Renowed behavioural finance expert James Montier says investors claiming central banks’ QE policies will lead to hyperinflation are ‘bordering on the simple-minded’ and ignoring previous historical cases.
The GMO strategist and author of ‘Behavioural Investing’ debunks the myth surrounding hyperinflation in his latest market commentary.
‘Ask almost anyone familiar with the subject what causes hyperinflation and at least 95% or more will trot out the stock view of economists: it is central banks printing money to finance government deficits,’ he says.
‘To say that the printing of money by central banks to finance government deficits creates hyperinflation is far too simplistic (bordering on the simple-minded).’
He says investors warning over this potential outcome are toeing the wrong line.
‘It seems to me as if the standard view of hyperinflation is akin to a false memory. We have all heard that “central banks printing money leads to hyperinflation” so often that it must just be true. It is a simple, short narrative – exactly the kind that produces false memories.’
However, there is an alternative view of hyperinflation, says Montier, one he believes is much more credible.
‘This alternative viewpoint recognizes that money supply is endogenous (and hence that interest rates are exogenous), and that budget deficits are often caused by hyperinflation rather than being the source of hyperinflation.
‘So if “printing money” isn’t a helpful hallmark of the hyperinflationary experiences we have witnessed, what is?'
Montier says looking across the historical examples of hyperinflation, such as in the Weimar Republic in 1922, in China in the 1940’s and in Zimbabwe in 2007-09, several common characteristics stand out and are tell-tale signs hyperinflation will occur:
- Large supply shocks: often, but not always, wars of one form or another cause large supply shocks. Regime change is also often seen as a cause.
- Big debts denominated in a foreign currency: this practice leads to the devaluation of the currency, which in turn leads to the rising price level. Quantity theorists argue the reverse causation.
- Distributive conflict/transmission mechanism: ‘Neither exchange depreciation nor a budget deficit can account for inflation by itself. But if the rise in money wages is brought into the story, the part which each plays can be clearly seen’, writes Montier, quoting economist Joan Robinson.
‘Hyperinflation is not surely a monetary phenomenon. To claim that is to miss the root causes that underlie these extraordinary periods. It takes something much worse than simply printing money,’ adds Montier.
‘To create the situations that give rise to hyperinflation, history teaches us that a massive supply shock, often coupled with external debts denominated in a foreign currency, is required, and that social unrest and distributive conflict help to transmit the shock more broadly.’
On this basis, Montier argues that those forecasting hyperinflation in nations such as the US, the UK, or Japan are suffering from hyperinflation hysteria.
‘If one were to worry about hyperinflation anywhere, I believe it would have to be with respect to the break-up of the eurozone. Such an event could create the preconditions for hyperinflation (an outcome often ignored by those discussing the costs of a break-up).’
‘Indeed, the past warns of this potential outcome: the collapse of the Austro-Hungarian Empire, Yugoslavia, and the Soviet Union all led to the emergence of hyperinflation!’