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The Case for Deflation before Hyperinflation

Setting aside the Austrian definition of inflation and deflation as simply an increase or decrease in the quantity of money, as an American who buys and sells stuff in U.S. dollars, I’m interested in knowing whether a wide range of prices of commodities and financial assets are, in general, rising or falling. Over the longer run, I absolutely agree with my friend James Turk, who reprimanded me for thinking deflation is a possible outcome. In the longer run, I agree with Turk, who said there will ultimately be hyperinflation relative to the dollar but deflation relative to gold. In other words, the ultimate outcome will be a massive rise in the gold price, which will gain unfathomable purchasing power—as opposed to the dollar, which will be worth less than toilet paper. But in the meantime, as long as the masses believe in the dollar, I believe we will be facing a massive decline in asset prices. And as my IDW is suggesting, as the IDW has now cut through the three-year moving average and threatening to decline below the five-year moving average, a secular decline in commodities and equity markets may indeed be getting started. And what is remarkable about this picture of my IDW is that this “roll over” is taking place even despite (or perhaps because of) trillions of dollars of new money created out of NOTHING!

But the operative word is “eventually.” Between now and “eventually,” I as an American have to use dollars to buy and sell things with. So while I know dollars are a morally illegitimate form of money and that this form of money that is forced on us is leading the destruction of capitalism by ruining legitimate capital, I am forced to look at the world the way it is currently operating in this fiat currency world.

Because debt is growing so much more rapidly than income and because zero interest rates do not allow for price discovery of capital, the global financial system is becoming ever more dysfunctional and impoverished. We are for sure witnessing a communist coup, brought about by the false notion that Keynesian economics could provide a middle ground between communism on the one hand and capitalism on the other. What is unfolding before our eyes is evidence of that big lie. You cannot obstruct price discovery of capital and expect capitalism to survive.

The process of bastardizing capitalism, which reached a growth inflection point at the peak of asset prices prior to the Lehman Brothers failure and subsequent financial asset disaster of 2008-09, is now leading to a massive contraction of economic activity and prices as denominated in the world’s main reserve currency, the U.S. dollar. And as long as people can be conned into accepting this worthless unit of measure, a major deflation will continue, because with the destruction of capitalism, there is simply not enough cash flow from operations from the global economy to repay debt.

Yet creditors demand repayment! So how does this get resolved? John Exter’s inverted pyramid shown here illustrates the process. Until that growth inflection point was reached, all the items at the top of the inverted pyramid could continue to increase in value. Those items at the top are luxury and speculative items, which people buy with reckless abandon especially as the money supply continues to grow.

But there comes a time, like that of 1929 and more significantly 2008-09, when the system is so indebted relative to income that it becomes insolvent. When that happens, the items of luxury and items of least necessity and highest levels of speculation are sold with proceeds going to repay debt and/or build cash. So the items toward the bottom of this inverted pyramid gain value while those at the top lose value. So luxury housing (think McMansions) collapsed after 2008-09. And were it not for massive manipulation, the stock market would have crashed, as it indeed started to in 2008-09. Indeed, my IDW shown above on the prior page did in fact deflate from the January 31, 2005, start date of this measure of price expansion/contraction.

Again, this process can continue as long as the masses are conned into believing that the dollar is as good as or better than real money—gold. The establishment since 1971 has engaged in an exceptionally successful propaganda campaign by: (1) keeping a lid on gold prices, and (2) engaging in war to enforce the petrodollar system. But that immoral behavior on the part of our policymakers can only result in the internal decay of our economy in its destruction of capitalism. And so all manner of false economic statistics, gold price suppression, and foreign wars can result in people being conned into accepting the dollar as a “sound” currency. But the fact that masses of Americans are becoming ever more impoverished will trump all manner of lies and propaganda. So for example, despite massive trillions of dollar created out of thin air, Americans are not spending money, which is evidenced by the historically low money velocity as shown above, compliments of the St. Louis Fed. As you can see, M2 continues to plummet because masses of Americans are becoming ever more strapped for cash just to pay the rent and put food on their tables. 

The dollar is the largest global currency and as such has the largest amount of debt attached to it. So, as the masses have to hoard dollars to meet the most basic needs, and as the margin clerks call for repayment of their loans, more and more dollars are demanded as those items at the top of Exter’s inverted pyramid are increasingly sold in exchange for dollars. This is one basic reason why the U.S. dollar is on a parabolic tear.  But parabolic moves like that shown above are inherently unstable. We are most likely nearing an end of this major run for the dollar. If so, confidence in the Ph.D. standard may be badly shaken, as it started to be in 2008-09, and that should be very bullish for gold. In my view, the 2008-09 experience was just the first leg down for the fiat money system that was illegitimately created with the Military Industrial Complex forcing the petrodollar upon the masses.

Once confidence is lost in the existing petrodollar system and/or it is overthrown geopolitically, John Williams, James Turk, and other inflation advocates will be right, because at that point in time, the masses of people will exchange dollars in exchange for anything they can get their hands on because they will finally realize the dollar has reached its intrinsic value—ZERO! And, as past episodes of hyperinflation have demonstrated, the switch from confidence to loss of confidence can happen almost instantly. That’s when prices will rise in hockey-stick fashion. It’s hard to know when that day will arrive, but we must try our best to be ready for it.

Jay Taylor



Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in precious metal products, commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.
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