Excerpted from 2011
Thesis Paper: Beggar-thy-Neighbor available free at Tipping
Points
We have unwittingly become
trapped in the snarled net of years of bad Public Policy. Like corporations
that look no further than this quarter's results, our politicos never stop
campaigning to start the tough task of ruling responsibly. A winning election
simply represents 'rewards' and 'spoils' to all before quickly resuming the
next campaign.
Image has become reality!
As a result the never ending
political pandering has led to false expectations, undeliverable entitlements
and false optimism in the electorate that rejects the immediate and obvious
realities.
The result of a degenerated
political leadership process is we are on the brink of a massive and sudden
reduction in the US standard of living.
IN A BOX
In 1971 President Richard
Nixon rather than face the harsh realities of excessive US military spending,
took the US dollar and the world Reserve Currency off the Gold Standard. It
unleashed the greatest global debt pyramiding scheme the world has ever seen
- or ever will see again.
To ensure all our readers
truly appreciate what this decision meant and where we stand today, we need
to revisit some basics.
First, in a the fractional
reserve banking system which we currently operate under, money can only be
borrowed into existence. Currency can be printed but the money supply only
grows when debt is actually created. When the US Treasury issues bonds (debt)
and it is taken on the Federal Reserve books as an asset, magically money is
brought into existence via the issue of currency (or bank deposit) to the US
Treasury. This is why the US dollar is a Federal Reserve note. It is an IOU
to the Federal Reserve.
Secondly, Inflation is first
and always a result of Monetary policy. If more money is put into the economy
we will have more money chasing the same number of goods and it results in
price inflation.
Thirdly, for an economy
measured by GDP to grow, the money supply must grow faster than GDP or the
economy will be starved of liquidity. If more money is created for economic
growth and it consequentially produces inflation, then the money supply must
maintain its growth at a faster pace than inflation. This is one of the reasons
why when the inflation genie is released it is so hard to get 'back into the
bottle' and to contain it. We learned this difficult lesson in the 1970's for
those old enough to remember.
In theory therefore:
Money Supply Growth must be
> Growth of the Economy
Since Money can only be loaned
into existence and inflation is a Monetary phenomena
Money Supply must be larger
> Inflation
Inflation must be larger >
Real Growth (NOMINAL GROWTH MINUS INFLATION)
In a theoretical CLOSED
economy there must always be a level of money growth which is slightly larger
than inflation which is slightly larger than REAL economic growth.
Healthy Economy - Examples
4% GDP Growth with 5%
Inflation means Money Growth is larger than 5% with a -1% Real Growth
6% GDP Growth with 7% Inflation means Money Growth is larger than 7% with a -1%
Real Growth
9% GDP Growth with 10% Inflation means Money Growth is larger than 10% with a
-1% Real Growth
Therefore you can see REAL Growth must always be zero or negative.
It Is Money CREATION that
correlates with the growth of the NOMINAL value of the market
Unhealthy Economy -
Examples
2% GDP Growth with 3%
Inflation means Money Growth is larger than 3% with a -1% Real Growth
0% GDP Growth with 1% Inflation means Money Growth is larger than 1% with a
-1% Real Growth
-2% GDP Growth with 0% Inflation means Money Growth is larger than 0% with a
-2% Real Growth
Broken Economy - Examples
2% GDP Growth with 3%
DEFLATION means Money Growth is larger than 1% with a +1% Real Growth
0% GDP Growth with 3% DEFLATION means Money Growth is larger than 3% with a +3%
Real Growth
-2% GDP Growth with 3% DEFLATION means Money Growth is larger than +1% with a
+1% Real Growth
-2% GDP Growth with 5% DEFLATION means Money Growth is larger than +3% with a
+3% Real Growth
Therefore you can see Real Growth is always positive
Therefore when you have no
growth and DEFLATION (due to deleveraging, malinvestment, default,
bankruptcy) you still must have Money Growth. This forces the Fed to print it
into existance or the government to take on the debt to grow the money supply
or we have a liquidity trap.
To appreciate this fact you
must remember that interest on outstanding debt STILL compounds every year.
The economy may stop
growing but the carrying cost of outstanding debt doesn't.
The Federal Reserve in essence
must make sure that DEFLATION is absorbed by adding money or the debt
payments will shrink the economy
(Note: It is argued that it
is actually the first derivative or rate of change of the increases/
decreases above, not the actual rate, that must be maintained. Even if this
is true, the sign doesn't change which is the important point here.)
The major issue arises when
even by increasing debt (somehow) it no longer generates growth.
This happens when we arrive at
the consequential point of Debt Saturation relative to economic growth.
THIS IS THE PROBLEM WE NOW
FACE, BUT KNOW ONE WANTS TO TELL YOU!
SITUATIONAL ANALYSIS
1- Debt growth now takes away
from growth
2- Since the US is not a
CLOSED economy and in fact is the world's reserve currency, money created by
the Fed does not necessarily stay in the US.
In fact Quantitative Easing
has presently ignited a massive global US dollar carry trade.
To put the above into
perspective we need to understand that Money or more specifically Credit
prior to 2008 had been growing not just through the banking system regulated
by bank regulators but rather through what is referred to as the Shadow
Banking System.
The Shadow Banking System as
the prime pusher of toxic debt instruments collapsed in the 2008 financial
crisis and so far it simply has not re-emerged in some sort of hybrid
fashion. The Federal Reserve desperately needs this to happen and this has
been another reason for the Fed's "Extend & Pretend" policy.
Extend & Pretend was not only to give the economy time to rebound and
push asset prices up (helping book collateral values), but also to allow
asset appreciate to re-ignite a new and improved Shadow Banking System. It
simply is not happening fast enough.
Here is the latest figures
from the Federal Reserve's Flow of Funds
report for Q4 2010. The report was startling since Q3 2010 was even worse
than thought after final adjustments were made.
We had aQ4 2010 decline of
$206.4 Billion in Shadow Banking liabilities with $440 Billion in combined
Shadow and Conventional Banking System Liabilities.
This almost guarantees that
the Federal Reserve must continue QEx.
THE SHADOW BANKING SYSTEM IS NOT RETURNING
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THEY CAN'T STOP THE CRUMPLING
BAD DEBT
It will take too much
printed money by the Fed, created so fast, that the collateral fallout damage
would be economically fatal.
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Even the TRADITIONAL Banking
System is shrinking on a M3 basis (it is no longer reported)
CONCLUSION
The collapse of the Shadow
Banking is not resulting in the degree of asset deflation you might expect
because the assets deflating are what has been referred to as toxic debt. The
underlying basis for these instruments is real estate which is
correspondingly being stopped from collapsing by the halting of Mark-to
Market and other Fed sanctioned accounting gimmickry. Meanwhile the
offsetting Money creation by the Fed is flowing into equities and bonds. This
is creating the asset inflation that the Fed wants and needs.
A major problem for the Fed is
not just being able to generate the amount required to offset the Shadow
Banking System erosion, but also the rate at which the it can realistically
make this happen. The Fed needs to buy more time.
Unfortunately there are other
major problems that are boxing them in.
DEBT SATURATION
Global growth has been pushed
to the level of a desperate high octane race as a result of one bad public
policy after another.
Exponential money growth has
resulted in excess global capacity, underutilized production capabilities and
unprecedented levels of mal-investment.
Everything that even hints at
a slowdown or problem has continuously been met with rapid additional money
supply expansion. The result is a global economy that can no longer absorb
new debt at the same or faster rate and is burdened with existing debt
payments that are simply not fundable without ever shrinking interest rates
or easy roll-over banking covenants.
At nearly zero interest rates
and slowing growth we have a potent cocktail for an economic disaster.
JOB CREATION & REAL ECONOMIC GROWTH
We additionally have a global
crisis of job growth to match population employment needs.
Schumpeter's creative
destruction is operating at full throttle with the internet and Information
Technologies continuously obsolescing untold jobs worldwide.
Manufacturing through major
process changes, supply chain integration and robotic automation has
reinvented itself over the last 15 years. Gone are the days of thousands of
factories employing thousands of people. Today it is hundreds of factories
employing hundreds of people with thousands wanting to work there.
Yes China was the recipient of
many of the 46,000 factories that left America but they employ much fewer
people than they did when they were in the US. China has 30 million people a
year leaving the rural farmland looking for factory work. India, Malaysia,
Indonesia, etc face similar problems. There are not enough new factories
needed to fill this requirement. This is deflationary in nature until the
base commodity increases of manufacturing outstrip labor and capital cost
savings.
New technology companies like
Bio-Tech employ one tenth to one hundredth the employees that were employed
during the computer communications technology era of the 80's and 90's.
Higher education is required in these new industries and there is a much
higher number of Master and PhD workers. However, the growing numbers of
thousands of students with advanced degrees can't all be jammed into these
too few corporations.
Unemployment is elevated and
growing everywhere with more and more higher educated youth unable to find
appropriate work. Sovereign nations globally face the daunting challenge of
achieving employment levels that will stop social unrest. Some as we are
witnessing in North Africa and the Middle East with 15-
30% unemployment are failing to do so.
RESOURCE SCARCITY
To say we have a looming
global resource scarcity issue seems obvious, however I seldom ever read that
we do? We see prices in all commodities continuously rising, food of all
types rising, energy of all crack levels rising; yet no one talks about the
realities of a systemic long term problem.
Shortages are always regarded
as a temporary disruption or associated with some special situation. Folks, I
hate to break the news but we are on the verge of major global resource
shortages and scarcity. When Americans understand it is not their inalienable
right to have gas at $3 per gallon while everyone else pays $9 they will
quickly get the message. That day is fast approaching.
We will soon be in an era
of worrying about how we pay for what we NEED versus how we can afford what
we WANT.
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DON'T SAY NO ONE WARNED
YOU!
This article was taken from
2011 Thesis Report: "Beggar-Thy-Neighbor" FREE
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