Pillow makers: Making Fast Money

I didn’t come up with the phrase, “when money dies,” though I like it a lot. The phrase captures an important idea. It is that money – I refer to that paper kind issued by governments – has a finite life. At some point, it becomes worthless, or dies.

The death of a currency is often a protracted affair. It often takes decades. And as it unfolds, the people who experience it hardly believe it. That is the tale told by Adam Fergusson in his book When Money Dies: The Nightmare of Deficit Spending, Devaluation, and Hyperinflation in Weimar Germany.

First published in 1975, it had been out-of-print for years and much sought after. A used copy on Amazon cost $300 recently.

The book is a history of the death of the German mark in the 1920s. It is also a scary reminder of the devastating effects of inflation and, therefore, a cautionary tale for US central bankers and politicians who play so fast and loose with US Dollar.

If you don’t know what happened to the German mark, here’s what you need to know from When Money Dies: “In 1913, the German mark, the British shilling, the French franc and the Italian lira were all worth about the same. Four or five of any of these would buy you a US Dollar.”

By 1923, you could exchange one shilling, franc or lira for up to 1 billion marks. “Although,” Fergusson writes, “in practice, by then, no one was willing to take marks in return for anything. The mark was dead, one million-millionth of its former self. It had taken 10 years to die.”

How did that happen?

The short answer is that post-Imperial Germany found itself with a crushing load of debt. Raising taxes or cutting spending is politically difficult in any age. And so it was in Germany. To deal with these debts, Germany chose the path of least resistance. It printed lots and lots of money.

Sounds like the fiscal position the US government finds itself in today. Bleeding deficits with no end in sight. Piling on debt and entitlements with no end in sight. The solution so far? Why, “quantitative easing.” In a new introduction, Fergusson writes:

“Money may no longer be physically printed and distributed in the voluminous quantities of 1923. However, ‘quantitative easing,’ that modern euphemism for surreptitious deficit financing in an electronic era, can no less become an assault on monetary discipline.”

But back to Germany…

Eventually, prices started to rise as the mark lost purchasing power. One of the great strengths of the book is the on-the-ground view you get from the people who lived through it. It gives you an unsettling look at German society as it starts to dissolve and as inflation starts to wreak havoc.

It started slowly, with commodity prices starting to rise everywhere. But as the years wore on, prices kept going up in big steps. Soon the damage was remarkable.

In just eight years since 1913, the price of rye bread rose 13-fold. Beef rose 17-fold. Sugar, milk, pork and potatoes went up 23-28-fold. Butter went up 33-fold! And these were official prices. As a practical matter, real prices were often a third higher. It’s hard to fathom.

All this brought out the worst in people. Germany became an ugly society, looking for blame. As Fergusson writes: “They picked upon other classes, other races, other political parties, other nations.” There was a long list of villains: “the greed of tourists, or the peasants, or the wage demands of labor, or the selfishness of industrialists and profiteers, or the sharpness of Jews or the speculators making fortunes in the money markets.”

Erna von Pustau, who lived through it, described what it was like:

“My allowance and all the money I earned were not worth one cup of coffee. You could go to the baker in the morning and buy two rolls for 20 marks; but go there in the afternoon and the same two rolls were 25 marks. The baker didn’t know how it happened… His customers didn’t know… It had somehow to do with the dollar, somehow to do with the stock exchange – and somehow, maybe, to do with the Jews.”

As we know what would happen later in Germany, her comments are particularly chilling.

Each year, people thought it couldn’t get worse. “And yet things always did, from bad to worse, to worse, to worse,” Fergusson writes. “It was unimaginable in 1921 that 1922 could hold any more terrors. They came, sure enough, and were in due course more than eclipsed, with the turn of the following year.”

Germany plunged into hyperinflation. The price changes get ridiculous to talk about – the numbers so large that they are practically meaningless. Who can imagine paying 500 billion marks for a dozen eggs? It’s also interesting to see how society dealt with this breakdown in the currency. The idea of real wealth became very important. Not the kind of wealth denominated in abstract printed marks, but real wealth that one could use.

People bought things. Hugo Stinnes, an industrialist, bought factories, mines, newspapers. The man on the street bought what he could trade. Fergusson ends with a powerful observation:

“In war, boots; in flight, a place in a boat or a seat on a lorry may be the most vital thing in the world, more desirable than untold millions. In hyperinflation, a kilo of potatoes was worth, to some, more than the family silver; a side of pork more than the grand piano.”

Despite the awful experience of the 1920s, Germany would repeat its errors again and again. In the 1930s, Hitler would crank up the money presses. By 1948, the reichsmark (which replaced the old mark) died. So Germany created the deutsche mark. Yet it wasn’t much better. It lost two-thirds of its purchasing power by 1975.

Such is the fate of all paper money.

I will leave it to you to decide how much relevance Germany’s experience has to the US today. I find many alarming parallels.

I would point out, too, that the US dollar has lost 95% of its purchasing power since 1913. And the US dollar is among the best currencies of the last hundred years. That says something about paper currencies, doesn’t it?

It’s also why staying ahead of inflation is one of the chief tasks of investing.

The monetary puppet-masters at the Fed will have you believe inflationary pressures are inconsequential or a far off mirage.

Don’t believe it for a second…

QE2 is humming along with the prospects of a QE3 right around the corner ready to pump untold billions into an already cash-flush banking system.

Now is the time for investors to take action and protect capital from the inflationary pressures building up in our economy.

Regards,

Chris Mayer,

for The Daily Reckoning

“When Money Dies” originally appeared in the Daily Reckoning. The Daily Reckoning has published articles on the impact of quantitative easing, bakken oil, and hyperinflation.

Social game maker Zynga is reportedly talking to investors about raising a new $250 million round of funding that values the company at $7 – $9 billion, according to the Wall Street Journal.

That valuation is much higher than the $5 billion value Zynga had on the secondary market( where employees sell shares to private investors). And it shows investors are still going gaga about social games and anything related to fast-growing social media platforms such Facebook.

Zynga has 275.8 million monthly active users on Facebook, including 96 million who are playing the company’s hot CityVille game. CityVille is the fastest-growing game ever, as it hit 100 million players in just 43 days before sinking down again more recently.

The funding shows that investors consider Zynga to be in the hot class of social media companies that includes Facebook, Twitter, Groupon, and LinkedIn. Both LinkedIn and Pandora have filed to go public, but Zynga has postponed its IPO by raising large rounds from investors such as SoftBank and DST.

Citing unnamed sources, the newspaper said the decision to raise a round could be weeks away and may not happen. Zynga is valued so high because it has figured out how to make money online through the free-to-play business model. Pioneered in Asia, that model lets users play games for free. But to progress faster in a game, they can pay real money for virtual goods such as tractor fuel in FarmVille. Zynga has also made a lot of deals to market its games and virtual goods via 7-Eleven stores and American Express cards. The company has made itself more attractive to investors by expanding into new territories and moving into mobile games.

The $7 – $9 billion figure is astounding, since Zynga’s revenues in 2010 were estimated to be $850 million. Investors are valuing Zynga at 10 times revenue. Compare that to a successful mainstream game company like Electronic Arts, which has a market value of $6 billion and is valued at less than two times revenue.

Zynga had an estimated $400 million in profits in 2010, the Wall Street Journal said. Zynga declined to comment to the WSJ. Zynga’s value is closing in on the biggest video game maker, Activision Blizzard, valued at $13 billion.

Zynga doesn’t need a lot of money for operations, but it has been buying about one company a month to acquire new developer talent so that it can keep making better and better games. To date, Zynga has raised $360 million from investors, not counting a rumored Google investment that was never announced.

The WSJ said that Zynga will likely avoid the “special-purpose vehicle” that Goldman Sachs created for wealthy foreign clients to invest in Facebook. That deal raised concerns among regulators in the U.S.

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Saturday, March 5, 2011

Making Fast Money

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