Calling all economic experts

[MarNav1]

kelmo,

That's it in a nutshell. But it has to be modified with the VAST number of USD that are being held in "reserve" by foreign entities. If (or rather when) those entities start trying to get something of value for their dollars, THEN you will REALLY see more and more dollars chasing the same amount of goods, driving up the prices (i.e. inflation).

There are a LOT of "IOU" 's out there that will come home to roost. Perhaps the plan all along was/is to manipulate the money until the last possilbe moment, then let the dollar crash, basically making the IOU's worthless, and making draconian economic measures look acceptable in the eyes of the world's various governments. It's a way to reneg on the IOU without actually catching the moral flak and world disapproval that would normally incur if we just up and said "all those foreign investors who have USD, too bad. We won't accept your dollars anymore."

Who knows what will happen. But it won't be pretty, that's for sure.

Someone is getting close. Just remember they aren't and haven't been "dollars" for a very long time. They are called "Federal Reserve Notes" which is a very different beast.

 

[tygger]

You know the saying, "Hold your friends close, and your enemies closer." That is what we are doing with our debt. Only very large economies, economies that compete with us on a global scale buy a meaningful amount of our debt. The Asian's for example. Japan and China have purchased hundreds of billions of dollars of treasury notes. If they decide to crash our economy with our own debt they will go down with us. Who will buy their goods? Who will fill the void?

But I agree with you, there will be alot of pain coming soon. I hope you don't work for Citigroup...

Yeah, I agree that its not in their interest to dump the dollar overnight. I do think they'll continue to be more aggressive in diversifying their currency reserves though. But right now the low dollar is also working to their favor because foreign companies/governments are buying large stakes in US based companies like citigroup. I read today that government run investment firms in Singapore, Kuwait, and the Saudis, Abu Dhabi, etc. are pumping in billions in much needed cash for preferred stock.

 

[js]

Government debt is not really that different from personal debt. If you have a home loan, the mortgage lender cannot just arbitrarily say one day, "You owe us $150,000 and we want it right now." The contract is that you pay a set amount monthly. The U.S. government is paying interest on it's bonds on a daily basis, to bondholders around the world. It is also paying out principals on a daily basis to bonds that have matured.

Lightraven, how are you? Good to see a post from you! How's your M6? I should mention that in a momentary lapse of mind I mistook robocop for you and made a similar post to this one. He was probably like "Huh? I don't own an M6". hehe. Senility: it's not just for the old anymore.

Anyway, I suspect you're maybe misunderstanding the crux of this issue. Let's just leave the question of the nature of the National Debt aside for the moment and pretend that ALL of the trade export imbalance is from USD that have real value behind them, in the sense that they were spent out of the pockets of companies or people who had worked to earn them in the first place.

So, every month 40 BILLION US dollars go out of the country. This is the trade imbalance. It used to be that all trade debts between countries were settled in gold, if they couldn't be settled in goods. This meant an even exchange of REAL GOODS AT THE TIME OF THE EXCHANGE.

But, that's no longer the case, and hasn't been for quite some time. Right now, the majority of those USD that leave the country are being held by foreign entities, which is essentially an IOU. It means, OK, we'll give you, China (or whoever), all these USD in exchange for all these goods, and at some future time, you will try to complete the transaction by using those dollars to buy something of value from us.

If this situation kept going like this without any intervention from the Fed, there would be serious deflation, because the money supply in actual circulation would keep going down and down, while still needing to represent the same or even an increasing economy. But the Fed does intervene and increases the money supply to create a 5 percent (more or less) inflation per year, as measured by the Consumer Price Index, --which, I might add, some say is rigged to make the inflation rate look even lower than it is.

Thus, they are effectively STEALING the value of those USD held in reserve!!! And pretending that they don't need to be taken into account.

A person could never do that!!! I couldn't keep handing out IOU's to people without ever really paying on them. Pretty soon, that would come to an end. And it would never start because I can only do this by getting a loan, and a loan is almost always ensured with collatoral. Credit card debt is not however, and is another reason why we're getting ourselves into deep trouble. Even there, however, the credit card companies are collecting interest. Further, the dollars they lent out don't represent actual work or goods--they were created out of thin air for the most part.

There's only one personal parallel that I can think of, and that is back in the days of Gold deposit certificates in the Wild West at a local bank. What happened is that the bank would take your gold and put it in their safe and give you a certificate for it. This kept your gold safe. Pretty soon, people started trading the certificates as if they were money and they became money because they did represent value.

And thus the gold all stayed in the vault and the certificates circulated. Well, it didn't take long for the bank owner to think of the idea of PRINTING UP GOLD CERTIFICATES FOR GOLD HE DIDN'T ACTUALLY HAVE IN THE BANK VAULT.

Thus, enter the notion of "fractional reserve". This is the fraction of fiduciary money (like gold certificates) over actual reserve (like gold). The idea is that 90 percent of the gold stays in the vault so there's no reason you couldn't print up 2 or 3 or even more times more certificates than you have gold.

The bank that does this is STEALING VALUE FROM THE ECONOMY. Morally, no different than someone robbing the bank at gunpoint and taking the actual gold. Worse, really, in some ways, because it's much harder to see.

I mean, suppose you had the power to just create money: print it up, or even more simply, just add it electronically to your bank accounts. WHY THE HELL WOULDN'T YOU LEND IT OUT? The banks only truly MAKE real money on the interest. That's how THEY make money. So there's an obvious motivation to get as much money lent out as possible so as to make as much money from interest as possible.

But I digress. I'd love to go on and explain how the fractional reserve of banks today is greater than 10 to 1, and how there isn't even anything held in reserve on top of that. The ratio is for "real" money taken in from interest or down payments to money created out of nothing via Fed low (0 to 1 percent) interest loans. But I won't.

The point is just that the Fed has already spent that money that those on the other side of the trade defecit hold in trust. The value is pretty much gone.

They just don't know it yet. It's like mortgaging your house many, many times over. Only the house is the entire economy.

As for the bank not being able to call a loan in whenever they want, that is, sadly, WRONG! Read the fine print of most loans and there is just such a clause in it. They can, these days, if they need to, demand the whole damn loan. Very unsettling.

And when somebody says, "Japan (China, Saudia Arabia) holds a meaningful amount of debt," do they refer to private citizens or the governments of those countries? Because I'd bet a lot of money that the vast majority of the U.S. debt is held by U.S. citizens and corporations. I've got mine.

I don't know how one country crashes another's economy, short of a war. The U.S. economy is the product of a hundred million of the wealthiest, most productive, most highly educated workers in world history! You don't just stop buying some Treasury Bonds and affect that.

A significant percentage of the national debt, in the form of Treasury Bonds, is indeed held by foreign investors.

But, economies can be crashed by the government screwing with the money supply. It's happened a number of times in the past to a number of governments, even our own (in colonial times). Just take a look at what happened in Argentina a decade ago (more or less).

Again, however, it's not that people will stop buying treasury bonds (although that will certainly happen). It's that all those IOU's will come home. The Fed is good at expanding the money supply without immediate consequence, but not so good at contracting it with the same impunity.

Injecting money into the economy in the way they do it is a lot like (at a system level) injecting yourself with a stimulant. You can fool your body into using up its reserves AS IF they were free and available and abundant energy stores.

But they're not. And when the stimulant wears off, you have one helluva hangover.

The day of reckoning will come.

 

[London Lad]

This huge amount of US$ IOUs being held by other countries is one of the reasons the US government is so obsessed with counterfeiting.

A local guy turning out a few bills and buying a new TV is one thing but a foreign counterfeiter churning out millions and millions of $ will eventually start to undermine confidence in the currency and cause people to start calling in those $ bill IOUs.

 

[LightInTheWallet]

Buy platinum, sell gold, grab your ankles.

 

[tygger]

Question for you guys. When the fed prints more money, doesn't it first go to the capital goods and defense sector? So the money is 'spent' at current value, unbeknownst to everyone else (for at least a year or so) that its already devalued? Or am I understanding it wrong?

 

[Lightraven]

Hey JS,

M6 is working well. Used it to arrest some guys the other night.

I could be out of my depth, here. I am not an economist, of course.

OK, China gets $40 billion dollars more from U.S. citizens than U.S. citizens get back from China through commerce. And you're saying that the U.S. government may have to print a lot of currency to cover that (since I'm sure that most transactions are electronic)? And that printing would devalue the dollar?

 

[HarryN]

I agree in general with the postings here, but lets bring the turkey home to roost. The primary problem is the trade deficit, really, 2 deficits.

a) Energy trade deficit
b) Far east trade deficit

As far as (a), it was hoped / imagined that if the price of oil were a constant, then (a) would be helped by dropping the dollar value - effect - price went up, and up and up - even beyond value of dollar drop.

b) Reagan attempted to fix the trade deficit with Japan a long time ago by dropping the dollar vs yen. Effect - dollar dropped 50 % in value. Trade deficit = increased every year. Reason = The free trade concept is not real as far as Japan is concerned.

c) Bush - attempts to repeat the same policy, this time with China. Effect = China is buying up America with our dollars. Exports to China = more or less unchanged. Reason = The free trde concept is not real as far as China is concerned.

Taiwan = currency is tied to US dollar, so dropping dollar does not work.

Bottom lines
1) If you are buying foreign goods (like Toyota / Honda cars), you are part of the problem, not part of the solution.

2) China / Japan / Taiwan use the US income tax system against us. Goods made there are able to avoid US tax, so US companies / people are forced to subsidize imports.

Only solution I can think of = forget income tax completely. Convert to a 10 percent sales tax on ALL transactions including stocks, food, cars, new, used, etc.

If you think I am kidding, just keep in mind that the only reason the trade deficit was down in December, was because so much US equity (stocks and companies) were purchased by China / Middle East so they can dump dollars before they take their monthly bath.

 

[London Lad]

Hey JS,

M6 is working well. Used it to arrest some guys the other night.

I could be out of my depth, here. I am not an economist, of course.

OK, China gets $40 billion dollars more from U.S. citizens than U.S. citizens get back from China through commerce. And you're saying that the U.S. government may have to print a lot of currency to cover that (since I'm sure that most transactions are electronic)? And that printing would devalue the dollar?

China sells the US real goods that have real value, say steel for instance. The US pays them in USD, which are just bits of paper of no REAL value, which China can exchange for other real goods later. This money is now out of circulation so the US prints more, and so on and so on. At some stage China will want real goods in exchange for all these bits of paper its holding. That's when the real trouble starts.

As a side note it always amazes me in the discussions on CPF about international shipping that Americans just don't seem to realize that you HAVE to export. Its just not an option not to export unless you don't import (unless of course you have gold in reserve to cover all the notes you have printed) In the UK (and we are just as much in the poop as the US) the need to balance the trade deficit is often paramount to financial decision making.

Its very difficult to slow or stop importing so we really have to think about increasing our exports.

Out of interest, on a Bank of England 5/10/20/50 pound note it says 'I promise to pay the bearer on demand the sum of' and as JS says, the note is really just a promise for gold (that we don't have any more)

 

[jtr1962]

Only solution I can think of = forget income tax completely. Convert to a 10 percent sales tax on ALL transactions including stocks, food, cars, new, used, etc.

I agree completely with that for at least four reasons:

1) All US made goods have the corporate income tax built into their price structure. All other things being equal, this increases the cost of these goods by probably 20% over those made overseas, giving a huge competitive disadvantage.

2) Most companies which sell goods in the US collect state/local sales tax, if applicable. Many imported goods are sold directly over the Internet, avoiding collection of sales tax. It's irrelevant whether or not the purchaser is still technically liable for this tax as almost nobody will voluntarily pay sales tax unless it is charged at the point of sale. While collection of sales tax on US goods does help state/local governments, it still puts US goods at a competitive disadvantage. A national VAT will be built-in to the price of all goods sold here, regardless of how or where sold. It will be more difficult for vendors to avoid collecting it.

3) The cost of record keeping for tax purposes, and income tax preparation, is an enormous drain on the economy. The money spent here could instead be spent on real, tangible goods and services. The extra labor used for tax purposes could be used for production instead. Income tax accountants produce nothing at all of value to the economy when the same amount of tax could be collected via a much simpler sales tax. Same thing for the tax lawyers who write tax law.

4) Tax money would be collected from drug dealers and other cash businesses which currently pay no taxes of any kind. This means the tax burden on the rest of us is lessened.

Besides these four obvious reasons, it's been argued that elimination of the income tax would have a stimulatory effect on the economy. There are many people who are underemployed by choice due to their marginal income tax rates. A good example might be a self-employed person making $6000 a year who instead might be able to earn $12000. Right now the way the tax system is set up they pay roughly $900 in self-employment tax but get back half via the EIC, making their tax burden at most $450. Some states like NY match part of the federal EIC and have other refunds, making their tax burden less, often under $100. Now if the same person makes $12000 their self-employment tax rises to $1800. They also have to pay perhaps $300 to $500 in federal/state/local income taxes. The EIC is phased out at this income level for single people. Their tax burden may increase by over $2000 due to another $6000 in earned income, a marginal rate of 33% on a person who is poor by any standards. This person may well chose to not bother earning more money when $1 out of every $3 extra goes to the government. And you have elderly in similar situations where earnings make more of their SS taxable. Under a sales tax, such dilemmas are avoided. 100% of your earnings go into your pocket regardless.

Besides all these reasons, the sales tax avoids the need for government to know a person's income, or for that matter the need for the person to even bother keeping track of their income. The less government knows about citizens, the better.

BTW, none of the sales tax proposals will tax used goods, only new goods. I can't think of any valid reason to tax used goods. The tax is a value-added tax. There is no net value added to the economy when a used good changes hands. This occurs only when a new good is produced.

 

[London Lad]

Although it would cause riots, i have often thought that the simplest and fairest method would be to do away with all personal taxes and put the tax on food. Cost of collection would be slashed and none would escape paying.

In the UK we are into punishing people for doing well. Do nothing pay no tax, do a bit pay 10%, work hard and pay 22%, work really hard and pay 40%.

 

[LuxLuthor]

Understanding the US economy is actually extrememly complicated, multi-faceted, and unprecedented. It is one of the best examples of "The Emperor Has No Clothes" story, and virtually no Americans have any idea what is going on with their own finances, let alone their city, state, federal, or globally.

 

[daveman]

Too late for the U.S. now. The past 15 years were all a scam, a bubble. There never was a boom, it was a hoax... the American government, even the entire Western world, thinks they can defy 5000 years worth of human history and sustain a fiat currency system through their aircraft carriers. This abomination will not last much longer, it'll be back to the basics pretty soon and the countries holding the manufacturing card will be the ones to hit the ground running. And that won't be the U.S. Anyhow, this is all I can say without giving away more knowledge for free...bad bargain.

 

[LuxLuthor]

LOL! Like I said, virtually no Americans....

 

[js]

Question for you guys. When the fed prints more money, doesn't it first go to the capital goods and defense sector? So the money is 'spent' at current value, unbeknownst to everyone else (for at least a year or so) that its already devalued? Or am I understanding it wrong?

No. You're understanding it correctly. When creating money from nothing (which is why it is called FIAT currency, from Latin, "let it be done", like "Let there be light"), whether it is printed, or just electronically created, the FIRST entities to spend it get the full pre-inflationary value of those dollars. Then, as they begin to spread through the economy, and the economy responds by inflation, all those people who never saw ANY benefit whatsoever, see the dollars they do have (in savings or retirement accounts) lose buying power. So the aging grandmother living from her retirement check finds that it doesn't buy what it used to buy anymore, and just puts it all up to "inflation" a "natural result" of an expanding economy. Ah well. Too bad. Just the way these things happen.

And, often, the first entities to spend the new money are indeed government defense contractors.

A more equitable way to insert money into the economy would be through tax refunds. Not that that is perfect either.

Does anyone know the REAL reason for taxation? At this point it actually isn't (philisophically speaking) for government revenue, so much as it is a way to keep inflation down by removing money from the economy. LOL! Crazy, isn't it? So when the Fed stops injecting money, the natural "gravity" of taxation starts reducing the money supply. It's a really screwy system in the sense that the money supply is incredibly elastic and the "economy" can be yanked around like crazy.

Economics today isn't really economics as Von Mises and the economists of his day understood the term. Really, today it is very largely about MONETARY POLICY. That's what most people mean when they say "economics" and that's what most "economists" spend their time focusing on. Will the Fed lower rates? Will the Fed raise rates? etc. etc.

I don't think people understand the INCREDIBLE POWER that we have given to the Fed and the government. I don't think people understand what it is we have entrusted them with. It's really very much as if we said to the politicians "OK. You will now define morality for us, and excellence. If you suddenly are caught stealing, you now have the power to morally re-define things." We would NEVER do that, would we? We actually never could do that, of course.

But handing over to them the power to change the "meaning" of the currency is much the same. When you work long and hard to earn $1,000, that money holds the VALUE of your work. Money is a repository and safeholding of value. It represents in many cases the life savings of families. And we allow the Fed to arbitrarily and consistently drain the value from the money. And people think they are getting a great deal by earning 5 percent in their savings account!!! That doesn't even beat inflation!

A precious metals based economy has its problems, to be sure, but the great advantage is that THE GOVERNMENT CAN'T CREATE MONEY FROM NOTHING. And thus you're hard work stored in the form of money can not simply be invisibly and ineffably stolen from you.

As for what to do about all this, well, the best thing is to truly own something of real value, like real estate or precious metals or stock portfolios based on precious metals and mining companies and so on. I wouldn't advise anyone to withdraw funds from a portfolio at a loss in order to invest in gold, though. Be conservative. Stocks do represent real value, even though that may be inflated right now. And, of course, if you have any debt, I suggest that you pay it off. Depending on what happens (and it's hard to say exactly how the cookie will crumble) debt could turn into a real ball and chain.

London Lad,

Great posts! And thanks for your kind words about mine.

 

[PEU]

There is an excelent chapter from a G. Edward Griffin book called The Mandrake Mechanism, you can read it here It goes all the detailed way about what JS explained about the US monetary system.

I saw Argentina mentioned in a previous post, we go thru economic crisis about every ten years, last one was in 2001... but I will refer you guys to the wikipedia entry of what happened in 1989 when we had hyper inflation.
Can you imagine all your bank deposits transformed into bonds cashable in ten years? without prior notice... compulsory... and overnight? no? well it happened here TWICE!
Can you imagine not being able to withdraw cash from your bank? no? well it happened here too.

All these disasters have the same root, currency devaluation due to lack of reserves, not thats the only cause (corruption comes to mind too) but its a very important one.

Lets hope for the best


Pablo

 

[daveman]

Lets hope for the best


Pablo

Hahaha, that's all the Americans can do when no one's prepared for the worst.

 

[js]

There is an excelent chapter from a G. Edward Griffin book called The Mandrake Mechanism, you can read it here It goes all the detailed way about what JS explained about the US monetary system.

I saw Argentina mentioned in a previous post, we go thru economic crisis about every ten years, last one was in 2001... but I will refer you guys to the wikipedia entry of what happened in 1989 when we had hyper inflation.
Can you imagine all your bank deposits transformed into bonds cashable in ten years? without prior notice... compulsory... and overnight? no? well it happened here TWICE!
Can you imagine not being able to withdraw cash from your bank? no? well it happened here too.

All these disasters have the same root, currency devaluation due to lack of reserves, not thats the only cause (corruption comes to mind too) but its a very important one.

Lets hope for the best


Pablo

Pablo,

Thanks so much for this post. Very incisive and powerful. I remember back when one of these crashes was happening watching a news program on it, and they mentioned also that any USD in peoples accounts were converted into Argentine currency and then spent by the government. People had gone to the trouble to save USD, thinking they were a better bet, and the banks/government just stole them! I remember seeing the lines of people at the (closed) doors of the banks.

Heck, not too long ago here in this country it was illegal to own gold.

I definitely worry about these sorts of things, which is why I think its a good idea to have a decent amount of cash ($200 to $500) in your house in case the banks do shut down. That and a good amount of real silver currency--dollars, half dollars, quarters, and dimes--in case it becomes necessary to barter. But even if that never happens, silver isn't a bad investment. I bought all of mine back before it jumped in price. I think I paid only 4 times face value for all of it. And gold was $325 when I last bought it. Now it's $900. Some people looked at me like I had three heads when I said I wanted all of my monthly allocation to go into Fidelity Select Gold portfolio, but it's performed at some insanely high level over the time I've been investing in it.

Two books spring to mind regarding the Fed:

The Creature from Jekyll Island, by Griffin

and

Secrets of the Temple, by Greider

 

[turbodog]

What are the practical courses of action to protect oneself from what's coming? Should I cash in the T-bills I inherited from my father and buy gold with them? Should I do the same with anything in my savings account or IRAs? I don't want to have my life savings evaporate overnight on account of other people's stupidity. Unfortunately, there are tax consequences to these courses of action, but I'd rather pay taxes and protect my assets than have nothing.

On another note, I think going through dumpsters to find what's valuable and what isn't is suddenly going to be a useful skill.

Protect yourself? Sell that overvalued house and buy a cheaper place with the money. Then do something with the tons of leftover $. Ta Da!

 

[turbodog]

Find a job that is still critical in a down market.

Appraisers made $ through the depression. The bank had to get an appraisal before during a foreclosure.

Trash still has to be picked up. Waste mgmt has been a good stock to own.