Posts tagged currency
Glenn Jacobs spoke to a group regarding Austian Economics several months back in the video shown below which I had intended to share. Today I realize that despite the best of intentions and saving the video I had not yet posted the presentation by Glenn Jacobs, published by messengersforliberty, which I would encourage all to watch. Should you have the opportunity to attend a meeting featuring Glenn Jacobs as speaker I would recommend attending, as you will find him to be a highly personable and intelligent individual, and that you will find your time very well spent.
Austrian Economics with Glenn Jacobs
Published by messengersforliberty
This economic presentation with Glenn Jacobs, aka Kane, was documented on September 5, 2013.
“It really ticks me off when I hear leftists and statists talk about how the free market causes wealth inequality, the free market doesn’t. The free market though out history has allowed poor people to pull themselves up and has given people more socio economic ability to move up and down the socio economic ladder, up, than anything else in history.
Paul Krugman, who is a keynesian economist par excellence, just wants to inflate like crazy, but yet he writes a column for the New York Times and it’s called ‘Conscience of a Liberal’, because he loves poor people despite the fact that he’s the guy that’s killing them, but then he’ll look at someone like me and say you hate the poor. I don’t hate the poor, I hate the fact that they’re poor.”
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By Ron Paul
Federal Reserve Steals From the Poor and Gives to the Rich
Last Thursday the Senate Banking Committee held hearings on Janet Yellen’s nomination as Federal Reserve Board Chairman. As expected, Ms. Yellen indicated that she would continue the Fed’s “quantitative easing” (QE) polices, despite QE’s failure to improve the economy. Coincidentally, two days before the Yellen hearings, Andrew Huszar, an ex-Fed official, publicly apologized to the American people for his role in QE. Mr. Huszar called QE “the greatest backdoor Wall Street bailout of all time.”
As recently as five years ago, it would have been unheard of for a Wall Street insider and former Fed official to speak so bluntly about how the Fed acts as a reverse Robin Hood. But a quick glance at the latest unemployment numbers shows that QE is not benefiting the average American. It is increasingly obvious that the Fed’s post-2008 policies of bailouts, money printing, and bond buying benefited the big banks and the politically-connected investment firms. QE is such a blatant example of crony capitalism that it makes Solyndra look like a shining example of a pure free market!
It would be a mistake to think that QE is the first time the Fed’s policies have benefited the well-to-do at the expense of the average American. The Fed’s polices have always benefited crony capitalists and big spending politicians at the expense of the average American.
By manipulating the money supply and the interest rate, Federal Reserve polices create inflation and thereby erode the value of the currency. Since the Federal Reserve opened its doors one hundred years ago, the dollar has lost over 95 percent of its purchasing power —that’s right, today you need $23.70 to buy what one dollar bought in 1913!
As pointed out by the economists of the Austrian School, the creation of new money does not impact everyone equally. The well-connected benefit from inflation, as they receive the newly-created money first, before general price increases have spread through the economy. It is obvious, then, that middle- and working-class Americans are hardest hit by the rising level of prices.
Congress also benefits from the devaluation of the currency, as it allows them to increase welfare- and warfare-spending without directly taxing the people. Instead, the increase is only felt via the hidden “inflation tax.” I have often said that the inflation tax is one of the worst taxes because it is hidden and because it is regressive. Of course, there is a limit to how long the Fed can facilitate big government spending without causing an economic crisis.
Far from promoting a sound economy for all, the Federal Reserve is the main cause of the boom-and-bust economy, as well as the leading facilitator of big government and crony capitalism. Fortunately, in recent years more Americans have become aware of how the Fed is impacting their lives. These Americans have joined efforts to educate their fellow citizens on the dangers of the Federal Reserve and have joined efforts to bring transparency to the Federal Reserve by passing the Audit the Fed bill.
Auditing the Fed is an excellent first step toward restoring a monetary policy that works for the benefit of the American people, not the special interests. Another important step is to repeal legal tender laws that restrict the ability of the people to use the currency of their choice. This would allow Americans to protect themselves from the effects of the Fed’s polices. Auditing and ending the Fed, and allowing Americans to use the currency of their choice, must be a priority for anyone serious about restoring peace, prosperity, and liberty.
90 Years Ago: The End of German Hyperinflation
On 15 November 1923 decisive steps were taken to end the nightmare of hyperinflation in the Weimar Republic: The Reichsbank, the German central bank, stopped monetizing government debt, and a new means of exchange, the Rentenmark, was issued next to the Papermark (in German: Papiermark). These measures succeeded in halting hyperinflation, but the purchasing power of the Papermark was completely ruined. To understand how and why this could happen, one has to take a look at the time shortly before the outbreak of World War I.
Since 1871, the mark had been the official money in the Deutsches Reich. With the outbreak of World War I, the gold redeemability of the Reichsmark was suspended on 4 August 1914. The gold-backed Reichsmark (or “Goldmark,” as it was referred to from 1914) became the unbacked Papermark. Initially, the Reich financed its war outlays in large part through issuing debt. Total public debt rose from 5.2bn Papermark in 1914 to 105.3bn in 1918. In 1914, the quantity of Papermark was 5.9 billion, in 1918 it stood at 32.9 billion. From August 1914 to November 1918, wholesale prices in the Reich had risen 115 percent, and the purchasing power of the Papermark had fallen by more than half. In the same period, the exchange rate of the Papermark depreciated 84 percent against the US dollar.
The new Weimar Republic faced tremendous economic and political challenges. In 1920, industrial production was 61 percent of the level seen in 1913, and in 1923 it had fallen further to 54 percent. The land losses following the Versailles Treaty had weakened the Reich’s productive capacity substantially: the Reich lost around 13 percent of its former land mass, and around 10 percent of the German population was now living outside its borders. In addition, Germany had to make reparation payments. Most important, however, the new and fledgling democratic governments wanted to cater as best as possible to the wishes of their voters. As tax revenues were insufficient to finance these outlays, the Reichsbank started running the printing press.
From April 1920 to March 1921, the ratio of tax revenues to spending amounted to just 37 percent. Thereafter, the situation improved somewhat and in June 1922, taxes relative to total spending even reached 75 percent. Then things turned ugly. Toward the end of 1922, Germany was accused of having failed to deliver its reparation payments on time. To back their claim, French and Belgian troops invaded and occupied the Ruhrgebiet, the Reich’s industrial heartland, at the beginning of January 1923. The German government under chancellor Wilhelm Kuno called upon Ruhrgebiet workers to resist any orders from the invaders, promising the Reich would keep paying their wages. The Reichsbank began printing up new money by monetizing debt to keep the government liquid for making up tax-shortfalls and paying wages, social transfers, and subsidies.
From May 1923 on, the quantity of Papermark started spinning out of control. It rose from 8.610 billion in May to 17.340 billion in April, and further to 669.703 billion in August, reaching 400 quintillion (that is 400 x 1018) in November 1923. Wholesale prices skyrocketed to astronomical levels, rising by 1.813 percent from the end of 1919 to November 1923. At the end of World War I in 1918 you could have bought 500 billion eggs for the same money you would have to spend five years later for just one egg. Through November 1923, the price of the US dollar in terms of Papermark had risen by 8.912 percent. The Papermark had actually sunken to scrap value.
With the collapse of the currency, unemployment was on the rise. Since the end of the war, unemployment had remained fairly low — given that the Weimar governments had kept the economy going by vigorous deficit spending and money printing. At the end of 1919, the unemployment rate stood at 2.9 percent, in 1920 at 4.1 percent, 1921 at 1.6 percent and 1922 at 2.8 percent. With the dying of the Papermark, though, the unemployment rate reached 19.1 percent in October, 23.4 percent in November, and 28.2 percent in December. Hyperinflation had impoverished the great majority of the German population, especially the middle class. People suffered from food shortages and cold. Political extremism was on the rise.
The central problem for sorting out the monetary mess was the Reichsbank itself. The term of its president, Rudolf E. A. Havenstein, was for life, and he was literally unstoppable: under Havenstein, the Reichsbank kept issuing ever greater amounts of Papiermark for keeping the Reich financially afloat. Then, on 15 November 1923, the Reichsbank was made to stop monetizing government debt and issuing new money. At the same time, it was decided to make one trillion Papermark (a number with twelve zeros: 1,000,000,000,000) equal to one Rentenmark. On 20 November 1923, Havenstein died, all of a sudden, through a heart attack. That same day, Hjalmar Schacht, who would become Reichsbank president in December, took action and stabilized the Papermark against the US dollar: the Reichsbank, and through foreign exchange market interventions, made 4.2 trillion Papermark equal to one US Dollar. And as one trillion Papermark was equal to one Rentenmark, the exchange rate was 4.2 Rentenmark for one US dollar. This was exactly the exchange rate that had prevailed between the Reichsmark and the US dollar before World War I. The “miracle of the Rentenmark” marked the end of hyperinflation.
How could such a monetary disaster happen in a civilized and advanced society, leading to the total destruction of the currency? Many explanations have been put forward. It has been argued that, for instance, that reparation payments, chronic balance of payment deficits, and even the depreciation of the Papermark in the foreign exchange markets had actually caused the demise of the German currency. However, these explanations are not convincing, as the German economist Hans F. Sennholz explains: “[E]very mark was printed by Germans and issued by a central bank that was governed by Germans under a government that was purely German. It was German political parties, such as the Socialists, the Catholic Centre Party, and the Democrats, forming various coalition governments that were solely responsible for the policies they conducted. Of course, admission of responsibility for any calamity cannot be expected from any political party.” Indeed, the German hyperinflation was manmade, it was the result of a deliberate political decision to increase the quantity of money de facto without any limit.
What are the lessons to be learned from the German hyperinflation? The first lesson is that even a politically independent central bank does not provide a reliable protection against the destruction of (paper) money. The Reichsbank had been made politically independent as early as 1922; actually on behalf of the allied forces, as a service rendered in return for a temporary deferment of reparation payments. Still, the Reichsbank council decided for hyperinflating the currency. Seeing that the Reich had to increasingly rely on Reichsbank credit to stay afloat, the council of the Reichsbank decided to provide unlimited amounts of money in such an “existential political crisis.” Of course, the credit appetite of the Weimar politicians turned out to be unlimited.
The second lesson is that fiat paper money won’t work. Hjalmar Schacht, in his 1953 biography, noted: “The introduction of the banknote of state paper money was only possible as the state or the central bank promised to redeem the paper money note at any one time in gold. Ensuring the possibility for redeeming in gold at any one time must be the endeavor of all issuers of paper money.” Schacht’s words harbor a central economic insight: Unbacked paper money is political money and as such it is a disruptive element in a system of free markets. The representatives of the Austrian School of economics pointed this out a long time ago.
Paper money, produced “ex nihilo” and injected into the economy through bank credit, is not only chronically inflationary, it also causes malinvestment, “boom-and-bust” cycles, and brings about a situation of over-indebtedness. Once governments and banks in particular start faltering under their debt load and, as a result, the economy is in danger of contracting, the printing up of additional money appears all too easily to be a policy of choosing the lesser evil to escape the problems that have been caused by credit-produced paper money in the first place. Looking at the world today — in which many economies have been using credit-produced paper monies for decades and where debt loads are overwhelmingly high, the current challenges are in a sense quite similar to those prevailing in the Weimar Republic more than 90 years ago. Now as then, a reform of the monetary order is badly needed; and the sooner the challenge of monetary reform is taken on, the smaller will be the costs of adjustment.
About the Author:
Thorsten Polleit is chief economist of the precious-metals firm Degussa Goldhandel GmbH. He is also an honorary professor at the Frankfurt School of Finance & Management. He is an adjunct scholar of the Ludwig von Mises Institute and was awarded the 2012 O.P. Alford III Prize in Libertarian Scholarship. His website is www.Thorsten-Polleit.com. Send him mail.
Image credit: https://mises.org
Central Banks: The True Centers of Political Power
Mises Institute: Central banks keep increasing the money supply, and yet it looks like there’s still confidence in those fiat currencies.
Thorsten Polleit: Indeed. Policymakers obviously succeeded in taking panic out of the markets and, at the same time, creating the impression that their actions would “rescue” the economies without causing inflation. Their propaganda turns out to be rather successful.
MI: The strategy that the central banks have been using in recent years appears to be working so far.
Polleit: It clearly shows how far central banks’ manipulations can go to uphold the fiat money regime, which is actually a “monetary Ponzi game.” However, one should be aware of the fact that without severe market manipulations such as the suppressing of interest rates to basically zero, and the printing of new money for propping up ailing banks and governments, the fiat money system would presumably have collapsed already.
MI: So if the current strategy fails, what will happen?
Polleit: The critical issue is the demand for fiat money. If people are no longer willing to demand the rising supply of currency, the fiat money system starts unraveling. Treating devalued currency like a hot potato, people would try to exchange their fiat currency against non-fiat money assets. In this process, commodity prices would go up and the purchasing power of money go down. The extreme outcome of this process is hyperinflation: the heavy debasement or even an outright destruction of fiat money.
MI: Back in 2008 and 2009, there were fears of a wider collapse, but that never materialized. Why is this?
Polleit: I could imagine that back then many investors had ignored the fact that in an unfettered fiat money regime, central banks can provide governments and commercial banks with any amount of newly created fiat money, putting them in a position to service their debt in full. This is exactly what they did: “Default panic” was printed away by central banks. This was also the reason why the gold price fell from its all-time high of 1,900 US$ per ounce to currently around 1,300 US$ per ounce.
MI: So you still expect serious inflation?
Polleit: I sure do. Inflation will be one among other measures through which governments will try to get rid of excessive debt. You see, the fiat money regime has brought about a situation in which many borrowers — in particular governments and banks — are no longer in a position to pay down their debt. In other words: The damage has been done, the only question is: who is going to pay for it?
MI: So who is going to pay?
Polleit: Governments and banks will presumably employ higher taxation, confiscation, suspending payments on outstanding debt and, of course, inflation through money printing. One thing should be certain: holders of government and bank debt will be on the losing end. Either they will suffer from not getting back their money or from getting back just inflated money.
MI: The economies — be it the US, China, or even the Euro Zone — appear to be recovering at the moment and we’re told this means the crisis is over.
Polleit: The latest set of improving data is at best indicative of an artificial and eventually unsustainable economic process. It has actually been set into motion by highly distorted interest rates and a new round of fiat money injection. Malinvestment is on the rise again. It is just a question of time until this so-called “upswing” will turn into yet another “bust.” Fiat money creation has caused the malaise. Creating even more fiat money won’t solve the problems. It will make them even worse.
MI: What do you expect central banks to do going forward?
Polleit: Central banks have been captured by commercial and investment banking interests. I would assume that they will do more of the same: manipulating markets first and foremost by suppressing interest rates and printing new money to keep banks and the financial industry afloat.
With central banks running wild, we’ll be moving toward even more severe “boom-and-bust” cycles, even bigger government, less freedom and liberty, a distribution of income and wealth which is increasingly at odds with true market forces.
Central banks will become the real centers of political power. You could even say they are on the way to assuming the role of a “Politburo.” Central banks will effectively decide who is going to get credit at what conditions. They will decide which governments, which banks, and which kind of business sectors and companies will flourish or go under. The truth is that if the fiat money regime is not brought to an end — either by political will or by economic collapse — the economies will end up in a kind of socialist-totalitarian dead-end. But I tend to be optimistic: namely, that the fiat money scheme will break down before such a situation is reached.
MI: If not fiat money, then what?
Polleit: Gold is the ultimate means of payment. Everybody should own some gold. Under current conditions the gold price should be trading between $1,600 and $1,800 right now. At the same time, one would still need to earn an income stream, and by owning productive capital the investor may also protect himself to some extent from government interference: Even cold-blooded socialists know that the nationalization of the means of production means “killing the cow you would like to milk.” That said, owners of productive capital may suffer from higher profit taxation, but not outright expropriation.
About the Author:
Thorsten Polleit is chief economist of the precious-metals firm Degussa Goldhandel GmbH. He is also an honorary professor at the Frankfurt School of Finance & Management. He is an adjunct scholar of the Ludwig von Mises Institute and was awarded the 2012 O.P. Alford III Prize in Libertarian Scholarship. His website is www.Thorsten-Polleit.com. Send him mail.
Image credit: https://mises.org
9 Signs That China Is Making A Move Against The U.S. Dollar
On the global financial stage, China is playing chess while the U.S. is playing checkers, and the Chinese are now accelerating their long-term plan to dethrone the U.S. dollar. You see, the truth is that China does not plan to allow the U.S. financial system to dominate the world indefinitely. Right now, China is the number one exporter on the globe and China will have the largest economy on the planet at some point in the coming years. The Chinese would like to see global currency usage reflect this shift in global economic power. At the moment, most global trade is conducted in U.S. dollars and more than 60 percent of all global foreign exchange reserves are held in U.S. dollars. This gives the United States an enormous built-in advantage, but thanks to decades of incredibly bad decisions this advantage is starting to erode. And due to the recent political instability in Washington D.C., the Chinese sense vulnerability. China has begun to publicly mock the level of U.S. debt, Chinese officials have publicly threatened to stop buying any more U.S. debt, the Chinese have started to aggressively make currency swap agreements with other major global powers, and China has been accumulating unprecedented amounts of gold. All of these moves are setting up the moment in the future when China will completely pull the rug out from under the U.S. dollar.
Today, the U.S. financial system is the core of the global financial system. Because nearly everybody uses the U.S. dollar to buy oil and to trade with one another, this creates a tremendous demand for U.S. dollars around the planet. So other nations are generally very happy to take our dollars in exchange for oil, cheap plastic gadgets and other things that U.S. consumers “need”.
Major exporting nations accumulate huge piles of our dollars, but instead of just letting all of that money sit there, they often invest large portions of their currency reserves into U.S. Treasury bonds which can easily be liquidated if needed.
So if the U.S. financial system is the core of the global financial system, then U.S. debt is “the core of the core” as some people put it. U.S. Treasury bonds fuel the print, borrow, spend cycle that the global economy depends upon.
That is why a U.S. debt default would be such a big deal. A default would cause interest rates to skyrocket and the entire global economic system to go haywire.
Unfortunately for us, the U.S. debt spiral cannot go on indefinitely. Our debt is growing far, far more rapidly than our GDP is, and therefore our debt is completely and totally unsustainable.
The Chinese understand what is going on, and when the dust settles they plan to be the last ones standing. In the aftermath of a U.S. collapse, China anticipates having the largest economy on the planet, more gold than anyone else, and a respected international currency that the rest of the globe will be able to use to conduct international trade.
And China is not just going to sit back and wait for all of this to happen. In fact, they are already doing lots of things to get the ball moving. The following are 9 signs that China is making a move against the U.S. dollar…
#1 Chinese credit rating agency Dagong has downgraded U.S. debt from A to A- and has indicated that further downgrades are possible.
#2 China has just entered into a very large currency swap agreement with the eurozone that is considered a huge step toward establishing the yuan as a major world currency. This agreement will result in a lot less U.S. dollars being used in trade between China and Europe…
The swap deal will allow more trade and investment between the regions to be conducted in euros and yuan, without having to convert into another currency such as the U.S. dollar first, said Kathleen Brooks, a research director at FOREX.com.
“It’s a way of promoting European and Chinese trade, but not doing it with the U.S. dollar,” said Brooks. “It’s a bit like cutting out the middleman, all of a sudden there’s potentially no U.S. dollar risk.”
#3 Back in June, China signed a major currency swap agreement with the United Kingdom. This was another very important step toward internationalizing the yuan.
#4 China currently owns about 1.3 trillion dollars of U.S. debt, and this enormous exposure to U.S. debt is starting to become a major political issue within China.
#5 Mei Xinyu, Commerce Minister adviser to the Chinese government, warned this week that if the U.S. government ever does default that China may decide to completely stop buying U.S. Treasury bonds.
#6 According to Yahoo News, China has already been looking for ways to diversify away from the U.S. dollar…
There have been media reports this week that China’s State Administration of Foreign Exchange, the body that handles the country’s $3.66 trillion of foreign exchange reserve, is looking to diversify into real estate investments in Europe.
#7 Xinhua, the official news agency of China, called for a “de-Americanized world” this week, and also made the following statement about the political turmoil in Washington: “The cyclical stagnation in Washington for a viable bipartisan solution over a federal budget and an approval for raising debt ceiling has again left many nations’ tremendous dollar assets in jeopardy and the international community highly agonized.”
#8 Xinhua also said the following about the U.S. debt deal on Thursday: “[P]oliticians in Washington have done nothing substantial but postponing once again the final bankruptcy of global confidence in the U.S. financial system”. The commentary in the government-run publication also declared that the debt deal “was no more than prolonging the fuse of the U.S. debt bomb one inch longer.”
#9 China is the largest producer of gold in the world, and it has also been importing an absolutely massive amount of gold from other nations. But instead of slowing down, the Chinese appear to be accelerating their gold buying. In fact, money manager Stephen Leeb says that his sources are telling him that China plans to buy another 5,000 tons of gold. There are many that are convinced that China eventually plans to back the yuan with gold and try to make it the number one alternative to the U.S. dollar.
So exactly what would happen if the Chinese announced someday that they were going to back their currency with gold and would no longer be using the U.S. dollar in international trade?
It would change the face of the global economy almost overnight. In a previous article, I described some of the things that we could expect to see happen…
If China does decide to back the yuan with gold and no longer use the U.S. dollar in international trade, it will have devastating effects on the U.S. economy. Demand for the U.S. dollar and U.S. debt would drop like a rock, and prices on the things that we buy every day would soar. At that point you could forget about cheap gasoline or cheap Chinese imports. Our entire way of life depends on the U.S. dollar being the primary reserve currency of the world and being able to import things very inexpensively. If the rest of the world (led by China) starts to reject the U.S. dollar, it would result in a massive tsunami of currency coming back to our shores and a very painful adjustment in our standard of living. Today, most U.S. currency is actually used outside of the United States. If someday that changes and we are no longer able to export our inflation that is going to mean big trouble for us.
The fact that we get to print up giant mountains of money and virtually everyone around the world uses it has been a huge boon for the U.S. economy.
When that changes, the word “catastrophic” is not going to be nearly strong enough to describe what is going to happen.
According to a Rasmussen Reports survey that was released this week, only 13 percent of all Americans believe that the country is on the right track. But the truth is that these are the good times. The American people haven’t seen anything yet.
Someday people will look back and desperately wish that they could go back to the “good old days” of 2012 and 2013. This is about as good as things are going to get, and it is only downhill from here.
Image credit: http://theeconomiccollapseblog.com
With all the fancy security features on the new $100 Bill….
….not one can stop the biggest counterfeiter on the face of the Earth!
Take a look at the list of security measures on the new $100 bill:
- Blue 3-D Security Ribbon
- Raised Printing
- Serial Numbers
- Bell Hiding in an Inkwell
- Portrait Watermark
- Security Thread
- New Color
- American Symbols of Freedom
- Federal Reserve Bank Indicator
- Printing Locator
Sadly, it’s missing one HUGE feature:
It’s not helicopter proof.
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Image credit: http://www.economicpolicyjournal.com
Illogic in Fractional Reserve Banking
If there was one business venture the leftist and forgotten “Occupy” movement was right to distrust, it was the banking industry. In the wake of the 2008 financial crisis and subsequent bailing out of the world’s financial system by fascist states, taxpayers – especially the progressive types – were correct to feel amiss. But rather than take a scrutinizing look into the privilege afforded to the banking class, the outraged took to political action in the callow hope of correcting a wrong.
Like any popular uprising, the goal was quickly smothered in favor of further rent-seeking. Instead of aiming consternation at the incestuous relationship between government and the money-changers, occupiers wanted the quick-fix of redistribution. The cries of “this is what democracy looks like” might as well have been “this is what panhandling looks like.” Centralized banking went unquestioned. The nature of fractional reserve practices was ignored – or likely not understood by the pea-brained philosophers. Still, the radical levellers who set-up camp in Zuccotti Park were on to something by asking why their precious public officials voted to shore up the balance sheets of a disproportionately small member caste.
Banking is, to put it bluntly, a strange and unique business. The industry is centuries-old, and the legality of its operations has been questionable since inception. I am referring specifically to the practice of bankers lending out claimed reserves – a contentious issue among libertarian theorists. If the larger public were to become privy to this business model, it may spark a troubling curiosity in the less-moneyed class. But then again, this author never ceases to be amazed by the bounds of common apathy.
In banking, certain legal doctrines have guided the trade since antiquity, including the nature of contracts. The violation of these distinct forms of lawful guarantees once carried the weight of justice. But no longer; as the deliberately obscuring practice of loaning out deposits meant to be available on-demand has created such instability in the banking system, the incessant teetering on the cliff of insolvency remains an ever viable threat to economic tranquility.
Libertarians – specifically those schooled in the Austrian, causal-realist tradition of economics – are intellectually miles ahead of the Occupy folks when it comes to the study of currency. And while the students of Mises and Hayek are fervently opposed to any central bank management, there remains a sharp divide on the ethics of fractional reserve banking. In a recent missive in the Freeman, economist Malavika Nair questions the Rothbardian ethic that finds the practice of banks creating credit out of thin air fraudulent. The piece, which deconstructs the dean of the Austrian school’s original argument, frames banking away from the supposed cut-and-dry thinking model of anti-fractionalists.
Nair begins with a false choice by asking: “Would fractional reserve banking exist in a world without a central bank? Put another way: Is fractional reserve banking inherently fraudulent?” These statements are not one in the same; they reference two separate conditions. Absent central banking, unbacked credit expansion could still exist. Back in mid-to-late 19th century America where the Federal Reserve was still a twinkle in the centralizers’ eyes, fractional reserve banking and pyramiding credit were common practice. The question at hand is whether such business is based on a fraudulent understanding of the nature of goods.
Nair finds issue with the essence of contracts and how they relate to the duty of those individuals entrusted with safeguarding money. The contract – an extension of humanity’s self-ownership and free will – has been a recognized covenant enforceable by compulsion for as long as man first conceived of himself as an autonomous being. It finds legitimacy in the human understanding of bonds and keeping one’s word. The evolution of common law has dictated that any activity stipulated in a compact cannot entail unlawful activity. To enforce an illegal activity would thereby be a crime in itself – an ipso facto contradiction in reason.
The contract is key for banking operations. Nair argues that bank functions, both deposit and lending, are plainly justifiable; the discrepancy arises in the manner that customer funds are utilized. Currently, bankers freely lend out money that is available on command by both the borrower and depositor. In practice, this is the creation of two goods from one ex nihilo. In a totally isolated instance where a bank were to service only two patrons, the act of creating what Mises called “fiduciary media” would appear as the very perversion of intuitive law it embodies. It would simply come off as no more than a violation of the known rules of the world.
Nair counters by asserting that a “claim to money is not the same thing as the money itself.” This is a confusing affirmation as antagonists to fractional reserve banking hardly make that claim. The point of contention is that promissory notes for bank deposits represent real money, though they may circulate as mediums of exchange and fulfill the role of currency. Should two or more of these “I owe you” certificates be created to represent one unit of bank reserves available on-demand, there is a direct and unquestionable inconsistency. It is certainly true, as Nair points out, that the fungible quality of money dictates it be treated differently than non-substitutable goods. However, the fact that cash is interchangeable does not dismiss its limited character.
If the principle of unbacked expansion of credit were applied to other industries such as automobiles or condominiums, titles to the same good could theoretically be multiplied, but not without controversy. Having two titles for one car is not based on logic or a firm understanding of universal law. You simply cannot create real, definite material by declaration. Nair asserts that this is not true when it comes to the market of money. In his words, the over-issuing of redeemable bank notes “does not mean one thing is in two places at the same time” but that “two different things are in two places at the same time.” This is only so much sophistry, as the claims to bank reserves are still representative of real goods. There may be multiple slips of paper representing one unit of money-proper floating around in the economy, but that does not dismiss the plain and true fact that there are more claims than what is available.
As economist Jesús Huerta de Soto documents in his tour de force Money, Bank Credit, and Economic Cycles, government has played a leading role in fostering this banking fraud for centuries. The state is forever on the search for more resources to carry out its bidding. Cooperation with the leading money-lending institutions was an obvious route for subverting the moral means to wealth creation. Since the days of classical Greece, it was well understood that transactions of present goods fundamentally differed from those involving future goods. In practical terms, deposits for safekeeping were of considerable difference to those made for the strict purpose of lending out and garnering a return. Bankers who misappropriated funds were often found guilty of fraud and forced to pay restitution. In one recorded episode, ancient Grecian legal scholar Isocrates lambasted Athenian banker Passio for reneging on a client’s depository claim. After being entrusted to hold a select amount of money, the sly banker loaned out a portion of the funds in the hopes of earning a profit. When asked to make due on the deposit, the timid Passio pleaded to his accuser to keep the transgression “a secret so it would not be discovered he had committed fraud.”
The underlying chicanery behind fractional reserve banking has existed since the days of Plato. Modern technology has not negated the rationale used to discover and affirm natural law. Binary codes on a computer screen do not create a new reality. The governing doctrines of humanity are, in de Soto’s words, “unchanging and inherent in the logic of human relationships.” While fractional reserve banking could exist in a free market environment and regulate itself through vigorous competition, that theoretical scenario does not prove the entire fulcrum of the business rests on solid ground.
The truth remains, and will always remain, that an organic product is not replicable through any kind of witch doctoring. A thing is a thing is a thing. Any money substitute that represents a real piece of fungible currency cannot pertain to that which is not in existence. Such is the lawful understanding that goes back to the time preceding the Hellenisitc period.
Malavika Nair offers an interesting argument by trying to justify the practice of creating something out of nothing; but it ultimately fails. The free lunch of artificial credit creation is nothing more than slipping out of the baker’s shop without paying. It would have served the Occupy crowd well to have recognized this shaky foundation upon which the modern financial system rests. Perhaps their message of widespread corruption would have been better received – at least more so than by creating shanty towns and defecating on the street. Instead, we were gifted with a muddled and confused political message made by an irate minority who hadn’t a clue of the forces that govern their own lives.
James E. Miller is editor-in-chief of the Ludwig von Mises Institute of Canada. Send him mail
Image credit: http://mises.ca
Posted by Robert Wenzel
The Yin and Yang of Government Power
One of the areas where government would like to have absolute control is in the area of money creation. By having control of money creation, the government can, of course, control a monetary spigot that allows it to spend well beyond its ability to the raise funds via taxation and borrowing.
That said, it is instructive to understand the many ways the free market is attempting to circumvent government monopoly of money control. It is an object lesson in understanding that government is not all powerful and that there is a yin and yang to government power. At times, there can be a major jump in government power in a sector, but, over time, a counter response from the free market can occur that is difficult for the government to understand and defeat. Below is an important TED talk delivered by Paul Kemp-Robertson. He discusses the many points of free market responses to government money. He is a little weak in understanding completely how and why these currencies are emerging and doesn’t seem to understand their emergence in relation to Ludwig von Mises’ Regression Theorem, but it is a solid tour of the early-stage free market counter punch to government money.
Taken with a wide spectrum view, it is a great sign of hope that shows how free markets can emerge to counter government power.
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The Rational Market Myth
armageddon without nukes
Paul Craig Roberts
One of the myths of economics is that markets are rational. Theories are based on this assumption, and the belief that markets are rational fuels the argument against regulation. The market response to the Federal Reserve’s June 19 statement that it will taper off its bond purchases if its forecast comes true is unequivocal proof that markets are irrational.
The Federal Reserve’s statement that it “currently anticipates that it would be appropriate to moderate the monthly pace of purchases [of bonds] later this year” depends on a very big if. The if is the correctness of the Fed’s forecast of moderate economic growth and employment gains.
The Fed has not stopped purchasing $85 billion of bonds each month. So nothing real has changed. Indeed, there was no new information in the Fed’s statement. It has been known for some time that, according to the Fed, its bond purchases will gradually cease.
In response to this repeat of old information, the stock and bond markets sold off in a major way on June 19-20. This market response to the Fed’s statement indicates that the Fed’s forecast is unlikely to come true. Low interest rates and a high stock market are totally dependent on the liquidity that the Fed is injecting by printing $1,000 billion per year. If this liquidity is not injected, what will sustain the markets? If the markets crash and interest rates rise, how can the Fed expect recovery?
In other words, the participants in the stock and bond markets know that the markets are bubbles created by the printing press. There is no real basis for the high stock and bond prices. The prices are an artificial reality created by the printing press. Rational markets would take into account the printing press element and would price stocks and bonds at a much lower level.
Zero real interest rates mean that there are no risks. But how can there be no risk in Treasury bonds when the debt is growing faster than the economy?
Normally, high stock values mean strong profits from strong consumer income growth and retail sales. But we know that there is no growth in real median family income and real retail sales.
I suspect that the reason the Fed made the announcement, which seems to be derailing the Fed’s forecast of recovery on which the announcement depends, is to relieve pressure on the US dollar. For several years the Fed has been printing 1,000 billion new dollars each year. There is no demand for these dollars. So far these dollars have inflated stock and bond prices instead of consumer prices. But the implication for the dollar’s price or exchange value in currency markets is clear. The supply is increasing faster than the demand. If the dollar falters, the Fed would lose control. Rising import prices would soon drive domestic inflation and interest rates far higher than the Fed’s targets.
Washington has succeeded in getting Japan and the EU to print yen and euros in order to eliminate the likelihood of flight to other large currency alternatives to the dollar. Smaller countries have also had to print in order to protect their export markets. With so many countries printing money, the Fed’s statement implying that the US might stop printing makes the dollar look good, and, indeed, the dollar rose on the currency exchange markets.
Having neutralized the alternative currency threat to the dollar, the Fed and its agents, the bullion banks, the banks too big to fail, are still at work against the gold and silver threats to the dollar. Massive short selling of gold began at the beginning of April. Again on June 20 massive shorts of gold were sold at a time of day chosen to maximize the price decline. Only those who intend to drive down the price would sell in this way.
Since QE began, the Fed has deprived retirees of interest income and has forced retirees to spend down their capital in order to pay living expenses. Judging from the initial market response, the Fed’s latest policy announcement is adversely impacting bond, stock and real estate investors, and the manipulation of the bullion markets continues to wreak destruction on wealth stored in the only known safe haven.
How can a recovery happen when the Fed is destroying wealth?
The Fed’s irrational behavior could be seen as rational if the assumption is that the Fed’s intent is not to save the economy but to save the banks. As the Fed is committed to saving the banks “too big to fail,” it is likely that the banks know of the Fed’s announcements in advance. With inside information, the banks know precisely when to short the stock, bond, and bullion markets. The banks make billions from the inside information. The billions made help to restore the banks’ balance sheets.
Guy Lawson’s book, Octopus (2012), shows that front-running on the basis of inside information has always been the source of financial fortunes. In order to save the banks, the Fed now supplies the inside information.
How is this going to play out? I suspect that the recovery, although officially a weak one, does not really exist. However, thanks to statistical artifacts that understate inflation and unemployment and overstate GDP growth, the Fed and the markets think that a recovery of sorts is in process and that the unprecedented money printing by the Fed will succeed in shifting the economy into high gear.
No such thing is likely to happen. Instead, as 2013 progresses, a further downturn will become visible through the orchestrated statistics. This time the Fed will have to get the printed money past the banks and into the economy, and inflation will explode. The dollar will collapse, and import prices–as globalism has turned the US into an import-dependent economy–will turn high inflation into hyperinflation. Disruptions in food and energy deliveries will become widespread, and a depreciated currency will cease to be used as a means of exchange.
I wouldn’t bet my life on this prediction, but I think it is as likely as the Fed’s prediction of a full recovery that allows the Fed to terminate its bond purchases and money printing by June 2014.
Americans, who have been on top of the world since the late 1940s, are not prepared for the adjustments that they are likely to have to make. And neither is their government.
Reprinted with permission from www.paulcraigroberts.org
About Dr. Paul Craig Roberts
Paul Craig Roberts was Assistant Secretary of the Treasury for Economic Policy and associate editor of the Wall Street Journal. He was columnist for Business Week, Scripps Howard News Service, and Creators Syndicate. He has had many university appointments. His internet columns have attracted a worldwide following. His latest book, The Failure of Laissez Faire Capitalism and Economic Dissolution of the West is now available.
I’ve posted before on the purchasing power of the silver quarter from 1964. Here’s an interesting item The Internet cooked up recently:
Here’s the breakdown:
The minimum wage in 1964 was raised to $1.15 in September; pretty close to the five quarters. The exact exchange would be four quarters and one and a half dimes, which today (March 4, 2013) equals $23.81, or more than three times the current federal minimum wage of $7.25.
Interestingly enough, those coins contain 0.83 oz. of silver (along with some copper), which is equal to $23.78; pretty close to the $23.81 above.
The same $1.15 of goods in 1964 would cost a consumer $8.54 today, an increase of more than 700 percent. So in order to provide the same purchasing power the minimum wage would have to be closer to fifty bucks an hour.
Something else to consider is that roughly 1/4 of the minimum wage at the time would buy a gallon of gas ($0.30/ gallon). Today it takes closer to 1/2 of the minimum wage to buy a gallon ($3.74/ gallon).
Of course the answer is not to raise the minimum wage, but instead to put an end to central bank money creation and allow competition in currency.