The clear winners during the Weimar inflation were debtors. This according to historian Adam Fergusson, author of When Money Dies (pdf link). Indeed, it pays to owe money during inflation and even 2% inflation is theft–stealing from anyone who has lent money.
I have said in previous posts that the only reason that home owners win is because they enjoy a cheap debt product, a mortgage, and that as time passes, inflation reduces the value of the mortgage, while it appears in nominal dollar terms that their house has increased in value. But if measured in something more stable, like gold, real estate hasn’t really improved in value over the course of the last 100 years. It is just the dollar that has fizzled out.
Thus, I conclude that leverage that is under control and manageable, is the best weapon against inflation. What is leverage that is under control? (1) Keep debt to equity near or below 1:1; (2) Use debt to purchase of a cash-flow producing investment, such as a dividend paying stock or rental housing, which in covers the interest payments and creates income; (3) Avoid consumer debt.
In any case, here is the video in which Adam Fergusson explains how debtors win: they pay off mortgages with “postage stamps” (i.e., eventually, the cost of postage stamps is similar to the total mortgage debt).
To understand the value of gold as a currency with intrinsic value versus paper currencies which have only derivative value, it is perhaps helpful to consider what happens when a war comes to a conclusion. The victors, if they ask for tribute or war reparations, will only accept gold. Consider that throughout history, when conquerors overtook cities, they would strip them of gold and silver and other precious real goods, such as when Alaric sacked Rome in 410. They didn’t say, “Oh please, would you print some images of the Emperor and give them to us.” Instead, the barbarians forcefully took away the intrinsic wealth of the city.
In our more recent past, we see that the United States has been able to force its paper currency on the losers of wars. At the end of the Civil War, the Confederate dollar became worthless paper. The loser cannot make the winner accept its paper. Then, at the end of World War II, the US was able to begin to impose its currency on the rest of the world, until it became the world’s reserve currency. Originally the US dollar was a derivative for gold; but afterwards, Nixon took it off the gold standard, and it became a purely fiat currency. But had the United States not won World War II, we’d be speaking German and Japanese and Yen and Marks would have become the world’s reserve currencies.
At the end of World War I, the Treaty of Versailles imposed war reparations upon Germany, mind you not in the paper currency of the Weimar Republic, the Deutsche Mark, which became so much wallpaper in a few years, as it began to fill the wheel barrows of the country. No, the treaty required that the Germans pay back their debt in gold. Funny, isn’t it? How is it that the loser of a war can impose upon the winner the acceptance of a metal which has been in a 6000 year bubble?
“There is no means of avoiding a final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion or later as a final and total catastrophe of the currency system involved.” – Ludwig von Mises (hat tip Jim Quinn)
My prediction for the current debt crisis: John Boehner and the establishment Republicans will form a coalition with the Congressional democrats to sell out the American people. They will raise the debt ceiling, Obama will sign the bill, Bernanke will officially begin QE3, and it will be business as usual. The dollar will continue its downward spiral and much of world is going to starve to death. During the Weimar Republic, food became the most expensive part of people’s budget. Gonzalo Lira explains why food production fails during times of hyperinflation: Is Farmland A Smart Hedge Against Inflation?
Peter Schiff calls the US economy a “ponzi” economy. He warns that stimulus package suggested by Congress will lead to a “unmitigated disaster”. He warns of hyper inflation (not just double digit inflation) similar to Latin American countries or to the Weimar Republic. He compares the interventionist government with Hoover and Roosevelt which is leading us into a new depression. Continue reading →