In 1922, as the Weimar hyperinflation was raging all about him, Fritz Lang’s iconic film “Dr. Mabuse—der Spieler“ very much captured the Zeitgeist of those dreadful days.
The main protagonist, the fiendish Mabuse, sought, by manipulating those around him, to tear down the very fabric of society, not to build up a new one—much less to reestablish the old—but to build “a state of total uncertainty and anarchy.” To help him accomplish this, he planned “attacks against money as the basic necessity of existence and the certainty of . . . a capitalistic era.” Therefore, Mabuse was a supporter of inflation and, to that end, promoted counterfeiting—a job then being carried on well enough in reality, with full legal authority, by the hapless Reichsbank!
In this, his spirit is very much alive today, with the CPI registering alarming levels of increase, and no shortage of apologists for the trend.
In making an investment, there are certain irreducible risks one must always be prepared to run, however much one must strive to minimize them.
For example, one must try to determine whether the company whose stock one is thinking of buying has some identifiable and reasonably sustainable competitive edge over its rivals, or whether its present successes are likely to be all too short-lived.
One must examine it to see if it is well and honestly run by a true entrepreneur, rather than being used as a vehicle for advancement by some self-serving corporate egoist, or exploited by some outright Boom-time charlatan.
Next, it is important to see whether its finances are in order, or whether the temptations of easy money and the imperatives of “earnings management” have left its balance sheet in disarray and its income stream stretched in terms of its likely obligations.
If the answer—insofar as one can judge—to all of these is, “Yes,” then one must also ask whether the market has already come to set too high a price on the business, so that the investor, in hoping for a proper return, has to rely over much on there being no unforeseen bumps in the road ahead.
Again, if the answer is in the positive, one must still consider whether even this paragon of industry will face difficulties wholly beyond the control of its owners and managers.
Chief among these are the problems arising from a business cycle driven by the vagaries of monetary and fiscal policy, as well as those that originate in more direct political interference in the company’s activities, or in those of its customers and suppliers—the constraints associated with today’s highly alarmist environmentalism, for instance.
Of course, this list is easy to set out, but much harder to work through. However, time, diligence, and experience can winnow out many of the initial candidates for investment on the basis of the first three, more specific, criteria and so greatly reduce the probability of making a costly error.
However, it must be confessed, that the last two considerations—which are, of course, closely interrelated—have increasingly come to dominate the decision-making process, to a degree beyond all our previous experience.
Though this is not the place to deal with them, not the least of the risks we now run have their genesis in the unnecessarily fraught state of international relations that raise the prospect of us having to suffer further outbreaks of large-scale, organized violence abroad, as well as an insidious, creeping repression at home.
But, leaving this aside, we are still confronted with the dilemma—the “conundrum,” to use the catchphrase of the man responsible for a good deal of our present troubles—that it is exceedingly hard to value something when all the yardsticks we use are suspect and when the scales in which we weigh matters have been falsified.
It is harder still when the very laboratory in which we undertake our measurements is itself being tossed about on a stormy ocean of financial and regulatory upheaval.
For how do we measure “profits” when the vast quantities of money and credit are being poured into our domestic economy, so artificially boosting revenues, and when foreign exchange parities gyrate so wildly as a result?
How do we compute the likely worth of an earnings stream when, on the one hand, all manner of material inputs—and needless regulatory costs—are so volatile and, on the other, final selling prices are being distorted both by over-cheap finance and by widespread mercantilist intrusions?
To say there is too much hot money at work in the world is, to some, a truism, while, to those who have been lulled into complacency by the mild-looking rates of increase in the officially published indices of consumer prices, it is a matter of complete indifference.
But, it cannot be emphasized too much that this overabundance of hot money lies at the very root of all the perils that we face both as investors and private citizens.
We say this, for even the overtly political dangers of militarism, welfarism, and interventionism could not be sustained for long were their associated costs to be honestly financed and not partially hidden through the issue of ever more debt to financial institutions that are swimming in what is euphemistically called “liquidity,” but which really means the harvest of the concerted policy of inflation being conducted by monetary authorities everywhere.
“But, surely” the skeptics ask incredulously, “there isn’t really any evidence of inflation when “core” consumer prices are rising in Europe and America at or below rates of 2% per annum?”
Certainly, it cannot be denied that, for reasons to do with statistical massaging, active price suppression, the diversion of savings, the subsidizing of producers, and foreign exchange intervention, government consumer price indices are not rising too rapidly: but inflation there surely is, nonetheless.
To see this, look no further than the recently released bank lending surveys conducted by the ECB and the Federal Reserve, respectively.
In each case—and despite the supposed inflexibility of the first institution and the ostensible policy tightening being undertaken by the second—banks in the world’s two biggest economic areas are falling over each other to lend more money, on easier terms, to larger numbers of what they themselves candidly admit are often shakier borrowers—primarily because of what they state is “more aggressive competition from other lenders.”
If this is not an infallible symptom of inflation, then nothing is!
However, such blunt analysis is hardly fashionable today. Instead, there is much talk of “imbalances” in the world, without any clear understanding of how such disequilibria could have come about.
Thus, while many fret that Westerners (and, in particular, Anglo-Americans) spend too much on unproductive things, just as many others complain with more than an element of farce that the Asians are responsible for a world “savings glut.”
But, all these seemingly puzzling disparities have a very straightforward explanation which is that, in all too many parts of the world, credit piled upon credit is being used to postpone an overdue structural readjustment and to push the pain of a true reckoning of accounts out into the political future.
So, if the American Social Security system is acknowledged to have little to offer its theoretical future beneficiaries, let the state borrow a few extra trillion to “fix” it.
If a private corporation like GM is in trouble, just issue corporate bonds to buy yet more overpriced equities—probably the stock of companies with exactly similar woes—and so satisfy the minutiae of the accounting rules, if not their substance, by making unrealistic though fully allowable assumptions about their likely return.
If British private pensions are actuarially in deficit—or, indeed, if schemes are failing outright—impose a levy to make the good companies pay for the bad, then twist the rules so the survivors must devote surplus cash to buying government debt and so further depress their ability to make much-needed investments in plant and equipment.
Meanwhile, stifle wealth creation by raising all manner of central and local government fees and taxes, as well as by allowing the fiscal deficit to grow ever wider, so as to assure the benefits one has pledged to one’s political supporters amid the swelling army of public sector workers.
If France or Italy cannot meet present welfare state commitments (much less make provision for those due in the future) without borrowing more themselves, let them sell public property—or even schedules of future tax receipts and pension contributions—to those who are better placed to finance them with their own newly created debt.
In such ways did the Bourbon kings bring about their own bitter end!
If Asian countries such as Indonesia, India, Thailand, Vietnam, or China are to pretend that “inflation” is under control, they must keep their citizens from feeling the pinch of soaring energy prices (though this simultaneously removes incentives to a much needed increase in the economy of that energy’s use).
So, let the government borrow money at the (often state-owned) banks in order to compensate the losses incurred by the struggling (also often state-owned) refiners, distributors, and utility companies that have been prevented from fully covering their costs.
As all this goes on, large numbers of the people in these and other countries are coming to discover they cannot instantly buy all they would like to in the stores. This is because all these confusions have piled up so as to cause real wages to slip below the level of aspiration, meaning that the requisite standard of living can no longer be enjoyed on the basis of income alone.
But, no problem: merely stimulate consumer borrowing to bridge the shortfall and, recognizing its short-term potential both to create jobs and to enrich the bank, make it one’s aim to extend even more easy credit on the “security” of real estate and so ignite a housing boom.
What has gone unsaid here, is that these pyramids of debt are being built up not to purchase or construct productive assets whose contribution to income could soon help to service, and, ultimately, to redeem these debts, but upon supporting submarginal “strategic” businesses; upon funding dead-end state socialism and vainglorious militarism; and upon blind, wanton consumerism.
No one should need to be told how perilous this all is for, in the past, crushing, deflationary depressions, or the equally destructive firestorms of hyperinflation have often been the result of such inveterate folly.
But, no matter, recognizing that such a system is riddled with instabilities and that it is therefore prone to being roiled with wild, but potentially lucrative, swings in activity, we have funneled even more rivers of credit into the speculative sector of high finance—for monetary inflation always provides a fertile soil in which such manias (and the feverish jobbing associated with them) can flourish.
This way, we create yet another high spending class of the newly rich among the traders and the derivative salesmen, the M&A specialists and the corporate lawyers, the private equity partners and the hedge fund hotshots.
“Nichts Neues unter der Sonne,” we might say, for, as Thomas Mann wrote of such men, in his 1925 story “Unordnung und frühes Leid”: “They lead…that precarious and scrambling existence which is purely the product of the time. There is a tall, pale, spindling youth, the son of a dentist, who lives by speculation on the Börse. He keeps a car, treats his friends to champagne suppers, and showers presents upon them on every occasion. . . .”1
But the conditions that encourage the appearance of such jeunesses d’orées also ensure that the world’s capital markets no longer function principally to allocate scarce real savings to their most productive ends.
Instead, they act only as a gargantuan, highly margined casino in which hundreds of billions of dollars can be instantly switched from one asset to another; from one commodity to the next; and from currency to currency—all at the click of a mouse: all to the instant disruption of real-world endeavors and to the upset of the calculations of innumerable entrepreneurs, along the way.
But, of course, it is precisely within the halls of this wild, inflationary gambling house where we are being asked to take the prices upon which we must base our analyses of the merits of our potential investments.
This is a task hard enough in itself, but the unreliability of the data generated in such a howling crapshoot can make a mockery of all our careful arithmetic.
In all this, we must recognize that never in our working lifetimes have we, as investment counselors, ever faced such qualitatively large, but intrinsically unquantifiable, risks to the capital entrusted to us.
For, in a world in which, as we have argued, our yardsticks are suspect and in which we know our scales to have been falsified, it is even more difficult than usual to separate the real from the unreal, the honest from the deceitful, and the lasting from the momentary—all tasks vital to any honest investment process.
That few wish to admit this is the case is, perhaps, no surprise, for as Nobel Prize winner Elias Canetti wrote in his 1960 work, “Masse und Macht“: “One may say that, apart from wars and revolutions, there is nothing in our modern civilizations that compares in importance to [inflation]. The upheavals caused by inflations are so profound that people prefer to hush them up and conceal them. . . .”
In the end, perhaps it is this irresistible impulse to deny reality—to avoid referring to the Enemy by His name—that poses an even greater set of risks to us investors than does the evil that our inflationary foe actually visits upon us.
- 1Thanks to Paul Cantor’s fabulous article for this and the Canetti quote below.
