Well that was a few hours of my life I’ll never get back. Researching the latest inflation figures and economist viewpoints. Now, let’s see if I can turn those few hours into a three minute engrossing read for you. Challenge accepted!
In this post we take a look at inflation forecasts for 2021, the debasement of fiat currency, how these might impact our passive income and financial freedom goals and how to hedge against them.
Mainstream media, at least in Australia, has been awash with stories about increasing house prices in capital cities and skyrocketing prices in regional areas. Apparently prices in February rose in every capital city and every rest of state region in the entire country. This hasn’t happened since 2010. Fuelling the growth, they say, is the recovery after lockdown. Government building incentives and low interest rates. Add to that the fact that Aussies have returned in their droves from overseas and now need a place to live. It’s certainly not population growth as gone are the days of immigration led economic boom times. At least temporarily.
Stocks have also been on an unrelenting run up throughout 2020 bar the March dip. Price to earnings ratios are through the roof. Economists keep calling the top, but we never quite seem to hit it. By any Warren Buffet measure, markets are overheated and a correction is imminent.
Are we in an inflation economy?
We’re all aware that governments have been printing money at record levels to keep the economy afloat during Covid. Quantitative easing that has dwarfed the money printing of the Global Financial Crisis. But did you know that in March, the International Monetary Fund magic-ed out of thin air $650 billion in what they call ‘Special Drawing Rights’ – cash they intend to lend to a bunch of member countries? This didn’t make the 6 o’clock news.
Special Drawing Rights were a tool created a few decades back to deal with what was thought to be an impending US Dollar crisis. They’re a basket of 5 fiat currencies that used to be pegged to the Gold price but now are pegged to nothing. Since their creation in 1969 $200 billion has been issued in SDRs, so this year’s efforts are a tripling of that. SDRs can fly under the radar because they prop up member economies without adding to their official debt levels.
What I’m getting to with all of this is, if you thought the world was awash with cash already, you can add another $650 billion to that tidal wave that won’t show up as debt on government books and that no-one we know really knows about.
So are house prices really going up because of economic recovery and returning expats, or is the value of the fiat cash in your pocket or bank account dropping like a lead balloon with inflationary monetary policy?
So what the hell is going on?
Some economists say it’s a myth that money printing causes inflation, but if you’re worried about the price of goods and assets going up and things becoming unaffordable, you’re not alone. Just search on Google Trends and you can see the search engine data for yourself. And here’s some Australian consumer price data as a cherry on the top.
It is true that inflation as calculated by economists has many inputs including wage growth and spending. If you look at the money printing that happened during the GFC and inflation rates afterwards, you’d be put somewhat at ease about what’s coming. Quantitative Easing didn’t lead to rife inflation in the OECD post 2008.
You could argue that wage growth and spending were the two missing factors then and now. They’re just not happening. The velocity of money (transactions) in the economy has fallen through the floor. Companies and people are hoarding their cash uncertain about what the future brings. Household savings rates have ballooned. Who can blame us?
So without wage growth and spending, inflation forecasts for 2021 are moderate across the board. The OECD has them ticking upwards along with the Reserve Bank here in Australia, but at historically moderate levels.
The answer is no-one really knows. Read this and you’ll see that the head of Australian economics at the Commonwealth Bank of Australia isn’t even sure. To take a trading view, he argues you could build a bullish and a bearish inflation forecast for 2021.
Fiat currency debasement
Meanwhile, is anyone else thinking that the prices you’re paying for property and other assets seem to bely what the government data and forecasts say? Has anyone noticed that stock markets are on an unending tilt upwards while the economy and jobs have tanked? Has anyone realised that since 2008 central bank balance sheets have been growing by around 13% each year? If you haven’t heard about this, have a listen to Raol Pal or Michael Saylor.
So maybe it’s not inflation at all (with CPI based on the price of a basket of consumer goods). Maybe with the printing of money world wide and the crazy growth balance sheets what we are actually experiencing is the debasement of fiat currency on a global scale. Maybe this is just causing assets to rise (or just to hold their value against fiat currency), but not consumer goods. It’s something to get your head around but without a doubt, things are changing. Quietly in a way that is creeping up on us, we’ve moved into unchartered financial territory.
So, what we’re saying is, if you’re planning to be financially free at some point in the next 5 years then it’s time to keep your eye on the ball. We may not know until afterwards whether covid economic recovery will be inflationary or whether all fiat currency is debasing and hence the value of assets rising against fiat. But in this time of enormous uncertainty you need to hedge your bets.
How to hedge against inflation or debasing currency
If the value of your cash disintegrates over time and you didn’t do anything about it when it was happening, financial freedom will be much harder to attain. But what do you do financial freedom seekers, to hedge against inflation? How do you keep moving forward on your financial independence journey?
Cashflow is still king
Let’s face it, income is your first concern to pay your bills and put food on the table. So passive income is still a massive focus in your financial independence journey and will continue be a cornerstone of our blog.
On top of maximising your income, FIRE (Financial Independence Retire Early) talks about savings rates being the single biggest determinant of financial freedom and your retire early strategy. In 2020 the RBA provided explicit forward guidance that we won’t be getting anything for our savings anytime soon by stating that “the Board does not expect to increase the cash rate for at least 3 years.” If we’re in an inflation economy or fiat is debasing, cash is a losing game – you’ve got to use it or lose it peeps!
So what do you do with your excess cashflow and passive income? What do you invest in if inflation surprises to the upside?
Let’s face it, if banks are going to keep giving you 0% on your savings for the next 3 years, your cash in the bank is going backwards. Bank bail-out laws, at least in Australia, also put your cash in the bank at risk in event of some kind of catastrophe. One thing is sure, with uncertainty comes risk. Don’t assume your cash in the bank is safe and you’ll be protected dear readers. Squirrelling may not be as safe as you once thought. The independence part of financial independence is more important now than ever.
Bitcoin was made for this very situation and while the price is pulling back there may be an opportunity to hedge any currency risk right there. If fiat currency is debasing at the same rate as central bank balance sheets are growing, you’re looking for assets that can maintain a growth rate over 13% just to tread water. This would explain the growth in equities and in crypto. And as blockchain brings tokenisation to more assets, Bitcoin is just the start of a migration to digital assets and the internet of value.
There are other ways to beat the bank rates but they involve more risk. You want to find returns for your cash that sit above the real inflation rate or currency debasement rate to stay ahead. We’d personally be aiming for something over 5% for short term interest. With companies stashing their cash too, these kinds or returns in dividends are harder to come by. Check out this post where we talk about ways to generate more passive income from your savings in the emerging DeFi financial services arena. We staking crypto and lend stablecoins and are earning rates as high as 30%. But remember, it’s buyer beware as always when it comes to the wild, wild west of crypto. But we’d say that cash and investment risk is rising across the board with mainstream products, you just don’t know or hear about it because rules of the centralised money game are transparent to but a few.
It’s time to think about your wealth allocation
Another strategy worth giving some thought is to migrate some or more of your tertiary wealth (paper and digital wealth) into secondary wealth (products) and primary wealth (primary resources, raw materials). For the average person, primary wealth building is usually with property, land, or monetary metals. We think over the next 5 years you can add Bitcoin to this list of primary assets and some other digital assets that don’t exist yet but will emerge as assets tokenise on the Blockchain.
Most of the wealthy 1% already know that if fiat currency is debasing then a way to hedge against that is to borrow fiat now and buy assets, which will adjust upwards as currency weakens. Governments are applying oil to the wheels of big debt by relaxing lending rules. Stimulus packages too. So if it’s available to you, this is one strategy you might think about. It’s definitely why we will not be parting with our real estate investments any time soon.
What we’re not saying is put more of your wealth into ETFs that claim to be back by those primary and secondary resources. Have a read of this article on The illusion of Owning Gold. If it smells fishy, it usually is. Resource ETFs are a tertiary asset. You need to make sure whatever assets you invest in, the legal title for the asset is in your name in part or in full. Like it is with digital assets on the Blockchain.
The final word – we’re not stashing our cash
Inflation and fiat currency debasement can be like the proverbial frog in boiling water for financial freedom seekers. We don’t know it’s eroded our wealth until it has. Keep a watching brief on the prices of primary products – monetary metals like gold, sliver and copper. Stay across the price of raw commodities like timber. Watch the prices of asset classes and real estate instead of the consumer price index and government inflation numbers. If assets are what we need to build our nest egg and produce income, any price rises in assets will flow though to your financial future. No matter what the economic data says, this is where the rubber hits the road to financial freedom.
The temptation in uncertain times is to save for a rainy day and collectively we’re doing it more than ever. But right now, if you’ve got your wealth in cash and you’re on a wage you’ll be going backwards. And that’s not a recipe for financial independence. None of this is financial advice dear readers but definitely food for thought.