Money Demand & Hyperinflation
Posted 14 April 2011 - 08:37 AM
The massive printing that first comes to mind when anyone mentions hyperinflation is NOT the cause, it is an effect
During stable times money is always in demand, more or less, which gives the supply side (the printer) control over the value of a fiat currency. He can loosen or tighten at will, because the demand side is always, to some extent, pulling on the rope. So during stable and predictable times, it is fair to say that the value of money is primarily a factor of quantity, or supply. Demand for money (or its velocity) is relatively stable during these times delivering (almost) full control of value to the printer—the supply controller.
But during unstable times something changes. The demand side of the equations suddenly takes value-control away from the printer. This is where we are today, and where we have been since 2008.
When the economy is struggling, unemployment high, home prices falling, people are afraid to spend their money. This drives up the demand for money, slows the velocity of money, raises the value of money and lowers the prices of things and assets. Likewise, when the financial markets are crashing, the demand for cash skyrockets while plunging assets bid frantically for dollars. Both of these demand-driven events act just like a large deflation in the money supply as they drive up the value of money and lower the prices of other things.
When this happens, the money printer tries to counter demand by increasing supply. But today, clearly, demand is in the driver's seat, not supply. That's because in 2008 we moved from the stable and predictable into the unstable and uncertain.
Fear is the main emotional motivator in any currency collapse, just like it is in financial market meltdowns.
The initiating spark of hyperinflation (currency collapse) is the loss of confidence in a currency. This drives the fear of loss of purchasing power which drives people to quickly exchange currency for any economic good they can get their hands on. This drives the prices of economic goods up and empties store shelves, which causes more panic and fear in a vicious feedback loop.
The printing of wheelbarrows full of cash is the government's response to price hyperinflation (currency collapse), not its cause. This uncontrollable (knee-jerk) government response happens in some cases, but not all. Let me repeat: The massive printing that first comes to mind when anyone mentions hyperinflation is not the cause, it is an effect, in the common understanding of hyperinflation which is the collapse of a currency.
Velocity of Money
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Posted 14 April 2011 - 10:39 AM
Edited by CHAx, 14 April 2011 - 10:48 AM.