The Unstable Element that Messes Up the Inflation/Deflation Debate

inflation/deflationI was recently asked to sit on an expert panel, analyzing an inflation/deflation debate between Harry Dent and Peter Schiff. Sitting with me on the panel were Doug Casey, Chris Mayer, and Karim Rahemtulla, as well as Messrs Dent and Schiff.

All of these guys spend prodigious amounts of time on financial analysis, and I don’t, so I wondered what I could bring to the party.

As I ran the subject through my mind, however, I realized something important had been left out of the analysis – something that I added to the panel and which I’d like to explain here. It was…

The Black Box

Without question, the central player in US markets (even world markets) is the Federal Reserve Bank. Every serious financial analysis concerns itself with Ben Bernanke and his successor Janet Yellen; indeed they have to, as the Federal Reserve single-handedly holds up the US stock and housing markets.

But when we talk about the Federal Reserve (or “the Fed,” for short), we are overlooking something very important:

Bernanke and Yellen are mere employees of the Federal Reserve, not the owners. And we don’t know who the owners are.

If you’re new to this subject, that may sound ridiculous, and I can’t blame you for thinking so. But, the fact is, we really don’t know. The US government doesn’t own it and isn’t telling who does.

We do know that the Fed is a private banking group that has been given a monopoly on the creation of US currency, and the list of its owners is a closely held secret.

The true owners are almost certainly reflected in the roster of Primary Dealers who skim from US dollars (actually Federal Reserve Notes) as they are being made, but we really don’t know much more than that. There was a list that circulated in about 1930, but that was a long time ago.

So…

Who are the people that Bernanke and Yellen take orders from? We don’t know.

What do these people want? We don’t know.

What are their long-term asset positions? We don’t know.

Who might they protect, aside from themselves? We don’t know.

If things get rough, will they obey politicians? Probably not, but we don’t know.

Our closest view of these people came from Professor Carroll Quigley, who said that he was given access to their records in the early 1960s. This is what he wrote in his book, Tragedy & Hope:

It must not be felt that the heads of the world’s chief central banks were themselves substantive powers in world finance. They were not. Rather they were the technicians and agents of the dominant investment bankers of their own countries, who had raised them up, and who were perfectly capable of throwing them down. The substantive financial powers of the world were in the hands of these investment bankers who remained largely behind the scenes in their own unincorporated private banks. These formed a system of international cooperation and national dominance which was more private, more powerful, and more secret than that of their agents in the central banks.

In another passage, he writes:

The powers of financial capitalism had another far-reaching aim, nothing less than to create a world system of financial control in private hands able to dominate the political system of each country and the economy of the world as a whole… Each central bank sought to dominate its government by its ability to control treasury loans, to manipulate foreign exchanges, to influence the level of economic activity in the country, and to influence co-operative politicians by subsequent rewards in the business world.

So, was Quigley telling the truth? I don’t really know, but Quigley maintained an excellent reputation. This wasn’t a man given to wild stories.

And if Quigley did tell the truth in 1966, is it still true?

I don’t know that either, and that’s the point!

There’s a fundamental factor in our financial analysis that is completely unknown to us.

Presuming…

Okay, presuming that Quigley was telling the truth and that his information remains close to true… and presuming that when push comes to shove, the Fed will ignore politicians… it seems likely that the Fed (who is buying up the rights to lots of real estate at the moment) will pull the plug at some point.

The purpose of pulling the plug will be two-fold: To reset an untenable economic system and to consolidate their position in a deflation. (Deflation, with its flood of loan defaults, transfers assets from borrowers to lenders.)

After that, and with some friendly legislation, they can print with abandon (“$10,000 checks for everyone!”) and reset their system.

Presuming, of course, that the suckers (that’s you and me) keep obeying the rules of their rigged game.

So…

This was my contribution to the great inflation/deflation debate.

There is excellent financial analysis being done by bright, competent, and brave men and women. But we must also remember that a large black box sits in the center of our analysis, and we don’t know what’s happening inside of it.

The people who can see inside of that black box – and there are some, whose secrecy is protected at the highest levels – have a gigantic advantage over all other investors and analysts. And so long as the inside of that box cannot be seen, the insiders will maintain that advantage.

This doesn’t make financial analysis pointless, of course, but it does leave it with a large “unknown” factor.

Paul Rosenberg
FreemansPerspective.com

The Era of Fiat Currency Capitalism

fiat currencyI have worked long and hard to gather a broad perspective on history. I don’t doubt that there is value in specialization. In fact, I would have great difficulty doing what I do without good specialists.

Nonetheless, my particular set of abilities suits me to play specialist for short, intense periods, and then to integrate my gleanings into a larger whole.

One of my general conclusions has been that if we were to give a name to the last 40 years of Western history, we’d have to call it the era of fiat currency capitalism. There is a contradiction built into this term, of course, since fiat currencies and capitalism are oppositional, but such an inherent contradiction is also highly representative of this period.

Having been inside of this contradiction most or all of our lives, it can seem almost permanent and inevitable to us. Nonetheless, it will end, and probably before terribly long. As Robert Louis Stevenson once wrote:

Sooner or later, everyone sits down to a banquet of consequences.

For the last 40 years, things that should have crashed and burned have not crashed and burned, and it was fiat currency that permitted the consequences to be scorned. Western culture and millions of minds have been bent in the process.

Fiat versus Reality

Fiat currency is money based upon nothing at all. The Monopoly money shown above has the same actual value as the Dollars, Euros or Pounds in your pocket. For the moment, the paper in your pocket will buy you food and furniture, but not because it has any real value.

Our daily money is created by politically-favored groups who have been granted monopolies on the creation of currency. (They are referred to in polite company as central bankers.) They create our money, from nothing, and all others are forbidden from doing so. If that sounds crazy, it’s because it is.

The only people with any authority over these currency monopolists are politicians, and that isn’t terribly strong. (In the case of Great Britain, the monarch has some control as well.)

I won’t bother trying to list the ways this astonishing privilege could be abused. Feel free to play with the possibilities on your own. And do remember that more or less every dirty trick that people could get away with, they have eventually used… and bankers have never been exceptions.

This new era began in 1971, when the previous international monetary arrangements, the Bretton Woods system, fell apart. On May 5th 1971, US dollars flooded the European currency markets and threatened the Deutsche Mark. The central banks of Austria, Belgium, Netherlands and Switzerland stopped all dollar trades. Who was behind this flood of trades is unknown to me but it was apparently someone with inside knowledge. At about the same time, the French were, via complex arrangements, redeeming their dollars for gold from the US Treasury, as Bretton Woods allowed. (It was gold that kept the system honest. If you thought games were being played, you could turn in your paper for actual gold.)

If the US had allowed redemptions to continue, they would have lost all their gold reserves. So, on August 15th 1971, the US pulled out of their monetary agreements and refused to redeem any more dollars for gold. (This was called closing the gold window.) Bretton Woods fell apart and, very shortly, no major currencies were redeemable; everything became fiat currency, based on government edicts alone.

This change from redeemable money to fiat currency has affected Western life immensely. For more than 40 years, life in the West has been based on money with no value, which has spawned a lot of other things that have no value.

Quigley’s Chart

The chart below is my modernization of a chart used by Carroll Quigley, one of the best generalist historians of the 20th Century. The chart displays his seven primary factors of Western Civilization, and how they have varied over the last thousand years or so. You’ll notice that I’ve circled our era in red and called attention to the form of economic organization with blue.

fiat currency

As I’ll illustrate below, fiat currency has had significant influence, not only within the ‘Economic Organization’ category I have highlighted, but also over ‘Political’, ‘Economic Control’, ‘Dominant Group’, and even ‘Intellectual’. It has more or less defined our era. So, if I am correct that the reign of fiat currencies is ready to end… big, big changes lie in our future.

Horrific Debt

Fiat currencies allowed politicians to spend money without raising taxes. They did this by creating debt. I won’t spend time on the complex process involved, but every new Dollar, Pound or Euro that is created also creates more than its own value in debt. The currency is spent immediately but the associated debt can be pushed back indefinitely.

Faced with this situation, politicians asked their central bankers to create more and more money, which they quickly spent. Whether on social programs or wars, sensible or not, politicians spent money like there were no consequences attached.

But by spending in this way, the politicians also spent the tax receipts of future generations. Every new dollar requires the central bankers to sell more than a dollar’s worth of bonds, which are debt. This debt has been pushed endlessly toward the future… to the point where American children are now born $70,000 in debt, with five times that much promised.

All bonds are claims against future earnings. The children of the West have had decades of taxes pledged to bondholders they will never know, for money that was spent years before they were born. And, yes, it really is that bad.

The Welfare State

The debt of the Western states was spent on something, obviously, and the most notable destinations for that money were “welfare state” programs. This worked in the favor of politicians in the old, reliable way: by promising voters free stuff. And, more importantly, fiat currency allowed them to make good on those promises without raising taxes.

The most crucial fact about debt-funded welfare, however, is that it made it seem that politics could produce magic. Government was able to give massive streams of money to groups that placed ideals above reality. “Wishing makes it so” seemed to work. This corrupted the reasoning of millions of people and punished those who did hold doggedly to reason. And, this corrupting influence has continued for a long, long time.

Wall Street Contributed to the Damage

The people who work on Wall Street, and in the other financial capitals like London, tend to be aggressive and competitive. On top of that, the big financial firms place them into highly competitive situations like “the top producer gets a double bonus.” It should then be no surprise that such people would want to get in on the central banking game, and to create their own money from scratch.

Central banking need not be the only way to create money; any trusted debt can be used. Here is what Alexander Hamilton (who created central banking in the United States) had to say about this in his Report on Public Credit in 1790:

It is a well known fact, that in countries in which the national debt is properly funded, and an object of established confidence, it answers most of the purposes of money. Transfers of stock or public debt are therefore equivalent to payments in specie. [“Specie” was silver or gold.] In other words, stock, in the principal transactions of business, passes current as specie.

Hamilton’s formulation in plain words is this: Debt can be used as money, and people will accept it as money.

So, if the clever boys of Wall Street and Fleet Street couldn’t get in on the central banking game, they could nonetheless create a new version of it, by using new types of debt as money. (Though this was probably the result of many small decisions rather than one large one.)

What most people don’t know about Alexander Hamilton is that it wasn’t only American central banking that he created; he also created Wall Street. That his securities dealer descendants pursued an alternate way to create money seems almost fitting.

Wall Street’s new debt money is called derivatives. A derivative is a contract whose value is derived from other quantities. Derivatives have existed for a long time, but in the past dozen or so years the financial centers of the world have pumped out stunning amounts of them in a wide array of new configurations. All of these derivatives have their own value. It was one particular type of these financial products that seems to have started the crash of 2008.

I am not expert enough to reach any conclusion as to what specific fallout can be expected from this but $600 trillion dollars of synthetic monetary instruments have to be significant.

Indeed, it goes far beyond just money. The era of fiat currency capitalism has changed who we are in broad and disturbing ways.

[Editor’s Note: This article is an excerpt from our flagship newsletter Freeman’s Perspective – Issue #07: The Era of Fiat Currency Capitalism. If you liked it, consider taking a risk-free test drive. Not only will you gain immediate access to the rest of the issue (which shares 5 ways in which fiat currency has changed us for the worse), but you’ll also be able to enjoy the entire archive – more than 520 pages of research on topics of importance and inspiration to those looking for freedom in an unfree world. Plus valuable bonus reports and all new issues as well. Click here to learn more.]

Paul Rosenberg
FreemansPerspective.com