‘Inflation is always and everywhere a monetary phenomenon in the sense that it can be produced only by more rapid increase in the quantity of money than in outputs’ – Milton Friedman (monetarist economist and adviser to Mrs Thatcher).
‘It’s sort of like a teeter-totter, when interest rates go down, prices go up’ – Bill Gross (former ‘Bond King’ of US investment company PIMCO).
Following my retirement earlier this year, Alex Rae and Rob Blinkhorn at Wise have invited me to contribute a series of occasional articles on themes that affect us all as investors but are more wide-ranging than can easily be covered in the normal reporting process.
The idea of a mini-series on inflation was conceived in response to the return of inflationary pressures earlier this year, after an absence of around forty years. The question of whether we are in the foothills of a major inflationary upswing, or whether the price rises we are seeing are a temporary phenomenon caused by Covid-induced disruptions to the supply chain may turn out to be the over-riding issue for investors over the next few years.
It is perhaps unsurprising that the consensus view this year has been to see the prospect of a rise in inflation as no more than a short-term threat. The last forty years have witnessed a super-cycle of ever-lower inflation and ever-declining interest rates - UK interest rates have fallen from around 17% in 1980 to 0.1% today. My generation, the ‘baby boomers’, is the last to experience genuinely problematic inflation, such as prevailed throughout the 1970’s when UK inflation peaked at over 20%, and it’s hard for people who haven’t experienced it, and the way it changes our everyday behaviour, to imagine how inflation can alter lives.
The attitudes of central banks, which control monetary policy, has changed too. In the early 1980’s, the control of inflation, in the sense of trying to reduce it urgently and by all possible means, was at the heart of central bank policy. Central bank inflation policy has come full circle, and until very recently, has consisted of regularly falling below – by a considerable margin - the stated target of 2.0%. Moreover, there is a view at the Bank of England that as inflation has undershot so consistently for so long, there is no harm in letting it run over target for a while in order to catch up with itself.
A 2.0% inflation target is in itself interesting. Why isn’t the target 0%, otherwise known as price stability, rather than 2.0%? At 2.0% inflation, the value of money halves roughly every thirty-five years, and loses seven-eighths of its value over the course of a century. After two centuries, it loses sixty-three sixty-fourths of its value (only around 1.5% of the original spending power is left after 200 years) and so on.
This mini-series will take a journey back through time and look at four periods in which inflation – a rapid decline in the spending power of money - was experienced as a disruptive force – the second half of the fourteenth century, following the first visitation of the Black Death pandemic, the persistent inflation of the period 1500-1630, in the time of the Tudors and early Stuarts, the hyper-inflation in Germany in the early 1920’s, and the ‘great inflation’ of the late 1960’s and ‘70s, which I remember well. It will look at what people at the time thought was causing the inflation, who the winners and losers were (there are always winners and losers in times of inflation – the Weimar inflation in 1920s Germany created obscene fortunes for the lucky few while bankrupting nearly everyone else).
It will also consider what people at the time and later historians thought the causes were, and how things played out, looking mainly at the UK apart from Weimar Germany. It will then be time to return to the present day to see if any of the causes of previous bouts of inflation are in evidence now.
Though I will stick to facts as far as possible, it is inevitable that a certain amount of personal judgement/bias will creep in, so this is a good moment to emphasize that this blog is not in any way intended as offering financial advice, nor does its author have FCA permission to give financial advice of any kind.
Finally, before setting off for the year 1349, in the immediate aftermath of the Black Death (known at the time as the Magna Pestilentia), I’d like to mention something that has struck me with great clarity in all the four episodes that I have been looking at. That is the persistent need of people living in society to have a reliable currency so that trade can happen. Barter has serious limitations as a means of exchange. I can exchange my cow for your twenty chickens, except that you might not want the cow and I might not want chickens, or they might be the wrong sort of chickens, or too old, or cockerels when I wanted hens, and anyway you might only have fifteen of them, and that’s why we need money. In earlier times, money had a real value. A coin contained gold or silver to the face value of the coin. As economies have become more sophisticated, our ideas of what gives a currency its intrinsic value have become ever more conceptual and departed ever further from the need to be backed by real consumable assets. We have got used to the absence of this asset support, and on the whole don’t miss it. In times gone by, when kings needed to create new money, they had to get the Royal Mint to collect and melt down a quantity of silver coin, mix it with a base metal and re-issue a larger number of coins with the same nominal value as before. This was known as ‘currency debasement’. Life is so much easier for today’s central bankers who can create money by just clicking a mouse from the comfort of their desks. The fact is, society needs a universally-accepted means of exchange that we can believe in, just as we need the rule of law. When people lose confidence in the means of exchange, bad things always happen. But people still need the means of exchange. In Germany, towards the end of 1923, when the mark had lost all its value, starving civil servants would do a day’s work for a lump of coal. This is what people are driven to when money fails. A stable means of exchange is one of society’s luxuries, one that we have been more or less able to take for granted for the last four decades. That is what may now be under threat – or not.
 Average inflation for the 40-year period 1980 to 2020 was just 3.8% per year, with the average over the 20 year period 2000 to 2020 being just 2.8% per year (Source – Bank of England inflation calculator)
The calamitous fourteenth century
The Black Death came at the end of a period known as the High Middle Ages. During this time, long distance trading flourished (which was how the Black Death entered Europe), manufacturing grew, supported by a series of new inventions, agricultural productivity increased, the population was growing robustly and nowhere faster than in the cities. The Black Death put an end to all that.
The world has suffered from the Covid-19 pandemic since the beginning of 2020 and to get a sense of the relative magnitude of the Black Death, it’s worth comparing the fatalities now and then. Today, the world population is around 7.9 billion people (7,900 million). Official World Health Organization figures put the current Covid-19 death toll just over 5.0m, though authoritative studies based on numbers for excess deaths in different countries (the difference between the numbers of people who have died compared to the numbers of forecast deaths based on long-term statistics) estimate the much higher number of 15.0 million. Current world population growth is 71,000 people per day, or around 150 million since the start of the pandemic. In other words, Covid-19, dreadful though it has been, has served only to reduce world population growth by around one-tenth of what it would have been otherwise.
The Black Death, on the other hand, reduced the world’s population from around 450 million to perhaps 350 million, in other words by around a quarter. An equivalent proportion today would be two billion people, or roughly thirty times the entire population of the UK. It took a further 80 to 150 years before the world’s population recovered to its former level. Whole villages were wiped out. The pestilence killed healthy people in less than two days. No one knew the cause, though the wrath of God was suspected, and there was no known cure. The following quotation gives a sense of the despair that was felt at the time:
‘They died by the hundreds, both day and night, and all were thrown in…ditches and covered with earth, and as soon as those ditches were filled, more were dug. And I, Agnola di Tura, buried my five children with my own hands…and so many died that all believed that it was the end of the world’.
The Black Death killed mainly men, mainly city-dwellers (who lived close together meaning ease of transmission), the poor and the young. Nor did it come only once. The next major outbreak, in 1360-3 was known as the ‘children’s plague’ or the ‘little mortality’ as it killed young people almost exclusively, and there were recurrences in 1366-9, 1374-5, 1400 and 1407.
In those days, far more people lived on the land. The feudal system survived, based around the Lord of the Manor who still had great power over the peasants who lived on his land. Serfdom was in decline but was still common at this time. A serf was effectively his master’s property. He was bound to cultivate his master’s land, work in his forests and mines, and help to mend his roads, in exchange for protection, justice and the right to cultivate certain fields to maintain subsistence for himself and his family.
So how did this lead to inflation? The immediate effect of the Black Death was to create a severe shortage of agricultural labour, which gave the peasant greater bargaining power to demand higher wages and quickly put an end to serfdom, and indeed to the entire feudal system, which had virtually disappeared by the end of the following century. A new fairer system of Copyhold appeared, where rents were negotiated and both parties held a copy of the agreement. There was also more land to go round, but much marginal land fell into disuse through lack of the manpower to work it.
Despite improving conditions for the survivors, many peasants left the land and moved to the towns and cities in search of a better life. The acute shortage of agricultural labour led to a change in land use. Grain production was labour-intensive, so landlords switched to grazing for sheep, which they kept mainly for their wool and sometimes grain crops failed due to the lack of workers to collect it.
The result of all these factors was a jump in the price of grain, then as now a staple, at a time when the bulk of most people’s incomes went on food. The grain shortage was also compounded by a series of bad harvests. Authorities tried to hold down the grain price through export embargoes, but with limited success.
Any hope of government help was in vain as the King, Edward III, had weakened the public finances through spending heavily on war, mainly the first phase of the Hundred Years’ War, following his declaration of himself as the rightful king of France a few years earlier. Wars with Scotland were ongoing. Instead, the Government published a Statute of Labourers in 1349, aimed at capping workers’ pay, which was naturally rising along with grain prices due to the labour shortages.
Ultimately market forces prevailed, but in the early years after the pandemic any benefit workers felt from higher wages was offset by the much higher rise in the cost of food and living standards fell for most people throughout this period.
The vast number of deaths caused inflation in a more direct way too. At the time, money wealth was held largely in coin. After the Black Death, there was the same amount of coin as before, but now concentrated in fewer hands. The lucky inheritors, who were of course already the better-off, began to spend their windfalls and demand for luxury goods rose sharply. The saying ‘eat, drink and be merry, for tomorrow we die’ dates from this time.
Winners and losers
A number of trends have emerged from my research into times of inflation. One is that these conditions always create winners and losers. On the whole, there is a tendency for inequality to increase, but by no means always. Sometimes the winners are ‘lucky’ in the sense that they happen to be well-placed to benefit from unexpected changes, but often the winners appear to be those who are able to adapt to, and sometimes exploit the new circumstances.
Clear beneficiaries after the Black Death were the inheritors of estates from the deceased, particularly younger sons whose older brothers would have inherited but had died of the plague. On the land, the Lord of the Manor was in many cases a loser. The incomes of English Lords fell by 20% between 1347 and 1353. As the numbers of peasants fell, so did saleable output and rents. Lords cultivated less land, switched from grain production to wool, and began to let out their entire estates, becoming less personally involved. Some sold the right of lordship in exchange for a fixed rent. Manorialism collapsed and was gone by 1500.
The entrepreneurial ‘upper peasant’ had much to gain from the Black Death. There was more land available to cultivate, rents stayed low and the price of his produce went up. Many peasants prospered so extremely that the government felt obliged to introduce ‘sumptuary laws’ to penalise them for dressing like aristocrats or generally behaving in a way that was felt inappropriate to their lowly status.
Sometimes inflation is caused by excessive demand in a flourishing economy, sometimes by an exogenous shock, as was the case after the Black Death, and again after the oil shocks of the 1970s. Clearly the two different sets of circumstances demand different policy responses, though in those far off days the ‘policy response’ consisted of the king continuing to pursue his territorial ambitions in France while making laws to try and prevent wages from rising.
Among the survivors, there were winners and losers, but, at any rate in the decade or two after the first outbreak, there appear to have been many more losers than winners – which seems to be the normal outcome in times of inflation – owing to the fact that any benefit from rising wages was entirely swamped by the rising price of food. Inflation appears to have been a monetary phenomenon only in the limited sense that there was the same amount of coin shared between a smaller number of people. However, the existence of a large amount of money doesn’t by itself cause inflation. Inflation is ‘a large amount of money chasing a small stock of goods’. For inflation to break out, the money needs to be actively chasing the goods, in other words the velocity of money needs to be high. That the velocity of money was high in the post-Black Death years may be due to the fact that the owners of money felt it made sense to spend it before plague descended and robbed them of the chance to do so.
The data from this period is patchy and sometimes completely non-existent. Historians of the period frequently contradict one another. One will tell you that the Statute of Labourers was rigidly applied, while another will say that it was ‘poorly enforced in most areas’. I have done my best with the available material.
Next time – inflation under the Tudors and Stuarts
Please note, these views represent the opinions of Tony Yarrow and do not constitute investment advice. This document is not intended as a recommendation to invest in any particular asset class, security or strategy. The information provided is for educational purposes only and should not be relied upon as a recommendation to buy or sell securities. Wise Investment is authorised and regulated by the Financial Conduct Authority, number 230553.