Guest Post: A “Hyper-Depressionary” State. Is It Really Coming?

Tyler Durden's picture

The topic of hyperinflation vs deflation has gotten much prominent attention in the fringe media in recent weeks (and judging by the surge in gold, this attention is shifting to the broader population). Below we provide another perspective on what the phenomenon of "hyperinflation" signifies. The conclusion is not all that surprising to the Zero Hedge community: "As long as our politicians and the federal reserve continue on their quest to debase our currency, the threat of a hyper-depression remains. I personally do not believe this will happen, as there would eventually be enough opposition to quantitative easing to cease it, due to fear that it may result in destroying the savings or our baby boomer population and the financially prudent (the people who are actually important towards having a healthy and sustainable economy). However, we may very well be in a situation where Fed officials don’t realize what they’re doing until it’s too late."

A “Hyper-Depressionary” State. Is It Really Coming?

Submitted by RCS Investments

You see millions of websites devoted to the topic. These would mostly be
the self-proclaimed “Gold bugs” who warn us that an impending
hyperinflationary event, which would significantly boost prices of all
precious metals and necessities such as food, would lead to chaos as the
countries savings would vanish literally over the course of one week. 
Riots would occur. Commodities would gain in value as Fiat currencies
see their end game.  Overall it portrays a very ugly picture indeed (let
me pull out that Mayan Calendar).  My definition of hyperinflation
revolves around a deep and sharp loss of confidence in a currency. This
is different than inflation where it is simply a function of too many
dollars in the economic system; however, the line between high levels of
inflation and hyperinflation is quite gray primarily dominated (in my view) by “future inflation expectations”. Quick upward movements in this metric would signal to me that the public is less
confident in the purchasing power of their currency, a prerequisite to
hyperinflation. Another reason that I’ve thought of though not heard
much about would be a supply-side shock in important material
resources.   Regardless, I’ll come out and say upfront that there are so
many headwinds, crosswinds, you name it, that predicting whether
hyperinflation would occur would be akin to throwing darts. However,
this will not stop me from researching the reasons why such an event may
occur.

First my stance: Overall I believe that the probability of a
hyperinflationary event occurring due to a loss of confidence in the US
dollar remains very remote.

The other reason for hyperinflation is more unique and deserves more
attention. The Fed, for all intents and purposes, is becoming a growing
national security threat in my view. My main reason for such a diatribe
is rooted in its quantitative easing strategy in an attempt to avoid
deflation. This strategy seems shortsighted in my view from a
longer-term perspective. Given the last round of quantitative easing and
the low rates that it produced it is now obvious that consumers are not
keen on increasing demand for loans. Despite the Fed’s best attempts to
restart lending and keep the credit machine growing, the consumer has
made its intentions known. They are in the process of de-leveraging and
saving. Decades of profligate spending are coming home to roost; the
bill now needs repaying.  Retirees must save as their largest asset
(home) has taken a beating and doesn’t seem to be bouncing back anytime
soon. The consumer is looking to fix its balance sheet, translating to
an overall period of secular weakness in the economy.  The
fundamental question that I have is whether the Fed, and perhaps more
importantly, policymakers see continued debasement of the dollar via
quantitative easing as a viable strategy to combat our problems
.
If they do, quantitative easing will continue and if it continues, I
see an increasing probability of the following long-term scenario
unfolding.

We continue to experience a deflationary
environment over the short and medium term. At first, as it does now, it
will seem that pursing a quantitative easing strategy is a more viable
strategy as we have strong deflationary forces in the form of
deleveraging. However, this is where I see it getting interesting. China
is taking the steps necessary to boost its domestic consumption and
rebalance its economy. Social safety nets are in the process of being
enacted. As a Chinese official, it obviously makes sense to boost the
domestic sector given that growth in export demand is not likely to
continue as developed economies repair their balance sheets. We also
know that presently China accounts for a large portion of demand in
commodities. Its population remains mostly rural with poor incomes. What
this means is that there is large pent-up demand and the prospects for
accelerated and prolonged growth phase are very favorable. The
day/month/year that the Chinese consumer begins to loosen its wallet and
see credit as a viable tool, leading towards increased demand will
bring about the moment of reckoning. For starters, commodities such as
oil, copper, gold, silver, platinum and palladium would see a large
acceleration in demand.  Agricultural commodities would also increase as
Chinese citizens upgrade their diets. Investors would see renewed
opportunities in the US manufacturing sector as exports would grow to
quench the demand of the massive Chinese consumer. Job growth would
stage a comeback as well as wages. Capacity utilization would increase
rapidly after years of trimming down excess fat, which would have
resulted in a very lean manufacturing base. We would have a major supply
side-shock from higher commodity prices, coupled with low industrial
capacity as the major contributors to a major increase in inflation. In
the end, China’s economic restructuring would be the key that unlocks
the hyper inflationary box. While an increase in jobs and higher wages
are good things, the effects that they would bring (sharp moves higher
in inflationary expectations) would negatively affect the retiring baby
boomers and the unemployed. Furthermore, any hint of higher inflation
would be met with sharply rising yields as a massive supply of bonds,
which were issued  as the US built up massive deficits, would begin to
be sold. Overall, we would be in an environment where persistently high
yields, coupled with higher commodity and food prices would continuously
sap the purchasing power of the US consumer and suppress investment in
the domestic economy.  We would be in a depression, but with very high
inflation as Chinese demand would ensure that important commodities
retain a very high premium, while only decreasing marginally in value
should there be a sell-off.  Whether our population begins to panic over
the purchasing power of their dollars will determine whether we have a
very bad stagflationary or hyper-depressionary event.  That would be the
major wildcard.

The top risk to delaying this sequence of events would be a bout of
protectionism/trade war with the US, which I do see happening. However,
this would only set back this process, not prevent it. As long as our
politicians and the federal reserve continue on their quest to debase
our currency, the threat of a hyper-depression remains. I personally do
not believe this will happen, as there would eventually be enough
opposition to quantitative easing to cease it, due to fear that it may
result in destroying the savings or our baby boomer population and the
financially prudent (the people who are actually important towards
having a healthy and sustainable economy). However, we may very well
be in a situation where Fed officials don’t realize what they’re doing
until it’s too late.