One sentiment I see on social media and in opinion/news is that hyperinflation is an outlandish scenario, it’s not a concern, the likelihood is very low, etc.
I think that’s dead wrong.
In a previous email, I mentioned that war is the most common trigger of hyperinflation.
Foreign bombardment and civil wars are destructive to economies and erode the tax base, forcing governments to expand the money supply, which in numerous cases has resulted in hyperinflation. (I got into more detail on why/how in the previous email.)
A high end conventional war with China or a disruptive domestic conflict/national emergency is not unrealistic over the next several years. It’s also not unrealistic to image a scenario where cyber and physical attacks cripple critical infrastructure, the financial sector, and other strategic or symbolic targets.
So if the effects of war are the most common trigger of hyperinflation, the U.S. is facing the potential for two highly destructive conflicts this decade, and we’re already seeing the erosion of global dollar dominance, I ask: why is hyperinflation such an “outlandish” scenario.
The answer is that it’s NOT an outlandish scenario.
It’s important to reiterate that a hyperinflationary event is not merely extreme inflation, but a loss of faith in the dollar.
In last week’s Economic Early Warning, which is available to Forward Observer subscribers, I outlined six scenarios that could trigger hyperinflation in the United States.
I want to share them with you today. If you want access to our weekly Economic Early Warning reports, subscribe here.
Here are the six scenarios, along with an abbreviated analysis:
- The Fed’s 10×10 scenario gone awry. While high inflation is politically unpalatable, the Fed may pursue something like a 10% annualized rate of inflation over 10 years so the US Government can reduce its debt to sustainable levels. Fed chairman Jerome Powell last week called the US national debt situation “unsustainable,” adding that “it is best to address it soon.” Although Fed officials maintain that this option is not being considered, in this scenario, the US Treasury would be able to pay down debt faster with inflated dollars. The risk here is that the Fed loses control of inflation, causing a catastrophic loss of confidence in the dollar as a safe haven asset, which could accelerate into a hyperinflationary scenario.
- A domestic conflict. A high intensity civil war that brings economic devastation would likely shake the world’s confidence in the US Dollar as a safe haven asset, which could lead to foreign investors and central banks dumping the dollar in favor of a more stable currency. Even a low intensity conflict, such as an American version of the Irish Troubles, would likely bring attacks against strategic and symbolic targets, and a protracted conflict would likely diminish foreign investment and use of the dollar. Hyperinflation could occur if a global sell-off of the dollar accelerates, causing bank runs and sensitivity to holding money (i.e., spending it quickly), which is highly inflationary.
- An American Suez Crisis. In 1956, Egypt nationalized the Suez Canal. In response, Britain, France, and Israel launched an invasion to take it back by force, but the operation was short-lived. US President Dwight Eisenhower threatened to sell US reserves of the Great British Pound, which forced the British to cease military operations after 10 days. The event was so humiliating for Britain that it caused a monetary and financial crisis, forcing the British to accept financial support from the International Monetary Fund. It also officially ended Great Britain’s reign as a world power. An American Suez Crisis could occur over Taiwan if the US lost face against China. If the US backed down, then the world would lose faith in the US as a protectorate, and we’d see a run on the dollar and U.S. Treasuries, similar to Great Britain’s 1956 financial and monetary crisis.
- Economic destruction from war with China. First, in a conventional war, Chinese imports stop. Second, in a high intensity conflict, we should absolutely expect a degraded information and communication environment. This could mean severe disruption to the internet, satellite communications, global positioning satellites (GPS), and cellular communication. Third, in a high end conflict, we’re likely to face severe domestic disruption from Chinese attacks. In December 2020, the US Army warned of the use of hybrid war tactics from peer competitors like China. This would include cyber attacks, the fomenting of civil unrest and riots by foreign information operations, the use of transnational criminal organizations, and other conventional or unconventional means, according to the document. The 2018 National Security Strategy infamously warned that “the homeland is no longer a sanctuary” due to the ability of peer and near-peer competitors to attack the United States. Even a pyrrhic victory against China would be economically and financially devastating, which could lead to hyperinflation.
- Forced sale of foreign-owned property. One reason for high property prices is foreign investment. According to the US Department of Agriculture, foreign ownership of American farmland doubled over the past 10 years. Foreign investors own around 3% of agricultural land, or an area roughly the size of Iowa. Could we see the forced sale of foreign-owned land and critical infrastructure due to national security concerns? In a conflict with China, for instance, the forced sale or expropriation of Chinese-owned property could scare off other foreign investment and cause foreign central banks to dump U.S. investments and the dollar, risking hyperinflation.
- The financial “nuclear” option. As Bridgewater’s Ray Dalio has described, the US and China are locked in a capital war, where the two countries are attempting to deplete the other of foreign investment. These are “gray zone” tactics intended to cause harm but remain well below the risk of conventional conflict. China does not want a high intensity conflict with the United States and its global allies, so the exploitation of the gray zone remains its preferred course of action. If a financial “nuclear” option becomes necessary, the United States could threaten to cancel its own Chinese-held debt in lieu of war reparations or to punish China, below the threshold of conventional war, over a military campaign against Taiwan. Similarly, China retains the option to threaten or actually dump US Treasuries, which would not only tank US markets but likely cause a global economic, financial and monetary crisis. Both options would cause catastrophic effects for each country, making this a less likely, but not impossible, course of action.
I don’t believe hyperinflation is an imminent threat or a foregone conclusion. One observation from the Obama era is that Americans who tend to catastrophize the news also tend to overestimate threats and underestimate the strength of the US, the value of the country’s natural resources, and the ability of the Fed and US Government to change the rules as they go along to ensure some level of stability.
Pundits like Gerald Celente and Jim Rickards, Jim Rogers and David Stockman, among others, have created so much fear and at points warned their readers and listeners to dump stocks and move to hard assets due to a Greater Depression, hyperinflation, or some other imminent calamity. They’ve been doing this for over 10 years and in hindsight, that’s been horrible advice as the Fed has continued to pump up equity prices while silver and gold have underperformed the S&P over the same time period. Even being in cash has been a horrendous return on investment.
But the Fed won’t always be able to change the rules as they go along.
My belief is firm that we will at some point experience an economic, financial, and monetary catastrophe. But the national debt could conceivably expand to $40-50 trillion without triggering hyperinflation. In context, Celente and others were warning of imminent hyperinflation back when we eclipsed $10 trillion in national debt, which has nearly tripled since his warnings. I look at Japan, for instance, which has run sub-1% interest rates for the past 20 years and has a debt-to-GDP ratio of 257%, and yet has not experienced hyperinflation there. There are many differences between the US and Japan, but national debt for a superpower doesn’t alone lead to hyperinflation.
There may be black swans or other events not included in my list, but these are the six plausible scenarios that concern me regarding hyperinflation.
This is something you should be thinking about.
Until next time, be well.
Always Out Front,
Mike Shelby