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August 27, 2007

USD R.I.P.
by Adrian Ash

"...The call for more money to fix the financial markets comes just as global inflation is beginning to cause real mischief..."

EVEN IN DEATH, it seems, you're no longer safe from the iniquities of inflation.

In Cheshire, England, a man has just been charged with stealing 400 bronze memorial plaques from his local crematorium. Bronze is 90% copper, and thanks to the price of copper quadrupling inside four years, the melt value of those R.I.P's now stands above £145,000 - some $290,000 at today's exchange rate.

Outside the Garden of Remembrance, beware the evils of inflation at dinner time, too. Fishmongers in Thailand have been disguising meat from the deadly, and therefore worthless puffer fish as salmon, reports the Associated Press, killing 15 people in the last three years.

Health and safety officials in Beijing, meantime, just raided a "recycled" chopsticks factory. It has been selling up to 100,000 pairs of used, disposable bamboo chopsticks per day, without using any kind of disinfectant first.

In the United States, "my wife came back from Wal-Mart," writes a reader of Mike Shedlock's Global Economic Analysis, "complaining about her favorite major brand chicken-breast patties going from fifteen per pack about a year ago to twelve this winter to ten per package at the same price recently."

Over at Whiskey & Gunpowder, Fred Sheehan notes the same trend - the trend of one Dollar buying less stuff with each day that passes. General Mills, the giant US foodmaker behind Lucky Stars and Cheerios, warned back in March that "input costs" were due to rise. Now the Minneapolis Star Tribune reports that, "customers will actually see lower prices per box, but the cereal boxes will be smaller, so the effect is a price increase of a few percent."

This kind of creeping inflation - Route #1 to giving you less stuff in return for each Dollar, Pound, Euro or Yen that you spend - is nothing new, of course. On the shelves of the candy store just next-door to our offices here at BullionVault in London, the King Size Mars Bar ain't what it used to be. It ain't even what the standard Mars Bar used to be, either.

"Among the things that money can't buy is everything it used to," as Max Kauffman, the comedian, joked in the 1950s. But US consumers have since lost their sense of humor. The Dollar has dropped another 86% of its purchasing power since then.

So where next for the flight to safety? Here in the United Kingdom, and despite the Pound Sterling breaking back above $2.00 already this week, the cost of living has risen 30 times over since 1945.

Put another way, the Pound - strongest of the world's five major currencies in 2007 - now buys only 3.3% of the "stuff" that it bought at the end of the Second World War. With the UK money supply still growing by 13% year on year, the trade-off between quantity and quality has only become clearer.

Less-stuff-per-Pound or Dollar is as plain a definition of inflation as you'll ever find. It works when prices rise - the common-or-garden use of the word - and it also works when rising prices are hidden by shrinking the size of what money buys.

In the inflation-crazed '70s, corporations "discovered that they could increase profits and expand market-share by degrading their product, advertising relentlessly, packaging it in a different form, and raising its unit price," reports David Hackett Fisher in The Great Wave, his grand history of price revolutions across the last eight centuries. But less-stuff-per-Dollar wasn't just a corporate strategy. It became a necessity as input prices rose across manufacturing, home-building, transport and most crucially the consumer goods sector.

David Slawson, a US economist, made a study of this "competitive inflation" in the price of chocolate bars. They rose seven-fold between the late 1950s and '83 in a series of small five-cent increments. "Each increase was disguised by the making the bar larger at the same time," he found, "the size of the bar having been gradually decreased since the time of the last price rise."

Fast forward 25 years, and what price a mid-morning Snickers as summer '07 drips through the guttering? The spot market in cocoa has taken a tumble so far this month, after forecasts of an over-sized surplus in the 2007/08 season. But the price of drinking a cup of tea in England rose by 5.5% in the year to July according to the official government data.

At the sillier end of the hot beverages market, rising prices have finally forced me to swap my favorite cup of over-priced foam for an inferior bucket of what passes for coffee. The government's statisticians might call this "substitution" - and as I'm now getting more liquid for less money, they might call the net result a drop in my cost of living, too!

But mud-flavored water - like second-hand chopsticks, unwashed and resold - does not mean the value of the cash in my wallet has risen.

"Governments are often tempted to answer the cry for more purchasing power by simply creating more money," as Jerry L.Jordan - a central banker of all people - wrote in a recent issue of the Federal Reserve Bank of St.Louis Review. "But in so doing, the opposite effect is achieved - the purchasing power of money is actually reduced."

"The result," Jordan continues, "is inflation: a rise in the number of Dollars required to purchase a given standard of living."

Put another way, the current crisis in world investment markets will only increase the quantity of money - not its quality - even if fresh central-bank lending somehow manages to bail out the world's biggest investment banks. (Bailing out US homeowners, whether through a dramatic return to the "emergency" interest rates of 2003, or by creating new money - out of thin air - to refinance their mortgage debt, will do just the same.)

One defense that cash savers and hard-put investors might choose is gold bullion. No one's credit-backed promise, and impossible to create at will, gold remains as far from today's mountain of complex financial junk as an investor can get.

Adrian Ash
BullionVault.com

Head of research at BullionVault.com, the fastest growing gold bullion service online, Adrian Ash is also City correspondent for The Daily Reckoning in London, and a regular contributor to MoneyWeek magazine.

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Please Note: This article is to inform your thinking, not lead it. Only you can decide the best place for your money, and any decision you make will put your money at risk. Information or data included here may have already been overtaken by events and should be verified elsewhere if you choose to include it in your own analysis.

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