Archive for October, 2012
When insiders sell stock, that’s usually a strong sell signal for everyone else. As I mentioned in a previous post, many of Facebook’s early investors cashed out rather than hang onto their shares, and the stock price plummeted from the IPO price of $38 (at one point the share price had risen to $45) to close at $21.94 on Friday. In after-hours trading, Facebook (ticker symbol FB) traded down another 1.33% to $21.65. Trading was closed Monday and Tuesday due to Hurricane Sandy, but trading reopens today.
After trading hours on Friday, October 26, several senior Facebook officers made required filings of 4s forms to the SEC reporting that on October 25, they converted their newly unlocked restricted shares from Class B common shares, which get ten votes, to Class A common shares which only get one vote. Unlike the Class B shares, the Class A shares can be traded in the public market. In fact, the only reason to give up the ten times voting rich Class B shares for Class A shares is to ready yourself to sell the shares, since Facebook offers no economic value when the exchange is made. In other words, as soon as their shares were unlocked, Facebook’s officers got them ready for sale in the open market.
That’s not a surprise, right? After all, when the rats start abandoning the ship, one is usually wise to look for the lifeboats and life jackets lest you find the water rising around your ankles.
The bigger problem Facebook has is the intrusion issue. Janet noted something that I’ve noticed as well on my page in the last couple of weeks — the company has ramped up it’s abuse of users in the form of “liking things.”
That is, suddenly my top-level page has all sorts of product and service “touts” that I don’t think people intentionally posted there. But it sure looks like it from a casual glance. This, incidentally, led me to update my status warning people that I’d be more than happy to prune those who are “friends” and both have and will continue to do so.
The funny thing about this is that FacePalm seems to think that they’re the “creator of value” with such stunts. They’re wrong. Like so many other allegedly “value-creating” enterprises on The Internet the mistake they make is thinking they can appropriate the actions of their users and sell them on a forward basis without eventually pissing people off.
That has never proved to work in the history of The Internet and it won’t this time either.
I maintain my view that Facebook is ultimately a zero; it’s cost of operation will exceed its revenue eventually, and when it does it will simply bleed out until the carcass is washed into the drain of history, much as happend with Myspace.
Disclosure: I own PUTs.
Over the weekend, Facebook took down a message by the Special Operations Speaks PAC (SOS) which highlighted the fact that Obama denied backup to the forces being overrun in Benghazi.
The message was contained in a meme which demonstrated how Obama had relied on the SEALS when he was ready to let them get Osama bin Laden, and how he had turned around and denied them when they called for backup on Sept 11.
I spoke with Larry Ward, president of Political Media, Inc — the media company that handles SOS postings and media production. Ward was the one who personally put the Navy SEAL meme up, and the one who received the warning from Facebook and an eventual 24 hour suspension from Facebook because Ward put the meme back up after Facebook told him to take it down.
Here’s what Ward told me:
We created and posted this meme on Saturday after news broke that Obama had known and denied SEALS the backup they requested.
Once the meme was up it garnered 30,000 shares, approx. 24,000 likes, and was read by hundreds of thousands of people — all within 24 hrs. On Sunday, I went into the SOS Facebook page to post something else and found a warning from Facebook that we had violated Facebook’s Statement of Rights and Responsibilities with our meme. So I copied the warning, put it on the meme as as caption, and re-posted the meme to the Facebook page.
Along with the re-posted meme, Ward put a link to the Facebook “feedback comment” inbox so visitors to the SOS page could send a message to Facebook if they were as outraged over the meme being jerked down as he was.
Ward said Facebook pulled the re-posted meme down within 7 or 8 hours and suspended the SOS account for 24 hours.
In other words, Facebook put the Navy SEALS in timeout in order to shield Obama.
How low can you go?
Authored by Charles Hugh-Smith via Peak Prosperity,
With the US elections approaching next week, as well as the threat of another fiscal cliff showdown looming, we asked contributing editor Charles Hugh Smith to revisit his earlier work on how the expansive Central State has come to dominate both private society (i.e., the community) and the marketplace, to the detriment of the nation’s social and economic stability. In this updated installment, we will examine six critical dynamics that will lead to the devolution of Peak Government.
In a misguided attempt to maintain an unsustainable Status Quo, the Federal government is borrowing unprecedented amounts of money that then must be serviced. And the Federal Reserve is expanding its balance sheet by trillions of dollars (“printing money”) and intervening in stock, bond, and other markets for the purposes of managing perception (“the recovery is here!”)
These government funds are not just paying the government’s bills – they are being used to guarantee loans and mortgages that subsequently enter default, transferring what was private debt to the public and subsidizing politically powerful special interests.
Guarantees and subsidies both incentivize what is known as moral hazard: the separation of risk from consequence. This can be summarized very simply. People who are not exposed to risk act completely differently than those who are exposed to risk. When risk has been transferred to the taxpayers by guarantees, give-aways, and subsidies, then speculation and mal-investment are incentivized. If the bet pays off, I get to keep the gain, but if it loses, then I personally lose nothing, as the loss is transferred to the taxpayers.
The net result of these policies – borrowing immense sums to prop up an unsustainable Status Quo and institutionalizing moral hazard – leads to misallocation of scarce capital on a grand scale. In effect, the money borrowed by the federal government and electronically printed by the Federal Reserve is mal-invested, because those receiving the funding are personally not at risk and face no consequence if the money is squandered on speculation or unproductive programs. Once moral hazard has been institutionalized, it becomes a positive feedback loop. Since everyone in the system faces little personal consequence from mal-investment, the institution loses the ability to police itself.
Even worse, concentrations of private wealth readily influence public institutions via lobbying and political contributions, exacerbating moral hazard and mal-investment of the publicly borrowed money.
Erosion of Trust in Government
Mal-investment inevitably yields poor results, and just as inevitably, the government seeks to mask the dismal results of moral-hazard riddled policies and agencies. This “perception management” is driven by political expediency, as public outrage at failed policies and unproductive spending would eventually lead to a political price being paid by the leadership. So failed policies are declared great successes, negative data is massaged into positive data, and unflattering frauds involving public funds are buried or transformed into pseudo-realities.
This institutionalization of mal-investing borrowed funds and the politically expedient falsification of fact to manage perceptions have a destabilizing consequence: The public loses faith in public institutions.
Diminishing Returns on Public Debt
Massive borrowing also has a consequence. Interest on the immense sums being borrowed squeezes out other government spending.
This triggers two self-reinforcing feedbacks. Public spending that is not rewarding moral hazard is cut, as those in charge protect their perquisites, and taxes on what’s left of the productive economy increase, reducing the private investment that is the bedrock of capitalist growth and innovation.
This institutionalized mal-investment leads to diminishing return. Where each dollar of additional public debt generated nearly a dollar of additional GDP in the early 1960s, now borrowing a dollar generates negative growth, as the cost of servicing the debt exceeds the meager yield. Thus the Federal government borrowed and spent a staggering $6 trillion in a mere four years (2008-2011), while the GDP has yet to return to 2007 levels when measured in real (inflation-adjusted) dollars.
All these forces reinforce each other in a death spiral. As trillions more are borrowed, interest payments crowd out spending, causing the Central State to borrow even more, which generates even more interest costs, and so on. As moral hazard infects the entire government and its numerous private contractors and beneficiaries, there are few constraints on rising public debt and mal-investment of public funds. As trust in institutions that increasingly depend on perception management rather than real solutions declines, public faith in government deteriorates further.
The Hidden Tax of Inflation and the Institutionalization of Falsification
The government has one trick to create the illusion that it is “keeping its promises.” It prints money to meet its obligations, depreciating the nation’s currency by expanding the money supply. Creating money out of thin air does not create wealth, productive assets, or prosperity. What it does is lower the purchasing power of money, which we call inflation.
Inflation robs every holder of the currency and is effectively a form of government-sanctioned theft, or if you prefer, a hidden tax on productivity, as productive people and enterprises are taxed to support crony-capitalist, unproductive mal-investments and the rising interest on public debt. In effect, inflation is a way of transferring wealth from the productive to the unproductive, which then leaves the productive with less capital to invest in innovation. This starves the economy of capital while robbing purchasing power of every citizen, establishing a positive feedback loop of lower income, lower capital formation, and lower productivity.
Since the government has obligated itself to adjust Social Security payments to inflation, the culture of understating inflation (i.e., falsifying data) has been institutionalized, for the Central State has the impossible dual mandate of increasing inflation so that it can meet its obligations with cheaper money while keeping the inflation-indexed cost-of-living adjustments low, lest program costs balloon out of control.
A “modest” rate of 3% inflation will, in a decade’s time, reduce the purchasing power of stagnating paychecks by a third, while setting the “official” rate of inflation at 2% or less will inexorably reduce the purchasing power of Social Security payments.
If the rate of inflation was to rise at a rate similar to that of the late 1970s, i.e., 10% to 12% per year, while the “official” rate was held to half the real rate, all those whose incomes did not rise by 10% a year would be impoverished as the purchasing power of their incomes evaporated. Meanwhile, even as its policies impoverish most of its citizens, the Central State would assure everyone that it was meeting all of its obligations as promised. This is how trust in government is not just eroded but ultimately destroyed.
Self-Reinforcing Feedback Loops of Self-Interest
Government at all levels responds to shrinking tax revenues from a declining economy and budgets squeezed by higher interest payments by seeking additional revenues by whatever means are at hand. Tax rates are raised, junk fees are imposed, fees for minor infractions are jacked up, and deductions and exclusions are eliminated.
The public that does not work for the government (that would be five-sixths of the workforce) increasingly resents what it perceives as predatory extortion in an economy where everyone’s disposable income is falling.
Unfortunately, there is a great divide between those who work (or worked) for the government and those who work in the private sector. Those in government service understandably view the promises made to them in good times, eras that we now understand were brief speculative bubbles, as sacrosanct.
The promises were based on the abnormally high returns earned by pension funds in the brief windows of speculative frenzy, and even supposedly conservative pension funds based their projections on annual yields of 6% to 8%. As the Federal Reserve has attempted to reignite borrowing by lowering interest rates to near-zero, low-risk yields have fallen to 3%, less than half the expected returns.
As a result, there is a massive and sustained shortfall of public-employee pension funding, a shortfall that must be paid out of general tax revenues at a time when those revenues are declining as employment and business activity stagnate.
The net result in many communities is that schools and other local services are falling apart as budgets are slashed to meet skyrocketing pension obligations. From the point of view of parents, the pension promises that government employees hold as sacrosanct were unrealistic, and what should be sacrosanct (but is not) is the education of their children.
Those of us in the private workforce with spouses, relatives, and friends in government service understand the frustration of those who work for government, but should the self-interest of the few dominate the public budget and chart the course for the many?
The key difference is that the government holds the power of coercion and the citizens do not. Thus those in government who seek to serve the interests of their unions, colleagues, departments, and agencies can impose fees and taxes on all citizens to fund their own perquisites and power.
From the point of view of those inside government, sharply rising parking tickets, higher property taxes, and so on are small prices to pay for essential services. But as citizens observe government services degrading even as fees and taxes increase, they see little value being added, even as self-service and moral hazard remain in institutionalized abundance.
Two destructive feedback loops are generated by this divide: Governments, desperate for more revenues, ignore public resentment and loss of trust, which only deepens the disconnect between those in government and the public. And the private citizenry sees a lack of accountability, soaring public debt, accounting trickery, political dysfunction, and mal-investment of public funds as the hallmarks of their government.
In Part II: Understanding the Economic Impact of Peak Government, we explore how these self-reinforcing feedbacks lead to the devolution and eventual collapse of government institutions. In particular, we analyze what the likely economic fallout will be, as there is simply not enough purchasing power to distribute between those in power and the needs of the general populace.
Thorpe at the 1912 Summer Olympics
Directed by Tom Weidlinger (2009, 86 min. USA) Jim Thorpe, The Worlds Greatest Athlete is a biography of the Native American athlete who became a sports icon in the first half of the 20th century. Beginning with Thorpes boyhood in Indian territory it chronicles his rise to athletic stardom at the Carlisle Indian Industrial School, winning two gold medals at the 1912 Summer Olympics, his fall from grace in the eyes of the amateur athletic establishment, and his rebound in professional baseball and football.
Thorpe retired from pro sports at age 41 just before the stock market crash of 29. He worked as a construction laborer before getting work in Hollywood as a bit part player. He became a representative for Indian extras in Hollywood, fighting for equal pay for Native Americans in the movies. In the 1940s he crisscrossed the nation as a public speaker advocating for Indian self-determination. Jim Thorpe, The Worlds Greatest Athlete is the first feature length documentary to be made about the man. It appeals to sports buffs as well as those interested in Native American issues, especially the tension between assimilation into white society and forging a separate Indian identity in the 20th century.
The film will be playing at the 2009 Rhode Island International Film Festival. on August 6th at the Columbus Theater. 3:15PM Showtime. For more Information on tickets, you can go to: www.rifilmfest.org
by Elaine Supkis
Fall storms on my mountain. The natural gold of the oak trees is more valuable than metals of any sort.
‘Utopia’ is a concept and a word invented by one of the greatest philosophers of late Medieval England, Thomas More. He was, as we all know well, Thomas More was beheaded by a mad king, Henry VIII who then went on a murderous career killing or divorcing a succession of unhappy wives. Henry VIII also seized all joint English church properties and ‘privatized’ them giving what were abbeys and convents to himself and his greedy followers.
Oddly enough, the British are celebrating the exploits and sexual hee-haws of the fictional descendants of one such ‘abbey’ in the popular show, Downton Abbey on PBS. The accumulated wealth of the surrounding community mainly raised by tithing peasants at a 10% tax rate was put into these massive religious houses which held entire communities of mainly priests and nuns of peasant stock with the leaders being rich Normans, of course.
This was summarily seized and handed over with out a by-your-leave or refund of these 500-1,000 year taxes on the peasants. It took the elites another 500 years to drain all the wealth out of these places. Worse, the taxes on the peasants didn’t disappear when this theft was engineered, it actually went up and flowed to the Crown and its extremely obese wife killer at the top.
Thomas More was very concerned about runaway power and how corruption caused by money manipulation was destroying the peasants who supported the church system so generously, even though this was not by choice but by law. Here is a highly relevant series of paragraphs from his famous book, Utopia by Thomas More:
I would gladly hear any man compare the justice that is among them with that of all other nations; among whom, may I perish, if I see anything that looks either like justice or equity: for what justice is there in this, that a nobleman, a goldsmith, a banker, or any other man, that either does nothing at all, or at best is employed in things that are of no use to the public, should live in great luxury and splendor, upon what is so ill acquired; and a mean man, a carter, a smith, or a ploughman, that works harder even than the beasts themselves, and is employed in labors so necessary, that no commonwealth could hold out a year without them, can only earn so poor a livelihood, and must lead so miserable a life, that the condition of the beasts is much better than theirs?
We have a criminal justice system that has fallen apart. It goes after petty criminals with all the majesty and force major of the State but the laws themselves have been redesigned and rewritten to legalize criminal banking scams that have virtually destroyed our economy recently. The Derivatives Beast is not a sensible thing, it is a creation of the rich bankers who destroyed regulations that forced banks to have real capital as a basis for granting loans.
So, what they did that caused this massive global crash was perfectly legal as is tax evasion. Romney got away with paying far less percent in taxes than the average middle class worker, for example. He lures the commoners into thinking tax cuts will make them multimillionaires when tax evasion is rapidly shifting the burden of government debt onto the backs of the middle class, killing it.
For as the beasts do not work so constantly, so they feed almost as well, and with more pleasure; and have no anxiety about what is to come, whilst these men are depressed by a barren and fruitless employment, and tormented with the apprehensions of want in their old age; since that which they get by their daily labor does but maintain them at present, and is consumed as fast as it comes in, there is no overplus left to lay up for old age.
Reagan bowed to the desire of Congress to lay aside a Social Security trust fund. Then, he cynically passed tax cuts that enriched the rich who pay virtually nothing into SS while real time taxes on the middle and lower classes shot upwards. The middle class then sided mainly with the GOP for more tax cuts because of the doubling of SS taxes and this was just fine with the rich who generously granted themselves, paying nothing higher in SS taxes, to cut their own taxes outrageously.
Then, the rich sponsored one Congress after another that gleefully spent the entire SS trust fund as it ran deliberately and constantly in the red. Now we are being told we can’t retire until 70 years old! If you do heavy physical labor, you are sincerely doomed to an early grave.
Is not that government both unjust and ungrateful, that is so prodigal of its favors to those that are called gentlemen, or goldsmiths, or such others who are idle, or live either by flattery, or by contriving the arts of vain pleasure; and on the other hand, takes no care of those of a meaner sort, such as ploughmen, colliers, and smiths, without whom it could not subsist?
Today, top artists, performers, jugglers, entertainers, sports heroes, bankers, offshore wealth hoarders, lottery winners, military industrial giants, etc. are all richly rewarded even if their actual efforts are relatively small. The lower working class has been nearly entirely cut off from the flow of wealth.
The transportation of cheaper foreign labor or moving labor overseas and importing the production in order to eliminate jobs for the lower classes is a disrupting social force which invariably leads to revolution and mass destruction of entire regions. It doesn’t make a stronger empire at all.
But after the public has reaped all the advantage of their service, and they come to be oppressed with age, sickness, and want, all their labors and the good they have done is forgotten; and all the recompense given them is that they are left to die in great misery.
The richer sort are often endeavoring to bring the hire of laborers lower, not only by their fraudulent practices, but by the laws which they procure to be made to that effect; so that though it is a thing most unjust in itself, to give such small rewards to those who deserve so well of the public, yet they have given those hardships the name and color of justice, by procuring laws to be made for regulating them.
See? This is nothing new. We are in a cycle of misery which History has turned repeatedly. The destruction of the economic power of workers to gain some profit from their joint labor is legalized and protected by the State which then sees very rich guys running for office while sneering about cutting rations to the ’47%’ that is viewed as excess human cattle.
Therefore I must say that, as I hope for mercy, I can have no other notion of all the other governments that I see or know, than that they are a conspiracy of the rich, who on pretence of managing the public only pursue their private ends, and devise all the ways and arts they can find out;
- first, that they may, without danger, preserve all that they have so ill acquired,
- and then that they may engage the poor to toil and labor for them at as low rates as possible,
- and oppress them as much as they please.
- And if they can but prevail to get these contrivances established by the show of public authority, which is considered as the representative of the whole people, then they are accounted laws.
Yet these wicked men after they have, by a most insatiable covetousness, divided that among themselves with which all the rest might have been well supplied, are far from that happiness that is enjoyed among the Utopians: for the use as well as the desire of money being extinguished, much anxiety and great occasions of mischief is cut off with it. And who does not see that the frauds, thefts, robberies, quarrels, tumults, contentions, seditions, murders, treacheries, and witchcrafts, which are indeed rather punished than restrained by the severities of law, would all fall off, if money were not any more valued by the world? Men’s fears, solicitudes, cares, labors, and watchings, would all perish in the same moment with the value of money:
‘Money’ back then was gold, silver and copper coins, often issued by Spain, not the Crown of England which was basically bankrupt when Henry VIII stole all the joint property of the masses when he seized all Church residential properties. It isn’t money that is the problem, it is who gets to exploit the bounty of labor.
Labor is value-added human, natural and industrial efforts that turn say, water, soil and sunlight into grain or protects grazing herds from wolves and then brings them to market or the mothers giving birth to babies. This massive overall effort is what wealth really is and money is how we put an intellectual value on this effort. Hoarding wealth or goods destroys families and wrecks infrastructure and ruins economies. Sharing the increase in value of all efforts leads to a stable society that grows graciously.
Many great palaces in Europe and Asia were built by imposing onerous taxes, duties, poll taxes, tithes, etc. including all out looting via dynastic wars, on the surrounding populations who were viewed as peasants no more worthy than cattle or sheep. When England lost the 100 Years War with France, the Kings returned home and proceeded to first, kill each other in the War of the Roses feud and the the winner’s son, Henry VIII proceeded to loot the Church to regain his prominence in the wealth accumulation game.
And the biggest palace in Europe still is the Vatican, a looting operation at the end of the Middle Ages that defrauded the peasants and sucked down all wealth so they could live like despotic emperors, themselves. This led to the collapse of the Catholic Church at the same time Henry was looting England.
And of course, much of the Catholic wealth came from looting the New World and enslaving Africa! And the curse of slavery replaced the curse of peasant exploitation. Namely, for some sad, select populations that is, New World Indians and Africans captured as slaves, were worked to death and given absolutely nothing at all except the whip and chains.
“Recklessness, criminality, out-of-control automated trading systems (ATS) and apparent failures of regulation and law enforcement could trigger a hyperinflationary collapse
by Ron Hera, Hera Research:
Famed Austrian economist Ludwig von Mises wrote in his seminal work, Human Action (originally published by the Yale University Press in 1949), that “There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as the result of voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.” The collapse of a historic credit bubble occurred in 2008. However, despite years of further credit expansion, “a final and total catastrophe” of the U.S. dollar system has yet to occur.
While an inflationary U.S. monetary policy has serious consequences, hyperinflation is not an immediate result. There are three general ways in which the U.S. dollar system could break down:
(1) rejection of the U.S. dollar as the world reserve currency, or (2) as an eventual consequence of U.S. federal government insolvency and (3) a domestic failure of confidence. Of the three, U.S. federal government insolvency is the most serious because it would result in both the loss of the U.S. dollar’s world reserve currency status and also in a failure of domestic confidence. However, a new threat to the U.S. dollar has emerged which could trigger a hyperinflationary collapse before the U.S. federal government’s finances become unworkable, e.g., when debt service begins to crowd out military and Social Security spending. Specifically, the perceived legitimacy of the U.S. financial system has not merely been tarnished by recent scandals but is in danger of collapsing. The consequences of a domestic breakdown of confidence and trust in the U.S. financial system cannot be overstated.
World Reserve Currency Status
The most commonly cited challenge to the U.S. dollar system relates to its waning status as the world
reserve currency. The BRIC countries (Brazil, Russia, India and China), along with South Africa, no longer use the U.S. dollar for trade settlement amongst one another. The Chinese have internationalized the renminbi (RMB), which is now used in trade settlement with the other BRIC countries, as well as with Australia, Japan, the United Arab Emirates (UAE), Iran and various South American and African countries under bilateral agreements. Iran, which is the world’s 4th largest oil exporter, has refused to accept U.S. dollars in exchange for crude oil since 2009. While European countries utilize the euro, South American countries have instituted a local currency payment system, the Sistema de Pagamentos em Moeda Local or SML. At the same time, the IMF stands ready to settle international trade using Special Drawing Rights (SDRs). However, local settlement at the regional level is largely irrelevant.
At the global level, the implicit crude oil backing of the U.S. dollar by the Organization of the Petroleum Exporting Countries (OPEC) remains in place and the U.S. military remains dominant. As long as OPEC backs the U.S. dollar, and as long as there is no viable challenger, the U.S. dollar is unlikely to be deposed. The euro, for example, is a troubled currency and its future is questionable. China’s economic ascent is likely to continue and the RMB can be redeemed for Chinese-manufactured goods. However, the Chinese economy is currently in a recession, the RMB is not a fully international currency and China’s military is not ready to take on the role of a global superpower.
At present, no national currency stands as a viable challenger for the position held by the U.S. dollar
and there is no consensus regarding its eventual replacement. However, discussion of the gold standard has moved from the fringes of the financial world into the mainstream. The price of gold has risen in response to widespread currency debasement, i.e., as a hedge against inflation.
OPEC and many other countries could, potentially, fall back to gold if the U.S. dollar were no longer viable, i.e., if the prices of global commodities, and especially the price of gold, were to rise at an accelerating rate measured in U.S. dollars. China and Russia, for example, are significant buyers of gold and crude oil can be purchased with gold instead of U.S. dollars pursuant to bilateral agreements, if not on world markets generally. An eventual return to the gold standard is possible but seems unlikely in the near term.
Governments, banks and corporations around the world hold trillions of U.S. dollars along with U.S. dollar denominated financial assets, such as U.S. stocks and U.S. Treasury bonds. Even countries hostile to the United States cannot benefit by refusing U.S. dollar transactions or by dumping U.S. Treasury bond holdings in the market. Ignoring the fact that the Federal Reserve and its Primary Dealers, together with other Western central banks, stand ready to intervene as needed to support the U.S. dollar, retaining the majority of the value of U.S. dollar holdings is always a superior alternative in the short run, particularly if the alternatives are economic sanctions, war, or, in the case of the U.S. dollar’s collapse, a 100% loss.
In other words, the tolerance of the world financial system and of the global economy for the U.S. zero percent interest rate policy (ZIRP), ongoing U.S. Treasury bond market interventions, i.e., Operation Twist, and quantitative easing is far greater than is commonly believed. The U.S. dollar certainly will be replaced as the world reserve currency at some point in the future, but claims that the U.S. dollar is in danger of imminent collapse as a result of international rejection are exaggerated.
U.S. Federal Government Debt and Unfunded Liabilities
Setting aside the world reserve currency status of the U.S. dollar, the largest threat lies in the risk of U.S. federal government insolvency. Before the 2008 financial crisis, the U.S. federal government had reached a point where no combination of economic growth, tax increases or government budget cuts will allow it to pay back its public debt and also meet its unfunded liabilities.
As a percentage of GDP, total U.S. federal government debt is larger than that of Spain and nearly as large as that of Portugal and Ireland.
The U.S. federal government’s budget deficit, which stands at approximately 8.7% of U.S. GDP, is as high as that of Greece and higher than those of Spain, Portugal and Italy.
Total U.S. government spending at all levels is approximately 40% of GDP and, unless economic conditions improve, will increase further. Unfunded liabilities of the U.S. federal government total $61.6 trillion ($534,000 per household). The liabilities include federal debt ($9.4 trillion) and obligations for Medicare ($24.8 trillion), Social Security ($21.4 trillion), military retirement and disability benefits ($3.6 trillion), federal employee retirement benefits ($2 trillion) as well as state and local government obligations ($5.2 trillion). Based on Generally Accepted Accounting Principles (GAAP), economist John Williams has projected U.S. federal government insolvency and, as a result, hyperinflation, as soon as 2014. Mr. Williams’ projections do not include the fact that numerous U.S. states, counties and cities are insolvent or at risk for bankruptcy.
The insolvency of a sovereign nation becomes inevitable once new borrowing is required to service existing debt, but the Minsky moment only arrives when (1) further borrowing becomes impossible and also when (2) monetization results in rejection of the currency. The more unworkable U.S. federal government finances become, the more likely a hyperinflationary collapse of the U.S. dollar will become. Increases in the money supply and in debt levels suggest that the probability of a hyperinflationary collapse of the U.S. dollar is increasing at an accelerating rate.
An inevitable outcome is not necessarily an immediate one and U.S. policymakers are masters of “kicking the can down the road.” Another financial crisis or a further economic decline in the U.S. could accelerate the financial breakdown of the U.S. federal government, but a robust U.S. economic recovery, technological breakthroughs and other decelerating factors could delay it.
Despite the fact that Mr. Williams’ Hyperinflation Special Report 2012 is required reading, the timing of the predicted outcome assumes a low international tolerance for the monetization of U.S. federal government debt. Mr. Williams implicitly assumes that the market for U.S. treasuries is a free market and that, therefore, either U.S. Treasury bond yields will skyrocket or that willingness to lend to the U.S. will collapse, but that may not be the case. Together with other central banks, the Federal Reserve could continue to manipulate U.S. Treasury bond yields and the value of the U.S. dollar for an indefinite period of time. On one hand, according to Herbert Stein’s Law, “If something cannot go on forever, it will stop.” On the other hand, the U.S. dollar remains ‘the worst currency in the world, except for all the rest.’
Since the start of the Federal Reserve System, the U.S. dollar has passed one apparent ‘point of no return’ after another and with each one, e.g., the start of QE3, critics have argued that the collapse of the U.S. dollar is imminent. The roots of the arguments generally date back to 1971 when Nixon closed the gold window. Severing the link to gold was a crucial point of no return, but, more than forty years later, a hyperinflationary collapse of the U.S. dollar has yet to occur. If history is any guide, additional points of no return lie ahead for the U.S. dollar.
Domestic Confidence in the U.S. Dollar
Within the United States, outside of Wall Street and Washington D.C., the overall economic environment in the broad U.S. economy remains deflationary. Bank lending to consumers and small businesses remains depressed while debt service represents steady deflationary pressure. In other words, private sector debt levels remain high and money is relatively scarce in the ‘real economy’. Reported increases in consumer credit are significantly the result of increased student loans, which are linked to unemployment and poor job prospects for young people.
A scarcity of physical notes or a race to shed currency in favor of hard assets seems unlikely to originate within the U.S. unless there is first a conspicuous scarcity of goods. Virtually unlimited support for banks by the U.S. federal government and by the Federal Reserve has thus far proven sufficient to prevent a panic. U.S. households do not generally have cash and often rely on electronic conveniences, such as automated payroll deposits, electronic bill payment and on credit and debit cards. Additionally, unlike countries that have suffered hyperinflation in recent history, U.S. citizens have no practical alternative currency. In the absence of runaway inflation, the impetus to flee the banking system or to rush out of the U.S. dollar is unlikely to originate in a domestic collapse of confidence regardless of U.S. monetary policy.
An outlying but growing problem is the risk of a breakdown of confidence and trust in the U.S. financial system related to its perceived legitimacy. Recklessness, criminality, out-of-control automated trading systems (ATS) and apparent failures of regulation and law enforcement pose a serious threat to the U.S. dollar system.
Before the 2008 financial crisis, confidence in the U.S. financial system was shaken by fraudulent sub- prime mortgage lending and securitization practices. The collapse of the housing bubble and the 2008 financial crisis revealed profound systemic risks. In 2010, the so-called “Flash Crash” reopened questions about the stability of U.S. financial markets and, in 2011 “robo-signing” and other foreclosure frauds were reminiscent of sub-prime lending.
In late 2011 and 2012 perception of the U.S. financial system suffered a staccato of blows, including the failure of MF Global Holdings Ltd., with the loss of $1.6 billion in customer funds; JPMorgan Chase & Co.’s $6.2 billion “London Whale” OTC derivatives trading loss; the failure of Peregrine Financial Group Inc. (PFGBest), with the loss of over $200 million in customer funds; money laundering by HSBC for drug cartels, including Mexico’s most violent criminal organization, Los Zetas, and for states that sponsor terrorist organizations; Knight Capital Group Inc.’s high-frequency trading (HFT) loss of $440 million; as well as a growing number of civil and criminal cases linked to mortgage, foreclosure and securities fraud.
Scandals elsewhere in the world, such as the rigging of the London Interbank Offered Rate (LIBOR) by Barclays, in cooperation with other banks, including JPMorgan Chase & Co. and Citigroup, Inc. in the U.S., further undermine confidence in the U.S. financial system.
A Black Swan?
Recklessness, criminality, out-of-control automated trading systems (ATS) and apparent failures of regulation and law enforcement could trigger a hyperinflationary collapse. The result of a domestic breakdown of confidence and trust in the U.S. financial system would not be a traditional run on banks or a rush into cash due to mistrust of banks (creating demand for physical notes) or a rush out of dollars into hard goods due to runaway inflation but rather a run on financial markets. If investors, pensioners, private institutions and fund managers withdraw from the markets in order to preserve their capital, it could potentially cause not merely a stock market decline but a crash. In the worst case, a domestic breakdown of confidence and trust could lead to a near total collapse of U.S. financial markets. The failure of financial firms, the accelerated disintegration of the U.S. dollar’s world reserve currency status and the final bust of the U.S. government’s finances would follow. Neither the federal government nor the Federal Reserve can fix the U.S. financial system if its perceived legitimacy were to fail. An inflationary policy response, at that point, would only exacerbate the problems of the U.S. dollar. History may record yet again that “there is no means of avoiding the final collapse of a boom brought about by credit expansion” because the escalating moral hazard engendered by limitless bailouts is itself a cause of collapse.
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For the first time in radio history, Truth Frequency brings you a round table with three Chrononauts and Project Pegasus participants, Andrew Basiago, Bernard Mendez and William Stillings. Andrew once again blows the whistle and discloses the inner workings of Project Pegasus and much much more.
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