In the NYTimes financial section former Chair to Obama’s Council of Economic Advisors, Christina Romer, opined on the lessons to be learned from the Great Depression saying, “It would be a mistake to respond by reducing the deficit more sharply in the near term. That would almost surely condemn us to a repeat of the 1937 downturn.”

According to Romer and Reich, what the U.S. needs is an immediate dosage of inflation and debt. These Keynesian “cures” of endless inflation and debt to fix our economic malaise are offered because there is a profound lack of understanding of what causes a depression in the first place.

The cause of the Great Depression in the 1930s, and the Great Recession beginning in December 2007, was one and the same — an overleveraged economy. Easy money provided by banks eventually brings debt in the economy to an unsustainable level. At that point, the only real and viable solution is for the public and private sectors to undergo a protracted period of deleveraging.

The ensuing depression is, in actuality, the healing process at work, which is marked by the selling of assets and the paying down of debt. Unfortunately, our politicians today are focused on fighting the natural healing process of deleveraging by promoting the accumulation of yet more debt.

During this latest economic contraction, the Federal Reserve has taken interest rates to near 0% for the past two and three years and has just promised to keep them there for an additional two years. Meanwhile, the Obama administration is leveraging up the public sector to record levels in an effort to re-leverage the private sector. The government’s philosophy is tantamount to sticking a frostbitten man in the freezer so he won’t have to suffer the pain associated with the thawing of his extremities.

During the Great Depression, real gross domestic product plummeted 32%. The Great Recession, which we are still struggling through, began in December of 2007. But in contrast to the 1930s, GDP during this recession shrank only 3.6% from the fourth quarter of 2007 through its low point in the second quarter of 2009.

Household debt as a percentage of GDP reached nearly 100% in 1929. Between the start of the Great Depression and the end of World War II, household debt fell from 100% to just above 20% of GDP. To put that number in perspective, household debt did not go back above 50% of GDP until 1985. And it was not until the first quarter of 2009 that household debt once again approached the Great Depression level of 99% of GDP.

Debt reduction is a painful process, but such de-leveraging is the only real cure for an economy swimming in debt. Thanks to government efforts to carry on our debt-fueled consumption binge, during today’s Great Recession household debt has barely contracted at all — it has only been reduced to 90% of GDP as of the first quarter 2011.

To make matters even worse, during this current crisis our government’s response has been to dramatically increase its own borrowing. At the start of the Great Depression, gross federal debt was 16% of GDP. It peaked just below 44% when the Depression ended. While the national debt did increase significantly during that period, it was still relatively benign when viewed from a historical perspective. The U.S. entered this current Great Recession with gross national debt equal to 65% of GDP. It has since exploded to 98% of GDP! Comparing the relatively innocuous level of the 1930s with today’s pile of government debt, clearly illustrates the perilous state of the economy.

National debt did rise dramatically during World War II, topping out at 120% of GDP in 1946. But consumer debt plunged concurrently. So while the nation was adding debt to fight and win a global war, households were taking the necessary steps to ensure their balance sheets were well prepared for the aftermath of the battle.

Today, for the first time in our history, gross national debt and household debt are both at least 90% of GDP.

Unfortunately, many in government–like Mr. Reich–believe the government must spend more while consumers rein in their debts. Their strategy is based on the hope that once the economy perks up, the private sector can unwind that debt. But there are two problems with this Keynesian theory. One is that government spending doesn’t increase GDP; it only chokes off private-sector growth and creates inflation. The other is that politicians never regard the present as a good time for the government to pay down its debts.

The result is that the country is left with a massive level of both private and public sector debt, the latter always leading to an increase in taxes, interest rates and inflation — which causes GDP to eventually contract even further and thus the ratio of debt to economic output increases faster.

Since we have yet to address the real cause of this recession, we are moving inexorably closer to causing The Greater Depression. If policymakers and mainstream economists fail to understand that the progenitor of a depression is debt and inflation, they will also be unable to provide a genuine solution. And the “solutions” they do offer are tantamount to seeking the avoidance of a hangover by forcing down a few more drinks.

Regards,

Michael Pento

Michael Pento is a well-established specialist in the “Austrian School” of economics and a regular guest on CNBC, Bloomberg, Fox Business, and other national media outlets. His market analysis can also be read in most major financial publications, including the Wall Street Journal. He also acts as a Financial Columnist for Forbes and a blogger at the Huffington Post.

Why Bother Working? was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

Stock market bulls aren’t concerned about the inevitable acceleration in bank failures — at least for now. Even though deposits will be insured against loss, the loss of local banks will still have a depressing effect on hundreds of small communities. These communities are going to lose their only access to business credit when their local zombie banks — loaded with toxic construction or commercial real estate loans — are liquidated or merged into other weak banks.

Meanwhile, the latest monthly figures show that commercial bank balance sheets are shrinking at a fairly rapid rate, due to a combination of several factors: loan charge-offs, older loans are being paid back at a faster rate than new loans are being made, and regulators pressuring banks to build larger capital buffers.

So credit-fueled growth in consumption or investment is not occurring. Combine this with stagnant or declining wages and corporate profit margins and it becomes hard to imagine how GDP will rebound on a sustainable basis. GDP is the stat that every money manager fixates upon — despite the fact that GDP does not accurately measure true economic progress; it’s like evaluating a stock purely on sales growth, without thinking about what’s driving sales, and whether these sales are sustainable or accretive to wealth.

Nominal GDP is calculated as “consumption + investment + government spending + exports – imports.” Then, government statisticians subtract a highly doctored CPI figure from annualized changes in the above variables to get “real GDP growth.”

Note that all the variables in the GDP equation can be pumped up by excessive credit growth. As I mentioned in the Sept. 4 alert, if GDP is growing at the expense of degraded balance sheets, the end results are never happy. Japan’s GDP stayed higher than it otherwise would have been in the 1990s despite the incredibly wasteful spending on bridges to nowhere. Its policymakers reacted to a huge misallocation of capital into real estate in the 1980s by misallocating capital into government projects and subsidies to favored industries.

U.S. policymakers are following this playbook even faster, only without acknowledging one crucial difference: Japan had a high household savings rate to finance its government deficits, while the U.S. does not. Plus, the U.S. has already “dollarized” the rest of the world, and there are signs international demand for dollars has reached its saturation point.

The gold and commodities markets are reacting to this unpleasant reality. These markets are starting to discount the fact that the Fed will be the aggressive buyer of last resort for all types of debt securities. We’ve likely only seen the beginning of growth in the Federal Reserve’s balance sheet. As long as it can get away with it, the Fed will keep creating new money out of thin air to finance the U.S. federal deficit. Plus, via its liquidity facilities, the Fed and the megabanks will keep swapping Treasuries for legacy toxic securities marked at fantasy levels.

A few wild cards could disrupt this benign “reflationary” environment we’ve been in since the March stock market bottom, resulting in the stock market taking another nasty leg down:

1. If the “audit the Fed” bill were to pass and result in more handcuffs on the Fed, it would help to slow the reckless debasement of the U.S. dollar. But if it put an end to the Fed’s exotic lending facilities, which would force the owners of toxic securities to retain and mark them down sooner, then we could see a return to the January-early March 2009 stock market environment — only most of the damage would be contained to the financial sector as equity of insolvent institutions gets wiped out or diluted.
2. Contraction in the real economy and state governments could easily overwhelm expansion in the “federal government economy.”
3. International holders of trillions in paper U.S. assets could accelerate the rate at which they diversify into real assets. That’s how we could see a spike in “money velocity” that the deflationist camp says is a necessary condition for the CPI to rise. Most of the price pressure will be felt in oil prices, especially later in 2010 and 2011, when today’s underinvestment in new oil projects leads to tight international supplies.

I’d like to bring to your attention one more thing about today’s investing climate, because it’s being used so often lately in the media to justify today’s nosebleed stock valuations: the “money on the sidelines” fallacy. Growth or contraction in the current balance of $3.5 trillion in money market funds depends on how much companies look to borrow in the commercial paper market — not on the level of the stock market, as so many seem to believe.

Those who point to the $3.5 trillion in money market funds as if it’s a bucket that can be “poured” into the stock market bucket to keep the rally going do not understand that money does not go “into” or “out of” the market, but through the market. Trader A sells every share bought by Trader B. Once this transaction settles, cash goes one way and shares the other. The price at which the transaction takes place depends on how badly Trader B wants to own shares, not how many money market shares are in his account.

Also, money market fund balances represent very liquid short-term loans; they reflect an amount of money that’s already been spent in the economy and will be paid back over a very short time frame. John Hussman — one of the best mutual fund managers, in my view — refutes the “cash on the sidelines” fallacy best. It’s worth reading and remembering the next time you hear a talking head arguing that the rally can keep going because of liquidity.

Washington Federal Closes Offering; Now We Wait for Earnings

Yesterday, Washington Federal (WFSL) announced that its secondary stock offering would generate net proceeds of $333 million. This works out to a per share price of $13.79, including underwriting discounts and expenses and assuming full exercise of the underwriter’s overallotment. Here is an example of cash going “into” stocks, because these are newly issued, rather than existing, shares in the secondary market.

As I noted in Monday’s flash alert, I expect the offering will be necessary to absorb a mounting wave of net charge-offs in the future. It’s possible that this offering plan became a necessity after a friendly suggestion from regulators to raise more capital.

On Wednesday, WFSL stock rallied on high volume, but did not reflect organic demand for the stock. JP Morgan was the sole book-running manager for the Washington Federal offering. Knowing that it would likely receive a few million WFSL shares as a form of compensation in the underwriters’ overallotment, JPM’s trading desk probably established a short position that it plans to cover by delivering the shares it will receive upon the closing of the deal. This likely explains the bizarre trading moves in the stock this week: When institutions were more interested than expected, resulting in a higher offering price of $14.50, JPM likely covered some of their short position.

As for the analyst reaction to the offering, the two analyst notes I saw might as well be corporate press releases, because they expect this new capital to be deployed into an FDIC-assisted rollup of lots of zombie banks in the Pacific Northwest. Also, these analysts cite WFSL’s “strong” capital ratios without adjusting for future credit losses. One might suspect that these analysts have not even read the asset quality footnotes in Washington Federal’s SEC filings.

The big losses WFSL will take on construction loans are obvious, no matter how long management claims it will be able to sit on them. But what’s not obvious to the market — yet — is the rapid future loss formation in its $6.7 billion mortgage book. Management has set aside practically zero allowance for loan losses against its mortgage book. See the chart below for the allocation of WFSL’s allowance by loan type.

WFSL carries a mere $18.8 million loss allowance against its $6.7 billion book of mortgages — a ratio of just 0.28% of assets. The harsh reality of the mortgage crisis tells us that this $6.7 billion asset value is overstated, along with capital ratios (or equity); it should be marked down by far more than $18.8 million. Yet WFSL’s accounting translates as follows: Management does not expect more than $18.8 million in cumulative credit losses in mortgages (defaults, net of recoveries after foreclosure) through the rest of this credit cycle, despite the fact that the majority of these mortgages are now underwater and the job market remains weak.

As you can see in the chart, the ratio of loss allowance to nonperforming loans (by category) has shrunk dramatically. In December 2007, WFSL’s residential mortgage loss allowance was $13 million, and its nonperforming mortgages were also $13 million. As of June 30, this loss allowance had been built up to $18.8 million, but nonperforming mortgages had grown to $119 million (and will keep growing). This loss coverage ratio has shrunk from 100% to 16% over the past six quarters (as shown in the chart’s blue line) and needs to be built back up to a respectable level. And the only way for WFSL to build it up is to book large credit provision expenses in future income statements.

Washington Federal’s “strong” capital ratios are a function of hopeful accounting. I expect the market to come around to this view — not only for WFSL, but also for the entire banking sector. Ever since the loosening of mark-to-market accounting rules last April, the creators and users of financial statements have collectively chosen to deny reality and bury their head in the sand about the future direction of market values for collateral backing loans — and the value of the loans themselves.

Everyone is waiting and hoping for a miraculous rebound in housing prices and the labor market, when we have yet to see the bottom in either. When reality sets in, this will not end well for owners of bank stocks, REITs, and other financial stocks. These stocks are claims on assets that are marked to fantasy levels.

Mark-to-market suspension has slowed the rate at which losses are recognized, but this self-delusional accounting practice cannot make the losses disappear, and will likely make these cumulative, stretched-out losses even bigger in the future by rationing credit to the healthier parts of the economy.

Regards,
Dan Amoss

September 23, 2009

GDP’s Debt to Credit was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

We have commented on their plans and purposes on numerous occasions. Now that the meeting has come and gone, let’s take a serious and sober look at what these countries are about, and why they are doing what they’re doing. Assuming that they are even doing anything at all…

First let’s look at the growth of these four dynamic economies. In the GDP growth department, last year India came in at 6.7%, Russia at 8.1%, Brazil at 5.08% and China a staggering 9%. Compare that to the United States’ -6.3%, and you start to get an idea about why they consider themselves superior to America and her economy.

No matter how much you may think those numbers are manipulated, the bottom line is that they are all ahead of the West by light years. They are in regions that were once shackled by the constraints of socialism and outright communism, and are just now breaking free into the light. (Meanwhile the United States is steadily advancing its war on capitalism by increasing debilitating taxation and regulation by the day!)

To put this even more into perspective, the United States has a GDP of about $14 trillion annually. Comparatively, Brazil is at $1.9 trillion, Russia at $2 trillion, India at $1.2 trillion, and China at $4.3 trillion. That means that the combined output of these four nations barely equals two-thirds of the United States.

The GDP per capita, where it is estimated what each person produces each year, also shows some marked disparity.

For the United States, GDP per capita is just under $47,000. Brazil is $8,200, Russia is $14,600, India is $1,000 and China is $3,200. Once again, in terms of output, the United States is far and away the leader, nearly doubling the output of the other four nations combined.

Additionally, the percentage of people in these countries that are below poverty level is shocking. The World Bank estimates that 42% of India’s population is below the poverty level; In China, 10%; Russia, 16%; Brazil, 22%. As that sinks in, also keep in mind that the World Bank defines poverty on an international scale as living on less than $1.08 per day

And not only are these people poor, there is no infrastructure in place to facilitate the increase of wealth among a large portion of their citizens.

Please note, I am not talking about wealth redistribution by government mandate. That will ALWAYS make the poor even poorer. As a matter of fact, it will make the rich poorer, also.

But as a rising tide does lift all boats, severe divergences in wealth from various parts of the population is indicative of markets that are not functioning “normally.” We see this in the United States as well, as government regulation interferes with properly functioning markets and facilitates the destruction of the middle class, leaving only the rich and the poor — not to mention a widening chasm between the two.

How do these relatively “poorer” countries get to call the shots? Why are they influencing policy discussions around the globe? Why do markets tremble when they speak? What is going on here?

You may remember the axiom of Baron Acton, “Power tends to corrupts, and absolute power corrupts absolutely.” Let us be careful here. Absolute power does not corrupt absolutely. God, of course, is exempt, however, in the world of men, it is indeed seemingly axiomatic that the more powerful a man becomes, the greater the temptation to corruption.

No place is this more true than in politics (except maybe religion!). And frankly, it doesn’t matter whence a man hails, what color his skin may be or even what language he speaks, the intoxicating effects of power are universal.

The four BRIC nations have been drinking deeply from this well. They want more power. They want more influence. They want more wealth. In short, they want more. They want what the United States has flaunted. They want the American dream. But they want it wrapped in a turban, served with fine vodka and no more white rice.

They’ve also learned the meaning of another English proverb: “Strike while the iron is hot…”

There is no doubt that that the international media often depicts the United States as an absurd mix between the playground bully and the dunce in the corner. When was the last time you heard an international story praising the U.S. position on anything? From economics to foreign policy, bureaucratic regulation to welfare statism, the United States has become the international piñata.

The fact is, many nations — especially BRIC nations — would like to increase their own amount of “loot” by beating it out of the United States.

The question is, can they do it? Can they decrease the usability of the U.S. dollar while increasing their own. The United States seems fairly determined to bring the first portion to pass by its own volition. The BRICs may not need much help in that arena. But does that automatically guarantee them a seat at the table? Does a U.S. decline mean, ipso facto, that any one, or all four, of these countries gets moved to the head of the class?

I’m not sure that question has been thought through. Frankly, I believe they just see an opportunity and figure they will jump on it. But only lightly. Because there are repercussions, and some of them are not so favorable.

As they’ve sent up a hue and cry for a supranational currency, I have to wonder if they have really learned any lessons at all. Their complaints have centered around a single manipulated currency at whose mercy they find themselves. They seem to intuitively know that a fiat currency system is flawed. It is flawed because men are easily corrupted.

After all, what good is the guilt of corruption, and who would want to bear that burden, unless they could effectively salve their conscience by the increase of wealth? In short, power is rarely of any use to men unless it results in more money. That’s what the United States is being accused of (and rightly so). We have taken our position of unquestioned strength and used it to create the illusion of wealth at home, at the expense of our neighbors. And now the neighbors don’t like it.

But what is their solution? More of the same. Another fiat currency. Actually, a currency made up of a basket of currencies. This should really strike us as hilariously funny, if it weren’t so sad. And by sad, I mean stupid.

It’s like draining bad oil out of a motor and replacing it with equally bad oil. Or like removing a tire that has a nail in it, only to replace it with one that is dry rotted. Or like trading a job you hate for one that will eventually kill you. Or like… well, I hope you get the picture. Essentially, the solution they have put forward is no different from the problem they’re attempting to repair.

And that’s not the only problem…

Here’s what I mean. Both India and Russia still receive foreign aid from the United States. They’re rather like a rebellious teenager who takes potshots at their parents while holding out their hands for cash and car keys.

Beyond that, consider that the BRIC nations hold over 30% of the U.S. Treasury market. That’s a lot of eggs in one basket. So when they start grumbling about policy, they can really strike a fire. On the other hand, upsetting the basket breaks a lot of their own eggs.

The problem is that they must measure their blows carefully. If memory serves correctly, it was China who fired the first shots across the bow of the U.S. economic state. But then, like a playground dog pile, Russia jumped on top as well. Then, lo and behold, the statements are retracted (or at least ameliorated!).

This has gone back and forth, and I imagine it will for some time, since they can ill-afford to knock the United States completely off its horse. To that end, the BRICs have discussed intermarket trading with each other while bypassing the U.S. dollar and talking about a new currency reserve.

Now this is some pretty braggadocio poppycock from upstart powers that “wannabe.” It was just a decade ago that Russia scored big on the international monetary scene by defaulting on a $40 billion dollar debt. (That was back in the day when a billion dollars actually meant something!)

If that were you or I, we’d still have that default on our credit report! And no one would let us forget it, no matter how well we had rearranged our household finances.

So then… have these four countries turned the corner financially? Have any of them got the economic muscle to merge the other three into a formidable monetary force against the United States? Let’s take a look.

Last year during the first leg of the global economic collapse, commodities took a real whack. So did the economies associated with their production and distribution. That means oil — and that means Russia and Brazil.

Even though the Russian stock market climbed more than 6,000% in the previous 10 years, it fell 80% in the eight months of crisis. 80%! While it was the worst of the BRIC alliance, Brazil fared little better. Its equities were down 60%!

And how about the other two BRICs in the wall? Indian stocks were down almost 65%, and Chinese companies… a whopping 73%!

We also now know that while Russia’s equities were tanking, so was their currency, the ruble. After losing nearly 60% of its value, the bleeding was only stopped when Russian authorities jumped in and sold nearly $200 BILLION worth of dollars to support their currency in crisis. That was nearly one-third of their currency reserves — up in smoke to defend an already overvalued currency.

Now, after all that, they start talking about the concept of buying one another’s bonds, and lessening their investment exposure in the United States.

Now let me ask you a simple question: If you had to buy the bonds of either the United States or Russia, which would make you feel safer? One that defaulted on their debt not so long ago and was just hemorrhaging the value of their currency in the last six months? I’m not saying that America is rock solid as an investment, but if you have to pick the lesser of two evils, who you gonna choose?

At this point the U.S. dollar index is hovering around 80 against the weighted basket of currencies by which its value is measured. Last June it was around 72.50 at its lows. That puts it up about 10% on the year.

Conversely, the rupee, real, and ruble, even after some recovery, are still down 35%, 25% and 35% respectively.

Also, consider that from top to bottom of the crisis moves, the ruble was down nearly 60%, the real nearly 70% and the rupee down 30%.

China, of course, has continued to peg its currency, the yuan / renminbi, to the dollar, so such fluctuations, “don’t exist.” Because when a nation, like China, pegs its currency to another nation’s currency, such as the United States, the foreign authorities continually buy and sell their own currency to keep it in a trading range against the other. That way it never suffers from severe fluctuation shock.

But when all is said and done, this betrays the fragility of each of their economies, and how connected they are to dollar based difficulties. So as they chop away at the tree, they had better be careful lest it fall on them.

It is hard to say what the future may bring in terms of changes, but even now, although the BRIC’s are referred to as an alliance or “federation,” the only two countries that have a trade relation of any substance with one another are Russia and China. India and Brazil see very little trading action with them, and are not even in their top seven in terms of import/export volume.

Just some things to keep in mind as we take a closer look at the news…

BRICs Buying Less Debt

Last week we talked about the Treasury Income Capital (TIC) figures, which shows foreign net purchases of long-term U.S. securities. Essentially, it’s a measure of how foreigners are funding U.S. debt.

The headline April TIC number fell to $11.2 billion from the $55.4 billion recorded in March.

Additionally, we’ve learned that the current account deficit for Q1 was a negative $101 billion. The TIC data for January through March showed foreigners funding only $40 billion of that deficit. That means effectively we were a negative $61 billion in the hole as a country for Q1. We are still paying our bills — so where did the money pay them come from?

In line with our theme for the week, China’s purchases of U.S. Treasuries decreased to $10.3 billion from $14.8 Billion. Russia and Brazil showed small outflows in April, which was similar to the past few months. But the biggest change came from Japan, which showed an outflow of -$1.2 billion, way down from the previous $23.2 Billion inflow.

While one series of number releases does not make a trend, one can’t help but wonder where this will lead. As we covered last week, there are only two destinations that I know. If foreign entities are unwilling to fund our deficits with the higher Treasury yields (up from 2.1% to 3.75%), one of two things will happen:

1. Yields have to go up more, raising rates across the spectrum from mortgages to loans to credit cards, thus inducing a second wave of “Credit Crunch”

2. Or foreigners will NOT fund our U.S. deficits. That means the Fed will purchase more U.S. Treasuries, and it means they will print more cash to do so.

Neither of these choices bodes well for the United States or the U.S. Dollar. Only time will tell us if April data was a fluke month or if it was a sign portending things yet to be.

But not all is dreary in the world. Our friend Chuck Butler over at EverBank had this to say:

“It seems that Australia’s government has decided to put government backing on state-issued bonds like the QTC’s (Queensland Treasury).

“This is HUGE for these bond issues, especially since Australian states were seeing downgrades in ratings! The country of Australia has a higher rating, so these bonds will also inherit that rating, since the government is backing them!

“However, this will tighten up the yield on these bonds, probably by about 10-15 basis points.

“Why is this important? If the QTC bonds now have a higher rating, more institutions will be able to buy them. That means more investments flowing into Australia, and more cash flows into Aussie dollars!”

The thing here is that in the long run, this is good for the Aussie dollar!

Thanks, Chuck! Notice he said, “in the long run.” Since that news broke last week, the Aussie dollar has been on a fall. But as soon as it firms up a bit, we’ll be jumping back on board!

And here’s a little good news from Stateside (especially for the Fed). Consumer inflation dropped 1.3% over the last 12 months, the biggest decline since 1950. What? No inflation in the United States? Hey, Ben! Keep those presses rollin’! We can continue to “stimulate.” Good Lord, deliver us!

Also, some other good news — continuing claims for unemployment finally dropped last week, ending their heartbreaking streak. Hard to say what this week will hold, so we’ll wait and see.

We will also be looking at the Treasury auction this week. The U.S. government will be issuing a record $104 billion of 2-year, 5-year and 7-year Treasury notes between Tuesday and Thursday. Traders are watching these auctions because of their sheer enormity and also because it will shed some light on whether bond buyers are willing to fund the growing U.S. budget deficit. If demand comes up short, the dollar could get whacked. But, as always, it is not that simple.

You can’t just sell the dollar if the auction appears weak. Because weak demand may drive up yield rates, which will be good for the dollar, as long as there are buyers. And as I’ve covered above, there are likely to be more dollar buyers than there are those who buy everything else.

Thus as we come to the end of our musings and examinations today, we are looking at consolidations taking place.

The euro has been locked in a down drifting channel but remains in a larger uptrend. And now it is hanging around a crossroad. Yogi Berra said once said, “When you come to a fork in the road, take it.” We are currently waiting to see which road the euro will take. Yesterday’s move up was unusually strong and uncharacteristic. We will watch to see if it was just short covering or a real rally beginning.

The pound can’t quite seem to make up its mind either. It has out-appreciated its European counterpart and moved higher. But we may see some weakness to come, as it is having difficulty pressing up at this level. If it breaks through, however, we could be in for another extended run.

The Aussie has drifted further down, but has not violated its 30-day lows. Just about time to take a new position here. But we need to wait for a bit more confirmation.

Today the Fed will announce interest rates. No one expects that they will be changed. But we do expect to hear something on the Fed’s view of the economy. In his last appearance before Congress, he stated in no uncertain terms that the deficits could not continue. Now deficits are not really his department. That is the domain of Congress. But if he hints at the fact that the existing Treasury buy-up is going to be stopped at $300 billion, this could be massive for the dollar. There are only two paths ahead of us.

Bernanke knows as well as any, that inflating the currency further will lead to dollar destruction. It is my feeling that as the dollar has seen a sell-off, that this month they are going to stand on the other end of the see-saw and talk up some dollar strength.

Regards,
Bill Jenkins

June 25, 2009

BRIC Nations Getting Bolder was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

The GDP includes, to generalize, everything produced and consumed within a country or exported to other countries. In this “everything in one pot” view, everything counts, regardless of its causes or its effects on society. You contract an illness and buy medical care, you’re in a wreck and pay for car repairs, you buy cigarettes or alcohol based on an addiction, factories are rebuilt after a war, shells and fighter planes are built to destroy those factories, a lumber company cuts down a forest down to the last tree, the government spends billions on a new boondoggle, a corporation charges you monopoly prices, there’s a gas discount and everyone’s filling up. Even though all these things are symptomatic of social problems, they are counted as part of “the economy.” The genocide in Iraq is a boon to “the economy” (although, in the long term, war spending has a persistent negative effect on GDP and employment, either through inflation, higher interest rates, or increased taxes). Mindless consumption is a boon to “the economy.”

“The money in the big pot could be going to cancer treatments or casinos, violent video games or usurious credit-card rates. It could go towards the $9 billion or so that Americans spend on gas they burn while they sit in traffic, or the billion plus that goes to such drugs as Ritalin and Prozac that schools are stuffing into kids to keep them quiet in class. The money could be the $20 billion or so that Americans spend on divorce lawyers each year, or the $41 billion on pets, or the $5 billion on identity theft, or the billions more spent to repair property damage caused by environmental pollution. The money in the pot could betoken social and environmental breakdown- misery and distress of all kinds. It makes no difference. You don’t ask. All you want to know is the total amount, which is the GDP. So long as it is growing then everything is fine.”

– Jonathan Rowe, co-director of West Marin Commons

One might reply that this is a misguided criticism, since the GDP is precisely meant as a “kitchen sink” metric for all production. But the GDP is also often criticized for omitting to count many vast areas of trade, including housekeeping, production for self-consumption, black markets and underground economies (which in some societies are bigger than the white market), crime, and barter. The only logical conclusion is that the subject most conducive to growth is a person who is perpetually just sick enough to need medical care but not enough to stop working, morbidly obese from constant eating, always drives everywhere, hires maids instead of cleaning his own house, and does not interact with anyone but Wal-Mart workers.

Retail sales is another metric that gets trotted out in the mainstream media, especially around Christmas. The assumption here is that the more money people spend during the year, the better off “the economy” is. But this is counter-intuitive, as spending can be motivated by all sorts of reasons, including inflation, short-term biases, and outright fraud. People are tricked into buying goods by marketing campaigns and a panoply of retail tricks and lies. Retail sales do not take into account the quality of products or what they may do to our quality of life, and under that point I could repeat a lot of the things I said above. They also do not include the consequences of depending on big retail corporations for our livelihood, or the consequences of globalization on the third world.

Saving money is actually a very positive thing for the well-being of the individual, and yet increased savings (as we are seeing right now) wreak havoc on “the economy.” Unfortunately, people generally under-save and get in debt too easily for their own good, partially due to human psychology and partially due to the centralized banking system which causes scarcity of credit.

Measuring employment suffers from the same general flaws, as it does not take into account the nature of the jobs in question: not only the quality of the work environment, the wage, or the work structure (especially how hierarchical it is), but also what the work itself entails. It’s easy to see what a CEO, a commodities trader or a monopoly banker contribute to the corporatist system, but very difficult to see their contribution to the well-being of society. Even though they are “employed,” it’s hard to say that a soldier, a policeman or a bureaucrat, on the whole, contribute anything positive to society. Employment statistics, therefore, are at best very incomplete, and at worst completely misleading.

If these three metrics do not measure general well-being, or even how well the economy fulfills our needs, what do they measure? The GDP measures how much is produced and consumed. Retail sales measure how much is consumed, and how much surplus is generated. Employment measures how many people are participating to production. It is not the nature of production or consumption that is examined, but the concept of production and consumption themselves. The only possible conclusion we can arrive at, is that these metrics measure the health of the corporatist system, not well-being or the fulfillment of needs.

The underlying premise behind the use of these metrics is shared by all parties and ideologies on the mainstream political spectrum: growth is inherently good. Not all of these ideologies support the idea that growth should be completely unlimited and unchecked (Greenies, for instance, believe that growth should be tempered with environmental considerations), but they all judge growth as a primary objective. Not only that, but they believe that growth alone can solve socio-economic problems, the good old tried-and-true statist technique of “if we project enough force and throw enough money at a problem, it will eventually disappear.” If “the economy” keeps growing, goes the argument, then we’ll have more money to pump into health care, we’ll have more money to pump into education, we’ll have more money to pump into social programs, and everything will correct itself. A shining example of this insanity, Mosler’s Law, states that “there is no financial crisis so deep that a sufficiently large increase in public spending cannot deal with it.”

This is the same kind of argument that statists use when talking about government and corporatism, of the “we just need to put good people in charge” type. Putting better people or more money in a broken system won’t fix it. Solely producing more goods cannot change the balance of power in a society and cannot correct inefficiencies and immoralities caused by the very fabric of the economy that produces them. On the contrary, one can only expect it to make the problems worse, because it maintains the viability of the current capital-democratic system.

We must therefore question our belief in economic growth as a solution, as a necessity, as an inherent good, as a progressive factor. If it’s only useful to measure the cost of goods that are made and sold, then it has little relation to human life.

The real question is not “how much stuff is traded” but rather “how stuff is traded.” In the corporatist system, labour is traded under a highly hierarchical, authoritarian, central-planning oriented structure. The people at the top of this fictional legal structure reap the surplus, which they steal from their inferiors through the latter’s “voluntary” surrender of their freedom of labour, which concentrates wealth and therefore economic power. These imaginary structures then sell the produced goods, generally to individual customers who have very little economic power. They also generally get their raw materials from dispersed third-world entities, which have far less economic power than they do.

It should be easy, in fact it should be child’s play, for anyone to realize that such a system cannot serve anyone’s interests but those of the people at the top, and that its elite will necessarily try and succeed at subverting people’s desires for their own interests, in the same way that the elite in a democratic system always eventually succeeds at subverting moral values for its own power. Capital and guns have always been, throughout history, mutually dependent and mutually beneficial. Inequality of wealth or power cannot lead to anything but a loss of freedom in the long term, for the same reason that loss of freedom must lead to inequality of wealth or power in the long term.

Once again, I must emphasize that these are systemic features and do not depend on the bad intentions of any number of people. The vast majority of people have good intentions, and very few people (except very aberrated cases like serial killers) believe they are doing evil. We must therefore banish from our heads the image of the maniacal politician or executive rubbing his hands together, or tenting them à la Mr. Burns, saying “my eeee-vil plan is working perfectly.” The fact is that they are simply doing their jobs. That’s all that the system’s survival depends on, or the survival of any system whatsoever.

I already mentioned the concept of surplus. In the corporatist system, accumulating surplus is the goal of the vast majority of economic entities, and drives growth. In an economy where actual human needs, not hierarchies of wealth, direct action, the accumulation of surplus, and therefore growth, would no longer be priorities. We must see economic activity, not as an end in itself, but as the extension of how we see each other and what we consider to be proper ethics. Hierarchies betray a pessimistic, authoritarian and dogmatic view of human existence. Its consequences are to turn moral agents into tools of production and consumption (to spend beyond their means, to become trained consumers, and to produce more consumers). Efforts to counter this immorality must pass through counter-economic activities, personal de-growth based on our values, and a refusal to position our lives as part of a production/consumption framework.

Regards,
Francois Tremblay

February 11, 2009

Unlimited Economic Growth: What Is the Economy? was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.