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In the
first two months of the current fiscal year that began on October 1st, the US
national debt has grown $320 billion. That is $21 billion more than the same 2-month
period last year, which illustrates that the growth of the national debt
continues to accelerate. The reason of course is the federal
government’s huge operating deficit, which is not getting any smaller. This point is
illustrated in the following
chart.
Hyperinflation
is always the outcome of unchecked government spending. The spending leads to
ever greater deficits, which requires the government to borrow ever greater
amounts of money. Eventually a point is reached when the government needs to
borrow more money than lenders have the capacity – or willingness
– to lend. Thereafter the government can take either of two alternative
paths.
Either the
government cuts back its spending, facing the reality that it has run out of
money. Or the central bank steps in to create ‘out of thin air’
the money the government wants to spend. This second alternative inevitably
leads to hyperinflation. A government’s decision to take the
hyperinflationary alternative is what I call the “Havenstein
moment”, with the dubious distinction going to the ill-fated governor
of the Reichsbank whose decisions lead to the massive
hyperinflation that destroyed the economy and devastated the middle class of
1920s Germany.
The US
government has long passed its Havenstein moment.
With so-called “quantitative easing”, which is the modern term
for money printing, the Federal Reserve is enabling the federal government to
take the soft political option. Spending has not been cutback, despite the
perennial shortfall of government revenue. This uncontrolled spending has
been accommodated by money printing, which today means expanding bank balance
sheets.
In this
regard, the United States is different from Weimar Germany, which was a
cash-currency economy with nearly all commerce conducted with paper
banknotes. In contrast, economic activity in the US is substantially
conducted with bank deposits, circulated by check,
wire transfer, plastic card, and the like. So ‘money printing’
today is accomplished by expanding bank balance sheets to create more
deposit-currency.
In the past
year, commercial bank balance sheets have grown $611 billion. In addition,
the Federal Reserve’s balance sheet has expanded $516 billion, or
21.6%. This money printing is starting to have its inevitable effect. Over
the past six months, M1 is up 22.8%, while M2 has expanded 14.0%. Inflation
for the past year as calculated by ShadowStats.com is 11.0%.
As further
proof that the Havenstein moment is behind us, consider that 58% of the money spent by the federal
government in October and November came from borrowed money ($320 billion of
debt against $551 billion of expenditures). Monetary history shows that
governments are on a hyperinflationary path when crossing the 40% threshold,
a level long passed by the federal government.
The above
chart makes clear that the US government does not face a cyclical problem,
which can be overcome by robust economic activity that would bolster federal
revenue. Rather, it faces a structural problem, or in other words, the system
is broken. Decades of spending, consumption and debt have taken their toll.
To put it
bluntly, the US federal government is broke. But the government and the
Federal Reserve refuse to admit this reality. So having long passed the Havenstein moment, the erosion of the dollar’s
purchasing power is the inevitable outcome.
This
debasement of the dollar will become increasingly clear in 2012. As a
consequence, it is logical to expect much higher prices for gold and silver
in the year ahead.
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