There hasn’t been such a contraction of the money supply since the 1930s, we’re in for a recession, says the economist
On the occasion of IMF director Kristalina Georgieva’s alarming prediction that the world is entering a recession, we sought out Prof. Steve Hanke, who heads the Institute of Applied Economics at Johns Hopkins University.
He was one of Reagan’s economic advisers. He is currently among the world’s leading experts on hyperinflation and currency boards, a regular author of the “Wall Street Journal”.
In November, the site focus-economics. com ranked the most influential economists based on their number of Twitter followers. Hanke is in third place, ahead of only Nobel Laureate Paul Krugman and Nate Silver, immediately behind him in fourth place is Nouriel Roubini. In sixth place is the other Nobel laureate – Joseph Stiglitz.
Prof. Hanke, John Greenwood and the former Managing Director of the IMF and President of the European Bank for Reconstruction and Development Jacques de Larosiere offered to prepare a free expert analysis on the transition of Bulgaria from the currency board and leva to the euro.
– Prof. Hanke, what should Bulgarians invest in in these stormy inflationary times?
– I don’t like to give investment advice unless I know the investor, his age, income, wealth, goals. In short, I’m reluctant to do it unless I know quite a bit of detail.
But last year I participated virtually in an investment conference in Sofia. I then reluctantly gave advice to the participants and recommended that they invest in lithium, a mineral that is used to make batteries that power electric vehicles. This investment turned out to be profitable.
The Lithium Index is up about 150% since I gave that advice.
This year, the only investment advice I will offer to my friends in Bulgaria is long-term: invest in land. In the long run, it is a safe bet. This is a type of investment that allows the investor to sleep peacefully and meets the
three of my investment rules: 1. Look forward, not back; 2. Avoid undue risk, embrace security; 3. Don’t gamble
(in the sense that investments are not gambling – note ed.).
And for Bulgarians with bank accounts: leave your deposits in Bulgarian levs. The lev is likely to appreciate against the US dollar next year. If you are more of a risk taker and want to hedge deposit risk, I would suggest keeping 75% of your deposits in BGN and 25% in USD.
– Is there a universal pill against high inflation?
– Inflation is always local, not a global problem. Look at the rates in 3 important countries like China, Japan and Switzerland – 1.6% per year, 3.7% and 3% respectively. The People’s Bank of China performs best.
It adheres to the Quantity Theory of Money aimed at controlling the money supply. As a result, it is not surprising that China has the lowest inflation rate among major countries in the world.
The Swiss National Bank has also adopted the Quantity Theory of Money and historically this has worked well. Currently, the rate of inflation in Switzerland is one of the lowest in the world – 3%. Most of what central bankers around the world say about “global inflation” is pure propaganda and economic nonsense.
– The US Federal Reserve (FED) says that money printing has nothing to do with rampant inflation. What do you think of this new theory?
– On September 8, 2022, in a Q&A discussion published by Cato (an influential think tank – ed.), Fed Chairman Jerome Powell said: “Monetary aggregates do not play an important role in the formulation of our policy.
And we don’t think they’re generally a good way to think about politics or inflation.” This claim is nonsensical and not based on data or analysis.
I agree with one of my old mentors, the great Prof. Gottfried von Haberler
According to him, such theses are meaningless. Here’s what he wrote in his 1985 monograph, The Problem of Stagflation: “First, let me make it clear that I fully agree with monetarists that inflation, including stagflation, is primarily a monetary phenomenon.
In the sense that there has never been significant inflation or stagflation, where prices rise by, say, 4% or more per year for 2 or more years, without a significant increase in money in circulation.”
– All of us who studied economics in the 90s know that the money supply affects inflation. Why is this theory so persistently now being denied by the Fed and the European Central Bank? What flaws do they see in monetarism to reject it entirely?
– Not one of the 416 economists employed at the Fed’s headquarters in Washington, where Democrats outnumber Republicans 48.5 to 1, were able to predict the spike in inflation.
Interestingly, the Fed did little more than follow the lead of President Joe Biden, who boasted in 2020 that the doyen of monetarism, Milton Friedman, “is no longer running the show.”
Unfortunately, the European Central Bank (ECB) and the Bank of England are just as incompetent as the US Federal Reserve.
– Could it be that everyone has forgotten one of the oldest lessons that printing money always leads to inflation?
– No, they haven’t forgotten it. They never learned it. For the past 30 years, most economists have been trained in post-Keynesian economic models such as the dynamic stochastic general equilibrium model. These models don’t even include money as a variable.
– The Federal Reserve has gone from one extreme of massive money printing to sharp contraction. What could be the consequences?
– Unfortunately for Americans, the Federal Reserve, with its mismanagement of the money supply, has dealt them a blow. First, increase the money supply, and now
in quantitative tightening allowed the money supply,
measured by the M2 aggregate, to shrink by a cumulative 1.5%. This has happened since March – such a contraction has not been seen since the Second World War. Before that, there were only similar reversals in 1929-1932 and in 1937.
As any student knows, these contractions in the money supply were followed by the Great Depression and the recession of 1937-1938. We can expect a major recession in 2023 with great certainty.
As for the fallout, thanks to the Fed’s mismanagement of the money supply, the average mortgage payment on a median-priced home has increased by a staggering 78% in just two years.
We know, given the Fed’s excessive tightening and the ongoing contraction of the money supply, that a recession is likely already in the works and will occur in 2023.
In fact, that’s exactly what the housing market is telling us—one of the best early warning signs of an impending downturn.
– In 2020, in an article with John Greenwood, you warned that US inflation in 2021 would reach 6% and possibly 9%. It ended the year at 7%, hovering above 8% this year. As soon as the Democrats came to power, the Biden team responded that your theory and that of the legendary Milton Friedman were out of fashion. You are now ranked as the third most influential economist in the world. Your theory so far leads to more accurate predictions.
– As someone who has traded international markets for 70 years, relying on the Quantity Theory of Money as the basis of my macroeconomic views, I am quite happy with the predictions derived from the models.
They are not always right, but in most cases they are right, not wrong. When I was president of Toronto Trust Argentina in Buenos Aires, that fund was the best performing fund in the world in 1995.
I have done many spectacular trading episodes and they were all based on the application of the Quantity Theory of Money.
– The ECB also printed billions until it ended this policy due to inflation. Will the recession overtake us?
– As I indicated, the recession is “baked” in the US and the same can be said for Europe, with the EU probably facing more serious problems due to the consequences and collateral damage related to the sanctions against Russia.
– EU politicians claim that the war raised prices, not inflation. Is this the whole truth?
– Unfortunately, EU politicians, who at best have limited knowledge of economics, talk a lot of nonsense. The US, NATO and EU war with Russia has raised the relative prices of some foodstuffs and energy.
But these relative price changes have not significantly affected overall inflation rates in Europe. Today’s high inflation rates in Europe are primarily a function of the ECB’s massive money creation in 2020.
– Are the EU and the US late with the measures against inflation – your forecast for the future?
– The EU and the US were late to the “inflation party” they hosted. In fact, they were not even aware of the fact that they were creating the biggest inflation in the last 40 years.
– In Bulgaria, the monetary aggregate M2 also rose, transferring a lot of money to the population. What could this policy lead to?
– Let’s look at Bulgaria’s money supply in more detail. In 2020, 2021 and 2022, the money supply measured by the aggregate M3 grew by 23.2%, 1.9% and -4.8% respectively.
With a typical lag of 12-24 months after the sustained change in the money supply, I would predict that the worst inflation related problems for Bulgarians are probably behind them.
– Do you have a forecast for Bulgarian inflation and prices?
– Given the typical 12 to 24 month lag between sustained changes in the money supply and inflation, I expect inflation to decline in Bulgaria in both 2023 and 2024.
My conclusion is in line with the consensus of leading forecasting institutions, which expect inflation in Bulgaria to be 8.6% in 2023 and 3.6% in 2024.
– What landing awaits the USA, Europe and Bulgaria – soft, hard or emergency with unforeseen consequences?
– Certainly tougher than Americans, Europeans or Bulgarians would hope.
– How can world finances be stabilized – restore the stability of the dollar and the euro?
– The US and the EU should reach a formal agreement that defines the stability zone – say $1.20 to $1.40 to the euro. When the dollar is weak, the ECB will be obliged to protect this zone of stability by buying dollars.
Likewise, the US Treasury would be required to protect the euro if it weakened by buying euros.
Central banks in most emerging markets produce volatile currencies and prices,
which create inflation. The answer then is that every one of these banks – perhaps a hundred of them from Albania to Zambia – should be closed and put into “museums”.
They should be replaced by currency boards like the one in Hong Kong. Under such an agreement, the currency board would issue a national currency that would trade freely at a fixed anchor rate – either the US dollar or the euro.
It will be fully backed by anchor currency reserves, and the locally issued currency will be its clone. In other words, periphery will not exist and stability will prevail. Long live stability!