Hyperinflation

Hyperinflation is very high inflation. Although the threshold is arbitrary, many economists define hyperinflationary episodes as periods when the monthly rate of inflation is greater than 50 percent. As the rise in prices gets out of control, there is a loss in confidence in the currency, which further fuels inflation.

The 21th century example of hyperinflation is that which occurred in Zimbabwe in the 2000s. At its peak, the monthly inflation rate in Zimbabwe was estimated at 6 billion percent in mid-November 2008. Although hyperinflation is often associated with emerging countries suffering from wars, revolutions and poor governance, it has also occurred also in developed countries. Indeed, probably the best known case of hyperinflation is what happened in Germany after World War I. Between August 1922 and November 1923, prices quadrupled each month, on average. In October 1923, the worst days of the Weimar hyperinflation, German prices rose at a rate higher than 40 percent per day.

Hyperinflation is caused by extremely rapid growth in the money supply. Practically all cases of hyperinflation occurred when government budget deficits were financed by money printing. Hyperinflation wipes out the consumers’ purchasing power, distorts the economy and boosts the price of gold, as one can in the graph below.

Graph 1: The price of gold Mark in paper Marks during Weimar hyperinflation.

Hyperinflation and Gold

Historically, hyperinflation became possible when fiat currencies replaced precious metals as money. As fiat money is not convertible at a fixed parity into gold or silver, the governments or central banks may print it in practically unlimited quantities. Indeed, most of the best known examples of hyperinflation occurred after the collapse of the classic gold standard after World War I.

Hyperinflation is fundamentally positive for gold. Although gold is not always the perfect hedge against small and stable inflation, it practically always protects against high and accelerating inflation. This is because hyperinflation destroys confidence in the national currency, which leads to the flight to safety. In such times, people seek real assets, hard money, or safe havens, such as gold. This is why hyperinflation in a key economy of the world, especially in the U.S., would boost the price of gold. Although it is a very unlikely scenario, periods of high inflation rates may occur. In the 1970s, there was double-digit inflation in the U.S., which was accompanied by a gold bull market, as one can see in the chart below. Indeed, gold prices were increasing in the 70s, when the inflation rate was high and accelerating, while they were decreasing in the 80s and the 90s, when the inflation rate was declining.

Chart 1: Gold price (yellow line, left axis) and inflation rate (red line and right axis) from 1968 to 2015.

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