Darwin Waits

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As we’re going to press for this issue, there’s a lively debate among economists about whether the United States is more likely to face deflation (the conventional wisdom) or inflation (the minority report) in the coming months. Both sides agree that, whichever is right, the outlook for 2011 is rough.

I think that the focus on inflation vs. deflation — like the popular media’s focus on unemployment — is misplaced. The more urgent metric is the condition of our currency. The present recession seems to mark the beginning of a slide for the dollar. And that slide will be the most important political and economic factor in the coming months and years.

For a debtor nation, currency devaluation is like the dilution of equity value in a corporation’s common stock. Long-time treasury bond investors are like shareholders. Bureaucrats, pensioners, and people on the dole are like employees with stock options; they’re subordinates, in every sense of that word. But they have growing expectations. The interests of these groups — the long-time investors and the subordinates — are not aligned.

The challenge to executives: How do you satisfy the grow- ing expectations of the subordinates without diluting the equity of long-time investors?

Venture capital lenders know the answer. You divide stakeholders (everyone with equity or options) into three groups: people you owe but don’t care about, people you want to owe because you need to keep them around, and people you owe and care about. The smart VC guys then order a reverse-split of the corporation’s shares. In government circles, politicians revalue the currency. Both moves debase the claims of stakeholders. In VC parlance, you “fuck ’em all.”

Afterward, you still need two of the three groups; you need to unfuck those. Your best tactic for keeping the people you want to owe is to offer them new compensation in the revalued currency; your best tactic for keeping the people you owe and care about is to offer them a fiat adjustment that restores some of the value of their long-time investments. Governments do this by “indexing” or otherwise increasing the value of specific sorts of Treasury securities.

The last group . . . well, they stay fucked. That’s every- one over 65 at the time of the revaluation. Or government pensioners. Or active government workers. Or all of them. Hilarity will ensue when those groups figure out what’s happening and fight like weasels and snakes to make sure they’re not actually in the last group. Which brings us to another VC saying: sooner or later, everything gets down to Darwin.

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