Sacre Bleu!

...or whatever they say in Central Africa. Zimbabwe's economy is crashing and burning under some of the most striking hyperinflation in recent history, threatening the security of Robert Mugabe's already tenuous hold on the country. Right now, the going rate for Zimbabwean dollars is over 300,000 to one U.S. dollar - almost double what it was last week. This NY Times article from a little over a year ago gives a little perspective by saying that toilet paper now costs $417 - per sheet. And since then, the situation has gotten much worse.

Since that Times article, was published, in August 2006, Mugabe revalued the currency to (supposedly) make it more competitive. His method? Just chop three zeroes off the value of each bill. Presto, the exchange rate is instantly cut from 550,000-to-1 to 550-to-1. Only problem is that such a maneuver doesn't fix the underlying cause, and inflation has shot back up. Many people can't even afford to take the money they've earned to the market and buy bread - by the time they get there, the bread has become too expensive. Trying to put money in banks, invest, or save for the future in any way is utterly self-defeating.

Some experts are saying that this has the potential to be the worst peacetime inflation in history. It's being compared to the legendary hyperinflation of the Weimar Republic, the democratic government of Germany installed after the fall of the Kaiser in World War I, which was crippled by reparations payments and war debts (Hitler took advantage of this situation and the resultant German bitterness toward the French to come to power). During the worst moments of the Weimar economy, prices quadrupled daily, and people didn't even bother to collect the change from their 1,000 billion mark notes. But unlike present-day Zimbabwe, the Weimar crisis was caused by the war - the underlying German economy was still relatively strong.

It is becoming an increasing certainty that Mugabe won't survive the fallout. Zimbabwe now has effectively no economy, and the government is bankrupt. A government without money can't govern, and thus ceases to exist.

All this is a result of the underlying weakness of floating currency: the value depends on people's belief in its value. Floating currency is valuable because it can be manipulated to shield the economy from the worst effects of temporary crises - for instance, the 1970s Arab Oil Embargo, which was the original reason the U.S. left the gold standard. However, if people stop believing in the value underlying the currency - governmental stability, economic potential, and so forth - the currency has the potential to crash in value, as we are now seeing. Currently, there is about $784 billion worth of U.S. dollars in circulation. However, about half that is held by foreigners overseas, meaning that about $400 billion worth of actual currency supports a $13 billion economy - a ratio of 32.5 to one.

Now for the great thought experiment - what happens to the U.S. economy if the faith of people in the dollar's stability is shaken, for instance, by weakened respect for the U.S. overseas, by China dumping their vast dollar reserves on the open market, or by mounting national debt loads? The Fed has some ability to manipulate the value of the dollar, but the bottom line is that the dollar is worth whatever people think it is. Expert opinion is divided (actually, scattered) on what will happen in this case of increasing likelihood, but whatever the result is, it won't be good.

Now that's scary.