Friday, June 15, 2012

Liquidate the banks, preserve the depositors - a Populist/Libertarian alternative to our economic crisis

There is no such thing as "neutral" economic policy.  All economic policy has an intended focus, an intended set of highest beneficiaries.   The intended beneficiaries (and nakedly, brazenly so) of our current economic policy are the rich.   The super-wealthy class of bankers is being propped up with guaranteed employment via our current policy system. 

In this analysis, we see the unexpected intersection of Libertarian and Populist thinking.    The Libertarians see it as plain as day, as well: the free market is being perverted and prevented from acting as it should.   According to the working of the free market, the banking system should have already been liquidated and rebooted.

We can see clearly now that the current banking order survives for one reason: their control of the political process allows them to extract massive wealth transfers from the masses, in complete defiance of the rules of free market capitalism.

Henry Blodget, in Business Insider, writes of how the market should handle this type of massive banking failure: by allowing the market to punish the professional bankers and investors who sunk their money into this losing scheme.

His analysis is actually more Populist than Libertarian, since he accounts for keeping the economy afloat, and protecting depositors, using governmental power (ideas which a doctrinaire Libertarian would not countenance).    His plan is, in fact, almost precisely what the Jubilee Solution would entail.

In his own words:

The U.S. started this string of bad bank bailouts--making a mistake that the country is still suffering from. And now Europe is following our lead.
The most annoying thing about this is that bank bailouts can work--and they can be done without costing taxpayers hundreds of billions of dollars or rewarding executives and investors for making bad decisions. They just have to be done the right way.
What's the right way?
7 steps:
--Seize the bank
--Fire management
--Write down the value of the bad loans to the amount they are actually worth
--Zero out the bank's equity (shareholders lose everything)
--Apportion the losses to the bank's subordinated debtholders (they lose something)
--Inject new capital in the form of senior debt and new equity
--Refloat the bank (by selling all or part of it).

In a restructuring like this, the bank doesn't stop operating--so the economy isn't screwed.
Meanwhile, the idiots who loaned the bank money and bought the bank's stock take the losses they deserve. And the bank is then immediately rendered rock-solid again, ready to make new loans to companies and countries that deserve it. (And, hopefully, the remaining loan officers are chastened by their prior stupidity and are more prudent next time.)
It doesn't matter how big the bank is--you can do this with any size bank.
And, if necessary, you can do it with lots of banks at the same time. You just need an entity--like the US government or ECB--that has the power to seize and restructure banks before they actually go bankrupt and that can write the massive checks necessary to recapitalize the banks.
That's the right way to bail out banks.  And that's the only way to do it without rewarding stupid, reckless lending and failing to address the root of the problem.

Saturday, June 2, 2012

Deflationary depression, austerity, and zero interest rate policies

In a recent post, I introduced the problem of the Money Illusion.  Aside from a focus on currency type and GDP measures (which I analyzed in that post), one of the major problems resulting from the Money Illusion is our complete misunderstanding of savings. 

In reality, savings don't exist.  You can't "save" the output of your current labor for future usage.  After completing it, your current labor is gone, probably consumed by someone else.

In truth, what we think of as "savings" is just a claim on the value of someone else's production at a future time. This brings up a number of problems.

--If your "savings" is contractual, it can disappear instantaneously if that particular social contract breaks down.   An example of contract-based savings is a pension, Social Security, or paper currency.

--If your "savings" is physical (such as gold, land, cars, bullets, whatever), its value depends on the market conditions of the future.  [But, hey, at least it can't totally disappear, like contract-based "savings"!]

But in either case, the real value of your "savings" depends on the overall state of the economy in the future, when you cash in your savings.  Seeing through the Money Illusion, we know that we cannot live off the wealth we created in the past ("savings"), only on the wealth created by others in the future.

The Inevitability of Austerity

 In a contracting wealth base, the value of all savings plummets.  With a smaller wealth base, there is less overall productivity going around, so "what you get out" (savings consumed) is going to be less than "what you put in".

Due to the demographic collapse caused by the retiring/dying Baby Boom generation, which is a worldwide problem, we face the inevitability of a contracting wealth base.   Baby Boomers are switching from being a massively productive part of the wealth base to being a massively draining subtraction from the wealth base (due to retirement from work and the health care costs of old age). 

This demographic problem is exacerbated by socio-cultural factors.  One of which is crime, drugs, and an overall culture of slothfulness/non-productivity among young people (well, people of all ages really).   Another is our preference for governmental regulation.

Those are clear examples of where the Money Illusion bites us in the ass.  GDP numbers actually rise as dollars change hands in an economy of entertainment, police/security, health care, and regulators. The problem is, those "jobs" do little to increase our wealth base.   In other words, we are getting poorer.

How Austerity Manifests - 0% interest rates, FOREVER

As previously stated, savings have no value outside the condition of the current economy, and the real value of savings is falling in a shrinking wealth base.  Two economic/price adjustments will happen under these conditions, which we are already seeing.

One is a sustained attack on currency/contractual savings in the form of ZERO INTEREST RATE policy.   Perusing contemporary economic analysis articles, you will see numerous jeremiads concerning the catastrophic effects awaiting us when interest rates rise.   The fact is, interest rates will not rise, any  time in the foreseeable future, I am thinking, 20+ years at the minimum, maybe until "the end of this age".

By running a low but steady inflation rate, combined with a zero percent interest rate, currency-based savings are being crushed.  This is happening right now, and we cannot expect this to change.  The retired people of today are not living in the social wealth base of a generation ago, i.e., their savings are not worth as much today as they were back then.

Seeing through the money illusion, we know that retirees are NOT living off the wealth they created in the past; they are living on the wealth created by others now.  The problem is, wealth is not growing, wealth is shrinking, and our total standard of living is going down.  The crushing of savings by inflation merely reflects that fact.

All contract-based savings will be forced to be revised downward.  When they are currency-based, like pension funds, they are simply crushed via the inflation effect.  When they are purely contract-based, like Social Security,  they will be legally modified to pay out less and pay out later (pensions can also be modified this way).

The Reality of Deflation

Physical-based savings cannot be inflated away or contractually-canceled, so they are clearly the preferred form of savings in times of austerity.  However, these assets will be assaulted by the problem of deflation.  In a contracting wealth-base, everything goes down in value.  There is no magic bullet (such as gold) to get around this.

Under the zero-interest rate, high-debt regime, all assets will be deflated, especially those dependent upon speculative value (such as gold).   There will be no hyperinflation, just a long, slow grind of liquidation and austerity, as "savings" and asset prices are crushed.    

The ultimate "wealth play" in a contracting economy is productive capital.  In short, the ability to produce something.    This will become especially clear when the US dollar loses its status as reserve currency, which will cause price inflation on the domestic economy on all imported goods.  Under conditions of peace, this shift could take years, but it could happen quickly if given a system shock like war.

Friday, June 1, 2012

Dollar Replacement news: China-Japan trade without dollars

Most of the American way of life as we know it is based on the "exhorbidant privilege" of the USD.  It is estimated, for example, that 45% of imports to America are totally free, based only on the dollar privilege as global reserve currency.   Thus, the loss of that status spells big changes for the American way of life.

A huge step forward in the dollar replacement process is taking place today, as Japan and China begin bilateral trade without the dollar.  The shift was just announced a couple days ago, and is being implemented immediately.  (

The winding-down of the dollar's role will occur slowly over years, absent any major political/economic shocks, such as war or revolution.    The dollar is also being strengthened currently (index value over 83) due to the problems in Europe.  There is no doubt that once Europe gets a handle on its currency situation, the dollar will begin a more serious slide.