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Where your money goes to die? Part-2

We saw that the Rs. 100 today will have a value of only Rs. 94 next year, because our inflation rate is 6% per year. So the money gets depreciated by 6% if we keep it in hand.

  • What happens if the inflation is 100%,? 
  • Is there any country that has 100% Inflation? 

Yes!, there is a country !!!.

Nobody wants to travel to this country, what happens to the people who already living there? They evacuating the country!

If you travel to this country by flight, landing there in the morning, and want to have a coffee. You can buy the coffee for -say, Rs. 100 today. And if you come back next year to buy the same coffee, it will cost you Rs. 2,300. Yoooovvveee…!!!

The inflation in that country is 2300% per year in 2020.

  1. What will you do if you are unfortunately born in that country?
  2. How do you make your investment decision?

Before that let’s understand why they fell into this kind of Inflation rate. The country we discuss here is ” Venezuela”, a South-American country that speaks “Spanish”.

 

Onion Price:

Let’s say, if you are an onion vendor in Venezuela, and you have 1000 kgs of Onion in stock in godown. The price of onion will grow higher every day. If the price of the onion grows much higher than the equity returns in India, will you ever think to sell those onion stocks? No, right?

That is what will happen to a country like Venezuela where the inflation is hyper-high, traders never want to sell their products. Rather they make higher money if they hoard the products (delay the sale). People in need of the product will pay a higher price to buy it anyway, and that is how inflation goes higher – practically.

When few goods chased by many people – the price goes higher

Why suddenly the Inflation shot up in Venezuela?

It was not overnight the country was trapped under a hyperinflation crisis. The crisis had a long story of 20 years since President Hugo Chávez took power in 1999. He was a leftist who want to eradicate poverty and inequality in the country. So, he charted many plans to uplift the people by providing welfare schemes like free healthcare, free education, food security, affordable housing, and direct cash transfer to the poor.

All these schemes made the blueprint in people’s minds on how a president should be. It was a cakewalk for him to secure his presidency in the next term also.

  • But the problem is the source of funds to fuel all these schemes.

Source of Funds?

A country like India has diversified GDP, and we are dependent on IT and Pharma to bring in foreign reserves for India. And other industries to fulfill the local needs. Where India spends high is on?, is on Oil !. We don’t have oil reserves to supply the local demand so we are overly dependent on other oil-rich countries to import oil. If India is Oil-rich in nature, we will be on the developed countries list way earlier.

As we rattle about the scarcity of oil in India, Venezuela is a super oil-rich country like Saudi Arabia. It is one of the largest oil reserve countries which has 18% of the total world’s reserve.

But to fund the welfare programs, the Venezuelan govt. depended only on Oil income. That was the biggest mistake. 40% GDP of Venezuela comes from Oil industries. Most of the population of that country depended on Oil-Industries.

Policy Mismanagement

On top of it, the govt. officials engaged in corruption. The official wanted to save their currency from getting devalued so they controlled the US dollar conversions, which later opened up the black market to trade in US dollars.

They also ruined fresh investments into the country by “Nationalising” the industries. Being a leftist political ideology, the govt. made major industries like Oil, and telecommunications as govt. property. This made foreign investors stay away from bringing new investments to the country.

US Sanction

Moreover, Trump’s govt. brought in sanctions over Venezuela from accessing US financial facilities in 2017. Followed by Europe in 2020 and other countries in 2019. The sanction restricts Venezuela from freely trading with other countries. And the income from the Oil industry dropped significantly.

When there is no money – Print Money!

On one side the people enjoyed the freebies, on the other side the govt. could not get money from Oil export which was funding these frees. As a result the govt. decided to print money. That is when the “Hyper-Inflation” starts. The more money the country prints the more the inflation goes high – that means the more value the currency loses day-by-day.

Now, we know how they ended in the soup! let’s understand how the common people manage this inflation in that country. Like, the first question I asked you in starting.

  1. What will you do if you are unfortunately born in that country?
  2. How do you make your investment decision?

How to survive?

If the inflation is 100% all our expenses doubles in 1 year. Don’t even think of 10 years because it will compound exponentially. but how to survive the situation.

If you think, if the inflation is 100% the equity returns will be higher than that because we take extra risk. Because in a situation like hyperinflation with a combination of ‘blanket sanctions’ on the country, corporates cannot make enough profits to manage their money. Hence the equity returns will not be great.

If you think, you can manage inflation by depositing money in a bank. First of all, the bank can anytime go bankrupt when it falls under the interest rate trap. On the other hand, the interest rates are not as high as inflations.

As of May 2023, the interest rates in Venezuela are as follows:

  • Bank Deposit Interest Rate: 36%
  • Lending Interest Rate: 57.57%
  • Interbank Rate: 15.02%

These interest rates are significantly higher than those in most other countries. This is due to the high inflation rate in Venezuela, which is currently at 200%.

a. Exchange to Dollar

One best way to escape the depreciation of money value and able to sustain the inflation growth is to exchange your salary once collected from your employer for the US dollar. If you exchange the money with the US dollar the dollar appreciates the inflation rates and also saves you from getting devalued. But the Venezuelan govt. has strict restrictions on people changing the currency to US dollars. The people there get the exchange from the black market.

b. Convert to Gold

Gold is always an inflation-hedging investment.  If inflation goes higher along with the depreciation of the currency against the US dollar – Gold will SHINE !!. But it is also important to know that gold will have two rates 1. Internation rates 2. Local rates, if any one of them falls, the investment value will fall. But considering the bank deposit – Gold is a safer avenue to invest. But gold is also restricted in Venezuela.

c. Real Estate

People, there are mostly considering real estate to survive inflation. The Venezuelan government has also taken steps to encourage investment in real estate, such as by providing tax breaks for homebuyers.

Conclusion:

  1. We know that printing money will lead to hyperinflation.
  2. Inflation will lead to delayed sales.
  3. And we know how to survive the hyperinflation.

Next Topic;

What happens if the Inflation is negative?

 

One comment

  • D Prabhu

    May 31, 2023 at 3:24 pm

    Very good article

    Reply

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