What is hyperinflation and how would it impact me?
In October 2021, the term “hyperinflation” suddenly hit the news. Jack Dorsey, CEO of Twitter and Square, tweeted that hyperinflation would happen in the U.S. “soon” and would “change everything.”
If the first statement is true, the second probably is too. Hyperinflation, or out-of-control price growth, can drive economies into the ground.
Dorsey isn’t an economist, and he isn’t an impartial observer. He’s a major fan of cryptocurrency and is trying to pitch others on it as an inflation hedge. But all the same, his claim has people wondering: Is hyperinflation really about to hit the U.S.? And just how bad would it be if it did?
What Is Hyperinflation?
Hyperinflation is quite different from regular inflation, or rising prices. Economists agree that a little bit of inflation is normal and even healthy. Because wages go up along with prices, it keeps consumers feeling positive. And modest inflation tends to be a sign of economic growth.
Hyperinflation is far more destructive. It occurs when prices shoot up sharply and uncontrollably. In many cases, hyperinflation means the rate of inflation is not just high but accelerating. In other words, prices keep rising faster and faster over time.
Economists don’t all agree on when high inflation crosses the line to hyperinflation. Some of them reserve the term for cases when prices are rising by more than 50% per month. Others set the bar at an inflation rate of 1,000% per year.
By comparison, inflation in the U.S. since 1913 has never been higher than 17.8% per year. In 2021, when rising prices got investors all over the country worried about inflation, it was still only 4.8%. In cases of hyperinflation, prices can rise by 4.8% or more in a single day.
Price increases this high distort consumers’ normal behavior. They get paid on Friday and hurry to spend their money by nightfall, because its purchasing power is falling by the hour. Or perhaps they convert their money to a foreign currency, hoping it will hold its value better.
Worst of all, sometimes prices rise so fast that wages can’t keep up. That means people can no longer afford to pay for basic living expenses, like food and shelter.
What Hyperinflation Looks Like
To understand how different hyperinflation is from regular inflation, consider some real-world examples. This list shows several items in the “basket” of goods and services used to calculate the Consumer Price Index, or CPI. (The CPI is the standard tool for measuring inflation.)
Look at how much the average prices of these items rose from 2020 to 2021. Then contrast that with how much they would have risen under hyperinflation.
- Coffee. Between September 2020 and September 2021, the price of coffee rose by 4%. A cup of coffee that cost $2 in 2020 would cost $2.08 in 2021. Under 1,000% hyperinflation, by contrast, the price would have risen to $22.
- Milk. Want some milk with that coffee? Milk prices rose by 1.8% over the year. That means a gallon of milk priced at $3.50 rose to $3.56. Under hyperinflation, the price would be $38.50 instead.
- Gasoline. 2020 saw a hefty 42% rise in gas prices. That’s a big increase, driving up the price of a $2.25 gallon of gas to $3.20. But with hyperinflation, it would be a whopping $24.75 per gallon.
- Shoes. Prices for men’s footwear rose by 5.5%. A pair of shoes that cost $65 in 2020 would cost $68.58 in 2021. Under hyperinflation, they’d cost $715.
- Medicine. Prices for prescription drugs actually fell by 1.6% over the year. A $95 vial of insulin, for instance, would have fallen to $93.48. But under hyperinflation, it would have risen to $1,045.
- Rent. The average rent price rose by 2.4% in 2020. An apartment that rented for $1,625 per month would have risen to $1,664. Under hyperinflation, it would cost $17,875 per month.
Examples of Hyperinflation
Fortunately, hyperinflation doesn’t happen very often. However, there have been several notable cases throughout world history.
- Germany. After World War I, Germany’s Weimar Republic printed huge amounts of money to pay war reparations. The value of its currency, the mark, fell from about $0.25 to less than one-trillionth of a dollar. A photo from the period shows a woman burning paper money for heat because it was cheaper than wood.
- Greece. During and after World War II, Greece also printed money to pay crippling war debts. Prices in the country were doubling every 4.3 days. In 1942, the largest bill in the country was a 50,000-drachma note. By 1944, the government had issued a note worth 100 trillion drachmas.
- Hungary. The worst hyperinflation ever occurred in Hungary after World War II. Once again, the cause was printing money to cover war debt. At its peak, the inflation rate was 195% per day, with prices doubling every 15.6 hours. By 1946, the total value of all the banknotes in circulation in the country was less than $0.001.
- Yugoslavia. In the 1990s, Yugoslavia was a debt-ridden, war-torn nation in Eastern Europe. It had also suffered the theft of over $1.4 billion from its treasury by a corrupt politician. The central bank printed money to cover the loss, and the inflation rate rose to a jaw-dropping 64.6% per day. People had to do business through bartering.
- Zimbabwe. From 2004 through 2009, Zimbabwe experienced inflation as high as 98% per day. Land seizures and drought had reduced food production, sending food prices soaring. Also, the government printed trillions of its dollars to pay off loans. At one point, a loaf of bread cost 35 million Zimbabwean dollars. Many shopkeepers refused to accept the currency at all, doing business only in U.S. dollars.
- Venezuela. The latest case of hyperinflation began in Venezuela in 2016 and is still going on. Inflation in the country was high even before that, but it grew out of control after the government printed money to deal with a financial crisis. As of early 2020, the inflation rate was 15,000% per year. In 2018, the government launched a cryptocurrency called the petro because it couldn’t afford to print enough paper money. But many Venezuelans are using eggs as money instead.
What Causes Hyperinflation?
The causes of hyperinflation are similar to the causes of regular inflation, but taken to extremes. It can result from a rapid rise in the money supply, a surge in consumer demand, or plunging consumer confidence.
Excess Money Supply
Most cases of hyperinflation occur when a government prints too much money. Usually, it does this because it’s running a budget deficit that it can’t pay off any other way.
Governments can get into this situation for a variety of reasons. Often they face debts due to war or some other crisis. They urgently need money, but they can’t raise taxes and can’t or won’t borrow. So they resort to printing money to pay the bills.
But a greater amount of money in circulation means each dollar is worth less. This creates a vicious cycle: as the value of money shrinks, the government needs more and more to fund its deficit spending. So it prints more, causing prices to rise even faster.
In other cases, governments print money to fend off recession or depression. The central bank increases the money supply to encourage banks to lend to consumers and businesses. It hopes that this will boost spending and investment.
The problem is, often there isn’t enough economic growth (measured by gross domestic product, or GDP) to match the rise in demand. Consumers want to spend more, but there isn’t any more to buy. This results in demand-pull inflation, described below.
This type of inflation occurs when demand for goods and services outstrips supply. Economist Milton Friedman called it “too much money chasing too few goods.”
This happens all the time with specific products. For instance, gas prices rise every year in the summer when more people are driving.
But sometimes it hits the whole economy at once. Big government projects or natural disasters can create a demand that supply can’t meet. Or exports can surge, leaving too few goods at home. And sometimes during an economic boom, people start spending like mad.
Surging demand usually causes only normal inflation. But in some cases, rising prices lead to hoarding. This restricts supplies still more, leading to shortages of goods.
Those shortages cause even more panic buying, making the crisis worse. If this cycle gets out of control, hyperinflation can result.
Often, demand-pull and excess money supply work together. When the government sees the prices of goods rising, it sometimes prints money to ease the pressure on consumers. But this just means even more money chasing fewer goods, creating a vicious cycle.
Loss of Confidence in the Economy or Currency System
When prices are rising, people often respond by spending more. They expect their money to lose purchasing power over time, so they want to spend it while it’s still worth something.
But sometimes, it’s not a rise in prices that causes consumers to lose faith in their value of their money. Instead, it happens the other way around.
This usually happens during some sort of crisis, such as a war, economic turmoil, or government corruption. Consumers and investors lose faith in the government. Even if it hasn’t started printing too much money, they fear it will do so before long.
This can lead to hyperinflation in several ways:
- Businesses operating in the country don’t trust its currency. They start charging higher prices to make up for the risk that the currency will lose value.
- Citizens fear their money will become worthless. They start hoarding goods and commodities they hope will maintain their value. This drives up prices of basic goods like food and fuel.
- Investors start moving their money outside the country. As they sell off their country’s investments to buy another country’s, it drives down the value of the local currency.
What Happens During Hyperinflation?
To understand how hyperinflation can affect people and the economy, think about your monthly grocery budget. For instance, let’s say you normally spend $220 per week to feed a family of four.
But one month, you go to the store and find it costs $330 for the same amount of food. And by the following month, it’s up to $495. How would these higher prices affect your life?
What Happens to Consumers During Hyperinflation?
If you have money in the bank, you’d probably use those savings to stock up on food. This would be a perfectly logical response on your part. With the purchasing power of your dollars shrinking fast, it would make sense to spend them as fast as possible.
But with you and so many others buying extra food, store shelves would quickly empty. These shortages would lead to even steeper price increases, as desperate shoppers paid more and more for any food they could get.
If you’re already on a tight budget, your situation would be even worse. With no savings to fall back on, you’d have to cut back in other areas to buy food. You’d cut out all spending on luxuries and even cut back on necessities like heating fuel.
What Happens to Savings During Hyperinflation?
If you didn’t spend all your savings right away, you’d see its purchasing power fall quickly. Before long, all the money in your checking account wouldn’t buy a basket of groceries.
This would create an even bigger problem if you’re retired. If you’re still working, your earnings would probably rise to keep pace with rising prices. But if you’re retired, you’d be trying to live on savings that would be worth less and less.
After years of carefully saving for retirement, you’d find your nest egg was no longer enough to live on. You’d have to cut back spending severely to make ends meet. If that didn’t work, you’d have to borrow money or seek help from family, friends, and charities.
What Happens to Debt and Loans During Hyperinflation?
If you’re already in debt, hyperinflation would actually be a good thing for you.
For instance, say you have $50,000 in student loan debt. That amount would stay the same, but the dollars would be worth less and less over time. In time, the loan debt that looks so big today could be worth no more than a loaf of bread.
That would be good news for you, but bad news for the bank that loaned you the money. Your debt would now be worthless to it.
The lender could try to make up for this by raising its interest rates on new loans. But to keep pace with inflation, it would have to raise them so high that few people could afford them.
Plus, with consumers like you spending all their savings, it would have no new money coming in to make loans with. Between that and the reduced value of its current loans, the bank could even go out of business.
What Happens to Businesses During Hyperinflation?
Your bank wouldn’t be the only business at risk. Your local coffee shop, movie theater, and barber shop would also suffer. As you and other consumers cut back your spending on everything but basic needs, their business would dry up.
Eventually, some of these businesses would shut down. That would put their employees out of work, making their financial situation even more desperate. If this happened to enough businesses, the entire economy might collapse.
The problem would be greatest for businesses that rely on imports. For instance, say your local coffee shop buys its coffee beans from South America. The cost of those beans would soar as the value of the dollar fell.
The only businesses doing well would be exporters. Suppose a software company in your area sells its products in Europe. With the dollar falling, its software would be cheaper than competing software from other countries.
Better still, the software company would get paid in euros. Those would be worth more and more over time in comparison to the dollar.
What Happens to Stocks During Hyperinflation?
What’s good or bad for businesses is also good or bad for their investors. That means that if you have money in the stock market, some of your stocks would suffer during hyperinflation. However, others would thrive.
In general, the price of your stocks would rise along with other prices. But that wouldn’t matter much, because each dollar would be worth less.
Stocks of companies that make and sell basic goods would probably do well. People would be stockpiling those goods, so the companies’ profits would increase. Stocks of export companies would also perform well. Their stock values would rise and they might raise dividends as well.
But companies that deal in luxuries would suffer. With prices rising, people would have less to spend on their products and services. And stocks of importers would fare the worst of all.
On the whole, your stock investments would probably do all right as long as you had a diversified portfolio. Some of your stocks would fall in value, but others would rise, so it would all balance out.
What Happens to Real Estate During Hyperinflation?
If you own your home or invest in real estate, that investment would probably rise in value too. As the dollar fell, people would take money out of the bank and put it into other assets that would hold their value better, including real estate.
The value of houses would also rise because new houses would cost more to build. The builders would have to sell them for more to make up their costs. The rising cost of these homes would also raise the value of yours.
You’d be even better off if you’d bought real estate using a fixed-rate mortgage. Your mortgage payment would stay the same, but you could pay it off with deflated dollars. That would be a much better deal than keeping up with skyrocketing rent costs.
But if you wanted to buy a house, you’d have a problem. Not only would home prices be higher, but loans would be more costly. You’d qualify for a much smaller mortgage and might not be able to afford a house at all.
And that’s assuming there were still any banks left to lend to you. Remember, when hyperinflation gets bad enough, lenders can go out of business. That leaves home buyers and other borrowers out of luck.
What Happens to Government Spending During Hyperinflation?
As businesses across the economy failed, the government would no longer be able to collect taxes from them. It would also get less from individuals because more and more people would be out of work. That would leave it with less tax revenue to pay all its bills.
It could try to make up the difference by printing more money. But that would just make the inflation crisis even worse.
The only other alternative would be for it to stop providing vital services. People would no longer get their Social Security checks. Medicare and Medicaid would stop paying for health care. The post office would stop delivering mail. All this would mean still greater hardship for people who were already suffering.
Clearly, the situation in the U.S. right now looks nothing like this nightmare scenario. Yes, prices rose in 2021 due to tightened supply and pent-up demand from the COVID-19 pandemic. But the current rate of inflation, around 5% per year, is nowhere near hyperinflation levels.
So Dorsey’s claim that hyperinflation is happening now doesn’t hold water. That doesn’t mean it couldn’t happen in the future. But so far, there’s been no sign of anything to trigger it.
The government has injected a massive amount of capital into the economy in response to the COVID-19 crisis, but it hasn’t been printing money uncontrollably just to pay its debts. Demand for some products and services has gone up as the economy starts to reopen, but there’s no sign that anyone is hoarding products. So even if there is a post-COVID inflation spike, it’s likely to be short-lived.
You can protect yourself the same way you’d guard against the effects of regular inflation. Diversify your assets. Brush up your skills so you can compete if the job market suffers. And if you know you’ll need to borrow money, do it now while interest rates are manageable.
All these steps will also help protect you from hyperinflation if it actually occurs. And they won’t hurt you if it doesn’t.