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Martin A. Armstrong#12518-050TCI Fort Dix CampPO Box 2000Fort Dix, NJ 08640

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I would like to thank all the former employees, associates, sources, and contactsfor their continued support and efforts to contribute to the writings I have beenable to continue through their great efforts. I would also like, to thank thosewho have looked after not just myself, but ray family, and shown them support andkindness.

Everything at Princeton Economics that was our mission to gather information,and bring together the most widely covered global economic perspective, has been1

a effort that is now bc-inging us to that fateful crossroads in history. There arethose who are trapped by the past and cannot see the dynamic evolution that causeshistory to repeat, but like lightning, never quite precisely the same way twice.In 1914, Britain reached its peak as the center of the global economy. It passedthat torch to the United States who by 1929 became the leading world economy andwas also a CREDITOR nation just as China is today. There will be no 1930s styledepression, for the cards are nowhere near the samei Yet China will become theleading world economy by 2016, and then suffer its 1929. The West is doomed and itwill collapse from its own debt. We borrow with no intent of ever paying off thedebt, and somehow both Congress and the majority ignore this fact just as they hadignored the problems in mortgages that violated common sense.

No matter what country you live in, it is the duty that falls upon the shoulders ofevery reader to do what you can to get reality to manifest. Feel free to send thisreport to every 'government, friend, and member of the press around the world. If wedo not get the debate started, we stand no chance of saving the future for ourselvesand our posterity. We can reach that next never in political-economic evolution onlythrough the hard work of everyone, For this reason, this is provided as a free service.

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This Report may be forwarded as you like without charge to individuals or governments around theworld. It is provided as a Public Service at this time without cost because of the critical factsthat we now faced economically. The contents and designs of the systems are in fact copyrighted.At a future date, a new edition of the 1986 The Greatest Bull flarkst In History will be releasedand a neui book will soon be published on the model itself - The Geometry of Time. It is vital thatwe do not forget this is a world economy and the arrogance that any nation can dictate to the worldis just insanity. Every nation effects all others no different than if one nation were to pc-jr allits toxic waste into the ocean. Everything is interlinked and solutions are never isolated events.

THE

I N F L A T I O N

D E F L A T I O N

By: Martin A. Armstrong

Former Chairman of Princeton Economics International, Ltd.and the Foundation For The Study of Cycles

the samein a newdistant

NCE UPON A TIME there use to be definitive explanations of how the globaleconomy developed. The world use to be simple. There was the chicken oregg rationale and everything fit neatly into a some linear design. Theworld made sense like taking a walk, each foot progresses in a linearmanner one after the other. Then as the world economy began to develop,people began to notice that things didn't always make sense. Somethinghad changed. But what? The high flying schools merely kept regurgitating

ideas over and over again without testing to see if they honestly still workedglobal economy that was emerging more as a complex adaptive system that was asfrom economic theories as the latest discovery of the farthest galaxy.

Nothing is truly simple. Even people askcan there be a deflationary trend simultane-ously with a inflationary trend? The 1970ssaw the convergence of these two trends afterthe OPEC price shocks. In other words, therise in the price of oil was clearly inflat-ionary, yet unemployment was rising and theprices of homes collapsed. The period was thebirth of the new term S T A G F L A T I O N !

What was happening was that the rise inthe price of oil was in fact creating a surgein inflation. However, because the cost ofenergy was a structural underlying aspect,the rise in inflation in the cost of product-

ion became offset by a reduction in other key

costs. Thus, there was a rise in inflationin energy that was displacing other segmentsby forcing the reduction in costs of othersectors. This had the effect of also simplycreating rising unemployment that was a cutin labor costs offset by the rise in energycosts.

The answer is YES! There can be twoopposing trends simultaneously so we canhave deflation in housing prices coexistingwith the rise in other sectors. This doesnot suggest we are facing hyperinflationdue to the lack of a gold standard. It is

not likely that we will see hyperinflation

instead of just a default.

This becomes a complicated subject in andof itself. Suffice it to say, that DEFLATIONand .INFLATION are at opposite ends of a seesawthat represents VELOCITY. To a large extent,the rally into 1980 for gold was a localizedview that the dollar would decline in valueand this was caused by a fiat currency. TheFed itself mistakenly viewed inflation in theeyes of gold. This was due to the fact thatgold had been the so called link to which allcurrency was convertible until 1°-71.

However, understanding INFLATION that ismuch like ice cream and comes in a 1,000 diff-erent flavors, is not always easy.

(1) there can be the isolated rise ina specific commodity due to somecatastrophe, or to a manipulationas was the case with oil and OPEC.

(2) there can be a broad inflationaryadvance caused by a decline in theconfidence of domestic citizens inthe currency itself'tied to thefinances of the nation

(3) there can be international inflationcaused by the swing in the currencywhereby ALL imports rise in directproportion to the decline in thecurrency on world markets.

These are just the three primary areasfrom which inflation can rise. This is why alabel that inflation is the rise in the priceof goods and services is the official linebecause it shifts the responsibility from thegovernment to the people. This is only oneform of inflation. There can be a huge stormthat wipes out the orange crop in Florida andwill lead to a rise in the prices of all suchproducts related thereto.

The rise in oil prices by OPEC duringthe 1970s, was a greater shock because of itsbroader impact that infiltrated into everysector of the economy. Thus, there can bevarying degrees of inflation caused by therise in the price of a particular commodity.

Even the rise in interest rates is ainflationary trend. Interest rates will tracka bull market because when the economy isdoing good, that is when confidence is highand people will borrow based upon their viewof the FUTURE! The whole theory that risinginterest rates will be bearish for the stock

market is just nonsense. Again, it is myopicand focuses ONLY upon speculation. It ignoresthe entire economy and even disturbs the truebalance demographically. In other words, theretired segment live off their savings andwill benefit with rising interest rates. Wheninterest rates decline, they drastically nowlower the income of the retired workers whoare often the only people spending in a sharpeconomic decline.

If you plot interest rates against thestock market, you will find that they histor-ically rise with bull markets and decline inbear markets. The theory that lowering therate of interest will be bullish is based onthe nonsense that people will now borrow moreand thus the market will rise since low rateswill lower margins helping speculators. Theproblem with this whole theory is it looks atthe nominal rise and fall of interest ratesand ignores the view of the economy. IT ISNOT THE NOMINAL LEVEL OF INTEREST RATES THATMATTERS, BUT THE SPREAD BETWEEN RATES AND THEEXPECTATIONS OF PROFITS.

If you think gold will double in pricein 1 year, you will pay 10%, 20%, or 25%rates of interest. It is the spread betweenexpectations and the rate of interest thatmatters. Not the level of interest rates, northe direction.

Yet interest rates are raising the costof borrowing. This also attributes to theinflation within the economy. A private corp-oration will be forced to pay more in ratesand offset that by reducing costs elsewhere.Thus, it is common to see unemployment risewith interest rates.

When we step into the public sector, thesame trend appears. Rising interest rates willcause greater costs in local and state govern-ments. They, however, can confiscate yourhouse if you don't pay taxes. So they have noincentive to run as a corporation. What theydo is raise taxes to compensate for the risein the cost of money.

When we look at the Federal level, theyprint the money and thus a rise in rates nowincreases dramatically the cost of borrowing.Hence, raising interest rates to 17% to fightinflation into 1981, caused the national debtto rise from $1 trillion in 1980 to nearly$H trillion by the end of 26 years. Itwas like shooting yourself in the foot.

. .

Right now, we are witnessing the debtcrisis in its early stages in Greece. The rate:are rising because of its dependency upon theforeign sources to fund its budgets. Americais in the same boat. Just as capital is scaredand is unwilling to invest in Greece even whenits currency is the Euro, shows how externalforces of confidence impact domestic.

However, what is also revealed is thedifference between a gold standard and a purenonconvertible currency freely floating. TheEuro is acting very much like gold during the1930s. Greece is not able to devalue the Euroand thus the only other variable becomes therise in interest rates. Greece has a choicebetween paying up or defaulting. This is howthe Great Depression was set in motion. Nationcould not sustain the gold standard and thusbroke creating the 1931 currency crisis. Thisis where we are with the Euro, although it isnot gold, its value is set external to Greece.

The whole Euro zone becomes impacted asthe contagion spreads to Portugal, Spain andthen Italy. Even Britain is starting to nowspiral down into a debt vortex. Greece hasno real viable option. Had it control over itsown currency, it could devalue. Bondholderslose, their investment in proportion to thedecline in the currency. That option is nowoff the table with the Euro. The crisis turnsto one of just default. Will Europe go downwith the ship to save the Euro, or will itcut the umbilical cord and allow Greece togo its own?

The reason there was a DEFLATION in the1930s in the United States was due to thefact that the US held to the gold standard.When money is gold, people hoarded money andthat reduced VELOCITY. When FDR confiscatedgold and devalued the dollar, he was now infact injecting INFLATION. By removing thelink to gold for DOMESTIC convertibility, acitizen was left with only dollars. Thus, inlight of the stated policy of INFLATION, itthen became better to spend than to save. TheUS did not go all the way toward the extremebeing HYPERINFLATION, but we turned towardthat direction and thus VELOCITY increased.It is a simple seesaw with DEFLATION on oneend and INFLATION on the other with the pivotbeing VELOCITY.

TO SAVE, OR NOT TO SAVE (HOARD)THAT IS THE QUESTION

Greece is impacted by the INTERNATIONALcapital forces. It cannot live within itsmeans any more than the United States. Thus,the civil unrest could lead to a massive andserious revolution in Greece. This couldspread to Southern Europe because the IMFand those sitting in the EU, failed to graspthe idea that there is a serious problem.The system is collapsing. We either face themusic and deal with it, or we can hide withour head in the sand and pretend nothing iswrong.

The example of Spain between 1883 and1913 is the answer. There was no gold stand-ard. The currency floated. The annual rateof growth was 2% and the deficits were keptin check by responsible government. Thewhole system is broke and is going to crashand burn. No one should be investing in anygovernment bonds of any country right now.Nobody has any intention of ever paying offthe debt. This system is insane!

We need to monetize the debt throughthe issue of a coupon that forces capital toinvest in that domestic economy. So everysmuck who had Greek bonds, now gets couponsto convert that to private investment inGreece. That will spur a surge in employmentdomestically. The budget is then taken toreduce government civil workers. Eliminateincome taxes, and the cost of government isthen funded by the growth in currency thatis limited constitutionally to 5% of GDP.Stop the borrowing. Interest rates will nowdrop and employment will rise. People willflock to Greece as the new financial holyland and the glory days of Athens will atlast return.

The Great Depression ended in eachnation once they abandoned the gold standardin 1931. The nations that suffered the long-est were USA and France. Retaining the goldstandard promoted hoarding and reduced theVELOCITY. The same is taking place for theEuro is acting like gold to the averageGreek. Why spend, when the future is justuncertain? It is time to think out of theBOX before it is nailed shut. If we do NOTstart to think rationally, we are headedtoward civil wars and unrest that will onlyturn toward international unrest and thethreat of war. ALL GOVERNMENT DEBT WILL BEFORCED INTO DEFAULT. That is what is on thehorizon. It is time to face the reality andclose the shutters for the storm is here.