There is a specter haunting our economic debate -- the specter of hyperinflation. A depressing number of arguments the past few months (and years) can be reduced to the following exchange: "We need more stimulus!" "If we keep spending, we'll just end up like Greece!" "Greece is mostly in trouble because they can't print their own money." "Great, you want us to print money and end up like the Weimar Republic!"
Fears of hyperinflation in the United States are almost certainly unfounded. I don't say that because I can see the future, but rather because we can all see the past. The countries that have suffered the pain of a worthless currency share very little with the United States. Here's a financial disaster tour of recent history's worst hyperinflation episodes -- in descending order -- that suggests we shouldn't lose much sleep about the dollar becoming worthless.
HYPERINFLATION HISTORY 101
Weimar Germany and Zimbabwe have both captured our popular imagination when it comes to money-printing ad absurdum, but post-war Hungary has both of them beat. By many, many orders of magnitude. Indeed, on an annual basis, Hungary's peak inflation rate was over 10,000,000,000,000,000 times more severe than Weimar's. Prices in Hungary doubled every 15 hours.
Hungary turned to the printing press with such unparalleled gusto because they thought the alternative was much worse. The war had destroyed nearly half of Hungary's productive capacity. Basic infrastructure had quite literally been obliterated. The government wanted to rapidly rebuild this lost capacity (and put people back to work), but it couldn't afford to do so. The occupying Soviets had burdened the Hungarians both with onerous reparations (this will become a recurring theme) and the bill for the occupation. Hungary was left with a colossal government deficit and no way to finance it. They printed the difference.
There was at least some kind of logic at work here. Even absent any printing, the large-scale destruction from the war meant that inflation was going to jump up. There were simply fewer goods for money to chase. If inflation was going to surge anyway, why not at least use it to repair the country's bombed-out infrastructure? Short answer: because printing money to pay your bills quickly spirals out of control. In Hungary's case, this happened to the tune of an annual inflation rate of 9.63x10^26 percent.
Unlike most hyperinflations, Zimbabwe's wasn't the consequence of war or revolution. It was self-inflicted. In 2000, the Mugabe government broke up the mostly white-owned farms that formed the backbone of the nation's agricultural sector into smaller ones. As a matter of social policy, trying to undo the enduring iniquities of the colonial era made sense. As a matter of economic policy, it was suicidal.
Foreign capital fled. The farms themselves were horrendously mismanaged. Years of drought didn't help, either. Zimbabwe's economy promptly collapsed, which, of course, worsened the government deficit. Mugabe turned to the printing presses. The world's first $100 trillion bill was born.
The economic consequences of the Versailles Treaty were dreadful. The political consequences were worse. Even before you-know-who took power.
German reparations after World War I were both economically impossible and politically fantastical. The treaty's unexpectedly savage terms shocked the Germans. They were determined to highlight just how absurd the treaty was by conspicuously failing to make their payments. And fail they did.
In 1923, the Allies decided to force payment at the end of a gun barrel. They occupied Germany's industrial heartland, the Ruhr valley -- setting the stage for Germany's final descent into monetary madness. German workers responded to the occupation with a general strike. The economy ground to a halt. Just about the only people still working were the ones manning the printing presses.
The Weimar government had previously sent inflation to eye-popping levels by having its central bank foot its bills. But the combination of money-printing and the so-called "passive resistance" to the Ruhr occupation changed the nature of the inflation. It became virulent. As it turns out, printing money and pretending to have a real economy when you don't actually have a real economy doesn't work.
Too much foreign borrowing can be risky. Overseas lenders might abruptly decide that they've been irrationally exuberant. They'll call in their loans overnight -- leaving the borrower starved for cash. Economists call this a sudden stop. It's what happened to Mexico, Thailand, and Korea in the 1990s. It's what happened to Greece, Portugal, and Ireland after the Great Recession. And it's what happened to Bolivia in the 1980s. Except instead of getting a bailout, Bolivia printed money. Lots of it.
Bolivia spent the 1970s borrowing large sums from abroad. This wasn't a problem as long as its foreign creditors were willing to roll over their loans. And they were willing to do so, until the early 1980s. Then, things changed. Bolivia's slowing exports scared away its lenders. Suddenly, Bolivia had to start paying back its mountain of debt.
Hyperinflation isn't always just a matter of government incompetence. It's a matter of desperation. It typically begins with an economic implosion. War and revolution are the usual suspects -- or, in Zimbabwe's case, an ill-advised land reform. The economic collapse begets a collapse in tax revenues. Perversely, this makes the government look like a terrible credit risk. Cut off from international lenders, the government is left with a gaping hole in its budget, and no way to fill it. The choice is between pain today from austerity or pain tomorrow from printing money.
It gets worse. These governments usually have piles of foreign debt to pay off, too. Whether it's from reparations or excessive borrowing doesn't matter so much. What matters is that big chunks of what cash the government does have is earmarked for foreign creditors. That's politically toxic in a society going through a collapse. For politically weak governments, the temptation to substitute an inflation tax for actual taxes is enormous.
Of course, we all know how this story ends. Much, much more money chasing much, much fewer goods sends prices into the stratosphere.
COULD IT HAPPEN HERE?
How are the United States' historic budget deficits, money-printing and depressed economy any different from the country's that have experienced hyper-inflation? The three-part answer is: (1) we don't have any problems selling our debt; (2) we aren't actually printing money; and (3) the United States is a highly productive economy that is nothing like bombed-out Budapest.
Let me unpack these one by one. Right now getting the markets to buy our debt isn't the problem. Getting enough debt for the markets to buy is the problem. Investors are so crazy to load up on Treasuries that they're actually paying us to borrow, taking inflation into account. But while we're currently getting free money from investors, Hungary circa 1945 was getting no money. It was an investment pariah. If Hungary wanted to rebuild its economy, its only recourse was the printing press.
Second, the United States isn't really printing money. At least not like post-war Hungary. Quantitative easing is usually described as "money-printing" but it's not really. QE involves the Fed buying longer-term bonds from banks. It simply swaps one asset for another -- in this case, cash for longer-term bonds. Unlike Hungary, the Fed isn't directly paying the Treasury's bills. This is a hugely important distinction.
Whatever money the Fed "prints" is stuck in the banks. That money isn't inflationary as long as the banks don't lend it out. What if the banks do start lending at a faster clip? The Fed can still effectively pay the banks not lend by, for example, raising the interest on excess reserves or require the banks to set aside more money. It would be shocking for the Fed not to pursue one of these options.
Third, the most important difference between us and post-war Hungary or Weimar is that our roads haven't been razed to the ground and half the country isn't striking. It's very difficult to have hyperinflation when you still have a functioning economy. Almost all examples of hyperinflation result from huge economic shocks that devastate an economy so much that leaders think printing money is the only solution to growth. As bad as the Great Recession has been, our GDP is already back to and above its all-time pre-recession high. As bad as unemployment is, more than 80 percent of the labor force is working. In Zimbabwe, 80 percent of the population was unemployed.
Let's conclude with a modest proposal for an economic corollary to Godwin's Law. The first person to reference Weimar's hyperinflation in an economic debate automatically loses.
LEARNING FROM THE PAST
The Cliff Notes version of how to avoid hyperinflation is not to print too much money. The more you print today, the more you'll need to print tomorrow.