By Simon Grey, on January 30th, 2012
Make no mistake, the problem does not lie with The Fed per-se. The Fed’s “low interest rates” are there to permit the profligacy of the government, yet the longer it goes on and the more the government abuses this deadly embrace the further into the coffin corner The Fed and Congress go. As the debt accumulation rises the maximum interest rate that can be absorbed goes down until finally you reach the boundary where even a slight increase in rates results in instantaneous bankruptcy.
Denninger is a smart man—well-versed in the law, particularly constitutional law, and has an immense knowledge of politics and economics. And yet, here he is once again calling for enforcement of the laws governing The Fed even though history has shown repeatedly and conclusively that it is politically impossible to manage inflation through a central bank. In theory, it is possible that a central bank will act prudently and responsibly, and not inflate the currency. In reality, though, a central bank is nothing more than yet another mechanism by which the government can tax the people.
This is why the solution to inflation is ending the fed, or at least government-mandated fiat currencies, and to allow multiple competing currencies. Relying on the government to properly manage a monopolistic money supply is an exercise in futility. Though it would be theoretically better to do it this way, history has shown quite clearly that a competitive currency market is preferable to a government-controlled currency, and it is therefore better to accept the fluctuations of market-based currency system over the guaranteed degradation of a government monopoly.
By Ajay Shah, on January 27th, 2012
Reportage by Robin Harding and Michael Mackenzie in the Financial Times:
The rate-setting Federal Open Market Committee predicted low interest rates until late 2014 and set a formal inflation objective of 2 per cent, reflecting chairman Ben Bernanke’s long-held goal of providing greater transparency.
The FOMC downgraded its estimate of growth in the coming quarters from “moderate” to “modest” and Mr Bernanke indicated that another monetary boost for the economy – most likely another round of quantitative easing, or QE3 – remained an option.
“We are prepared to take further steps in that direction if we see that the recovery is faltering or if inflation is not moving toward target,” Mr Bernanke said.
The Fed also published its first detailed forecasts of future interest rates.
…
Adopting the 2 per cent objective is a historic move that binds the whole FOMC to a defined goal that will endure after Mr Bernanke leaves. It means the FOMC can easily justify more easing if it wants to because its inflation forecast for 2014, of between 1.6 and 2 per cent, is below target.
The FOMC voted for Wednesday’s decision by 9-1. The only dissenter was Jeffrey Lacker, president of the Richmond Fed, who wanted to leave the late 2014 date out of the policy statement.
The US suffers from legacy legislation, which predates modern monetary economics, which places the burden upon the Fed of pursuing both price stability and low unemployment. The evolution of the US Fed has been led by human energy within the Fed. Starting from Paul Volcker, who took charge in August 1979, the US Fed has run a Taylor rule with a nice strong above-1 inflation coefficient. In a recent column in the Indian Express, Ila Patnaik tells us about Paul Volcker’s story and how it matters to us. In effect, from Volcker’s chairmanship onwards, the behaviour of the US Fed has been that of an inflation targeting central bank. This was the de facto reality. Everyone knew that the US Fed targets inflation at 2%. What is new now is that the Fed has put greater credibility behind this, by going closer to de jure inflation targeting.
A key dharma of good central banking is to say what you will do, and then do what you just said. By saying that there is an inflation target, there is now full alignment between the words and deeds of the US Fed.
The day will come when India will enact high quality legislation which puts monetary policy on a sound institutional foundation. But we should not accept mal-performance by RBI until that day. It is possible for RBI to do much better, when compared with the present, even though the present legislation is really badly written. The US Fed is a good example of how technical capabilities within the Fed, and not an external legislative mandate, have driven improvements in the functioning of the Fed. This sort of progression is what RBI can and should aspire to, and this does not require waiting for a high quality RBI Act.
By Simon Grey, on January 24th, 2012
In many ways the monetary policy issue is even more important, simply because we are running out of rope on our national debt-addiction rappelling adventure and the floor is still 100′ down. That’s a serious problem — and “gold standards” do not (in fact cannot!) fix it. The only fix that works is to demand and enforce a zero-CPI standard with honest statistics, along with an end to federal government borrowing — period. “Hard money” .vs. “Fiat money” is immaterial; if you permit fraud in the monetary and credit system, as we have, the rest simply does not matter and yet if you put a cork in the frauds and lock up the scammers then you quickly come to the conclusion that allowing a handful of producers of some metal, the majority of which are foreign entities, is the last group you want running your monetary policy!
The Paulites get this wrong and so does Ron Paul himself despite the historical fact that the United States had massive inflationary bubbles and detonations of them during the time it was on the Gold Standard. 1873 anyone (as just one example.)
The real problem in 1873 as with all other similar blowups was the issuance of bogus debt instruments unbacked by anything. In the case of 1873 concentration was in railroads and related construction all financed by long-duration bonds (and therefore subject to high degrees of price risk due to their duration) but which were entirely-speculative and in fact for which there was no actual demand in the economy for the services (transportation to be provided by said railroads) at a level sufficient to meet the intended expense. It didn’t help that we were playing games with our exports (and Europe with its imports) much as China and the US are today, effectively hiding the bubble’s impact for a period of time and allowing it to inflate to ridiculous size. When the over-leveraged positions became exposed the game collapsed and the Long Depression followed. [Emphasis original.]
Denninger correctly notes that a gold standard, in and of itself, is not enough to prevent a bubble of any sort. He also correctly notes that enforcing a zero-CPI standard would fix the current currency mess. However, what he seems to neglect in his analysis is that the real problem is not with the proposed solutions, but the fact that the government has to enact and enforce them.
This then begs the obvious question: given the government’s obvious failures to prevent bubbles by keeping money honest, regardless of the money is metal or digital, why then even bother to put the government in charge of the money supply? They can’t manage it properly when gold is money, and they certainly can’t manage it properly when paper is used as money. Why then trust them with it?
The better solution is to simply allow currencies to freely compete with each other, which will have a strong tendency to ensure that currencies remain sound, strong, and free from inflation. By the way, there is one presidential candidate who has proposed legislation that would do exactly this. We all know who he is.
By Doug Gentry, on January 13th, 2012
In honor of the first week in our Healthcare Economics class, and the beginning of a 6 week session on healthcare via OLLI, here is an interesting report from The New York Times.
National health spending rose a slight 3.9 percent in 2010, as Americans delayed hospital care, doctor’s visits and prescription drug purchases for the second year in a row, the Obama administration reported Monday.
The recession, which lasted from December 2007 to June 2009, reined in the growth of health spending as many people lost jobs, income and health insurance, the government said in a report, published in the journal Health Affairs.
 from The New York Times There are a couple of takeaways from this news.
First, the reduction in spending on healthcare could mean a welcome, albeit temporary relief to those governments and organizations that pay for healthcare….BUT…no real relief for state and local agencies which provide/finance healthcare for poor people. Recessions, of course, result in greater numbers of people qualifying for government-supported care.
The other point is a reminder that some portion of healthcare services are discretionary. When healthcare spending was growing by 10 percent or more each year in the 1980s, that growth probably wasn’t driven by an increase in the need for services. Likewise the slower growth over the last several years is probably not due to the population getting healthier and needing fewer services. Instead, people moderated their demand for healthcare. They put off diagnostic tests, or did not follow through on treatments or prescriptions. Going in the other direction, hospitals routinely see increases in elective surgeries near the end of a calendar year, as people have already met insurance deductibles, and decide to seek care before those deductibles are reset in the new year.
Is this good news? Not necessarily. To the extent the people put off truly necessary tests and treatments, those delays may cost us more in the long run. To some extent, though, tough economic times force us to be more cautious about discretionary spending, and there may be very little impact on long run health status. There is the old saying that if you get a cold, it will take 7 days to go away, but if you see a doctor you’ll be cured in a week! One important element of effective healthcare reform is to introduce that sense of caution in our population. It is a delicate balance – not wanting to interfere with early testing and early, cost-effective treatment, but also discouraging care that has less impact on long term health.
Prices for medical care services and supplies also stayed roughly on par with general inflation during this last year, which is a change from the decades of the 1980s and 1990s where the medical care component of the consumer price index routinely outstripped regular price increases.
I wouldn’t have to polish my crystal ball very much to predict that spending increases for healthcare will pick up speed as the economy recovers. This remains the single most important issue in our nation’s federal deficit struggles.
By Claus Vistesen, on January 5th, 2012
One point that I have been shouting from the proverbial roof tops in my research, to partners and colleagues is that 2012 may well be the year when all major central banks will be conducting both conventional and unconventional monetary easing at the same time. I think this is a very strong testament not only to the severity of the ongoing debt crisis in the developed world, but also to the propensity of central banks to choose inflation as the desired route to recovery. We need not initially discuss whether they are deploying the proper set of policies or even whether such policies represent moral hazard or a ponzi scheme on government debt.
The main thing is to realise that this is an unprecedented global monetary experiment.
My message to investors in 2012 would then be not to underestimate this inflation bias by part of global central banks. Inflating your way out of too much debt won’t work in the long run without considerable defaults and/or economic stress (hyper inflation). Events since 2008 are ample evidence of this, but the simultaneous inclination to create inflation and debase your currency (to generate more inflation and exports) by all major central banks will continue to exert a profound effect on asset prices and the global economy.
In so far as goes the idea that an investors’ interest in asset prices is conditioned on return and volatility we can say that central bank policy will affect both. Financial assets will certainly benefit from excess liquidity, but the unravelling of too much debt through inevitable defaults and the central bank policies themselves will generate volatility. Whether the combination of such volatility and return means that you should stay out of the market entirely is a question for the individual investor. I believe that
From a macroeconomic point of view, the downbeat assessment remains however that it is difficult if not impossible to paint a picture of where sufficient growth is going to come from and on the investment side of things, the higher level of volatility will tend to shake the foundation of investors even if money is to be made for short periods of time.
Most attention has been centered on the ECB, whether the 3y LTRO represent QE and whether the continuing rejection to buy government bonds outright means that the ECB is a laggard among global central banks (see this excellent report by Hinde Capital for additional analysis relative to the points below).
750 Billion USD, and counting …
Europe remains the center of the global debt crisis, a role the continent has now decisively taken over from the US which stood at the forefront in the initial phases of the crisis in 2008. Apart from the almost endless summits and meetings among government officials the significant measures continue to be the ones coming from the ECB.
In my view, the European interbank market is virtually dead and dusted, and the ECB and the Fed are now effectively the only thing between Europe’s banks and large scale failures. Since early September 750 billion USD worth of liquidity has been provided to the European banking system of which 100 billion sits on the Fed balance sheet through USD swap lines.
Who will bet against the final 3y LTRO auction to take this beyond one trillion USD?
Spanish and Italian curves are now nicely steep again after a brush with inversion which obviously was one of the main objectives even if it was always debatable whether banks would buy government bonds with the liquidity taken up at the ECB.
The question is; how do you unwind all this? 750 billion USD to roll short term liabilities with the ECB and the Fed seems to me to be one of the biggest gamble in monetary history.
While the BOE and the Fed have been transparent in their QE efforts and the BOJ never really having left the zero bound the ECB has been more covert. However, it is my contention that with the expansion of the securities market programme (SMP) in 2011 to buy considerable amounts of government bonds (1) as well as the 3y LTRO the ECB is now fully engaged in quantitative easing.
I base this on two points.
- The ECB has acted as a sovereign debt buyer of last resort in times of crisis. It is common knowledge in the market that the ECB has been Italian and Spanish bonds in times of particular stress on the notion that these two economies in particular could not be allowed to fatally succumb to the debt snowball dynamics.
- ECB support for the banking system in the form of collateralised liquidity and wholesale funding is not temporary but structural and permanent in nature. The interbank market in Europe is not working and has not been working since the crisis started in 2008.
The ECB will of course vehemently deny this but investors should understand that such denial is mainly out of political reasons. When Draghi unveiled the ECB’s attempt to backstop the crisis in Europe by offering full allotment liquidity on a 3y basis, the market was disappointed because the central bank president also reiterated that the ECB would not step up its purchases of government bonds.
I think that the ECB will be forced into a much more direct and active role where unsterilized purchases in the primary market (monetisation) will be needed, but I fully appreciate the political issues. We are currently in a delicate situation where new governments in most of the involved countries are saddled with forced mandates to impose austerity. It is very difficult for all parties involved to push this agenda if the ECB had stepped up a full backstop. Moral hazard risks are consequently paramount here.
As such, investors must content with the ECB’s attempt to shore up the European banking system which is no little feat given the bank rollover schedule in 2012 as well as new Basel II regulation which will further impair already shaken balance sheets. The ECB’s initiatives then follows the steady deterioration of conditions in the European (indeed global) banking system which initially culminated in the coordinated action by global central banks to supply dollars through Fed swap lines and which found its European answer in the ECB’s decision to provide unlimited liquidity yet again.
The problems look ominous for European banks and the global financial system in general. No matter what, European financial institutions will have to delever significantly which will spread its tentacles wide and far due to the high penetration by European banks in emerging markets (Eastern Europe in particular).
Behind the scenes however, significant ink has been spilled to debate and speculate on to the exact significance of the ECB’s liquidity operations.
John Hempton for example suggests that the ECB’s policy move is an open invitation to play the carry trade game using almost free liquidity to buy higher yielding government bonds.
Well the Euro fix is in. Whether it works – that is another question. But the fix is this: European banks can borrow unlimited amounts for three years to buy Euro government debt. The debt often yields 5 percent. The money costs 1 percent.
I agree that the incentives are certainly there for the banks to play this game especially in the context of government bonds as zero risk weighted assets. The problem is that many European banks have spent more than a year and two stress tests to get rid of substantial amount of peripheral government debt (which do not count as zero risk weighted assets according to Basel III) and as such weak governments are unlikely to benefit from this.
The flip side of this is that most of the liquidity taken up by banks go straight back to the ECB at the deposit facility which is now standing higher than at any time between 2008 and 2010.
Quote Reuters
The euro zone banking system starts the new year awash with record levels of liquidity but few signs that institutions are prepared to lend to each other, leaving money markets frozen.Most of the near half trillion euros of three-year funds borrowed from the European Central Bank in the last week of 2011 have made their way back to the ECB’s overnight deposit account.
The Reuters piece goes on to argue that most of the liquidity will probably go to aid the large refinancing need banks face in 2012 and thus effectively as a replacement for a non-functioning interbank market that would normally be able to roll this financing. If this does nothing to solve the problem of sovereign insolvency and illiquidity it will work wonders through the fact that banks won’t act as a drag on their respective sovereign’s balance sheet as long as the ECB is involved.
I would note though that even though the liquidity is mainly reflected in reserves held at the ECB, it still represents excess liquidity as noted by Danske Bank.
Some market commentators have argued that the first 36 months long-term refinancing operation (LTRO), in which banks took EUR490bn in total, has so far not worked as planned because the extra liquidity has simply been placed on the deposit facility at the ECB. However, this argument is false.The sharp increase in outstanding open market operations (MRO+LTRO) increases excess liquidity (defined as open market operations plus recourse to the marginal lending facility minus autonomous liquidity factors minus reserve requirements) and this excess liquidity shows up as deposits at the ECB in just the same way as it did in 2008-10.
However, nothing is easy and despite the fact that collateral can be posted for liquidity the sovereign is still on the hook as my friend Edward Hugh points out.
Banks are being encouraged to keep rolling over what are basically NPLs by financing them at 1% at the ECB (foreclosing on them in Spain and keeping the property on the books may cost something like 8% in comparison). But the ECB isn’t assuming the risk here, the national sovereign implicitly is, and is getting in deeper by the day.
This is certainly true by the letter of the law but one has to wonder whether the ECB will ever get paid back here. I mean 3 years is an awful lot of time. The ECB can roll these loans as long as need be (it has already effectively been rolling bank funding since 2008) while maintaining the figue leaf that it is not funding sovereigns. This may be true, but it is effectively funding the sovereign’s banks and postponing the day of reckoning which is bank failures or nationalisation or both.
If the ECB is then forced take a hit on the collateral or the loans themselves, it will need to create the money to pay for these loans by printing euros. This sounds as a plan to me except that it does not solve the funding risks of governments which may or may not be able to ask their banks for help. The likely answer is that they won’t be unless the ECB and EU decide to wield the ultimate weapon of financial oppression which would be to penalise reserves over a given level with negative interest rates at the same time as banks would be forced, through regulation, to hold government bonds.
But Edward makes another interesting point;
Looking at the Greek PSI, what they would try and do (if all this gets that far, I mean if the Euro holds together long enough in this Byzantine world) ) is load up the private sector share of the haircut, and keep the ECB as untouchable official sector. At the limit they can use ELA to keep the banks afloat while the sovereign restructures and then recapitalises.
(…)
Why would any ex Eurozone third party want to be counterparty to anything which might end up being subordinated to ECB exposure later on down the line. The more I think about it the more it seems to me that the 3 yr LTROs might end up choking the European banking system to death.
It is difficult to disagree on the gist of this point, namely that the ECB is digging itself a very big hole. If banks can exchange under water assets at the ECB for a deposit asset at the ECB (albeit with a negative carry) the ECB is running the risk that it becomes the sole counterparty of bad assets in the euro zone in which case seniority will mean very little.
The Greek situation is a good example. Private creditors face an almost certain 100% wipeout exactly because they represent such a small tranche of the total stock of debt. In such a situation the asymmetric relationship between subordinate and senior debt holders mean that the latter essentially become equity holders. But once subordinate creditors are wiped out the turn comes to the senior debt tranches and the further the ECB goes along the road of providing full allotment liquidity the higher will be its implicit direct claim on assets of all sorts of qualities.
In conclusion, it is my view that the ECB is now the only thing between the economy and widespread bank failures, but I also concur that the consequence of this is a permanent outsourcing of the interbank market in Europe to the ECB’s balance sheet and, quite possibly, Fed’s USD swap lines.
–
(1) – Even if such purchases have been fully sterilised.
By Bron Suchecki, on January 4th, 2012
Got a post up on the corporate blog on how 50% of all money spent on non-fuel mineral exploration during the last 15 years was spent on gold exploration.
And from the “who can make the most dramatic price forecast” department comes The Possibility of $1,000 Silver before Hyperinflation. Has anyone made a higher call?
To save you reading the whole article, here is the key logic behind the headline:
“…with gold at this relatively conservative top of $10,000 – if silver is at its historic 16:1 average in relation to gold – silver will be $625 per ounce. We have also explained above how it is entirely possible for silver to overshoot this 16:1 average, which is normally what happens when a trend has been misaligned for such a long period of time. If silver does reach a 10 to 1 ratio as it has done before at different times throughout history, then we would be seeing a price of $1000 per ounce…”
I suppose when you start off with the assumption that $10,000 gold is “relatively conservative” then $1000 silver is not far behind.
The key “gotcha” is in the headline: “before Hyperinflation”. That is not a situation in which you want to trade your silver for $1000 of soon to be worthless fiat. 
By Simon Grey, on December 14th, 2011
The tax plan proposed by Republican presidential candidate Newt Gingrich would add $1.3 trillion to the U.S. budget deficit in 2015 alone, a new analysis shows, complicating his goal of balancing the government’s books. [That’s an understatement, to say the least. –ed.]
The analysis by the nonpartisan Tax Policy Center compares the federal government’s take under Gingrich’s proposal with projected U.S. revenue if current tax law ran its course and existing income tax cuts expired as scheduled after 2012.
Here’s the thing: Federal expenditures are always paid for by productive people. Always.
The options for funding are direct taxation, inflation, and debt. The taxing effects of direct taxation are obvious and well-known. The taxing effects of inflation, however, are a little more pernicious because they aren’t felt right away. In fact, some even find inflation to work as a subsidy. However, inflation causes the nominal price of goods to rise, generally before most people see their income rise at a corresponding rate, and the difference between increased prices and increased income is effectively a tax. And then debt is simply taxation deferred, wherein bonds are sold under the implicit promise that the government will pay them later, generally by direct taxation.
The key to actually reducing taxes, then, is to first reduce real spending, elsewise taxes will never truly go down. At best, they will simply be time-shifted. Thus, Gingrich’s tax proposal is nothing more than a farce because tax cuts are not accompanied by spending cuts. And, until taxes and spending are cut in tandem, Gingrich should be viewed only as a slimy charlatan, and nothing more.
By Simon Grey, on December 5th, 2011
From Bryan Caplan:
Many educators sooth their consciences by insisting that “I teach my students how to think, not what to think.” But this platitude goes against a hundred years of educational psychology. Education is very narrow; students learn the material you specifically teach them… if you’re lucky.
Other educators claim they’re teaching good work habits. But especially at the college level, this doesn’t pass the laugh test. How many jobs tolerate a 50% attendance rate – or let you skate by with twelve hours of work a week? School probably builds character relative to playing videogames. But it’s hard to see how school could build character relative to a full-time job in the Real World.
At this point, you may be thinking: If professors don’t teach a lot of job skills, don’t teach their students how to think, and don’t instill constructive work habits, why do employers so heavily reward educational success? The best answer comes straight out of the ivory tower itself. It’s called the signaling model of education – the subject of my book in progress, The Case Against Education.
According to the signaling model, employers reward educational success because of what it shows (”signals”) about the student. Good students tend to be smart, hard-working, and conformist – three crucial traits for almost any job. When a student excels in school, then, employers correctly infer that he’s likely to be a good worker. What precisely did he study? What did he learn how to do? Mere details. As long as you were a good student, employers surmise that you’ll quickly learn what you need to know on the job.
In the signaling story, what matters is how much education you have compared to competing workers. When education levels rise, employers respond with higher standards; when education levels fall, employers respond with lower standards. We’re on a treadmill. If voters took this idea seriously, my close friends and I could easily lose our jobs. As a professor, it is in my interest for the public to continue to believe in the magic of education: To imagine that the ivory tower transforms student lead into worker gold.
What makes the college bubble so problematic is that it is essentially inflationary. College degrees can be considered a form of currency in the labor market, wherein one purchases a salary with not only one’s labor but one’s college education as well. Obviously, this mechanism is not as direct as, say, buying milk at a grocery store, but the effect is similar.
The labor market, then, relies on college degrees to indicate a prospective employee’s fitness for the salary being offered. Certain types of degrees generally pay better than others, certain colleges’ degrees pay better than others, certain grade point averages are worth more than others, etc. Someone who receives an MBA from Harvard while maintaining a GPA of 4.0 will generally earn more than someone who receives an Associate’s degree from ITT Tech while maintaining a 2.0 GPA. This should make sense, as the quality of student varies by institution, degree, and grade, and there are ways to sort this. The college bubble, then, serves as a form of inflation because it distorts the signal that a college has in the labor market.
Basically, as is well known, the college bubble is the result of massive governmental interference in the post-secondary education market. The federal government offers direct subsidies of education costs (e.g. the Pell Grant), and also makes college loans a very enticing offer to lenders by guaranteeing the loans. With direct subsidies and easy credit, prospective students have a very strong incentive to go to college. Furthermore, with this much money on the line, colleges have a very strong incentive to accept more students.
The effects of this bubble, as noted before, are seen primarily in signal distortion. This occurs because employers now have a larger labor from which to select workers. This generally seems like a good thing, since employers can now offer lower wages, but this is not always the case because some potential workers are perhaps not as well-qualified for their position as others. The problem with using college degrees as a qualification is that, at this point, there isn’t enough data to sort the good from the bad. When there were a limited number of college-educated labor candidates, the quality was considerably better since colleges had an incentive to maintain quality control. This is no longer the case because the federal government is paying colleges, indirectly, to simply pass out degrees to young adults with no regards for their qualification.
Thus, the lower wages that have resulted from the increased pool of labor applicants can be thought of as a risk premium. Because there are more college-educated people in the labor supply coupled with increased variance of abilities without there being an increase in the sharpness of the signal generally associated with a college education, and because American labor is tightly regulated with regards to discrimination (particularly as it pertains to firing employees), there is consequently more risk associated with hiring someone because the chance that person a company hires turns out to be a bust, as it were, is considerably greater. Given the costs associated with firing incompetent workers, particularly if they are in a union or minority, employers have an increased incentive to mitigate that risk by offering lower wages.
As such, the most problematic aspect of the college bubble is the consequences that come with signal distortion. Because the supply of college educated labor has increased with a matching increase in demand for said labor, and because a college degree isn’t nuanced enough as a single, there will be an increase in the number of people who are overpaid and an increase in the number of people who are underpaid. This happens because the signal sent by a college degree is roughly the same for everyone who has one.*
Some people will be underpaid because their aptitude is such that they would ordinarily deserve more pay than they are currently receiving but, because it is now more difficult to tell who has what levels of aptitude, they must take a pay cut. The reverse is true for those who are overpaid. Basically, the inflation in the number of students undermines meritocracy, thereby distorting the pay scale. Thus, the current bubble has introduced not only distortion, but market failure on a large scale.
The irony of the current college bubble is that its existence is largely predicated on the belief that a college education makes one more intelligent. This claim is laughable on its face because it does not begin to account for the self-selection bias inherent in this sort of activity. Do students learn because they go to college or do they go to college because they like to learn? This is a crucial question because if the answer is the latter, then it seems likely that those who do go to college would become just as knowledgeable if they lived in a library for four years.
At any rate, the college bubble has had the nasty effect of giving diplomas to those who have no desire to learn, and have undermined the meritocracy that once was a college education, thereby depriving those who are truly above average from an income that would properly reflect this fact. This, then, is the lamentable effect of the college bubble: The attempt to make everyone equal in education has only led to a diminution of standards. We are all idiots now.
* Obviously, a Harvard diploma is still more valuable than an ITT Tech diploma. However, if Harvard’s business school doubles the number of graduates, year over year, the value of a Harvard degree will decline assuming that there is not a corresponding increase in demand for Harvard grads.
By Simon Grey, on December 2nd, 2011
Let’s assume a 2% productivity increase per year over 30 years. Let’s also assume a 2% inflation rate over 30 years. This is what it looks like, starting with a baseline of “10,000.”
Your cost of living has gone up by 78% in notional dollar terms but it should have gone down by 44%!
The spread between those two lines was literally stolen by the banks and government acting intentionally as a group. They defrauded you, stealing your economic output and improvement in productivity, using it to hide the impossibility of continual deficit spending. Summed, the line is flat—but it should not be; that improvement in standard of living belongs to you, not them.
Basically, as production becomes more efficient the cost of products should decline. For example, computers that once cost millions of dollars in 1970 should cost roughly $50 today.* Instead, it costs six times that. What’s amazing is that efficiency of production has increased so dramatically for computers that the nominal price has decreased in spite of the dollar’s purchase power declining by roughly 83%.
At any rate, inflation works as a form of theft because it robs people of the benefits of their increased productivity in the form of higher prices. This happens because of the very simple rules of supply and demand.
Nominal price is determined by demand of a product relative to supply of a product relative to the money supply. Products with high demand low supply will generally have high prices; those with low demand and high supply will have high prices. As long as the money supply remains stable, nominal prices will be mostly contingent on the supply and demand of the product in question.
If, however, the supply of money fluctuates, nominal prices will fluctuate accordingly. Decreases in the money supply will lead to decreases in the nominal price, assuming that supply and demand remain unchanged. Conversely, increases in the monetary supply will lead to nominal price increases, again assuming that supply and demand remain unchanged. The reason for this is simple: the monetary base does not, in and of itself, make more things available for purchase. If you have ten cars, it does not matter if the monetary base is ten units or ten thousand units; fluctuations in the monetary base don’t change the underlying reality that there are a finite number of goods available for purchase.
Now, what makes inflation so pernicious as a form of theft is that it requires that the increased money supply make its way into the economy. This is not accomplished smoothly or evenly (i.e. the government doesn’t dump in all the money at once, and doesn’t distribute the extra money to everyone in the economy). As such, the government must give the money to someone.
In recent cases, the recipients of inflation have been major banks. Because they get the extra money first, they benefit from the effects of the increased money. While markets are efficient, they do not act instantaneously to new information, which is a fancy way of saying that it takes some time for the new money to make its way into the economy. The early recipients take advantage of the lower prices by buying more, which drives up the price of goods. The later recipients of the money see the prices rise before they get the extra money. Basically, then, inflation works as a tax on the politically disconnected (usually the poor and middle class) since the rich tend to get the money first and buy at low prices which drives up the prices for everyone else. Thus, inflation is basically a form of income redistribution.
Since the government has control of the money supply and gets to pick the initial recipients of inflation, it is therefore fair to say that the government is stealing from the poor and middle class and giving to the rich because it is basically robbing the poor and middle class of their increased productivity (which should be seen in the form of lower prices) and giving to the rich (who get to purchase at lower prices before driving them up). Thus, it should be clear that inflation is nothing more than outright theft, and should be viewed as such. The government, then, deserves the outrage of all of its productive citizens.
*It’s impossible to match machine specs across eras, so I simply took the cheapest computer available today, which is this HP desktop and adjusted the price for inflation using Tom’s inflation calculator. The dollar amount was 300, the starting year was 2010, and target year was 1970. Data for the cost of the best computer of 1970 was found here. Note that that Wal-Mart’s crap computer is still superior to the best the 1970 had to offer.
By The Gold Report, on November 30th, 2011
The mountains of debt engulfing Western economies is likely to lead to hyperinflation according to Clive Maund, president of clivemaund.com. In this exclusive interview with The Gold Report, Maund details the scenario he sees for collapse and reveals several gold stocks that could benefit.
The Gold Report: Clive, on clivemaund.com you said “for fundamental and technical reasons the U.S stock markets look set to plunge soon.” So, it seems we’re headed for either deflation or hyperinflation. The course seems set for hyperinflation, but what’s your best guess as to what’s going to happen?
Clive Maund: The key point to grasp is that the world needs a “reset” and sooner or later it is going to get it. By that I mean that all the dross of debt and derivatives that have accumulated over many years and are now dragging the world economy into the mire are going to have to be cleared away before the world can move forward again. Many readers will be familiar with the experience of working at a computer that “locks up” when too many applications and programs are open. When you arrive at this point, you cannot move forward or back, and there is nothing else for it but to hit the reset or restart button. That is the point the world economy has now arrived at with this debt crisis, and the longer business leaders and politicians take to grasp the nettle and write all this debt and derivative mess off, the worse it is going to get. So what if banks go bust? You can always create new ones later.
The debt and derivative mountains are now so enormous that there is no way they can ever be repaid, and that means that they either have to be written off—the drastic but most effective solution—or hyperinflated away into oblivion, which is the politicians’ preferred way of dealing with them because this route buys them the most time. The major underlying economic force at work is deflation—a period of severe contraction is required to purge the system of debt and to eliminate distortions and inefficiencies that have become a huge burden.
Deflation, however, involves widespread economic hardship, involving reductions in wages and massive unemployment and can create political instability, with the masses taking to the streets and rioting. This is why politicians fear it so much and will choose inflation or even hyperinflation over deflation. So they have been fighting tooth and nail to hold back the forces of deflation principally by expanding the money supply and bailing out failing entities.
The situation has now become dangerously unstable, as we are right on the cusp between plunging headlong towards a major hyperinflationary episode that would see most Western economies end up like Zimbabwe—hyperinflation is the route that politicians are trying to steer us along—and tipping back into severe deflation. The reason it is dangerously unstable is all the major world players have to play their part in staving off a liquidity crisis by printing money as necessary, flooring interest rates, and fighting hotspots, which flare up and threaten to create a liquidity crunch or drive up interest rates. Thus, Republicans not playing ball by trying to make a significant reduction in the deficit, or the discordant buffoons in Europe failing to stop interest rates on bonds skyrocketing are “letting the side down” and by so doing are risking a collapse in the markets, which will bring about the deflation they dread so much. This could happen any time, which is why the situation is so tricky for investors.
I believe that politicians will hold out for hyperinflation as long as they can, but at some point, which could be soon, they are going to lose control completely, and the world economy will collapse back into a deflationary depression, which is actually what it really needs to get this mess sorted out once and for all. Europe could well be the trigger for this, as its debts are totally unmanageable and its leaders lack the cohesion and decisiveness to flood the market with the liquidity needed to get things back under control.
TGR: You use a lot of technical charts to predict economic outcomes. One pattern you’re seeing on these charts are “Broadening Tops,” which you suggest are “notoriously treacherous and dangerous patterns that are little understood by the general investing public.” In simple terms, please explain how these patterns come about and why investors should be concerned.
CM: After a major uptrend, the market, in this case the precious metals sector, starts trending sideways in a series of increasing wide swings, as has been happening with both the AMEX Gold BUGS and PHLX Gold/Silver Sector indices, and I can do no better than to repeat what Robert D. Edwards and John Magee, the authors of the “bible” of technical analysis (TA), Technical Analysis of Stock Trends, had to say about these patterns:
“If the Symmetrical Triangle represents a picture of ‘doubt’ awaiting clarification, and the Rectangle a picture of ‘controlled conflict,’ the Broadening Formation may be said to represent a market lacking intelligent sponsorship and out of control—a situation, usually, in which the ‘public’ is excitedly committed and being whipped around by wild rumors. Note that we only say that it suggests such a market. There are times when it is obvious that those are precisely the conditions that create a Broadening Pattern in prices, and there are other times when the reasons for it are obscure or undiscoverable. Nevertheless, the very fact that chart pictures of this type make their appearance, as a rule, only at the end or at the final phases of a long Bull Market, lends credence to our characterization of them. Hence, after studying the charts for some 20 years and watching what market action has followed the appearance of Broadening Price Patterns, we have come to the conclusion that they are definitely bearish in purport, that, while further advance in price is not ruled out, the situation is, nevertheless, approaching a dangerous stage. New commitments (purchases) should not be made in a stock that produces a chart of this type, and any previous commitments should be switched at once, or cashed in at the first good opportunity.”
TGR: Part of your thesis for global economic demise involves American politics. On clivemaund.com you wrote: “(American) politicians are bowing to public pressure to do something serious regarding reducing the deficits, which is setting the stage for an economic implosion.” If you were with the Fed or part of the Obama Administration, what measures would you have taken to avoid an “economic implosion?”
CM: I would take exactly the measures they have taken up to now, which is to “kick the can down the road” in the hope that some other schmuck will have to clear up the (bigger) mess later. That has been their “modus operandi” up to now and the only reason they are considering the “nuclear” option of actually trying to rein in the deficits is because they are coming under massive pressure from their constituencies to do so. The best way to avoid an economic implosion is not to allow the debts to become unmanageably large in the first place, but that would have involved restraint and sacrifice—something they were not prepared to accept—they wanted to “party now” and to hell with the future consequences—now they, or rather we, are slipping into the massive hole they have dug for us.
TGR: Could we still see some version of quantitative easing 3?
CM: Yes, we could and all it will do is create an inflationary depression that is later followed by a deflationary depression anyway, instead of just “taking their lumps” and allowing the deflationary forces to proceed and do their necessary cleansing work and run their course, which is going to happen eventually whether they like it or not. They are pushing on a piece of string—economies are so beset with distortions arising from excess debt and excessively low interest rates that they can print all the money they like, it won’t drag the economy out of the mire.
TGR: That’s the American economic picture. Let’s look at Europe. Italy’s 10-year yield recently climbed above 7%, while Spain recently sold less than its maximum target of debt as financing costs went up. And the extra yield investors demand to hold 10-year bonds from France, Belgium and Austria instead of German bonds of similar maturity, all increased to euro-era records. It certainly doesn’t inspire investor confidence. What are your thoughts?
CM: I have long referred to European leaders as a bunch of self-serving buffoons and that is all they are. They have been assiduously digging a massive crater beneath Europe for years and now it is falling in and nothing can stop it. They have neither the money nor the ability to cooperate to stop Europe from sliding into chaos and disintegration.
The way to address the otherwise intractable European debt crisis is to simply write down all the debts to zero and say to the creditors, “Tough luck, you are not getting a cent.” Chaos would ensue, of course, and banks would collapse, etc., but it really is the only way—to wipe the slate clean and start afresh. They won’t do this of course. Instead, as in the U.S., they will possibly attempt bailouts and socialize the losses of large creditors like banks and major corporations and institutions by pushing the bill onto the general public in the form of austerity measures and tax hikes, and it is interesting to ponder the reason for this.
Why do European leaders put the interests of big business ahead of their electorates? The reason is that big business has much more power over them than the electorate has—big business essentially decides whether they have a chance at office or not, and how their careers develop when they are in office. We are all aware of the lobbying system in the U.S. and the persuasive power of campaign contributions, for example, and we can surmise that similar incentives exist in Europe. All the public has is its vote and its ability to protest, which only becomes a force to be reckoned with when the masses start to aggregate in the streets in sufficient numbers.
Austerity measures won’t work, of course; they will simply reduce economic activity and tax revenues and so the debts will continue to grow and the vicious downward spiral will intensify. European leaders, by kidding themselves that they can ever pay down these debts, are like a man trying to swim with a refrigerator strapped to his back—he is going down and the only hope is to cut loose the refrigerator. Their only hope is to totally write off the debts and let the pieces fall where they will. If they are too mule-headed to do this, down goes Europe and the U.S. and the rest of the world into the bargain.
TGR: How should investors protect themselves from a plunge in global markets?
CM: Cash, bear exchange-traded funds (ETFs) and possibly options.
TGR: Moreover, is there a strategy or two that you’re using to profit from the plunge?
CM: Cash, bear ETFs and options.
TGR: Despite all the signs pointing toward a market crash, you continue to recommend precious metals equities. This seems counterintuitive. What is your rationale for continuing to support these equities?
CM: It is counterintuitive. We have had to contend with conflicting indications, the principal contradiction having been between the ominous broadening patterns forming in the precious metal stock indices and until now the strongly bullish commitments of traders (COT) data, particularly for silver, which led us to adopt a bullish stance in recent weeks. So far this has paid off, as the sector has rallied from its October lows. However, with the latest COT data looking less bullish, and an increasingly dangerous pattern emerging for the broad U.S. stock markets, we have been cashing in our chips and adopting a more defensive posture.
TGR: Clive, you’re based in Santiago and some Latin American countries, including Peru and Argentina, are imposing new royalties and/or taxes on mining companies. Do you believe this will prohibit direct foreign investment and deter the average precious metals investor? What’s your perspective?
CM: It depends on the magnitude of these royalties and taxes. If they get too greedy and keep raising them, it will turn out to be counterproductive. It also depends on what the raised monies are being used for. If the mining companies are doing nothing to help local communities other than paying wages and are not making provision to rehabilitate land after mining activities, etc., then these levies are justified if they are used to achieve these aims. But if they are simply siphoned off into government coffers, then it is nothing more than government parasitism, like airport taxes.
TGR: What are some juniors you’re following and that could offer some upside, post-plunge?
Although Alix Resources Corp. (AIX:TSX.V) has been drifting lower since early this month, technically its picture looks positive, as this reaction has been on light volume and it was preceded by two high-volume gap up moves, which is bullish. In adverse market conditions, it could drift back further towards the support at the early October lows at about CA$0.105, but with more drill results believed to be pending, it could turn higher again at any time. Around these levels and especially down towards CA$0.11, I like it as a speculative play with the potential for large percentage gains.
Following a big rise late last year and into this year, which led to its being very overbought, Aguila American Gold Ltd. (AGL:TSX.V) has reacted back and now appears to be basing above strong support at about CA$0.20. In adverse market conditions it could react back towards this support again, in which case it will be viewed as a buy. Volume and volume indicators are strong, which further suggest that it has bottomed and is basing.
Others that look promising include the Colombian gold explorer Galway Resources Ltd. (GWY:TSX.V), which is shaping up well on the charts with positively aligned moving averages. If it can take out the important resistance approaching CA$2, it should make further substantial gains. GoGold Resources (GGD:TSX.V) is well run, has been in a steady uptrend that shows no signs of ending and is viewed as attractive after its recent reaction between its August high and its low in mid-October at about CA$1.12. PMI Gold Corp.’s (PMV:TSX.V; PVM:ASX; PN3N.F:Fkft) recent big high volume gap up is viewed as a sign of higher prices to come. The gap move was due to a tripling of the company’s gold resource at its Obotan gold project in Ghana.
TGR: What’s your near-term outlook for precious metals, namely gold and silver, as we head into 2012?
CM: The near-term outlook for gold and silver is for a correction that should not see silver go below its recent panic lows set in September. Then everything depends on the manner in which the debt crisis is handled. If unlimited liquidity is created in an effort to paper over the cracks both in Europe and the U.S., then the sky is the limit for precious metal prices. But if deflation takes hold, then gold and silver are likely to drop with most everything else, although not as fast, as there will be few other safe havens in which to put your money.
TGR: Thank you for your insights.
Clive Maund has been president of www.clivemaund.com, a successful resource sector website, since its inception in 2003. He has 30 years of experience in technical analysis and has worked for banks, commodity brokers and stockbrokers in the City of London. He holds a diploma in technical analysis from the UK Society of Technical Analysts. He lives in southern Chile.
|
|
Most Popular Posts