International Man: Recently, there have been whispers about the Fed raising its official inflation target above 2%.
But before we get into that, we should define our terms.
What is the proper way to think of inflation and the Fed itself?
Doug Casey: First of all, the word “inflation” should be viewed as a verb, not as a noun. Inflation is an increase in the amount of money. This is why Bitcoin—which may have other issues as a money—is inflation-proof; it’s a mathematical certainty that no more than 21 million will ever exist. There are absolutely no limits to the supply of fiat dollars, however.
Inflation is one of the most misused words; few even think about the word’s actual meaning. What is inflation? “Well, that’s prices going up.” No, it’s not. To say that is to confuse cause and effect. Inflation is an increase in the money supply. “Inflation”, a rise is the general price level, results when the money supply is increased by more than real wealth increases.
Do you think I’m just making an obvious, common-sense point? Au contraire. For instance, the Wall Street Journal of Feb 13 featured an article entitled “Inflation Is Falling, and Where It Lands Depends on These Three Things.” In the opinion of the clueless reporter, the three things are “goods, shelter, and other services.” Nowhere does she reference the money supply as the cause of inflation. It’s what she was taught in school, and she stupidly perpetuates the notion.
Prices go up as a result of money printing. But most people believe inflation comes from out of nowhere, like a freak storm. They appear to think it has no specific cause—unless it’s blamed on the butcher, the baker, or an evil oil company. It never occurs to them that central banks—the Fed in the US—are directly responsible for creating money, causing prices to rise. In fact, in a perversion of reality, the public seems to believe The Fed “fights” inflation, because that’s what the Fed says. This is the opposite of the truth.
The Fed inflates the currency by buying the debt of the US government. When the Fed buys US government debt, it credits the US government’s bank accounts at commercial banks with Federal Reserve notes. The government can then write checks to pay for what it wishes.
At this point, however, the US government is approaching terminal bankruptcy with a federal debt of $31.5 trillion and $181 trillion of unfunded liabilities.
Most US government spending in the future won’t be funded through taxes or borrowing from the commercial markets. And certainly not by selling debt to foreign governments, who recognize it’s the unsecured liability of a bankrupt entity. They’re trying to get rid of it. How, therefore, will the federal government fund its spending from here on? Mostly by selling their debt to the Federal Reserve.
It’s actually worse than that, because we have a fractional reserve banking system where not only is there no distinction between savings accounts and checking accounts, but banks can loan out the same dollar numerous times, which compounds the problem.
I’m sorry to give short attention to many concepts here. That’s why books are written…
International Man: What do you make of the Fed’s arbitrary target of a 2% rise in the general price level? Why not 3% or higher?
Doug Casey: The Federal Reserve has been trying to create a little bit of inflation because, they say, “A little bit of inflation is good.” No, it’s not. Even a little bit of inflation is deadly poisonous. For two reasons: It creates the business cycle. And it destroys the value of savings—and saving is the basis of capital creation. People who say that a little inflation is a good thing are dangerous fools.
We should also remember that the US government’s official inflation numbers are very questionable. In my view, they’re only marginally more reliable than their equivalent in Argentina—a country whose numbers are completely political and laughably inaccurate.
They’ve come up with 2% as the correct amount to debase the currency every year. An oblivious and poorly educated public has been propagandized into believing that makes sense.
It doesn’t. The amount and value of money should be determined by the market, not by a bureaucracy.
During the 19th Century, the US used sound commodity money—gold—and the value of the dollar was not only stable, but typically went up every year. That encouraged people to save, because their money became worth more every year. That resulted in both a growing store of real capital and naturally low interest rates.
By contrast, in an inflationary environment, whether it’s 10-15% (the real number in the US right now), or 100% per year as in countries like Venezuela and Zimbabwe, or the 2% the Fed advocates, currency debasement discourages people from saving. And if you don’t save, you can’t build capital. And if you don’t build capital, you can’t make investments and you can’t improve the standard of living.
The 2% target is not only totally unrealistic, with the money supply being increased by trillions, but it’s a destructive lie. It makes the public feel everything is under control when the system is on the edge of collapse.
Since the creation of the Fed in 1913, the price of an ounce of gold has gone from $20 an ounce before 1933 to close to $1850 today. The gold price is an excellent indicator of how much the dollar has been debased.
International Man: Instead of officially changing the 2% target and damaging their credibility, couldn’t the government change how it calculates the Consumer Price Index (CPI) so that it will stay around 2% no matter what happens?
Doug Casey: The CPI has been totally corrupted over the years, mainly by changing definitions of what it entails. That’s why it’s interesting to follow the work of a website called Shadow Statistics, where John Williams calculates the CPI and other government statistics using the parameters of 40 years ago.
He’s found that if the CPI was calculated the way it was in the Reagan era, the actual reported CPI wouldn’t be 7%, but 15%. That makes intuitive sense to me. When I ask people whether they believe their lying eyes or the government statistics regarding the CPI, most feel prices are rising on the order of 15%. I think that’s conservative. The only good thing about it is that lies of that magnitude delegitimize the government itself—certainly not a bad thing, considering the philosophy of the people who now control the government.
I think consumer prices are going much higher—barring a catastrophic deflationary credit collapse, which is also possible in the highly unstable system we now have.
International Man: How would the situation look and resolve itself in a genuinely free market economy, and how does that compare with what you think is coming?
Doug Casey: Let me say something that I suspect most people have never thought about. Money should not be a function of the government. Why not? Because throughout all of recorded history, governments inevitably and always use debasement of the currency as a way to fund spending for what the rulers want.
It doesn’t matter if the system is called a “democracy”—which is another debased and misdefined word. In a real democracy, money would be a strictly market phenomenon, probably gold. Not a fiat paper system controlled by bureaucrats.
Whether you use gold, silver, copper, or Bitcoin, money is something the market should dictate, not the government. And which of those things, or something else that might come up, should be determined by the market, not coercion.
International Man: Suppose the Fed changes its official inflation target or cooks the CPI. What are the investment implications?
Doug Casey: You don’t want to hold dollars for the long term. Holding dollars is like holding burning matches. You only want to hold dollars for purposes of convenience and temporary liquidity.
As you create more wealth, you want to put it into things that won’t be too adversely affected by inflation, or ideally will profit from the government’s inflation of the currency. Over the very long run stocks—the ownership of productive companies—generally keep up with inflation. The same is true of gold and other commodities. It should also be true of Bitcoin, even though from a historical point of view it’s still in its early days.
If you really want to stay ahead of inflation, you want to invest your capital into productive businesses that will create wealth faster than the government destroys it.
You don’t want to own bonds. Franz Pick, who was the world’s currency guru a couple of generations ago, used to call government bonds “certificates of guaranteed confiscation.” He had dozens of defaulted bonds from various governments framed on his wall. He was correct then, and it’s an even more correct thing to say that today.
Reprinted with permission from International Man.