I am having a little trouble accepting one important message in an earlier article, Bernanke's Dilemma: Hyperinflation and the US Dollar, written by Ron Hera, describing his perspective on the economic course we are on. It is an excellent article, a must read. For me, one of his core beliefs is that if "the credibility of a government, or of its central bank, breaks down, the recognition of this fact is expressed as a race to shed the currency and to divest of the government’s bonds. One way to evaluate the possibility of hyperinflation is therefore to gauge the transparency, completeness and veracity of government and central bank statements regarding their balance sheets, budgets and bond issues."
From my observations, this is a too high standard to expect for governments, and it seems that history has taught us that it has always been a too high standard. Its just that my experience has taught me that expecting anything like representation of the people with checks and balances from our government is overlooking the obvious. In their book This Time is Different, Reinhart and Rogoff (R&R), considered 800 years of historical data on financial crises around the world. This book is extensively indexed. Surely they have an opinion that I can find. On page xliv they write, "Certainly countries have ways of making themselves less vulnerable to crises of confidence short of simply curtailing their borrowing and leverage. Economic theory suggests that greater transparency helps. As the reader shall see later on, governments tend to be anything but transparent when it comes to borrowing."
History does rhyme sometimes, so I looked for some references to what could be precursors to hyperinflation in the current condition. R&R describe on pgs 270-273, The Sequencing of Crises: A Prototype. They begin by acknowledging that financial crises have macroeconomic precursors, observed within asset prices (think real estate), economic activity (think level of employment), and external indicators (think currency exchange rate) for starters. They add that "common patterns also appear in the ways crises unfold. Obviously not all crises escalate to the extreme outcome of sovereign default." Let me describe very briefly the order they outline for the unfolding of a financial crisis.
To begin, there will be what R&R call "financial liberalization" which is when banks are allowed to make credit available with lower credit standards. This leads to weak bank balance sheets and problem banks surface. I believe we were engaged in this step on or before 2002. The following St Louis Fed chart of Total Consumer Credit looks supportive of this belief.
The second step in their sequence is when central banks extend credit to the weak banks. This clearly moves the central bank out of its comfort zone, where one of its primary directives is to support the currency. When the priority turns to supporting a weak banking system, interest rates are forced low and the currency weakens. 2008-2009, TARP and TALF among other alphabet lending programs.
Third, the currency crashes. R&R define a currency crash as an annual depreciation rate of more than 15%. The currency crash will trigger increased inflation of varying degrees, higher inflation in countries that are more familiar with high inflation (think third world). Maybe 2011 thru 2013 as we see a wave of CMBS defaults and commercial bank failures. The following St Louis Fed chart of The Trade Weighted Currency Index: Total shows that in 2009 there was a nearly qualified currency crisis.
Fourth, "the banking crisis either peaks following the currency crash (if there is no sovereign credit crisis) or keeps getting worse as the crisis mounts and the economy marches toward a sovereign default", the final step in the sequence. Maybe 2012 or 2013. The FDIC has recorded a total of 32 bank failures from 2000 through 2007, a total of 25 in 2008, a total of 140 in 2009 and through March 19, 2010 the total is 37 (on pace for 175).
At this point, inflation is a crisis. R&R define inflation crisis in their book as annual rates greater than 20%. They also acknowledge that there are a number of studies that use a 40% annual threshold to define an inflation crisis. And they throw in a mention of hyperinflation, defined as 40% per month!
The conclusion I take from everything I see here is, the future is very concerning as there seems to be almost nothing to keep the economy from evolving naturally into some part of a debt default. The good news is that it is coming at us slowly instead of the speed at which our reality is being streamed to us each day. There actually is time to recognize and get adjusted to a very new lifestyle. Say good bye to easy credit and what you know a dollar can buy. Scanner