Livinglies's Weblog

Fall of the Dollar + HYPER Inflation

The fix is out. The Fed’s last ditch effort using depression era authority to hold off Bear Stearns failure is all we need to know. Officials at the Fed admit publicly that what they are doing is not fixing anything. Economists have taken off their rose colored glasses and see a bleak landscape. The disaster is coming and there are things that can be done to soften or hedge the blows that are coming down the pike. 

Whatever part of society you are in, whatever your job or occupation or status, it is wise to study up on this, but even wiser to act now. The dollar is in free fall, “bank failures” are not being used except in code, but will soon become unencrypted. Inflation is about to take a toll unlike anything in our personal memory. Society is about to change. It’s not happening for the next generation either. It is here and now, a clear and present danger.  The risk we are talking about is a likelihood that inflation will rise to not less than 2-3% per month, most likely peak at 15%-25% per month and could spin out of control  equalling historic highs of 2500% per month or more. 

This is information for individuals, banks, non-institutional lenders, electronic fund transfer networks, gateways, intercept processors, card issuers, lenders, private companies and investors can either adapt or “die.” The concept of immediate settlement, electronic payments (and ATM) settlement overnight (or even within hours), check payments and cash payments must be re-examined from the perspective of hyper inflation — where the value of the U.S. dollar changes (downward, for the most part) by the hour. 

CHANGES IN BANKING: Only Point of Banking ATM (and to a much lesser degree) Point of Sale (POS) terminals that allow the merchant to issue currency from the merchant cash drawer can possibly adapt quickly to this very likely development. These terminals are very inexpensive, easy and inexpensive to operate and maintain, and perform all the same functions as their larger version bank ATMs. 

It might be possible that different currencies might be preferred in different parts of the country. On the East Coast it might be the Euro, on the West Coast it might be the Yen or Yuan, in the Southeast United States it might be the Brazilian Real or even the Mexican Peso, and in middle America it could be the Canadian dollar. These terminals exist in relatively small numbers throughout the United States, and are expanding rapidly in emerging nations all over the world for precisely this reason. The same patterns could emerge in other parts of the world. The existing electronic funds infrastructure is ill-suited to timely adapt to current developments.

As an example, take the worst hyper inflation in recent history where the German currency in the 1930’s was inflating at the rate of 2500% per month. It is possible the fall of the dollar could be worse because the inherent weakness of the dollar combined with the inherent absence of productive assets, combined with outright anger and resentment against the U.S. could and probably will be worsened by the usual “overselling” panic that always attends a crashing marketplace. This is not a prediction of 3000% per month or any other percentage. It could be as low as 1-2% per month. 

For educational and analytical purposes, let’s look at a hyper inflation rate of 3,000% per month. What does this mean? Basically 10% per day. If you buy a newspaper for $1 today, the merchant is losing value at the rate of 1/24th of 10% per hour, assuming straight line depreciation of the dollar. The merchant must pay for something or convert the currency immediately. If he makes 5 cents on the newspaper, and he waits one day before he spends the dollar or converts it to another currency, he makes no revenue. 

In fact, the value of the dollar you gave him has declined by 10% and is now worth only $0.90. If he promised to pay the newspaper publisher $0.95, the $0.05 he thought he was making is gone and now he has a $0.05 in negative revenue, let alone profit. If he is on a 35% profit margin, he makes no profit. His opportunity to make any money at all passed him by a few hours after he sold the newspaper to you. 

This requires fast action on his part. Even if he is successful at getting rid of the dollar you gave him within 24 hours, he is losing substantial money selling newspapers. So he raises his price each day by $0.10 per day, and the newspaper is similarly raising prices, by the end of the month he is charging $30 for that newspaper and praying for $1.50 revenue. Since all prices are going up, the increase to $1.50 represents not an increase in the value of his revenues or profits but only break-even, along with the insecurity of not knowing if he is raising prices enough to overcome the effects of inflation.

In the banking world this is called a credit component. It is one which the current players ignore because it doesn’t produce any real effect in an environment where inflation is not a significant factor in commerce, loans, or payments. But in a hyper-inflation environment, the merchant is not actually doing a cash transaction with you; in fact, he is giving you credit for the the value of the cash you give him and delivering merchandise or services based upon that credit. 

That is what is meant in public trust or faith in currency, something which is rapidly disappearing from the current landscape as it pertains to the U.S. dollar. If he is unable to to achieve full value for the cash you give him, then he will charge you to compensate him for the known prospective loss, plus an amount to compensate him for the risk that the mutual projectors (buyers and sellers) might be wrong.

The meaning for every individual is that every effort should be made to move toward a job or negotiation in your current job in which your compensation is tied to inflation. If you make $3,000 per month and your rent is $1,000, that is fine. But if the rent is tied to inflation, which it will be, and you get only $3,000 because your income is not tied to inflation, then in our model above, your rent could have increased to $30,000. Sounds ridiculous! But it has happened many times in history and several times in American history. 

Another meaning for individuals who own homes is that they are sitting on a veritable gold mine, particularly if they have a mortgage. First, even if your income does not go up with inflation, you will still be able to pay your mortgage payment. Here the bank takes the full loss from inflation, getting pennies in value on the dollar they bargained for when they set the terms of your mortgage. So stay in that house if you possibly can. 

Second, the value in dollars of the house is going to go up even if there is a decline in demand. So if the demand goes down 20% and inflation is up by 3000% (in our exaggerated —we hope — example), then your $400,000 house is now priced at $12,000,000 less 20%. Real estate brokers who receive their compensation as a percentage of sales price will see the dollars go up but they too will be stuck in the same cycle of the newspaper seller — what to do with the money when they get it and how fast can they do it? And by the way, if you sell that house, you are also in that same position as the newspaper seller and if you want some place to live you will be paying the same inflated prices. 

The message here for banks who give loans, issue credit cards, or even prepaid debit cards is clear. They must develop a mechanism acceptable to consumers that will protect the issuer of credit from losing money and in fact going out of business by lending $1.00 and getting back $0.03 WITHOUT A DEFAULT. It therefore behooves all issuers of credits to re-negotiate their loans with incentives to borrowers to accept an index to inflation, which we have been proposing for months. 

By reducing the principal that is amortized on the loan and cutting the payments so that it is irresistible for the borrower to stay in the house, the bank’s loan can be saved, the capital reserves can be preserved, and the financial markets stabilized. It is even possible that the dollar will stabilize or find some equilibrium. Most likely though, the Euro will become the dominant currency. This is a message for investors. Get out of U.S. dollar denominated “safe’ investments and convert to equivalent Euro and Asian investments whose currencies are NOT tied or pegged tot he dollar.

For the companies that process or handle payments, ATM transactions and credit transactions, they too must adapt to the new environment and possibly hedge with Euro or other currency accounts. Ironically payday loan companies might be the least susceptible to losses and might be the beneficiaries of outside investments since their loan cycles are so short. Hence their risk of loss is minimized by time and their ability to change loan terms to index on inflation is much easier. 

For the rest of the electronic data processors and networks, the problem is severe. Nearly all transactions are primarily based upon upon fixed charges (with some exceptions in credit and foreign exchange fees) per transactions rather than a percentage figure. Hyperinflation will put these companies out of business as their cost of business goes up with inflation and their revenues remain flat. Further, the settlement lag, while shorter than any other time in history could still negatively impact several of the players. 

A $100 purchase might be credited to a merchant within a few days. By then the value of the credit to his account is less than the value of the transaction performed. Unless intercept processors, gateway processors, networks (VISA, MasterCard, STAR, NYCE, COOP, CU24, Pulse etc) can provide some protection to themselves, their settlement banks, their sponsor banks, the merchant or ATM operator for inflation, we might travel backwards from an electronic payment society to a cash society. This will increase the demand for printed currency which the Bureau of Engraving and Printing is ill suited to satisfy. Increased demand for scarce dollars that are barely worth anything to begin with might ameliorate or aggravate inflation depending upon how it actually plays out. 

Most likely, as in New York, the Euro or some other currencies will be the currencies of choice which will pull down the value of the dollar further. ATM’s will have to issue Euro and/or other currencies. 

Only Point of Banking ATM (and to a much lesser degree) Point of Sale (POS) terminals that allow the merchant to issue currency from the merchant cash drawer can possibly adapt quickly to this very likely development. It might be possible that different currencies might be preferred in different parts of the countries. On the East Coast it might be the Euro, on the West Coast it might be the Yen or Yuan, in the Southeast United States it might be the Brazilian Real or even the Mexican Peso, and in middle America it could be the Canadian dollar. These terminals exist in relatively small numbers throughout the United States, and are expanding rapidly in emerging nations all over the world for precisely this reason. 

Dollar denominated accounts are going to be hit with Foreign exchange (Forex) fees while double denominated accounts (two or more currencies) will avoid the problem. A proliferation of a basket of currencies supporting a single depository or investment account is likely to occur to assist people in coping with the changed landscape of American society and economics. 

Government money managers, notoriously risk averse, as they should be, a slow to react, are like to get hit hard. If they do not hedge their agency or government or pension funds, the losses to fixed income individuals, the loss of services in local, state and federal government circles will be staggering and life-altering.

Whatever part of society you are in, whatever your job or occupation or status, it is wise to study up on this, but even wiser to act now. The dollar is in free fall, “bank failures” are not being used except in code, but will soon become unencrypted. Inflation is about to take a toll unlike anything in our personal memory. Society is about to change. It’s not happening for the next generation either. It is here and now, a clear and present danger.  The risk we are talking about is a likelihood that inflation will rise to not less than 2-3% per month, most likely peak at 15%-25% per month and could spin out of control  equalling historic highs of 2500% per month or more.