[This blog post is an excerpt from a recent TSI commentary]

The year-over-year rate of growth in US True Money Supply (TMS), a.k.a. the US monetary inflation rate, has continued its journey “to da moon.” Based on the monthly monetary data for May-2020, it is now at 27% and still rising rapidly. The following chart shows that the money-supply growth surge engineered by “Mississippi Jay” Powell* now dwarfs the earlier efforts of “Easy Al” Greenspan and “Helicopter Ben” Bernanke.

Anyone who thinks that this year’s monetary inflation moon-shot won’t lead to much higher prices for many things is kidding themselves. It has already fuelled the fastest 40% rise in the S&P500 Index in history, but unlike the other money-supply growth surges of the past 20 years the current episode also should lead to substantial gains in what most people think of as “inflation”. Not so much this year, because in the short-term there are counter-balancing forces such as an increasing desire to hold cash, but during 2021-2022.

Apart from its larger scale, there are three reasons that the money-supply growth surge engineered by “Mississippi Jay” should lead to much higher “price inflation”** than the money-supply growth surges engineered by his predecessors. The first is that although the Fed is still buying US government debt via Primary Dealers as opposed to directly from the government, it is crystal clear that the Fed is monetising the US government’s deficit. That’s why the Federal government is no longer even pretending to be concerned about the level of its spending and indebtedness. In effect, MMT (Modern Monetary Theory) is now being implemented in the US.

MMT is based on the ridiculous idea that there should be no upper limit on government spending/borrowing, facilitated via the creation of new money, as long as the CPI’s growth rate is below a certain level. It completely ignores all effects of monetary inflation apart from the most superficial. It also ignores the reality that government spending tends to be counterproductive because it is driven by political considerations and not market forces.

The good thing about MMT is that it should short-circuit the boom-bust cycle, in effect almost skipping the boom and going directly to an inflationary bust. This is because it lays bare the crudeness of the central bank’s monetary machinations. No longer is the central bank (incorrectly) perceived as finely tuning interest rates to keep the economy on an even keel. Under MMT it is seen to be pumping out whatever amount of new money the government demands.

The boom associated with this year’s monetary inflation moon-shot began in April and probably will end within the next six months. Actually, it might have ended already.

The second reason to think that this year’s money-supply growth surge will be followed by substantial “price inflation” is that the lockdowns of the past few months have damaged supply chains. This, combined with the shift away from globalisation, will lead to reduced supply and/or less efficient production of goods.

The third reason is supply constraints on important commodities. Firstly, this year’s lockdowns caused the mining industry to delay expansion plans and cancel new developments. Secondly, in labour-intensive mining countries such as South Africa, the requirement to implement social distancing following the return to work has made and will continue to make the mines less efficient. Thirdly, many small-scale commodity producers that together account for a significant portion of total supply have been put out of business by the lockdowns. Fourthly, the “El Nino” weather event of 2020-2021 and the Grand Solar Minimum that should start becoming influential in 2021-2022 probably will result in extreme weather volatility, which potentially will disrupt the supply of important agricultural commodities during 2021-2022. Lastly, due to the virus-related lockdowns and associated economic pressures there is heightened risk of war in the Middle East, implying heightened risk of an oil supply shock.

In summary, the latest flood of new money created by central banks will be more widely perceived to be “inflationary” than the other ‘money floods’ of the past 20 years. In addition, the latest money flood has occurred near the start of a multi-year period during which the production of many commodities and manufactured goods will be hampered. A likely result is substantial “price inflation” during 2021-2022.

*“Mississippi Jay” is the nickname we’ve given to current Fed Chair Jerome (Jay) Powell. The name links Powell with John Law, the roguish Scotsman (is there any other kind?) who, while residing in France in the early-1700s, engineered the Mississippi Bubble via a scheme that involved creating an extraordinary amount of new currency.

**We don’t like the term “price inflation”, because there is no such thing as an economy-wide average price level and because at any given time some prices will be rising while others are falling. However, we use the term because it is generally understood to mean a rising cost of living for most people.

[This blog post is an excerpt from a commentary published at TSI last week]

In most countries/regions, the money-supply growth rate bottomed in 2019 and by the beginning of this year was in a clear-cut upward trend. Then came the “coronacrisis”, involving widespread economic lockdowns and unprecedented central bank money/credit creation designed to counteract the effects of the lockdowns. A result was a veritable explosion in monetary inflation rates around the world during March and April (April being the latest month for which there is complete money-supply information). Here are some examples:

1) The combination of US and euro-zone money supply that we call G2 True Money Supply (TMS) was at a 10-year low in the middle of last year. It is now at an all-time high. This is by far the most bullish force currently acting on equity and commodity prices.

2) Early last year Australia was in danger of experiencing monetary deflation, but this country’s monetary inflation rate has since rocketed to an all-time high of 24%. This is not bearish for the A$ relative to other currencies and especially not relative to the US$ (we suspect that the A$ will trade at parity with the US$ within two years), because the A$’s exchange rate is influenced to a far greater extent by the commodity markets than by the local monetary inflation rate. However, it suggests that in Australia the prices of goods, services and assets will go up a lot over the next few years.

3) The Bank of Canada has been a little more circumspect than most other central banks over the past few months, but in response to the recent crisis it has done enough to boost the country’s monetary inflation rate to near a 10-year high. A year ago it was near a 20-year low.

4) We occasionally read articles that attempt to make the case that central bank money pumping does not lead to higher prices, with the situation in Japan cited as evidence. Japan supposedly is relevant because the Bank of Japan (BOJ) has been aggressively monetising assets for a long time with minimal effect on prices.

As we’ve noted many times in the past, prices have been stable in Japan because Japan’s monetary inflation rate has oscillated at a relatively low level for decades. Whatever the BOJ has been doing, it has NOT been pumping money at a rapid rate. Even now, in the face of additional monetary stimulus, the year-over-year rate of growth in Japan’s M2 money supply is below 4%. This contrasts with a US money-supply growth rate of almost 20%.

Therefore, the low rate of price inflation in Japan is in no way mysterious. It’s exactly what would be expected from an economy with a low rate of monetary inflation and some productivity growth.

In summary, outside of Japan the supply of currency is increasing at such a fast pace that there WILL be substantial price increases over the next two years. However, the price increases won’t be uniform. For example, due to a high unemployment rate the price of labour probably will be a laggard, and due to their relative supply situations the price of oil probably won’t rise by as much as the prices of uranium, natural gas, copper, nickel and zinc.

[This blog post is an excerpt from a commentary posted at TSI last week]

The rebound from the H1-2020 plunge into recession probably will look like a ‘V’, at least initially. This is not because conditions will become positive as quickly as they became negative, but because conditions got so bad so quickly that charts of economic statistics such as industrial production and retail sales will appear to make a ‘V’ bottom in Q2-Q3 of this year. However, the ‘V’ won’t mark the start of a genuine recovery.

The following charts show what we mean by “got so bad so quickly”.

The first chart shows that within the space of three months the Small Business Optimism Index collapsed from a level that indicated a high level of optimism to one of the lowest levels in the 34-year history of the index. The only other decline of this magnitude occurred during the 2005-2008 period and took more than two years.

The second chart shows that Industrial Production has just registered its largest month-over-month decline in at least 101 years. By this measure, even the worst months of the Great Depression were not as bad as April-2020.

Source: dshort

Source: Hedgeye

There are thousands of people who have lost their businesses — in some cases, businesses that they spent the bulk of their adult lives building — over the past two months as a result of the lockdowns. These people probably are feeling angry and/or devastated. However, we get the impression that the vast majority of people have accepted the lockdowns with equanimity. They haven’t taken to the streets to protest the economic destruction that has been wrought by their political overlords. Instead, they have shrugged off the most rapid decline in industrial production in history and a sudden rise in the unemployment rate from below 4% to above 20%. How is this possible?

It’s possible only because the government and the Fed have showered the people with money. The money that has been created out of nothing is acting like pain-suppressing medication. In effect, the government and the Fed have administered anaesthetic so that the patient felt no pain as vital organs were removed. Without this anaesthetic, the populace would not have remained docile as its basic rights were cancelled and its economic prospects were greatly diminished.

Money, however, is just the medium of exchange. It facilitates the division of labour*, but it does not constitute real wealth. For example, if every current dollar were instantly replaced by ten dollars, there wouldn’t be any additional wealth. The point is that the government and the Fed cannot make up for the decline in real wealth caused by the lockdowns by providing more money. All they can do is change the prices of the wealth that remains.

There will be a ‘V’ shaped recovery, but due to the destruction of real wealth stemming from the lockdowns the rising part of the V is bound to be much shorter than the declining part of the V. This will lead to a general realisation that life for the majority of people will be far more difficult in the future than it was over the preceding few years.

Returning to our medical analogy, eventually the anaesthetic will wear off and the patient will have to start dealing with the consequences of having lost a kidney, a spleen, a lung and half a liver.

*In the absence of money, a tomato farmer who needed some dental work would have to locate a dentist who needed a few crates of tomatoes.

[This blog post is a modified excerpt from a recent TSI commentary]

At around this time last month we noted that the Fed had pushed the year-over-year rate of growth in US True Money Supply (TMS)*, also known as the US monetary inflation rate, to a multi-year high of 11.3%, and that based on what the Fed subsequently had done the monetary inflation rate could reach 15%-20% by the middle of this year. With the monthly monetary data for April having been published last week, we now know that the aforementioned range has been reached already. As illustrated below, as at the end of April the US monetary inflation rate was close to 20%. Next month’s rate should be even higher.

This is banana-republic-style money creation, although it isn’t unprecedented for the US. The above chart shows that a near-20% monetary inflation rate also was attained in January-2002. Back then it was the bursting of the stock market bubble followed by the 9/11 attacks that caused the Fed to panic and flood the financial system with new money.

In a way, the shock to the financial markets resulting from the attacks by terrorists in September-2001 is similar to the shock to the financial markets resulting from the COVID-19 lockdowns. That’s despite the huge differences in the economic ramifications (the damage inflicted on the overall economy by the 9/11 attacks was minor and short-term, whereas the damage inflicted on the overall economy by the virus-related lockdowns of 2020 will prove to be major on both a short-term basis and a long-term basis).

The similar reactions of the financial markets (most notably the stock market) to the events of 2001 and 2020 firstly can be put down to the fact that both situations involved a sudden increase in uncertainty. Investors and speculators knew that the world had changed for the worse, but were ‘in the dark’ regarding many of the details. Secondly, in both cases there was an immediate and aggressive attempt by policy-makers to ‘reflate’.

Some of the results of this year’s monetary inflation moonshot should be similar to the results of the 2001 episode. In particular, this year’s explosion in the supply of US dollars should lead to a weaker US$ on the foreign exchange market (the Dollar Index commenced a multi-year bearish trend in January-2002 and probably will do the same within the next few months), a higher gold price, higher commodity prices and — eventually — higher equity prices.

The most important difference is that over the years ahead the economy will stay weak and, as a result, the unemployment rate will stay high. This is because flooding the economy with new dollars not only does nothing to make up for the destruction of real wealth caused by the lockdowns, it gets in the way of wealth creation by falsifying price signals and keeping ‘zombie companies’ alive.

*TMS is the sum of currency in circulation, demand deposits and savings deposits. It does not include bank reserves, time deposits or money market funds.