Hyperinflation with Its Causes, Effects, and Examples
Could You Survive Hyperinflation?
Hyperinflation is when the prices of goods and services rise more than 50 percent a month. The severity of price increases distinguishes it from the other types of inflation. For example, galloping inflation only sees prices rise 10 percent or more a year.
Hyperinflation starts when a country's government begins printing money to pay for spending. As the money supply increases, prices rise as in regular inflation. An increase in the money supply is one of the two causes of inflation. The other is demand-pull inflation. It occurs when a surge in demand outstrips supply, sending prices higher.
Instead of tightening the money supply to stop inflation, the government keeps printing more money to pay for spending. With too much money sloshing around the economy, prices skyrocket. Once consumers realize what is happening, they expect continued inflation. They buy more now to avoid paying a higher price later. It aggravates inflation, especially if they stockpile goods and create shortages.
Hoarding and stockpiling create shortages of durable goods, such as automobiles and washing machines. Even perishable goods, like bread and milk, become scarce as the economy falls apart. People lose their life savings as cash becomes worthless. For that reason, the elderly are the most vulnerable to hyperinflation. Banks and lenders go bankrupt since their loans lose value and people stop making deposits.
Hyperinflation sends the value of the currency plummeting in foreign exchange markets. The nation's importers go out of business as the cost of foreign goods skyrockets. Unemployment rises as companies fold. Then government tax revenues fall, and it has trouble providing basic services. The government prints more money to pay its bills, worsening the hyperinflation.
There are two winners in hyperinflation. First, are those who took out loans. They find that higher prices make their debt worthless by comparison until it is virtually wiped out. Exporters are also winners. The falling value of the local currency makes exports cheaper compared to foreign competitors. Exporters receive hard foreign currency, which increases in value as the local currency falls. Those are also ways in which regular inflation impacts your life.
The most well-known example of hyperinflation was during the Weimar Republic in Germany in the 1920s. First, the German government printed money to pay for World War I. From 1913 to the end of the war, the number of Deutschmarks in circulation went from 13 billion to 60 billion. The government also printed government bonds, which has the same effect as printing cash. Germany's sovereign debt went from 5 billion to 100 billion marks. At first, this fiscal stimulus lowered the cost of exports and increased economic growth.
When the war ended, the Allies saddled Germany with another 132 billion marks in war reparations. Production collapsed, leading to a shortage of goods, especially food. Because there was excess cash in circulation, and few goods, the price of everyday items doubled every 3.7 days. The inflation rate was 20.9 percent per day. Farmers and others who produced goods did well, but most people either lived in abject poverty or left the country. (Source: "Germany in the Era of Hyperinflation," Der Spiegel, August 14, 2009.)
The most recent example of hyperinflation is in Venezuela. Prices rose 41 percent in 2013, 63 percent in 2014, 121 percent in 2015, and 481 percent in 2016. In 2017, the government increased the money supply by 14 times. It is promoting a new cryptocurrency, the petrol because the bolivar lost 98 percent. It can't afford the cost of printing new paper currency. The International Monetary Fund expects prices to rise 13,000 percent in 2018.
In response, people are using eggs as currency. A carton of eggs is worth 250,000 bolivars. It only cost 6,740 bolivars in January 2017. Unemployment has risen to 21 percent, similar to the U.S. rate during the Great Depression. (Source: "Venezuela Throws in the Towel on Hyperinflation," ZeroHedge, October 27, 2016.)
How did Venezuela create such a mess? President Hugo Chavez had instituted price controls for food and medicine. But mandated prices were so low it forced domestic companies out of business. In response, the government paid for imports. In 2014, oil prices plummeted, eroding revenues to the government-owned oil companies. When the government ran out of cash, it started printing more. Rather than change its dangerous price and wage controls, President Maduro is continuing unsustainable policies.
Zimbabwe had hyperinflation between 2004-2009. The government printed money to pay for the war in the Congo. Also, droughts and farm confiscation restricted the supply of food and other locally produced goods. As a result, hyperinflation was worse than in Germany. The inflation rate was 98 percent a day, and prices doubled every 24 hours. It finally ended was when people started accepting other currencies instead of the Zimbabwe dollar.
The only time the United States suffered hyperinflation was during the Civil War. The Confederate Government printed money to pay for the war. If hyperinflation were to reoccur in America, the Consumer Price Index would measure it. If you check out the current inflation rate, you will see that it is nowhere near hyperinflation. In fact, it isn't even in the double digits. In fact, inflation is too low. Mild inflation is good for economic growth.
The Federal Reserve prevents hyperinflation in America with monetary policy. The Fed's primary job is to control inflation while avoiding recession. It does this by tightening or relaxing the money supply, which is the amount of money allowed into the market. Tightening the money supply reduces the risk of inflation while loosening it increases the risk of inflation.
The Fed has an inflation target of 2 percent per year. That's the core inflation rate, which leaves out volatile oil prices and gas prices. They move up and down rapidly depending on commodities trading. That affects the price of food that trucks transport long distances. For this reason, the CPI also removes food prices from the core inflation rate.
If the core inflation rate exceeds 2 percent, the Fed will raise the fed funds rate. It will use its other monetary policy tools to tighten the money supply, and lower prices again. Some experts say that the Fed's interventions to lessen the recession will cause hyperinflation. That is not a real threat since most of the funds the Fed pumped into the banking system sits in bank reserves. It has not gone into circulation, and therefore cannot cause hyperinflation. If the banks start to lend too much, the Fed can quickly raise its reserve requirement and lower the money supply.
Despite the rarity of hyperinflation, many people are still worried about it. So, if it were to happen, what should you do? There are three ways you can protect yourself from any kind of inflation. Sound financial habits would help you survive hyperinflation.
Second, keep your passport current. That's in case of hyperinflation in your country makes your standard of living intolerable.
Third, ensure that you have a wide variety of skills and talents. If you need a wheelbarrow full of cash to buy a loaf of bread, you should know how to bake bread. Hyperinflation makes a bartering system necessary when money is useless. A broad range of practical skills gives you an advantage when trading.