Choose your poison: the trickle of excess cash or the trickle of excess bond redemptions...

NOT FOR THE first time the Financial Times says we gold buyers are "nuts" - a word which all too often follows on from "gold" in the financial media.

I should rise above this sort of thing. What does it matter if the FT thinks me nuts? But I find I'm irritated, both for myself and on the collective behalf of successful gold investors. I don't think we deserve to be called "nuts" after our gold has for 6 years so consistently outperformed all those other serious investment classes so diligently analysed on Wall Street and in the City.

Gold continues to strengthen against the Dollar. Faint hopes of a swift "V-shaped" recession are dwindling, which is hardly surprising. Global economic activity up to 2007 was driven by rich world consumers buying things even they couldn't afford. In the US alone they have since lost about $12 trillion of private wealth - $120,000 per family. Judging by estimates published in The Economist this should induce a demand slump of about $500 billion per year, for 10 more years.

That means a typical family will be cutting back spending at the rate of $5,000 per year for a decade. So our economies will stay shrunk, threatening deflation.

To combat this governments are trying to engineer some inflation. Deficit spending here, quantitative easing there, and zero interest rates everywhere; with all of it geared to stimulating more production in a world already suffering over-capacity. This is where they step into dangerous territory.

Retail prices inflate in an overheating economy when there is a supply shortage of consumer goods. Because demand outstrips supply the producer has the whip hand, and he exploits it by asking more money for his goods. But look around you today and you will see there is no supply side shortage in the world economy. So if we do get inflation it's not going to be because of overheating.

Hyper-inflation, on the other hand, has little to do with supply side shortages and overheated economies. It happens when a currency dies. Once the realization grips savers (not consumers) that their money is losing its purchasing power then they exit money and look for better stores of value.

So while 'normal' inflation is driven by consumer-pull for goods, hyper-inflation is driven by saver-push of money, and this explains a big qualitative difference between inflation and hyper-inflation.

Modest inflation through undersupplied goods has a negative feedback because new supply pulls prices back, bringing the economy back to equilibrium. Hyper-inflation does the opposite. Once it starts it suffers a positive feedback by encouraging more and more savers to dump cash. What starts as a trickle accelerates into an unstoppable torrent of savings pouring into circulation.

The unusual problem we now have is that after using cash rescues to protect the overcapacity in our economies we are not going to be able to create normal, controllable, supply-shortage inflation. It's increasingly likely that the only style of modest price rises which the central banks can engineer will be the trickle which precedes a hyper-inflation.

Indeed, what caused the Financial Times to wheel out the old "gold nuts" phraseology was the strange case of last week's bond markets. Bond prices - the best proxy for the future value of cash - were falling when they should have been rising. The markets are telling us that cash 10 years forward is becoming less valuable. This is a hint of savers losing faith in their currency.

And why wouldn't they? Their deposits will pay them no interest for the foreseeable future. Inflation and tax will eat into their savings. The economy looks mired in recession. Governments, which are now welcoming devaluations as a trade benefit, are deep in debt and are toying with hyper-inflationary policies like quantitative easing. It all points to the inflationary transfer of the government's enormous debt into plummeting values for depositors' cash and investors' bonds.

An insight - courtesy of Bill Bonner - suggests what could soon happen. There is an $11 trillion bond mountain, which is $96,000 of issued US Dollar bonds per US family. With total federal obligations now reaching above $63 trillion, this is the polar icecap of contemporary finance, and it holds the bulk of the savings of two generations, all denominated in dollars which are frozen solid until their redemption date. If the Fed gets what it wants, then a modest dose of inflation now will forestall a depression. But inflation will heat that icecap and make the bond market more jittery, and at exactly this point the Fed says it will reverse its QE policy and sell bonds back into the market, because this is how it plans to get cash back out of circulation to control the inflation it has created.

Choose your poison: The trickle of excess QE cash or the trickle of excess bond redemptions, both in a world of over-supply. It seems all roads lead to inflation. Don't assume it will be the manageable kind.