Last week I argued that the theory of a coming decline in prices just around the corner was a balloon full of hot air, and like all such balloons it was bound to sail into the atmosphere. So far from this â€œdeflationâ€ theory being true, it is a deliberate falsehood and in fact is a very good indicator that the exact opposite will happen.
The rationale (not the real reason) for the existence of the Federal Reserve is to combat what is called â€œdeflationâ€ and â€œdepressionâ€ (both assumed to come causelessly out of nowhere and to be bad. The real reason for the Federal Reserve is to assist (and provide government support for) the bankers in their creation of money.
In the partial gold standard which existed in the U.S. from 1788 to 1933, commercial banks were allowed to create money in excess of their gold. The banker issued a gold receipt. This was sort of a ticket for gold and was similar to the baggage receipt you get at the airline or the receipt you get at a social function when you check your hat and coat. The banker promised that he would always redeem his ticket for gold whenever he was asked. But unlike the airline or the hat check girl, these commercial bankers did not always keep their promises.
This is very well illustrated by the events of the War of 1812. It had become customary for bank tickets to circulate as money (since they could be redeemed as money at any time). So when Congress declared war on England in 1812, the war advocates promised the country that taxes would not be necessary. Their idea was for the Government to borrow bank tickets and use them to pay for the war. In short, the pro-war argument was, let us have a war, and we donâ€™t have to pay for it.
If you study the literature of the day, you will find these bank tickets referred to as bank notes. But this is more economic gobble-de-gook. A note is a financial instrument which signifies a debt. It promises repayment of principal, and it yields interest. It is precisely because a true note yields interest that it cannot be used as money. This is not only true in theory, but the experiment was actually tried by Chaim Soloman (sometimes called the financier of the American Revolution and the man who raised the money so that Washington was able to attack Cornwallis at Yorktown in 1781). Solomon issued low interest bearing notes, which were true notes because they yielded interest, and tried to get people to use them as money. But whenever anyone who carried these notes wanted to buy an item, he would reach into his purse. He would pull out his regular money and Solomonâ€™s notes and think, â€œHey, these notes earn me interest. I am going to hold on to them.â€ Therefore, Solomonâ€™s notes did not circulate. They remained in peopleâ€™s purses. But of course to be money an economic good must circulate. It must change hands. That is the distinguishing feature of money. Thus Solomonâ€™s experiment failed. His notes failed to be money (i.e., to circulate) precisely because they were notes (i.e., they yielded interest).
In order to lend money to the Government, the commercial bankers issued the above gold tickets (wrongly calling them notes) in much greater quantities then they had gold. Then when the British sacked Washington in December 1814, the people who held these tickets ran to the banks demanding their gold. The banks could not honor their promises to pay because they did not have enough gold. Banker tickets fell as low as 75Â¢ on the dollar.
President Madison called a Cabinet meeting and asked how they were going to pay for the war, and the bankers told him that they did not dare create any more money (because the tickets would fall even further). When Madison saw that it would take a tax increase to finance the war, he offered the British generous terms, and peace was made (Treaty of Ghent) before the end of the year.
The War of 1812 set the bad example which has thrown American history off the course intended by the Founding Fathers. The commercial bankers were not punished for their default on their promises. They made money from the interest on their government loans, but did not have to pay interest.
This is not to condemn banking as such. The world was emerging from the Middle Ages, when interest had not been understood. Later the correct principles of banking were established in the form of the savings bank. This was a bank which acquired capital by paying interest (e.g., a savings account) and then made money by lending to borrowers (such as home buyers). The good banker redirects capital to where it does the most good and makes a profit in the process. He has a knowledge of who has the greatest ability to produce wealth and aids such people in controlling the capital of society.
Unfortunately, the 20 th century saw a regression to reactionary principles (all dressed up and called progressive). Todayâ€™s â€œsavingsâ€ banks have become commercial banks, and a department of government (the Federal Reserve) has been created to help them print money. Counterfeiting has become â€œlegal.â€ And the economies of America and the world are being destroyed by massive issues of paper money.
Below I have the chart of the monetary base (from the St. Louis Fed.) going back to 1984. The chart has to be studied carefully as it is arithmetic instead of geometric. For example, the rise from 1984 to 2000 is a triple (200%), but to a causal, unsophisticated reader it appears mild. The rise, however, from September 2008 is anything but mild. The monetary base has more than doubled in less than 2 years. This rise, by the way, is the fault of the Republicans (Bernanke and Bush). Obama is guilty of endorsing and continuing it, but thus far he has not earned the greater share of the blame. (Isnâ€™t it interesting how we always seem to have 2 parties but 1 policy. The Republicans pretend to favor the traditional American policies of balanced budgets and low government spending, but they never do what they say they favor.)
The argument has been made that this rise in the monetary base will do no harm because it has not yet been turned into money by the nationâ€™s banks. I wish I had a gram of gold for every time I have heard that argument. I would be a very wealthy man. First, we cannot be sure of this because the Federal Reserve is lying about the nationâ€™s money supply. They have reclassified demand deposits (which are money) as time deposits (which are not money). The Fed is telling the individual owners of these deposits that they are demand, but it is telling the nation that they are time. They cannot be both.
Second, the idea that there is a middle ground in which the Fed can create enough money to stimulate the economy but not so much as to cause â€œinflationâ€ is more banker gobble-de-gook. These idiots do not even know what the economy is, and when they use the word, the meaning it has is â€˜the bankers and their associated vested interestsâ€ (i.e., the paper aristocracy). So to â€œstimulate the economyâ€ means to help the paper aristocracy at the expense of the American working man.
This idea goes back to Keynes, and ever since the 1930s the establishment economists have been trying to find that middle ground. They havenâ€™t hit it once. Back in the 1950s Arthur Burns (later the moving force behind the price and wage controls of 1971) complained that they were getting inflation in a recession (1958), and that was not supposed to happen. The fact that the â€œimpossibleâ€ was happening, however, did not faze Burns one iota. Like the Red Queen, he used to believe 6 impossible things before breakfast.
Typically, the banks do not start to lend until some time after the Fed has sharply increased their reserves. That is the period we are now in. This is a variable time lag because it is based on decisions by individual bank managers, and it depends on how scared they have been by the previous contraction. But lend they always do. And to have the money to lend they have to create it out of nothing. A good clue here is an increase in corporate profits (which is just starting to happen). As profits increase (because of the low interest rates caused by the Fed), business starts to dream of new projects. For these projects, they need their bank loan.
As the projects unfold, they create demand, and this demand begins in the commodity markets (because all consumer goods come from commodities). Neither is there any increased supply (as is sometimes argued) to offset this increased demand. This is the stupidity of GDP. A free economy (and all the businesses in it) has two jobs, not one. Yes, it is nice to create more goods. But it is also crucially important TO CREATE THOSE GOODS WHICH SATISFY THE CONSUMING PUBLICâ€™S MOST IMPORTANT NEEDS. This is every business manâ€™s number one concern. WHAT DO THE PEOPLE WANT? In a free market, tremendous energy and effort goes into answering this question. But in government projects, the question is never considered. To measure only the quantity of goods produced and to ignore the larger question of which goods are most wanted and needed is insanity. In the 1930s, Stalin gave the Russian people industrial goods when they needed food. Eight million starved to death, but if they had had GDP in those days, then the Soviet GDP would have looked very good.
At the present time, the U.S. Government is promoting housing over farming. We have too many houses and not enough food. Every housing development starts by purchasing land, usually from a farmer. It takes land out of agriculture, and the number of arable acres is falling as the population is increasing. Two years ago, we had a food scare, and there were food riots in several countries. The Government of Haiti fell because of a food riot. That has to be considered a warning. We have too many houses and not enough food. And when the commodity pendulum goes into high gear, we will face food shortages far more serious. To divert production from food into houses is not economic growth, and this is a simple illustration of the absurdity of GDP, which measures only quantity and ignores quality.
To accurately gauge when U.S. prices are ready to accelerate to the upside (as forecast by the monetary base above), watch first commodity prices and then the prices of producer goods. When both of these have started to move up, then consumer prices will be next in line. Remember, when consumer prices exploded (13.3%) in 1979? In a little over a year (1-1-79 to 1-21-80), gold multiplied by almost a factor of 4 (although we are still quite some distance from the corresponding event in our era).
Remember, the current economic orthodoxy is a monster which only eats its own. That is, it takes money only from those who believe it. Those who retain their skepticism can retain their money.
The newcomer to economics may be interested in the above as an intellectual exercise. However, it is not. For the past 40 years, I have been a member of the Austrian school of economics which has blown the Keynesians out of the water with one correct prediction after the other. I was a gold bug through the 1970s as the Keynesians lost their shirts. I turned bearish on gold precisely at the Jan. 21, 1980 top and then became a stock bug in Dec. 1981 and remained bullish on stocks for most of the next 25 years (stepping aside in Oct. 1987 to avoid Black Monday and on a few other occasions). I turned bullish on gold again in Dec. 2002 (on the breakout of the saucer bottom). Along the way I rejected Henry Kaufman and Ravi Batra as they predicted depressions (in 1982 and 1990) and laughed at the â€œNobelâ€ prize winners at Long Term Capital Management as they lost $4 billion in 1998. On not one single occasion did any Keynesian ever admit that his prediction had been wrong. So their present claim of a coming deflation will prove equally absurd, and after my rising prices prediction has proven correct, the economic establishment will again refuse to admit their failure and it will be forbidden to acknowledge my success.
This is because Keynesianism is not a theory of economics. It is a confidence game, and the question is not whether they can correctly predict the future. The question is, can they gain your confidence and get you to act in such a manner that they can steal your wealth.? This is why they continually talk about confidence. â€œIt is important that everyone have confidence in the economy.â€ They are confidence men, and the only question that matters to them is can they get you to have confidence in them? They are liars, frauds and thieves, and they are trying to reduce the American people to the status of serfs so that a collection of rich riff-raff can live off the product of their labor. That, by the way, is the explanation for the â€œtaxpayerâ€ bailout of Wall Street in 2008. The normal method of robbing you by having the Fed counterfeit money was too slow for the establishment crisis of that year. So they just went in and took it. Now the political polls tell us that the Republicans who opposed that bailout are going to win an enormous victory thus proving that a paper money system is inimical to democracy. They want you to become like the medieval serf so that they can steal the product of your labor any time they like. The serf, of course, did not have democracy. His only recourse was to grab his pitchfork and confront his feudal lord by sheer numbers. (Neither was the 2008 Wall Street bailout ever paid back, as you are being told. What happened was that the slower process of having the Fed steal from you via the counterfeiting of money went to work in â€™08 and â€™09, and the Wall St. firms were able to pay back their â€œloansâ€ from the Government with the money made for them by the Fed. That is, they stole from you in â€™08, disguised as a loan, and then â€œrepaidâ€ the loans in â€™09 and â€™10 with more money stolen from you. If you buy these lies, you are on your way to becoming a modern serf. Not only will your life be wretched, not only will the paper aristocracy be able to steal from you any time it feels the need but you will have the added disgrace of having given up your liberty when you had received it as a gift (from the Founding Fathers).
To guide people in protecting their property rights, I started the One-handed Economist in 1996. I caught the commodity and gold bottoms in 1999-2001 but remained bullish on stocks until Jan. 2007. With the passage of Obamacare this March, the government started to threaten our right to life whereas previously it had only threatened our right to property. It seems foolish to concentrate only on protecting our right to property when the same government, fueled by the same ideology, is starting to kill people. I have thereby added a small section on the right to life. This explains how the political left is now setting up a giant killing machine in imitation of the first country to adopt socialized medicine (Germany) and how to avoid being caught in its web. Hopefully, if Obamacare is repudiated after the Nov. election, this section will no longer be necessary.
The One-handed Economist is $300 per year. You may subscribe by visiting my web site, www.thegoldspeculator.com and pressing the Pay Pal button. Or you may send $290 ($10 cash discount) via the U.S. mail to: The One-handed Economist, 614 Nashua St. #122, Milford, N.H. 03055. Issues are published fortnightly every other Friday and posted on the website (password protected). Special bulletins are published when I feel that the market has made an important change. The most recent issue (July 23, 2010) has an interesting section (p. 8) on Large Trader shorts in gold and how this indicator is predicting a coming rally in the gold price.
Thank you for your interest.
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