Value of the Dollar

In 1971 President Nixon severed the tie between the US Dollar and gold.  This meant that the dollar was no long valued based on real hard commodities, but became a commodity on its own.  A commodity’s value is determined largely by supply and demand.  The more common something is the less valuable it is.  The less common the more valuable it is.  Inflation would be the supply growing and deflation would be the supply shrinking.  Inflation means that a dollar can now buy few goods or services.

The supply of money is controlled by the Federal Reserve, the central bank of the United States of America.  As the central bank it has various responsibilities.  Along with controlling the monetary policy it is mandated to maintain stable prices and to keep employment high. 

The Federal Reserve currently believes we are in a state of deflation.  In order to turn this deflation and spur economic growth the Fed would need to inject money into the system.  It is a commonly held belief that a little inflation is needed for economic growth.  (I will let you research that and reach your own conclusion).  So how does the Fed inject the money into the system?  More on that later.

It is widely known that US Federal government operates in a budgetary deficit year after year.  (Never mind that we haven’t had a budget in four years.)  In order to have the capital to operate under a deficit we issue treasuries.  It is easiest to think of treasuries as loans.  Banks and foreign governments buy treasuries as a safe investment. 

Now back to the Fed.  The Fed, through a process called quantitative easing, is printing money and buying treasuries from banks.  This is getting more currency in the economy, which could be loaned out or used to buy treasuries.  (For a humorous look at quantitative easing, http://youtu.be/PTUY16CkS-k)

In review.  The Federal government runs a deficit.   We get operating capital by issuing treasuries.  In order to get money in the system so someone or thing can buy treasuries the Fed prints money, which increases the money supply that leads to inflation.  Now the money the Federal government raised is worth less and can buy fewer goods and services.  So we will have to issue more treasuries. 

Inflation will affect everyone.  The money you have in bank will be worth less.  The money you bring home will buy less.  It may even lead to hyperinflation.  Imagine a world where in a span of weeks a loaf of bread goes from costing a couple bucks to costing a few million dollars.

It doesn't have to be that extreme to cause major problems.  Even a slightly above normal inflation rate will leave money in banks and investments with less buying power than when the money was earned.  One way to hedge against this is to invest in hard assets.  These assets can be things that you know you will need: food or clothes.  That can be things you can barter: food, firearms, ammo, firewood.

There are a lot of options.  You should do your own research and develop your own plan.  We know we will have inflation.  That is the goal of the policies of the Fed.  Do we know how bad it will be?  No, but if a few simple things can be done to hedge against it.