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Presenting Bridgewater's Weimar Hyperinflationary Case Study
Last month, the world's biggest hedge fund, Bridgewater, issued a fascinating analysis of deleveraging case studies through the history of the world, grouped by final outcome (good, bad and ugly). As Dalio's analysts note: "the differences between deleveragings depend on the amounts and paces of 1) debt reduction, 2) austerity, 3) transferring wealth from the haves to the have-nots, and 4) debt monetization. Each one of these four paths reduces debt/income ratios, but they have different effects on inflation and growth. Debt reduction (i.e., defaults and restructurings) and austerity are both deflationary and depressing while debt monetization is inflationary and stimulative. Ugly deleveragings get these out of balance while beautiful ones properly balance them. In other words, the key is in getting the mix right." Of these the most interesting one always has been that of the Weimar republic, as it certainly got the mix wrong.
The reason why Weimar will be critical, is that at the end of the day, Weimar, unlike some of the other successful case studies, is precisely what the global debt situation will require when all is said and done will be the model to imitate. Why? Because as BCG showed last year, the global debt overhang (on a net blended basis) to reduce global Debt to GDP to a "sustainable" 180%, would require the elimination of $21 trillion in debt, one way or another, with the excess debt concentrated primarily in the US ($8.2 trillion) and the Eurozone ($6.1 trillion).
This is in absolute terms, not relative, as permitted under Keynesian methodology, as relative devaluations simply destroy the "last defector" actor in serial fashion (with benefits accruing to the 'first to default'), in the process crucifying globalization and consolidated world trade. Which means that a coordinated inflation driven deleveraging is the only possible outcome.
Which is where Weimar comes in. And specifically the following chart from Bridgewater:
For those who may have avoided economic history books, here is the summary plot line:
The case of Weimar is one of the most extreme inflationary deleveragings ever. At the end of the war, the Reich government was forced to choose between a shortage of cash and economic contraction or printing to stimulate incomes. The government chose to print and devalue to stimulate the economy, beginning with a 50% devaluation at the end of 1919 that brought the economy out of recession. Eventually, a loss of confidence in the currency and an extreme amount of printing led to hyperinflation and left the currency basically worthless. As shown below, the currency fell essentially 100% against gold and printing was exponential. Starting debt of 913% fell to basically zero. Non-reparations government debt of 133% GDP in 1919 was wiped out by inflation. Gold-based reparation of 780% GDP effectively went into default in the summer of 1922 when reparation payments were halted. We summarize this in the table below and then go through the pieces.
Note the shaded red regions.
And this, make no mistake about it, is what is in store.
Continuing from Bridgewater: "The next chart shows the aggregate government obligations owed and its two pieces, the gold-based reparations and other government debt"
Then there is the question of what happens to gold. In Weimar's case, gold-denominated reparations were simply forgiven.
As discussed, the non-reparations government debt was eroded rapidly through inflation. While the reparations were not techincally imposed until 1921, they effectively existed shortly after the war and it was mostly a question of negotiating how big they would be (the official amount was settled at the start of 1921 and then reduced that spring by about 50%, still a huge sum). Because the reparations were denominated in gold, they held their value until Germany ceased payments in 1922. They were then restrutured several times over the next decade until they were effectively wiped out.
Well, as the Greek case study has shown, this time around the gold will first be confiscated. All of it. Only then will the debt be forgiven. In the form of a hyperinflating of trillions in claims, in a coordinated way across all currencies, and relative to a basket of hard assets.
And going back to the current parallel in which the entire world is now one big Weimar Republic, we return to the BCG study in which the dire conclusion is as follows:
Let’s suppose that the politicians and central bankers acknowledge the hard facts. Agreeing on the starting situation would be a precondition for defining an effective remedy. They might begin by recognizing what many commentators have been pointing out for a long time:
- Western economies, notably the U.S. and Europe, have to address the significant debt load accumulated in the course of 25 years of credit-financed economic expansion. (See Exhibit 1.) And some must address real estate bubbles as well.
- The necessary deleveraging would lead to a period of low growth, which could, given historical precedent, last more than a decade and would be amplified by the aging of Western societies.
- This would have consequences for the emerging markets, with their exportbased growth strategies. Any shift toward more consumption in these countries might not have a substantial stimulatory effect on the economies of the West.
- Efforts by governments to deal with their debt problems would lead to even lower growth and would increase the risk of social unrest. A recent study shows that as soon as expenditure cuts exceed 3 percent of GDP, the frequency of protests increases significantly. The demonstrations that occurred in some European countries this September should therefore not have come as a surprise.
- Banks do not have enough equity to weather further write-downs—and governments are running out of ammunition to stabilize banks should a new crisis hit.
- Central banks may be seen as the last remaining institutions able to stabilize the financial markets and support economic growth. But their efforts are losing effectiveness. In spite of increasing balance sheets by up to 200 percent since the end of 2007, central banks have been unable to ignite sustainable economic growth.2 On the other hand, the monetary overhang could be the basis for significant inflation.
- The longer governments postpone addressing the fundamental problems of the crisis, the deeper and more prolonged the crisis will become.
But even if all these facts were generally acknowledged, there would be no one size-fits-all solution.
Correct, which is why when push comes to shove, the nuclear option will be used.
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One should convert their gold into ritalin and prozac the street value will likely soar and with the FEDS/TSA spending so much of their energy policing 'gold hoarders' selling the drugs to the unprepared masses could prove rather profitable. Heck, our government might consider this a public service.
Nonsense. Or should I say, "so what"? Did prohibition stop liquor sales. Is the drug trade stopped with even 100x that much effort? Making something that outlawed might even make it more valuable. Everyone wants what's forbidden.
Look at the chart on the Taylor Rule. It calls for Fed Funds rate to be RAISED TO 2.05% to choke off inflation. Bernanke won't do it.
http://confoundedinterest.wordpress.com/2012/03/13/fed-funds-announcement-gold-housing-stocks-inflation-and-the-taylor-rule/
re: "A government prints money because the public demands it"
I disagree! A government creates inflation despite public outcry - not as a result of public outcry!
Nobody explained this better than Sean Corrigan in his
The Road to a New Serfdomhttp://www.cobdencentre.org/2011/11/the-road-to-a-new-serfdom/
I agree with Corrigan that we are indeed witnessing a historical reprise of Weimar Germany’s former Notverordnungen! The public never demanded bailouts for so-called too-big-to-fail banks and continuing obscene bonus structures for complice CEOs.
Let's review recent history:
Reserve requirements on fractional-reserve banking were supposed to put limits on the amount of money banks were permitted to lend thereby limiting money creation leaving central bankers in theoretical control of how much money is being created in the economy.
PhDed Quants and modern computer technology allowed banks to indulge in financial econcromancy the so-called “new monetarism”. Swaps and securitization increase the money supply by converting more and more real assets into tradable instruments. In other words – not only are banks able to move liabilities off their balance sheets thereby permitting them to recycle these illegitimate windfalls into even more shakier and shakier loans… banks are even able to transform “liabilities” into “assets” thereby magnifying the problem and rendering balance sheets fantastic fictions.
Banks perversely and without control created liquidity out of thin air… unfortunately their resulting debt resulted in today’s fiscal “solvency” problem.
Unregulated private bank debt constitutes money creation. Debt destruction constitutes money destruction. Ergo deleveraging generates deflation in the short term. However – the private debt generated so far is far far in excess of any possible broad money supply (as created de novo by obliging treasuries) and that is why we are in deep inflationary doo-doo!
Of course - none of this is immediately apparent for the salient reason already cited - zero money velocity obscures the fact that Central Bankers have become lenders of first resort... for as long as they can maintain the charade.
Of course -this was all could only have been accomplished with Greenspan's initial Libertarian nihil obstat!
The public has yet to be presented a reckoning of the entire cost - and when that day of reckoning happens; bankers will be hanging from lamposts by the entrails of politicians.
Dalio May 2010 Barrons Interview
On inflation:
If you are going to listen to this guy, you're going to the cleaners.
This is hedgefund 'propaganda. This guys makes money by stealing it from you.
Except everything you quoted was right and has happened. See my comment above.
16 cases of hyperinflation JUST in the past 100 years! this time will be so big to make it look like is fun to add ZEROS to your bills!
Western economies, notably the U.S. and Europe, have to address the significant debt load accumulated in the course of 25 years of credit-financed economic expansion. -- Bridgewater
No, it’s 25 years of Keynesian death-spiral economics; the creation of welfare states and fascism in western nations where the absence of free markets is finally driving this so-called credit expansion to ruin and, now, the piper must be paid.
We could have had lasting genuine growth and expansion all along in an era that was to be peace time had we continued with sound money.
Now, Bridgewater is trying to pretend there’s a legitimate case for inflationary debt, that there’s such a thing as good debt, its so-called rationale for stimulus. As the central banks continue to destroy the world’s economies, it seems the article is saying we’re heading for a repeat of Weimar – because the massive debt load the central banks have created is beyond any reasonable ratio to GDP. IOW, the TBTFs have passed the point where they can save themselves, and, we the people, are going to have to drink the poison.
The best solution, of course, is for the central banks to get out of the way (die) and let the free market economy take over. And once again we’ll have a supply and demand society that supplies goods and services of the value people are willing to work for in a climate of economic growth and political freedom; not the “services” of these parasitic bankers who throw a blanket of risk over all economic activity until no man can tell the worth or future of anything he’s buying.
And, now, Bridgewater has the nerve to say: Central banks may be seen as the last remaining institutions able to stabilize the financial markets and support economic growth.
Yes, by going out of existence.
What I see is that the price of basic neccessities have have grown faster than average incomes. The cost of gasoline, electricity,milk, bread etc in some cases rents and even home prices (which are artificially kept higher by reducing interest rates close to zero). In some cases people are paying 1.5 times more for their electricity and gasoline per month than they pay servicing 250k euro of debt/mortgages. Add to this the constant increase in home tax, income taxes, value added taxes, increasing retirement age, austerity measures aimed at sucking from the masses and shit just gets deeper.
Also this concept that the bankrupting of the Greek people is a pilot of what is to follow in other countries is realistic.
In addition the rise of third world nations into emerging economies - keeps in the mind of the westerners that hey we have it better than those countries which have larger wealth gaps and often even more authoritarian governments. This comparison allows the western citizen to console himself with the idea that although hs quality of living is deteroriating before his eyes - theat it could be worse keeping us in check from greater resistance to this kleptocracy.
Speak slowly after me: The world is not a mathematical point. Values aren't absolute regardless of the "where" and "what". Values may change depending on WHAT you're measuring. And there are more "what's" than "one".
Relativity - look it up, you educated stupids at Bridgewater..
The Weimar government felt compelled to inflate incomes due to the growing popularity of the socialists. The western governments are under no such threat to their power.
Therefore, the monetization to stop deflation does not follow through to rising incomes but stops at feeding commodity/energy bubbles which then acts as a tax on the consumer economies.
At this point, politicians would rather fund urban tanks, drones and flash grenades than feed income growth. It appears western governments have bypassed Weimar and proceeded straight to Nazi fascism.
Do not pass Go. Do not collect $200.
Thanks for posting this it is a great analysis. I encourage anyone interested to read the source material it is good stuff.
Bridgewater's original research paper can be found here.
It's not overly long and contains some very good analysis. Check it out.
Regards,
Curtis
Market Madness & Precious Metals News
" In August, the Federal Housing Finance Agency asked investors for input on setting up a foreclosure-to-rental program to offload some of the 180,000 repossessed homes held byFannie Mae and Freddie Mac, the troubled government-sponsored mortgage giants. Barclays Capital, Deutsche Bank AG (DBK), Fortress Investment Group LLC (FIG) and Waypoint were among the hundreds of firms that submitted proposals to the FHFA spelling out how investors could participate in such an initiative, according to information obtained by Bloomberg News through a Freedom of Information Act request." Bloomberg
Could there be a more clear example of paper asset value manipulation. First they decimate prices leading to very low priced 'forced sales' foreclosures, then they want to submitting proposals about how to purchase them at the discounted price Plus being part of a government SUPPORTED purchase program. Daylight robbery
smokeybear - re:
"The Weimar government felt compelled to inflate incomes due to the growing popularity of the socialists. The western governments are under no such threat to their power. "
Your historical analysis misses the mark - it wasn't quite that simple: I highly recommend a great read on the subject:
Lords of Finance: The Bankers Who Broke the World
http://www.amazon.com/Lords-Finance-Bankers-Broke-World/dp/159420182X
Are we sure that debt numbers are not double/triple/quadruple counted? It seems that the more intermediaries, the more debt (which can still be a problem) which can create a problem nonetheless but a different sort of problem (counterparty risk). What I mean is that if A lends to B at 3% then B lends to C at 5% then C lends to D at 7% and D lends on to E at 9%, is that counted as 4 units of debt when in actuality only one unit must be serviced?