An Essay Considering the Current Monetary Order and Gold

This message from a person in the financial business,which is included in quotations below, was shared with me by a reader who received it from a journalist for a major media outlet.  Since it was not clear if this was intended as a private communication or public statement, I will not attribute it by name.

I wanted to use the word 'modern' in the title of this, since this pronouncement below smacks of modernism. You know, the belief that all those who have come before us were ignorant primitives, and those who are not of the same received insights now lack sufficient wisdom and piety.  But since those two words combine to describe a particular and unrelated school of thought, modern monetary theory, whose adherents have already excommunicated me for my stubborn and profane disbelief, I think I will skip that and use 'current' instead of 'modern.'

I could not resist sharing this message with you because it is such a nice, compact expression of what the modern financial media thinks about gold and money. Or at least to the extent that they think about anything, and do not just read their thoughts off the teleprompter provided by the moneyed interests that sustain them.  Or what is considered 'acceptable' by the very serious people, those who are described by Larry Summers as 'insiders.'

It starts as many of these things do, with a few simple statements that seem reasonable and ordinary enough, and use a sort of formalistic style to make it seem 'scientific' and contrast our modern thought with the ignorance of prior days.

"Why do you invest in anything? Because you want to extend the duration of your surplus earnings, the sort of stuff that would have been perishable in olden times.

There are two ways to do that:

1. Share your surpluses today and run a credit exposure to the counterparty that is obliged to pay you back in the future an absolute relative rate that compensates you with respect to income lost and potential earnings made.

2. The alternative is to sell transform your surpluses into something more durable, but which maintains market risk exposure."

Ok, fair enough.  If you have an excess of some presumably perishable asset, you want to do something with it to extend its usefulness to you. Or else it ends up like the neglected lettuce left in a damp plastic package in the back of the fridge.

One way to do that is to provide its use to someone else on loan, and receive adequate compensation that may include some allowance for risk.  Or you may wish to sell it outright, and receive something more durable in return, but again with some allowance perhaps for risk.

Hard to argue with that, right?  It is perhaps a bit simplistic, narrowing down all human economic activity with regard to 'surplus wealth' as investing or saving.  One may donate that surplus to some charitable endeavor, or sacrifice it to their gods of the day for example.  Didn't we just do that with TARP, and the uncounted trillions in bank subsidies?

Or perhaps trade it for something not required but desirable nonetheless, like finely crafted jewelry for one's beloved. Investment? The commercial messages for jewelry would like us to think so, but it rarely works that way in romance except for a fleeting moment, and with a greatly diminishing effect over time.

Not all exchanges of 'surplus wealth' are for productive investments or a truly more durable asset.   What then is 'surplus?'  Anything more than food, water, and shelter?

But let's not quibble about what defines 'surplus' and just say all right for now.  But believe we when I say that people's definitions of what is 'surplus' versus necessary wealth can vary widely, especially in these days of elephantine greed.

That definition of 'surplus' is important because it is so subjective, and yet is later used in this modern theory as a high falutin' accounting entity, the equivalence of all monetary valuation.  But it sounds so 'scientific.'  Is what we spend on food and shelter necessary and all else 'surplus?'  How about healthcare?  Cars and electric lighting?  Things that support knowledge like books?  Would there be a common consensus on what the definition of surplus represents, from let's say between Dorothy Day and Donald Trump?

Let us bookmark that thought and move on.

"Gold was an obvious choice because you could keep it under your bed and it wouldn't depreciate in form ."

Ok, that is a bit snarky, since I do not believe there is a long history of people hiding their gold, or any other large amounts of their durable wealth,  cavalierly 'under the bed.'  But it does serve the modern polemicist who seeks to disparage a choice they do not favor as uninformed, primitive, and naive.

Let's just say that for one of the alternative uses for 'surplus' wealth which is 'savings,' some durable, compact assets were found to be very useful. And that they were stored safely in some appropriate manner, since everyone who was born before our time was not necessarily a complete fool or incompetent naif.

We need to distinguish I think between what is asset barter and what is actual money at some point.  I would like to think that describing the difference is achievable.  For example, we might apply some criteria that suggests that a widespread, highly organized society might be more applicable to our thinking than an isolated island people who have no means of mining or access to precious metals and little access to widespread consensus.

As I recall the first formal coins made for widespread use were gold, silver, or an alloy of gold and silver that started showing up around 600 BC in the eastern Mediterranean. You know, that place where trading cultures that sailed from place to place flourished. Although it is known that gold and silver and certain precious and semi-precious stones were recognized as having great value, as shown by artifacts found as early at the 5th millennium BC in the graves of Varna man.

The point here is that it was not just 'gold' that was considered a durable asset.  Silver was valued as well as a few other things from time to time. They all tended to have similar characteristics.  But at some point the precious metals passed from 'grave artifact' to widely accepted 'coinage' and were used for widespread, diverse trade across governing bodies in addition to asset barter.  And I would not discount barter, which may also be called the black market, as a continuing alternative which may be more viable even now than most theorists will allow.

So why not just trade with rocks and put them under one's bed?  Granite and marble are very durable.

Yes the asset must be durable in that it does not spoil or rot or rust away.  It has to be enduring with regard to time.  But there has to be enough of the durable asset to function as more than ornamentation for a few of the finest people.  It must be malleable enough to be systematized into some uniformity of size and purity so that it can be easily weighed and measured and exchanged to facilitate trade without introducing excessive transactional friction.

And so we notice that the author has ignored one key point: manageable scarcity.  What facilitated that transition of precious metals from grave artifact to money?  I would suggest that it was a manageable scarcity combined with social organization and broad consensus that set standards on purity and form.  It was both a natural and social agreement that was widespread and acceptable enough to be effective.  And that manageable scarcity had to be as reliable as the durability of the material.  The scarcity was not expected to be wildly unpredictable and certainly not discretionary by some ruler over time.

So we will not use common rocks because they are not scarce, and not particularly portable.  There has to be a natural scarcity, to make that durable item 'special.'  But there does have to be enough of it so that it can be widely used by more than just a few of the top people.

Moving along.

"Gold is only worth the total surplus of the nation.  When surpluses are running high there's a lot of spare capacity in the system. Gold will be easily swapped into almost anything."

This is of course where we start to smell a reductio ad absurdam and the authority of the modern equivalent of a burning bush.   Let's read on a bit and see where this is going.

If there's a deficit of stuff, neither gold nor money guarantee you access to current output. 

Yes, is there is a deficit of highly desirable 'stuff' any money and not just gold will guarantee you access to it. Unless it is backed by some hairy knuckled fellows holding weapons, in which case they do not even need to bother with the facade of money.   In the strict sense of the word only your own death is guaranteed.  And maybe the recurrence of whacky theories designed to separate the common people of their rights and wealth.

But assuming that a market still exists, which presumes the dynamic of supply, demand, and price,  and a willingness of participation, then the 'prices' or the exchange value of money of whatever form will rise to meet whatever the holders of that highly desirable item may be.  If there is no market, and the item is highly desirable enough, they may be robbed of it, and they have been, but that is besides the point.

I think this may be the point where someone who was writing this has had a recollection of Adam Smith and is distorting the things which he has said to justify some modern theory.  As if Adam Smith was a received source of truth when it suits their purposes, or so they think.

One of the few advantages of not belonging to a 'school of economic thought' is that you are not compelled to carry its baggage, pro or con.  And believe me when I say that in economics there is more baggage, and much of it having nothing to do with economics and everything to do with politics and a pursuit of position and advantage, than on a Kardashian vacation.  While people say 'money is power,' it might be more correct to day that for some types of people power is everything, and money is just a means to it.

There is no shame in misconstruing Adam Smith's thought.  Some of our finest economic minds may have done it from time to time, despite an otherwise admirable record for the most part.  Nobel prize winner Paul Krugman did it in spades not all that long ago by misconstruing things that Adam Smith 'said' about gold.

What Adam Smith was actually addressing in the paraphrased thought was the non-productive hoarding of 'money' while placing greater emphasis on widespread economic transactions, the 'organic real economy' if you will as opposed to the financialized economy.  And he did favor the flexible expansion of money, as typified in fractional banking it seems, as long as it was in response to a legitimate increase in real activity that produced things.

I do think that Smith would have been dismayed though by the actions of the monetarists who believe that one can create the vigor of a wealthy economy by merely expanding the money supply, in QE for example, and doing nothing else in conjunction with it.  I have previously described that as 'cargo cult economics.'   If big plane of real economic activity brings nice things, we can get more nice things by building some things that look like the big plane of real activity out of paper and sticks.

I wonder at what point the money masters will admit that QE is counter-productive rubbish?  Don't hold your breath.  People of privilege will never let go of what gives them advantages willingly.

I like Adam Smith.  I recall visiting his grave once in Edinburgh.  And he was therefore just a man, whose ideas must be considered as his and of his time and experiences.  I do not hold any dictates of dead economists as sacred, and their 'laws' are all too often opinions and observations written in sand.

Paul Krugman Does Some Injustice to the Thoughts of Adam Smith On Money, Gold, and Silver

Adam Smith was no economist.  He was a 'moral philosopher.'  And many of our modern financial shamans have tried to take the moral considerations completely out of economics, in their vain quest to turn it into a pseudo-science of equations and a priori pronouncements from the god of the market that dictates policy as if it were an oracle, or a black box.

But I digress.  Let us move on.

"Money [fiat money] will hold its value better because in an inflationary period it can't be mined."

There it is. The modernist 'money shot.'  And delivered with a straight face.

There is a lot of nonsense wrapped up in this, combined with a leap of faithlessness to the facts.  Let's just take supply, demand, and price and throw them out the window, along with geology and any sense of the current reality.

Firstly, one of the enduring attractions of gold, and to a slightly lesser extent silver, is that they cannot be created by human means.  They exist on and in this world at least in what can be described as a natural scarcity relative to other things.

I cannot speak to the specific numbers, but it is my understanding given the current state of reality that one does not add to the supply of gold via actual mining without effort and delays.  And I think if we keep distorting the markets and driving the mining companies into red ink we will obtain a serious object lesson in this.

Mining takes time and effort, implying 'costs' and 'risks.'  Yes, the supply of gold and silver may be increased, but it takes money, luck and hard work.  And the pricing of the market adjusts to supply and demand with valuation dynamically as it does all commodities.  And gold and silver are commodities as well as 'money.'  More gold is not mined unless it is a profitable venture in a market economy.

But to contrast gold with fiat paper money and say gold is more easily expansible is a real howler.  Has the author looked at the Fed's Balance Sheet lately?  How much time and effort did that take?

Yes gold and silver can be mined.  There is also the recovery of scrap which, like real physical mining, is more difficult and costly to do than just creating fiat money out of thin air, electronic digits.  We have thousands of years of experience with mining and scrap recovery. How much and what type of experience do we really have with purely fiat money tied to no external standard or limiting factor including transparent exposure to public scrutiny?

Unfortunately it is true that the Western gold supply these days is increasingly 'synthetic' in that the financiers are expanding this supply through selling and reselling claims on the same bullion with leverage.  But this is not real gold or silver but paper claims to it.  They are non-transparently mining the stores of gold in central banks and funds and unallocated supplies and multiplying it on paper in a web of non-transparent counter-party risks.

"Money on the other hand can be withdrawn from supply and ratioed up."

Ok, there is the real heart of the matter. This is where the rubber of financial engineering hits the road to power.

Gold can be 'mined' and therefore it is no good, but 'money' can be manipulated quite easily, both up and down.

But now we get into a stickier subject of a 'gold standard,' of gold and silver as formal money.  As you may recall I am making the case for gold and silver as private stores of wealth, against what are some fairly narrow and nonsensical arguments.  The reasons for this will be provided later.

Our experience with a gold standard and its uses are historically knowable.  Which of course the author completely ignores.  Gold and silver are physical units of measure by purity and weight.  They act as a 'brake' on money supply of sorts.

If one wishes to expand their money supply against a gold standard, are they stuck?  Not happening?  No, they alter the valuation of their particular currency against gold, which is the 'universal money' especially with regard to trade amongst diverse currency regimes.  This is what Roosevelt did in 1933.

What makes this particularly unattractive to the modernist is that it requires a transparent and conscious act which the people can see for themselves.

Since 1971 the world has substituted the US dollar as the 'gold of universal reference,' the reserve currency.   This was the replacement of the 1944 Bretton Woods agreement, which tied the US dollar to gold directly, with what some have called 'Bretton Woods II.'

The Federal Reserve of the US has quite a bit of latitude with regard to the expansion of that US dollar supply AND the distribution and use of that creation through its member banks.  And that is power, real power.

And people who have that kind of power do not give it up easily.  Theoretically in the hands of philosopher princes a purely fiat monetary system can 'work' like a gold standard.  Greenspan said it could 'emulate it.'  And by that he implies restraint and rigor and transparency tied close not to economic models and the whims of power but to real economic activity. And then he betrayed this principle himself.

In every case of recorded history the financiers have stretched and strained against any and all regulatory restraints, and abused their power to create money.  Even for Adam Smith this was already a recognized phenomenon in 1776 when he published Wealth of Nations.  How could it not be with the memory from 1716 of fellow Scotsman John Law and his Banque Générale and the enormous wreckage it caused in continental Europe still fresh in his mind?

"When the people of any particular country have such confidence in the fortune, probity, and prudence of a particular banker, as to believe that he is always ready to pay upon demand such of his promissory notes as are likely to be at any time presented to him; those notes come to have the same currency as gold and silver money, from the confidence that such money can at any time be had for them...

The commerce and industry of the country, however, it must be acknowledged, though they may be somewhat augmented, cannot be altogether so secure, when they are thus, as it were, suspended upon the Daedalian wings of paper money, as when they travel about upon the solid ground of gold and silver."

Adam Smith, Wealth of Nations

But I would like to stop here and see if there are any real objections to what I have said in your mind. Think about it. Gold and silver are stores of value of wealth and, with the proper attention to form and purity, have functioned as a store of wealth, and of money at times, both widely and throughout record history in industrialized and organized societies.

Let us trudge on to the end of this.

"Gold is a volatile asset because it is only ever worth what anyone is currently prepared to pay for it. Since it has little consumption utility, the value is mostly maintained by the mass cornering effect of goldbugs who refuse to sell under any circumstances."

Gold and silver are not particularly volatile.  In their synthetic form, which is leveraged and hypothecated representations of bullion, they are volatile and encumbered with counterparty risks.  There are some who think that the current price manipulation in certain markets is intentionally volatile, for all the reasons that the recent rigging in so many other markets has occurred, and for years.

And that last sentence about gold bugs is just fatuous.  Who holds the greatest concentration of the world's gold?  Those ravening lunatics, the central banks.

One of the characteristics of 'money' versus asset barter is that money ought not to have much consumptive value in addition to its durability and nominal stability.  Have you ever tried to eat dollar bills?   People have used paper money to heat their houses.  But it is not very good at it.

What is particularly volatile now are the financial and international monetary markets, because the 'Bretton Woods II' monetary regime based on the US dollar as purely discretionary reference asset for international trade is falling apart, as theories such as Triffin's Dilemma have suggest that any fiat reserve currency would do.

"The use of a national currency, such as the U.S. dollar, as global reserve currency leads to tension between its national and global monetary policy. This is reflected in fundamental imbalances in the balance of payments, specifically the current account, as some goals require an outflow of dollars [Eurodollars, a component of M3] from the United States, while others require an overall inflow."

When considering who the stronger dollar benefits, would you be surprised to learn that it is primarily the dollar based financial sector?

I think the current volatility may continue for some time due to an historical event that so few really remark upon or even understand fully:  the unraveling of Bretton Woods II, and its slow replacement with something else.  But that begs the question of cause and effect.  It is not gold that is changing.  It is as it always is.  And so is silver.  It is the context in which they exist that is changing.

Valuations are wildly swinging in certain markets because of the mass creation of 'synthetic gold' that, with the effects of Gresham's Law, has caused real physical bullion underlying it to flow in increasing amounts to the centers of real wealth creation.   The 'synthetic gold' remains in the vaults of the West, and the real gold is accumulating in the vaults and strong hands of the East.

I am not proposing a return to the gold or silver standards.  As I have said previously, the existing financial system, and the political process it has corrupted, is in dire need first of rigorous reform. Our system is capable of corrupting almost any monetary changes that are introduced, including a gold standard.

Addressing a final assertion, we can stipulate that valuation of most things, and even people, can be purely arbitrary if such a valuation is enforced with sufficient, draconian power.  Some of the most notorious tyrants of the twentieth century have not only believed this, but have embraced and used it to inflict widespread suffering and death on their people.

What I would like is government to keep their noses out of precious metal pricing, so it may reach an equilibrium that is at least mildly sustainable in the face of massive flows of bullion into Asia. And to start reforming the financial system which quite frankly has slid off the rails several times already and looks perfectly capable of doing it again.  Our philosopher kings have feet of clay.  What a surprise.

But since the banking elite are living a lie, that the precious metals are not a currency even though they treat them as such, hold them as such, and interfere with their pricing relative to other currencies as such, it may take some time for that to unfold.

These poorly thought, often contrived, and politically motivated policies that serve special interests are the sort of things that plunge a country into endless wars, a proliferation of unproductive spending for anti-human purposes, increasing repression, and a financial culture of systemic fraud that over time drains the real economy of all of its vitality.

But what is power, if the powerful and privileged do not exercise it.  Even until their own eventual destruction.

Deflation, Hyperinflation, Stagflation, and Where We Are Going

 

This is a repost of a column from four years ago almost to the day.

This is where I make the case most explicitly for the stagflation forecast I made in 2005.

Although I add one parenthetical note and some underlining for emphasis, otherwise I did not have to change a word.  I could have rewritten a few things a little more smoothly but at this point why bother.

I believe that things are playing out pretty much as I had thought with a few notable exceptions on the particulars.    The 'top down' approach to monetary stimulus favored by the Fed and their Banks and their politicians is fostering more inequality and slack aggregate demand while inflating select asset prices, a type of stagflation.  The 'inflation' component of that has not yet set in yet generally, but is certainly visible to anyone who uses incidental things like healthcare, higher education, and food. 

I think that the same dynamic is playing out in Europe and the UK.

It will end involuntarily in a social dislocation, or by a voluntary reform.  Since the oligarchs have apparently not yet been satisfied in their acquisition and looting, they believe that they can keep pushing the envelope for now.

One new area of thought for me now is how China and Russia and a few of their friends will attempt to implement a new regional currency and a global reserve currency with some inclusion or reference to gold, and perhaps silver.  That they are leaning into this area is to be found in their own words and actions.  

What I am struggling with is how they might do this without exposing themselves to currency manipulation and rigging, which is probably a lot easier to accept as a given now than it was in 2011, although it was certainly occurring before all these market rigging scandals broke.   I don't think a market was left untouched.

I suspect it will center around the terms for the exchange and the valuation or peg.  A misstep will open them to the predations of the global hedge funds and the Banks, and the status quo centered on the Dollar. 

One of the more interesting facets of this will be how this new monetary group deals with the bucket shops on the Hudson, that great price setting mechanism without a firm tie to reality.  I believe that recent developments are suggesting that they will make those markets as they are less relevant to the real world, which is precisely both their strength and their weakness. 

Their strength is that they may set price without the necessary reference to real world market supply and demand for surprisingly protracted periods of time.  And this is also their weakness, because with the right push in the right direction it will not take much to displace them since they do not have their feet firmly planted on anything substantial. 

The trick to be to throw them over without undue collateral damage to the real economy, a task that is not without some significant efforts.  If only the Banks would show the same forethought and courtesy when triggering their own financial crises.

16 April 2011

A Review on Where We Stand with Regard to Deflation, Hyperinflation and Stagflation

Well, the good news for everyone is that nothing seems inevitable here, that there is almost always a choice, but it is often wrapped up in a nice looking rationale, with all the compulsion of a necessity, for the good of the people.  Us versus them in a battle for survival and all that. 

And clever leaders on the extremes provide the 'them' to be dehumanized and objectified.  The leftist wishes to murder the bankers, and the fascist the lower classes and outsiders.  The extremes of both end up making life miserable for almost everybody except for a privileged few.

And so I reiterate that in a purely fiat currency, the money supply is indeed fiat, by command.

People like to make arguments about this or that, about how so and so has proved that the Fed does not or cannot do this or that, that banks really create money only by borrowing, that borrowing must precede this or that.

It's mostly based on a fundamental misunderstanding of what money is all about, with a laser beam focus on hair-splitting technical definitions and loquacious arguments more confusing than illuminating, lost in details.  In a simple word, rubbish.

Absent some external standard or compulsion, the only limiting factor on the creation of a fiat currency is the value at exchange of the issuers bonds and notes, and currency which is nothing more than a note of zero duration without coupon.

If I had control of the Fed, unless someone stopped me, I could deliver to you hyperinflation or deflation without all that much difficulty from a technical standpoint. The policy reaction of those who might be in a position to fire or lynch me is another matter.  The Fed not only has the power to influence money creation in the private banking system.  It has the ability to expand its balance sheet and take on existing debt of almost any type at will and at any price it chooses.

But that is the case as long as the Fed has at least one willing partner in the primary dealers, and the Treasury is in agreement. And even that requirement for a primary dealer is not all that much of an issue given the amounts of existing sovereign and private debts of which the Fed might avail itself for the forseeable future.

So at the end of the day, a thinking deflationist is almost reduced to the argument that 'the authorities will not allow it' or 'will choose deflation rather than inflation'  And this is technically correct. However, let us consider my earlier statement about those who might fire or lynch one for making a highly unpopular choice.

It is economic suicide for a net debtor to willingly engage in deflation when they have other options at their disposal, and especially when those decisions involve people outside the system.

That is not to say that the deciders could not opt for economic suicide, but the people designated to suffer and die for that choice and cause might not take kindly to it. Deflation favors the creditors significantly, and those creditors tend to be a minority of domestic elites and foreign entities.   Both the extremes, hyperinflation and deflation, are choices best implemented in autocratic governments.

There are those who observe that Franklin Roosevelt 'saved capitalism' by his actions in the 1930's and I believe they are correct. If one considers the various other outcomes in large developed nations to the Great Depression, whether it be Italy, Germany, Russia, or Spain, the US came out of it fairly intact politically. People conveniently overlook the undercurrent of insurrection and violence that was festering amongst the suffering multitudes, and the growth of domestic fascist and communist organizations.  There were several plots to overthrow the elected government by military means, although the history books tend to overlook them.

So it is really about making the best choice amongst bad choices. This is why governments choose to devalue their currency, either with quantitative easing, or explicitly against some external standard as the US did in 1933. Because when the debt is unpayable, it must be liquidated, and the pain will be distributed in a way that best preserves the status quo.

Hyperinflation and a protracted deflation are both very destructive choices. So therefore no rational government will choose either option.

They *could* have those choices imposed upon them, either by military force, political force, or by economic force. Economic force is almost always the cause of hyperinflation.

So you can see why a 'managed inflation' is the most likely outcome at least in the US. The mechanism has been in place and performing this function for the last 100 years.

The problem or twist this time around comes when the monetary stimulus does not increase jobs and the median wages, because of some inherent and unreformed tendency in the economy to focus money creation and its benefits to a narrow portion of the populace. The result of this is stagflation which although not indefinitely sustainable can be maintained for decades. 

Most third world republics are like this.  A vibrant and resilient middle class is sine qua non for a successful democratic republic, and this has strong implications for the median wage.  The benefits and the risks of growth and productivity must be spread widely amongst the participants.  Oligarchies tend to spread only the risks, keeping most of the benefits to themselves.

This is essentially the reasoning that occurred to me when I looked at the US economy and monetary system in the year 2000.

The one point I remain a little unclear on is how 'hard' the law is regarding the direct monetization of debt issued by the Treasury. I am not an attorney, but I am informed by those familiary with federal statutes that this is a gray area in the existing law but currently prohibited.  But it is easily overcome as I said with the inclusion of one or two amiable primary dealers who will allow the debt issued by Treasury to 'pass through' their hands in the market, on its way to the Fed at a subsidized rate.  For this reason, and for purposes of policy matters, and occasional economic warfare, countries may tolerate TBTF financial institutions with whom they have 'an understanding.' 

I have also come to the conclusion that no one knows the future with any certainty, so we must rely probability and risk management to guide our actions.

So really absent new data the argument is pointless, a matter of uninformed opinions. The dollar will continue to depreciate, (but the DX Index will be highly misleading - Jesse) and gold and silver and harder currencies appreciate (Well that one has gone sideways for now in this metals bear market - Jesse), until the fundamental situation changes and the US economic system is reformed.

I think there are other probable outcomes that involve world government and a currency war, and this also is playing out pretty much as I expected.  Fiat currency can take on the characteristics of a Ponzi scheme, whose survival is only possible by continuing growth until all resistance is overcome.

This is the conclusion I came to in 2000. I admit I was surprised by the Fed's willingness to create a massive housing bubble, and the willingness of the US government to whore out the middle class in their deals with mercantilist nations; their hypocrisy knows no bounds.

So that is the basis of much of my thinking and I wanted to take a moment to share it with you in a compact, highly condensed format.

I remain a little unsettled on the issue of hyperinflation, because there is the possibility that a large bloc of countries could join together to repudiate the dollar. Since so much dollar debt is held in these foreign hands, that is the kind of exogenous force that could trigger a bout of what might be termed hyperinflation. I don't see the dollar going to zero in this, but rather the dollar having a couple of zeros knocked off it, with a new dollar being issued. I have read John Williams case for hyperinflation several times now, and see nothing more compelling in it.

Indeed I think the reissue of the dollar with a few zeros gone is inevitable. It is the timing of that event that is problematic. It could be one year, or it could be fifty years. There is a big difference there for your investment strategy.

“One day you will go the ATM and the dollars will be Blue---not Green ---and you will get a few less than you expected.”

And yes, the government could just get medieval on your asses, and seize all the gold and silver, force you to take the value of the dollar at whatever they say it should be.  (As the MMT crowd has suggested - Jesse)   They could also seize all the farm land, all the means of production, and tell certain groups of people to get on freight trains for resettlement in Nevada. I think we can stipulate that governments can do this, and the people can accept it to varying degrees. If you wish to make this the dominant assumption in your planning then by all means.

For those who simply say "I disagree" or "Go read so and so he has proved this or that" I say that people believe lots of things, and can find data selectively to support almost any outcome they prefer,  But the market is the arbiter here, and the verdict so far is beyond all question. The Fed is doing exactly what they said they would do, so there should be no surprises. And they have more in their bag of tricks.

If there is new data I would certainly adjust my thinking but absent that I now consider this settled to my satisfaction, and wish to turn instead to more thinking on what changes need to occur to prevent the system breaking down, and restoring it to some semblance of reasonable functionality.

Economists-Say-Dumb-Things Chronicles: 'Debt Is Money We Owe To Ourselves'

Like so many sloppy discussions of economics to make an important policy point, but badly, this one diverges from common shared reality fairly quickly. 

Let me strike the key hypothesis in this, that prompts a leap of faith, over a cliff and into the abyss of fantasy.

"Debt is money we owe to ourselves."

Something on which Mr. Krugman can agree with Dick Cheney who said, 'Reagan proved that deficits don't matter.'   How is that for a twist?  

From an accounting standpoint and within the realm of theoretical identities this is true. Each debt is someone else's asset.

The key of course is how we define 'ourselves.'  

If 'we' are the entire planet, equally and without distinction of interests and property, then perhaps one might say, ok, although it loses all meaning and significance.   I would not mind pooling my household books with one of the Banking billionaires and to be able to step up to the Fed's free cash window anytime to do my business, with the assurance that I have a government guarantee underpinning my ledger, but alas.

And this is a problem because the paramount issue we are facing today is the historically extreme concentration of capital assets in a relatively few hands, and the burden of unpayable debts being imposed upon a large segment of the people by a system that has been hijacked by the moneyed interests.

If you take this pithless observation by Mr. Krugman down one level of detail in the States for example, one finds that the debt is an asset on the books of a increasingly small number of wealthy people, with much of it controlled for them by a handful of Banks.

This system is not sustainable, and I see no sign that it will even cohere, without substantial reform.

I wonder if the average American who is losing their car and house, and who is being hounded by debt collectors for whom those debts seems to matter a great deal, can use that argument with the Banks.

Putting aside private debts, let's just stay in the realm of sovereign debt, where the economic imagination can more easily take its flights of fancy.

Debt is just money we owe to ourselves is similar to the flat pronouncement that a sovereign that issues its own currency can never default. Money is just an accounting entry so why the fuss?  And from this comes a Pandora's Box of muddy thinking, a selective myopia towards history,  and Trillion Dollar Platinum coins. 

I wonder if Greece can use this argument, that debt is just money that we owe to 'ourselves,' when they meet with the Germans this week. 

But no, the US is different.  Every other country may fail, and many have including that insubstantial nation of Russia not all that long ago,  but not us. We are young and immortal.  Our benchmark for virtue is power, and we are virtuous enough to be able to say that when things are not working out as we planned, we are able to decree that 'money is whatever we say it is,' and God help anyone who does not agree.

And so we might presume that the mighty US is going to be able to make that case about debt forever to its creditors who are outside the direct thought control of its monetary system, a short list of which is contained below.

It is funny how the moneyed interests and their courtiers are always saying, 'debt doesn't matter,' especially when they want us to assume their gambling debts which they incurred by frauds using our own money.   Until, that is, they decide to call in the loans and the debts, and impose their will upon the people with foreclosures, garnishment, austerity, and debtors' prisons.

I agree wholeheartedly that the rhetoric around the discussion of spending priorities gets silly and overheated and quite frankly disgusting.  That has more to do with a society in the grip of a greedy few, corrupt public servants, sophistical theoreticians, and boisterous minions than it does with the need to expand our economic theories into existential irrelevance.  Madness is certainly attractive perhaps in a land going mad, but it is unlikely to be productive.

Arguments like those from the MMT crowd, both right and left, and economists like Paul do us no favors in concocting some fantastical solution to what is primarily a problem of governance, justice, transparency, and power gone horrible wrong.

The 'debt' and the 'budget' are not an economics argument but a policy argument.  What is important to us?  What do we continue to hold as these truths?   And how do we resolve those disagreements?  Avoiding that policy and priority discussion enables those who are caught in the credibility trap to continue to beg the question entirely, and the real task at hand, which is reform. 

We cannot discuss reform until we expose the corruption.  And therein lies the problem, because quite a few powerful hands have been dipping into the largesse, and quite a few courtiers have a vested interest in continuing to propagate the lies and myths of a failing system.

I am not a 'hard money' guy.  I am certainly not in favor of a domestic gold standard as a remedy for our current set of problems. 

 

What I am saying, and I think it has been consistently so, is that the system that we have now is so fundamentally broken that no matter what incidental things that we do, no matter how much stimulus is provided under whatever rationales, that all good will be turned to ill, the gap of inequality will keep widening, and that the situation will continue to worsen, lurching from crisis to crisis.

 

Is this not what we have seen since all the programs were put in place since the crisis of 2008?  That the rich are getting richer, because all we have really done is prop up an unjust, broken, and unworkable system.  And I think that this is the point that is being made by Greece in Europe today.

You cannot keep a game running when the insiders that control it are making up the rules as they go along, hiding their assets, dictating the judges' decisions,  dipping into the other players money at will, and generally cheating and doing whatever they wish when they wish, because they can.

The system is too flawed to be sustainable, and must change in order to cohere.

NY Times

Debt Is Money We Owe To Ourselves

By Paul Krugman

February 6, 2015

Antonio Fatas, commenting on recent work on deleveraging or the lack thereof, emphasizes one of my favorite points: no, debt does not mean that we’re stealing from future generations. Globally, and for the most part even within countries, a rise in debt isn’t an indication that we’re living beyond our means, because as Fatas puts it, one person’s debt is another person’s asset; or as I equivalently put it, debt is money we owe to ourselves — an obviously true statement that, I have discovered, has the power to induce blinding rage in many people...

More than that, as Fatas points out, rising debt could be a good sign. Think of my little two-classes model of debt, where some people are less patient than others — perhaps (to step outside the model a bit) because they have better investment opportunities. Moving from a very limited financial system that doesn’t allow much debt to a somewhat more open-minded system should, in that case, be good for growth and welfare...

And the problems with public debt are also mainly about possible instability rather than “borrowing from our children”. The rhetoric of fiscal debates has been, for the most part, nonsense.

Read the entire piece here.

Currency War: 140 Years of Monetary History in Ten Minutes

Like most complex subjects reduced to a ten minute summation, there are plenty of nuances lost here, and one might certainly take issue with some of the conclusions. And the perspective of the discussion is largely centered on the US and Europe.

Nevertheless, I like the succinct overview of certain key events in recent world monetary history that lead up to the situation in which we find ourselves today.

Since most people are abysmally ignorant of where we have been, perhaps that is a good place to start once again, for those of you who have not heard this previously.

I would have liked them to have dealt with the gold confiscation and revaluation of 1933, in which FDR used the nation's gold to recapitalize the banking system, and changing the nature of the US currency while devaluing it, but that might have become over complicated. Most do not understand it for what it was, a currency transformation.

People tend to discuss money from an emotional basis, and that is understandable. I don't consider myself a 'hard money' person per se. At this point I would merely wish governments to leave gold and silver alone, and allow them to function as a private market force, co-existing with whatever currency schemes they choose to set up. The monetary authorities struggle with this concept, because they inevitably seem to abuse the currency system and resort to increasing amounts of fraud and force. This is not a facet of government, but of bad government.

I am not in favor of a 'gold standard' for that reason now, because that would merely allow governments to once again monopolize the metals and set the prices artificially in order to control them. Gold cannot cure the corruption in the current political system, and could quickly be turned into a force for more repression. Better that the metals exist as free market alternatives for those who may choose them.

After listening to this presentation, one can surely understand why the central banks both fear and covet gold. It resists their wills, but has a natural tendency to be seen as money.

I do think that the nature of gold, and how it has been used as money over thousands of years, illustrates several important qualities that any sustainable monetary system must emulate and approximate. Those who dabble in monetary theory would do well to understand them.

De Gaulle's words are quite important, and I am glad they include that piece in which Charles de Gaulle speaks to the 'exorbitant privilege' of the US Dollar. The principled objection he is raising is the same question being raised by the BRICs today, and the resolutions being discussed behind the scenes are quite contentious over some of these very issues.

As you know, I suggested one solution would be an SDR, but reconstituted with a more contemporary and inclusive weighting system, together with a mechanism that does not permit the IMF to issue amounts of SDRs at will. The problem is that the IMF is dominated by the status quo and the Banks, and really no single class of people is capable of wielding that sort of discretionary power well for any period of time. So I don't see that happening yet, because an acceptable version of it is being fiercely resisted by the Anglo-American banking cartel. They are content to continue with their looting of the system for the foreseeable future.

Money is power, after all, and greed will too often refuse to relinquish any power or claim willingly, even to its own destruction. The American abuse of financial power for political purposes is causing a bifurcation in global finance, along the expected fault lines, and it will be interesting to see how that develops. 

Ben Bernanke On Money and the Sophistry of Modern Monetary Theory

soph·is·try (s f -str ). n. pl. soph·is·tries. 1. Plausible but fallacious argumentation. 2. A plausible but misleading or fallacious argument.

I see the Cullen Roche is back at it again, telling us all about the wonders of modern money. The Biggest Myths in Economics

I will take these myths, and comment on them one by one.  Some things make sense, and others, not so much.  But perhaps the discussion will help to shed some light.

I am going to try to do it simply and in straightforward language, because that is often the best antidote to sophistry.

1) The government “prints money”.

The government really doesn’t 'print money' in any meaningful sense. Most of the money in our monetary system exists because banks created it through the loan creation process. The only money the government really creates is due to the process of notes and coin creation. These forms of money, however, exist to facilitate the use of bank accounts.

This is the 'I didn't do it, because the guys who are working for me did it' argument.

As you might recall, the banks in the US, and most other places, operated under a license and regulation of the government. The banks are part of the Federal Reserve System. They create money under the supervision and regulation of the Federal Reserve Bank, which in turn is answerable to the government.

Most of the time the money is created, organically if you will, through economic activity. The Fed exercises quite a bit of direct and indirect control over this process as both actor in the markets and a regulator. This is the very basis of the Federal Reserve.

At other times, the Fed is able to create money on its own volition, by expanding its Balance Sheet. It can create money at will, and uses it to enact its policy objectives. Whether you say 'print' or 'create' money is a matter of usage, as they are both essentially the same in this context unless you are given to splitting hairs.

You want to know the difference here?  If some bank or person started 'printing' its own money apart from the Federal Reserve system or the rules of the government over commercial paper they would shut them down in a Manhattan minute.  Just ask the Liberty coins guy.  The almighty dollar is a jealous god.

There were times in the past when the 'currency of the US' was created by private parties and circulated.   That is not the case now, except in the fevered minds of creative imaginations.

2)  Banks “lend reserves”
  
This myth derives from the concept of the money multiplier, which we all learn in any basic econ course.  It implies that banks who have $100 in reserves will then “multiply” this money 10X or whatever.  This was a big cause of the many hyperinflation predictions back in 2009 after QE started and reserve balances at banks exploded due to the Fed’s balance sheet expansion.  But banks don’t make lending decisions based on the quantity of reserves they hold.

Banks lend to creditworthy customers who have demand for loans. If there’s no demand for loans it really doesn’t matter whether the bank wants to make loans.

This one gets definitionally tricky, because it involves the terminology of bank accounting and its own particular jargon. But let us cut to the heart of it by saying that banks make loans with some regards to their assets. A person cannot just stand up with no money in their pockets and say, I am a bank and am going to start making loans. They need to be licensed by the government, and must adhere to certain requirements from their books.   Those nasty things like leverage, risk, etc.

As for Banks being in the business of making loans, that is nonsense. Banks are in the business of making money, and we should never forget that.  Sitting idly on what in another business would be called working capital does not do them much good. And people tend to mistake 'working capital' for 'reserves' and that's where we go off into the jargon wilderness.

What is a creditworthy loan? This is not some black and white threshold, good or bad, but more like better or worse, an analog measurement of risk and reward. Anyone who has ever funded competing projects in corporations understand this. It is intimately tied to risk return and competing opportunities.

I would certainly think that most people understand that making commercial loans for some meager basis points in return over the long haul is boring stuff compared to the opportunities to be had in gaming hot money markets for outsized gains and large bonuses tied to short term results.

And that is the heart of much of the problems in the financial system today. Speculation is crowding out investment from the commercial banking system due to the repeal of Glass-Steagall, and the laxity of regulating the abusive practices of large and powerful players in the markets.

3) The US government is running out of money and must pay back the national debt.

There seems to be this strange belief that a nation with a printing press whose debt is denominated in the currency it can print, can become insolvent. There are many people who complain about the government 'printing money' while also worrying about government solvency. It’s a very strange contradiction...

As I’ve described before, the US government is a contingent currency issuer and could always create the money needed to fund its own operations. Now, that doesn’t mean that this won’t contribute to high inflation or currency debasement, but solvency (not having access to money) is not the same thing as inflation (issuing too much money).

This is a nice piece of sophistry because while it knocks down a thesis, it does not prove its antithesis.

Because the US government is NOT running out of money, and it does NOT have to pay back the national debt, that does not mean that the national debt has no limit. It just means that we have not yet reached it, whatever that may be.

At some point you have to get off the theoretical merry-go-round and try to exchange some of that money which you declare that you have for real goods. And the perspective of the counterparty weighs in heavily on that transaction I daresay. One only has to look at the many, many failed currencies throughout history, from 'contingent currency issuers,' in order to understand the fallacy of this argument.

Certainly you can force your own citizens to adhere to your commands, as the MMT crowd are often wont to imply.  But it is still a larger world out there, and absent one world government, there are some degrees of freedom in determining currency valuations.

4) The national debt is a burden that will ruin our children’s futures.

The national debt is often portrayed as something that must be “paid back”. As if we are all born with a bill attached to our feet that we have to pay back to the government over the course of our lives. Of course, that’s not true at all. In fact, the national debt has been expanding since the dawn of the USA and has grown as the needs of US citizens have expanded over time. There’s really no such thing as “paying back” the national debt unless you think the government should be entirely eliminated (which I think most of us would agree is a pretty unrealistic view of the world).

This one is almost the same as myth number 3. The national debt is something that will always exist in a debt based system. The pricing of debt in a marketplace is how the Federal Reserve system and Treasury are theoretically restrained from the excessive creation of money.

The very money in your pocket is itself is a 'note' of obligation on the Balance Sheet of the Fed, and overall a debt obligation of the Treasury.  The 'full faith and credit' of the United States if you will.

But that does not mean that the debt cannot become a burden on our children. If the debt is misspent and squandered and allowed to outgrow the capacity to manage it, it can become a very real burden.

But I find that those who make this argument are typically those who have already grabbed a good portion of the money from some financial bubble, and now seek to hold their gains.   Debt must be managed.

To this point Cullen says "All government spending isn’t necessarily bad just like all private sector spending isn’t necessarily good." And I agree with this completely.

5) QE is inflationary 'money printing' and/or 'debt monetization'

Quantitative Easing (QE) is a form of monetary policy that involves the Fed expanding its balance sheet in order to alter the composition of the private sector’s balance sheet. This means the Fed is creating new money and buying private sector assets like MBS or T-bonds.

When the Fed buys these assets it is technically 'printing' new money, but it is also effectively 'unprinting' the T-bond or MBS from the private sector. When people call QE 'money printing' they imply that there is magically more money in the private sector which will chase more goods which will lead to higher inflation. But since QE doesn’t change the private sector’s net worth (because it’s a simple swap) the operation is actually a lot more like changing a savings account into a checking account. This isn’t 'money printing' in the sense that some imply.

Well yeah, it is money printing, although I agree it is not magical. The Fed simply expands its Balance Sheet and creates, or prints if you will, Federal Reserve notes of zero duration, also known as dollars, and exchanges them for assets of various durations and quality at non-market based prices. It is not limited to Treasury debt, but can include almost anything really according to the Fed, whether it be toxic debt mortgages, or common stocks, etc.  

And the Fed is not 'unprinting' anything, until it either writes off the debt, or return it to its issuer.  The Fed is a private corporation.  You can say that the Fed withdraws the liquidity from the market place by keeping it relativelhy inactive because the Fed does not purchase many things, but even that is no longer the case.  The Fed has grown into quite the organization, with its own police force.  It merely surrenders any 'profits' remaining after all its discretionary expenses back to the Treasury.

If this was such a simple and benign swap why else would they do it? It is one of the primary levers the Fed uses to influence monetary policy.

They are increasing and changing the character of the money supply in the course of managing it. It is what they do for God's sake, besides riding herd on their banks who normally create the money for them, but occasionally get derailed by some financial bubble of their own creation.

7) Government spending drives up interest rates and bond vigilantes control interest rates.

Many economists believe that government spending 'crowds out' private investment by forcing the private sector to compete for bonds in the mythical 'loanable funds market.' The last 5 years blew huge holes in this concept. As the US government’s spending and deficits rose interest rates continue to drop like a rock. Clearly, government spending doesn’t necessarily drive up interest rates.

And in fact, the Fed could theoretically control the entire yield curve of US government debt if it merely targeted a rate. All it would have to do is declare a rate and challenge any bond trader to compete at higher rates with the Fed’s bottomless barrel of reserves. Obviously, the Fed would win in setting the price because it is the reserve monopolist. So, the government could actually spend gazillions of dollars and set its rates at 0% permanently (which might cause high inflation, but you get the message).

It is not government spending that drives up interest rates, but that does not mean government spending cannot drive up interest rates. It sure as hell can. 

And I would hope to think that bond vigilantes can help to control interest rates, otherwise the entire Federal Reserve system and the US dollar is based on a fallacy. See what Mr. Bernanke has to say below. This is the confidence on which the dollar rests.

In fact the Fed COULD exercise reserve monopolist powers and print all the money it wishes at zero rates. And the 'vigilantes' could respond by shifting their wealth into other non-dollar instruments, en masse.

What is somewhat confusing is that the relationship is not straightforward, but is a somewhat non-linear dynamic with a lag. You can get away with quite a bit of economic behavior in the short term. But eventually you can reach a tipping point, if there remain enough agents who are free to dissent from the dictates of a central authority that has fallen into error, aka 'vigilantes.'

8) The Fed was created by a secret cabal of bankers to wreck the US economy.

The Fed is a very confusing and sophisticated entity. The Fed catches a lot of flak because it doesn’t always execute monetary policy effectively. But monetary policy is not the reason why the Fed was created. The Fed was created to help stabilize the US payments system and provide a clearinghouse where banks could meet to help settle interbank payments.
...So yes, the Fed exists to support banks. And yes, the Fed often makes mistakes executing policies. But its design and structure is actually quite logical and its creation is not nearly as conspiratorial or malicious as many make it out to be.

This is reductio ad absurdam. The Fed is not a monster or inherently evil. But that does not make it good.

The Fed was created in somewhat extraordinary circumstances, wrapped in political secrecy in the aftermath of a banking crisis.  And it was driven by a small group of powerful men who united to promote a common purpose.  I will not speak to their motives.

There is a long controversy about the proper role of a central bank in the US, going back to its very founding, and this treatment makes light of that.

It is a great power to create and distribute money, that can be used for good or ill. And therefore it must be constrained, and subject to oversight. And history shows that this power is frequently abused.

9) Fallacy of composition.

The biggest mistake in modern macroeconomics is probably the fallacy of composition. This is taking a concept that applies to an individual and applying it to everyone.

Could not agree more, especially if you extend it to anecdotal information. But I would tend to refer to it as the fallacy of reasoning from the particular to the general.  But I would not call it 'the biggest.'

One of the most perennial myths is that a skill in making money, especially through financial speculation, is the sign of wisdom in other things.  Some of the best traders I have known are borderline savants and white collar criminals, whom I would hardly trust to handle my family's future. 

Alas, wealth and beauty are not always companions of virtue in this world.  They become accustomed to obsequiousness, and lose site of their common humanity.  And there is nothing sadder or more tedious than a man who has become wealthy, who decides to grace the public with his wisdom, bad haircut and all. 

I think a more pernicious and prevalent economic myth is the notion that economics can dictate public policy through some appeal to economic laws as if they were physical laws like gravity. Public policy is best decided by determining goals and priorities and then allowing many things, including economics, to shape the implementation of that policy.

But economics has been elevated to a position in our societies which is wholly inappropriate and a source of great mischief, especially when the truly dangerous myths like 'naturally efficient markets' become the basis for policy decisions without proper regard for their effects. The 'austerity for the sake of the public while sustaining corrupt practices' myth is perhaps the most cruel and appalling.

10) Economics is a science.

Economics is often thought of as a science when the reality is that most of economics is just politics masquerading as operational facts.

Economics is a social science, and not a physical science. There are plenty of facts, and somewhat ironically Mr. Cullen has just leaned heavily on quite of few of the ones he tends to favor, whether they are right or not.  

The worst of it is when economics is used by those who claim an 'authority' from it to promote policies that are quackery, as we have seen all too much in the past twenty years in particular with regard to the natural goodness of the power of 'the Market.'

What concerns me though is the follow on to this declaration of  the myth of economics as science. It is that extreme resort of relativism which holds that since economics is all bullshit, why not use it, and shamelessly, to promote a particular point of view, wrapping it in as much jargon and intimidating hoo hah as you can manage?  Since there is no science, there are no necessary consequences, and we may do as we please.  And that is a sophistry of the first order.

And this view is being promoted by the economists themselves, those few members of a 'disgraced profession' like accountants and regulators, who were willing to say and do almost anything for the promise of money, favors, and political connections.

And this deterioration in professional standards has long been my objection to much that has been said and is being said about money by these most modern of thinkers, caught up in the will to power, who believe that since there is no god of consequences, then everything is lawful.  

They lose their grounding in the reality of commerce and risk, and start throwing around harebrained notions like 'platinum coins.'  They bring the childish politics of their academic departments to weigh in on serious policy decisions with serious real world consequences.

Even a few faux Nobel laureates have been seen to join in this Dionysian dance, a filigree of modern monetary contrivance.  Skip the coin, default, and be damned if you will, but a old fish wrapped in silk is still a dead and stinking fish.

Speaking about money, It is worth reading what Mr. Bernanke has written about money in this essay below.  It speaks volumes. 

"What has this got to do with monetary policy? Like gold, U.S. dollars have value only to the extent that they are strictly limited in supply. But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost.

By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation.

Of course, the U.S. government is not going to print money and distribute it willy-nilly (although as we will see later, there are practical policies that approximate this behavior). Normally, money is injected into the economy through asset purchases by the Federal Reserve.

To stimulate aggregate spending when short-term interest rates have reached zero, the Fed must expand the scale of its asset purchases or, possibly, expand the menu of assets that it buys.

Alternatively, the Fed could find other ways of injecting money into the system--for example, by making low-interest-rate loans to banks or cooperating with the fiscal authorities. Each method of adding money to the economy has advantages and drawbacks, both technical and economic.

One important concern in practice is that calibrating the economic effects of nonstandard means of injecting money may be difficult, given our relative lack of experience with such policies. Thus, as I have stressed already, prevention of deflation remains preferable to having to cure it.

If we do fall into deflation, however, we can take comfort that the logic of the printing press example must assert itself, and sufficient injections of money will ultimately always reverse a deflation."

Ben S. Bernanke, Deflation: Making Sure 'It' Doesn't Happen Here

The Financial States of America and Why the European Union Is Inherently Unstable

I am including this because it shows the economic diversity in growth and wealth amongst the States.

And they all function under a common currency. Why does this work whereas the Eurozone is having such problems?

That is because with a common currency union, a political and fiscal union are required as well. This is a hard lesson from monetary theory and history.

When you have a fiat system with a central authority setting policy according to economic conditions over a geographic area in which there is diversity, there must be fiscal policy and transfer payments to 'even out' the effects of that monetary policy.

That is why the European Union is inherently unsustainable, because it is a monetary union without a public policy and fiscal union.

The EU cannot possibly create the appropriate single government, without undue hardship. So they must consider allowing the individual countries or regions to conduct their own monetary policy and have their own currency and exchange rates.


Source: Financial States of America

This chart is from Moneychoice.org.  They are responsible for the data and the figures. 

Greenspan: Role Of Central Bankers Is to Try to Replicate the Stability of the Gold Standard

Greenspan said on any number of occasions that his model was that a 'fiat currency' works when it emulates the rigor of the gold standard.

I am using this post as a placemarker to gather a few citations along these lines. Sometimes people doubt these things, and it is not always easy to go back and find the actual idea in print.

I will place other example here as I find them but it is not a high priority because Alan Greenspan has never deviated from this point of view. One of the most poignant examples I have was when Ron Paul asked him if he still believed in what he wrote in his famous essay on Gold and Economic Freedom.

And Greenspan answered that he would not change a word.

I think the squaring up of what Greenspan believed, and what he did as Fed Chairman, is one of the more interesting conundrums that I hope that time will explicate. 

The other of course is why the flaming liberal and 'socialist' Obama is really closer to Richard Nixon in his performance and outlook than most would care to admit, on either the right or the left. 

This is from a 2007 Interview by National Public Radio with Alan Greenspan on Turbulence and Exuberance

Greenspan: Well actually, we were not fundamentally regulators [at the Fed]. The vast portion of our efforts were not involved in bank regulation.

NPR: No, but you were regulating interest rates, which have a profound effect on world economies.

Greenspan: You're raising really a very interesting question. I have always argued that the gold standard of the 19th century was a very effective stabilizer. It kept inflation essentially at zero, and I felt it was critical for the tremendous growth that occurred for the American economy in the latter part of the 19th century. When we went off the gold standard essentially in 1933, we then had to have what we call "fiat money" which is essentially money that is - it's printed paper money. Which unless we restrict the volume of, can be highly inflationary.

The type of interest rate regulation that I and indeed most central banks in the last 20 years have been involved in...has been to try to replicate the laws and rules that were governing the gold standard.

And so it is an odd situation where all the central bankers -- while none of them are advocating a return to the gold standard -- nonetheless try to replicate the various types of interest rate policies that the gold standard would have created. And it is an interesting question whether you call that regulation, or basically functioning of a central bank in stabilizing the economy."

I remember all such statements of Greenspan's vividly because they were one of the few times in which I felt that he was telling the truth, at least as he sees it.

I think that a fiat currency can 'work' if it emulates the rigor of an external standard. And exceptions that can be made to this rigor during times of exogenous shocks could be a quite useful tool for monetary policy.

The problem is that it NEVER seems to work out that way in the real world. It does not take long for financiers and politicians to discover the heady power and easy money to be had in manipulating the markets and the fiat currencies to their own advantage, the public and the real economy be damned. And then a pigfest ensues, and a nation's savings and civic virtue are consumed.

"And, indeed, since the late '70s, central bankers generally have behaved as though we were on the gold standard. And, indeed, the extent of liquidity contraction that has occurred as a consequence of the various different efforts on the part of monetary authorities is a clear indication that we recognize that excessive creation of liquidity creates inflation, which, in turn, undermines economic growth.

So that the question is: Would there be any advantage, at this particular stage, in going back to the gold standard? And the answer is: I don't think so, because we're acting as though we were there. So I think central banking, I believe, has learned the dangers of fiat money, and I think, as a consequence of that, we've behaved as though there are, indeed, real reserves underneath the system."

Greenspan, A., Hearing on Monetary Policy Report, US House Committee on Financial Services, 20 July 2005, Washington D.C.

From: Jude Wanniski < jwanniski@polyconomics.com
To: Ben.S.Bernanke@ * * * * *.GOV
Subject: Fwd: Re: Savings glut
5:44 pm, 7/21/2005

I thought you should see this. Greenspan was plain awful in his testimony this week. But members of Congress don't know any better, so they slobber all over him. He again said we don't need a gold standard, because he has demonstrated since he came to the Fed in 1987 that the central bank could "replicate" the gold standard.

Take a look at the dollar/gold price from 1987 until today and you will see how terrific he has been in replicating the gold standard. I can't wait for him to leave, Ben, because he now has so much invested in his Fed legacy as a Maestro that he could never admit he screwed up almost all along the way.

Famous 2005 Exchange Between Ron Paul and Alan Greenspan about the Gold Standard


Related: Why There Is Fear and Resentment of Gold's Ability to Reveal the True Value of Financial Assets

Gold Daily and Silver Weekly Charts - The US Dollar: Keeping Up Appearances

Ron Paul: "I had a Federal Reserve Board Chairman testify before the committee that the gold standard had some merits but it was unnecessary because central bankers have now learned how to manage a Fiat currency in a manner in which it would mimic the gold standard. Would anybody care to comment about where the flaw is in that thinking?"

Mr. Lehrman: "I am anxious to comment on that, Dr. Paul. Under--and I must say Mr. Greenspan made the same insipid remark. Mr. Greenspan and Mr. Bernanke will have to then explain why it was that two of the greatest booms in American history, and two of the greatest panics and busts in American financial history, occurred under their 25-year watch..."

Mr. Grant: "The failure of AIG is so instructive in this respect. AIG, this immense insurance company with this ever so brilliant financial products group, didn't do one thing. It didn't mark its positions to market. Finally came the day of judgment and it argued with Goldman Sachs about what these things were worth, AIG said 100 cents on the dollar, Goldman Sachs said not close, Goldman Sachs won that debate and AIG failed.

As with AIG and Goldman Sachs, so it is today with the United States and its Asian trading partners. We never clear our trades. Our dollars go there, and they come right back here. We run twenty five consecutive years of debts on a current account and there will be for us, as there was for AIG, a moment in truth in which we must settle."

U.S. House of Representatives, Committee on Financial Services, Testimony of March 17, 2011

The US will settle, in paper dollars.  And if the payment is insufficient, they can always create more.

That is the long and short of it, and the sophistry of modern money.  Because the value of the money is self-referential, it is in essence a literal confidence game.  The dollar is worth what we say it is, and it is worth it because we say it, without regard to other opinions and considerations to the contrary. And as long as people believe this, or even pretend to believe this even if they don't but are afraid of the consequences of their disbelief, the dollar hegemony is secure.

Money is a matter of force and confidence; and when confidence wavers, force must provide. Force can take many forms, from persuasion to deception and even compulsion.

So the appearance of solidity and confidence must be maintained no matter what.   It must, as apparently Messrs. Greenspan and Bernanke have said, must 'mimic the gold standard.'  And they are right.  Caesar's wife must be above reproach, and the fiat dollar is the dowager queen of empire.

That is why the chat board gimmickry of the platinum coin was such a remarkably dangerous folly. Even given that money is a somewhat specialized area of study, it was shocking that a distinguished economist like Paul Krugman did not seem to understand it.  I could attribute that to a moment of political weakness. 

But the rest of the world did understand exactly what was happening, and held its breath.  Would the US dare to cynically impugn the basis of its debt, even by implication? 

Perhaps the greater question, such silliness as trillion dollar platinum coins aside, is how far the Anglo-American financial system is willing to go to keep up the appearance and dignity of a stable global reserve currency in the dollar, even while the dollar is being used and abused by the financiers like a 12th Avenue hooker?

I think you know that I believe that the paper metals markets are an accident waiting to happen, particularly with regard to silver.

It appears that the exchange and the regulators are managing the markets with reckless disregard for their soundness.

So let's see what happens.

Fiat Monetary Theory: The Gamblers

'The Gamblers'

"The historical behavior of interest rates and growth rates in U.S. data suggests that the government can, with a high probability, run temporary budget deficits and then roll over the resulting government debt forever.

The purpose of this paper is to document this finding and to examine its implications. Using a standard overlapping-generations model of capital accumulation, we show that whenever a perpetual rollover of debt succeeds, policy can make every generation better off.

This conclusion does not imply that deficits are good policy, for an attempt to roll over debt forever might fail. But the adverse effects of deficits, rather than being inevitable, occur with only a small probability."

Ball, Elmendorf, Mankiw, The Deficit Gamble

As with most Ponzi schemes, modern fiat currencies are a matter of degree, belief, and tipping points.

There are always limitations in any system, and in paper money systems the debt must be balanced by real growth and investment, an organic growth that makes the rolling debt burden, which is really the basis of the money itself, sustainable and productive.    That growth must be broadly based in order to support consumption from within the system itself, and this implies income commensurate with increasing productivity.

The failure of every fiat currency has been tied to the abuse of power, in the non-organic use of created money not to increase the productive growth of the economy, but to establish monopolies, cartels, speculation, and of course, aggressive war, all in pursuit of the outsized enrichment of a relative few who define themselves as an elite.

And human nature being what it is, all paper money systems have failed within a few hundred years.

There is a variation of  Fiat Monetary Theory, also known as fiat money, which seeks to distinguish itself by its name in addition to its penchant for sophistry, called Modern Monetary Theory.

This variant eliminates the debt problem by switching from a debt based currency to a pure fiat currency issued directly by the government. The longer term problem of currency revulsion, or the rejection by the people of the stated value of the currency, is resolved by greater use of government force.

The resort to force is a tell tale marker of all ideological cults which are unable to achieve a natural stability and an informed, willing acceptance.  That force may include psychological persuasion including propaganda and ridicule.

We are seeing something like this today in Europe, with the compulsion to enforce austerity as the technocrats and careerists refuse to admit that, that by its very design, the Eurozone is inherently unstable. 

And the reforms required to avert disaster are unthinkable, because they will diminish their wealth and power.   And so they become increasingly desperate and self-destructive.

Since the leaders are naturally superior, it is the people that have failed them, because they did not believe enough, work hard enough, sacrifice enough. And so they must be punished.