Opening the Cage to the Excess Reserve Monster

Re: Bank of England Softens Liquidity Rules for Banks

Central banks are doing their utmost to sustain the bubble economy.  Their main tool is expansion of the money supply.  But most new money is created by the banks via their lending operations, not outright central bank creation of reserves.  If the banks do not increase lending, then the newly created central bank reserves simply find their way onto banks' balance sheets as excess reserves held at the central bank itself.

I have long predicted that the central banks will loosen their rules to entice the banking industry to increase lending, using their excess reserves as the tip of the upside down pyramid of new money creation.  This action by the Bank of England to soften its own liquidity rules is a step in that direction and an indication that it is not concerned that its action will cause the destruction of money's purchasing power.

EU bank bailout deal will fail

Re: EU bank bailout deal

This deal almost ensures that depositors of funds greater than 100,000 euros will lose everything when the inevitable bank failures start cascading across Europe.  There are provisions for exceptions, so it is possible that the ECB will simply print more money.   For politically powerful banks and nations, this provision may be invoked.  Anyone who thinks that the same rules will apply EU-wide needs a crash lesson in real world politics.  It's one thing to throw the Cypriots under the bus and another for the French.

Of course, this so-called deal never addresses the fundamental issue of why the banks got in trouble in the first place.  Therefore, there is no reason to believe that there will not be similar crises in the future.  No one wants to address the fundamental error of uniting fractional reserve banking with infinite reserves produced by central banks, which causes moral hazard and capital misallocations on a massive scale.  The money is gone; it has been gone for a long, long time, but the ECB has been papering over the problem with new reserves created out of thin air.  But now reality is reasserting itself.  One thing is clear--the least politically powerful will suffer most of the losses.

The Rule of Law Will Cure Stockman's "Great Deformation"

Let me disclose right up front that I have not yet completely read David A. Stockman's seven hundred page bombshell of a book The Great Deformation: The Corruption of Capitalism in America.  It arrived a few days ago and I am making steady progress, however.  From several laudatory reviews, such as that by Detlev Schlichter, I know that my blood will boil as Mr. Stockman recounts much known insults to the free market system but with an in-depth knowledge, born of successful careers in politics and business, that few possess.  It is remarkable that someone who has been so successful navigating the modern financial system can also look objectively upon its inherent corruptions.

Nevertheless, as much as I know I will enjoy (if that is the right word) reading this book, I must disclose that I do not agree with Mr. Stockman's prescription for curing the deformation disease.   You see, I read the last chapter first.  It is titled "Another Road That Could Be Taken".  In it Mr. Stockman lists thirteen steps that he believes will prevent the "State-Wreck Ahead".  There is little here with which I agree.  Mr. Stockman wants to retain the Fed, albeit with fewer powers, increase regulation, change the length of the terms of Congressmen, Senators, and the President and limit them to but one term, eliminate the electoral college, retain a means-tested safety net, and confiscate thirty percent of all the wealth in the nation to pay off the debt.  On the positive side he does want to eliminate FDIC insurance and ten major federal agencies and departments, separate the state and the free market, end bailouts and subsidies, and return defense spending to that of actual defense.  His prescription relies too heavily on retaining the superstructure of the current monetary system but supposedly controlling the beast with prohibitions on its powers.  There is much naiveté here from someone who has seen so much.

 

The cure for the great deformation: Adherence to civil and commercial law

The cure for the great deformation is rather simple.  The core of the problem lies in the government's control of money and banking.  These vital services must be returned to the complete control of the free market and subject them to normal civil and commercial law.  No entity would be given a monopoly on money production.  Banking would be divided, naturally by the market, into deposit banking and loan banking as described by Murray N. Rothbard in The Mystery of Banking.  The government would prosecute any money issuer or banker who did not maintain one hundred percent reserves against demand deposits.  There are some Austrian economists who posit that in a free banking environment such laws would not need to be enforced and/or should not be enforced.  A person might accept that his banker lend out some of his demand money, thus maintaining less than one hundred percent reserves.  The problem with squaring this supposedly free market rule with civil and commercial law is that the money and/or checkbook deposit is created in order to be transferred at some point to others who have no way of knowing that they might be accepting a certificate or check backed by less than one hundred percent reserves.  The essence of a sound monetary system is that the commodity itself is the money; certificates and bank book entry demand deposits are money substitutes and may be redeemed for the commodity money upon demand.  It is fraud for a money issuer to produce a certificate or demand account that claims to represent a specific weight or volume of a commodity and yet hold less than that commodity in reserve.

Civil and commercial law does not recognize special privileges for any economic actor.  A banker could not refuse to redeem his demand instruments in specie without violating the law, for which he would go to jail and have both his business and personal assets distributed to his creditors.  Keep in mind that I refer here only to the deposit banking side.  On the loan banking side, the customer is not a bailor--that is, a person who retains ownership of goods but entrusts possession of them to another under a bailment, as is the case on the deposit banking side--but a lender of funds to his banker for a set term for which he receives interest.  There can be no absolute guarantee of the return of the funds, however, since the banker lends them out at risk.  The customer's only security is in the banker's capital account and reputation for having exercised previous good judgment. 

Privileged immunity from law made the great deformation possible

Under this system most of the abuses that I expect to find detailed by Mr. Stockman could not exist, for it is the special privileges accorded to the Fed and the banking system in general that makes them possible.  As usual Ludwig von Mises says it best:

 

There was no reason whatever to abandon the principle of free enterprise in the field of banking...What is needed to prevent any further credit expansion is to place the banking business under the general rules of commercial and civil laws compelling every individual and firm to fulfill all obligations in full compliance with the terms of the contract.

Human Action, p. 440; p. 443

 

No doubt government may still find a way to bail out and/or subsidize favored industries, but it could do so only with sound money, obtained from the citizenry through taxes or the bond market.  There is a natural limit to how much can be raised from either source.  The people do not like paying higher taxes, and the bond market would require higher interest rates for increased deficit spending.  Both avenues reveal to all that resources are limited and that government cannot call them into existence but must obtain them from the private sector one way or another.  Printing money masks this irrefutable fact, leading the people to believe that government spending not only is costless but actually beneficial.  Thusly, under the current fiat money system, which was made possible by removing money and banking from the control of civil and commercial law, the Fed printed $700 billion to fund its Toxic Asset Relief Program (TARP) in 2008 and has engaged in massive asset purchases under its quantitative easing program ever since.  None of this would have been possible under a sound money and banking system.  Furthermore, the government's bailout of General Motors at the expense of the bond holders would never pass court muster even if government could raise the billions of sound money to finance the takeover. 

Adherence to law returns sovereignty to the people

Placing money and banking under civil and commercial law may not appear to be dramatic as Mr. Stockman's thirteen points, but it would change the nature of government's relationship to the people, restoring our liberty and placing government as our servant and not our master.  Losses would be borne by the individuals involved and not made into a social responsibility of the entire body politic, ending massive financial moral hazard.  Governments could still squander our money to some extent, but we would no longer be blind to the claim that they are doing so for our own benefit.  Sound money would reveal the true nature of corrupt practices which government now claims are necessary to stimulate the economy to recovery.  A free democracy always requires constant vigilance by the people of its government's actions.  Placing all society under civil and commercial law is a prerequisite for such vigilance.

 

More Scapegoating the Germans

From today's Open Europe news summary:

Separately, the leader of Silvio Berlusconi’s MPs Renato Brunetta told Italian daily Il Messaggero, “The German Chancellor [Angela Merkel] is destroying the euro and Europe. After provoking two World Wars, Germany has triggered an economic war which has only caused destruction.”

 This is what happens in any socialist organization. When the internal misconstructions reveal themselves, the scapegoating begins. The root cause is never identified, because no one wants to think and no one wants to admit that the entire project was an enormous mistake. In this case, the Germans are being blamed for upholding the Maastricht Treaty restrictions on the European Central Bank's prohibitions against buying sovereign debt. These restrictions were supposed to prevent the very condition that has been allowed to happen; i.e., the socialization of debt among all the eurozone members. But the irresponsible nations, like Italy, want the ECB to shower them with fiat money forever. Today is never the right time to get one's financial house in order. This accusation by the leader of that crackpot Silvio Berlusconi's party is as odious as it is fallacious. The Italians ought to be ashamed of themselves. Germany should get out of the eurozone; then the irresponsible nations that remain will see the real enemy--themselves.

From $35 to $40,000!

How vulnerable is the US to financial ruin? I say it is very vulnerable, and here's the reason. At the Bretton Woods Agreement in 1944 the US had promised to redeem gold at $35 per ounce, which meant that it could not increase outstanding dollars unless it received more gold to back the issue. Keep that number in mind as I go over some vital monetary statistics.

The US owns 261.5 million troy ounces of gold. M1, the narrowest measure of the US money supply (checking accounts and cash held outside bank vaults) stood at $2.523 trillion at the end of April 2013. M2, the broader measure of the US money supply (which adds savings accounts and short term CDs to M1) stood at $10.526 trillion. Now just do the math. For the US to redeem M1 in gold without running out of gold, the price would have to be set at $9,648. For the US to redeem M2, which I consider to be the true US money supply--since savings accounts can be transferred into one's checking account at the click of a computer from home--, the price would have to be $40,252. So, just think about that...since the Bretton Woods Agreement in 1944 the US has inflated the dollar by over one thousand times, from $35 per ounce to over $40,000 per ounce!

The US has been papering the world with its unbacked money to placate its growing dependent welfare class--eleven million on government disability and forty million receiving government issued food stamps, just to name two completely corrupt programs--and fund its worldwide military machine. (The US just sent the Colorado Air Guard, which flies F-16s, to Jordan, just so you are not surprised by some future intervention.)

The implications of this massive act of irresponsibility are for all of us to ponder. But who would deny that the US is extremely vulnerable to financial ruin, which can lead only to geopolitical chaos.

Father of the Euro calls for world currency

Re: Father of the Euro calls for new world currency

The man who convince the European Union to adopt the disastrous euro project now wants to up the ante and impose a new world currency. This tactic was predicted by Ludwig von Mises as the final play by the inflationists who want to cut off any escape from the consequences of their fallacious monetary policies. Note that "Mundell blamed the European Central Bank for aggravating the Euro because of tolerating the Euro appreciation against the US dollar, which led to further debts to many EU countries." In other words, Mundell wanted the ECB to be even more inflationist! If this man were running a corporation, he would have been fired years ago and never entrusted again with managing the resources of others. Yet, here he is...advocating even more of the same snake oil...and getting a hearing!

Continue the thought process....

From today's Open Europe news summary:

Influential Conservative MPs call for tougher rules on EU migrants’ access to benefitsThe Times reports that the Fresh Start Group of Conservative MPs has today published a new report calling on the UK Government to renegotiate a number of EU directives and regulations to toughen up the EU’s rules on migrants’ access to benefits. The MPs suggest that certain benefits should only be paid to those who have “contributed a significant amount to that state’s system” and that the Government should be allowed to claim back any benefits from a recipient’s home country if they had not paid into the British social security system. The Fresh Start Project report is drawn from a public evidence session of the APPG for European Reform and the subsequent report prepared by Open Europe, which acts as the Secretariat to the APPG.
Open Europe: Work in Parliament Open Europe research: EU free movement Times

Requiring people to have "contributed a significant amount to that state's system" is a worthy, short term goal, but let's continue the thought process. Why offer state-sponsored welfare at all? Let each man contribute to his own, personal welfare program. We old timers used to call this "saving for a rainy day", "becoming self-reliant", "accepting personal responsibility", etc. Until we return to these time-honored and time-tested personal virtues, state-sponsored welfare will be a cancer on the body politic...enticing the young to believe that they have a right to become a permanent burden upon their fellow man and have no need to prepare themselves for a world of scarcity and uncertainty.