Understanding Hyperinflation

Understanding Hyperinflation

About a year ago, we began to advise those internationalising themselves that the time had arrived at which they might consider divesting themselves of currencies—that holding bank notes may soon become a risky business. Whilst we stressed that the danger of loss of wealth due to the holding of bank notes was not imminent, it is time-consuming to divest oneself of them, and it is better to make a move well in advance of a loss than to make the decision even one day too late.

As the Great Unravelling progresses, there will be a number of risks in holding wealth in bank notes, but three main categories are likely in the coming years:

Loss Due to Confiscation

As predicted, the bail-in in Cyprus was intended as a trial run and will subsequently be implemented on a larger scale. Since that time, other countries have quietly passed legislation to allow bail-ins by banks. The bail-in for the EU is officially slated for implementation in January 2016, but this date could be moved up without notice.

Loss Due to Inflation

Inflation has traditionally been defined as "an increase in the amount of money in circulation." In recent decades, this definition has come to mean "an increase in the costs of goods and services." The latter definition has become common, as it is almost invariably a by-product of the former. Typically, in an economic downturn, wage increases fail to keep up with increases in the cost of commodities, effectively lowering the standard of living for most people.

Loss Due to Hyperinflation

Here's the big one—the economic state that is most feared, yet least understood. Hyperinflation is generally thought to be an extension of inflation, i.e., inflation that has "gone too far." The danger in perceiving hyperinflation in this way is that it suggests that all a government need do is turn off the money tap—diminish the amount of currency pouring into the system—and hyperinflation can be controlled and therefore avoided.

This is not the case. Hyperinflation is not an expansion of inflation; it is a separate condition. The finest description of hyperinflation I have yet encountered was penned by Harry Schulz and published in his HSL newsletter in September of 2010:

Hyperinflation is the loss of faith in the currency. Prices rise in a hyperinflationary environment just like in an inflationary environment, but they rise not because people want more money for their labor or for commodities, but because people are trying to get out of the currency. It's not that they want more money; they want less of the currency: So they will pay anything for goods, which are not the currency.

In understanding Harry's description, it is helpful to recall Weimar Germany, in November 1923, when a loaf of bread was valued at between three billion and twenty billion marks. A story from that time tells of a shopper bringing a wheelbarrow of bank notes to a baker, leaving it outside whilst he negotiated the bread price with the baker. When he went outside, he found he had been robbed—the bank notes had been dumped on the sidewalk and the wheelbarrow had been stolen. This is a fine illustration of Uncle Harry's description of the desire to be rid of currency notes in favour of something more tangible.

At that time in Germany, it became normal for factory workers to be paid their wages twice or more daily. They would then immediately leave work and rush to buy goods from the shops, as, if they waited until the end of the day, their wages would already have had less purchasing power.

All very interesting, but of what importance is the above to us today?

The importance lies in the understanding that, whilst governments may indeed be able to control inflation to some degree, they cannot control hyperinflation. Hyperinflation occurs in the people of a country. It is their reaction to a fear of the government and its depreciating currency. The greater the inflation, the greater the fear, the greater the desire to be rid of the currency, in favour of virtually anything of actual, tangible worth.

Governments always believe that they can control hyperinflation, just as they control inflation.

This is an economic given that has remained true throughout the ages. As governments misunderstand the nature of hyperinflation, they fail to prevent it and then fail to address it in a meaningful way once it sets in.

Should there be a crash in, say, the bond market and/or stock market, the principle governments of the world will most assuredly create inflation in order to avoid deflation. At some point, as the prices of commodities rise dramatically, the citizenries realise that the depreciating currency notes are a growing liability. Once this occurs, it's too late for any government (even a responsible one) to attempt to reverse the condition.

What to Do?

Of course, the very suggestion that those internationalising divest themselves of their currency notes seems an impossibility. One cannot pay for his groceries with a Krugerrand. He cannot buy gasoline at the pump with a handful of dirt from his real estate investment. Therefore, he must have some cash.

For this reason, loss cannot be avoided. It can, however, be minimized. If, for example, an individual's wealth (however large or small) were held primarily in real estate and precious metals outside of his home country, he could additionally maintain, say, three months' expense money in a currency that is usable where he lives. Each month, (assuming the amount were not topped up through income), he could cash in a bit of gold to top it up. By so doing, if hyperinflation were likely to be imminent, he would still protect the great majority of his wealth from loss.

A further stopgap could be investing in a currency that is likely to crash later than others. It is likely that the yen will be in crisis before the euro, which in turn may be in crisis before the US dollar. Each of these is likely to be in trouble before the Norwegian krone. Therefore, holding the krone and periodically converting portions to the currency in use where you live, as needed, would ease the nuisance of cashing in precious metals monthly.

Unquestionably, though, it's a nuisance to ride the fence as described above. It also carries conversion charges along the way. However, it is preferable to sudden (and possibly total) loss.

It is important to bear in mind that hyperinflation generally does not last long. It rises alarmingly quickly, resulting in a crash. It is then replaced by another currency, hopefully a more stable one.

It is wise to assume that, should hyperinflation occur, as it is projected to do, your home currency may well go to zero. What cannot be predicted with any accuracy is when this will occur.

Although it may not seem so, we are now in the "quiet time" before the storm—a time in which to prepare.

Editor’s Note: When you are dealing with a desperate government, it is always better to be proactive than reactive. International diversification is your ultimate insurance policy. You can find specific and actionable guidance from Casey Research on this critically important topic—so that you can take action before it's too late—by clicking here.

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