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23/05/2022  7 min 🇬🇧 #208703

Quantitative (Dis)easing

By Francis Lee for the Saker Blog

Inflation Tax: The Plan to Deal With the Debt - By Peter Comley - pp.209 - July 2013

Reviewed by Francis Lee

Inflation presupposes money. Money has evolved as an unplanned social institution during a period of perhaps 2500 (some would say 5000) years. Still, the worst excesses of inflation have occurred during the 20th century. The prime cause of inflation has been governments trying to overcome rising prices by amortizing (degrading) national debts through printing money in the hope that the subsequent debased currency will significantly reduce the value of debt, private and/or public. It works like this. If I borrow £100 pounds from you in year 2013 to be paid back in 5 years and assuming an annual inflation rate of 5% then effectively, I will pay you back less than I borrowed by a factor of 25% when the loan is set for redemption/repayment in 2018. This is essentially a default by the back door.

In a similar manner governments in the shape of central banks are responsible for setting interest rates and control of the money supply - they can and often do use these two policies to amortize (i.e., by reducing or paying off a debt in small regular amounts) both public and private debts, but the cost is borne by the population at large whose income and wealth - particularly when it is held in cash - undergoes a devaluation. Nota Bene 

To illustrate this let us suppose that the stock of money in circulation is equal to goods and services and are at equilibrium level, that is to say when the stock of capital is equal to the stock of monies in circulation. What happens when the Central Bank increases the volume of money by 1? Simply printing more money than goods and services, so that the price of commodities will tend to rise, and 2. Lowering interest rates so that businesses and consumers are induced to spend an invest more. This is bound to result in (cost-push) inflation - see below. This deliberate Central Bank policy is supplemented by national Treasuries (US, UK etc) fiscal policy, for example by increasing general taxation levels, which it is hoped will reduce money supply and counter excess Central bank money printing. The author refers to this policy as a hidden (inflation) tax. It is hidden because most of the population, whilst aware of inflation, are not aware of how the Central Bank (through monetary policy) and the Treasury (through fiscal policy) both connive in a deliberate policy of wealth and income confiscation leading to this income redistribution.

Unquestionably, the Bank of England, (BoE) along with other central banks around the world are doing their best to stoke up inflation with low interest rates and the creation of new money through Quantitative Easing or QE. This involves the Central Bank buying up various securities including for example and most importantly in US Treasury bills (i.e., Bonds) issued by the US Treasury Department in the secondary market, as well as other financial assets from the Fire Insurance and Real Estate sector. (FIRE), such as e.g., municipal bonds, corporate bonds, stocks, and shares

Inflation is, therefore, not an accident; it is a deliberate policy option, though this fact must never be made public. Among those who pay most of the inflation taxes are, according to the author,

  • Direct holders (bond holders) of government debt.
  • Cash savers in banks.
  • Wage-earners, benefit recipients, pensioners, and anyone else on a fixed income, since their incomes have lagged behind the rate of inflation;
  • Companies whose costs rise; and this of course adds another twist to the inflationary spiral since they will pass their costs of production onto their customers.

The principal recipients in this inflation bonus are debtors of various kinds, including of course the government itself. It should also be added that the speculator community, i.e., hedge funds, private equity, investment banks who operate at highly leveraged positions (i.e., where the majority of their capital is debt at high leverage - i.e., borrowing - ratios for example 10-1) who have welcomed with open arms what is virtually free money (interest rate 0.1%) in the UK and (0.25% in the US) from the central banks. Such a policy of income confiscation - see above- will impact most severely upon those who are most vulnerable in society. Those higher income groups will see the price of their assets increase and, in any case, can switch into other more stable foreign currencies. In addition, they may wish to include precious metals - gold and silver and UK Indexed government Bonds/Gilts. The recent food riots in Brazil are a reminder of what inflation can do and those who are most exposed.

Of course, the BoE, or for that matter any other Central Bank, will never admit to an inflation problem and will provide statistics to 'prove' that inflation is not a problem. But careful scrutiny of their claims opens up a Pandora's Box of mendacity and delusion.

In the first instance the BoE's projections for inflation (for which the target has been 2% have been wide of the mark - i.e., underestimated - on every occasion since 2005. The object of course has been to downplay the true level of price rises. Secondly there is the outright fraud in the way inflation is measured. In the UK this has occurred principally since the switch from the Retail Price Index RPI to the Consumer Price index CPI.

Incidentally, the switch from RPI to CPI along with the abolition of the 10-pence tax rate and the selling of 60% of the UK's gold stock at rock bottom prices were some of the then Bank of England's Gordon Brown's 'achievements'.

The CPI does not include the following: Council Tax, Interest on mortgage repayments, other housing costs such as service charges and ground rent, as well as income tax and national insurance.

Then there are the other cute little wheezes such as 'hedonic pricing' 'substitution effect' and use of the 'geometric mean' amounting to little more than pseudo-accountancy and statistician bullshit, but which also add a downward push on real, as opposed to nominal inflation rates. Everyone, or almost everyone in the UK has lost some purchasing power since the start of the crash in 2007/08. And just wait to see what happens in 2022! - FL. UK savers for example have lost a cumulative 11% of their savings during a 4-year period, and it is a trend which will continue. This is far greater than the original proposed 'haircut' that depositors in Cypriot banks were expected to swallow. The initial scheme had proposed that deposits up to 100,000.00 euros would lose 6.7% (9.9% for higher deposits). Cypriots took to the streets; riots broke out until the government relented and agreed to protect depositors up to 100,000.00 euros. Note that none of this got any coverage from the EU media.

But best of all was this little nugget dug up by the author. Although the BoE was reputedly relaxed about the dangers of inflation its actions spoke louder than its words. In 2007 the BoE's assets consisted of shares/investments, fixed interest bonds 74% and Index linked bonds 26%. Crucially important is the fact that Index linked securities are adjusted for the rise in inflation, in this way they do not lose any value as they pay a return above the rate of inflation. Like gold they are an inflation hedge. By 2009 Index linked bonds represented 88% of the BoE asset portfolio and by 2012 they represented 95%. Nice little earner eh!?

Now if the BoE didn't think inflation was a problem, or was not going to be a problem in the foreseeable future, why did it make this switch into index linked bonds? Why indeed!? Did they know something that they think we didn't know? A wry comment from the Daily Telegraph article on the subject was: Inspired Trading or Insider Trading. Get it!?

Insider trading is of course illegal.

One final comment in this respect.

''Inflation actually levies a tax on those who failed to anticipate it - or who were in no position to protect themselves against it - and redistributes to those who are smart enough - or lucky enough - to anticipate it and take appropriate action. There is no obvious correlation between those who gain (or loss) from inflation and any generally acceptable basis on which to levy a tax. It harms the poor at least as much (More so ! FL) as the rich, and often inflicts the most damage on those least able to look after themselves. It is an arbitrary and capricious form on taxation which goes against all the notions of fairness... ''

Of concern though, is what happens going forward and what impact inflation is going to have on family expenditures over the next few years. There is still no sign of wages rising as much in the recessionary environment. They are certainly not keeping up with inflation. Moreover, the benefit those with mortgages from decreased tax payments in 2008/2009 was a one-off. Interest rates can't go on any lower. Mortgage costs can only rise from here further exacerbating the squeeze on spending.

This is a very readable book, informative and mercifully free of the usual gibberish emanating from official sources and management consultancy-speak.

----------------------- Update:

I wrote this book review in 2013. Things have moved on since. The situation now is probably more disturbing than the world faced in 2008 and now 2022. But it should be added that options now exist - including precious metals, interest bearing government index linked bonds, and Bitcoin, which will help investors and savers to weather the storm. But, hey, that is just my opinion. The Oracle of Delphi I'm not!

Frank Lee 2022