Friday, January 16, 2009
The banknote shown above has a denomination of 1 milliard billion pengő (1 quintillion in short notation), yet even that was still 100 times smaller than the largest banknote ever printed. In the years immediatelly following World War II, Hungary experienced the worst ever recorded case of hyperinflation, with prices finally doubling every 15 hours. It has been claimed that this hyperinflation was deliberately engineered by Marxists specially trained in the destruction of national economies, who used the uncontrolled impression of banknotes to wipe out the middle class. Hungary's hyperinflation was much worse than the famous hyperinflation of the Weimar Republic, where by 1923 prices were only still doubling every two days.
The evaporation of credit and the pointlessness of savings instigate interesting behaviours in a hyperinflationary economy. For example, in the Weimar Republic, it became cheaper to simply burn money in the stove than to use it to purchase firewood.
Yet, it is possible to do well even under such adverse conditions. Businessmen in the Weimar Republic ended up taking huge loans, knowing their debts would be worthless within weeks, and investing the money on raw materials and fixed assets, such as factories and machinery. Of course, they built up mountains of excess inventory and enormous overcapacity, the growth of which accelerated as the hyperinflationary period ran its course. Only the most astute among them profited from hyperinflation.
One of the paradoxes of hyperinflation is that, despite the astronomical sums of money in circulation, money becomes progressively scarce: the more printing presses are hired to print ever-growing amounts of banknotes in ever-higher denominations, the less these printing presses are able to keep pace with prices. We have seen in recent years how, by the time the central bank in Zimbabwe releases a new high-denomination banknote, it is already completely worthless.
Most people think, "Pah. It will never happen here." Will it not? Consider the vast and ever more desperate increases in the money supply we have seen in the past year and a half, instigated by government efforts to beat the credit crunch, not only in America but here in Europe. In the United States, a country already saddled with unpayable debt and future commitments that vastly exceed predicted economic output (Kotlikoff), the bailout package in its various forms is already approaching 60% of GDP. A huge increase in the money supply, which, in the context of a contracting economy, will result in a devaluation of the currency once that money hits the streets. In other words, it will result in high levels of inflation. We have already seen how the "pumping of liquidity" into the system here (increasing the money supply) has resulted in an automatic devaluation of Sterling relative to other currencies - a devaluation that has been masked by the fact that some of the other currencies (like the dollar) are themselves being devalued, just as or even more aggressively.
At the moment prices are depressed by a lack of demand - a lack of demand fuelled by the expectation of future discouts, crippling levels of debt, the crushing fiscal burden, and the fear of job loss. However, I suspect that once the bottleneck is removed and the avalanches of money currently being created (out of nothing) enter the economy, we will experience periods with levels of inflation not seen since the war.