Inflation->Deflation->Hyper-inflation->Currency Reset
In managing personal finance, it is important to recognize that disruptive or excessive inflation or deflation is the “high or low tide” that destroys all boats. To successfully sail in such times, correctly reading the tide (macro-economic climate) is much more important than being intimately familiar with the boat (a specific asset class, — such as stocks). We live in such times now, and this article discusses current and impending tides.
The two biggest dis-inflationary forces over the last 40 years, — globalization (now running in reverse) and the N American shale oil boom,— are now absent. Cheap Chinese goods are now rising in price along with rapid energy price rise (much of which caused by misguided zeal in destroying fossil fuel infrastructure before green energy is a reality). Meanwhile, post-Covid fiscal stimulus (aka UBI checks) to the tune of $6T, financed by money printed out of thin air by the Federal Reserve (i.e. MMT replaced QE), has already created significant inflation (too much money chasing after the same quantity of goods). This inflation is now exacerbated by warehouse workers and longshoremen staying home speculating in the make-believe crypto world with their UBI checks rather than returning to work risking Covid, or for lack of vaccination. This causes supply chain disruption, making goods even more scarce with empty retail shelves. Early retirement (why go back to a day job when the stock market is doubling every year and you can make thousands of percent trading cryptocurrencies?) also significantly contributed to Labor shortage. To attract people back to work in the real economy, employers will have to pay substantially higher wages, causing the so called “wage-price inflation spiral” that will certainly escalate in the months and years to come.
Currently, inflation is in double digits, — much higher than government figures, — but reflected in incessantly rising prices of assets like stocks, real estate and crazy cryptocurrency variants (like Dogecoin and Shiba Inu) because “cash is trash”. Investors prefer any other form of asset to cash because cash is losing purchasing power by the day. The consequence of that sentiment is ever-bigger asset bubbles which will eventually burst. They always do.
In the face of inflation, investors realize their long bond (typically 10–30 year Treasuries) holdings are now yielding negative return. They therefore sell, thus driving up long bond rates (higher rates are necessary to attract buyers of now abundant and unwanted bonds). If long bond rates rise but short-term bond rates (the so called Fed Funds Rate controlled by the Federal Reserve) stays the same, banks are increasingly motivated to “borrow short and lend long”. This additional lending will fuel further inflation. Thus, the Federal Reserve is pressured to raise short term rates and “flatten the yield curve” to fight inflation.
Higher rates on both the short and long end are a headwind for businesses because they increase the cost of borrowing and therefore cost of doing business. Over-indebted businesses go under or quickly become vulnerable. Banks tighten credit to protect themselves from defaults. The entire economy contracts, and the stock market typically tanks in response. Since mortgage rates rise with long bond rates, the real estate market turns south as well.
Notwithstanding the stated dual-mandate of “near full employment and controlled inflation”, the Federal Reserve’s demonstrated agenda has been to keep financial markets levitated to benefit the 1%, and give the illusion of the economy doing well. Reality is, financial markets have been decoupled from the physical economy since 2008 under the Federal Reserve’s masterful manipulation. Rising long bond rates will make continued manipulation more challenging. The Federal Reserve cannot print yet more money out of thin air to buy long bonds, — thus driving down the rates, — because that will further elevate inflation. It cannot sell short bonds (2 year or shorter term Treasuries) to buy long bonds either, because the Federal government’s debt level is so high (interest expense alone is now 110% of tax receipts from borrowing money in ever larger quantities since 2008) that ANY interest rate rise will make it impossible for the Federal government to roll-over its debt, risking unthinkable debt default by the United States. Thus, the Federal Reserve is “boxed in” right now. It will most likely do nothing and let commercial banks crank up lending and fuel further inflation.
So here we are, with clear and global inflationary pressure that seems untenable and persistent. Yet, counter-intuitively, there is also a (short term) deflationary “perfect storm” brewing.
Remember the $6T UBI checks? That ends before year-end, akin to stopping (a huge) supply of dope to an addict. The addict will go into severe withdrawal. Meanwhile, on top of killing off its FinTech industry (Ant Group and others) for political reasons, China’s over-indebted real estate market (which accounts for an absurd 30% of its total economy) is now imploding from debt defaults. At the same time, on top of global semiconductor shortage there is a global energy shortage: China is shutting down coal mines (to clean up its air in preparation for the Olympics next year); there is no wind in Germany when 25% of its energy supply is from wind mills; oil containers are stuck in ports just like dry goods containers. This energy shortage forces China to cut back its production and export. Now both supply and demand are dropping globally, — which is deflationary. So against a larger inflationary trend lies an impending deflationary shock.
Deflation spells economic contraction. Marginal companies go under due to insufficient cash flow. An already overpriced stock market will appear even more so (teetering companies nowhere justify their “bubbly” stock prices). In deflation, “cash is king” because other asset prices will have to come down in the face of diminished demand. Pundits predict a stock and real estate market crash in the first half of 2022. Why then? Because Jay Powell (Chairman of the Federal Reserve) will keep financial markets levitated until his re-election in Feb, 2022. Then he will manage the bursting of the asset bubbles he and his predecessors created since 2008. (The blowing and bursting of financial bubbles are no less planned events than the erection and demolition of skyscrapers.)
Disruptive or excessive inflation or deflation are symptoms of an unstable economy that is out of sync with its financial markets, —resulting from money supply greatly exceeding goods produced over a long period. That instability ultimately results in collapse and structural rebuild of the monetary system to redistribute wealth. This long cycle takes roughly 80 years and has repeated several times over modern history. The current cycle started 76 years ago with the post-WW2 Bretton Woods system in 1945. Its first currency crisis came in 1971 during Nixon’s administration. The policy response was abandonment of the gold standard followed by globalization, de-industrialization and financialization. That policy encouraged unbridled money printing, both to “stimulate growth” (of the financial markets but not the real economy) and thwart financial bubble bursts (by blowing bigger bubbles). It took 50 years for the vulnerability of that policy to be exposed in the form of both inflation and deflation, —the catalyst being Covid-induced global supply chain disruption. This combination, against the backdrop of untenable debt at all levels — government, enterprise, and personal, — renders the Federal Reserve out of “road” to keep “kicking the can down the road”. The 80-year long cycle is up, and a currency “regime change” is now necessary to “reset” the world order. What the Federal Reserve will be “managing” next will be the planned demolition of the US Dollar through hyperinflation from hyper-print (in the name of rescuing the financial markets and the physical economy from deflationary bust). A lot of misery will be felt in this final chapter of the current “4th Turning”. But gold and silver prices will skyrocket!
The long-proposed Central Bank Digital Currencies will then be launched to inaugurate the “1st Turning” of the next long cycle. Here in the US, it may be called the Fed Coin, maybe something else. In any case, that’s when Bitcoin likely goes to zero, — virtually overnight. (Bitcoin’s intended purpose, if realized, is to put the Central Banks out of business. Do you think the all-powerful Central Banks will sit idly by and just let that happen?)
But new currencies are only part of a new global financial order, necessitated by the current order corrupted beyond repair. The transition of financial orders will be the final act of the current 4th Turning. And sadly, one of its features will be unthinkable collateral damage.
