Since I read Dean Baker’s take on hyperinflation hysteresis, I have been taken by his epithet towards know-nothing Germans:
[Eduardo Porter] argued that:
“conditioned by memories of hyperinflation after World War I, they still fear higher inflation.”
Hmmm, “memories of hyperinflation?” Let’s see, we’re talking about a burst of hyper-inflation that took place in the early 1920s. If we say that someone had to be roughly 10 or so at the time to have a clear memory, then those with memories of this hyper-inflation would have to be over 100 years old today.
This point is worth noting, because hyperinflation is not something that any sizable number of Germans alive today actually experienced. For the most part, even their parents didn’t experience it. The Germans’ concern about hyperinflation is based on national myth, not their own experience.
Try to talk about macroeconomics, and you’re sure to encounter accusations that your policies would turn us into Weimar Germany; those wheelbarrows full of cash remain the ultimate bogeymen for many, despite years of being wrong about everything. As some of us have noted, however, there’s a peculiar selectivity in the use of Weimar as cautionary tale: it’s always about the hyperinflation of 1923, never about the deflationary effects of the gold standard and austerity in 1930-32, which is, you know, what brought you-know-who to power.
But that’s not the only piece of Weimar history that has gone missing; there was also the reparations issue, which as I noted yesterday has considerable bearing on the issue of how large a primary surplus Greece must run.
Thinking about this led me to an interesting question. We know that part of the reason large postwar reparations were such an unreasonable and irresponsible demand was the dire, shrunken state of the German economy after World War I. So how does Greece compare? The answer startled me:
Maddison Project, Eurostat
Austerity, it turns out, has devastated Greece just about as much as defeat in total war devastated imperial Germany.
Mr. Krugman, look at your graph again…
…the German economy was devastated prior to and during the outbreak of the war on 4 August 1914, the economic losses in the initial stages being nearly twice as steep as the loss after the armistice. Gives a new insight why the German military might have been ordered to launch a full-scale invasion of Belgium, France and Luxembourg eight days prior to the Austro-Hungarian invasion of Serbia (the conflict that supposedly triggered the entire war), doesn’t it?
The First World War and its aftermath are subject to numerous myths, none worse than what the strange assertions that monetary policy triggers hyperinflations. This, to borrow from Mr. Baker, is an international myth.
IM into the 21st Century
Hyperinflation rings the alarm bells of most professional economists, such as those that work for the Federal Reserve Bank in Dallas:
In his seminal work, Phillip Cagan defined hyperinflation as beginning when monthly inflation rates initially exceed 50 percent. It ends in the month before the rate declines below 50 percent, where it must remain for at least a year (Cagan 1956). Zimbabwe entered the hyperinflationary era in March 2007; the period ended when the nation abandoned its currency in 2009.
50% inflation MOM compounds to 12,875% annually, unless the continent is Africa:
During the 20th century, hyperinflation occurred 28 times, often associated with the monetary chaos involving two world wars and the collapse of communism (Bernholz 2003). Zimbabwe’s hyperinflation of 2007–09 represents the world’s 30th occurrence as well as the continent’s second bout (after a 1991–94 episode in the Congo).
Yes, there is a problem with the assertion concerning the Congo hyperinflation. The Dallas Fed has a convenient scapegoat for all 30 instances:
Bouts of hyperinflation are mostly accompanied by rapidly increasing money supply needed to finance large fiscal deficits arising from war, revolution, the end of empires and the establishment of new states.
Yes…but no. The monetary supply+fiscal deficit=hyperiflation is a common wisdom in economics, but history has a nasty habit of undermining this trope (and calling into question the math skills of Texan economists at the Dallas Fed):
|Rates of Inflation in Zaire, 1988 to 1997|
Using the Cagan values, only 1994 was a hyperinflationary year for the Congolese. There might be a reason that year was so tumultuous:
Congolese democracy experienced severe trials in 1993 and early 1994. President Lissouba dissolved the National Assembly in November 1992, calling for new elections in May 1993. The results of those elections were disputed, touching off violent civil unrest in June and again in November. In February 1994, all parties accepted the decisions of an international board of arbiters, and the risk of large-scale insurrection subsided.
Perhaps the Dallas Fed simply assumed 50% MOM equates to 600% annual inflation, which becomes problematic when considering the Zimbabwe hyperinflation. Let’s hear from the Texans first:
Uncontrolled government spending accompanied the weak economy. In 1997, authorities approved unbudgeted expenditures, amounting to almost 3 percent of GDP, for bonuses to approximately 60,000 independence war veterans. Efforts to cover the payment with tax increases failed after trade-union-led protests, prompting the government to begin monetization (printing additional money to “pay” for the expenditure). In 1998, the government spent another significant share of gross national product (GNP) for its involvement in Congo’s civil war.
The Second Congo War is mentioned almost derisively, when the horror of five million dead makes the moniker Africa’s World War far more appropriate. Only the First and Second World Wars were deadlier during the twentieth century.
But the issue of what 50% MOM represents also arises again. Both Congo and Zimbabwe saw inflation rates top 600% annually during the fighting between 1998 and 2003—is there any question why? Well, I would guess the Texan Feds would miss the correlation:
The dire economic conditions prompted a wave of emigration to neighboring countries, contributing to a population and labor force decline beginning in 2003.
Zimbabwe’s inflation rate first peaked at 623% in January 2004 before dropping to 124% in April 2005, the postwar austerity measures wiping out 10% of the Zimbabwean economy. But the Dallas Fed also makes an almost block-headed statement:
Zimbabwe emigration totaled 761,226, about 6 percent of the population in 2005. This number increased to 1.25 million in 2010, representing 9.9 percent of the population (World Bank 2008 and 2011). With a shrinking tax base and revenue that could not support expenditures and obligations, the government printed yet more money. Currency lost value at exponential rates amid an imbalance between economic output and the increasing money supply.
The Texan economists footnote this this article, but seem to miss its significance:
In the last five years, an economy already in recession contracted by 45 percent and unemployment reached 94 percent, according to a report by the UN Office for the Coordination of Humanitarian Affairs (OCHA).
How is it that a nation that has lost 10% of its population simultaneously only employs 6% of the remaining work force? What are they missing?
On 19 May 2005, with little or no warning, the Government of Zimbabwe embarked on an operation to “clean-up” its cities. It was a “crash” operation known as “Operation Murambatsvina”, referred to in this report as Operation Restore Order. It started in the Zimbabwe capital, Harare, and rapidly evolved into a nationwide demolition and eviction campaign carried out by the police and the army. Popularly referred to as “Operation Tsunami” because of its speed and ferocity it resulted in the destruction of homes, business premises and vending sites. It is estimated that some 700,000 people in cities across the country have lost either their homes, their source of livelihood or both. Indirectly, a further 2.4 million people have been affected in varying degrees. Hundreds of thousands of women, men and children were made homeless, without access to food, water and sanitation, or health care. Education for thousands of school age children has been disrupted. Many of the sick, including those with HIV and AIDS, no longer have access to care. The vast majority of those directly and indirectly affected are the poor and disadvantaged segments of the population. They are, today, deeper in poverty, deprivation and destitution, and have been rendered more vulnerable.
The 761,226 Zimbabweans that emigrated in 2005, similar to the number of people directly affected by Murambatsvina, were fleeing from the ZANU-PF crackdown which was targeted to destroy Zimbabwe’s informal economy…
Operation Restore Order started on or about 17 May 2005. Still underway as the mission left Zimbabwe on 9 July 2005, it has affected a wide cross-section of Zimbabwe’s urban and rural population. Initially targeted at street vendors and those operating in the informal urban economy, the Operation rapidly extended to the demolition of informal and formal settlements, and small and medium enterprises countrywide.
…which happened to represent the lion’s-share of the Zimbabwean economic activity:
Another approximation is based on the percentage of the active population engaged in the informal economy. Several authoritative studies indicate a steady growth in the share of the informal economy, from 10% of the labour force in 1982 to 20% by 1986/87, 27% by 1991 and close to 40% by 1998. As the formal economy is estimated to have shrunk by up to 40% over the last six years, it is safe to assume that the informal economy, at the time of the Operation was providing jobs and a source of income for at least 40% of the labour force, compared to 16% for formal sector employment and 44% for communal sector occupations, including farming. Interviews conducted with a broad cross section of the population tend to confirm that the informal sector has been, for all intents and purposes, wiped out. Assuming that 10% of this sector was still active at the time of the mission, the total population indirectly affected by the Operation would be 2.56 million.
Inflation did not cross the 12,875% barrier for almost two years, but prices proceeded upwards relentlessly after Murambatsvina commenced. For all intents and purposes, Operation Murambatsvina triggered the Zimbabwe hyperinflation. Horrific war contributes to the decimation of a combatant nation’s economy, which triggers a hyperinflation when military forces remove the most productive economic sector. Naturally, the Dallas Fed never mentions the economic and humanitarian disaster, instead blathering about controlling spiraling inflation:
Stopping Spiraling Inflation
Expectations play a major role in perpetuating higher prices during bouts of hyperinflation, and the effect of those expectations on money and inflation is amplified relative to other influences, such as the business cycle. To blunt exponential price increases, government finance must change in a credible way so the public believes there is real commitment to eliminating abuses that caused rapid inflation and currency devaluation. Past chronic inflation episodes have been stabilized through the adoption of an independent central bank, an alteration in the fiscal regime and by instituting a credible exchange rate stabilization mechanism. In most cases, price stability was achieved virtually overnight following exchange rate stabilization. For example, Hungary and Germany experienced average monthly inflation rates in the 12 months prior to stabilization of 19,800 and 455.1 percent, respectively. After stabilization, the monthly rates over a year’s time dropped to 1.3 and 0.3 percent, respectively (Vegh 1991).
Yeah, that’s not what happened. Germany in 1923 canceled the papiermark and replaced it with the rentenmark. Hungary issued the pengo in 1925 to replace the hyperinflated korona and later canceled the pengo in 1946 and replaced it with the forint. Zimbabwe cancels their currency in 2009 and replaces it with…nothing. New (or no) currency, no hyperinflation—like magic.
We Should Have Known All Along
The stories of the worst hyperinflations in history all run the same. Germany and Hungary in the Great War (the latter part of the Austro-Hungarian Empire at the time) engage in an aggressive, needlessly violent war that damn near destroys their respective economies. Hyperinflation has a trigger, in this case the occupation of the Ruhr starting in January 1923. It’s all over when each nation makes the wise decision to discard their hyperinflated currencies. Zimbabwe, it should be noted, experienced the exact same sequence eight decades later. Hungary, not to be outdone, is crushed under the boot heel of the Red Army in 1945, triggering the worst hyperinflation in history (and now plans to replace the forint with the euro, as if that has never had adverse effects).
The odd man out in this story is Greece. The troika has already smashed the Greek economy this decade. Well, at least they never were subjected to military occupation…
Causes of Greece’s Inflation
The main cause of Greece’s hyperinflation was World War II, which loaded the country with debt, dissolved its trade and resulted in four years of Axis occupation.
Next: The Need For Humility