Progress pill
What is inflation?

A monetary phenomenon

Hyperinflation Case Studies

A monetary phenomenon

  • Definitions of inflation
  • Understanding the Monetary Phenomenon
  • Study of Periods of Monetary Devaluation
  • The US changes history.
  • Last example for the road: the Swiss Dinar

Definitions of inflation

Inflation is a concept that is often misunderstood due to its multiple definitions and interpretations. The perception of inflation varies among different groups, such as bitcoiners and traditional economists. Let's first clarify the definitions before discussing hyperinflation:
  • Definition from Le Robert dictionary: Inflation is an excessive increase in payment instruments (banknotes, capital), causing a rise in prices and a depreciation of the currency.
  • Definition from Larousse encyclopedia: Inflation is a phenomenon characterized by a generalized and continuous rise in the level of prices. Here, the word "generalized" is crucial.
In light of these definitions, it is essential to understand that, for Robert, inflation mainly concerns the increase in the money supply. On the other hand, Larousse focuses on the consequences of this expansion, namely the generalized rise in prices.
In our study on hyperinflation, we will adopt the second definition, which is that of a generalized rise in prices, as it is more relevant and clear for our subject. However, it is crucial to remember that this rise in prices is generally the result of the expansion of the money supply. Renowned economist Milton Friedman famously stated:
"Inflation is always and everywhere a monetary phenomenon."
This statement highlights the intrinsic relationship between monetary expansion and inflation. In the following sections, we will examine the relationship between inflation and economic growth, drawing on these fundamental definitions.

Understanding the Monetary Phenomenon

When referring to the monetary phenomenon, we are referring to how the money supply of an economy is influenced. Milton Friedman essentially saw it as an increase in this supply. Historically, there have been two main methods to increase the money supply:
  1. Monetary Printing: In traditional monetary systems, the increase in the money supply was achieved by physically printing new banknotes. Although nowadays, with the predominance of digital currency, this printing is mainly electronic (through the databases of central banks and other financial institutions), history shows us periods where the literal printing of banknotes led to hyperinflation.
  2. Reduction of Metal Content: Another method was to reduce the amount of precious metal in currencies based on metals such as silver or gold. A striking example can be found in the Roman Empire, where the denarius, initially composed almost entirely of silver, saw its silver content drastically reduced over time. This amounted to a form of inflation, but not necessarily hyperinflation.
It is crucial to emphasize that hyperinflation is primarily observed with fiat currencies that are not backed by their underlying assets, such as precious metals. Historically, when a currency was based on such assets, episodes of inflation (e.g., through the devaluation of the metal content) occurred, but these episodes never reached the extreme levels of hyperinflation. In the following sections, we will study in detail the periods of monetary devaluation and the implications of these different monetary systems on inflation.

Study of Periods of Monetary Devaluation

Throughout history, various civilizations have experienced periods of monetary devaluation. Some of these periods coincide with major events or wars that have put pressure on the economy.

1. Peloponnesian War and Second Punic War:

The Peloponnesian War, a conflict between Athens and Sparta, and the Second Punic War, between the Roman Republic and Carthage, are the earliest examples of currency devaluation found in the archives. To finance these wars, these civilizations devalued their currencies by reducing the silver content and incorporating other metals, while increasing the number of coins produced.
Engraving depicting the massacre of the Athenians on the banks of the Assinaros.

2. Ancient Rome during the Empire:

After the era of the Roman Republic, during the Empire, the 3rd and 4th centuries experienced significant currency devaluation. This is illustrated by the decrease in the silver content of coins, as seen in the previous graph. A study reveals that the price of wheat in Egypt, measured in drachmas, increased by a factor of one million over a period of approximately 400 years, from 40 BC to 360 AD. Over this period, it represents an average annual inflation of about 4.4%. However, this inflation was not evenly distributed. It truly began around 238 AD. Between 250 and 293 AD, the inflation rate was approximately 3.65%, and it increased to 22.28% between 293 and 301 AD.
Although these periods experienced significant inflation, they did not reach the levels of hyperinflation observed in some modern situations. The reason for this is that, although the currency was devalued, it was still backed by precious metals. This solid foundation provided some protection against extreme inflation levels. In the following sections, we will examine the nature and consequences of hyperinflation in more detail.
  • The Denarius of Marcus Aurelius (160 AD): One of the most iconic coins of ancient Rome is the denarius, a silver coin. I own a specific coin from Marcus Aurelius dating back to 160 AD, before the major devaluation. Although the camera may struggle to capture the fine details, to the naked eye, it is evident that the coin is beautiful and reflects a relatively high silver content.
  • The Antoninianus (late 3rd century AD): With monetary devaluation, a new currency, the Antoninianus, appeared. This currency was supposed to be worth two denarii, but contained much less silver. My Antoninianus coin clearly shows that the silver content has been significantly reduced. It is adorned with a crown, typical of Roman coins of this period, called "radiates". By comparing the color and quality, it can be seen that the Antoninianus is far from being a pure silver coin. When comparing the two coins side by side, the difference is striking. The denarius from 160 AD has a distinct silver appearance, while the Antoninianus from the late 3rd century AD is much duller, indicating a significant decrease in silver content. This visual comparison provides a clear illustration of the monetary devaluation that ancient Rome underwent over a few centuries.
To complete this demonstration, a graph illustrating the devaluation of these coins over time would be ideal. Although it is difficult to visualize through this platform, imagine a graph showing the value of the denarius, followed by its decline towards the end of the 2nd century, when it was replaced by the Antoninianus, supposedly worth two denarii but with significantly lower silver content. These artifacts are silent witnesses to the economic fluctuations of past civilizations.

3. The Spanish Maravedi: Witness of Targeted Devaluation

The Maravedi, as a copper currency, occupies a special place in the history of Spanish currency. As mentioned earlier, the Spanish dollar was originally the international standard, an essential reserve currency for Spain. However, faced with certain economic challenges, Spain had to resort to clever monetary strategies.
Monetary devaluation is a tool often used by states to finance their expenses or stimulate the economy. However, Spain found itself in a delicate situation. Diluting the Spanish dollar would have compromised its position in international trade. To overcome this dilemma, Spain turned to the Maravedi.
Unlike the precious Spanish silver dollar, the Maravedi was a copper currency mainly used within the local population. This currency was targeted for devaluation. When a Maravedis coin was initially worth two maravedises, the state would retrieve it, re-stamp it with a new value, for example, "four", and only return one coin to the owner. The coin, marked with the stamp "eight," is evidence of this process, having undergone several cycles of devaluation.
This strategy allowed the state to effectively devalue a currency, creating inflation and indirectly financing the State, while preserving the integrity of the Spanish dollar on the international stage. However, this targeted devaluation had consequences for the local population, who saw the value of their common currency diluted.
The case of the Maravedis illustrates how a state can selectively devalue a local currency to meet its internal economic needs, while preserving the value of a reserve currency on the global stage. It is a striking example of the complexity and finesse of monetary policy in history.
Do you want to know more? -> Link

4. Price Revolution from the 15th to the 17th Century

Between the 15th and 17th centuries, Europe witnessed a remarkable economic phenomenon, often referred to as the "price revolution." This period of inflation was largely triggered by a massive influx of precious metals, particularly gold and silver, from the Americas. With the European economy largely based on the metallic standard at the time, this additional supply of metals increased the money supply. As a result, an inflation rate of about 1 to 2% per year emerged. At first glance, this inflation may seem modest. However, at that time, such price fluctuations were unusual enough to be considered a "revolution." This highlights how changes in monetary reserves can influence the entire economic system.

5. John Law and the Assignats

In the 18th century, French economic history was marked by two significant events related to currency. First, John Law, a Scottish economist and financier, persuaded the French government to adopt a monetary system based on paper money. Although initially considered an innovative solution to the country's financial problems, this initiative quickly led to rampant inflation. Then, shortly after, during the turmoil of the French Revolution, the government introduced "assignats".
Assignats from 1793
These banknotes serve as a living testament to the first major period of hyperinflation in history. Initially designed as a response to successive financial crises, assignats quickly became a symbol of monetary instability. The government, relying excessively on this paper currency to finance its expenses, caused an unprecedented economic crisis and led to a major period of hyperinflation in France following the revolution.

6. Executive Order 6102 and the Devaluation of the Dollar

Executive Order 6102 and the Devaluation of the Dollar
In the United States, the early 1930s witnessed a major shift in monetary policy. Here is a detailed overview of this transformation:
  • The 1928 $20 Bill
In 1928, a $20 bill in the United States stated: "redeemable in gold on demand." This means that each bill was literally convertible into gold. Specifically, a $20.67 bill was equivalent to one ounce of gold.
  • Executive Order 6102
In 1933, a major upheaval occurred with the issuance of Executive Order 6102. This decree made it illegal for citizens to possess gold, whether in the form of bars, coins, or certificates.
The Gold Certificate is a good example. It was marked: "In gold coin payable to the bearer on demand." Possessing such a certificate became illegal and remained so until 1964.
  • Introduction of New Banknotes
Following the seizure of gold in 1934, a new series of banknotes was put into circulation.
The mention indicating their convertibility into gold has been removed and replaced by "This note is legal tender for all debts" (Ce billet est une monnaie légale pour toutes dettes).
  • Gold Revaluation
What is fascinating about this transition is the government's strategy. In 1934, the price of gold was revalued to $35 per ounce, instead of $20.67. Essentially, the government devalued the dollar that people owned. By purchasing gold from the population at $20.67 per ounce in 1933 and then revaluing the price of gold in 1934, the government generated a substantial profit while devaluing its citizens' savings.
In summary, within a year, the government effectively seized citizens' gold, then changed the rules of the game by revaluing the value of gold to benefit the treasury and disadvantage those who had initially exchanged their gold for notes.

The US changes history.

The United States made a historic turning point by becoming the first to devalue the world reserve currency, the US dollar, contrary to previous practices observed in small trading nations.
Previously, during the Renaissance, the Italian florin issued by Florence in the 13th century was the international reserve currency, and no devaluation had been recorded during its period of use, reflecting the importance of monetary stability for international trade.
In the same spirit, Spain and the Netherlands, as holders of the world reserve currency due to their flourishing international trade, maintained the integrity of their currencies to preserve confidence and the status quo in international exchanges. The Netherlands even witnessed the creation of the first central bank, a significant milestone in the global evolution of monetary systems.
However, the situation changed with the rise of the United States as the dominant economic power. They chose to devalue their reserve currency, thus exploiting inflation to their advantage. This decision is often attributed to the changed dynamics, where the choice of reserve currency was no longer as free as it had been before. American hegemony established the dollar as the world reserve currency, allowing for manipulation of its value. This shift reveals the potential impact of monetary policies on international trade in a globalized economy, marking a significant transition in the management of global reserve currencies.

Last example for the road: the Swiss Dinar

The Swiss Dinar illustrates another fascinating aspect of monetary devaluation, this time anchored in the pre-Gulf War Iraqi context. Named after the notable quality of its banknotes, this currency was issued by the Central Bank of Iraq and enjoyed a reputation for stability in the Middle East region. This confidence was mainly due to the quality of the banknote printing, which was done in England, implying a certain robustness against devaluation.
However, the Gulf Wars marked a turning point in the history of the Swiss Dinar. Iraq, no longer able to rely on its English supplier for banknote printing, turned to China for assistance. This transition resulted in a clear difference in the quality of the banknotes, with the Chinese version being perceived as inferior. This perception was not unfounded; the Chinese banknotes were more easily counterfeitable and susceptible to overprinting by the government, thus threatening their value.
A distinctive phenomenon emerged in the post-Gulf War Iraqi economy: the dual pricing system. Merchants offered different prices depending on the type of banknote used for payment, favoring the original Swiss Dinar over the Chinese banknote. This system reflected the maintained trust in higher-quality banknotes, which were less prone to devaluation, even in a context where value was primarily imposed by the state. This episode highlights the significance of intrinsic characteristics of currency and how, even in a fiat currency regime, the perceived quality of a currency can impact its relative value and, by extension, the confidence of economic actors.

Yes, we actually weighed the coins!

The common perception often associates currency with state creation, where its issuance and value are regulated by the state. This concept has its roots in ancient civilizations, such as Rome, where coins were standardized and stamped by the Empire, thereby conferring official value on the currency. However, a deeper exploration reveals that the intrinsic value of currency was mainly derived from its precious metal content.
An example is illustrated through the examination of a monetary weight equivalent to eight Spanish reais, or one Spanish dollar. This weight, marked with a Roman numeral indicating its value, was used by currency exchangers to evaluate the value of coins based on their weight, rather than just their stamping. By weighing the coins, the exchangers could determine if they had been altered or damaged, which could have reduced their value. This practice highlights that, although the standardized stamping by the state conferred a certain nominal value to the currency, the true value resided in the weight of the precious metal it contained.
This analysis demonstrates that trust in currency, and by extension its value, was anchored in its tangible substance rather than the mere assertion of the state. It underscores the duality between the nominal value imposed by the state and the intrinsic value dictated by the content of precious metal. Thus, currency goes beyond being a mere state instrument, with its fundamental value being intrinsically linked to tangible and measurable elements.

Conclusion

In conclusion, this study on monetary devaluation provides a deeper understanding of inflation mechanisms, which will be explored in the following videos. We will discuss the different types of inflation and the threshold at which they transition to high or hyperinflation. This solid foundation will allow us to address the complexities of inflation in the upcoming sessions. Thank you for your attention. We look forward to continuing this exploration of monetary dynamics in the next video.
Quiz
Quiz1/5
What were the two main methods historically used to increase the money supply?