Inflation and the "stealth" default on US government debt

 

Peter Schiff is anathema to many mainstream economic pundits, because he persists in telling it like it is.  He isn't fooled by the tidal wave of unreasonably optimistic official pronouncements about the economy.  I don't necessarily agree with his proposed solutions, but he certainly analyzes our problems in a very down-to-earth, realistic way.

Here's what he has to say about our latest gross domestic product figures, and their relationship to inflation and our national debt.  Bold, underlined text is my emphasis.

GDP growth for the second quarter of the year came in lower than expected. Even so, the economy still appears to be experiencing solid growth. But a deeper dig into the numbers reveals a lot of smoke and mirrors.

The media’s focus was on the 6.5% number, so-called “real” growth. That number is adjusted for inflation. Minus inflation, the nominal GDP gain was about 13%. Peter said the divergence between these two numbers really puts the inflation level into perspective.

The deflator used in the GDP calculation was about 6.4%. That means almost half of the nominal GDP growth was due to inflation and not actual economic growth.

Comparing the GDP deflator with CPI reveals that “real” growth may even be overstated. If you add up Q2 CPI and annualized it the same way they calculate GDP, you get 9.35%. So, if you use the CPI as a deflator, you get annualized GDP at a mere three-and-a-half percent.

And as Peter pointed out, CPI doesn’t capture the real price level. Peter said if we could deflate the GDP using a legitimate measure of rising prices, we likely had an economic contraction in Q2.

"So, despite all this fanfare about all this economic growth, all of this economic growth is, in fact, an illusion that is created by inflation.  Inflation creates the illusion of economic growth even as the economy is not growing."

Breaking down the GDP components further pierces the illusion of real economic growth. Virtually all of the Q2 GDP growth came from an 11.8% leap in consumer spending. This accounted for 70.6% of total GDP, the most ever. It was the first time consumer spending has ever made up more than 70% of GDP.

Meanwhile, private investment – the GDP component that signals the potential for real growth in the future – was down 3.5%.

"So, we had no legitimate economic growth at all. All we had was people spending money. And one of the reasons that they spent more money is because all the things that they were buying cost more. So, it’s rising prices, not a growing economy, that is behind the gain in the GDP."

And where did a lot of Americans get the money that they spent?

From the Fed.

"The Federal Reserve printed the money and then the US government distributed all that printed money to Americans in the form of stimulus checks and enhanced unemployment benefits. So, we printed a bunch of money and spent it buying higher-priced stuff, and that is the reason that we had this big increase in GDP. But this is not a sign of a strong economy. It simply evidences a weak economy that is being camouflaged by inflation."

Peter also explained how this inflation also has implications on the $28.5 trillion national debt.

Using the 6.5% GDP deflator effectively wipes out $1.5 trillion of debt. It’s not officially defaulted on, but for all practical purposes, it’s been repudiated by the government.

"When the government creates inflation, and the value of money goes down, that means the value of their debt goes down. That means when the US government repays its creditors the money that it borrowed, creditors are getting back money that has less purchasing power. That is in effect a stealth default. Creditors are getting back less in real terms than they loaned, which is one of the main reasons the government is deliberately causing inflation because it has no other way to get out of this debt."

The federal government doesn’t have the money to pay off the debt. It doesn’t have the integrity to legitimately default. So it does a stealth default through inflation.

Of course, the debt is growing so fast now, the stealth default can’t keep up. The debt to GDP ratio continues to rise despite the fact that the government is repudiating part of the debt through inflation. Even while effectively decreasing the debt by 6.5% a year via inflation, the government is expanding the debt by some 15% per year.

"So, we’re still going deeper into debt despite the fact that so much of it is being repudiated by inflation — that is how big this problem is. So, in other words, if the US government really wants to use inflation to shrink the absolute amount of debt in relation to the economy, given how big the deficits are right now, we’re going to need a whole lot more inflation. And you know what? That’s exactly what we’re going to get. We’re going to get much more inflation than what we’ve already experienced. In fact, we’re already getting more inflation than the government is admitting to. But even that number is going to get much bigger."

There's more at the link.

I hate comparisons that say the USA is headed down the same road as Weimar Germany when it comes to hyperinflation.  In the past, I've said that's simply not valid, that the economic conditions and restrictions that forced Weimar Germany into bad economic choices don't exist for us today.  That was, and probably is, still true today.

However, I failed to take into account that bad choices by our financial and political overlords may send us down that same path regardless of modern economic conditions.  It's possible to choose Weimar, even though we're not forced to follow Weimar.

I'm beginning to get a very uncomfortable feeling that we may be seeing precisely that.  If so . . . our "powers that be" are going to be in for a hell of a reckoning when the American people realize what's been done to our future by their feckless, reckless, self-interested manipulation of the very foundations of our economy.

Peter