On Exporting Deflation

Returning to our characters of a few weeks ago, we remember that Bob and his country had increased the supply of waffles thus making the export of Bob’s organic grass-fed butter cheaper. This happens because other countries like Nigel’s can now get more waffles on the pastry currency market and can buy more of Bob’s butter. There is a slight (or not so slight in our example of doubling the waffle supply just so Bob could sell more butter) inflationary pressure in The Land of Guns and Large Border Fences. Another effect of this decision is a slight deflationary pressure in Nigel’s Land of People With Below Average Dental Hygiene (LOPWBADH).. The reason this is so is because of the connectedness of the two countries via the pastry exchange market. The Nigel’s clotted cream now costs more to export it to Bob’s country. On the surface this looks inflationary because the prices went up. But when thinking about inflation or deflation, it’s important to consider both prices and demand. Because Nigel will now sell less clotted cream, he may have to lay off Colin, his dairy manager. Colin may then have to get a lower paying job which means he has fewer crumpets to spend. This lack of demand on a broader scale leads to deflationary pressures.

This lack in aggregate demand is a side of the inflation-deflation discuss that you’ll rarely see in financial press because it’s the part of the equation central banks have almost no control over. We’re currently seeing this in Euroland where the economies of the monetary union have been under significant downward pressure for months as unemployment remains stubbornly high in many countries. When you don’t have a job, you don’t buy either clotted cream or expensive imported grass fed butter. The continued deflationary pressure can quickly spiral downwards. Once upon a time, deflation was a normal part of the economic cycle and when every major currency in the world was tied to a hard asset, typically gold, there was a general deflationary pressure because you can’t increase the money supply without increasing the production of the hard asset. These days, with no country tied to a hard asset, deflation is supposedly a thing of the past (though the time may be returning as the Chinese government has been buying gold in large quantities, another fact you won’t see mentioned in the financial press). And in fact, deflation is a terrifying prospect for governments and citizens that are heavily indebted. During deflation, the cost of debt rises as the currency appreciates.

Imagine a scenario where 50% of your income goes to servicing your credit card debt. What happens if you suddenly make less money or if the interest rates rise? Big trouble, that’s what happens. Now your debt to income ratio goes up and you either have to do without things or begin to think about defaulting on the debt. Our reliance on debt as a society both consumer and government means deflation is extraordinarily dangerous. For example, it takes half the tax revenue of the country of Japan to service their public debt. What happens if interest rates rise in Japan? Suddenly, they struggle to pay their obligations. That’s why they (and many other countries) can’t afford to let interest rates rise. Their answer is to adopt a policy of zero interest rates by manipulating the market with made up money.

Europe is currently on the precipice of deflation. To fight it, the European Central Bank has announced a $1.3 trillion (give or take a euro or two) stimulus program aimed at increasing the inflation rate and stabilizing the fall in prices. Leaving aside whether this will even work, what effect does this have on other countries? This intentional devaluing of the Euro will lead to stronger currencies in the trading partners of Europe. Those stronger currencies now have to contend with the deflationary aspects which is exactly what is hoped for by the Eurozone. This beggar thy neighbour approach eventually causes other countries to retaliate leading to a currency war which many people think we are currently in. This is the meaning of exporting deflation.

So how is the problem actually solved? A decreasing reliance on debt is the first start. In normal times (like the 1800s) deflation was part of the business cycle. As deflation would occur, people, businesses and countries would deleverage, reducing their debt. Eventually, the economies would cycle back to inflation. In today’s world, deflation can’t even be allowed to occur because of the debt levels of countries. The goal is permanent growth because without it, we can’t pay our debts. But permanent growth funded by increasing debts is a fantasy world that doesn’t have a happy ending. A country like Japan has no choice but to try and print money (the Bank of Japan currently buys almost all of the country’s public debt) to service their debt and increase inflation. This is a grand experiment of our central banks unseen before in history. In the short term, it means the Japanese yen will continue to lose value to the dollar and the European stock markets are likely to increase just like the US stock market went up over the past several years during our own quantitative easing. In the long term, it’s anyone’s guess. What happens if Japan defaults? What happens if the ECB’s trillion euro package doesn’t work? At some point, the levels of debt have to be reduced either by the difficult process of deleveraging or by default. Neither will be pleasing and the farther down the road we kick the can, the harder it will get. Eventually, the road will end on a cliff and we may all just tumble over it.

What I’ve Been Reading

Part of my morning commute usually involves catching up on Twitter and most recently the financial information coming out of Zero Hedge along with a couple of other sources from Maudlin Economics. Many of these articles probably don’t warrant a full blog post but I thought I might start aggregating them on Sunday mornings with any thoughts I had. This has the potential to happen only this Sunday but it’s good to have goals.


Mara has apparently been reading every article on the Atlantic lately based on my inbox but this one caught my eye. A certain faction of conservatives, namely goody goody two shoes in Nebraska and Oklahoma are fighting Colorado’s marijuana legalization saying that the states have no right to preempt federal drug laws, the irony being that it’s almost always the conservatives who yell the loudest about federal encroachment on their rights when it comes down to health care, welfare or anything else that might help people who actually need it. In this instance, the issue is being fought brought by law and order type conservatives who don’t like that citizens of those two fine states are going to Colorado to buy their pot. The issue here that the article highlights is that the states are under no obligation to enforce federal laws passed by Congress that are too sweeping for the feds to enforce on their own.

Federal drug law has always relied on the states for enforcement because the feds don’t have the manpower to enforce it. States go after little dealers in the system (which is why our incarceration rate has quintupled since Reagan’s misguided and disastrous drug war went into effect. States throw people in jail for non-violent possession crimes while the Feds can go after the traffickers. However, the states are under no obligation to actually do this and in the case of states like Colorado, can actually pass laws that are inconsistent with that. Thinking of it another way, if Congress passes laws that are too broad in scope, the states are in no way obligated to fill in the gaps. This is actually a good thing for democracy as it keeps an important check on federal power. It will be interesting to see how the suit of Nebraska and Oklahoma against Colorado proceeds. If the conservative side wins, we will have set a precedent for removing one of the last checks on Federal power and take a big step farther down the path of centralized government.


This week, the Swiss National Bank (SNB) decided to end its 3 year old cap on the franc to the euro and let the market move freely in relation to the franc’s value. In response, the franc soared in value related to most major currencies, the euro being the biggest move where it appreciated 17% or so. The cap was originally put in place back during the last financial crisis when the SNB decided to limit the volatility of its currency. And so for years, the franc has been exceptionally stable against the euro. The mechanism for how this was done is beyond the scope of this post but the short version is that the Swiss would print francs and buy Euros to support the cap. By doing this they acquire lots of Euros in their foreign asset fund which seemed like a good idea at the time because the Euro was one of the strongest currencies around.

Fast forward to 2015 and suddenly the Euro is a mess. We’re talking more and more about a Greek exit from the euro which is a total unknown. Deflation is sweeping Europe which is a BAD THING in the grand scheme of things for an increasingly indebted world. On Thursday, the European Central Bank (ECB) will almost assuredly begin its own qualitative easing where it floods the market with Euros to fight the deflation. All signs are pointing to a weakening Euro and there is no end in sight. Imagine you are the SNB holding a bucketful of Euros and you might see why they want to bail out on dragging their own currency down with the Euro. Of course, this move has lots of implications. On a immediate level, allowing the franc to appreciate is bad for Swiss exports. In the ongoing currency wars, countries try to improve their economies by weakening their currency which typically increases exports. So why would the Swiss do something to actively hurt their own exporters? For one, they may have decided they don’t export that much stuff to the EU anymore and in fact they don’t. With the exception of Germany, the only country in the EU doing well (also a topic for an entirely different post), Euro dominated countries don’t account for a big chunk of Swiss exports. Instead, economies like Japan, the US and China are the ones buying expensive Swiss watches and fancy cheese.

Because Switzerland never joined the EU, they now have the flexibility to pivot their economy and make it less dependent on the disaster that is unfolding across Europe. That is what they are probably doing. One of the interesting side effects of this move is how it can roil markets. That’s because in our over leveraged, low interest rate financial system, investors are always reaching for yield. One strategy is to trade in a currency that has low volatility like the franc. Firms were happy to loan francs to day traders at highly leveraged rates (loaning 50 francs with only 1 franc as collateral is leverage). They could do this because over the last two years, the franc had an average volatility of .1 percent. It seemed totally safe. Until it wasn’t when the franc got really volatile this week. Everest Capital, a hedge fund in Miami, shut down a $830 million fund that hemorrhaged cash. Other hedge funds are in the same boat.

The takeaway from all this is that times, they are a changin’ in 2015. The dollar looks to get stronger as the EU begins fighting deflation. Even in the US, prices are falling and retail sales aren’t too great. In looking at retail sales, if you remove auto sales, this Christmas season was the third worst this century meaning only the Christmases of 2001 and 2008 were worse. Mmm, that doesn’t sound like a recovery to me. That sounds more like the US consumer is continuing to deleverage in an attempt to get their financial house in order. And when the US consumer doesn’t buy cheap Chinese crap, China’s economy gets sluggish. And when that happens, well, who knows what the end result is.

If you have a perverse affinity to monetary policy and its effects on our global financial system, it should be a fun year.


Apparently the people who lived in our house for the last 50 years didn’t ever want a back yard and had no fence. With a road behind us that cuts through from one major street to the other, it felt like we lived next to a freeway at times. This week, we had a fence put in which has also allowed the garage to be cleaned out since it was holding all the lawn furniture. It’s starting to feel more and more like we don’t live in a homeless shelter.


On Maintenance And Repair

When I was a kid, not so many years ago geologically speaking, I found a .22 rifle in the barn at my grandparents farm. It didn’t really work and it was hard for me to ascertain exactly why given my rudimentary gunsmith skills as a 13 year old. But I didn’t have a .22 rifle and it seemed to me that if I could only figure out how to make it work, that omission in fate’s plan could be altered. So I asked my grandfather if it was ok if I tried to make it work again. To his credit (though the overprotective parents and governmental agencies of today would probably disagree), he agreed telling me only to “be careful where you point it.” So I went about finding the screws that held it together, took it apart, cleaned things, put it back together, loaded it, pointed it in the general direction of an innocent tin can and pulled the trigger. Much to my surprise, it went off with that satisfying .22 plink though I’m sure the can emerged unscathed. However, the action did not feed a new round into the chamber.

So I unloaded it and went about trying to figure out how to make that work. Again having no idea what I was doing but with general 13 year old’s understanding of friction, I took the bolt out and oiled what I assumed to be a mechanism related to the stuck bolt. Somehow all the pieces went back together, the gun was reloaded, the trigger pulled and this time the bolt got the second round loaded about halfway. I repeated the process, toying with something new, repeating it about 3 times if I recall correctly. Finally, I figured out something through trial and error and upon firing a round, the bolt slid back and forward completely with a solid click. Suddenly, I had a .22 rifle.

I recall that event as an exceptionally satisfying moment. Something had been broken and I had fixed it. I seem to have a strong inclination for fixing. Broken things offend my sense of reality. I have a particularly challenging time at Christmas when I pull light strings out of the box knowing half of them will be worthless. Taking something that is broken and making it work again is an exercise in observation, attentiveness, trial and error, patience and an attitude unwilling to accept that fact that things break.

This all comes up as I read Shop Class as Soulcraft: An Inquiry Into The Value Of Work. Like so many of the beautiful things in life, I ran into this book serendipitously as I browsed in the Dallas Public Library online catalog. The book is a philosophical examination of our devaluation of the manual trades seen through the lens of removing shop class from the public education. For those of my readers who don’t even know what shop class is or was, once upon a time in a land not so far away, our education system was more rational. Knowing that not every student was bound or even suited for college, classes were taught in secondary school that readied students for other careers. I took home economics and shop class in junior high, two classes the kids of today probably have no conception of. I distinctly remember building a flour scoop out of tin that my mother uses TO THIS DAY. I built a tack hammer out of steel rods in shop that 25 years later hangs on a peg in my garage and is at least occasionally used. I remember learning how to balance a check book and make biscuits in home economics. Apparently, these critical skills aren’t even taught in our education system anymore. Shop was a way for the mechanically inclined to learn about drill presses and table saws and lathes. It provided the foundations of the manual trades like plumbing or electrician. Somewhere along the way, we decided that those trades weren’t fit for our kids and we are systematically removing the classes of shop and home economics from our educational system. We look upon blue collar jobs with a mixture of disdain and pity until our toilet overflows and then we just desperately want someone to make it go away.

One of the first ideas in this book is the ethics of maintenance and repair. We live in a consumerist society where everything broken (and many things that aren’t!) are thrown away. We rush out to find a replacement to take its place and soothe the existential anxiety in our psyche. The idea of maintaining something through regular care and attention is a lost art. This value loss is evident throughout our society not only in our constant need for something new to buy but in our inability to maintain our bodies, our government, our financial state and our psychological well-being. My grandfather would have no more thrown away something broken that might be fixable than he would have bought water in a bottle at a convenience store. Of course, this meant there was a lot of broken shit around the farm but it also meant that his 13 year old grandson would have the chance to fix a .22 rifle that had sat in the corner of the barn for years. It also meant that he could run into a problem and through self-reliance, come up with a solution because he was attuned to the inner workings of things as well as the true cost of replacing them. We no longer have that attenuation nor that self-reliance as values. In fact, we are bombarded daily about replacing the things we already have and that function perfectly well. The ethic of immediate gratification has been drilled into us and we have begun to accept it as fact. It is difficult to logically question the slightly uncomfortable feeling I get watching a Ford F-150 ad that subconsciously encourages me to replace a perfectly working car. It is even more difficult to enjoy what we have and nurture it.

Yet the satisfaction that comes from fixing something broken or creating something new out of existing parts is qualitatively different than the satisfaction of replacing it. Buying something provides a brief surge of dopamine and pleasure that fades rapidly as we grow accustomed to the item. Fixing something boosts esteem, confidence and understanding. Throwing things away is a pervasive new ethic we have only recently acquired, one driven by an omnipresent advertising industry and an economy that can only function with regular and extensive consumption. We are told that consuming leads to happiness and many of us no longer are even capable of fixing something broken. Even when we desire to, we’re often thwarted by the object in question that has been designed in a way to prevent maintenance or repair. As an example, there at least some models of Mercedes Benz with no oil dipstick.

This consumption ethic runs deeply in our moral system as we now find it easier and easier to throw almost anything away from TVs to spouses. We don’t even notice that we do it many times. I recently went to lunch with Mara and some friends and we poked fun at the idea our grandparents would wash ziploc bags without considering the implications of our readiness to cast aside something used a single time. We do this because we think it makes our life easier and in fact, it probably does. But nothing fulfilling was ever easy and we do not replace the time gained from throwing away ziploc bags or broken lawnmowers or perfectly good TVs with time spent on activities or relationships that fulfill our soul. And then we complain on social media about our inability to be happy. The irony is immense.

In my industry of software development, the job no one wants is “maintenance developer”. You’ll never see that on a resume or a job listing. You try not to tell candidates there may be a great deal of maintenance involved with the position while at the same time trying to discover in the interview if the potential candidate has difficulty doing maintenance. Maintenance and repair of any thing whether it’s a car or a software system or a firearm requires the curiosity to discover how the system works, the patience to fight through all the things that don’t fix the problem, the vision to put yourself in the shoes of the original creator and an appreciation for existing work that many people no longer carry. Software developers from the consumerist society disdain maintenance work and are quick to push for a rewrite or development of a new system. Maintenance is dirty, difficult work that has been lessened in my industry and our culture, not necessarily in that order. Yet the developer who can apply a mechanic’s mindset to existing systems is almost always in demand much like mechanics or plumbers or electricians in the material world. Everything around us will continue to require maintenance and eventually, the mindset and culture focused on replacing that which works perfectly well will break down irreparably.

Our cultural and personal ethos, whether considered or silently adopted, is a function of our belief system where the inputs are what we consider valuable and the outputs are happiness and fulfillment. Our current ethos is maximized to provide the most short term happiness while building up physical, financial, psychological and societal debt we hope to never deal with. Our belief system has changed over the past 40 years for a plethora of reasons. We no longer are a rural society where each family had to be capable of providing for itself. We created a consumerist society by moving manufacturing jobs overseas in pursuit of the cheapest method of production. We pushed for a one size fits all education system where a college degree is the pathway to a career which devalued an apprentice or trades school path. The cost of things is our only value function where we decide on everything based on its price never considering the long term attributes of quality, ease of maintenance or effect on the society at large. We have a laser-like focus on the short term and our own immediate happiness which has tremendous negative effects on the debt we carry personally, emotionally and societally.

What can we do to change this? For one we need to reconsider our attitudes towards the future of work and our disinterest in the manual trades. We will always need people who work with their hands and allowing kids to find their way into those careers should not be discouraged. Instead of free junior college for everyone, the President could provide primary funding for apprenticeships and shop classes. Of course, that’s never going to happen but continuing to push a model that believes everyone is fit for college and should get a degree solves nothing. Our problem isn’t that we’re undereducated, it’s that many of our young people are loaded with debt with no hope of ever paying it off, all for a piece of paper that they are discovering does little for them in a world where the middle class is slowly being eroded.

Second, from a personal level, we could be more aware of what we throw away. Adopting a more Stoic philosophy and focusing on being happy with what we have will go a long way towards eliminating the trash culture we have. It will have negative impacts on our consumerist society but we need to change that as well if we hope to ever have a real recovery that isn’t just the stock market going up.

Last, develop an appreciation for what is required to maintain and repair those things we have chosen to bring into our lives. Begin to notice the desire to replace our possessions with newer shiny possessions and question it. What causes me to want a new TV when I have a perfectly good one? What causes me to pay $70 for an oil change when I know exactly how to do it myself and it requires only slightly more time?

In an unhappy, narcissistic world focused on consumption, one of the fastest ways to finding meaning lies in a return to an ethic of maintenance. Replacing the fleeting, ephemeral pleasure of the new with the long lasting satisfaction derived from fixing or creating something is a lofty and noble goal. It requires more time, effort and dedication but in return provides long lasting relationships and a greater understanding of those things we choose to bring into our lives. And maybe, just maybe, it will give us fodder to write blog posts about a curious kid with a broken gun and a grandfather with a mechanic’s mindset. I think I’ll go pull out that old .22 and see if I can’t give it a good cleaning. It’s squirrel season and a walk in the woods with my grandfather’s gun might go a long way towards easing the soul.

On Defining Goals

I recently read an article in Garden & Gun (an excellent magazine if you love the culture of the South) on three women who returned to their family farm to make a living off what they could grow and create from their own labors. One of the women was a musician who had struggled through a large part of her life and found upon returning to a simpler life that she could escape from what the author called “hobbling introspection”. This phrase struck a powerful chord with me as I often times find myself hobbled by introspection and navel gazing. Over the past few days, I’ve been thinking about goals and resolutions and growth and the means to accomplish things. I find that occasionally the focus on such things lapses into hobbling introspection and little or nothing comes from the exercise. The question is “how best to avoid that?”

In the article, the woman returned to the land which can easily be translated into “started having to get up at 5 in the morning to milk the damn cows”. Waking at 5 AM for the physical labors of a farm leaves little time to worry about the existential meaning in your life. Having just moved back into the big city, I probably won’t be able to get a cow that needs milking anytime soon. Other people know that having a family provides. A crying child is just a powerful motivator as a full udder depending on the perspective. While that’s still an option, it’s probably not happening in the next 9 months for sure. And so those of us with no farm and no kids but a desire to quit navel gazing and wasting time introspecting are left to fill the time on our own.

Which is why some of us define goals/resolutions I think. My goals for the new year have almost always been about growing and learning as well as gaining new experiences. Two main problems come up with goals like that. One is making them specific enough to be actionable. Goals that are nebulous are typically difficult to implement so over the past few years, I have started having goals like “Spend 180 hours on languages”. This is an actionable goal but it brings up the second problem and that is tracking progress. Growth requires direction and if you can’t know that you are moving in the right direction the effects are lessened. Because so many of my goals are countable, it would help to have an activity tracking tool. A quick Google search gives me 85 million possibilities so that should fill my time for the next century. Still, it’s important to have a way to know you are on the right track. Last year, one of my goals was to spend 180 hours on The Sports Pool Hub. I didn’t track my time at all but I’m pretty sure I accomplished that. Still, it would be nice at the end of 2014 to say “I actually spent 200 hours on it and my, that sure is rewarding”. Without the confirmation that the goal has been reached, we lose the largest effect of establishing goals, the feeling of reward.

This makes me think of a book I read last year (2014 goal: read 12 books. I made it to 11), The Power of Habit. It’s an interesting book that looks at the habits of individuals, companies and societies. The development of habits in individuals was the most interesting to me and is most relevant to accomplishing goals. In the book, author Charles Duhigg details what it is that causes us to develop habits, good and bad. By analyzing this development, he gives us tools for breaking bad habits and replacing them with good ones. This also leads to noticing how more and more of your behaviors are actually just habits that you have fallen into. There are three main components to a habit.

The first is the cue. Every habit starts with a cue. For a smoker, it might be stress or a drink. For a runner, it might be the alarm going off at 5:30. All habits have a cue. Finding the cue or establishing a new one is a key to breaking or creating new habits. The second is reward. We get a reward when we do the behavior that the cue kicks off. Puffing on a cigarette gives us the hit of nicotine that lowers the stress (though not really, it just transfers the stress from our mind to our cardiovascular system but we don’t have to worry about that until we drop dead of a heart attack). Finishing a run gives us the reward of feeling strong. This is a critical part of establishing a new habit and the reward at first often needs to be external in nature. Want to establish a new exercise routine? Make the reward something you like such as a smoothie or cookie. When you finish a run, have that smoothie and soon your mind will associate the reward with the cue and the habit making it more likely you will continue.

The third component of habits is the most important. Everyone knows that habits are easy to develop when things are going well. When life is smooth, we can all get out of bed and go for a run. However, often bad habits were developed in times of stress and in times of stress, we fall back into a routine that solved that stress before. It’s the craving that causes that and that’s the third component. Craving is the internalization of the habit. You have to find ways to crave the new behavior. If you are replacing smoking with running, the craving for nicotine must be replaced with the craving and desire to be stronger and healthier. I’m reminded of an idea from The Happiness Hypothesis. In that book, Jonathan Haidt talks about the rider and the elephant. The rider is our conscious mind. The elephant is our sub and un conscious mind. The rider on an elephant cannot control the behavior or direction of the elephant by force. He must have other methods for that control. Craving is one of them. If we can cause our sub and unconscious minds to crave new behaviors related to our goals, we can succeed at them.

So for my goals this year, I’m hoping to find ways to establish habits through new cues, rewards and cravings to accomplish them. My first way of doing this is to set up a schedule for the activities. Establishing a schedule is beneficial because it can provide the cue. If at 5:30 AM, the first thing you do is lace up your sneakers to run, that alarm becomes not a cue for waking up but a cue for running. Many of us know that we are most productive with a schedule. The second way is to more accurately track effort on the goals as that becomes a reward. Running a faster mile than you did last month provides reward and leads to craving. The combination of these two things should establish a base for building cravings for the new goals at times when life is off schedule or stressful. This will help to keep the elephant on the path towards the goal while the rider eventually reaps the benefits.

My Measurable Goals for 2015
Spend 180 hours on Spanish
Spend 180 hours on The Sports Pool Hub
See 12 movies
Read 12 books
Write 26 letters
Write 52 things (blog posts, stories, whatever)

My Goals that the measurable goals come from
Most of these boil down to Produce More, Consume Less which might be the motto for 2015.
Write more
Code more
Hunt more
Save more
Read more
Grow more
Buy less
Want Less
Complain less

On Understanding Currency Wars

Imagine if you will the following scenario: Nigel lives in the Land of People with Below Average Dental Hygiene (LOPWBADH). Bob lives in a neighboring country, the Land of Guns and Large Border Fences (LOGALBF). Both Nigel and Bob own dairies. Nigel makes exceptionally good clotted cream in his dairy while Bob makes organic grass fed butter in his. Both men sell their products domestically as well as internationally. In Nigel’s country, the method of monetary exchange is the crumpet. He sells one pound of clotted cream for one crumpet. In Bob’s country, it’s the waffle and he sells a pound of butter for one waffle. One of the most interesting things about each man’s country is that there are a strictly defined number of crumpets and waffles respectively. In fact, there are only 10 crumpets in all of Nigel’s country and 10 waffles in all of Bob’s (yes, this greatly restricts the number of anything that gets sold in the country but bear with me).

The beneficent governments of the two lands have a set exchange rate for crumpets and waffles of one to one. When someone travels from either land to the other, they can exchange their respective pastry currency easily. Exports of all goods are stable. Both countries are strong. But one day, the winds of change come to Bob’s LOGALBF and the local economy takes a turn for the worse. A recession happens. A few people lose their jobs. And suddenly, Bob isn’t selling as much organic butter as he once was. Bob has a friend, Carl, in the government who sits on the Committee For Using Waffles As Currency and Bob hatches a plan. He knows that his fellow LOGALBFers will not be able to buy much fancy organic butter because they are struggling to get by. However, he knows that there is still demand for fancy butter in the LOPWBADH and that demand could increase if only they could buy more of his butter somehow. Bob goes to Carl and explains that if there were only a few more waffles around, he could sell more butter to people in Nigel’s country. If the supply of waffles doubled to 20, people with 1 crumpet could buy twice as much butter as they could before. Carl, being a good protective friend, agrees and whips up 10 more waffles. Butter exports to LOPWBADH go up and everyone is happy.

Well, not everyone. Nigel won’t be very happy because his clotted cream is now a lot more expensive to people in Bob’s country after the waffle increase. This is because waffles are now worth half as much and people in LOGALBF won’t buy as much clotted cream because it costs more. If Nigel has a friend that controls the quantity of crumpets, he might try to get more crumpets created to level out the playing field again. This in turn might cause LOGALBF to create more waffles and everyone ends up in a pastry/currency war in a race to the bottom.

This fanciful story leaves out a bunch of details in order to show what can happen when countries start devaluing their currencies in an effort to jump start their economies. The result is a currency war where every country tries to devalue their currency to increase exports. This essentially steals growth from neighboring countries whose currencies are stronger. The most recent currency war in history happened in the 60s and 70s culminating in the Nixon Shock when President Nixon effectively took the dollar off the gold standard in an attempt to jump start the American economy.

Like most political moves, the drive to devalue a national currency is always the expedient decision but rarely the best long term solution. There is a floor to how much devaluation can occur before a break down in confidence in the currency starts to happen. When Germany went off the gold standard at the beginning of WWI to make it easier to pay for the costs of the war, the result was a hyperinflation 8 years later that resulted in an entirely new currency being created.

Lots of smart people think we’re in a currency war now. Even though the dollar has strengthened of late, the long term goals of the Fed are aimed at a cheaper dollar with their QE and QE2 and other fancy new tricks at increasing liquidity. The problem is, none of those tricks have made much of a difference except to the rich who own stock (see the last chart on that page). We are stumbling towards another crash because none of the problems that brought us the last two have been fixed. We still have massive banks playing with taxpayer money and zero down side risk (because we’ll just bail them out again). The more we debase our currency, the longer we kick the can down the road but eventually, there is a wall at the end where we can’t kick it any farther. Until we have an economy focused on the middle class again, something we haven’t had in 20 years, we’ll continue to stumble along from crash to bubble to crash.