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Surviving a Currency Crisis

Wednesday, February 8, 2012, 10:18 AM
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Surviving a Currency Crisis

Wednesday, February 8, 2012

Executive Summary

  • Why hope alone is a terrible fiscal strategy
  • The false security of shifting baselines
  • The key indicators of a currency crisis
  • Plan A (and Plan B) for surviving a currency crisis

Part I: Why Our Currency Will Fail

If you have not yet read Part I, available free to all readers, please click here to read it first.

Part II: Surviving a Currency Crisis

The Biggest Risk

The biggest risk here is not a sudden collapse of the currency that would catch everyone off guard some Tuesday afternoon in a matter of minutes. The biggest risk is in not believing that the collapse is underway. Most people are going to lose most of their wealth simply because they could not mentally and/or emotionally grasp what was actually happening.

Consider that in Greece the banks are under a tremendous run, losing up to 25% of total deposits. Sounds extreme, but let's look at it another way: Just what are the 75% of remaining depositors thinking? How could they leave their money in a Greek bank for another minute? What are they thinking? Probably that somehow things will get better, or some other rationalization that supports their decision to hunker down and hope.

In reading When Money Dies, a historical account of the events leading up to and through the Weimar hyperinflation in Germany, one sees anecdote after anecdote of families and individuals impoverished by their own disbelief and inaction. Most just sat numbly by waiting for the currency to come back, or buying government bonds because they were asked to as a matter of patriotism, or just trusting that the government would figure something out, hoping that things would soon turn around. 

In Argentina, the same dynamic occurred. We've heard in detail on this site from Fernando "FerFAL" Aguirre how those who lost most were the ones who hesitated to acknowledge the reality of what was happening until it was too late.

 

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Surviving a Currency Crisis

Wednesday, February 8, 2012

Executive Summary

  • Why hope alone is a terrible fiscal strategy
  • The false security of shifting baselines
  • The key indicators of a currency crisis
  • Plan A (and Plan B) for surviving a currency crisis

Part I: Why Our Currency Will Fail

If you have not yet read Part I, available free to all readers, please click here to read it first.

Part II: Surviving a Currency Crisis

The Biggest Risk

The biggest risk here is not a sudden collapse of the currency that would catch everyone off guard some Tuesday afternoon in a matter of minutes. The biggest risk is in not believing that the collapse is underway. Most people are going to lose most of their wealth simply because they could not mentally and/or emotionally grasp what was actually happening.

Consider that in Greece the banks are under a tremendous run, losing up to 25% of total deposits. Sounds extreme, but let's look at it another way: Just what are the 75% of remaining depositors thinking? How could they leave their money in a Greek bank for another minute? What are they thinking? Probably that somehow things will get better, or some other rationalization that supports their decision to hunker down and hope.

In reading When Money Dies, a historical account of the events leading up to and through the Weimar hyperinflation in Germany, one sees anecdote after anecdote of families and individuals impoverished by their own disbelief and inaction. Most just sat numbly by waiting for the currency to come back, or buying government bonds because they were asked to as a matter of patriotism, or just trusting that the government would figure something out, hoping that things would soon turn around. 

In Argentina, the same dynamic occurred. We've heard in detail on this site from Fernando "FerFAL" Aguirre how those who lost most were the ones who hesitated to acknowledge the reality of what was happening until it was too late.

One aspect of this is simply being in denial. For whatever reason, quite a large number of people are unwilling or unable to see things differently than how they've been up to now. You can recognize these folks by their lack of interest in the implications of and meaning behind the extraordinary current events and their unwillingness to stay on 'uncomfortable topics' for very long, if at all. They find comfort in familiarity and faith in authority, and carry on accordingly. This is a perfectly reasonable and rational way to live....most of the time. However, during major turning points in history, this approach can be an enormous disadvantage.

If you know people who are still largely in denial, which I do, I don't think there's much you can do at this point to influence them. When we speak of 'emotional resilience' as an important attribute to hold during this next period of big change, the ability to both see and react to developing events is one very important aspect. This requires an ability to release 'what was' and accept the possibility of something different going forward.

In my experience so far, very few are naturally gifted with or inclined towards this skill. But it can be exercised and developed. By reading this, you're already demonstrating a level of emotional resilience substantially higher than the norm. 

Shifting Baselines

A different phenomenon to be on guard for, and another aspect of emotional preparedness, is the concept of "shifting baselines." As things change just a little bit for the worse each day, they do not seem substantially different than the day before, and so most people's baselines just keep getting reset, little by little. If the change happened all at once, the delta would be much more obvious, and instant action would be certain. But slow motion disasters are the most difficult of all to avoid (think of the complacent frog sitting the pot that's slowly being heated to the boiling point).

I first learned of shifting baselines through reading about ocean fisheries management. One old-timer biologist remarked that if you took someone in his profession from two or three hiring cycles back, and suddenly transported them through time and into the current day, they would have been immediately shocked by the severe declines of oceanic fish stocks. But over the course of a career, you start at one level of fish stocks and end at another (lower) one and it all seems to make sense.  You string enough careers together and somehow the fish stocks end up being 'managed' into complete collapse.

Being conditioned to accept a new baseline is entirely normal.  It is an intrinsic, and therefore expected, human attribute -- and for most of us, it happens without our even realizing it.

Everyone today, myself included, accepts current gasoline prices as normal. If prices were to go up another $0.50 per gallon, we'd think that was expensive. If they went down $1.00 per gallon, we'd think that was cheap. But to someone from just ten years ago, these prices are absurd.

My worry is that somehow we've now become accustomed to the idea that a Federal Reserve printing trillions of dollars and endless trillion-dollar plus deficits are normal. Our baselines have shifted. Even if you think this is not normal and outrageous, you almost certainly are not as shocked and outraged as if our baseline had jumped from what it was five years ago to today's level overnight. 

Our challenge, then, is to step back and see things for what they really represent, instead of allowing our shifted baselines to cloud our thoughts and actions. 

The purpose of the deficit, money printing, and energy data presented in Part I is to counteract the shifting baselines phenomenon and illustrate just how far down the rabbit hole we really are. Sometimes you just have to stack the data up all over again and stand back to be able to say wow, that's nuts!

So, the second piece of advice here is to know that shifting baselines are a very real phenomenon and to be on the lookout for creeping rationalizations and anything else that might lull you into inaction. They will capture most people and cause them to lose nearly everything, unless history is no guide.

Know What to Look For

Unable to accept that a multi-decade period of excessive spending and printing is what got us into this mess, both our government and central bank have rationalized their current behaviors and embarked on a crazy program of printing and spending. The most likely outcome for that set of behaviors is a currency crisis. 

The impact of the current crisis is compounded because the whole world is essentially on the same train and headed in the same direction. In times past, you could duck across a border and escape the insanity of your home country. But now, where would you go? It's a challenge at the individual level, but for big money managers, pension funds, and all the other concentrated holders of wealth, there just isn't anywhere to go and hide.

Because of this, the eventual timing of the currency crisis is going to be delayed as long as possible by those in power. But eventually it will come. And when it does, the US will find itself largely in the exact same situation as Greece -- forced into austerity by its bond market, lamenting the depth and speed of the decline.

The warning indicators to watch for are simple enough. Each of these is a risk factor, like additional snow on an already laden cornice, that builds and builds until it inevitably topples:

  • Deficit spending. Is there any indication that the political will exists to make hard choices and real cuts? Is the deficit shrinking, growing larger, or staying the same?
  • Printing. Is the central bank printing more ('expanding its balance sheet' is the polite term), holding steady, or is it reversing the money flows ('shrinking its balance sheet')?
  • Trade deficit. Is it negative or positive? By how much?
  • Interest rates. At what level do they become a self-feeding monster for the sovereign entity? How close are they to that level? Are they rising or falling? What sorts of official intervention is required to keep them out of danger territory, an increasing or decreasing amount?
  • Real stuff priced in the currency. What is the currency-to-gold ratio? Is it rising or falling? What about the same for oil? These are the two main ones that I track, because gold is a true measure of monetary stability (or lack thereof) and oil is THE master resource from which all other resources flow.
Have a Plan

You should have two plans. The calm, steady one that you are executing now, and then one for what you will do if things begin to either speed up or fall apart more quickly in another leg down. 

The first plan is to invest in your personal resiliency. It includes planting fruit trees and vines, insulating your house, getting solar installed, storing some food, having a water filter, moving to a more sustainable location if that's part of your plan, building emotional resiliency, getting your money safely squared away, and making deeper and richer connections in your community.

You can find lots of support and ideas for these actions in our What Should I Do? guide and related series, as well as our discussion forums.

The second plan is for what you will do in the event things suddenly change for the worse. Perhaps a banking holiday is called, or a war with Iran breaks out, or Europe really begins to fall apart. Each of us has some things in our first plan that we're sitting on, waiting to really get serious about if or when the time calls for it -- something that we've been either putting off or simply waiting on because that's the most rational response. 

The second plan might include things like stocking up on key medicines, or inviting family members to come and stay with you, or talking a lot of cash out of the bank, or making a substantial life change with respect to your job or retirement status.

My second list is in a folder along with enough cash to purchase everything on the list in one fell swoop. It includes things like chicken feed, vitamins, my safe deposit box key, area maps, and a reminder to top off all the consumables in our life that would be good to obtain at the outset of an emergency so that whatever energy and focus I have will not be tied up with concern about the mundane.

I'd like to use the comments in this discussion to open up what is on your second list. We're all in this together, and there are no exact answers, as local mileage will vary depending upon your specific situation, so let's learn from each other.

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