What makes him so annoying is his unquestioning, reflexive and almost childlike enthusiasm for state intervention, even in the face of its obvious failure, and his apparent unwillingness to probe any deeper into the real causes of our present economic problems or to show any willingness to investigate the effectiveness or ineffectiveness of his particular medicine. His Keynesian convictions are presented as articles of faith that no intelligent person can seriously question.

A Krugmanesque argument is always built on a number of assumptions that are beyond doubt:

1) Recessions, depressions and crises are the result of the unhampered market. We actually do not have to investigate if markets were really free when recessions occurred or what really were the specific causes of whatever threw the economy off track. When there is a recession, depression or crisis, there must have been too much of an uncontrolled market.

2) The Great Depression was caused by uncontrolled markets.

3) Recessions, depressions and crises are practically the result of one problem: a lack of aggregate demand. People, for whatever reason (and who cares about the reason; let’s not get hung up on those details!) don’t spend enough. If everybody were to spend more, people would sell more. Problem solved. It is the role of government to get people spending again. This is done by printing money and causing inflation so that people spend the money rather than save it. Or by the government running up deficits and spending it on behalf of the stupid savers.

4) The Great Depression was solved by the government spending lots of money and the central bank printing lots of money.

5) This explains ALL economic problems.

6) If there are recessions, depressions and crises, they can all be solved by printing money and by deficit spending.

7) If after many rounds of money printing and deficit spending there is still a recession, then only one conclusion is permissible: There was obviously not enough money printing and deficit spending. We need more money printing and deficit spending.

If after another round of money printing and deficit spending we still have a recession, then….well, are you stupid, or what? We obviously have NOT PRINTED ENOUGH MONEY and we are NOT ACCUMULATING ENOUGH DEBT!

(And, by the way, remember (7) above.)

Krugman is practicing Keynesianism as a religion. The 8 commandments above are not to be questioned. Whoever questions them is not worthy of debate. Consequently, Krugman has turned down requests to debate people like Peter Schiff or Bob Murphy. Interestingly, he agreed to debate Ron Paul on TV. The link is here.

I have to say that Ron Paul did not do as well as I had hoped he would. He did not sufficiently attack Krugman in my view, for the failure and ultimately disastrous consequences of his policy prescriptions. Krugman is the one who should be made to explain his policy recommendations. After all, t’s policies like the ones he is recommending got us into this mess in the first place Krugman needs to explain why his policy ideas have been implemented for years to no effect.

Yet, Krugman succeeded in putting Paul on the defensive, something in which he was greatly helped by the following: While Krugman may be the most outstanding, unashamed and fundamentalist of the celebrity Keynesians, the attitudes of the general public, the other journalists and thus most of the TV viewers are predominantly shaped by Keynesianism as well, and this means that Krugman, more than Paul or any ‘Austrian’ debater, can rely on some sense of intellectual sympathy.

Maybe the viewers don’t quite share the unquestioning, almost vulgar dedication to the Faith, that Krugman epitomizes. Maybe they feel queasy about printing trillions of paper dollars and running trillion-dollar deficits. Of course, a true believer like Krugman will never allow himself such feelings. But in general, the public, too, believes that the free market (and greedy bankers) caused the financial crisis; that we need low interest rates and other government measures to stimulate the economy; and that inflation is really not our main concern. Krugman, I think, cleverly used these attitudes to present himself as the safe and rational choice, and Paul as the weirdo who wants to pour out the state-policy baby with the crisis bath water.

Ron Paul started strongly by pointing out that Krugman’s policy is based on the idea that a bureaucratic elite can set interest rates and decide how much money should be created, and that this involves an arrogant and dangerous pretence of knowledge. Very good point.

Immediately, the apostle Krugman raised his head. “You cannot get the state out of money.” “The Fed has to set interest rates.” “You cannot go back 150 years.”

I think this is where Ron Paul should have dug in and put Krugman on the defensive:

“Why not? There was no Fed before 1913. That the Fed made things more stable is your assumption. But is it true? People like you and Bernanke tell us that the gold standard was to blame for the Depression. In the run-up to the Depression we had a gold standard but we also had a Fed. How can you say that the gold standard was to blame and the Fed was ultimately the solution?

“Dr. Krugman just said, ‘history told us’. That is nonsense. History doesn’t tell us anything. You need theory to interpret history, and your theory is wrong. You assign blame for the depression according to your Keynesian theory. If that theory is wrong – and I think it is completely wrong – your interpretation of history is hopelessly wrong.

“Dr. Krugman, we do no longer live in the 1930s. Why is it that you are harking back to those days? Are we still solving the Great Depression?

“Fact is that the monetary and economic institutions of America were shaped by people with your beliefs, Dr. Krugman. We have your system today. We have conducted and are conducting your policies. And, Dr. Krugman, do you really want to tell the American public that these policies and these institutions, such as the Fed, are working?

“We have no gold standard. Since 1971, the Fed is entirely free to print as much money as it likes. That is your system, isn’t it? That is what you recommend. – You say the Fed needs to keep interest rates low and print money to stimulate growth. That is what the Fed did in 1998 after LTCM and the Russia default, just as you recommended. That is what the Fed did again after the NASDAQ bubble burst and after 9/11 – surely, that was not an Austrian policy but a Keynesian one. It was straight out of your rule book, Dr. Krugman. You say the uninhibited market is to blame for the financial crisis. I say your policy is to blame. The mortgage bubble was blown by the ‘stimulus’ policy of the Fed – low interest rates and plenty new bank reserves – between 2001 and 2005. That was your recommendation, right? And those of your Keynesian buddies, such as Paul McCulley at Pimco.

“Since 2007, the Fed is conducting your policy. So is the US government. You demanded monetary stimulus and you got it. The Fed created $2 trillion dollars out of thin air. Interest rates have been zero for years. The US government is conducting stimulus policy to the tune of $1trillion-plus every year. Are you telling me, these are not Keynesian policies? What is it, Austrian policy?!

“What you are recommending has in fact been the guiding principle of global economic policy for years. What you are recommending is a systematic distortion of the market place. It is persistent price distortion. That is why we had an unsustainable housing boom. That is why we had a mortgage boom. That is why we had a financial industry boom. And whenever these artificial booms – that you create with your policy – falter, the American public has to pay the price. And what do you suggest then? More of the same. More cheap credit. More government debt. In the hope that you can generate another artificial boom for which a later generation will again have to pay the price.

“Dr. Krugman, you just answered the question of this journalist about how much more debt we should accumulate, by saying maybe another 30 percent but that nobody can say for sure. I agree that nobody can say how much debt the system can still take. But tell us, why do you think that the next 30 percent of state debt will magically stimulate the economy and that these 30 percent will thus achieve what the previous 30 percent obviously failed to do.

“Dr. Krugman, you have me worried here. And I think our viewers too. The only response you have to the abject failure of your policies is that we should do more of them. Whatever Keynesian stimulus is being implemented and whatever money the Fed prints, all you ever say is that it is not enough. We need more. Has it ever occurred to you that maybe the problem is the policy itself? Maybe your medicine is making things worse and not better.

“And something else worries me, Dr. Krugman. When do we ever stop printing money and borrowing? I think that you are stuck in a failed paradigm, a failed economic theory and a failed policy program. This has happened to scientists and politicians before. You cannot admit that failure. When you are confronted with the failure of modern central banking, of Keynesian stimulus and of moderate inflationism, your only answer is that nothing is wrong with any of it, it is just not implemented forcefully enough. Dr. Krugman, you remind me of a doctor, who misdiagnosed the disease and prescribed the wrong medicine and who is now unwilling to look at the situation objectively. All you want to do is increase the dosage.

“If the viewers really want to understand what is going on, they should not buy Krugman’s new book but go to the website of the Mises Institute and look for some excellent Austrian School literature, in particular anything written by Ludwig von Mises himself. But if you don’t have time to do this, an excellent start is a book by Detlev Schlichter, with the title Paper Money Collapse.”

Well, I guess this is how it could have unfolded.

Regards,

Detlev Schlichter

How To Debate Paul Krugman was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

That’s right. Bernanke is taking his easy money message to the streets.

According to Bloomberg:

“Now that the weather is nice, I’m half-expecting Ben Bernanke to set up a lectern outside Federal Reserve headquarters on Constitution Avenue so he can enlighten passersby about the need for easy money. He’s been delivering the message lately to anyone who will listen–including a couple dozen lucky students at the nearby George Washington University School of Business. The Fed chairman is worried that the economic recovery could stall out if the Fed yanks monetary stimulus too soon.”

Source

Dan Denning continues:

“He is returning to his roots as a professor. But professors must profess. So what is Dr Bernanke? Obviously he’s repeating the claptrap that to simulate growth you need to lower interest rates. But according to the rather nauseating article (which isn’t much more than an appeal to authority) Bernanke is going after Herbert Hoover’s Treasury Secretary Andrew Mellon.

“Mellon was asked by Herbert Hoover how to deal with the Great Depression. According to Hoover’s memoirs, Mellon replied:

‘Liquidate labour, liquidate stocks, liquidate the farmers, liquidate real estate. It will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people.’

“Now there is some doubt as to whether Mellon actually said this. The only source is Hoover, who was trying to make himself look compassionate and enlightened by comparison. But if Mellon didn’t say it, he should have. This is a common sense view, which is probably why so many people oppose it. Time does not make bad investments go good. The recession/correction/liquidation is the cure for the disease of inflation.

“Mellon, if he actually said those words, certainly didn’t mean liquidation in the sense that say, Stalin, would have meant it. He wasn’t suggesting Hoover go out and shoot the farmers the same way Stalin liquidated the Kulaks who opposed his collectivist agrarian policies. But Bernanke reportedly called Mellon’s prescription, ‘pretty heartless’.

Isn’t that big of him?

“The ‘liquidation’ of bad investments is another way of saying that there comes a time when you must give up on the belief that an investment will come good. The sooner you do this, the better it will be for everyone. Resources like capital and labour will no longer be tied up in unproductive investments. But more importantly, human lives will no longer be engaged in activity that doesn’t make anyone more productive, wealthier, or happier.

“Bernanke is the heartless one in all of this, even if he thinks his heart is in the right place. He represents an idea that has destroyed the life savings and purchasing power of millions of people. The control of money by central banks has sucked even more people into investment and borrowing decisions that will take them years to recover from, if they ever do.

“It’s not only heartless to believe in fiat money. It’s brainless. Maybe that’s why the centralisation of the money supply by people who have infinite confidence in the technology of the printing press receives so much popular support. People who support it aren’t really thinking. They’re believing…and following orders. ‘Nothing to see here… move along.’”

We think it’s fair to say that Ben Bernanke is willing to destroy the economy and your standard of living.

We don’t know if he’s part of a deliberate coordinated effort to transfer your wealth to the political and banking elite…if he does what he does knowing full well the destruction he’s causing.

Or maybe he just has a head full of bad ideas. Like a medieval “scientist” whose considerable knowledge all rests on the faulty premise of geocentricity.

No matter what Bernanke says, no matter how much the masses put their faith in his words, low interest rates and unbacked money creation cannot cause economic growth. Not the sustainable kind anyway.

All this interest rate manipulation causes are distortions. It may seem to create wealth and the appearance of economic vitality. But that activity is just misallocation of resources. And the misallocations will correct themselves soon enough. These corrections are attended by the disappearance of jobs in industries that should never have flourished (remember, these were misallocations).

Low interest rates distort economic signals. They tell producers that money is plentiful. Interest rates are the cost of borrowing money and when they are naturally low, it means that there is plenty of money looking for borrowers. The market is making borrowed money more available to both consumers and producers. This saved capital can be put to work to generate economic activity. Consumers will borrow to buy. Producers will borrow to expand start or expand production.

Artificially low interest rates, however, send a false signal to those consumers and producers. They get the economic juices flowing when capital is actually scarce.

Sure the economy may appear to grow. But they mask the reality, like when beer improves the appearance of the homely women at the bar. There are really no nutrients to support this growth. There is no saved capital. Low interest rates give the illusion of plenty of savings looking for investment. But it is just an illusion.

Also in an artificially easy money environment there are few corrective signals. This leads to malinvestment and to financial bubble. More nail salons and transgender studies degrees than there would have been without the easy money. Houses and company stocks may find they fetch a higher price than they otherwise would have, too.

And there we have it. The conceit of the Keynesians. They believe that good, honest growth can come by inducing borrowing with easy, greasy new money. Austrian school types insist that there must be savings first from which to borrow. Any boom based on low interest rates must necessarily result in a bust when the reality — There was no accumulated capital upon which to draw! — asserts itself.

But how do you go about monkeying with interest rates? Ah, that’s where having a monopoly on the money supply comes in really handy! You just create a boatload of new money and shovel it into the bond market.

And here the plot thickens. You see, a lot of this newly created money can buy up government bonds. That is to say, the central bank can lend the new money to the government through their preferred brokers.

Two birds, one stone. Interest rates are lowered (inducing “growth”) and the government has more borrowed money to play with. It’s a central planning jackpot.

Not enough tax money to cover the costs of all those wars and wealth transfers? No problem! Deficits don’t matter when the central bank is willing to keep lending you money…and keep the cost of borrowing (interest rates) down to boot!

Of course, these sorts of shenanigans can’t go on forever. It just seems like they can while your in their midst. But the reckoning must come. Anyone who is not prepared will be wiped out.

Interest rate manipulation and the creation of unbacked new money…it’s all part of a great con. We’re all told it spurs economic growth. But what it really does is destroy the things upon which growing economies rely: accumulated capital in the form of savings, and clear economic signals in the form of prices, both for goods and for the use of money itself.

We suspect that there are people who benefit from this degenerate non-market, central banking system and who know that they benefit from it at the expense of billions of their fellow humans. We’re not sure Ben Bernanke, however, is in the know.

Perhaps Greenspan was. But we think Bernanke really believes his lines. He is as fervent in his belief in artificial control of interest rates and fiat money as any free marketer is about his gold and silver. Ben Bernanke is a “fiat bug”.

Our advice is to stay as far away from Bernanke and the supply of paper he controls as you possibly can. That means physical gold and silver.

But “paper” gold and silver, along with other “paper” commodities may greatly benefit from Bernanke’s tender ministrations. At least for a little while before the whole house of cards comes down.

As the dollar goes down gold, silver and oil will obviously go “up”. But the stocks in the companies that look for and mine these things may benefit even more from a falling dollar.

In fact, the price of mining and oil companies and may be the only place Bernanke may be able to reach his stated goal of fighting deflation.

Bernanke considers your standard of living expendable. He’s willing to wreck the economy by sticking to his easy money claptrap.

Your employer or your customers will hand you Federal Reserve Notes for your labors. They have to by law. But you don’t have to keep those notes.

Protect your purchasing power and standard of living. Trade those notes for real money. Bernanke may only think something is “money” when its supply is under central bank control. But you know better.

After you get your gold and silver, however, be sure to get ready to profit even more from Ben’s efforts to fight price deflation. Get the right mix of gold and silver miners and energy companies.

Regards,

Gary Gibson

Ben Bernanke Considers Your Happiness and Security Expendable was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

Does the Fed’s latest colorfully named plan amount to anything more than money printing and legerdemain? Will it not punish savers and interfere with oh so vital capital accumulation?

Jeffrey Tucker is on hand to take a look in today’s feature article.

And then we get real in today’s Parting Shot with a look at real estate in the world the Fed has wrought. There’s actually a way to play it to your great benefit.

Keep reading below…

The Fed’s Newest Trick

The money masters at the Federal Reserve have done a splendid job, haven’t they? Well, no, and all the more reason to End the Fed, in the legendary slogan of Ron Paul.

Every few months since the great meltdown of 2008, there’s been some announcement that appears in the financial press about the latest fancy-pants move that the Fed will undertake to save the day.

These guys aren’t just printing money! They are engaged in amazingly technical maneuvers that mere mortals can’t fathom. The catchphrases are multiplying: quantitative easing, Operation Twist, sterilized QE, ZIRP (zero interest rate policy) and now reverse repo.

Stay tuned for other amazing tricks. They could pull out the camel clutch, the bite of the dragon, the hammerlock, the bridging chickenwing, the gorilla press, the octopus hold, the sunset flip, the inverted figure-four three-quarter leglock and finally, if they really get desperate, the Tree of Woe.

These names are all, of course, drawn from the world of professional wrestling. Sadly, the world of central banking is not nearly as entertaining, mainly because instead of just hurting each other, the bankers are hurting the rest of us.

You know this when you look at your bank statements and see that all your efforts to save money are for naught: Your money is losing more value through higher prices than it earns in cash.

The Fed is sending the message: If you save, you are fool. What message is it sending to investors? It is telling them to put their money in something, anything, besides short- and long-term bonds. In this way, it hopes to stimulate some kind of artificial boost of stocks and any form of financial arbitrage besides buying and holding debt. (See the Cleveland Fed for a wicked picture of what has happened.)

This is outright market manipulation of the sort that the government criminalizes if done by the private sector. For example, the Justice Department has said it is looking into charges that book publishers are manipulating the price of e-books and also said that it might force a settlement that could wreck this wonderful emerging market. Thanks a lot!

But how does pushing up the download fee of e-books by a buck or two compare with completely wrecking the price-signaling mechanism of interest rates, the very thing that every human soul relies to estimate the profitability of long- and short-term economic planning? As a result, no one knows for sure what is real and what is not.

This is not only perfectly legal, but it has also become the job description of the Federal Reserve itself. It is nothing more than an elaborate and insanely contorted central plan designed to manipulate prices. But because the Fed has the legal monopoly and claims to be doing this in the public interest (thanks for wrecking my reward for saving!), they get away with it.

Worse, they demand our respect and deference to their brilliance. But do they deserve it? The Fed set out in 2008 to rescue the credit markets, boost the housing industry, save the employment sector from stagnation and boost the economy.

It has failed on all four fronts. Bank lending for industrial and commercial purposes is still at 2007 levels. Housing price pressure is still pushing downward, there’s no end in sight to the foreclosure fiasco and Fed is the proud owner of as much as a trillion dollars in mortgage-backed securities. The unemployment picture is grim: Jobless claims are up, and labor force participation is at 1980 levels!

As for economic growth, it is so sparing that the whole financial press celebrates over the slightest good news like prisoners of war cheering the arrival of scraps of bread. Meanwhile, China, India, Argentina, Indonesia, Vietnam, Mongolia and even Botswana are managing growth rates between 6 and 10%. And this in times when economic growth ought to be as easy as breathing, giving the digital revolution that has blessed us with astonishing productivity gains.

The Fed couldn’t possibly have screwed up more than it has. It’s zero interest rate policy (ZIRP) has been a complete failure by any standard but one: It has kept the borrowing costs to the federal government at the lowest possible levels. Even then, the fiscal budget crisis is never ending. Should interest rates come back up to something approaching a human and realistic level, the budget will blow, which the Fed surely knows and which further gives some indication that the Fed knows who and what butters its bread.

But let’s say a quick word on this new trick called reverse repo. The Fed prints money to buy long-term bonds. But then the Fed “locks” the use of the new money by borrowing it back again for short periods at lower rates. It can conduct this operation with institutions other than banks, such as money-market funds. As James Grant has said, borrowing short and lending long is a great way to go broke.

There’s a line from the Hayek-Keynes video made by John Papola and Russ Roberts put into the rap by F.A. Hayek: “You’ve got to save to invest, don’t use the printing press.” That sums it up. There is no sound investment that is not preceded by savings. To save, you have to forgo consumption. Once saved, the money can be loaned out for future-oriented projects and pay higher returns than one could experience without the initial steps of saving. That’s how capitalism grows the economy: an evermore complex expansion of the division of labor sitting on a rising stock of capital.

The Fed’s claim to be spurring economic growth rests on a doctrine that gets this whole process backward. We are supposed to consume more and save less. If that works, the ticket to good bodily health is to be a beer-guzzling couch potato and avoid the gym like plague. Or maybe the plague is exactly what all these fancy Fed moves are actually bringing us.

Regards,

Jeffrey Tucker

A Parting Shot:

Yeah, thanks a lot, Federal Reserve.

Thanks for destroying savings. And thanks a lot for propping up the inflated housing market.

But wait! As Jeffrey points out, the Fed has actually failed in that mission. Housing prices are still moving down. But that’s a good thing.

You know, it really is strange to us that people would want housing prices to go up. The house you buy to live in, after all, is no more an investment than a car you buy to drive.

Sure, if you rent out either the house or the car at a profit, then it’s an investment. But if you are using either, then you are consuming it and it is consumer good, not an investment.

A house is something you use, like any appliance or your own vehicle. It is a very durable good, one meant for long-term consumption. Do you expect your blender or your Ford to go up in price over time? So why would you expect your house to do so?

Sure your house provides you with a very essential function: shelter. But the food you buy provides you with a more immediate function: nutrition. So why is it that of all the goods we consume, we expect houses to behave differently when it comes to price? Does a house’s combination of utility, necessity and durability give it some magical property that makes prices rise?

This is the Whiskey Bar so don’t be surprised when we point the finger at government. The government’s spent a century convincing (conniving?) us that “certain” markets need they’re intervention, particularly education, medical care and housing.

You’ll notice that these are the markets where prices keep spiraling up. In some cases (education), quality simultaneously moves down.

Markets with their competitive forces tend to drive quality up while relentlessly driving down prices. Housing should be — and would be — subject to this as well. Left to market forces, the quality of houses of would march upward over time while their affordability increased.

But the government has spent a century crafting a housing mythology that poo-poos outright renting and encourages increasingly longer term renting-to-own from the bank. We notice that this mythology has been augmented over the generations as real estate came to be seen as one of the ways to fight the savings-destroying inflation in which the central bank almost constantly engages.

We fully believe that in a free market we would get to the point where a decent house would cost less than a year’s salary of the median income. The market would provide the affordable housing that people claim there’s not enough of…even as they salivate over the idea of Fed-manipulated interest rates boosting the price of their own homes.

Who wouldn’t want a world in which a modest 3-bedroom house could be paid off in three or five years…or paid in full in cash after a year or two of saving up while living with parents?

Apparently the Fed doesn’t want that. They tell us to be afraid of that kind of deflation. It may be fine for the constantly booming technology sector, but falling house prices would somehow be the deadly. So the house has become the means by which an unsustainable debt-driven consumption economy flourished.

You see, a free market unweighted by the politically backed monopoly of the Federal Reserve would have competing currencies, gold and silver as money. Competition and precious metals would act as a lid on inflation. Savings in these things would tend to gain value over time as the economy grew while this money supply grew less.

Does a bunch of currencies sound unworkable? It really shouldn’t. The currencies that performed best — those which best did the job of storing and increasing in value — would thrive. Multiple currencies in a region would be no more problematic than multiple currencies across the globe. The alternative is the monopolistic Federal Reserve system we have now. You know. The one that has destroyed over 95% of the dollar’s value in a century.

The Fed would have us believe that the much surer growth to prosperity is for them to have a legal monopoly on the issuance of new money. This may destroy savings, they admit, but it encourages investment in the bubbles the Fed’s policies are constantly germinating.

Fed to savers: “Quit whining about the destruction of your savings and your interest income. Hop on our inflation-fueled asset bubble ride!”

All good bubbles must come to an end, however. Houses are getting cheaper in terms of dollars. And since the Fed has been on a money-creating tear these past few years, houses are getting even cheaper in terms of real, Fed-proof money, like gold and silver.

Another way to play this is to keep an eye on the price of houses in terms of precious metals. Particularly in terms of silver. Houses are one real good that have a lot of downside left because their prices had been flying way too high thanks again to central bank monetary policy (You didn’t think really think it was just because of the wicked commercial banks, did you?).

Houses are below their median price in terms of gold. Even though they’re currently moving lower in terms of dollars as the house-in-terms-of-dollars bubbles deflates, this could easily reverse if the Fed’s easy money policies ignite a hyperinflationary storm. Of course, then the price of everything in terms would explode in terms of dollars.

We’re of the conviction that gold and silver would benefit from this more than any other commodity. Silver in particular would see greatly increased demand for use as a medium of exchange and for the storage of value (which is a basic a function of money as machine lubrication and energy are for oil).

So if you could find some decent, unusually expensive real estate right now (say, in an out of the way town in a state with no income tax and a burgeoning liberty movement where the mills have closed and houses are unusually cheap…like Berlin (rhymes with “Merlin”), New Hampshire, for example…), then you could get an affordable mortgage and keep accumulating silver.

Source

Silver prices are likely to go up no matter what. Even faster than housing prices in case the over-printed dollar tumbles against everything. Then you could pay back your fixed mortgage debt by selling your rapidly appreciating silver for rapidly depreciating dollars.

Of course, the conditions under which this plan would work mean that it’s prudent to hedge your mortgage with silver on a property well removed from big cities and welfare-dependent populations. If you plan to ride out the political and economic storms brewing here in the U.S., this is one way to do it.

Regards,

Gary Gibson

The Fed’s Newest Trick was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

The last time there was talk about this issue was more than 30 years ago, after the devastating inflation of the late 1970s robbed an entire generation of their savings, upended American family life and launched a debt addiction that has destabilized economies all over the world. The Nixon administration promised a rose garden after the paper dollar; the results were very different.

The crisis in our times is not (yet) hyperinflation, but it is just as serious. The problems of the Fed-managed paper dollar system are too many to name, but they can be reduced to three that hit the average person most seriously.

First, it is no longer possible to earn a conventional return on saving money. That reality pretty much undermines the whole practice and ethics that built prosperity as we know it. The reason is directly related to the quality of money: Lacking any independent substance at all, its value and yield is managed by a small group of technocrats in a marble palace. They have used that power to impose the ultimate price control on the relationship between time and money.

Second, the problem of unemployment and the ever-shrinking labor participation rate has hit the young generation in a way that we’ve never seen before. This has terrible economic effects but just as devastating cultural ones. It attacks the core hope that people have for the future. Again, the paper dollar, as the generating force behind the bust and boom, is a cause.

Third, there is a growing movement against the power, secrecy and insider racketeering by the Federal Reserve, which prints and throws around inconceivable volumes of loot to its friends and clients in total disregard for the political process or the fate of the American middle class. This angers people of all political persuasions. The opening up of the records and dealings of the Fed has not calmed people down, but rather has confirmed the worst possible fears.

In the 1970s, writers like Henry Hazlitt struggled mightily to get people to see the connection between monetary policy and the falling value of the dollar. While the Ford and Carter administrations lashed out at business and speculators, Hazlitt and others pointed to the real cause. His message stuck. By 1980, even the Republican platform included a call for a sound dollar. Congress formed a gold commission.

The connection between the Fed’s paper money and our economic plight is even more difficult to make this time around. But the intellectual foundations have been in place for years, and they have been given voice in the relentless hammering away at this issue by Ron Paul in interview after interview. He never misses a chance to talk about this previously unspeakable subject.

A tricky issue for the movement now is dealing with the diverse political coalition coming together against the current monetary system. The biggest critics of the Fed, for example, agree that the current system is a mess but don’t seem to agree about what to do about it.

This week in D.C., I debated Dean Baker of the Center for Economic and Policy Research. The setting was fantastic: a speak-easy environment sponsored by the beautifully named Empire Unplugged. Baker is a strong critic of the Fed for reasons both good and bad. On the good side, he is as appalled as Ron Paul at the insider racketeering of the central bank. On the bad side, he would like to see its powers transferred to a body with more political oversight and democratic influence.

This is the exact opposite of what I argued for: the complete depoliticization of the entire system. We went back and forth for an hour on these topics, agreeing on the great evil, but disagreeing on what should replace it. As is typical of progressive critics of the Fed, he raised fears that market control of money and banking would revive the wildcat banking of the 19th century. This camp conveniently forgets that the age of the gold standard (which was never perfectly adhered to) also happened to produce history’s largest and most-positive economic transformation, propelling the creation and entrenchment of what is called the middle class.

Do these debates matter that much? On the level of theory, yes. In practice, not so much. These mirror the kinds of debates in the middle stages of the collapse of socialism in Eastern Europe. Recall that the movement against Polish central planning began not as a movement for private ownership of capital, but rather as a labor union protest against power and privilege of state-connected oligarchs.

This tendency made the champions of free markets squeamish, for good reason. Replacing a state monopoly with a state-protected labor monopoly does not necessarily look like improvement. But that’s not what ended up happening in Poland. Solidarity was the major vehicle that wrecked the regime as it stood. At one point, the major labor organization Solidarity had 9.5 million members. That mass movement upended history. Today, Solidarity is a normal union like any other, with membership at half a million and declining and no serious power. The result was not a labor monopoly, but a beautifully prosperous market society.

The lesson here: Sometimes you have to topple the system that exists and see what happens. This is why Ron Paul has been tolerant of a wide divergence of views within the anti-Fed movement. He is right to be so. Writers at The Wall Street Journal and elsewhere wring their hands about the dangers of political control of money in the post-Fed age. But history shows that the reform is not so easily managed. Breaking up the current monopoly is the most-important priority right now.

If the Fed were an Eastern European socialist government, the year would be about 1987. If the economy takes another dive after the fake boomlet that Bernanke’s printing presses have manufactured, he should make sure that the helicopter on the roof is in good working order.

Regards,

Jeffrey Tucker

The Great Monetary Debate was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

In today’s world, burying that money might have been the better idea. Otherwise, the servant would have paid fees for depositing, withdrawing and transferring and would have earned no interest at all, and the money would have depreciated in value the whole while. It’s enough to cause you to weep and gnash your teeth.

That parable has had a long life because earning interest on deposits is a universal feature of the human experience in any finance economy. Until now. The Fed has announced that it will work to keep interest rates at zero for the next several years, all with the supposed goal of refurbishing the economy. Or so Bernanke tells us at great length.

But here’s the problem: This very strategy of driving interest rates to zero has been a feature of the period in which the Fed has managed the post-meltdown world. The result has been what The Wall Street Journal accurately described as a five years of missing economic progress: The economy today is barely larger than it was at the end of 2007, despite a rising population and a gigantic explosion in technology. Household income is still sinking, and an entire generation has readjusted its expectations for the future.

What has the Fed done? It has moved to create and guarantee some $13 trillion in phony assets to prettify the balance sheets of financial institutions that would have otherwise gone belly up. Those fake assets have served as substitutes for real reserves to create the illusion of balanced books. It has made its own discount rate vanish as a way of opening up its own reserves to the banking system to keep it floating. Finally, it has made it clear that it stands ready to be the lender of last resort for just about everything, removing the risk premium that would normally be attached to longer-term loans.

Altogether, this strategy has nearly abolished the banking system’s capacity to function, in effect turning banks into public utilities to serve themselves and governments, instead of depositors and lenders. Private industry seeks funding outside the official banking system, investors are scrambling for some other option and banks themselves have turned to other pursuits, like interest rate arbitraging and lending to other financial institutions, hedge funds, insurance companies and real estate.

During the 1930s, New Deal policies tried to revive agriculture and economic activity generally by telling farmers to plough under their crops and kill their livestock. Today, Fed policies are trying to revive real estate, banking and economic activity generally by undermining the capacity of the loan markets to function with any degree of normalcy.

Michael Hudson insightfully explains the problem:

“People used to know what banks did. Bankers took deposits and lent them out, paying short-term depositors less than they charged for risky or less-liquid loans. The risk was borne by bankers, not depositors or the government…Banking has moved so far away from funding industrial growth and economic development that it now benefits primarily at the economy’s expense in a predatory and extractive way, not by making productive loans.”

Even if Bernanke were telling the truth that this is all about inspiring recovery, there is no hope that it can work. The real estate markets are still an amazing mess, with one-quarter of the existing mortgages contracts marked above their market value. It fights against gravity to keep trying to lift up what wants to go down the instant that artificial stimulus recedes. And it should be obvious by now that ever lower rates don’t stimulate lending in this environment, but rather the reverse.

As the Austrian tradition has long explained, the basis of future prosperity is capital accumulation and deferred consumption in the form of real savings. These policies punish both. Worse: They make conventional savings nearly impossible. These policies encourage ever more consumption and debt accumulation and do nothing to address the core problem that brought about the artificial boom and the resulting bust.

But is Bernanke really telling the truth? No. In the balance between restoring growth and saving the banking system from the consequences of its own irresponsible policies, the Fed has chosen the latter. This is the unavoidable conclusion.

Otherwise, we would have to believe that the Fed is utterly blind to the recently proven results of its own policies. It is not managing the Fed in the public interest, but in the interests of the banks and the governments that are in hock to them. That you can’t earn a reward from saving money anymore is a microeconomic indication of a much-larger problem.

Consider the opportunity costs of these policies. We are living in a time of unprecedented innovation, thanks to digital media, the Internet and daily improvements in the production, management and distribution of information. Vast swaths of the commodifiable world have left the realm of scarcity to enter the sector in which infinite reproducibility is not only possible, but a regular feature of daily life.

With a healthy economic foundation, society should be getting get wealthier and wealthier at a pace that exceeds even that of the Gilded Age, when 10% and 15% growth was common and the human population began to thrive as never before. The digital age has given us economizing technologies that make all that have come before look like mere warm-ups. Instead, we are being denied those benefits and that growth, thanks to catastrophic policies of governments backed by central banks and dependent financial institutions.

What is the scenario under which normalcy returns? From Bernanke’s point of view, there is no end to this. It means ongoing stagnation for no good reason. For this reason, there has never been a more urgent time to abolish the Fed, institute a free market system and let a new monetary system emerge on a sound foundation. At the same time, the Fed has never faced more reason to keep alive the system that is killing future prosperity.

If the Parable of the Talents could be retold today, it would need a different ending, with a different gang of thieves thrown into the darkness to face weeping and gnashing of teeth.

Regards,

Jeffrey Tucker

The Transformation of Banking was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

They all ask some version of the same question, in any case. It’s the cocktail-hour question asked of every economist: What does the future hold and what should be done about it? The problem is that Bernanke doesn’t know more about the future than the markets know. Actually, looking at the transcripts of the 2006 FOMC meetings, the Fed knows much less than the markets know.

But at least we now know what Bernanke thinks he knows. A short summary of the flurry of news from the Fed yesterday: The economy is still in the tank, it will stay that way for years, interest rates will be held at zero and savers can go to hell.

That last part we can glean from the most-interesting question posed to Bernanke yesterday. Greg Robb of MarketWatch pointed out to him that he has some severe Republican critics. The Fed has been a major issue in the debates and on the campaign trail. Mr. Robb had a theory about why: Many Republican voters lived on fixed incomes that depend on some return on their money. For this crowd, zero interest rates are a disaster. Robbery, really.

Bernanke’s first response was to say that he was not going to involve himself in politics because he “has a job to do.” It is a credit to the press corp that they did not double over in laughter at the ridiculous claim that the Fed’s job has nothing whatever to do with politics! After 100 years of Fed service, it is pretty obvious that the Fed serves two clients: the big banks and the government. The Fed certainly doesn’t serve the class of people who save and invest.

So how did Bernanke deal with the second part of the question? This was interesting. He said that he was very sorry for savers and those who depend on interest income, but they need to understand that they too have a long-term interest in a healthy economy. If investment and productivity are rising, they create the conditions for growth down the line, and surely this is good for everyone.

That’s some crazy kind of circuitous reasoning going on there. It’s a bit like the thief who steals the silverware and then explains to the former owners that a wider distribution of beautiful tableware is surely good for everyone in the long run. Even if you buy the argument, it would be nicer if the owner had some choice in the matter.

And there’s another problem that is so incredibly obvious that no one at the press conference even dared point it out. The problem is that the zero-interest-rate policy has not worked to boost economic growth. What possible basis is there for thinking that two more years of this extermination of the saving class is going to do what the last three years have not done?

Of course, it depends on what you mean by “worked.”

Let’s say that the Fed wants to drive all investors away from government bonds and into riskier instruments in an attempt to artificially boost financial markets. Check.

Let’s say that the Fed wants to punish anyone who wants to sock away money for a rainy day and, instead, prod them into buying more plasma TVs, digital gizmos and summer homes. Check.

And let’s say that the Fed wants to artificially suppress the government’s own costs of borrowing in order to reduce pressure on the political class. Check.

In all these ways, abolishing interest rates works for the Fed and the political elites. But there are at least three downsides.

First, banks depend on interest payments for profitability, and low interest removes the financial incentive for banks to lend money in a normal way. This is why commercial bank loans remain low, with the latest data showing the volume at mid-2007 levels. One might suppose that this is contrary to the Fed’s aims, but it is a price that it is willing to pay.

Second, a low interest rate agenda requires that the Fed try to control not just the short-term rates over which it has the most influence, but also rates across the entire yield curve. This means removing risk premiums on longer-term loans by implicitly guaranteeing bailouts, just like those of 2008-10. This entrenches more moral hazard and drives a wedge between risk and result.

Third, this policy of low rates is similar to — but even worse than — the very policies that created the bubble of the 2000s that burst in 2008 and prompted the worst financial and economic calamity of many generations. The Fed has learned absolutely nothing from even its own most-recent history. If people can’t earn money through interest, financiers will find some other way to market risk, leading to crazy investments schemes and misallocated capital.

As David Malpass writes in The Wall Street Journal:

Near-zero interest rates penalize savers and channel artificially cheap capital to government, big corporations and foreign countries. One of the most fundamental principles of economics is that holding prices artificially low causes shortages. When something of value is free, it runs out fast and only the well-connected get any. Interest rates are the price for credit and shouldn’t be controlled at zero. It causes cheap credit for those with special access but shortages for those without — primarily new and small businesses and those seeking private-sector mortgages.

The big take-away from the Fed’s day in the news is its new policy benchmark of keeping inflation at 2%. This is sheer silliness. There is no such thing as a price level, as even recent CPI releases illustrate. Some prices went up (food, education, health), and some prices went down (oil, software, services). Mash them together and you get a single number that applies to absolutely nothing in particular.

In any case, the Fed can’t control prices in this way. It is always driving while looking in the rearview mirror. When the crash comes, there is nothing the Fed can do about it, despite Bernanke’s repeated promises to rescue the world from any bad effects of his policies.

As Bloomberg’s Caroline Baum says, it’s almost as if the Fed itself has completely forgotten the existence of the “long and variable lag” that separates its policies from their effects. She recalls Milton Friedman’s own analogy of the “fool in the shower” who keeps turning the water from all hot to all cold and wonders why he is either scalded or frozen.

Baum concludes that under Bernanke’s own plan, we would have “eight years of 0% interest rates. There will be a revolution in this country before then if the economy is lousy enough to warrant 0% interest rates for that long.”

Really? One would hope.

Regards,

Jeffrey Tucker

Zero Percent Uber Alles was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

It’s sounds new, but it is not. Following the Second World War, John Maynard Keynes pushed hard for a global paper currency administered by a global central bank. This was his proposed solution to the problem of national currency disputes. Let’s just take the inflation power away from the national state and give it to a world authority. Then we’ll never have to deal with a lack of coordination again.

The idea didn’t fly, but the institutions that were supposed to administer such a system were nonetheless created: the International Monetary Fund and the so-called World Bank. It didn’t work out that way. Instead, nation-states retained their monetary authority, and the new institutions became glorified welfare providers, conduits for transfer payments and loads to developing nations.

The dream lived on, however. The creation of the euro and its central bank was a step in that direction. So was the Nixon’s closing of the gold window. Each new currency crisis has created the excuse for further steps toward what Murray Rothbard calls the Keynesian dream.

Why hasn’t it happened yet? Many reasons. Nation-states do not want to give up power. The World Bank and the IMF are institutionally unsuited to the task. Many people in the banking world are also downright squeamish about the idea, with full knowledge of the ravages that unchecked inflationary credit can bring to the world economy. Mostly, there hasn’t been a crisis big enough to warrant such extreme measures.

However, that crisis might have finally arrived. Since 2008, the Fed has demonstrated that among all the world’s central banks, it alone is brave enough to embrace gigantic inflationary measures without wincing. The European Central Bank is under some strictures to not act as a monetary central planner. China is unconverted to the inflationary faith. The same holds true for England.

Ben Bernanke, however, is different: He is revealing himself to be an unreconstructed Keynesian with an unlimited faith in the power of paper money to solve all the world’s problems.

What this means is that it is left to the Fed alone to bail out the world. There is a perverse logic to this. After all, if you are going to be a world empire, operating under the assumption that nothing on the planet is outside your political purview, you bear certain responsibilities as well. Foreign aid and troops in every country are just the beginning. You must, eventually, embrace your financial responsibilities, too. A globalized economy addicted to debt needs an institution willing to step up and guarantee that debt, and provide the liquidity necessary to get us through the hard times.

As soon as the announcement of the new Fed measures came, the smart set of the World Wide Web lit up with the obvious observations that these measures come with massive risk of setting off a global inflationary crisis. It could lead to the final crack-up boom.

The Fed assures us otherwise. It “bears no exchange risk” in undertaking such actions. But as economist Robert Murphy explains:

“Strictly speaking, this isn’t true. If the Fed gives $50 billion in dollars to the ECB, which (at those market prices) gives $50 billion worth of euros to the Fed, then the ECB lends out the dollars to private banks, and before they repay the loans, the euro crashes against the dollar…then the ECB has no means of acquiring dollars to repay the Fed. Even though the ECB has a printing press, it is configured for euros, not dollars.”

He further states what everyone knows but no one is will to say:

“The current round of interventions will not solve the problem. Down the road — probably much sooner, rather than later — the central banks of the world will engage in some further extraordinary measures, again, lest the whole world fall apart. Even so, printing money doesn’t fix the underlying problems. No matter what they do, eventually, the whole financial world will fall apart.”

The speed at which all of this is happening is startling to behold. It was only 36 hours ago that we heard the first public worries about the drying up of credit in Europe. Large corporations were seeing their credit lines tightened. Banks were starting to become more scrupulous in their operations, which is hardly a surprise, given that zero interest rates have made it nearly impossible to make a profit in conventional lending operations.

Where in the fall of 2008, the Fed let the worries about tight credit grow to the point of international mania before it acted, this time, it jumped in to anticipate the inevitable warnings about the imminent death of civilization. Only trillions in paper money can save us now! The Fed saw what was coming and decided to do the deed, even before the demand came.

But rather than settle markets down, the real effect is the opposite. If you go to the doctor with a head cold, and he rushes you to the hospital for surgery, you don’t merely congratulate him for being thorough. You figure that he knows something that you don’t, namely that your condition is way more serious than you thought. Your family is likely to fly into a panic.

For this psychological reason alone, this action is likely to roil markets in crazy ways. The Fed is now paper money printer for the entire world. It’s a new world, and a brave one. If you think that a new era of prosperity, peace and stability awaits, you have been living under a rock for at least a century. There’s not a soul alive who will sleep soundly knowing that Ben Bernanke has elected himself the loan officer of the entire globe.

Regards,

Jeffrey Tucker

Leaping Toward the Keynesian Dream was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

What is a bank? According to a helpful little essay on banks for students at ThinkQuest helpfully titled “What is a Bank?”, a bank is a financial organization in which people deposit their money. A bank is a business. According to the aforementioned essay, “each bank tries to make THEIR bank look better than all of the other banks by offering services that some other banks might not have.” That is to say, banks compete in a market. This is true, conceptually at least, and also true to some extent in reality, although numerous banking laws seriously alter the market and the competition. But it is the pure idea we are after here, and in the pure idea, a bank is a business that competes in a market.

I won’t analyze every “central bank” in the world. I don’t have to because their setup is more or less the same everywhere. I’ll use the Federal Reserve System (the Fed) to represent all of them.

Historically, the Fed and other “central banks” came to be called “central banks” for several reasons. First, they are financial organizations. Second, they hold deposits of other banks and governments. Third, their assets are largely financial assets. Fourth, they make advances or loans to other banks on collateral. Fifth, the government has made them to be at the heart or center of the banking industry and the monetary system. Sixth, government power is itself centralized or national. All of these statements are factual.

Now, this is an imposing array of reasons why “central banks” are called “central banks.” But the most important of these reasons is the fifth reason, which is that the government has used its power to make the “central bank” central. And because the government has used its power to create the “central bank” and make it central, we know that the “central bank” is not a free market institution.

This is the main ground upon which I challenge the notion that a “central bank” is a bank. The concept of “central bank” fails to distinguish a free market business and a bureau created by government power. The term “central bank” undermines this distinction between free market and government. Indeed, it erases it altogether.

The Fed is not a business. It has powers that no ordinary bank has. It has privileges that no ordinary banks have. It doesn’t compete with other banks. The government created the Fed. The government gave it power to create fiat money. The government can alter the Fed’s organization and powers at any time. The Fed’s so-called independence from the government is mythological. It is that of a dog on a long leash. The only independence the Fed has is from the public.

Let’s go back for a moment to the essay on banks that I just cited, because it displays this erasing of any distinction between the free market and government. After defining the term “bank,” it lists the kinds of banks. Quite suddenly, it introduces the term “central bank” in the same breath as ordinary banks that have national or state charters. It says, “There are different kinds of banks. There are national banks, state banks and central banks. The Federal Reserve Bank is the United States government’s central bank. The Bank of England is England’s central bank.”

Suddenly, what this essay told us earlier disappears. We were told that a bank was a business that competed with other banks. But now we are told that the Fed “decides how much money is in circulation” and that it “may tell the [ordinary] banks to charge more interest or keep more money in ‘reserve.’”

Obviously, if the “central bank” has such powers, it gets them from the government. Just as obviously, the “central bank” is not a business and not in competition with other banks if it exercises these and other powers over ordinary banks.

Furthermore, distinctions between monies that ordinary free market banks deal in and the fiat money that central banks produce are completely glossed over and erased.

This essay is representative of the usual thought in the field of economics. Banks are businesses. But then, all of a sudden, there is another so-called “bank” that has an array of powers that business banks do not have. This “bank” is actually a government bureau. Its fiat money is made into legal tender by the government. The government states that it stands behind this money. This “bank” has powers to control and organize the ordinary banks into a cartel.

The facts I’ve pointed out are widely recognized. There is a Wikipedia article titled “Central Bank” that confirms this:

“A central bank, reserve bank or monetary authority is a public institution that usually issues the currency, regulates the money supply and controls the interest rates in a country. Central banks often also oversee the commercial banking system of their respective countries. In contrast to a commercial bank, a central bank possesses a monopoly on printing the national currency, which usually serves as the nation’s legal tender.”

This too makes it very clear that a “central bank” is not a bank, but a powerful Monetary Authority and Fiat Money Administration.

However, the same Wikipedia article almost immediately contradicts itself when it states: “Central banks in most developed nations are independent in that they operate under rules designed to render them free from political interference.”

How can a bureau that is established by the government and possesses extraordinary powers be independent and free from political interference? The “central bank” embodies political interference!

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And to the extent that a Monetary Authority such as the Fed has been granted powers that it can exercise free of political interference, how can such an institution be held accountable? How can it operate without being responsible to the government and, indirectly, to the people?

“Central bank” independence is to a large extent a myth, that is, in the essence of the institution and in those activities in which it is not mythical, it is an unaccountable power.

It may seem as if I am splitting hairs, but what I see is that the common explanations of central banking confuse banking as might occur in free markets with so-called banking as executed by a “central bank” that is empowered by government. They are two entirely different kinds of operations. A thoughtful or questioning reader is bound to feel a degree of discomfort when he encounters these explanations that blur important distinctions.

A “central bank” is a government department. It is a government bureau. It is the government’s fiat money bureau. The “central bank” is the government’s money-printing machinery or money-printing organization or money-printing bureau or money-printing agency. As contrasted with monies produced in a free market, the Fed’s money is state-produced “money.” In the sense of comparing the Fed’s money to free-market money, it is counterfeit. It is held up by the force of government law and power. It is imposed on the public.

A more accurate term for the Fed might be the “Fiat Money Administration.” Perhaps the term “Monetary Authority” would be more accurate. It would be more accurate if the latter were the official name. In the U.S. Constitution, at least, it is clear that there is no power to create a Monetary Authority, and if there were such a power, it could not possibly be delegated in such a way as to make that Monetary Authority independent.

The “central bank” is not a real bank. Everything about it is permeated with government power. At the heart of the financial and monetary system of a nation that is supposed to be an exemplar of free markets is a government money-bureau.

Regards,

Michael S. Rozeff

Michael S. Rozeff is a retired professor of finance living in East Amherst, New York. He is the author of the free e-book Essays on American Empire: Liberty vs. Domination and the free e-book The U.S. Constitution and Money: Corruption and Decline.

Central Banks Aren’t Banks was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

It will get mass inflation at some point: anywhere from 15% per annum to 30%. But it is not going to get 50% or 100% or more.

Why not?

1. The temporary nature of the payoff

2. The fear of getting blamed

3. The boom-bust cycle

4. The employees’ vested pension fund

1. THE TEMPORARY PAYOFF

Hyperinflation lasts only a few years. People in the hard-money camp ought to know this, but they tend to forget.

Those economic forecasters who keep telling us the dollar will fall to zero forget the obvious: big banks are creditors. Bankers lose when a currency falls to zero. Never forget this. If you believe, as I do, that the Federal Reserve is the enforcement arm of the largest commercial banks, then stop worrying about hyperinflation. But don’t stop worrying about Congress.

Ever since All the President’s Men — the movie, not the book — we have been told to follow the money. So, let us follow the money.

The four big U.S. banks — maybe three, with Bank of America on the skids — make their money by lending money. As with all fractional reserve banks, they borrow short (low rates) and lend long (higher rates).

Under hyperinflation, long-term interest rates skyrocket. This forces down the discounted present market value of bonds and mortgages. Nobody wants to lend long. Who gets killed? Banks and insurance companies that have lent long.

What saves them from bankruptcy is fake accounting. They are allowed to keep their bonds on the books at face value. But, sooner or later, bankers get paid off in fiat money. Their portfolios are locked into bad investments. They can’t sell them without reporting losses. So, they hang on. Month by month, the value of these assets falls.

Hyperinflation is bad for the super-rich. Why? Because they own their assets outright. The super-rich own land and homes. These go up in nominal value, but rich people don’t pay off their debts by selling a gold coin or two. They have no debts to pay off. They are the creditors. They own bonds and fixed-income investments.

When we read of the great hyperinflations, we find that urban people got ruined. Farmers did very well. They paid off their mortgages by selling a few dozen eggs. Wealth moved from cities to rural areas.

Bankers were in big trouble. Farmers were in hog heaven.

Has it ever occurred to you that there have been no hyperinflation periods in Great Britain? The Brits have gone through wars of their own making. Their elite ran an empire from 1700 until 1946. Yet for all the crises, they never had price inflation above 30%. You know why? Because the Bank of England would not allow it. The BoE was privately owned from its creation in 1694 until the government nationalized it 1946. Even after 1946, the bank would not allow hyperinflation.

The Bank of England inflated often. This created the boom-bust cycle on numerous occasions, but never got seriously blamed for any of the busts. This is because not enough people understood the Austrian theory of the business cycle, which was discovered in 1912 by Ludwig von Mises. Even today, hardly anyone knows about it, and of those economists who do, almost none believes it.

Which are the famous hyperinflations? In Western Europe, Germany, Austria, and Hungary after World War I. They had lost the war. There was Hungary in 1946 — the worst inflation ever. It was a Communist nation.

There was China in 1947-48. The nationalist government fell; Mao took over. No more hyperinflation.

There are Latin American examples over and over. These are not major industrial economies. If we count Brazil as industrial, it had a long, severe hyperinflation, 1981-95: That was the longest hyperinflation on record.

I know of only one major hyperinflation in the industrial West: the State of Israel, 1980-86. I went there in 1985 to study it. Life went on. Tourism brought in Western currencies. So did agricultural exports. The experience did not last long. This was the longest hyperinflation in modern times. Wikipedia describes it.

“Inflation accelerated in the 1970s, rising steadily from 13% in 1971 to 111% in 1979. From 133% in 1980, it leaped to 191% in 1983 and then to 445% in 1984, threatening to become a four-digit figure within a year or two. In 1985 Israel froze most prices by law and enacted other measures as part of an economic stabilization plan. That same year, inflation more than halved, to 185%. Within a few months, the authorities began to lift the price freeze on some items; in other cases it took almost a year. By 1986, inflation was down to 19%.”

This is the central fact: hyperinflations do not last long. The currency is ruined fast. Then there is a currency reform. The central bank starts over: boom-bust, boom-bust.

If you time things perfectly, and sell assets to pay off debt, you win. But hardly anyone does. They buy inflation hedges, thinking it will go on for years and years. It ends a lot sooner than the late-comers think.

Then there is a recession. The inflation hedges fall in price. In that period, cash is king. If you have money to lend, you are in fat city. You buy up assets at a discount. In short, you get out in time.

There are few winners in hyperinflation, and they do not win for long. Then the recession hits, and things go back to normal.

2. THE FEAR OF GETTING BLAMED

Ben Bernanke is under fire as no FED chairman ever has been. The critics are in the millions. This is historically unprecedented. There is a cause: Ron Paul. Ron Paul has focused millions of voters’ attention on the FED and Bernanke. Bernanke cannot escape scrutiny any longer.

If there is hyperinflation, millions of voters will know who did it: Bald Ben the Beard and his crew of yes-men on the Board of Governors. Investors know more about the FED today than they did in 2007. This knowledge will increase.

Then there is the Internet. The mainstream media cannot control the flow of information any longer. Word gets out, and you may have noticed, not much of it is favorable to the FED.

The FED is desperate to avoid an annual audit by the Government Accountability Office. This is good. It means that people other than Ron Paul are calling for such an audit.

Rick Perry used the word “treasonous.” Michelle Bachmann has called for a FED audit. Ron Paul is still running. The FED is today the target of Republican Presidential candidates’ sound bites. This has never happened before. This is terrific. They are trying to steal Ron Paul’s favorite issue. I say more power to them. Come one, come all! Pile on!

Milton Friedman made this line famous: “Inflation is always and everywhere a monetary phenomenon.” He was correct. This insight has been resisted by Keynesian economists from day one, but the Keynesians find that the phrase has gotten into the thinking of millions of voters. Keynesians today are calling for larger deficits and Federal Reserve accommodation, but that is because consumer prices are rising very slowly. If prices were rising at 20% per annum, the Keynesians would find it difficult to conceal the source of the problem: the Federal Open Market Committee. The FOMC could not hide.

This is the central political fact facing the FED today: “It can run, but it can’t hide.”

Bureaucrats want to avoid blame. This is their #1 concern. Second is to increase the number of subordinates, in quest of a promotion. Third is to increase the bureaucracy’s funding. But the #1 concern is to avoid blame.

Bernanke will not be able to avoid blame for hyperinflation. He will therefore not adopt policies that produce it.

The FED could be nationalized. Congress could take over. Then all bets are off. But if we are talking about the existing Federal Reserve, with government-appointed academic economists visibly in charge and the privately owned and operated FOMC making the decisions — which will favor large banks — there will be no hyperinflation.

3. THE BOOM-BUST CYCLE

In Western industrial nations, including Japan, the central banks have always ceased inflating whenever consumer prices climbed close to 20% per annum. It has only happened once in U.S. peacetime history: 1977-80. Consumer prices rose in 1979 and 1980 by about 11% per annum. Jimmy Carter took the heat. He pressured the utterly incompetent G. William Miller to quit after only 18 months in office, and Paul Volcker replaced him in late 1979.

Volcker slowed the rate of monetary base growth. T-bill rates soared to 22%. The result was a recession. Carter lost the 1980 election as a result. Then Reagan took a hit: the 1981-82 recession. But prices started slowing, and interest rates began an 18-year decline.

Volcker wound up as a hero. He is still around. He is still beyond reproach. I can think of no person in power in the Carter-Reagan era who has a more distinguished reputation. Yet he oversaw two recessions.

He talked tough. He smoked cigars. Congress did not lay a finger on him.

This lesson is not lost on Bernanke. Bernanke does not talk tough. He does not smoke. But he knows this much: G. William Miller oversaw mass inflation, and never recovered. He is forgotten. He is forgotten because he left the office and made a hasty retreat to become Treasury Secretary — a no-power office. Then he disappeared. Had he held on, he would have become the fall guy: a pariah.

Here is the lesson learned by every Western, industrial central banker: the post-inflation bust will reduce price inflation. The bust can be justified as the necessary requirement to save the economy, save the currency, and save the social order.

Then the dog-and-pony show starts over.

Remember this: the FED will save the largest banks, That is its #1 unofficial task. Central banks all save the largest banks. The rest of the market can drop by 50% or more. The largest banks then re-finance on the new terms, meaning post-mass inflation terms.

As long as the largest banks are saved, the FED can put on the brakes and let the economy move into a recession.

This is the story of all central banks in large Western industrial nations ever since 1900, with only the exceptions of defeated Germany and Austria-Hungary.

The reason why Americans should not take seriously the scenarios of Germany-Austria in 1921-24 is because we are not defeated. There is no way, short of some sort of biological warfare-induced plague, that we will suffer what Germany suffered in 1921-24. In any case, during a plague, there would not be hyperinflation. There would be martial law, price controls, and rationing.

The Patriot Act offers this single advantage: it will make hyperinflation unnecessary.

Boom-bust, boom-bust, boom-bust: this is the pattern. Do not plan your future as if it will be broken.

What follows every hyperinflation? A recession. But, during hyperinflation, bankers are impoverished. So, if the result is the same at the end of the hyperinflation — a bust — why not call it to a halt early, in the mass inflation stage?

It worked for Volcker. It worked for every western, industrial banker in the 20th century except in Germany after the war.

4. THE EMPLOYEES’ VESTED PENSION FUND

The Federal Reserve System offers its employees a retirement plan. It is not as good as Congress’s, but it is better than yours. It is detailed in a 79-page document.

I regard this plan as the best payoff money in America. It is the equivalent of the Mob’s protection money. If you pay it, you receive protection… from the Mob.

We pay this money by letting the FED keep some of the money from interest payments on bonds that the FED bought with digital money created out of nothing. It can cover its operating expenses. Part of these expenses is the pension system.

This pension fund money is our protection money. The FED is not going to create hyperinflation, which would wipe out the value of its pension fund.

How big is this fund? Large and growing fast.

Contributions to the System Plan are actuarially determined and funded by participating employers. In 2010, the System made $580 million in contributions to the System Plan; the contributions may be adjusted upon completion of the 2011 actuarial valuation.

What is the fund invested in? I have provided an extract from the so-called independent audit for 2009. It was 53% in U.S. stocks, 13% in foreign stocks, and 34% in bonds — not non-marketable Social Security Treasury bonds.

Hyperinflation will play havoc with 34% of this portfolio: bonds. Stocks will not keep pace with consumer prices: 53% at risk. Only the foreign equities portion of the portfolio would not be devastated. Maybe.

This is why I do not think we are facing hyperinflation… at least not until Congress nationalizes the FED.

CONCLUSION

Whenever you hear that hyperinflation is inevitable, keep your hand upon your wallet and your back against the wall.

Hyperinflation is a policy option. It has been adopted only once by a Western, industrial nation’s central bank in peacetime since 1946: Israel’s. That is a small nation. Its leaders have not made that policy error since 1985.

If we get hyperinflation, it will not last long: a few years at the most. It will be a great disruption in the lives of most Americans, but if the government does not impose price controls, there will not be devastation. There will be losses. People will have to scramble. They will adjust. They will get poorer. They will consume capital. But they will survive.

If the government imposes price controls, as it probably will, there will be serious shortages for several years. There will be a large increase in the number of bankruptcies. Unemployment will rise. Families will be squeezed badly. But it will not last. The voters will not tolerate it. Without a war, voters will demand a reform. There are too many economists, even Keynesians, who know that price ceilings create shortages.

Hyperinflation is what Ludwig von Mises called the crack-up boom. It cannot last long because the currency system is rapidly destroyed. It no longer serves as a tool of economic calculation. People switch to gold coins, silver coins, and barter. Output falls. Capital is consumed rapidly. But then it must end. When the government cannot buy votes with worthless money, it stops inflating.

Ron Paul has performed a great public service in alerting the voters to the danger of the Federal Reserve System. He has exposed the source of mass inflation and hyperinflation. He has exposed the source of the boom-bust cycle.

The FED cannot escape. Its policies must lead to booms and busts. This is inherent in all central banking. The FED will choose a repetition of the boom-bust cycle rather than impose hyperinflation, for which it can no longer escape blame. Too many people have heard Ron Paul’s warning.

Regards,

Gary North

Gary North is the author of Mises on Money.

Mass Inflation, Yes; Hyperinflation, No was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

No one I spoke to would venture a guess as to how high gold would rise before it hit its peak. But most stressed that people forgot that gold’s value was driven by sentiment.

“Gold doesn’t have any intrinsic value,” said Larry M. Elkin, president of the Palisades Hudson Financial Group in Scarsdale, N.Y. “It’s this era’s wampum. At one point you could buy Manhattan for beads.”

(Mr. Elkin said what bothered him the most about investing in gold was how irrational it was, unlike buying a blue-chip stock whose value rises and falls based on what the company produces.)

That said, having gold in a portfolio is still a good buffer against swings in other markets. Mr. Fisher calculated that over a 43-year period ending in June 2011, the average annual increase for gold, accounting for inflation, was 3.82 percent compared with 4.92 percent for the Standard & Poor’s 500-stock index. Gold, however, was 28 percent more volatile.

“The smoother the ride, the more likely the investor is going to stay in his strategy,” Mr. Fisher said. “That produces a better result.”

He said that from the perspectives of both return and volatility, a better strategy would have been to put 10 percent in gold and split the rest 60-40 between stocks and five-year Treasury bonds. Rebalancing the portfolio to maintain those ratios would have meant an average annual return of 4.66 percent, with more than half of the volatility of gold alone.

For those who fled to gold and Treasuries, the hardest part will be deciding when to get back into other securities. The best way in uncertain markets may be to go slowly in small chunks — a practice known as dollar-cost averaging.

They might have asked us. We have lots to say on the matter!

First, gold isn’t supposed to “do” anything. That’s why we like it and why it has been used for money for as long as there’s been the need for money. It is a store of value, not a value-creating business or a head of cattle or an acre of fertile land

And during times when the government and central bank have been doing plenty…running unpayble deficits, artificially inflating asset values by means of interest rate manipulation and by expanding debt and the currency supply…you want something that will “do” nothing.

Second, gold buying based on sentiment? And irrationality? Yet lending money to the government or buying overpriced stocks are both reasonable acts?

Lending money to the U.S. government to protect your savings is like running to an armed assailant for comfort. The government is doing everything in its power to make sure you are paid back in dollars that are worth less than the ones you lent…at an interest rate that doesn’t begin to make up for the rate at which your purchasing power is being destroyed.

Stocks meanwhile may represent ownership in productive businesses…but the costs of those earnings are currently too dear. They are not a good buy. Eventually those earnings will be on sale again. If you buy now, that means you are almost certain to lose money.

It’s about more than smoothing out volatility. It’s about recognizing what’s happening now. It’s about giving the Fed’s actions their due respect and a wide berth.

You have to understand that the very existence of a central bank is the problem. Minus a central bank and government propaganda, gold and silver are very naturally perceived as money, while economic growth is based on savings that aren’t discouraged in the first place by inflation.

With a central bank mucking around with the price and supply of both currency (we hesitate to call it money) and credit, you’re bound to get booms with the busts baked in and all the attendant distortions. You get bubbles moving through asset classes: through the currency, then stocks, then real estate, then commodities and precious metals.

This makes the advice about a having a “balanced portfolio” a bit of a joke. That’s like telling you to inject yourself with both steroids and Ebola and hoping the two will balance each other out. When you have a busybody central bank creating serial bubbles, you need to move from one investment class to the next.

You should have been trading your rising stocks for sleeping gold for the past decade. You should have been selling off your real estate and buying silver too.

We’re going to keep trumpeting the “do nothing” metal and its more industrious companion silver. Especially as the New York Times quotes experts who scratch their heads at this gold thing.

Gold has gone from under $300 to nearly $2000 in the last decade. What has the Dow done? It was around 10,000 ten years ago. It’s around 11,000 now. Yet these guys are still rolling their eyes at the people who were “all in” with gold, the price of which is now around sixfold more.

Sure there were a couple of dips in the Dow in the past ten years. You might have made a little money if you bought and sold at just the right time.

Gold took a lot less timing and a lot less effort. Those recommending gold were begging people to take advantage of gold’s years of dormancy. They begged them to keep accumulating while gold was cheap.

The price of gold is more than mere “sentiment”. That price is trying to communicate something. Gold’s price is declaring that fiscal policy stinks, that government deficits are no laughing matter, and that the stock market on the whole is a sucker’s game right now.

Regards,

Gary Gibson
Managing editor, Whiskey & Gunpowder

Gold Still A Better Idea Than Mainstream Asset Allocation was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.