Mike Shedlock

A pair of articles by Austrian economist professor Antal E. Fekete just might have one wondering who is more in the loony bin, mainstream economists like Krugman or those consistently chanting about the death of the dollar coupled with hyperinflation.

Premature Obituaries

Please consider Premature Obituaries

It is open season for wild monetary prognostications. More premature obituaries on the dollar have been posted on the Internet. For example, see Jim Willie’s The US Dollar Paper Tiger (Gold-Eagle, January 11) with epitaphs like “the U.S. dollar rising to the cemetery”, or “dollar death dance”. Or see another article, Jeff Nielsen’s entitled Maximum Fraud in U.S. Treasurys (Gold-Eagle, January 3). It betrays maximum misunderstanding about keeping the dollar on a life-support system. It assumes that the Fed and the U.S. Treasury are fighting tooth and nail to keep the value of government debt high lest it collapse in want of support from Japan, China, and other countries.

These views hang the picture upside down. In actual fact, the Fed and the U.S. Treasury desperately want to beat down the value of the dollar. The greatest obstacle frustrating their effort is the stubbornly high and still increasing value of U.S. Treasurys. Captains of the world’s monetary system are yanking levers and twisting throttles which are no longer connected to anything. The captains are no longer in control. Yet they continue to wave their batons feverishly and pretend that the orchestra is paying attention. They want Jim Willie, Jeff Nielsen and everyone else to believe that the falling interest-rate structure is the outcome of their deliberate monetary policy. In fact, the Fed and the U.S. Treasury are trying to stop the rate of interest from falling further. They instinctively realize the threat of falling interest rates brings deflation and depression in its train. The dollar is much too strong, contrary to the wishes of policy-makers.

It is not so easy to beat down the value of the dollar as suggested by Keynesian textbooks, even if you have the key to print shop where the presses are running. The dollar’s strength prevails in spite of the withdrawal of Chinese and Japanese support of the U.S. bond market, and in spite of the destructive monetary policies of the American guardians of the dollar.

This observation reveals the prevailing profound misunderstanding about the nature of this financial crisis. To set the matter right, in this article I shall recapitulate the argument that I have been presenting on the Internet for the past ten years. ....

Like Mises, I also object to the use of the word hyperinflation, albeit for a different reason. It suggests that the phenomenon is linear and follows the laws of the Quantity Theory of Money. The more money is printed, the higher do prices go.

However, we are here facing highly non-linear phenomena. Our economy is torn to pieces by runaway vibration. We are victimized by the self-destruction of the monetary system subjected to oscillating money-flows boosted by the resonance of fluctuating interest rates resonating with fluctuating prices.

The vampire of risk free bond speculation

When the central bank intervenes in the market to control the rise of interest rates, it inadvertently makes prices fall; and when it intervenes to stop prices from falling, it inadvertently makes interest rates rise. The upshot is that the central bank intervention, rather than tempering movements, aggravates them.

At the present junction the Fed is buying bonds to combat deflation. Bond speculators know this, will buy the bonds first, driving down interest rates in the process. The result is more deflation, not less.

The Keynes-inspired central bank action is counterproductive. Policy-makers are blind and don’t see this. They stick to their selfdefeating monetary policy. They actually become the quartermaster general of the depression they are trying to avoid. As if cursed by a particular kind of madness, policy makers saddle society with the vampire of risk-free speculation.

The problem cannot be cured because bond speculation cannot be eliminated. It should be clear that as long as the world does not succumb to a military conflagration such as a world war destroying supplies of goods and production facilities, the danger is not inflation as predicted by the Quantity Theory of Money. The danger is deflation due to risk free-profits with which Keynesian economics inadvertently tickles speculators.

The majority of hard-money analysts call for a hyperinflationary collapse of the dollar. Their analysis is faulty. Like a cornered rat, the dollar is capable of putting up a vicious fight for survival. In the words of Mark Twain, all the obituaries on the dollar are premature. The dollar is not a push-over. A yen-yuan coalition (or any other combination of existing or yet to-be-invented fiat currencies) cannot send it into oblivion.


Cheerleaders for fiat money in academic circles, in the media, and in financial journalism will not be able to live down the shame that will be their lot when the world economy collapses. The excruciating economic pain that people will suffer as a consequence will be their responsibility. The break-down in law and order will be their fault. As history and logic conclusively prove, fiat money is not a viable monetary system. It is prone to succumb to the sudden death syndrome. Whether caused by inflation or whether caused by deflation, sudden death is assured.

It should not be beyond the wit of human intelligence to see this coming and fend off the disaster by making a timely return to sound money, based on a monetary unit of a positive value as mandated by the American Constitution.
Essential Agreement

I am in general agreement with Fekete's analysis but would debate one essential point. The central bank does not want banks to "buy commodities to prevent prices from falling" as Fekete suggests, rather the central bank wants banks to lend.

After all, I rather doubt the Fed wants to see oil at $150 or gold at $3000. Instead, the Fed wants banks to lend, businesses to borrow, businesses to hire, and for that cycle to feed on itself.

Three Key Points Regarding the US Economy

  1. The US is a credit-based economy. 
  2. Fractional reserve banking is the enabler for unlimited credit expansion.
  3. In a credit-based economy it is extremely difficult to generate much inflation without an expansion of credit. 

Three Conditions Necessary for Credit Expansion.

  1. Banks must not be capital impaired
  2. Credit-worthy borrowers must want to borrow
  3. Banks must feel (rightly or wrongly) they have credit-worthy borrowers to lend to

Money Multiplier Theory Fatally Flawed

The money multiplier theory to which most if not all hyperinflationists subscribe is horrendously flawed. It assumes just because money is available it will be lent (not only that, but lent 10 times over).

Credit-based fiat-systems just do not work that way ever, and it's especially apparent in a debt-deleveraging cycle.

Businesses do not want to expand and falling interest rates clobber those on fixed incomes. The rational thing for consumers to do is cut debt. The rational thing for banks to do is buy treasuries.

I have been saying this for years to no avail. A recent post Graphical Representations of Bernanke's Effort to Stimulate Bank Lending shows just how hard Bernanke is spinning his wheels.

Bernanke tripled money supply in three years and nearly all of it is parked as excess reserves at the Fed.

I talked about this recently in an interview on Capital Accounts: Mish on Capital Account Live TV: Discussion of Money Supply, Inflation, the Fed, and SOPA

I certainly do not agree with the approach Bernanke is taking, but it is certainly not going to cause hyperinflation. The fact remains that hyperinflation is a political event, not a monetary event.

For a discussion of the politics of hyperinflation and some amusing hyperinflation predictions that have failed already please see Hyperinflation Nonsense in Multiple Places

Mainstream Economists' Monetary Insanity

With that discussion on hyperinflation looniness out of the way, let's turn our attention to Mainstream Economists' Monetary Insanity also by professor Antal E. Fekete.
According to Krugman, in spite of the ‘false alarm’ sounded by the Austrian economists over the debasement of the dollar, inflation is still only 1.5 percent. ‘Who could have predicted that so much money printing would cause so little inflation?’ he asks rethorically. ‘Well, I could, and I did’, he boasts, ‘because I understand Keynesian economics that Mr. Paul reviles.’

In the event, unknown to Krugman, I also predicted the same thing. Unlike Krugman I did more than simply predicting that inflation was not the danger. I warned that Keynesianism would lead to deflation and depression. Money-printing has become counterproductive. Krugman doesn’t understand that it will boomerang. I stated that, unwittingly, Bernanke is the Quartermaster General of the Great Depression II (see: Front-Running the Fed, www.professorfekete.com, February 9, 2010). He doesn’t understand the monstrous mistakes prophet Keynes made concerning the role of speculation in the money-creation magic. The fact is that central bank buying makes speculation risk free in the bond market. In comparison, speculative risks in the commodity market appear forbidding. All the speculator has to do in order to reap risk-free profits is to preempt the Fed. He buys the bonds before the Fed has a chance. Then he turns around and dumps them into the lap of the Fed at a profit. The Fed is helpless: it must buy at the higher price. Keynes completely misrepresented the ability of the central bank to stay in charge, given its compulsive drive to suppress interest rates when confronted with a profit hungry pack of bond speculators.

Friedman’s analysis of the Great Depression couldn't be more wrong. In 1933 deflation was brought about not by the gold standard but, au contraire, by abolishing it. Here is what actually happened. Roosevelt has removed the only competition government bonds have, gold. The most conservative investors saw their gold confiscated and, willy-nilly, they were forced into the next most conservative instrument, Treasury bonds. Speculators became emboldened and bid bond prices sky high for risk free profits. Had gold been still available, bondholders would have severely punished the speculators for their daredevilry. They would have sold the overpriced bond and stayed invested in gold until bond prices came back to earth from outer space. Then they would have bought their bonds back at a profit.

The same thing is happening all over again. When a central bank increases the monetary base three-fold in three years, this is a clear invitation for bond speculators to move in and make a killing. But what the central bank utterly fails to understand is that, contrary to its hopes, new money is not going to the commodity market. Speculative risks there are far too great. Instead, new money is going to the bond market where the fun is. Bond speculation is risk-free. Speculators know which side the bread is buttered. Krugman doesn’t.

Krugman’s joy over the supposed defeat of Austrian economics is premature. Bernanke’s Fed in blissful ignorance is still putting money in the hands of speculators which they use to place bets on the further fall of interest rates and commodity prices. The day of reckoning comes when falling interest rates destroy capital and, together with it, destroy budding job opportunities. The lethargy of businessmen will continue. They will not start hiring as long as the interest-rate structure is in falling mode.

Welcome to the world of Keynes-inspired Great Depression.
I nearly responded to that article by Krugman as well. I too called for record low rates across the entire yield curve and at a time when oil was $140 to boot.

Not every Austrian-minded person (I am not an economist) saw things the way Krugman did.

However, it is sad to say, most did. In 2010 I feared Krugman would take up Robert Murphy's Debate Challenge and that Murphy would make an inflation is coming soon claim and get blown out of the water. The debate never happened.

Recently, Ambrose Evans-Pritchard proclaimed "America Overcomes Debt Crisis". I took Pritchard to task in Debt and Deleveraging: Did the U.S. Overcome the Debt Crisis? Light at the End of the Tunnel Anywhere? Five-Pronged Solution

Click on the link for some interesting charts on the global debt problem. Here is my solution presented in the article.

Five-Pronged Solution

US monetary policy and ECB monetary policy is partially to blame for these crises as Pritchard says. Reckless fiscal policies by governments everywhere is another part of the problem. The five-pronged solution which Pritchard does not mention is ...


  1. Get rid of the central banks
  2. Get rid of fractional reserve lending
  3. Return to a gold standard.
  4. Minimize governments 
  5. Embrace free market policies

Please see Hugo Salinas Price and Michael Pettis on the Trade Imbalance Dilemma; Gold's Honest Discipline Revisited for a discussion of how a gold standard can fix trade imbalances.

That solution prompted "halfacunk" to taunt ... "Remember how you said the money-multiplier is a myth? Well, if it is, then we're not using a fractional-reserve system! Please be consistent."

My reply was ...

FR Lending was the enabler of the debt bubble. It fueled the housing bubble. Lending does not expand because money is available. However, FR allows it to expand without limit when banks want to lend. I am consistent.

Once again I see things from the standpoint of credit and Bernanke's failure to get banks to expand credit. Professor Fekete frames the debate a bit differently, but we both came to the same conclusions on front-running bonds, falling yields, and premature obituaries for the dollar.

Few in the Austrian camp got this right. The monetarists certainly got things flat out wrong. And as far as Krugman and the Keynesians go, all one can say is the day of reckoning will arrive, yet the exact timing and nature of the ensuing credit crisis is unknown.

Lessons Not Learned

One might have thought the Monetarists and Keynesians would have learned something from Japan. Instead, and in spite of debt to the tune of 230% of GDP, they came to the amazing conclusion  "Japan did not do enough".

Two Rules

  1. There is never enough debt to satisfy Keynesians. 
  2. There is never enough fiat currency to satisfy Monetarists.

I confidently predict Japan will have a currency crisis before the US and when it happens I am equally confident Krugman and the Keynesians will make an excuse for it rather than admitting they were dead wrong.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

Mike Shedlock

Mike Shedlock is a registered investment advisor representative for Sitka Pacific Capital Management.
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