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Published on Economic Undertow on December 16, 2013

Discuss this article at the Economics Table inside the Diner




noun: economy; plural noun: economies

the wealth and resources of a country or region, esp. in terms of the production and consumption of goods and services.


wealth, (financial) resources;

financial system, financial management, “the nation’s economy”

financial system, financial management

“the nation’s economy”

a particular system or stage of an economy.

“a free-market economy”


careful management of available resources.

“even heat distribution and fuel economy”


thrift, thriftiness, providence, prudence, careful budgeting, economizing, saving, scrimping, restraint, frugality, abstemiousness

“one can combine good living with economy”



– from Google

When is enough enough? When do economic ‘deep thinkers’ pull their heads out of their asses and realize there is more to economics besides cheerleading exponentially increased numbers of new cars, tract houses and the latest from Apple? Don’t these people understand entropy? Selling tens of billions of new cars would certainly be good for the car business but what about everything else?

Right now we are destroying our life-support system so that a relative handful of individuals can become ‘rich’ … adverse conditions apply to wealthy and poor alike. After we screw up there is nowhere ‘off planet’ for the rich to go.


Dead or alive? Schrödinger’s markets

“True economic health will be known only when stimulus is removed!” says Financial Times.

Rude good health is when our nature-raping monstrosity is able to cannibalize its own capital without any special help from the government. Of course, our irreplaceable capital must be continually annihilated faster because that rate of increase represents ‘growth’; the annihilation process is collateral is our ‘wealth’. We’ll know when we’ve finally reached the highest level of success when we fail spectacularly, when everything blows apart.

What is wealth, you ask? Do you really want to know?


Central banks have flooded the financial system with cash, driving investors to park their money in higher-yielding securities and largely obfuscating the true state of underlying markets.

Take, for instance, the corporate default rate and the analytical models that are supposed to he …


Blah, blah, blah! Everything the Financial Times writes after the words ‘Central Banks have’ is utter nonsense. The remark is designed to mislead. Either the highly regarded author of the piece is a complete moron who doesn’t know the first thing about finance or the Time’s staff knows better and is mouthing a client’s company line.

People who claim the central banks print money are peak oil deniers, as it is the high and increasing real cost of fuel that is slowly and certainly strangling industrial economies. $110/barrel crude does not bring any more goods or services into this world than did $20 crude. The difference is prices is simply a tax levied by our past economic success against every current — and future — fuel user! Central banks cannot drive money costs low enough to compensate for rising costs of fuel. $110 Brent is the equivalent of a 5% or higher policy rate. Add this to the penalty rates levied against countries in Southern Europe and the result is +10% interest for sovereigns and banks … no surprise that Europe is falling apart.

Fiddling with interest rates won’t deflect fuel prices: even if lenders pay customers to borrow there is no re-lending of fuel resources. When they are gone they are gone …

Common sense lesson for Financial Times: central banks cannot ‘print money’ because they are collateral constrained, that is, they cannot make loans that are greater than the worth of collateral they take on as security. When central banks issue funds they are always very careful to accept ‘high-quality’ collateral from borrowers when they do so. Since finance institution collateral is promissory notes from loans already made, the central bank does nothing but refinance existing debt; no new money is created.

A central bank can make a $10 billion loan against $10 billion in collateral but not a loan greater than that amount; it generally offers less than par; giving collateral a haircut. Only private sector finance institutions can make ‘unsecured’ loans; that is, lending increased amounts over and over against the same collateral … or against no collateral at all. Commercial banks have underwriting departments that determine whether a borrower can repay or not, whether he will be able to borrow tomorrow so as to retire the loan he seeks today. Central banks are dependent upon private sector credit creation => finance lends to itself because it can book ‘wealth effect’ gains-on-paper => this assures future loans = the finance marketplace is a self-perpetuating Ponzi scheme that serves to dump hundreds of borrowed billion$ into the pockets of tycoons.

The rest of us are obliged to repay these loans …

Private sector finance has a capital structure, an ownership interest/equity with the capacity to ‘sell’ risk at a discount to others. Central banks are ‘reserve banks’; they have no capital to speak of, they are risk absorbers. Returns are not retained but are paid to the treasury. Central banks are balance sheets and nothing more: assets and liabilities are always balanced … all loans are secured, they have to be. If not, the central bank is instantly another commercial bank and insolvent for the same reason; excess leverage. The ruined cannot rescue the ruined: there would be no lender of last resort, no entity able to fix asset prices or reassure markets and depositors. The entire banking system would teeter, there would be runs out of it.

Right now there are signs that central banks have exhausted collateral and are inching toward leveraged lending, toward insolvency. Evidence is capital flows out of countries such as China.

If a central bank was to make an unsecured loan to any one bank, all the other commercial banks would demand the same treatment. Banks would quickly borrow unlimited amounts without offering collateral. Private sector banks do not leverage the Fed or other central banks because they are disciplined but because they are unable to do so; they must offer collateral and there is not enough to go around.

Keep in mind, real, physical collateral evaporates under everyone’s nose. Vast amounts of money are lent into existence to gain fuel, the fuel is instantly burned for nothing — at the end of the day there is no more collateral. What remains after each successful loan-for-fuel transaction is the need for even more loans and more fuel to burn. Collateral for the entire system ceases to be a thing but ‘demand’ for things to destroy. This destructiveness is the underlying health of the economy we are all supposed to be concerned about!

Because the greatest amounts of debt have been taken on to buy fuel in some form or other, use of the fuel = destruction of the collateral. The only thing that allows this process to continue us is our purposeful and collective refusal to understand the true nature of collateral … or to accept what we are doing as a form of collective insanity.

Something to keep in mind: when central banks conduct open-market operations such as quantitative easing (QE) it creates excess reserves. By doing so the central banks effectively create guarantees of commercial bank deposits. These reserves emerge from the shadows when there is a redemption demand, by depositors seeking their money … as during a bank run. It might be interesting to know why central banks seem intent on guaranteeing bank deposits in this way. Is there something that the central bank is not telling us?

Because of faulty reasoning and desire to maintain the status quo at all cost, the banking system looks ready to unravel at the drop of a hat … of course, nobody will have seen it coming!

Banks failed all over the world after Creditanstalt collapsed in 1931. There was a gigantic run, depositors demanded gold which the holders were loathe to part with. The result; velocity cratered which increased the demand for circulating money which was in turn held more tightly is a vicious cycle.

Creditors called in loans; borrowers who retired their loans saw their repayments extinguished. This is how the money-creation process works: money appears when it is loaned into existence then extinguished when the loan is repaid. In the early 1930s, the demand for currency was increasing even as currency supply was being diminished; the result was a scarcity premium attached to money. It became impossible to find enough of the expensive currency to retire the remaining loan balances … this in turn caused defaults and decline in worth of non-money assets in yet another, complimentary vicious cycle.

By 1933, most US banks were permanently closed except for those in two states (Manchester). When Roosevelt was inaugurated he declared a state of emergency and ordered Congress to prepare for an all-out effort to end the banking crisis. The Congress quickly authorized a seven-day bank holiday which provided time for the Treasury to print $700 million in currency; this was then flown to the Federal Reserve banks for distribution to commercial banks. This cash infusion allowed the banks to reopen and pay circulating money to depositors (who could then turn around and repay their own loans).

Repayment to depositors was limited to currency as it could be printed rather than dug out of the ground or ‘bought’ with cripplingly high interest rates in the international market as had been the case up to that time. FDR and Congress removed specie out of circulation — it was already hoarded out of circulation and most gold holders were banks or speculators — and outlawed the predatory gold clause in contracts. The dollar was depreciated 40% against gold as well as against European currencies that were still pegged to gold. Without a gold peg to defend or gold hoards to increase, US interest rates retreated and nominal commodity prices including agricultural goods increased. The US stock market reached its lowest level (inflation adjusted or nominal) and began to rally. FDR had bailed out the banks, and by doing so he bailed out much of the rest of the US economy!

After the immediate bailout, the government insured bank deposits, began to regulate Wall Street trading, separated ordinary deposit banking from finance underwriting, insurance and other forms of gambling. FDR also used federal money to employ some of the millions of young, unemployed men and women. His most successful programs were Works Progress Administration, Tennessee Valley Authority, Civilian Conservation Corp, the pro-union Wagner Act, Social Security, then later the Agricultural Adjustment Act.

Today, the entire banking system is insolvent w/ banks’ non-government assets being worth far less than their face price. What keeps banks and bank-like entities afloat is dishonest accounting/mark to fantasy and the defective understanding (hope) that the central bank will lend against these impaired assets @ near-par. At some point every asset will be carefully measured on more rational grounds. Fantasy worth will be rejected: the result will be a massive hit against banking system liabilities which will result in banks closing — as during the 1930s.

In the 1930s, bank balance sheets were lopsided; assets were often stocks bought during the Great Bubble or accumulated immediately after the crash — collected by way of margin calls. Assets also included inflated mortgages on now-worthless land. Bank liabilities were minuscule relative to the pyramid of assets; the loss of only a small amount of asset worth wiped out bank capital and impinged on liabilities. Banks closed rather than hand out their remaining deposits, some of which wound up in the Treasury and the central bank as non-balance sheet custody items. One could say the Treasury got a good deal, for $700 million in public currency the Treasury gained control over billions, at the same time it retired claims (liabilities) that would have otherwise contributed to the bankruptcy of the entire system.

What would bankrupt the system today is situational awareness, the recognition of systemic insolvency. Right now the Depression-era depositor guarantees protect against one or two banks failing due to insolvency and over-leverage, not against all the banks being insolvent and over-leveraged at the same time. Ordinarily, if one bank fails, liabilities are shifted from the failed bank to other, solvent institutions. As discussed previously, when the entire system is over-leveraged, shifting funds from one failed bank to another is futile; all the banks are in effect a single, giant bank; depositor funds are trapped therein. Unlike in 1934, it would take far more than $700 million to refloat the system by making depositors whole with currency; it would take years for the government to produce even the smallest part of total liabilities (insured deposits) in paper money. There is over $7 trillion deposited @ banks, there is less than $1 trillion in currency, 40% of that is overseas. Seven trillion dollars is seventy billion $100 bills, there isn’t enough paper or ink! This is the problem with the post-modern bank run; depositors are unable to gain currency/circulating money because there isn’t enough time or resources to print it. On the other hand, shifting funds from one depository to another is pointless because all of them are bankrupt.

When the central bank begins to offer unsecured loans and to leverage its collateral thereby, then the entire system from the largest to the smallest bank is insolvent. Afterward, the Treasury — with its massive imbalance of debits vs. liabilities as well as incompetent, criminal management — becomes insolvent. This is what Irving Fisher was describing in 1933.



Those who imagine that Roosevelt’s avowed reflation is not the cause of our recovery but that we had “reached the bottom anyway” are very much mistaken. At any rate, they have given no evidence, so far as I have seen, that we had reached the bottom. And if they are right, my analysis must be woefully wrong.

According to all the evidence, under that analysis, debt and deflation, which had wrought havoc up to March 4, 1933, were then stronger than ever and, if let alone, would have wreaked greater wreckage than ever, after March 4. Had no “artificial respiration” been applied, we would soon have seen general bankruptcies of the mortgage guarantee companies, savings banks, life insurance companies, railways, municipalities, and states. By that time the Federal Government would probably have become unable to pay its bills without resort to the printing press, which would itself have been a very belated and unfortunate case of artificial respiration. If even then our rulers should still have insisted on”leaving recovery to nature” and should still have refused to inflate in any way, should vainly have tried to balance the budget ad discharge more government employees, to raise taxes, to float, or try to float, more loans, they would soon have ceased to be our rulers. For we would have insolvency of our national government itself, and probably some form of political revolution without waiting for the next legal election. The mid-west farmers had already begun to defy the law.


If all this is true, it would be as silly and immoral to “let nature take her course” as for a physician to neglect a case of pneumonia. It would also be a libel on economic science, which has its therapeutics as truly as medical science.


One possible fix would be to forget trying to print the needed amounts of currency and turn deposits into a federalized form of Bitcoin. Deposits could be held by individuals on their own personal computers rather than at failed-and-failing banks. That this might be a real strategy is indicated by Fed/Treasury interest in Bitcoin … not to shut it down but to make use of it.

Make no mistake; if the banks fail in the US and money becomes unavailable as it was in Argentina in early 2000s, there will be disturbances in this country. Americans have put their entire faith in money, it has been elevated in the place of family- and community: this is the big difference between USA in 2013 and USA in 1933. Take away the money flows — even for a little while — and there are instantly very serious problems … panic, breakdown of money-dependent processes leading to shortages of critical goods, loss of confidence, public rage and sense of ‘nothing to lose’.

There would be tremendous backlash against the bankers. It’s one thing for the bankers to steal from the middle class stealthily as they have been doing since 1980, but stealing at once in broad daylight would be too much to bear.

Attempting to make depositors whole with insufficient banknote capability allows for the printing of ‘unconventional’ notes of very high denominations, such as the famous RM 1,000,000,000 note. Banknote insufficiency is a component of hyperinflation that must be kept in mind at all times. If a depositor demands $100,000 there is the temptation on the part of the government to offer that individual a $100,000 bill instead of a thousand $100 bills. The first large-denomination bill is accompanied by others which are superseded by ever- larger bills as nominal currency demand increases along with nominal deposits in yet another self-reinforcing cycle. System failure is not currency failure but that of system components and currency ‘trap’.

Here is another highly-regarded thought leader who does not recognize that the world has been changed by our own success:


23 years ago the world seemed much simpler. Francis Fukuyama wrote that the West had won the war of Capitalism. However, 23 years later things have changed. By 2016 the economy of China will exceed that of the U.S. This is not what Fukuyama expected in 1989. It should not be possible that a communistic society could poised to overtake a capitalistic economy. It is quite an amazing turn of events.

The explosion of public debt in Western economies is a symptom of the more profound economic malaise. The argument between stimulus and austerity are very futile. The reality is that by 2050 interest payments on government debt will be above 100% of federal revenues according to the Alternative Fiscal Scenario (AFS) of the CBO. The AFS is the more realistic of the two assumptions that the CBO produces.

If we look at the US and China per capita to GDP ratios we find that in 1978 the average American was 22 times richer than the average Chinese citizen. Today, that ratio is down to only 5 times. The great divergence of prosperity that was generated by the strength of capitalism is now the great re-convergance.

There were “6 Killer Apps” that defined the U.S. during its great economic growth cycle.

1) Competition

2) Scientific Revolution

3) Modern Medicine

4) Consumer Society

5) Work Ethic

6) Property Rights

Those issues allowed for growth, innovation and rising economic prosperity during the 20th century. Today, while the rest of the world has slowly been adopting these “killer apps” the U.S. is slowly losing them.


Says the analyst …


“I did not come to this country to participate in its decline.”


How self-congratulatory … and how misleading. America’s ‘Killer Apps’ were largely a matter of luck: that FDR was in charge of America during the Great Depression rather than Herbert Hoover. The American banking system avoided collapse by a matter of days or weeks in 1933. It would have taken a long time for the country to recover afterward had deflationary matters been allowed to run their course. As it was, the bellicose states Germany and Japan recovered more quickly than America, enough to take advantage of the US’s economic weakness and inability to secure its own and allies’ overseas interests. The consequence was a titanic and unnecessary conflagration that took tens of millions of lives.

Any number of different conditions or sets of conditions can be added to those above to explain why American industry succeeded completely during its, “great economic growth cycle”. Missing from this list includes cheap labor, access to sea trade, favorable demographics and helpful doctrine — the gently moderating Invisible Hand.

Most important and left out are access to inexpensive energy resources and organic credit. The latter is critical: centralized industry is fundamentally loss-making; credit is required in order for industry to both take root and to carry forward. The difference between economic success or failure is whether a country has access to its own sources of loans or must rely on intermittent streams of external funds. With organic credit a country lacking resources can gain them in exchange for excellent-appearing empty promises.

American colonies in the early-to-mid 1700s were at the mercy of their home-island lenders whose rapaciousness was a major cause of the Revolution. Banks in London would lend in the form of paper drafts — discountable bills issued at no cost to them. Borrowers were compelled to repay in gold or silver. Inability to pay in the ‘appropriate manner’ resulted in forfeiture as lenders deputized the Crown’s agents and by way of arbitrary writs dispossessed borrowers in kangaroo courts. One reason for this abuse was 75-plus years of costly warfare in North America between England and France.

Enough abuses and the colonists rebelled. Afterward, Americans erected their own credit structure: a national treasury, an American currency, sufficient large finance institutions able to act as lenders of last resort and final guarantors of liabilities, then a central bank. America also had many local banks able to make loans or issue bills as well as a legal structure including enforceable private contracts.

Indeed, it is only within the context of enforceable — and equitable — contracts do competition, consumer society, work ethic or private property matter.

Likewise, the UK possessed its own organic credit which was necessary — along with the theft of Spanish-New World treasure — to finance the Industrial Revolution. This included the Bank of England, Britain’s country banks as well as merchant lenders and insurers within the City of London, the well-regarded and long enduring sterling currency and discountable bills-of-exchange; also commercial laws and the court system within which these would be exercised. With organic credit the iron machines and factories that made them were made possible in the first place as all had to be bought and paid for before they could be put to any use.

Kenya was a country with ‘killer apps’ but no organic credit; like the other colonies it was dependent upon British credit and currency. Kenya’s economy ‘succeeded’ when credit flowed from the UK towards it, Kenya was ruined when credit rushed out. Blame for ruin was cast upon demographics: Kenya is a country filled with hapless Negro savages who deserve whatever they get. Demographics cannot explain the repeated failures of Ireland, a country filled with Caucasians; also a country that was — and is — a slave-state to external credit.

Ireland: a country that once borrowed in sterling now borrows euros from the European Union; as such it is as much a colony as it ever was; ditto Greece, Spain, Portugal, Italy … France. Here is real Killer App: all EU nations are credit slaves to nothing or no-one … only each others’ foolishness and iniquity.

“Growth, innovation and rising economic prosperity during the 20th century,” is the outcome of expanding credit and self-extinguished resources. A highly regarded economic thinker swings and misses:


There is no such thing as “the central challenge to growth”. Proof is impossible to come by with respect to all macroeconomic controversies. Klein vapidly handwrings that, “Growth simply isn’t producing enough jobs” without meaningfully addressing the question of how to achieve growth, or addressing the arguments that Bernstein carefully catalogs for why a broader distribution might be growth-supportive. When Klein writes “fixing [unemployment] is necessary, though not sufficient, to making real headway against inequality”, he is making an empirical assertion without …


The content of this relatively harmless and inoffensive article what one might expect. What matters is the repeated invocation of ‘growth’ and the absence of a “central challenge” to it. Evidence is easy to find, one need only drive to a gas station and fill ‘er up. The $3+ dollars squandered on each gallon in excess of the small change spent in identical transactions during earlier and better times is money that cannot be spent elsewhere: it subsidizes the decreasingly productive petroleum industry. Meanwhile, the collateral in the gas tank is burned up for absolutely nothing. The economist does not recognize the problem, in fact he likely believes he is contributing to a better world by adding to ‘demand’.

The car cannot be paid for by driving the car … neither can the gas. The driver-economist could become a courier or taxi driver but there is very modest amount of commercial business for drivers so employed. The fuel customer must instead borrow; his boss borrows against the bank accounts of his company’s customers who in turn borrow from from their own customers’ banks which themselves borrow in turn. Multiply by the tens of millions driving to gas stations every day using borrowed money to buy gas … there is the central challenge to growth … there is no way to retrieve the gas … there is nothing to retire the loans!

Arguing about non-existent growth is like arguing about transubstantiation. There is not point to it because thermodynamic physics rules, economics that ignores this is irrelevant. Instead, conventional monetary economics has become ‘the silly science’, useful only to the degree that it sheds some light on how far we will fall when we cross certain — and onrushing — thermodynamic thresholds.

The time to invent a new economic regime is running out … one that rewards husbandry and capital conservation the way it rewards squandrous waste. Economics today has become the science of extravagance and nothing more. Economists relentlessly pimp living beyond our means as if this is a natural entitlement rather than a fatal wound. It is appalling how clueless, stupid and self-interested the economic management appears to be. This is failure of the highest order, the willfully blind are leading the rest over the precipice.

Pre-crash bull Irving Fisher famously predicted two weeks before the 1929 crash that, “Stock prices have reached what looks like a permanently high plateau …” During the run-up to the crash, Fisher had become wealthy by way of his analysis, he was a famous and highly regarded economist. The depression that followed the crash cost Fisher his fortune. Nevertheless, he was possessed of enough integrity to reconsider his prejudices and analyze carefully the dynamics that brought his world — and himself — to ruin.

Now it is time for the rest of the analysts to follow suit …


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