Chapter 64 - Hyperinflation

Hyperinflation is the collapse of a money system by inflation. It is the breakdown through mismanagement of one of the essential items required to operate as a civilisation. Nothing collapses civilisation as quickly as the destruction of a money system. Hyperinflation is one method of turning civilisation to barbarism either by accident, through ignorance or purposely. The term, hyperinflation, implies a very high rate of inflation. It may start at 25% inflation per annum and gradually move through to 25 000%. We are talking about a situation where the price of food can double in a few days, where a wheelbarrow of money is required to buy a loaf of bread.

Descriptions of Hyperinflation

Before getting technical, let us first look at typical definitions and descriptions of hyperinflation:

Hyperinflation is occurring when there is excessively high and accelerating rate of inflation. The most notable characteristic is that the prices in the shops for basic foodstuffs are rising on a daily basis.

Prices rise so rapidly that people spend any money they receive as soon as they receive it. Depending on which way you look at it, the money is either losing value rapidly or the food prices are increasing rapidly.

A high level of misery and hunger occurs.

Many people lose their entire savings.

Some consider that hyperinflation has occurred when there is a price level increase of 50% each month, however, any exceedingly high rate of inflation is effectively hyperinflation.

Hyperinflation is generally associated with the government printing money very quickly.

In Hungary after WW2, the prices were rising 18% each day.

The people lose confidence in the currency and spend it as quickly as possible. Typical stories are of dramatic price rises daily and a typical picture will show a wheelbarrow full of notes being used to buy a loaf of bread. These are periods of out of control inflation. Times where the prices for basic necessities can double in one day. As the government prints more money, the numbers of zeros on the notes increases.

Hyperinflation is notoriously difficult to stop.

Hyperinflation is one of the worst catastrophes that can occur to a nation.

The purchasing power of the currency rapidly erodes and the population minimises their holdings of the currency. [641]

It destabilises societies and destroys output. It makes countries prone to take over.

It destroys business and financial investment.

Although it is called a financial crisis, it is really a human crisis.

There have been 56 cases of hyperinflation with more than 50% per month inflation (12,970% per year).

Hyperinflation is usually described as very high inflation but in real mans language, it tends to mean an inflation of prices and in final stages, a selective inflation of the food prices.

Hyperinflation is often associated with wars, their aftermath, political upheavals, or other crises that increase government expenditure whilst making it difficult for the government to collect tax.

Hyperinflation is occurring where a country experiences an unusually high, accelerating, and sometimes, an unstoppable rate of inflation.

One of the essentials to operate a civilisation is a money system. When the money system fails, civilisation breaks down and civil order disappears. All the worst human traits reveal themselves as a survival of the fittest. As civilisation has allowed us to live in cities whilst food is transported from the countryside, we have left ourselves prone to starvation in the event of a breakdown of the money system. We now live so far from the 'land that feeds us' and the 'food growing skills of the city folk' has all but disappeared, a food transport crisis is the worst crisis that could befall mankind. A serious study of financial collapse and hyperinflation is many centuries overdue.

Hyperinflation is often described as 'the government printing too much money'. This description misleads a sensible study of hyperinflation and tends to deflect blame towards the victim. Hyperinflation certainly is caused by 'the government printing too much money'. The government is as much a victim of a badly contrived money system as are the citizens. Many are those that state that: "The central bank should be kept free from political interference." That being so, the government has little control over the factors that cause inflation. It is the banks and their lending practices that determine the money supply. Some influence is available to the central bank by adjusting the interest rate and dabbling in bond purchases. The central bank has no direct control over how many loans are made into society and little control over the rate of collection of repayments other than adjusting the interest rate and purchasing a few government bonds. Adjusting the interest rate can have other unrelated consequences including a detrimental international flow of money. Adjusting the interest rate to control the money supply might be considered making adjustments to give the illusion of control, where little control exists and doing extreme damage in the process. Purchasing bonds may increase the money supply but it does not ensure the money gets into the Circulating Money. One thing is sure, the central banks do not manage to control the economy and neither does the government. There is a completely erroneous concept that the economy can be adjusted by manipulating the money supply. And if the central bank does manage to adjust the money supply without doing other damage, it is still not certain that the fresh bank-credit will find its way into the Circulating Money.

Food Hyperinflation

There are many stages to hyperinflation. In the most hurtful and notorious stage is a late stage in the process where food hyper-inflates. This stage is a period of panic spending due to rapidly rising food prices. Many other items fall in price. Hyperinflation is described thus because this is the characteristic that the citizens experience. In reality, hyperinflation is a collapse of a national money and taxation system. The characteristic that the citizens describe is the violent and constant increase in the price of food and basics and the need to spend money rapidly before further price hikes. A shortage of food tends to exacerbate the food hyperinflation, as does hoarding. There is a massive increase in the velocity of money, which will cause an equally massive inflation of the food price. An increase in velocity is equally effective in causing inflation as is an increase in the magnitude of the money supply. This rapidly rising food price is a selective price inflation rather than a general price inflation.

Velocity

In normal times, a unit of money is lucky to complete two transactions in a year. This is described as a velocity of two. During the latter stages of hyperinflation, money may manage quite a few transactions in a day. This suggests a velocity in excess of 365. A reduction in the supply and velocity of currency is needed. However, most tax is collected annually through bank accounts, and the banks have likely long since closed their doors. The only money in circulation is currency notes and coins, and there is no existing mechanism to tax currency notes out of society. Taxation is paid from citizen's bank accounts into government bank accounts. At this late stage in hyperinflation, currency is still operating as money in that it is still enabling transactions, but it is a poor store of value and is acting poorly as a measure of value. This is one of our important items in a rescue.

When banks close their doors, a method of taxing cash currency must be instituted.

Hoarded Money

During hyperinflation, there is a general fall in trust in money and Bank Credit is turned to cash and people overstock on food and essentials. There is also a fall in trust in money to act as a store of value. Money that has been hoarded by those with 'more-money-than-they-can-spend', suddenly gets moved into the circulating section of the money supply. In reality, money never was a store of value, because any movement of money from Hoarded Money to Circulating Money dilutes the pool of Circulating Money. Hoarded Money only represents a store of value if it is converted to Circulating Money at the same time as someone else does the reverse. This is a major flaw in the definition of money.

There is a lot of money that gets put in bank accounts which sits idle for years. It is represented by the sum of all the minimum annual balances. For the calculations, I choose an arbitrary time of one month being the cut-off between Circulating Money and Hoarded Money. If money is held for more than one month, I have classified it as Hoarded Money:

Hoarded money where velocity = 2. I make the assumption that any money held for more than one month is not being circulated.

[I make the assumption that any money held for more than one month is not being circulated.]

My calculations demonstrate that Hoarded Money can be eighty or ninety percent of the credit held in bank accounts. If the financial situation in a country gets scary, this Hoarded Money may come out of hibernation to be spent into the circulating component of the money supply. The Hoarded Money suddenly gets spent, causing a rapid rise in the velocity of money. A rapid rise in velocity is equivalent to an avalanche of money entering the productive economy causing rapid price inflation. Hoarded Money is a hyperinflation waiting to happen. We just need the right conditions to trigger the avalanche.

Hoarded money and its action in hyperinflation

Tax Collection

The onset of hyperinflation always has something to do with an inability to collect sufficient tax. A decrease in tax collection, whilst maintaining government spending, can be the beginning of hyperinflation.

Tax during the German Hyperinflation

Peter Bernholz did a study of 29 cases of hyperinflation. He found that the best predictor of hyperinflation is government debt over 80% of GNP and the deficit over 40% of government spending. Deficit means that tax collection is less than 60% of government spending. This equates to government expense being 66% greater than tax collected. [644]

Comments About Tax Collection

"...hyperinflation is often associated with wars, their aftermath, socio-political upheavals, or other crises that make it difficult for the government to tax the population. A sharp decrease in real tax revenue coupled with a strong need to maintain the status quo, ..." [648]

"At the height of the inflation, prices were rising at the rate of 150,000% per day. By then, the government had stopped collecting taxes altogether." [640]

"All we need for hyperinflation is for the government to be unable to raise the tax revenue it needs."

"... led to widespread informal activity, making it more difficult to collect taxes.

"Contrary to popular opinion, excessively high deficit spending and exorbitant government debt levels are not the primary cause of a hyperinflation. In most cases they have been the result of other exogenous events such as ceding of monetary sovereignty, war, rampant corruption, regime change or collapse in output. It is these exogenous events that result in the public's rejection of the currency, a collapse in the tax system and the government response of printing more money to fill in the revenue gap. Ultimately the revenue gap cannot be filled and the currency is fully rejected by the public in the form of hyperinflation." [649]

Although the government has the authority to create money, it borrows money from wealthy citizens and banks. The government creates cash currency which comprises less than 5% of the money supply, which gets distributed through the bank system. It pays none of its bills with cash currency and does not collect cash from citizens as tax. The government uses the bank credit system. The consequence of the government not creating fresh money on an 'as needs' basis is that it is restricted to taxation, borrowing and selling public assets to obtain the bank-credit to operate. Taxation is no longer a method of reducing the money supply. The government taxes and spends and the money supply remains the same. Where the government collects insufficient taxation to cover its expenditure, the government borrows bank-credit or sells public assets. Where the borrowing is mild, the debt is readily taken up. Where the borrowing is wild, the borrowing is extreme. So we need to look at how governments borrow. Logic will show us that it is not the magnitude of the debt that causes the problem. Nor is it the magnitude of the deficit that causes the problem. It is the way the bank-credit is borrowed that contributes or triggers the hyperinflation.

Government Borrowing

The government borrows by selling bonds. It borrows because it does not use its own cash currency. What then does it borrow? No truckloads of cash currency are transported when the government borrows. The balance in government bank accounts at private banks increases by one billion when it issues a bond for one billion. The government prints a bond on a sheet of special paper and exchanges it for a deposit of one billion of bank-credit into its account at a bank. It can then spend this money.

If a citizen purchases the bond, the bank-credit used in the purchase was pre-existing. It comes from the green portion of my graphs. It comes from the existing money supply. There is no change in the money supply. (It may have come from the hoarded section of the money supply and the government spending causes it to become Circulating Money.)

If the central bank purchases the bond, fresh bank-credit will be created for the purpose. This causes a rise in the money supply and the fresh bank-credit becomes Circulating Money. This central bank purchase is unfortunately highly inflationary.

Central bank purchase of bonds to cover for excessive government deficits is a trigger for hyperinflation.

It also follows that any large rapid central bank purchase of bonds is a potential trigger for hyperinflation. It depends on how much of this goes into Circulating Money or Hoarded Money.

When inflation gets high, the citizens are reluctant to purchase bonds as their return is less than the prevailing inflation rate. Assets that are inflating are a better store of value than government bonds. So we get another problem. The citizens try to sell bonds causing a fall in their value which is described as a 'collapse of the bond market'. Yet again the central bank purchases bonds to maintain their value and in so doing magnifies the money supply. Thus, the common statement that hyperinflation is associated with a 'collapse of the bond market'. The modern money system is riddled with design flaws that make it prone to collapse. To make the situation worse, there is no backup system. In Zimbabwe, the citizens were using US Dollars cash as a supplementary money system in what can be described as a flourishing black market. When hyperinflation hit, they had a second money system to keep the local economy going until the national money and tax system was repaired. We don't have the luxury of a supplementary money system. Describing the flaw as 'collapse of the bond market' yet again deflects the blame for hyperinflation. Running a money system where money is borrowed into existence is failure prone at best. Having the government borrow money to fund its activities adds to the instability.

The Tax System

The Bernholz study indicates that a 'deficit over 40%' was a strong indicator of hyperinflation. How then are tax collection and government expenditure related? The largest portion of our tax is collected from the Circulating Money section of the money supply as taxes on transactions and profit from transaction activity. In a business slowdown situation, the tax collection falls in sympathy. Government expenditure is prone to rise as support and control expenses increase. The tax system magnifies the problem:

In the graph, you can see the issue in about 2009. A decrease in revenue is unhelpfully paired to a rise in expenditure. The tax system takes almost all its tax from transaction or transaction related activities.

USA Tax Revenue 2014

Better Use of The Tax System

The tax system is not used correctly. It needs to reduce the volume of Hoarded Money. Hoarded Money is incorrectly believed to be a store of value. This component of the definition of money is incorrect. Any significant movement of Hoarded Money devalues all money. Hoarded Money only has value on conversion if similar quantities of money or credit move in the opposite direction. The Hoarded Money is a potential money avalanche in a high inflation situation. The tax system also needs to be made more resilient to financial issues. Relying on tax from transactions not only damages the economy by removing Circulating Money its revenue harvesting is dependent on the very business activity on which it relies. It is as a parasitic host, killing the activity on which it relies. It is far better to collect tax on that which is provided by nature. Land tax is the best area to apply tax along with a tiny 0.1% tax on all transactions coupled with a hoarding tax of 1% per month on money holdings.

Bonds

Bonds are the way that foolish governments get into debt. The government prints a bond at the cost of some ink and paper which they exchange for bank-credit. Then they offer to repay the bank-credit to the holder at a date in the future and pay interest (in bank-credit) on the way. It is a usury bind, from which they are unlikely to escape. The World Debt Clock lists the sum of all national debts as $59,693 billion, which is some indication of the inability of governments to escape the debt bind. [http://www.nationaldebtclocks.org] A quick web search will reveal the fact that almost no government avoids this debt bind. Governments go into debt for bank-credit even though they have the authority to create their own money. The bulk of this debt is created by issuing bonds to whoever will lend money to the government. The bond is a promise to repay at a date in the future with interest. We can live with this debt, but we can't live with a collapsed money system.

US Treasury Bond

Some Comments About Hyperinflation:

Hyperinflation tends to occur with Fiat currencies but not with gold and/or silver backed currencies.

The currency circulates very rapidly.

As hyperinflation takes hold, the government starts to print massive quantities of cash currency.

Sellers of physical assets are reluctant to sell for cash.

Often, the printing presses do not cope with the volume of cash required, even when they run round the clock. The printing presses sometimes overheat and breakdown.

The middle class tends to be destroyed.

A currency, during hyperinflation, is a poor 'store of value', however, it is still acting as a medium of exchange. The serious problem arrives when the rate of increase is such that the transaction cannot be carried out without significant inflation during the transaction.

The government has trouble selling bonds in exchange for Bank Credit. Although this is portrayed as a lack of trust in the government, it is a lack of trust in the banks and its Bank Credit. Bonds are a promise to pay a greater amount of Bank Credit in the future, than the face value of the bond. Governments sell bonds so they can obtain Bank Credit to use the bank's payment system rather than dealing in the rather cumbersome and tedious government created cash. The well off want tangible assets.

Assets tend to move towards the very wealthy.

Hyperinflation is effectively a collapse of the banking system. It is government cash that continues to operate. It is the inability to tax cash that then causes an escalation of the hyperinflation. A run on the banks demonstrates a lack of trust in the banks and a desire to convert virtual Bank Credit to trusted government issued cash currency.

Not all items inflate in price. Many items decrease in value. Food tends to hyper-inflate. Hyperinflation is selective inflation of food. To describe hyperinflation as a high rate of inflation is not entirely appropriate. To use inflation figures to predict the onset of hyperinflation may be a bit late. Somewhat like waiting for a king wave to hit you.

Printing money does not cause hyperinflation. Hyperinflation causes the government to print money. The government neglects to collect tax on the cash it issues.

Previously well-to-do people can be seen slinking around like beggars.

It can be used as a financial weapon to destabilise a nation and its governing system in preparation for a takeover. Examples cited include German hyperinflation and the rise to power of the Nazis in the early-1930s, the China takeover by Mao Zedong and the French revolution.

It can also be used as a financial weapon to punish a government unpopular with the creditor class.

A country experiences a big move into petty thievery.

People who had worked a lifetime, find that their pensions will not buy a cup of coffee.

The expression "not worth a Continental" refers to the US 'Continental' notes that hyper-inflated to become worthless.

In 1938, the Greeks held a drachma note for an average of 40 days before spending it, but by 10 November 1944, the average holding time shrunk to 4 hours. [647] Velocity changed from about 9 to about 2000 transactions per annum. (To correct this, would require a reduction of the currency by more than 99%!)

At the start of all hyperinflations, bond values crash.

People with fixed interest loans tend to win. Creditors lose.

Hyperinflation leads to lawlessness and civil unrest.

The mechanisms of hyperinflation are not well understood.

Hyperinflation tends not to occur with commodity backed money. Commodity back money is money backed by a precious metal such as silver or gold.

A sharp decrease in tax revenue whilst maintaining government spending can be a direct trigger of hyperinflation.

Hyperinflation can create conditions where extremists can raise a mob against the government and effect a takeover of the political system. This may be purposefully engineered or as a consequence of the calamity

There is no clear cut off point where inflation turns to hyperinflation. Vincent Kate suggests that an inflation rate of 26% is the point where money fails as a store of value, but still acts as a medium of exchange. [643]

Peter Bernholz did a study of 29 cases of hyperinflation. He found that the best predictor of hyperinflation is government debt over 80% of GNP and the deficit over 40% of government spending. Deficit means that tax collection is less than 60% of government spending. This equates to government expense being 66% greater than tax collected. [644]

The government takes the rap even though the central bank claims that it is 'independent of political interference'. The central bank is responsible for controlling inflation and the bank system. Citizens remove their money from banks in favour of government issued cash. Thus, a major part of the blame is on the banking system.

Typical Hyperinflation Stories

As soon as the factory gates opened and the workers streamed out, pay packets ... in their hands, a kind of relay race began: the wives grabbed the money, rushed to the nearest shops, and bought food before prices went up again. Salaries always lagged behind, the employees on monthly pay were worse off than workers on weekly. People living on fixed incomes sank into deeper and deeper poverty. A familiar sight in the streets were handcarts and laundry baskets full of paper money, being pushed or carried to or from the banks.

[Egon Larsen, a German journalist, remembering in 1976]

At eleven in the morning a siren sounded. Everybody gathered in the factory yard where a five-ton lorry was drawn up, loaded with paper money. The chief cashier and his assistants climbed up on top. They read out names and just threw out bundles of notes. As soon as you caught one you made a dash for the nearest shop and bought anything that was going.... You very often bought things you did not need. With those things you could start to barter. You went round and exchanged a pair of shoes for a shirt, or a pair of socks for a sack of potatoes; some cutlery or crockery, for instance, for tea or coffee or butter. And this process was repeated until you eventually ended up with the thing you actually wanted.

[Willy Derkow, who was a student at the time, remembering in 1975.]

It was horrible. Horrible! Like lightning it struck. No one was prepared. You cannot imagine the rapidity with which the whole thing happened. The shelves in the grocery stores were empty. You could buy nothing with your paper money.

[Friedrich Kessler as quoted in a book by Ralph Foster]

"When Money Dies" Adam Fergusson

In this book, Fergusson describes the psychology of hyperinflation.

To ascribe the despair entirely to inflation would be misleading. Undoubtedly, though, inflation aggravated every evil, ruined every chance of national revival or individual success, and produced the conditions in which extremists could raise the mob against the state. It undermined national resolution when simple want might have bolstered it.

Money is no more than a medium of exchange. Only when it has a value acknowledged by more than one person can it be used. Once no one acknowledged it, the Germans learnt, their paper had no value. The discovery that shattered their society was that the traditional repository of purchasing power had disappeared and that there was no means left of measuring the worth of anything.

When life is secure, society acknowledges the value of luxuries, those enjoyments without which life can proceed but which make it much pleasanter. When life is insecure, values change. Without warmth, a roof, or adequate clothes, it may be difficult to sustain life for more than a few weeks. Without food, life can be shorter still. At the top of the scale, the most valuable commodities are water and air. For the destitute in Germany, whose money had no exchange value, existence came very near these metaphysical conceptions. It had been so in the war. In All Quiet on the Western Front, Müller died 'and bequeathed me his boots - the same that he once inherited from Kemmerick. I wear them, for they fit me quite well. After me, Tjaden will get them: I have promised them to him.' [Fergusson, A. (2009), When Money Dies - Nightmare of the Weimar Collapse]

Art Cashin On The Most Important History Lesson Of The Last Century

In 1920, a loaf of bread soared to $1.20, and then in 1921 it hit $1.35. By the middle of 1922 it was $3.50. At the start of 1923 it rocketed to $700 a loaf. Five months later a loaf went for $1200. By September it was $2 million. A month later it was $670 million (wide spread rioting broke out). The next month it hit $3 billion. By mid month it was $100 billion. Then it all collapsed.

...In 1913, the total currency of Germany was a grand total of 6 billion marks. In November of 1923 that loaf of bread we just talked about cost 428 billion marks. [www.zerohedge.com/news/art-cashin-most-important-history-lesson-last-century]

Your Role

Knowledge on the mechanisms of hyperinflation is scant and incomplete. Your interest could help prevent the next hyperinflation. None of the information that I can read gives me faith that anyone knows how to prevent hyperinflation nor how to cure hyperinflation, once it has started. Because hyperinflation involves the collapse of monetary systems, food supply systems and returns us to habits used in our hunter-gatherer past, it is somewhat important you know more about it.

Alastair McIntosh 2009

This loss of resilience is what distinguishes the current situation from the bank crashes of the 1920s. Back then, society and especially its food production was less industrialised. People lived closer to the land. Most essential services such as food production were local production for local consumption. But today, essential chains of supply are long, often global, and therefore subject to international market and financial vagaries. A glimpse of the consequences of such dependency can be seen from what happened in Britain in September 2000 when fuel tanker drivers went on strike. Within five days, panic buying emptied some supermarket shelves and the media carried sporadic reports of fighting at the checkouts. The Blair government, fearing civil unrest, capitulated. Applied to the situation in 2008, we might ask much more unrest might have broken out if bank failure had resulted in the sudden loss of financial lubrication with its consequent immediate knock-on effects? [645]

Hyperinflation is usually associated with a collapse of the bond market. A collapse of the bond market is usually indicated when the central bank starts buying up bonds, although this may not be the only reason that the central bank might buy bonds. When the central bank buys bonds, it uses freshly created bank-credit to do so, and thus injects significant new bank-credit into the money supply. Whether this money finishes up as Hoarded Money or Circulating Money is something to ponder. Bonds are quite likely to be purchased from institutional sellers who may put the money into bank accounts and let it sit. It is likely to trigger hyperinflation in this situation.

When banks close their doors, Bank Credit and currency are no longer interchangeable. Bank Credit and currency are two completely separate money systems working in parallel. It is the cash currency system that continues to work. It must be remembered that the government has the authority to create money. Government does not operate on cash currency, is uses bank accounts loaded with Bank Credit. It is why governments have debts to banks and bondholders. Governments have to obtain credits in their bank accounts by getting into debt to banks or citizens. Governments also tax using bank accounts and taxation is remitted by transfer of Bank Credit to government bank account. No one that I know, pays their tax by taking a bucket of cash to the tax office. When banks close their doors, there is no way to reduce the cash currency in society.

Some care is needed here because some define hyperinflation as very high levels of calculated inflation and some define hyperinflation as the process where food prices spiral upwards and go out of control. They occur at different stages of hyperinflation. The first one occurs before banks close their doors, whereas the food price spiral occurs when the citizens use cash only. Perhaps I shall call them Inflation Hyperinflation and Food Hyperinflation.

Inflation Hyperinflation

Here we are talking about a society operating successfully except for a high inflation rate. This high rate might be somewhere in excess of 26% per annum. When inflation reaches 26%, there is little incentive to keep money in the bank because its purchasing power erodes quickly. This will encourage persons to use assets as a store of value rather than money in bank accounts or government bonds paying interest. Government bonds would become quite unattractive as an investment, which leads to a collapse of the bond market. Under such circumstances, the central bank might purposely purchase bonds on the open market to maintain their value. This has the very strange effect of increasing the money supply. When the central bank purchases bonds it does so with freshly created bank-credit. It literally creates bank-credit out of thin air.

Vincent Kate suggests that an inflation rate of 26% is the point where money fails as a store of value. I shall use the same figure for convenience. The articles by Vincent Kate are well worth reading.

The Complexity of Bonds

The government spends money into society and taxes money out of society. Any difference is called the deficit. A minor deficit is natural and normal particularly where it represents an asset building program. It corresponds to days of old when monarchs created the coin of the realm and spent into society one bridges and roads and taxed the same coin back out of society to prevent oversupply. It is the spending of money that gives money its magical power. Governments are no longer using their own coin of the realm, like citizens, they borrow from banks or their own citizens. If they borrow a billion from a bank, the bank writes one billion with a plus sign in one account and one billion in another account with a minus sign against it. So the money supply of the nation increases by one billion and the debt of the nation increases by one billion. The key point here is that the money supply increases by one billion. The tend not to do this. To obtain bank-credit they issue bonds, effectively borrowing bank-credit off citizens. When the government creates one billion in bonds by the simple printing process as banknotes, the situation is different. The bonds are auctioned and thus sold to citizens who pay for them using existing bank-credit. The money supply of the nation does not increase because the billion of bank-credit was pre-existing. It was a transfer of existing bank-credit from citizens to government. If however, the central bank purchases the bonds, the central bank creates fresh bank-credit for the purpose and the money supply increases by one billion. The same procedure was used in the recent 'Quantitative Easing' exercise:

Bank of England purchases bonds

The central bank supporting the bond market may accidentally raise the money supply at a time when it needs to be contracted. If you look at 2009 in these graphs, you can see: private debt ceases to increase, M1 ceases to increase. M1 is currency plus bank-credit in deposit accounts mostly used by the citizens. The UK velocity also falls.

Graph of United Kingdom Money Supply and Debt

Banks and Money Supply

Banks create new loans which increases the money supply. Banks collect loan repayments which reduces the money supply. In excess of 95% of the money supply is in the form of Bank Credit, so the money supply is determined by the rate at which banks collect loan repayments and the rate at which it advances new loans. Loans create new Bank Credit whilst repayments use Bank Credit to extinguish debt.

The government collects taxes as Bank Credit and spends this Bank Credit back into Circulating Money. Because the government is hampered from creating its own money, it borrows money by issuing bonds. It creates this piece of paper and sells them so that they can obtain Bank Credit:

US one million dollar bond

These are basically similar to these: but pay interest. Bonds are printed in the same manner as these:

US Treasury Notes and Federal Reserve notes

The government does not use cash currency to pay bills. It uses Bank Credit and so it has to obtain Bank Credit to operate. The government issues bonds which it sells to purchasers who transfer existing Bank Credit from their own accounts into a government bank account with Bank Credit.

Thus, the money supply is controlled by banks and their lending habits alone. Government is not capable of influencing the money supply unless it sells bonds to the central bank, in which case, the central bank creates fresh Bank Credit for the purpose.

When government spends it does not increase the money supply but it does ensure that the money is earnable and it is putting money into the circulating component of the money supply. Because the Government does not use its prerogative to create the money of the nation, it can find itself in a bind if it spends more than it taxes. In this case it has to sell more bonds to obtain Bank Credit to make up for the shortfall. In most nations the money supply generally needs a slight increase each year to cater for increased population and increased trade. The government has no way to do this without taking on more debt. It is most unusual for a country to collect more tax than it spends, so the general trend is for government debt to constantly increase. Any difference between tax collected and expenditure will require more bond issues. If government tax collection falls terribly, it will sell more bonds and get further into debt. Where excessive volumes of bonds are being sold, confidence may disappear and the central bank may have to start buying bonds. The problem here is that the central bank uses freshly created bank-credit to purchase the bonds which increases the money supply. This suggests that under such circumstances it would be necessary to cut private lending.

Hoarded Money

Many workers have spent their income within a week. This is a velocity of 52. A vegetable merchant turns his money over once a day. This is a velocity of 365. Some shops may restock fortnightly. This is a velocity of 26. Money in modern society commonly has a horrendously low velocity of 2. It changes hands each six months. I have chosen a time of one month as a cut-off time between money that is circulating and money that is hoarded. My calculations are that, in modern society 83%, of money is hoarded. Circulating Money is only 17% of the money supply. Once you have comprehended that, there is an interesting observation to be made. If the hoarders suddenly start to spend, something horrible might happen. It is very much like an avalanche of Hoarded Money can cascade into the Circulating Money, whence all money is devalued. A very few of you may also notice something else. The Hoarded Money has potentially no value. Hoarded Money only has value if equal quantities of Circulating Money are converted to Hoarded Money at the same time. (Or Circulating Money is pulled out circulation at a similar rate.) Thus, we can say that 'Hoarded Money has no value' and 'money is not a store of value'.

Velocity of Money and its relationship to 'Hoarded Money'.

Hoarded Money is like the snow on a steep hill. So something silly and it will avalanche. So hyperinflation prevention requires that:

Hoarding is minimised. This is best done by a demurrage tax on minimum monthly balance.

When hyperinflation starts, the following desperate measures can be taken:

Do not allow bank balances to go below the recent historical minimum monthly balance, in the event of a hyperinflation event.

Prepare for instant tax collection to cut the Circulating Money.

Halt or delay loan issuance.

If a reasonably rapid rate of inflation occurred, money that had been hoarded, would start to be spent, as hoarding became unprofitable. So a higher proportion of the money supply would be available for active trading. This excess money would need to be withdrawn from the economy. That is exceedingly difficult, because it would mean reducing government expenditure or increasing taxation or delaying the issuance of loans. It would be the affluent that will be clearing their Hoarded Money and taxing the rich has never been popular.

A price inflation could occur without an increase in the money supply. The idea that it is always oversupply of money that causes inflation is incorrect. An increase in the velocity of money will cause the same effect.

Government Printing Money

The usual statement about hyperinflation is that it is "caused by the government printing money". This is an embarrassingly oversimplified statement. Why would a government purposely ever print too much money?

If people lose confidence in the banks, they go to the bank and ask to change their credit into cash currency. They are asking for Bank Credit to be converted to Cash Currency. In Australia in 2012 there was $1400 billion in Bank Credit, but only $50 billion in cash. A lot of that $50 billion cash is in people's wallets. There simply is not $1400 billion dollars in cash in the nation, let alone waiting in banks. The government cranks up the printing presses to create more cash currency, just to keep the banks afloat. The citizens have called the bluff on the banks.

As the nation moves to cash, other preventable errors occur. A hyperinflation of food occurs partly due to:

an oversupply of cash.

an increase in velocity of cash.

Hoarded Money is brought out to spend.

panic buying and hoarding.

the refusal of shops to open in a climate of public riot and looting.

a break down in the food supply system.

failure of the tax system to withdraw excess cash currency from the citizens.

Although this appears to be a failure of government, one must remember that Bank Credit has long since been useless in the purchase of food.

When a flight to cash occurs and food hyperinflation occurs, it is necessary to:

Tax cash by some means.

Use the police and army to guard food stores, farms and food transport.

Prevent food hoarding.

Increase tax on food.

When the bank system fails, there is an urgent need to tax heavily in Cash Currency.

You may be able to help here. I can only think of these methods:

Cash Currency needs to be stamped monthly, at a cost, to prevent cash oversupply. This is close to the Demurrage system at Wörgl in Austria in 1932. The rate in Wörgl was 1% per month. The rate may need to be as high as 10%, to stop runaway inflation.

Issue food ration books.

Dramatically increase transaction inhibiting taxes such as sales tax.

More thought needs to be put into this. Whatever happens, needs to be prepared in advance and put into action rapidly after the banks close their doors.

Examples

Hyperinflation appears to occur when there is a failure to collect sufficient tax. Let us look at some examples [642]:

Before the Latin America debt crises in the 1980s, "large government spending, driven mainly by ambitious public investment programs and populist policies resulted from the fact that, in these countries there is a very unequal income distribution between very rich with enough political power to avoid heavy taxation and very poor who have high demands for public spending." [642]

Civil wars, revolution, or deep social unrest are often a factor in hyperinflation, especially those prior to the 1980s: US Civil War (1861-1865), US War of Independence (1775-1783), and French Revolution (1789-1794).

China: A civil war and resulting hyperinflation in the 1940s brought Mao Zedong to power.

Bolivia: A shift in US monetary policy pushed Bolivia to inflation, deficits, indexed wages, and political chaos led to a monthly inflation that hit 180% at its peak. Most of the Bolivian external debt was related to the rapid growth of large investment projects. Foreign borrowing turned into money printing once they were cut off.

Yugoslavia: Large subsidies, of agriculture, led to shortages, debts, and ultimately hyperinflation. Bailouts of struggling enterprises compounded problems. Reparations and occupation payments frequently cause hyperinflations; they also cast a pall over government finances, leading private investors to develop jaundiced eyes.

The hyperinflation in Weimar Germany in the 1920s occurred in an environment of very high debt repayments levied by the Allies exacerbated by the occupation of the Ruhr Valley.

The hyperinflation in Zimbabwe occurred in an environment that included a war and land reclamations. Farm output was reduced. Farm employment reduced. Farm taxation reduced.

Hyperinflation is Common

Egypt 276 AD - 334 AD. 1 million percent inflation in 58 years. A measure of wheat which sold for 200 drachmae in 276 AD increased to more than 2,000,000 drachmae in 334 AD

France 1789-1803. Assignats were created as notes by the French government based on the value of confiscated church property. They were printed with no relation to the underlying value and eventually became totally worthless (no exchange value).

United States 1779. 47% inflation per month

United States 1861-1865. Total hyperinflation of 1,200 to 1. Confederate Civil War Inflation Rates

Austria 1914- 1923. Inflation in one year (1922) reached 1426% and overall the consumer price index rose by a factor of 11,836.

Germany 1914-1923. Total hyperinflation 1,000,000,000,000 to 1. Hyperinflation in Weimar Germany

Hungary 1919-1924. Inflation reached 98% per month in 1922

Poland 1918-1924. Hyperinflation 800,000 to 1

Philippines 1942-1944. Conquering Japanese army issued fiat currency which rapidly became worthless.

Greece 1942-1953. Total hyperinflation 50,000,000,000,000 to 1

Hungary 1945-1946. Total hyperinflation 400,000,000,000,000,000,000,000,000,000 to 1. Some historians believe this hyperinflation was actually an act of war as Russian Marxists tried to destroy the Hungarian middle and upper classes.

China 1947-1949. Total hyperinflation 15,000,000,000,000,000,000 to 1

Brazil 1967-1994. Total hyperinflation of 2,750,000,000,000,000,000 to 1.

Mexico 1982-1993. Total hyperinflation of 10,000%

Bolivia 1984-1987. New currency replaced the old currency at a rate of 1 Million to one.

Iraq 1987-1995. Total hyperinflation of 10,000 to 1.

Nicaragua 1988-1991. Total hyperinflation of 50,000,000,000 to 1.

Argentina 1975-1993. By the end, the hyperinflation currency exchanged at 100 Billion to one.

Peru 1986-1991 Total hyperinflation of 1,000,000,000 to 1.

Yugoslavia 1989-1994. By the end of the hyperinflation, the currency exchanged at 1027 to one.

Poland 1989-1994. By the end of the hyperinflation, the currency exchanged at 10,000 to one.

Zaire 1989-1996. By the end of the hyperinflation, the currency exchanged at 300,000,000,000 to one.

Angola 1991-1999. By the end of the hyperinflation, the currency exchanged at 1 Billion to one.

Bosnia and Herzegovina 1992-1993. Hyperinflation at the rate of 100,000 to 1.

Belarus 1994-2002. The currency exchanged at 1 Million to one.

Zimbabwe 1998-2008. The overall impact of hyperinflation was 1 = 1025 The final result was a total elimination of the currency and only foreign currencies were traded. Black market trade in US Dollars saved many from hunger.

North Korea 2009 to 2011. [646]

What is bizarre is that the creditor class often suffers more under a collapse than the impoverished peasants.

This begs the question "Why is the government borrowing money, when it has the authority to create the money of the nation?" These bonds are sold so that the government can join the bank's money system rather than using its cash money. So, effectively the banking system and big creditors are refusing to support the government's participation in the bank's credit system. The creditor class is effectively foreclosing on the government. When it falls apart, the government sets about re-establishing the credibility of the banks that were at the heart of the problem.

The Government is persuaded by lobbyists to use Bank Credit.

Rather than use government created money, nations use bank-credit unbacked by anything, but equal in value to government created cash currency, although the value of cash currency actually depends upon the total of the Circulating Money issued. The government sells bonds to anyone who will deposit Bank Credit into their bank accounts. The bonds require the collection of taxes which are harvested through the Bank Credit System.

The government needs to increase the Circulating Money each year to cater for: increased population, increased economic activity, to cater for those that hoard money and to pay interest on borrowed money.

If too much money is put into the money supply, then inflation tends to occur. However, ~95% of the money used in the nation is generated by the banks. This means that for every one dollar increase in paper currency, there is about a twenty dollar increase in Bank Credit. To increase the Bank Credit, by twenty dollars, there is a need to hang a debt of twenty dollars on something. So there is a constant need to find new areas on which to hang new debt. Land was early on the list. Brick houses, on that land, joined the list. Budget deficits and future taxes joined the list. Students joined the list. Emergency medical joined the list. We need more things to hang debts on so that the money supply can expand. The populace is unaware of this and blame the government for the debts and the inflation, rather than blaming the banks.

The creditors of the government then refuse to extend further credit to a government. They refuse to buy bonds in what is misleadingly called a 'collapse of the bond market' when it is a refusal to extend credit to a government that was persuaded to use credit. Banks usually have a monopoly on this Bank Credit, unless the government operates a 'Public Bank'. Governments rarely manage to operate 'Public Banks' because of the influence of the well-funded banking lobby.

Argentina

The economy of Argentina collapsed in 2001 after a decade of prosperity. Argentina defaulted on its USD$132 billion debt, the currency was devaluated. Bank accounts were frozen. The president resigned and escaped the presidential building by helicopter. In 2001, foreign investors refused to repurchase government bonds as bonds became due. If one is forced to operate under usury, where is one to obtain credit if credit is the only money available? This has all the hallmarks of the object of complaint by numerous wise men in history. If a nation is encouraged to use foreign credit and that credit is denied, there is no option but default. I call this 'Bond Blackmail'. How can a debt be paid with something that does not exist and has been denied to the nation? The default is the fault of the creditors. The creditors creat the sovereign bond default. Only by extending more credit can the interest be paid in credit. The creditors recalled their loans mid flight and bankrupted Argentina. Much like a bank recalling a loan half way through a house mortgage. We want our money! No thought is given to where the money is to come from. Similarly with a farmer. We have cases in Western Australia where a banks have revised farm loan status to a higher risk category with increased interest rate. This bankrupts the farmer and causing a foreclosure and yet another farmer suicide. Yet the loan was not high risk until the interest rate was increased. Similarly, Argentina would have continued repayments until the creditors collectively classed the nation as to risky which then fulfilled their predictions and caused the default.

World Total Money and World Total Debt.

In the graph the orange is the total of all currency created by all central banks. This is the only real money in the world. Even that is not backed by gold. The green is the total of all the credit created by banks. The red is the total owed to banks. So where did the money that was lent to Argentina come from? It certainly did not come from a central bank as central banks only create orange cash currency. No boat loads of currency arrived in Argentina. Argentina was required to pay back virtual currency that is only manufactured by banks when it had no access to more credit. Almost all nations have constantly increasing debt, so why was Argentina singled out for such treatment? The investor panic created the world's largest ever sovereign bond default leading to a collapsing currency, and hyperinflation.

In a situation where there is more debt than money, any person not granted further credit, is automatically bankrupted. The debt money system can only continue if further credit is granted. If banks refuse to extend credit to a government, the game is over and past interest cannot be paid. Worldwide, if further credit is not granted, past interest cannot be paid. If further debt is not taken on, the game is over. This happened during the bankruptcy of the USA.

Argentina Money Supply before hyperinflation.

Hyperinflation Prevention

To help prevent hyperinflation, a nation should:

Reduce the volume of Hoarded Money. To do this requires a tax on Hoarded Money such as a demurrage tax. The need to hoard should be reduced by use of a government national pension scheme.

Remove direct taxes on transactions such as sales tax. These are detrimental to a well-functioning economy and exacerbate fluctuations in the deficit. Replace it with a 0.1% Transaction Tax on all transactions.

Reduce income tax. It is damaging to the economy. partially replace it with taxes on land, wealth, death, inheritance and cash holdings. See my graph on tax collection verses income tax rate.

Encourage alternative currencies.

Reduce the reliance of the people on government by removing business imposts. Remove depreciation requirements. Delay collection of sales tax. Give tax deferment to expanding businesses. Effectively allow businesses to borrow from their tax account. Allow early payment of tax to offset those that wish to delay tax payments.

Hyperinflation Cure

When the Bank Credit System collapses, the government tries to continue operating using cash. However, the ability to collect tax has been destroyed because tax is usually paid into the banking system. There is no established way to reduce the cash in circulation. The solution would be for the government to demand stamps on the cash notes each month. The stamp duty to be, say 5% each month. This is equivalent to a tax of 60% annual taxation. To stop the excessive inflation of food, the government would need to prevent starvation and excessive demand for food, by bringing in food from the country-side, with a promise to pay farmers at a fixed amount in the future which may be based on silver or gold. The local councils would run soup kitchens. It would supply eggs to persons at the time of surrender of cash. By this means the government can draw the excess cash out of society. All cash without stamps would be seized and would be the major task of the police at road checks and public spaces but not at homes, although the police would issue chocolate bars whilst doing so to maintain a sense of decency. The army needs to be prepared to feed the nation at the time of currency collapse. The army would be authorised to compulsory purchase farm produce at generous future product value measured in silver, but in a very decent and generous manner. It would be along the lines of "we are buying your production at your last year's sale price as measured in silver. You will get full protection of the army and you will receive everything you need to operate your farm. You will have first priority on fuel stocks. You will receive an army hotline telephone and anyone interfering with your business will be immediately locked up." The system of stamping of the notes would be very similar to the Wörgl system of Austria in 1932. It is a form of demurrage. Demurrage ensures that money is spent quickly and avoids hoarding. It was very successful.


[640] www.globalfinancialdata.com/gfdblog/?p=2382 retrieved 2015-06-01

[641] Wikipedia en.wikipedia.org/wiki/Hyperinflation

[642] http://historysquared.com/2012/01/03/causes-and-patterns-of-hyperinflation-in-the-20th-century

[643] http://howfiatdies.blogspot.com.au/2012/10/faq-for-hyperinflation-skeptics.html retrieved 2015-06-08

[644] "Monetary Regimes and Inflation: History, Economic and Political Relationships Paperback" 2006 by Peter Bernholz

[645] www.alastairmcintosh.com/articles/1998_usury.htm A Short Review of the Historical Critique of Usury. Postscript on the credit crunch, 2009

[646] http://inflationdata.com/articles/hyperinflation

[647] http://www.karlwhelan.com/IMB/Hyperinflations.pdf

[648] http://en.wikipedia.org/wiki/Hyperinflation retrieved 2015-06-01

[649] Cullen O. Roche 2011 Hyperinflation - It's More Than Just a Monetary Phenomenon http://poseidon01.ssrn.com retrieved 2015-06-06