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Default Is Coming On U.S. Debt
Hyperinflation and Kotlikoff’s Figures
by Gary North
Recently by Gary North: How To End the Fed, and How Not To
Hyperinflation is always a possibility for any national government or central bank. If a national government is running massive deficits, it can call upon the central bank to buy treasury bills or treasury bonds with newly created money. This digital money is transferred to the treasury, which then spends the money into circulation.
There have been cases of hyperinflation in the past which have become legendary. The most famous of all of these hyperinflations is Germany from 1921 through 1923. Simultaneously with that hyperinflation was a hyperinflation in Austria. These were not the worst cases of hyperinflation in history, but they were the worst cases in industrial societies. The worst case was Hungary for two years immediately after World War II. The second worst case took place a few years ago in Zimbabwe. Both were agricultural nations.
No other nations in Western Europe have ever experienced anything like the hyperinflations of Germany and Austria in the early 1920s. Their currency systems were completely destroyed. Farmers were able to pay off debts that had been accumulated prior to World War I by selling one egg and handing the money over to the creditor. This of course destroyed the creditors. It is generally believed that the middle class in both Germany and Austria suffered enormous losses. They had been creditors.
There have been hyperinflations in Latin America after World War II. One of the worst ones was in Brazil in the 1980s and 1990s. The statistics of catastrophic inflation are available here. This went on for two decades. I know of no other case of hyperinflation that lasted more than three years. This is why I regard Brazil’s inflation as the worst hyperinflation in modern history. The political authorities did nothing to stop it, and the central bank inflated. The devastation to the middle class was almost total. If people did not get their money into gold and silver and foreign currencies, they were wiped out. The country went to barter.
If this form of hyperinflation ever comes to the United States or any other Western industrial nation, it will lead to the complete destruction of creditors. It will mean the complete destruction of long-term creditors. Anyone who bought long-term bonds of any kind, anyone who invested in mortgages of any kind, anyone who is the recipient of a government pension, or anybody who is dependent upon Social Security and Medicare could not survive this kind of hyperinflation. It would always be paid off in money that is worth far less than when the debt was contracted. When we think of the delay in payments that already exists with respect to Medicare reimbursements to physicians, we get some idea of what it would do to the healthcare industry. The delay of 90 days would basically eliminate the debt.
DESTROYING CREDITORS
When we think of the traditional arguments in favor of hyperinflation from the government’s point of view, we think about the ability of the government to pay off creditors. As I will show, this argument no longer is valid.
It is valid for private corporations. Some large business that has issued a 30-year bond is in a position to pay off those bonds with money that is essentially worthless. The person who extended credit to the company did so when the currency had far higher purchasing power. Then comes hyperinflation. Most bonds allow the debtor to pay off early. This will destroy the creditors.
Wherever creditors exist, debtors are happy to repay their loans with money that has depreciated ever since the time that the loan was established. This is especially true if the loan had a fixed interest rate. If the rate of interest cannot be hiked by the lender, he is trapped in his debt. Long-term interest rates begin to skyrocket because of the effect of hyperinflation on consumer prices. New creditors demand a higher rate of interest in order to compensate them for the expected decline of purchasing power. But when hyperinflation speeds up the process of depreciation even faster, creditors who demanded higher interest rates find that the interest rate was not sufficient to compensate them for the decline of purchasing power. So, the next time around, creditors demand even higher rates of interest.
Every time the rate of long-term interest rises, the market value of the existing bonds declines. So, the creditor class, which had faithfully extended credit to businesses finds that it gave up money which was of considerable value, and now gets back money that is essentially worthless. This destroys the creditor class, which then proves unable to supply new rounds of credit to borrowers.
In the case of central banks that adopt policies that produce hyperinflation, there is no doubt that creditors are ruined if the lenders have the right to pay off the loan with the newly issued currency. If there are no gold contracts or silver contracts governing the payment of the loans, the creditor is helpless in the face of lenders who use the depreciated money to get out of their obligations.
