed chaps over at the Bank of England are reigning champions. Toimi Soini was not a banker and this was his downfall. As for the Canadians, Swiss and British – yes they are all bankers, but not just any bankers. This terrific trio have the displeasure of forever being known as the bankers who sold their gold. The irony of course, is the action of the World’s central bankersthemselves is the reason why gold is destined to remain golden forsometime to come. And with gold sitting near $1700/oz, and with noend to the money printing games, the sleepless nights are destined tocontinue.
Edward Hugh is one of the Economists that truly understands the European situation, especially the Spanish economy and the problems on the Iberian Peninsula. Below is an excerpt from a must read piece via A Fistful of Euros.
Legendary hedge fund supremo Ray Dalio is in ebullient mood. Following a series of moves by Mario Draghi to underpin European government financing Dalio told Bloomberg that, in his opinion, the euro will now “likely” stay together because existing growth-constraining austerity measures will henceforth be balanced by money printing over at the European Central Bank. His statement was, of course, a response to ECB President Draghi’s save the Euro pledge.
This story starts back in July, when Mario Draghi calmly informed a London investors conference that, “Within our mandate, the ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough.” Since that time, of course, this gamechanging statement has been qualified and clarified, and re-qualified and re-clarified innumerable times, but still the essence remains unchanged. The ECB President wasn’t talking, remember, about any specific programme of bond purchases or exceptional liquidity measures, he was talking about doing “whatever it takes”, and Ray Dalio for one is taking him at his word.
What Bridgewater’s founder was getting at when he made this assessment is that there is now no meaningful limit being placed on what the ECB might eventually do. Naturally there is the mandate to work around, but the mandate can always be changed if Europe’s political leaders see fit, and who at this point in the crisis still doubts that if needs must they will see fit.
Guest post via Gold Silver Worlds.
This is the second article in a five part series that is based on a Q&A with Nick Barisheff, CEO of Bullion Management Group Inc. and author of the book “$10,000 Gold: Why Gold’s Inevitable Rise is the Investor’s Safe Haven.” His book will be released later this year but is available now for pre-order on Amazon.com. The main idea behind this article: financial assets and hard assets tend to evolve in opposite directions on a very long term timeframe. Those are simply the dynamics of economic cycles.
Many of today’s investors have only lived through the long term bull market of financial assets, between 1980 and 2000. Those two decades have been characterized by strong growth in bond and equity markets. At the same time, gold & silver prices experienced a slow and steady decline. Nick Barisheff remembers it was remarkable how the Central Banks, Wall Street and the media were exploiting every opportunity to make negative comments about precious metals.
The cycle before that started in 1968. It included US President Nixon putting an end to the Gold standard in 1971 and peaked with the gold and silver mania in 1980. And here we are again; gold and silver have outperformed every other asset class for 12 years in a row. Still, precious metals are almost off the radar in the mainstream media. There is less than 0.5% of the total portfolio invested in bullion and mining stocks globally in institutions, while less than 1% is invested by the general public.
Here is the key point: if you’ve only lived through one cycle, it’s very difficult to change your mind. Clearly most people today aren’t able to see beyond the financial asset bull market; they still tend to ignore today’s spectacular gold bull market. Essentially it requires a major paradigm shift in your way of thinking. It’s at this point where the psychological factors come into play. In his book, Nick Barisheff mentions 3 psychological factors that are preventing people from looking at this with an open mind:
The global financial markets walk on the razors edge of empiricism and what you see is not what you think, and what you think may very well be impossible anyway. The impossible object in art is an illustration that highlights the limitations of human perception and is an appropriate construct for our modern capitalist dystopia. Famous examples include Necker’s Cube, Penrose Triangle, Devil’s Tuning Fork, and the artwork of M.C. Escher. The formal definition is “an optical illusion consisting of a two-dimensional figure which is instantly and subconsciously interpreted as representing a projection of three- dimensional space even when it is not geometrically possible” (1). The fundamental characteristic of the impossible object is uncertainty of perception. Is it feasible for a real waterfall to flow into itself; or for a triangle to complete itself in both directions? The figures are subject to multiple forms of interpretation challenging whether our naïve perception is relevant to understanding the truth. The impossible object is of vast importance to mathematics, art, philosophy and as I will argue… modern pricing of risk.
Modern financial markets are a game of impossible objects. In a world where global central banks manipulate the cost of risk the mechanics of price discovery have disengaged from reality resulting in paradoxical expressions of value that should not exist according to efficient market theory. Fear and safety are now interchangeable in a speculative and high stakes game of perception. The efficient frontier is now contorted to such a degree that traditional empirical views are no longer relevant.
The volatility of an impossible object is your own changing perception.
Guest post by Azizonomics.
This is a post in three sections. First I want to outline my conception of the price level phenomena inflation and deflation. Second, I want to outline my conception of the specific inflationary case of hyperinflation. And third, I want to consider the predictive implications of this.
Inflation & Deflation
What is inflation? There is a vast debate on the matter. Neoclassicists and Keynesians tend to define inflation as a rise in the general level of prices of goods and services in an economy over a period of time.
Prices are reached by voluntary agreement between individuals engaged in exchange. Every transaction is unique, because the circumstance of each transaction is unique. Humans choose to engage in exchange based on the desire to fulfil their own subjective needs and wants. Each individual’s supply of, and demand for goods is different, and continuously changing based on their continuously varying circumstances. This means that the measured phenomena of price level changes are ripples on the pond of human needs and wants. Nonetheless price levels convey extremely significant information — the level at which individuals are prepared to exchange the goods in question. When price levels change, it conveys that the underlying economic fundamentals encoded in human action have changed.
Economists today generally measure inflation in terms of price indices, consisting of the measured price of levels of various goods throughout the economy. Price indices are useful, but as I have demonstrated before they can often leave out important avenues like housing or equities. Any price index that does not take into account prices across the entire economy is not representing the fuller price structure.
Guest post by Market Oracle.
It is barely four weeks since the European arm of the global central bank crime syndicate (ECB) announced its policy of wanting to print unlimited euro’s to monetize bankrupting PIIGS debts that was welcomed by the markets who’s participants would be lining up to offload PIIGS bonds bought at far higher interest rates (lower prices) onto predominantly German tax payers because it is Germany that backs the Euro as a sound currency rather than the Greek or Spanish versions of the Zimbabwean Dollar.
However the promise made by Super Mario Draghi for unlimited Euro-zone PIIGS bond buying programme “One More Try” (OMT) is already unraveling because the fine print of a list of strings attached does not match the promises made and because of the fundamental fact that just like all of the previous bailouts, all it would do at its very best was to buy a little more time for the Euro-zone by kicking the can into the middle of 2013, because it does near nothing to address the problem at the core of the Euro-zone which are the persistently very high and expanding deficits as a percentage of GDP right across the euro-zone that ensures bankruptcy as a consequence of inability to cover government spending let alone service debt interest repayments.
Guest post by Gold Silver Worlds.
John Williams, who is the founder of ShadowStats.com, stated during a recent interview that the US is on track to become victim of hyperinflation the latest in 2014. He believes that “open ended QE” (which is nothing more than monetizing debt) is the key problem. He explains there is an annual deficit of 5 trillion dollar per year in the US, which includes the unfunded liabilities. He declares the situation “beyond containment”. Central planners are responding to the current economic problems by simply increasing the amount of printed money. John Williams his expectations are that we’ll soon see a heavy sell off in the dollar, quickly followed by a significant first spike in inflation. That will ultimately lead to hyperinflation the latest somewhere in 2014. We are just before the kick off of inflation.
We recently mentioned in our article “Money printing and inflation” that in fact inflation IS the expansion of the money supply. Inflation results in price inflation (the phenomenon of rising prices). Usually there is a time period between those two events, which makes it hard for most people to relate them to each other. Inflation and price inflation are often confused in spoken language but it’s mandatory to understand this fundamental difference.
Hyperinflation is a situation that most people can’t imagine they could go through in their lives. Among economic and financial experts and commentators, it’s a subject that triggers a lot of debate. The least you can say is that there is a consensus on when and how hyperinflation hits. If you think about it, it’s very strange as the world has experienced so many periods of (hyper)inflation. Even in the 20thcentury, the number of countries that were hit by severe hyperinflations exceeds what most of us expect (see table below; courtesy of Miles Franklin). Honestly, it’s beyond us that even in the scientific world there is no consensus. The funny result is that most people belong to one of the two camps: either they think that inflation and possibly hyperinflation will hit, either they expect a deflationary situation.
We have been told there is no inflation in Europe, only an imploding economy. Back in the Econ 101 class, we learnt that falling economy with inflation, creates stagflation. With inflation “suddenly” on the rise, let’s see if we need reviewing those Econ 101 books. From Bloomberg.
Euro-area inflation unexpectedly accelerated in September as energy prices rose, even as the single-currency bloc’s economy edged toward a recession. Consumer prices in the 17-nationeuro region increased 2.7 percent from a year earlier after a 2.6 percent gain in August, the European Union’s statistics office in Luxembourg said in a flash estimate today. The median forecast of 40 economists in a Bloomberg News survey was for the rate to fall to 2.4 percent.
Inflation has stayed above the European Central Bank’s target of slightly less than 2 percent for almost two years even as the economy has faltered. Surveys last week showed services and manufacturing output fell to a 39-month low in September. ECB Governing Council member Ewald Nowotny and Executive Board member Benoit Coeure have suggested the Frankfurt-based central bank probably won’t lower interest rates at its next meeting on Oct. 4. (full article here.)