Wednesday, January 1, 2020

Happy New Year!

Year of ________?

You'll have to go to the Speakeasy to read the New Year's post, but here I'm giving you a twofer. The first was posted at the Speakeasy on May 1st, 2019, and is titled Moneyness 3: MMT & AOC. The second, which kinda goes with the first, is titled Hyperinflation’ll Fix That, and was just posted a little more than a month ago...

Moneyness 3: MMT & AOC

"Modern Monetary Theory (MMT) is gaining traction in American
politics, energizing the progressive left and roiling deficit hawks.
Stephanie Kelton, who advised Bernie Sanders' 2016
presidential campaign, explains the basics.

She also talks about 2020, saying Democrat presidential hopefuls
are swinging for the fences with ambitious policy proposals while
Trump appears to have changed his thinking on the deficit and debt
since his 2016 run. On headwinds facing the economy, Kelton says
she sees an "extraordinarily resilient" U.S. economy despite a
"real" global slowdown and a small chance of additional
rate hikes from the Fed.

With U.S. government deficits increasing again and big spending
plans coming from potential Democratic presidential candidates,
we thought it would be prudent to have a conversation with
Stephanie Kelton. She's a proponent of Modern Monetary Theory
(MMT), the economic rational cited by rising political
stars like Rep. Alexandria Ocasio-Cortez D-N.Y.

Kelton currently works as a professor of public policy and
economics at Stony Brook University. Previously, she served
as chief economist for the Democrats on the U.S. Senate Budget
Committee and was a senior economic advisor to
Bernie Sanders' 2016 presidential campaign."

There is a connection between my Moneyness posts and MMT. My first Moneyness post, way back in 2011, had a long section explaining MMT. I haven't written much about it since, but I think the time is ripe for a review of this monetary theory that has wormed its way into the highest levels of government.

MMT has some very useful concepts, so it's not all bad. It just misses some really big things, which corrupts its conclusions and prescriptions. But don't worry, it's not long for this world. Hyperinflation will consign it to the dustbin of history. It is, however, quite useful for understanding what's happening, and that's why I'm tackling it again. Not because it's dangerous, but because understanding it is useful to understanding money, wealth and Freegold.

So, let's start with a refresher, then I'll get to that video. Here's a quick reprint of the MMT section from my 2011 Moneyness post:


If you read my whole sidebar like I hope you did, you saw where FOA described in the broadest terms how we arrived at our latest iteration of easy money. Here it is again:

Gold coins, then bank storage, then gold lending, then gold certificate use, then lending of certificates, then certificates are declared paper money, then overprinted, then gold backing removed…

How's that for covering a lot of years in one sentence?

Depending on which camp you're in, as long as you haven't grasped the pure concepts of 'money' and 'wealth', there's a whole spectrum of descriptions of how "modern money" works with varying degrees of uselessness in practical applicability, both macro and micro. On the hard money side, you'll find lots of criticism of "fractional reserve banking," "thin air money," "borrowed into existence," "credit money is a pyramid scheme" (it's not, the concept of money has always been a credit reference to a base unit), etc., etc… Hard money descriptions of modern money are overwhelmingly critical because, of course, the easy money camp has been in charge for a long time now.

Obviously I think the hard money camp misses the mark in its policy prescriptions, but you've got to understand that they can only address today's issues in the counterfactual subjunctive. In other words, "if A had been true, then B wouldn't have happened or the outcome would have been better." But A isn't true. A being "if only we had hard money today."

But it's over there in the far corners of the easy money camp where you'll find some truly repulsive arrogance by those who unfortunately have the luxury of using true antecedents in their modal logic. Like this: "If it is true today that USG deficit spending is not technically constrained by taxes and borrowing because it issues its own currency, then structural trade deficits are not only sustainable, good and loved by our trading partners, but necessary. 'Austerity', or producing more than we consume at times like these, on the other hand, is a total disaster." That's the logic. Here's the arrogance:

"As a current account deficit nation, the US government can appropriately be thought of as a net currency exporter. This means that we send pieces of paper over to the foreign nations in exchange for goods and services." (Cullen Roche)

"We don’t need China to buy our bonds in order to spend. China gets pieces of paper with old dead white men on them in exchange for real goods and services." (Cullen Roche)

And why doesn’t China just buy other American stuff?

"They have attempted to use their dollars to purchase other USD denominated assets, but the US government has squashed those efforts. So, instead of leaving these pieces of paper to collect dust in vaults, they open what is the equivalent of a savings account with the US government." (Cullen Roche)

"Anyone who uses the term [monetization] in the context of the Fed’s contribution of government spending does not understand how the modern monetary system works." (Cullen Roche)

"This is basic macroeconomics and the debt-deficit-hyperinflation hyperventilating neo-liberal terrorists seem unable to grasp it." (Bill Mitchell)

"The Fed is not printing money. They are merely swapping treasuries for deposits." (Cullen Roche)

Someone should explain to these guys the meaning of the phrase, "never look a gift horse in the mouth." It means that when someone gives you a free horse, you shouldn't inspect it too closely in front of the giver.

Of course this is MMT, or Modern Monetary Theory I'm talking about. Even Paul Krugman noted the arrogance of these theorists in his latest blog post about MMT (my emphasis):

"First of all, yes, I have read various MMT manifestos — this one is fairly clear as they go. I do dislike the style — the claims that fundamental principles of logic lead to a worldview that only fools would fail to understand…"

I bring up MMT not because it is entertaining to make fun of their misguided (and often repulsive) arrogance, but because of the inauspicious rise of their extreme easy money theories right at the tail end of history's grandest easy money experiment. I find it to be a handy platform from which to explain how the ancient concepts of money and wealth are still more relevant to the near-term outcome than a few accounting identities that thrive solely in the monetary plane, and do so with reckless disregard for the real power of the physical plane.

One of the main tenets of MMT is the accounting identity that roughly states the amount the USG deficit spends (government spending in excess of the taxes it takes in) is always equal to private sector net savings plus the trade deficit (exports minus imports, or stated another way, our trading partners' net dollar savings).

This is generally explained with the analogy that the USG spends money into existence and taxes money out of existence. So if the USG (God forbid) taxed as much as it spent (or spent as little as it taxed), there wouldn't be any extra USG money for us mere mortals to save. So by spending more than it takes in, the USG is graciously giving us money for savings. And then, the USG issues Treasuries in an amount equal to that deficit spending (extra money for us to save Woo hoo!) to give us an interest-bearing exchange for our net-production.

To be fair, MMT consistently reminds us it is only describing and not prescribing a monetary system. Fair enough. But the presence of the trade deficit and our trading partners' presumed need for dollar savings should probably set off your alarm bells. If so, MMT wants to calm your worry with these soothing words:

"In a world with global trade we are certain to have trade deficit and trade surplus nations." (Cullen Roche)

In other words, we are simply a trade deficit nation. That's just who we are. Get used to it, and then embrace it! After all, it's pretty cool to get free stuff:

"…the US government can appropriately be thought of as a net currency exporter. This means that we send pieces of paper over to the foreign nations in exchange for goods and services." (Cullen Roche)

It's pretty neat the way accounting identities work. They are always true because, by definition, they must be true. They are like saying, "the amount of widgets sold equals the amount of widgets bought." You can't really dispute them as they are framed. But it is in the static assumptions that go into the careful monetary plane framing that flaws can be found. The physical plane can be much more dynamic than they assume.

For example, what if all the private sector net-producers decided to save in gold instead of USG debt? Since the accounting identity we're talking about includes our foreign trading partners like China, I'm essentially asking what happens if they (and we) stop buying Treasuries. Remember that Cullen says it doesn't matter:

"We don’t need China to buy our bonds in order to spend. China gets pieces of paper with old dead white men on them in exchange for real goods and services." (Cullen Roche)

In other words, if they don't buy our Treasuries (run a capital account deficit), then they'll just stack the Benjamins. In other words, that's just the way it is. See? It's an accounting identity.

But then a reasonable person might point out that the USG still issues Treasuries equal in amount to all its deficit spending. And if we and the Chinese aren't buying them, then the Fed has to, so it makes up a cool name like QE2 to disguise the real purpose of the purchases. Not so fast, MMT says. The Treasury does not need to issue debt in order fund its spending. When it spends, it simply credits private sector accounts with new credit money and the banks with new base money. There is no direct connection between sales of Treasuries and money spent other than a myth in our confused minds.

In fact, during the debt ceiling debate in late 2009, MMT actually advised them to stop issuing Treasuries and just keep spending:

"The anti-deficit mania in Washington is getting crazier by the day. So here is what I propose: let’s support Senator Bayh’s proposal to 'just say no' to raising the debt ceiling. Once the federal debt reaches $12.1 trillion, the Treasury would be prohibited from selling any more bonds. Treasury would continue to spend by crediting bank accounts of recipients, and reserve accounts of their banks. Banks would offer excess reserves in overnight markets, but would find no takers—hence would have to be content holding reserves and earning whatever rate the Fed wants to pay. But as Chairman Bernanke told Congress, this is no problem because the Fed spends simply by crediting bank accounts.

This would allow Senator Bayh and other deficit warriors to stop worrying about Treasury debt and move on to something important like the loss of millions of jobs." (L. Randall Wray)

I want you to notice a small detail in the above quote that probably slips by most people. Wray writes (my emphasis): "Treasury would continue to spend by crediting bank accounts of recipients, and reserve accounts of their banks."

Out here in the real world of the productive economy, when we spend, only the account of the recipient gets credited. Not the reserve account of their bank. The "reserve account of their bank" is that commercial bank's account at the Federal Reserve Bank. Remember? You and I can't have accounts there. Only the banks and the government can. Our spending is netted out in the system each night and the imbalances between banks are cleared with those substantially smaller reserve accounts.

I imagine there's a good reason Randall Wray was careful to include this small technicality in his piece. That's because raw government-created money through deficit spending is fundamentally different from "our money." Government spending adds one unit of credit money (our money) to the system as well as one unit of base money (their money). The bank receiving the deposit gets a reference point unit asset to match the liability it takes on.

So the volume of the base is expanded when the government spends, and it is likewise contracted when the government taxes and/or sells Treasuries to the private sector (including our trade partners like China). But when the government spends in excess of those two operations (taxing and debt selling), the base volume is simply expanded. And MMT apparently sees no difference between the true concept of money (all that 100s of trillions of credit denominated in a single reference point unit) and the base which it references. Take QE2 for example.

Super easy money camper and activist Ellen Brown writes in IS QE2 THE ROAD TO ZIMBABWE-STYLE HYPERINFLATION? NOT LIKELY:

"Unlike Zimbabwe, which had to have U.S. dollars to pay its debt to the IMF, the U.S. can easily get the currency it needs without being beholden to anyone. It can print the dollars, or borrow from the Fed which prints them.

But wouldn’t that dilute the value of the currency?

No, says Cullen Roche, because swapping dollars for bonds does not change the size of the money supply. A dollar bill and a dollar bond are essentially the same thing."

This is part of the flaw in MMT’s view. Bonds are credit (the economy’s money) denominated in (referencing) the base unit (the dollar). Swapping credit for base units dilutes and debases every single credit dollar in the world, all quadrillion of them if you included derivatives.

When the private sector (plus our foreign free stuff suppliers) buy bonds, the USG is essentially spending credit money rather than expanding the base because "the credit to the reserve account of their banks" that Randall Wray mentioned above is deleted when the private/foreign sector buys a Treasury bond. Spending credit money does not dilute the base and debase the reference unit. But when the people (or banks) that bought those bonds swap them with the Fed for cash, the base is diluted and the reference unit is debased. So Cullen is wrong. A dollar bill and a dollar bond are not essentially the same thing.

Back in June, talking about QE2, I wrote something very similar to what Cullen says. See if you can spot the subtle difference.

Cullen: "There is not 'more firepower' in the market following QE. All that the Fed altered was the duration of the U.S. government’s liabilities. The Fed took on an asset (treasurys) and also accounted for a new liability (the reserves). But this transaction did not change the net financial assets in the system. The point here is that from an operational perspective the Fed is not really altering the money supply."

Me: "The Fed has not created more money, it has simply changed the nature of existing money. Remember, FOA said that '...hyperinflation is the process of saving debt at all costs, even buying it outright for cash.'"

So, just to recap, MMT says that neither selling debt to the Chinese nor QE (selling it to the Fed) is actually necessary to fund government deficit spending. The government spending actually happens first, therefore it is independent of, and not reliant on, either of those financial operations. And to this point, I think we can all agree with MMT's description of the process as it exists in the monetary plane, although it is clearly not the only correct description, and certainly not the whole story.

Here's the thing, the act of government deficit spending without either counterbalancing taxes or Treasury sales to the private/foreign sector, and the act of Fed quantitative easing, both change the nature of the money supply in a way that all other "normal" activities do not. They debase "our money" by expanding "their money" in volume to ease their discomfort. And this kinda gets us to the driving thrust of MMT; that MMT sees little to no danger of this monetary plane debasement spilling out into the physical plane with deadly consequences for the dollar.

There is, however, one area in which the danger is at its all-time peak today. And that is the US trade deficit as viewed from the physical plane. But before we get into that, let's take a look at a couple neat charts that Cullen Roche uses to visualize the monetary plane accounting identity that underlies his theory. Cullen calls them "sectoral balances," meaning the monetary plane balance sheet of three different sectors: the government sector (USG), the domestic private sector, and the foreign sector.

What I'm going to try to do is to help you see the physical plane reality of these charts. They are so neat and balanced in the monetary plane, yet they represent an immense imbalance in the physical plane that, because of the credibility inflation of the last 40 years, leaves the dollar vulnerable to spontaneous hyperinflation. More on that in a moment.

In this first chart, I want you to pay special attention to the dashed blue line. In the monetary plane, that line represents the amount of US paper our foreign trading partners are taking in each year. When they take in dollars, those show up as a current account surplus on their sheet and a current account deficit on ours. Then when they trade them in for Treasuries they show up as a capital account deficit on their sheet and a capital account surplus on ours. But the easiest way to understand this blue line is in the physical plane. It represents the trade deficit; the amount of free stuff we got each year in exchange for nothing but paper. As Cullen says, "the US government can appropriately be thought of as a net currency exporter." So the blue line is our "currency exports."

Here's a link to our Balance of Payments (BOP) from 1960 through 2010:

The first column is our trade balance. A negative number means a trade deficit. I'm sure the MMT folks reading this are getting tired of me calling it "free stuff," but that's what it is, which I'll explain in more detail later. Foreign central banks were literally supporting our trade deficit for their own reasons for the last 30 years. You'll notice we went into deficit in 1971, with the only blips up into surplus since then occurring in '73 and '75.

You've probably heard it said that the US has become a "service economy" as opposed to producing all the real stuff we used to produce. Well, if you look at the second and third columns, the goods column and the services column, you'll see the inflection point of that transition was also in 1971. So all those negative numbers in the first column really do represent real goods, the kind of stuff that gets packed into containers and physically shipped to the US.

In 2010 you'll see that our trade deficit was $500 billion. That number comes from a $645B deficit in goods, and a $145B surplus in services. In 2011 we are on track for a trade deficit of about $565B (monthly data). For the last decade, our trade deficit range has been $400B - $750B per year. The average for the decade is $581B per year, or $48.5B per month.

Now, this second chart really shows the monetary plane symmetry that MMT loves. The whole point of the accounting identity is that the balances of the three sectors (government sector, domestic private sector and foreign sector) must net out to zero. One person's savings is another person's debt, or so the story goes. Remember what I said about widgets? "The amount of widgets sold equals the amount of widgets bought." Well the accounting identity behind this chart is essentially just as simple: "the amount of debt sold equals the amount of debt bought." If you're going to save, then I have to deficit spend (create debt notes) for you to hold as your savings. Neat, huh?

On this chart, the bottom is the amount of debt sold and the top is the amount of debt bought. All that red on the bottom is the government sector selling debt. The green on the top is the foreign sector buying that debt. The blue, which seems to jump around, is the domestic US private sector either buying (top) or selling (bottom) debt (think: MBS). What I want to draw your attention to is this last bit of blue at the end:

What this section, roughly encompassing the last three years, apparently shows is that 1. The debt sold by the USG jumped dramatically, 2. The debt purchased by the foreign sector decreased, and 3. The domestic US private sector apparently picked up the slack dropped by the foreign sector. I propose to you that "the domestic US private sector" in this case was mostly Ben Bernanke and the Federal Reserve. I do understand that MMT interprets QE as something other than money printing, but I would like you to read this paragraph from Wikipedia on the specific amounts of quantitative easing:

"The US Federal Reserve held between $700 billion and $800 billion of Treasury notes on its balance sheet before the recession. In late November 2008, the Fed started buying $600 billion in Mortgage-backed securities (MBS). By March 2009, it held $1.75 trillion of bank debt, MBS, and Treasury notes, and reached a peak of $2.1 trillion in June 2010. Further purchases were halted as the economy had started to improve, but resumed in August 2010 when the Fed decided the economy wasn't growing robustly. After the halt in June holdings started falling naturally as debt matured and were projected to fall to $1.7 trillion by 2012. The Fed's revised goal became to keep holdings at the $2.054 trillion level. To maintain that level, the Fed bought $30 billion in 2–10 year Treasury notes a month. In November 2010, the Fed announced a second round of quantitative easing, or "QE2", buying $600 billion of Treasury securities by the end of the second quarter of 2011." (Wikipedia)

Now, before we move on, I want to draw your attention to three curiosities to which I will be referring:

1. Using the latest data for the last three years, the dollar monetary base expanded by $1.7T and the US trade deficit (free stuff inflow) was $1.5T over the same time period.

2. For fiscal year 2011, the trade deficit was $540B and "QE2" was $600B over the same time period.

3. For the last year, Chinese Treasury holdings are perfectly flat (same amount held in Aug. 2011 as in Aug. 2010) and Hong Kong holdings are down by $26B.

The Debtor and the Junkie

The USG may be a dealer in the monetary plane, but it is most definitely a sketchy junkie in the physical plane. The USG thinks (and truly believes) that the key to rejuvenating the US economy is trashing the dollar as a short cut to increasing exports (reducing the trade deficit). But what it can't see (nor anyone that focuses solely on the monetary plane for adjustment) is that the huge trade deficit the USG wants to quit is actually its own heroin fix. This is a deadly combo for the US dollar.

MMTers don't think very highly of "hyperinflationists". They call us "hyperventilators" and such, although I shouldn't really bunch myself in with the others. I think my description of hyperinflation is more in line with reality than others I've read. See here, here, here, here and here. But in this post, I hope to show you where the MMTers go wrong on hyperinflation, and to show why—and how—dollar hyperinflation is the only possible outcome.

The "debtor" I had in mind for my section title was Weimar Germany in the early '20s, not the USG today. The USG is the junkie. Weimar Germany owed war reparations, a debt resulting from WWI that was essentially denominated in gold. This was a debt in a hard currency (hard as in difficult, not hard as in solid), unlike the USG who owes its debt to others in its own currency. MMT got that part right. The USG cannot be forced into involuntary default on its own currency debt. And because of this property, USG debt is a monetary plane illusion when viewed from the physical plane. It is a great store of nominal value, and a terrible store of real value.

Where MMT derails from the description track and goes careening off the prescription cliff, the message is usually about the admirable goal of full employment. You know, the Fed's other mandate. Indeed, L. Randall Wray's book is titled Understanding Modern Money: The Key to Full Employment and Price Stability. But the bottom line is MMT's untested theory that the USG could pay for full employment (hire anyone who wants to work) through raw monetary base expansion while enjoying the same relatively stable prices of the last 30 years. And their best defense of this shark jump proposition appears to be debunking the hyperventilators.

In Zimbabwe! Weimar Republic! How Modern Money Theory Replies to Hyperinflation Hyperventilators (Part 1) Randall Wray writes:

"MMTers are commonly accused of promoting policy that would recreate the experiences of Zimbabwe or Weimar Republic hyperinflations. These were supposedly caused by governments that resorted to “money printing” to finance burgeoning deficits—increasing the money supply at such a rapid pace that inflation accelerated to truly monumental rates." (Wray)

He goes on to explain how the hyperventilators have it all wrong. He shows how hyperinflation is more about an increase in money velocity than volume; that hyperinflation begins with a loss of confidence, not too much money. Any of this sound familiar? Then he beats a gold bug straw man or two before explaining to us how modern money really works. Here's the most important part to understand:

"You cannot print up Dollars in your basement. Government has to keystroke them into existence before you can pay your taxes or buy Treasuries." (Wray)

Notice he mentions taxes and Treasuries. This is important to understand. Government money, which is the monetary base the economy uses as its reference unit, is expanded when the USG spends, and only contracts when you either 1. pay taxes, or 2. buy Treasuries. He wasn't just throwing those out as two examples of how you might spend your money. Those are the only two checks on base money expansion. But the sneaky thing that MMT does is to marginalize the importance of those two methods of contracting the base. Like this, as if it's no big deal, a mere afterthought:

"Usually the treasury then sells bonds to let banks earn higher interest than they receive on reserves." (Wray)

The basis of MMT is that government spending (base money expansion) is not conditional on 1. taxing or 2. borrowing that money (base money contraction). Expansion is not conditional on contraction. This is obviously true because the base has been expanding. But armed with this epiphany, along with the "obvious fact" that the hyperinflationists don't understand how modern money works, they jump to the conclusion that contracting the monetary base after the government has expanded it is a fool's errand. And so they go to great lengths to marginalize the need for contraction, especially when unemployment is rising and the economy is in recession.

As it stands, our government still operates on the "antiquated" condition that taxes plus borrowing must equal spending. So we periodically raise the debt ceiling and we keep issuing Treasuries to match the entire budget deficit. But QE is the new way to reverse the base money contraction that happens when these Treasuries are sold. The Fed simply buys them from the banks and credits the banks with the base money that was deleted when they were purchased.

From an accounting perspective, this QE operation has the same effect as if the government had spent more than taxes and borrowing combined, or as if the government reduced taxes while keeping debt and spending constant. So armed with this epiphany, MMT is able to marginalize QE as a mere fiscal operation rather than the "helicopter drop" those silly hyperventilators like to talk about. "Fiscal operation" sounds pretty innocuous, doesn't it? But it's not quite that tame.

What I'm going to show you is that there's something quite dangerous to the dollar that is already well underway. From an accounting perspective, there's not much difference between QE and the easy money prescriptions coming from some of the MMTers. And these seemingly innocuous "fiscal operations" are actually born of necessity arising, not in the monetary plane, but from the physical trade deficit.

Unfortunately, the USG/Fed believes that trashing the dollar will help the domestic US economy as a kind of short cut to growing exports and thereby increasing wages and consumption demand. In other words, if we could just make our products cheaper overseas through monetary plane operations, we could sell more real stuff and thereby we'll have more money and all will be peaches and cream.

But the problem is that, net-net, the US consumes everything it produces and then some. This intractable problem cannot be solved in the monetary plane, except through dollar hyperinflation! Here's some more FOA:

"I point out that many, many other countries also have the same "enormous resources; physical, financial, and spiritual" that we have. But the degrading of our economic trading unit, the dollar, places the good use of these attributes in peril. Besides, the issue beyond these items is our current lifestyle. We buy far more than we sell, a trade deficit. Collectively, net / net, using our own attributes and requiring the use of other nation's as well. Not unlike Black Blade's Kalifornians sucking up their neighbors energy supplies (smile). We cannot place [our tremendous resources] up as example of our worth to other nations unless we crash our lifestyle to a level that will allow their export! Something our currency management policy will confront with dollar printing to avert. Also:

NO, "this country will not turn over and simply give in" as you state. But, we will give up on our currency! Come now, let's take reason in grasp. Our American society's worth is not its currency system. Around the world and over decades other fine people states have adopted dollars as their second money, only to see their society and economy improve. Even though we see only their failing first tier money. What changes is the recognition of what we do produce for ourselves and what we require from others to maintain our current standard of living. In the US this function will be a reverse example from these others. We will come to know just how "above" our capabilities we have been living. Receiving free support by way of an over-valued dollar that we spent without the pain of work." (FOA)

That was written a decade ago. In the month that was written, the US as a whole (Government sector plus domestic private sector) was living above its means to the tune of $31.3B. That year we were living above our means by $361B. In the decade since that was written, we have maintained an average "excess consumption" of $48.5B per month and $581B per year. But here's the thing—in the most recent third of that decade (2008-2011), the domestic US private sector actually has crashed its lifestyle more or less. The economy is in recession and unemployment is up over 9%. Yet the government sector expanded its "lifestyle" to take up the slack!

Remember these from my 2009 post No Free Lunch?

And for something a little more recent, here are two headlines I saw on Drudge just last month:

DC area tops US income list; average fed employee makes $126,000 a year...
Reid says government jobs must take priority over private-sector jobs...

No wonder we're maintaining that trade deficit!

So I thought I'd come up with my own "physical plane identity" (kinda like an accounting identity in the monetary plane) for "living above our means." Here's the legend:

USG=US Government sector
USP=US Private sector
BOP=Trade balance for both sectors combined

We know how much the USG is living above its means. That's the budget deficit. And we also know how much the USG+USP combined are living above their means. That's the BOP. So the "identity" looks something like this:


The annual USG budget deficit (how much the USG lives above its means, with means equaling taxes) is about $1.4T. And the BOP is about $565B. So we get this:


Or stated another way:


So the US private sector is actually living below its means by $835B if we isolate it from the government sector. The government sector, on the other hand, is living way above its means with 60% domestic support and 40% foreign support. Stated another way, the US private sector is providing the USG with $835B in goods and services in excess of taxes, or 60% of USG's "deficit consumption."

Viewed this way, there's only one way to reduce that trade deficit (inflow of free stuff): reduce the size of the USG monstrosity. Unfortunately, the USG is totally incapable of voluntarily shrinking itself, especially because it issues its own currency! The real problem, the heart of the matter, the reason why the dollar will and must hyperinflate, is that the US trade deficit, on the physical plane, is structural to the USG who issues its own currency. Simple as that.

Here's what we get whenever the USG pretends to crash its own lifestyle:

I can almost hear the MMTers screaming at their computer screens, "he doesn't understand how modern money works!" ;)

Of course, MMTers don't think the USG should crash its "lifestyle" at all. They think the USG needs more deficit spending right now. Because deficit spending is not constrained by taxes and/or borrowing and the hyperventilators don't understand how modern money works so currency collapse can be essentially ignored. Are you starting to catch on yet?

MMT is all about how it works from a monetary plane accounting perspective with reckless disregard for why it works and why the dollar monetary plane has stayed connected to the physical plane (no hyperinflation) as long as it has. That last part, of course, is what this blog is all about. MMTers, like most modern economists, think the physical plane services the monetary plane, not the other way around. They think you can fix problems in the real world by simply controlling the monetary world. Why? Because everyone wants money, of course!

But herein lies the problem of what money actually is to the real economy. Money is our shared use of some thing as a reference point for expressing the relative value of all other things. And by expanding the base you don't simply create money, you destroy the moneyness of it. As MMT explains, the base is expanded when the government deficit spends, and it is likewise contracted when the Treasury sells debt to anyone other than the Fed. Those of you who read FOFOA regularly know the story of why the dollar has not yet collapsed, but here's a very brief version for the rest of you.

The US has enjoyed a non-stop inflow of free stuff including oil (a trade deficit) ever since 1975, the last year we ran a trade surplus. In the 1970s, following the Nixon Shock and the OPEC Oil Crisis, the US dollar went into a tailspin. Because the US dollar was the global reserve currency, this was bad news for the global economy. If the dollar had failed then, without a viable replacement currency representing an economy at least as large as the US, international trade would have ground to a standstill.

Europe was already on the road to a single currency, but it still needed time, decades of time. So at the Belgrade IMF meeting in October of 1979, a group of European central bankers confronted the newly-appointed Paul Volcker with a "stern recommendation" that something big had to be done immediately to stop the dollar's fall. Returning to the US on October 6, Volcker called a secret emergency meeting in which he announced a major change in Fed monetary policy.

Meanwhile, the European central bankers made the tough decision to support the US dollar, at significant cost to their own economies, by supporting the US trade deficit by buying US Treasuries for as long as it took to launch the euro. As it turns out, it took 20 years. After the launch of the euro, the Europeans slowly backed off from supporting the dollar. But right about that same time, China stepped up to the plate and started buying Treasuries like they were hotcakes. This may have been related to China's admission into the WTO in 2001.

Then, sometime around 2007 or 2008, the dollar's Credibility Inflation peaked. The growth of the "economy's money" (credit denominated in dollars) hit some kind of a mathematical limit (expanding to the limit was wholly due to FOFOA's dilemma) and began to contract. Since then, China has slowly backed off from supporting the dollar. We now know that China is more interested in using its reserves to purchase technology and resource assets wherever they are for sale than bonds from the US Treasury. China is also expanding the economic zone that uses its monetary base as a reference point in trade settlement to the ASEAN countries.

Meanwhile, the junkie USG has kept the free stuff flowing in by expanding the monetary base. Sure, China still wants to sell her goods to the US, but she's no longer supporting the price stability of the last 30 years by recycling the dollar base expansion back into USG debt. Cullen says:

"We don’t need China to buy our bonds in order to spend. China gets pieces of paper with old dead white men on them in exchange for real goods and services." (Cullen Roche)

While technically true, one has to wonder at the consequences of them not buying our bonds, no?

"They have attempted to use their dollars to purchase other USD denominated assets, but the US government has squashed those efforts. So, instead of leaving these pieces of paper to collect dust in vaults, they open what is the equivalent of a savings account with the US government." (Cullen Roche)

So does that mean they're just stackin' 'em up now to collect dust rather than going after real resources wherever they are for sale in the world?

Okay. So the USG doesn't owe a hard debt like Weimar Germany did in the early '20s. But perhaps she has developed a structural addiction; a need for something that's just as hard as foreign currency—real stuff from the physical plane. Here is L. Randall Wray describing Weimar:

"The typical story about Weimar Germany is that the government began to freely print a fiat money with no gold standing behind it, with no regard for the hyperinflationary consequences. The reality is more complex. First, we must understand that even in the early 20th century, most governments spent by issuing IOUs—albeit many were convertible on demand to sterling or gold. Germany had lost WWI and suffered under the burden of impossibly large reparations payments—that had to be made in gold. To make matters worse, much of its productive capacity had been destroyed or captured, and it had little gold reserves. It was supposed to export to earn the gold needed to make the payments demanded by the victors. (Keynes wrote his first globally famous book arguing that Germany could not possibly pay the debts—note these were external debts denominated essentially in gold.)

The nation’s productive capacity was not even sufficient to satisfy domestic demand, much less to export to pay reparations. Government knew that it was not only economically impossible but also politically impossible to impose taxes at a sufficient level to move resources to the public sector for exports to make the reparations payments. So instead it relied on spending. This meant government competed with domestic demand for a limited supply of output—driving prices up. At the same time, Germany’s domestic producers had to borrow abroad (in foreign currency) to buy needed imports. Rising prices plus foreign borrowing caused depreciation of the domestic currency, which increased necessitous borrowing (since foreign imports cost more in terms of domestic currency) and at the same time increased the cost of the reparations in terms of domestic currency.

While it is often claimed that the central bank contributed to the inflation by purchasing debt from the treasury, actually it operated much like the Fed: it bought government debt from banks—offering them a higher earning asset in exchange for reserves. For the reasons discussed above, budget deficits resulted from the high and then hyper- inflation as tax revenue could not keep pace with rising prices. Finally in 1924 Germany adopted a new currency, and while it was not legal tender, it was designated acceptable for tax payment. The hyperinflation ended."

Let's happily skip over the fact that Wray compares the German central bank during the Weimar hyperinflation to the Fed today when he writes: "actually it [the Reichsbank] operated much like the Fed: it bought government debt from banks." I have a better comparison I want to try. I want to try a little word replacement game with Wray's Weimar description. Let's replace Germany with the USG and the war reparations debt with a trade deficit addiction and see how it looks. Other than these few substitutions, I'll leave Wray's descriptive words alone:

"The USG had endured 30 years of foreign-supported trade deficit and developed an addiction to free stuff. To make matters worse, much of its productive capacity had been shipped overseas during this time period. The US private sector could not possibly support the USG’s addiction to real goods.

The nation’s productive capacity was not even sufficient to satisfy domestic demand, much less to support USG demand. Government knew that it was not only economically impossible but also politically impossible to impose taxes at a sufficient level to move resources to the public sector to satisfy the USG’s insatiable addiction. So instead, it relied on deficit spending through raw base money creation. This meant government competed with global demand for a limited supply of importable goods—driving prices up. At the same time, the US private sector had to pay the same higher prices without the benefit of issuing its own currency to buy needed imports. Rising import prices forced the US economy to consume more of its own domestic goods, which increased USG’s reliance on imports, and since foreign imports cost more in terms of the domestic currency, this increased the cost of the USG’s addiction in terms of domestic currency." (Me)

Now I want you to think especially hard about that last line, "…this increased the cost of the USG’s addiction in terms of domestic currency." This is the key to understanding why we are headed toward all-out, balls-to-the-wall, in-your-face wheelbarrow hyperinflation. This is it, the point I'm trying to get across to you.

That inflow of free goods that is structural to the status quo operation of the US government is more dangerous to a monopoly currency issuer than the war reparations debt in Weimar Germany. The USG is incapable of reducing that inflow of real goods voluntarily and so the non-hyperinflation of the dollar requires it to flow in for free. And it has been, up until recently.

Today we are debasing our monetary reference point in defense of that inflow of goods from abroad. And, at this point, it is entirely attributable to the USG alone, and not to the US economy at large which has contracted, unlike the government. MMT says that Bernanke's QE is a simple like-kind swap of paper for paper, or money for money. Cullen: "What they’ve essentially done via QE2 is swap 0.25% paper for 2% paper and call it a day." In a sense, it is. But it is removing newly created credit money (debt created by the USG) from the system and replacing it with newly created base money. By increasing the volume of the base which credit references for value, simultaneous with a constant inflow of necessary goods, we are in essence devaluing—or more precisely debasing—the credit money flow that flows in the opposite direction of the goods flow. The fact that this doesn't show up immediately in consumer prices is perfectly normal.

Henry Hazlitt: "What we commonly find, in going through the histories of substantial or prolonged inflations in various countries, is that, in the early stages, prices rise by less than the increase in the quantity of money; that in the middle stages they may rise in rough proportion to the increase in the quantity of money (after making due allowance for changes that may also occur in the supply of goods); but that, when an inflation has been prolonged beyond a certain point, or has shown signs of acceleration, prices rise by more than the increase in the quantity of money. Putting the matter another way, the value of the monetary unit, at the beginning of an inflation, commonly does not fall by as much as the increase in the quantity of money, whereas, in the late stage of inflation, the value of the monetary unit falls much faster than the increase in the quantity of money. As a result, the larger supply of money actually has a smaller total purchasing power than the previous lower supply of money. There are, therefore, paradoxically, complaints of a 'shortage of money.'"

Again, I want you to think about that last line or two, "As a result, the larger supply of money actually has a smaller total purchasing power than the previous lower supply of money. There are, therefore, paradoxically, complaints of a "shortage of money."

So what does the supply of money have to do with the catastrophic loss of confidence that is hyperinflation? Yes, the catastrophic loss of confidence drives prices higher. This makes the present supply of money insufficient to purchase a steady amount of goods (USG junkie fix). True balls-to-the-wall hyperinflation requires a feedback loop of both value and volume. Value drops, so volume expands, so value drops more…. Without the feedback loop, you simply get the Icelandic Krona or the Thai Baht. With the USG in the loop, you get Weimar!

Think about a debtor who owes a hard debt to a loan shark versus a junkie who owes a regular, ongoing, hard fix to himself. Which one is worse off? Which more desperate? As I wrote above, this intractable problem cannot be solved in the monetary plane, except through dollar hyperinflation!

The key takeaway is that our trade deficit is essentially the equivalent of Weimar Germany's reparations debt when it comes to hyperinflation. This is one of the main arguments deflationists make against hyperinflation—that our debt is denominated in the currency we print—but as I proposed, the USG's inability to shrink itself combined with our perpetual trade deficit is going to be, in hindsight, a much bigger deal than owing debt in a hard currency.

Also, I noticed on one of the old links as I checked them that Cullen Roche has now somewhat distanced himself from MMT, writing: "On the whole I find MMT to be an eye opening and useful theory to understand, but I do worry that some of their ideas are a bit extremist and twist the operational realities of our monetary system in an effort to promote progressive policy ideas."

This is an important point, because I think you'll find that MMT is behind all of the ludicrously expensive big ideas coming from Democrats running for president, much more so than Socialism per se. Some of these ideas they're coming up with are too big for even a Socialist fantasy shopping spree, and the driving force behind them is that someone has been teaching them MMT!

So go watch the Stephanie Kelton video now if you haven't already, and then we'll dig into it!

Right out of the gate, she tilts at MMT's main straw man, inflation: "The only potential risk with the national debt increasing over time is inflation. And to the extent that you don't believe the US has a long-term inflation problem, you shouldn't believe that the US is facing a long term debt problem." She says it with such authority, but there are so many problems with that statement that it's hard to know where to begin.

First off, she's talking about unbridled government spending. She won't cop to that characterization, but just look at some of the plans, like the Green New Deal, student loan forgiveness, universal basic income, free college tuition and free health care for all. That's unbridled government spending, and to me, inflation is far from the only risk.

How about the risk that the government grows too big, or gets too much power? How about the risk that the government ends up picking winners and losers, and retards the entire economy? Or how about the risk of simply unbridling the most corrupt, harmful and dimwitted organization on the planet:

When you look at it that way, inflation is not a risk, it's a necessary brake on the unbridled growth of government. But even here, we're letting MMT frame the debate. MMT is using "inflation." It's their favorite straw man, because we've had so little of it over the last 40 years, because it's an imprecise term they can abuse, and because most people that warn about it don't understand the difference between inflation and hyperinflation.

MMTers love to harp on deficit hawks, people who warn against too much government debt, and they especially love to go after hyperinflationists, because most of them are such easy targets. In other words, MMT loves easy targets, i.e., straw men.

When she talks about the Fed possibly raising rates and causing a recession, with my highly trained ear I can hear the disdain in her voice. Just listen to the way she says, "You know, the global slowdown is a real thing," as if what non-MMTers warn about is not real. That's what she meant. That's how MMTers talk. They talk down to everyone. It's kinda funny actually, because their arrogance stems from this A-HA moment they had when they first grokked MMT, but they have no idea how much they're missing, and their MMT arrogance inoculates them against finding out.

Next she talks about the "Trump tax cuts," and you'll notice that she starts off with a slightly positive remark followed by a "but…". She says, "When I look at the Republican tax plan, is it really a significant stimulus, or is it not? In terms of the raw numbers, it looks like a significant stimulus. I think the latest estimates are that it will add something like $1.9 Trillion to deficits over the next 10 years [that's the positive, the $2T in deficits, and here comes the] but of course for the word stimulus to have much meaning, the tax cuts have to actually produce broader economic activity. They have to do something to jolt the economy."

I'm not here to defend any specific tax law, but jolting the economy is not the only rationale for reducing tax rates. The reason she highlighted the increase in deficit spending as a positive rather than a negative is because that's what MMT is all about. It's all about deficit spending to, as Cullen put it, "twist the operational realities of our monetary system in an effort to promote progressive policy ideas." They want deficit spending (spending without limits) on progressive policy ideas like the Green New Deal.

Next, she starts explaining the theory. She says, "MMT starts with a simple observation. And that is, that the US dollar… comes from the US government. It can't come from anywhere else." Now, in one sense that's true, but in another it reveals just how wrong the theory is on the concept of money. Never forget, the pure concept of money is the credit, not the base. Think: Eurodollars. They are, in a sense, credit without a base. The base can only come from the US government (or the Fed), but credit can reference that base anywhere, come into and go out of existence to enable a transaction, and that's both real dollars and real money. The base is "high powered" or "inside" money. It's the banking system's money for clearing, that's why it's "inside," but it's not really our money. So MMT gets technical points, but fails on the big stuff, like understanding moneyness.

Then we get the usual litany of MMT talking points: The federal government is not like a household. It can't run out of money. Its deficit is our surplus. Bigger government deficits boost private sector economic growth. How much debt is too much? Obviously not 240% of GDP, "orders of magnitude larger" than the USG's wimpy debt, just look at Japan. A quadrillion (yen) in debt, zero interest rates, and no inflation. So, no negative consequences for debt at 240% of GDP = "a really important lesson" for us. :-O

The next part is kinda funny, when she says, "What MMT does is to try to be kind of hypersensitive to the risks of inflation." Ha! Inflation is MMT's biggest straw man. Inflation inflation inflation (said like Russia Russia Russia). The false premise is that deficit spending causes inflation. Yes, it can, and theoretically is should, but it hasn't been for the last 40 years, and that's why they constantly bludgeon it. Another false premise they use is that everyone who's not MMT "worries about inflation," and now she's saying that MMT is hypersensitive to the risks of inflation, while she wants the USG to print like a madman.

Then she says the CBO should be able to evaluate whether a certain spending program would cause inflation or not. If you can't see how absurd this is, just take another look at the kinds of spending they want to do. Imagine Solyndra X 100,000! And finally she lets us know what causes inflation: too much aggregate spending.

If you recall, I wrote a post about this titled The Fall Away of Price Inflation. Here's an excerpt talking about what causes inflation:

So what changed in 1971? Well, we went from fixed exchange rates to floating rates, and we demonetized the shared, common, global monetary base, gold. I think that those two factors had an effect on what, today, causes inflation.

So what causes inflation?

Well, FOA said it as succinctly as I think it can probably be said, and that was in Global Stagnation as well. Here it is:

Friend of Another (9/22/98; 18:01:45 Msg ID:96)

"Using an overvalued dollar makes one feel as there is no inflation, even though there has been massive dollar currency inflation over the last twenty years (the real cause of price increases is when the exchange rate is allowed to balance a negative trade deficit)."

Spend some quality time with this, and I think you might have a few A-HA moments.

It applies both in Freegold, and now, so it's useful to think about it conceptually in both paradigms, although it's a little more complicated right now due to the oversized financial sector of the $IMFS.

From KP's excerpt above, notice that I pointed to the trade deficit as the evidence that the dollar is overvalued. It follows that a trade surplus would be evidence of a currency being undervalued. And, if the real cause of inflation is when the exchange rate corrects a trade deficit, then it follows that the opposite holds true for a trade surplus. In Freegold, however, currencies will float cleanly, and will therefore adjust on the fly. So we won't see large or longstanding deficits and surpluses. Instead, we'll see minor fluctuations in the inflation rate as a currency zone's economy alternately slows and grows.

A currency zone is simply a group of people who use a common currency. It might be easier to think about this in smaller terms, so imagine your family, and your neighbors on each side and across the street, as being a currency zone. Maybe there are 20 or 25 of you all together. As a group, you make this and that, but you are hardly self-sufficient, so you have to trade with other currency zones.

Now, imagine you just started printing more and more currency. You’d think you’d have inflation, right? But what if you could just keep buying more and more stuff from other currency zones at the same price? Before you knew it, your zone would just stop producing and simply buy everything from other currency zones, right? You’d print the money, and buy the stuff. You wouldn’t have to export anything, because something was preventing the exchange rate of your currency from declining.

That something was external support. Other currency zones were hoarding your currency as savings, so no matter how much you printed, there was no inflation in your zone.

With this small scale exercise, you can see the interplay between the exchange rate and inflation, and how, if something prevents the exchange rate from adjusting, it doesn't matter how much you print, there will be no (price) inflation.

Let's stop here for a moment, because this is an important point. Notice how the foreign sector's actions can override and preclude the effect of any domestic "excessive printing" or QE or whatever. There are multiple reasons for this. One is that capital account flows can change faster than real trade flows. And another is that, in general, the rest of the world (ROW) is bigger than your currency zone, even if you're China, or the Eurosystem, or the US. There is no single economy with its own currency that is bigger than the rest of the world combined.

Also in the example, we find our mini-currency zone in a state of perpetual trade deficit, and if the rest of the world were to stop hoarding its currency, its exchange rate would immediately decline, reducing its trade deficit, eventually to zero, and it would experience immediate price inflation, even if it stopped printing currency.

On the other hand, if we had a currency zone in the opposite state, a state of trade surplus, it might experience the opposite effect, price deflation. So, theoretically, it could print new currency without experiencing price inflation, even if its currency wasn't being hoarded by others. Instead of causing inflation, the printing would first cause the reduction of the trade surplus through a reduction in its exchange rate. Then, once the trade surplus was gone, if they kept printing, and no one else was hoarding their currency, then the inflation would start.

The takeaway here is that her cause of inflation ignores the world outside of her fishbowl, which is exerting a force on everything around her. She takes that force for granted, and that's what MMT does. It describes things well within a certain fishbowl, but misses the bigger "outside" picture.

Next she's asked about her MMT protégés', Bernie's and AOC's plans to tax the $#!t out of the rich. Bernie's is an estate tax, and AOC's is just a tax on anyone who looks rich. She says it's about the distribution (i.e., redistribution) of wealth and income. She side-steps the question a little, because such redistribution is not technically needed in MMT, but because MMT is a leftist ruse, it must be incorporated. So she says that "there is a belief that somehow" people having a lot of wealth "is problematic for both economic reasons, and for democracy itself." So she's not saying they're wrong, but she's also not owning that "belief" herself (because it doesn't come from MMT itself).

Back in 2015, I wrote about my view on taxing the rich, in Death and Taxes. In it I wrote:

The wealthy man is taking nothing away from the poor by holding wealth. If that wasn't so, then it could be said that the more wealth any person has, the more he is withholding from the poor. This would make any savings immoral, which is simply not the case. The wealthy will always consume the same amount of basic necessity consumables, and only their consumption of luxury items (wants) will vary.

Some people truly believe that if only the super-duper-rich weren't allowed to be so rich, then the poorest of the poor starving in Africa would have food on their plates. But this is simply not the case. The super-duper-rich are not withholding food from Africa. If anything, they produced real value at some time and traded it for rather useless but expensive things (like Balloon Dogs and such). There is a problem if we have poor people starving in Africa, but the problem is not that the price of fine art at Christie’s is too high.

There's another point I made in that post that I want to highlight, because I think it's relevant to MMT. Here's what I wrote:

Say Bill Gates decides to give away $10B to feed the poor in Africa. Does that create $10B worth of new basic necessities for them to consume? No, but it does redistribute the existing necessities to where he wants them to go. In fact, it does so by raising the price of necessities as the poor in Africa are able to bid some away from the rest of the world.


Like I said with the Bill Gates example above, the rich can choose to help the poor in one area or another, but all that does is force a redistribution of available necessities by adding money to bid on them in one locale over another, driving up the price of necessities just a little bit everywhere. I'm not saying that's a bad thing, but I am saying that if we try to do that systemically, and not by individual choice, it is a bad thing that will have unintended consequences.

The point is that money can be used to alter or control the distribution of any scarce item. Whether it's Bill Gates' money, or MMT money printed by the USG, it can have the same effect. And it's the spender who controls the distribution. So MMT's vision of unbridled government spending is really just central planning. It gives the USG control over the distribution of scarce stuff, like food, medicine, and so on.

Money doesn't create more food or health care, it just redistributes it to wherever Bill Gates or the USG wants it to go. In essence, in MMT, the government redistributes everything through currency debasement. The thing is, there's no need to do that. The superorganism does it on its own. And whenever you try to do something different than the superorganism is doing it, there will always be unintended consequences.

It's kind of funny, in the video, after she distances herself from the "tax the rich" idea, she basically says that if Congress would just adopt MMT and drop the silly notion that the USG has to actually "pay" for stuff through taxes, then maybe they wouldn't have to tax the rich. Like, "Hey, c'mon rich people, MMT can be good for you too!"

That video is what sparked the idea for this post, but just as I was starting to work on it, Alex Iak posted a link to some MMT posts by a guy calling himself the Macro Tourist. He evidently just grokked MMT earlier this year, and has been evangelizing about it ever since. So I thought I'd comment a bit on a couple of his posts. He writes:

"During one of my early MMT-lecture marathons, Professor Stephanie Kelton explained that the government spent first and borrowed second. This didn’t seem correct and I couldn’t square it in my mind. Surely the government can’t spend without first borrowing. How do they spend money they don’t have? I thought this might be the beginnings of MMT-induced hallucinations, but I decided to press on.

Then Stephanie made it even more complicated by asserting the government need not borrow at all - the concept that they needed to issue bonds was a purely self imposed restraint.

At this point my mind was spinning. I grabbed hold of the bed frame hoping to slow down this terrible ride. It was like learning that WWE wrestling wasn’t real. It completely blew my mind and made me question all my assumptions about how an economy works.

After some time trying to process this new reality, I eventually figured out that this spending would be inflationary.

But that’s the whole point

MMT’ers believe there is no financial constraint but only a real resource limit (subject to certain restrictions - only for sovereign countries who issue their own debt and don’t have a pegged currency, yada yada yada). In essence, inflation is the real limiting factor. […]

The government spent first and did not worry about borrowing."

This is the big A-HA moment for MMTers. They think they finally understand something that most people don't. But they don't. All that's saying is that the government can print money without borrowing first. We all know this intuitively. Just look at Zimbabwe. Did Mugabe have to borrow quintillions before printing them? Of course not. Therefore, QED.

This is another example of MMT strawmanning. The straw man here is that everyone thinks governments can't spend before (or actually without) borrowing. But that's not true, as I just showed. Everyone knows that governments can print like crazy, they just don't do it because common sense tells us it's a bad idea. Most people get that intuitively, but when MMTers get that A-HA moment high, their minds are wiped clean of common sense. That's the inoculation.

You see, MMT relies on what we at the Speakeasy know as intentional support for the failing dollar system to have been organic, and that it will always be there, supporting whatever we do with the dollar, in perpetuity, no matter what. The support which began in 1979 was foreign CBs buying dollars and then using them to buy US government debt. This grew the US government by giving it essentially limitless funding.

At the same time, it also grew the US trade deficit, by never letting it go through the contraction phase. When your trade deficit gets too big, your currency will normally decline, reducing your outward purchasing power and contracting your trade deficit. But when the dollar declined was when the foreign CBs would buy it back up, and then buy USG debt with the dollars they bought.

MMT does a good job of explaining how the monetary system works with this official support going on in the background, while being completely oblivious to it. It's like a goldfish explaining the water inside the fishbowl, oblivious to the glass bowl that's holding it in place. And further, MMT's prescriptions are like the goldfish telling everyone to break the glass, because obviously the water goes on forever, and we're only confined here because we refuse to break the glass. Seriously, that's how it is!

"I wrote a piece titled “Trump: The first MMT President” where I outlined all the reasons the President’s policies were much more MMT-like than any on the right would care to admit.

I even saw a Vice-President Pence interview the other day where they asked him why the administration was pushing for lower rates if the economy was as strong as they bragged. His reply was quintessential MMT. Pence said, “because there is no inflation.”

As long as President Trump’s administration continues with their policies, then I suspect the United States economy will continue to outperform.

Now there are always many moving parts, but the United States’ economic policies are the best example of MMT at work. You might not like them. You might think tax cuts are not the best use of fiscal stimulus…"

It is true that Trump is not exactly a deficit hawk, but while I'm sure there are some in his administration who have been infected with MMT, Trump himself is not one of them. And to credit MMT with whatever has happened with the American economy over the past two years is just ridiculous. He's saying that unbridled government spending is what spurred the American economy.

"MMT’ers believe that government’s red ink is someone else’s black ink. Sure, the government owes dollars, but they have a monopoly of creating those dollars, and not only that, the creation of more and more dollars is essential to the functioning of the economy.

Here are the policy implications of accepting MMT:

• governments cannot go bankrupt as long as it doesn’t borrow in another currency
• it can issue more dollars through a simple keystroke in the ledger (much like the Fed did in the Great Financial Crisis)
• it can always make all payments
• the government can always afford to buy anything for sale
• the government can always afford to get people jobs and pay wages
• government only faces two different kinds of limitations; political restraint and full employment (which causes inflation)

The government can keep spending until they begin to crowd out the private sector and compete for resources.

And in fact, Stephanie Kelton argues it is immoral to not utilize this power to fix problems in our society."

They actually believe this stuff! And just in case it's not totally obvious, let me run through a few of those policy implications. First, governments can go bankrupt if their currency collapses, just like Zimbabwe. MMT will say, that's where the inflation restraint comes in, except they're wrong about that too.

They're correct that the government can issue more dollars through a simple keystroke and always make all payments, nominally. But they are wrong that the government can always afford to buy anything for sale, and that the government can always afford to pay everyone's wages. It can't if the currency collapses.

So, basically, they think that if the government spends enough money, then we'll have full employment, and beyond that we get inflation which makes more spending self-defeating, and therein lies the restraining limitation. And actually they might be right, if, theoretically, A) government wasn't the most corrupt, harmful and dimwitted organization on the planet, and either B) the rest of the world would continue to hoard our dollar as savings no matter how badly we debased it, or C) we started from a clean slate of balanced trade where we didn't need foreign support. But even then, it still wouldn't work the way they say because government is and will always be the most corrupt, harmful and dimwitted organization on the planet, simply because it doesn't have to compete for your business.

"[H]ere is another way to think about it. If you have an economy with underused capacity, having the government spend on infrastructure or other societal useful endeavors is actually raising the total GDP of the country.

Yet isn’t that just Keynes theory? Yeah, trying to wrap my head around the difference between Keynes and MMT took me a while, but I think I got it.

Keynesians are still tied to the idea that we are bound by fiscal constraints whereas MMT’ers believe that the only real restraint is inflation.

…But, but, but… won’t that create inflation? Yup! Darn right it will, and that’s the point. MMT’ers believe that inflation is the only true constraint a government faces."

There's a reason we don't do certain things, or act certain ways, even though we technically could. To use an extreme example, there's a reason why, when we stand at the edge of a cliff, we don't jump off. Technically, we could jump off the cliff, but we don't. The reason is, in a word, consequences. MMT is like, "Let's just try this and see what happens." Let's break the fishbowl and see if we can swim out into the world. Let's just jump, and see what happens. One way or another, however, we are all going to see those consequences up close and personal, and that's why we have purchased golden parachutes for ourselves and our families. ;D

"Society’s mood has changed and Stephanie Kelton’s concepts will continue to gain supporters…

MMT is novel, ambitious, and a little bit scary. I get it. But let me let you in on a little bit of a secret - young people aren’t afraid of trying something new. They know the system isn’t working and are desperately looking for an alternative. I think they found it in MMT…

If I am correct, I suspect we will see many Democrat candidates (perhaps all?) adopt MMT as a tenant of their platform. And here is a crazy thought for you - what if Trump beats them to it?

I have long argued that eventually we will hit a period where governments will spend and Central Banks will facilitate their deficits. MMT provides academic justification of where we all know we are headed anyway.

In one of the interviews I watched with Professor Kelton, she said that the idea of deficits being funded with bond issuance is purely a self-imposed limitation. It’s required by law, but in reality, it doesn’t need to be done. The law can be changed."

This is actually a pretty good description of what I foresee happening. The Ball of Twine Executive Order is already in place. Trump likely will beat them too it (out of necessity when the dollar devalues), and maybe the MMTers will get blamed.

The USG will be forced to spend without borrowing in a futile attempt to maintain its status quo and to simply pay its people, and when hyperinflation follows, few will understand the full reason why. A simple cause and effect explanation will be that the printing caused the hyperinflation, and in fact it did, but without knowing the full story, MMT and all of its proponents will be sitting ducks to take the blame. Wouldn't that be fun.

AOC has a bachelor's degree from Boston University. She graduated cum laude in 2011, with a major in… economics! She's not old enough to run for president this time, because you have to be at least 35 years old and she's only 29. So it's gonna be Bernie on the ticket. Don't let this Biden character fool you. AOC is the new MMT Left, and Bernie is the "over-35" AOC proxy. I know, it's still over a year away, and it probably won't be obvious to anyone else that Bernie will be it for another 9 to 12 months. So just keep my prediction in mind, as others rise and fall, and Bernie remains.

He still has a base that's as devoted to him as Trump's base is to Trump (not as big, just devoted), and no one else on that side has anything close to that. He was cheated out of the nomination last time, so that's not going to happen again. And he really wants it, so he's in it for the long haul. So unless he drops dead, or is somehow otherwise disqualified (hyperinflation could disqualify him), I predict that he's going to be running against Trump in 2020. And that means MMT will be on the ballot.

"It’s easy to dismiss MMT as the ravings of the far-left, but if you do so, you are mixing economics with politics. MMT theory is extremely useful in understanding how the economy actually works. You might not like it. You might wish it were different. But I think the hallmark of a great trader/investor is to stay open-minded. In that vein, I think the MMT framework is a most useful tool for macro trading.

When Nixon went off the gold standard, economics changed. Yet all the textbooks are still based on this neo-classical economic thinking. Understanding that the old economic concepts no longer work and the current situation is much different, helps in accepting that MMT does a much better job at explaining today’s realities than any other framework."

And here's how the Macro Tourist characterized his newfound MMT evangelism:

"You might not like the political parts of MMT. I am not trying to convert anyone. Nothing is more annoying than when your best friend discovers some keto-diet and spends all day extolling its benefits."

Haha, I can relate to that (no offense tEON)! ;D We used to have an MMT evangelist of our own at the blog back in 2010. Anyone remember MMT Greg?

So let's quickly review what Moneyness is all about.

Money is one of those terms which means different things to different people. To some, gold is real money, and to others it's silver. To most people, what's in their checking account is their money, and to lots of people, their 401K balance is their money, including stocks and bonds. To MMT, base money is the real money, and that's fine, but there is a better way to understand money.

FOA explained that money is simply a unit that we use to express the relative value of different things. It's not only how we communicate values to each other, it's how we can remember the relative value of thousands of different things:

Lean back and think of all the items you can remember the dollar price for? Quite a few, yes? Now, run through your mind every item in your house; wall pictures, clothes, pots and pans, furniture, Tvs, etc.? Mechanics can think about all the things in the garage, tools, oil, mowers. If one thinks hard enough they can remember quite well what they paid for each of these. Even think of things you used at work? Now try harder; think of every item you can remember and try to guess the dollar value of it within, say, 30%. Wow, that is a bunch to remember, but we do do it!

I have seen studies where, on average, a person can associate the value of over 1,000 items between unlike kinds by simply equating the dollar price per unit. Some people could even do two or three thousand items. The very best were some construction cost estimators that could reach 10,000 or more price associations!

Still think we have come a long way from trading a gallon of milk for two loaves of bread? In function, yes; in thought no! Aside from the saving / investing aspects of money, our process of buying and selling daily use items hasn't changed all that much. You use the currency as a unit to value associate the worth of everything. Not far from rating everything between a value of one to ten; only our currency numbers are infinite. Now, those numbers between one and ten have no value, do they? That's right, the value is in your association abilities. This is the money concept, my friends. (Link)

The unit is the money. It's not a thing, it's a unit, a word, a notion. In our case, it's the dollar. But what is a dollar? It's just a word. It's actually just a purely symbolic word we use to express the relative value of different things. The dollar itself has no intrinsic value. It's just a word. Zimbabwe's currency was called the dollar too. See?

Gold metal itself was never the money. The money was the units stamped on the gold metal that were used to associate different items by their relative value.

Unlike the efficient market theory that was jammed down our throats in schools, we all still use value associations to grasp what things are worth to us. Yes, the market may dictate a different price, but we use our own associations to judge whether something is trading too high or too low for our terms. We then choose to buy or sell at market anyway, if we want to.

In this, we have moved little from basic barter. In this, we are understanding that an unbacked fiat works because we are returning to mostly bartering with one another. A fiat trading unit works today because we make it take on the associated value of what we trade it for; it becomes the very money concept that always resided in our brains from the beginnings of time.

In this, a controlled fiat unit works as a trading medium; even as it fails miserably as a retainer of wealth the bankers and lenders so want it to be.

There are old dollar coins that are now worth thousands of times what is stamped on the metal, and there are old dollar bills that aren't even worth the paper they are printed on. So even though we've fooled ourselves into thinking that the dollar is a thing, and not just a symbolic word, it never was and still isn't that thing. That thing we think of today as "a dollar" will one day be worthless, and that's why it's better to understand the money concept this way than any of those other ways.

Here's how you can know (and explain to others) that money is not a thing, it's just a notion, and an ephemeral one at that. Say you've got $10,000 in the bank. It's probably in a checking account, so you can pay your bills. And maybe your paycheck gets automatically deposited there each week. Well, your bank has your balance noted on a ledger, and it's not even a paper ledger. It's just electrons on a computer screen, and that's all your money is. Nowhere is the bank holding $10,000 aside for you.

Your money is just numbers on a screen, and that's only if the screen is turned on. They're credits, just like at the arcade. The bank has you down for 10,000 credits, which you probably worked all month to earn. Someone else could walk into the same bank and get 10,000 credits with just a signature and good credit, and they spend just like your credits. That's what money truly is: credit. It can be credits you earn, credits you borrow, credits you lend and credits you spend, but it's not a thing.

My second Moneyness post was titled Moneyness 2: Money is Credit, because some people just need it stated plainly. Here are the two quotes I put at the top of that post (the second one is just me quoting myself ;D):

"Gold is the only money the world has ever known"
Sounds like a simple thought, but it isn't.
To understand the following you must rethink your basic
knowledge of money and investments. Get your aspirin ready.

What will change is how we view money and wealth
Everything else in Freegold flows from that!

Four years later I wrote Money or Wealth. It simply can't be stated too plainly. So simple, and yet so few get it.

That's what Moneyness is all about. Lots of things have varying degrees of moneyness. Even your 401K has a degree of moneyness, but if you don't want to be like MMT & AOC, then there's a better way to understand the money concept.


Hyperinflation'll Fix That

The inspiration for this post came from a comment Marion posted which he said came from an article on Zero Hedge. He said, "The growth angle makes sense to me on the surface, but I need to think about it in more depth." I don't know if this was in an article, or from someone else's comment under the article, but here's the comment:

"It’s very simple. THERE IS NO ECONOMIC GROWTH. We have had growth for the last 250 years, give or take a few temporary downturns. But it's gone, and it’s not coming back. Growth is over, gone, finished. Our future is a long, slow economic contraction – what John Michael Greer calls “catabolic collapse”.

The problem is that capitalism NEEDS growth: it’s a defining feature of our system. In the absence of growth, we get the illusion of growth. That is exactly what increasing asset prices represent: the illusion of growth. Of course the new money must go to those who are already rich, to push up asset prices. If it went to the poor, it would simply push up the prices of things that poor people buy, leaving them where they started. Because there is no growth, the money can’t go to the poor.

Finance Capitalism (or Wall Street Capitalism, or Corporate Capitalism, or Late Capitalism, or Ponzi Capitalism, or Neoliberal Capitalism) is capitalism’s response to the end of growth.

I have no idea what will come next, but it won’t be capitalism. Because capitalism needs economic growth."

Now, I'm aware that the "catabolic collapse" reference is tied to the "peak oil" topic, and I'm just going to acknowledge that I know that, and not go there. This isn't about "peak oil," it's about his characterization of capitalism, which also brings to mind Anand's use of the term, "extreme capitalism": "Finance Capitalism (or Wall Street Capitalism, or Corporate Capitalism, or Late Capitalism, or Ponzi Capitalism, or Neoliberal Capitalism) is capitalism’s response to the end of growth."

I really think he has it backwards. He's saying that the cause is the end of growth, and the result is Ponzi Capitalism. I say the $IMFS caused "Ponzi Capitalism," which ultimately resulted in global stagnation, which is not "the end" of growth, but more of a pause. But let me be clear that what he's characterizing as "Capitalism" is not real capitalism, and it is not the end result of capitalism as the term "Late Capitalism" implies. What it is is "late stage $IMFS", which is quite different from the concept of capitalism.

Capitalism in the simplest terms is the private ownership of the means of production, as opposed to public, i.e., communal, ownership. It is "I, Pencil" at work; Adam Smith's invisible hand. It's the decentralization of wealth and the economy, with competition and the possibility of profits, and losses, as the factors that make a decentralized economy appear as if it was planned by a genius, which is the opposite of the $IMFS. Think about what the $IMFS has done, or let's call it "Wall Street Capitalism" to use one of his phrases. Family farms became Monsanto (NYSE: MON). Downtown shops became Walmart (NYSE: WMT) and Costco (NASDAQ: COST). Everyone IPO'd, and suddenly all the wealth and control of the economy was centralized in Wall Street boardrooms.

I think the mistake most everyone makes is in thinking that, because everything is "owned" by dumb, passive money, rather than the state, that this is private ownership, i.e., capitalism. But instead of "state" ownership per se being the opposite of real capitalism, think of the term I used above: communal ownership. Is that not what the $IMFS has given us?

In the distant past, management was usually headed by the owner of a company, and often run by his family. Today management is most often headed by a hired CEO, an employee of the owners/shareholders. The fact that they are partially compensated with shares does not mean they act with similar motives to the owners of family businesses of the past.

In many cases, the ridiculous compensation they pay themselves and their friends is so obviously disproportionate to their value to the company that they are actually consuming the company's capital and profits, draining it away (stealing it?) from those to whom it belongs, and they, the owners/shareholders, don't seem to mind as long as the share price goes up. Being a CEO today is more about the share price of a company than building its capital, or making it competitive or profitable.

It's really hard for a company to grow when it's being bled dry by overpaid employees. Ever heard of no-show jobs? It used to be an organized crime thing, a way to "funnel kickbacks and bribes to friends, family members, business associates and even themselves." Today the $IMFS has taken it mainstream.

This is "Ponzi Capitalism." This is "Wall Street Capitalism." This is "late stage $IMFS." It is centralized control and planning, paired with communal ownership and widespread corruption. And it is pervasive, not just in publicly-traded companies, but everywhere. Today it is a global problem, from Wall Street boardrooms down to the homeless people peeing on the streets of San Francisco. From Boston to Beijing, Hollywood to Hong Kong, it's all connected. And it all traces back to the $IMFS.

Turn slowly now and view all directions. The wealth that was had was not real. The Pacific Rim started, now South America. Next will be Europe closely followed by the US. Remember, all currencies are the same now as they are "digital paper"! […]

All currencies, today, are locked to the US$ for value. […]

For years the governments could create currency out of nothing. But, during the last eight years, the modern currency systems have taken the final step. As digital charges in a computer, they have become but "emotional thoughts" of trading value. This is to say, "a currency unit exists only during the moment of trade". During this time, when real things are in transit, paper currency has value as an expected "trade completion". It exists as a human thought. Complete the transaction and the thought is gone, the currency unit dies.

Think about it? If for a time the world commerce stopped. All would live from what they had for, say a week. During this week, all currencies and the debts that back them would not exist! Without trade, modern currencies have no use, no value, no purpose. […]

It is important to understand that few persons or governments hold US dollars! Look at any investment portfolio and what you will find "are assets denominated in US$". This sounds simple, but it is not. You have heard the phrase, "money is moving into real estate, land, oil, stocks or bonds". It is a bad meaning, as it does not what it says.

All modern digital currencies do not go into an investment, they move THRU it. The US unit is only an exchange medium to acquire assets valued in dollars. US government bonds are the usual holding. No CB holds any currency! They hold the bonds of that currency. The major problem today, is that digital currencies have erased the currency denominations of all government/nation debt holdings! Even thou a debt is marked as DM, USA, YEN, they are in "real time" / "marked to the market" and cross valued in all currencies! No currency asset, held by CBs today are valued in the light of a single issuing country, rather "all currencies are locked together". To lose one large national currency, is to lose the entire structure as we know it!

There is an alternative. Gold! It is the only medium that currencies do not "move thru". It is the only Money that cannot be valued by currencies. It is gold that denominates currency. It is to say "gold moves thru paper currencies". Gold can be used to revalue any asset, and not be destroyed in the process!
-ANOTHER (11/7/97-1/23/98)

The American Experience

Eurodollars once referred to US dollars held in Europe, but today they mean US dollars anywhere in the world, outside the US. Today it's a global term. Likewise, the terms "$IMFS," "Finance Capitalism," "Wall Street Capitalism," "Corporate Capitalism," and "Ponzi Capitalism" are all global too, as are Goldman Sachs and JPMorgan. So when ANOTHER says "the American Experience is reaching the end," perhaps that too is global!

I would say, "Old World Order" to return. To understand/explain better: "A very easy way to view this "order", would be to simply say that the American Experience is reaching the end! As we know, world war two left Europe and the world economy destroyed. Many thinkers of that period thought that the world was about to enter a decades long depression as it worked to rebuild real assets lost in the conflict. It was this war that so impacted the idea of looking positively toward the future. The past ideals of building solid, enduring, long term wealth were lost in the conception of a whole generation possibly doing without! In these fertile grounds people escaped reality with the New Idea of long term debt, being held as a money asset. Yes, here was born the American Experience that comes to maturity today.

New world order, regionalism and tribalism are but modern phases that denote "group retreat to avoid paying up". The worldwide currency system is truly a reflection of an economy built from war, using the American Experience, the US$ and the debt that it represents. But, for the American dollar to continue as the representative of the global financial system, in the form of being the reserve currency, maturing generations of all countries must accept it, and the tax on real production it clearly imposes! In the very same mind set, that people buy the best value for the lowest price (Japan cars in the late 70s), and leave an established producer to die, so will they escape the American currency and accept any competitor that offers a better deal. Because we are speaking of currencies here, the transition will be brutal!
-ANOTHER (5/5/98)

Let me unpack that for you...

"I would say, "Old World Order" to return."

The reason he says "Old World Order" is because he's responding to a question from Michael Kosares, in which he referenced the NWO: "There has been much discussion around the world about the imposition of a NEW WORLD ORDER and international one world government. Simultaneously, we see another, opposing force at work -- regionalism, nationalism, even tribalism. What do you make of this? Is the Euro a child of the forces of the New World Order, or the forces of regionalism/nationalism/tribalism?"

"To understand/explain better: "A very easy way to view this "order", would be to simply say that the American Experience is reaching the end!"

The term "American Experience" is a rather subjective one, and ANOTHER does go on to narrow down what he means by it. But you should know that there is a particular historical context for the term, and its meaning in that context is relevant enough here that I think it's probably close to what he had in mind when he wrote this post.

In various writings dating back to the 1950s and 60s, the term "American experience" was used in contrast to the "European experience" in terms of remaining in the "Old World" (Europe), versus moving to the "New World" (America). I like the way R.W.B. Lewis explains the essence of "the American experience" in The American Adam: Innocence, Tragedy, and Tradition in the Nineteenth Century (1955):

"the image of a radically new personality, the hero of the new adventure: an individual emancipated from history, happily bereft of ancestry, untouched and undefiled by the unusual inheritances of family and race; an individual standing alone, self-reliant and self-propelling, ready to confront whatever awaited him with the aid of his own unique and inherent resources."

That may not be precisely what ANOTHER had in mind when he used the term, but considering he was from that generation, it's probably closer to his usage than what comes to mind when we hear the term today.

"As we know, world war two left Europe and the world economy destroyed. Many thinkers of that period thought that the world was about to enter a decades long depression as it worked to rebuild real assets lost in the conflict. It was this war that so impacted the idea of looking positively toward the future."

What he means by "the idea of looking positively toward the future" is something that is today called Future Time Perspective. It's basically the idea that a positive perception of opportunities in the future affects behavior, which in turn can effect positive outcomes in the future. So it's kind of ironic that the current generation is experiencing a negative perception of opportunities in the future, due to the very system that was built to avoid those feelings 75 years ago, in 1944.

"The past ideals of building solid, enduring, long term wealth were lost in the conception of a whole generation possibly doing without! In these fertile grounds people escaped reality with the New Idea of long term debt, being held as a money asset."

It just goes to show that you can't escape reality, you can only delay it, or put it off for future generations to endure, in this case for 75 years.

"Yes, here was born the American Experience that comes to maturity today."

So now we see, "the American Experience" he was talking about was the escape from reality, driven by the idea that positive thoughts can create positive outcomes, or as R.W.B. Lewis might have put it, emancipation from the past, happily bereft of tradition, untouched and undefiled by the unusual inheritances of wisdom and rules; a post-war Europe ready to confront whatever awaited it with the aid of the $IMFS.

So it's not just the "exorbitant privilege" America enjoyed, it's the global "American experience" that comes to maturity today. See?

"New world order, regionalism and tribalism are but modern phases that denote “group retreat to avoid paying up”."

I think he meant phrases, not phases, because it makes more sense that way. And again he's referring to Michael Kosares' question there: "Is the Euro a child of the forces of the New World Order, or the forces of regionalism/nationalism/tribalism?" I note that he didn't include nationalism in his reply. Not saying that was intentional, but it's interesting nonetheless. "Group retreat to avoid paying up" means socialism, or socializing the losses.

So to unpack MK's question, he's using NWO as a proxy for globalism or progressivism, and regionalism etc. as a proxy for conservatism. In other words, he's asking if the Euro is a child of the forces of progressivism or conservatism, and ANOTHER rephrases conservatism as "Old World Order", and points out that "socializing the losses" (or "group retreat to avoid paying up") is a temptation that spans the political spectrum. In other words, Marx got the delineation wrong, and so does almost everyone else. ;D

"The worldwide currency system is truly a reflection of an economy built from war, using the American Experience, the US$ and the debt that it represents."

If you didn't believe me before, notice here that he says using the American Experience, as if it's something that is being used by post-war Europe. So, to rephrase his sentence, he's basically saying "The $IMFS is truly a reflection of the European post-war economy, using the distinctively un-European idea of being "emancipated from history, happily bereft of ancestry, untouched and undefiled by the unusual inheritances of family and race," along with the US dollar and the debt that it represents. And not just USG debt, because for the first decade or so, it was European debt, denominated in dollars, paid in gold.

"But, for the American dollar to continue as the representative of the global financial system, in the form of being the reserve currency, maturing generations of all countries must accept it, and the tax on real production it clearly imposes!"

And here's the catch. In order to keep putting off reality, to keep the music playing, the dollar needs support. And not only that, but the system itself, by centralizing wealth and control of the global economy in financial center boardrooms, populated by corrupt employees stealing the accumulated capital of owners who don't care as long as the Dow keeps hitting new all-time highs, is crushing any promise of growth, leaving the Millennials, now thirtysomethings living in their parents' basements (C-rob notwithstanding), "lost in the conception of a whole generation possibly doing without" that their great-grandparents skirted 75 years ago. No wonder they resent their parents and grandparents, the boomers, who benefited the most from it. This is "the tax" being paid today.

"In the very same mind set, that people buy the best value for the lowest price (Japan cars in the late 70s), and leave an established producer to die, so will they escape the American currency and accept any competitor that offers a better deal."

Here he's talking about the euro, which was set to launch seven months later. He's drawing the comparison of people switching from big American cars to small Japanese cars during the oil crisis in the 70s, to the world switching from dollars to euros as the international reserve currency.

"Because we are speaking of currencies here, the transition will be brutal!"

Now, clearly the transition he's talking about hasn't happened yet. And some people will say that he got it wrong, because the euro launch did not trigger dollar hyperinflation and Freegold. But I maintain that it wasn't as much a prediction as a warning. The dollar system is old, and all such systems eventually meet their end. The dollar system was so weak in the late 70s, following the abrupt end of Bretton Woods, that it would have likely ended in 1980 without foreign support.

The foreign support was given as a means to "buy" the time necessary to launch the euro, so that when the dollar system finally met its end, at least international commerce and the global pricing structure it relies on would survive. Then the crash of 1987 happened, and the same people who worried about the world's pricing structure surviving, started also thinking about how preserving wealth through the transition was equally important.

In September of '99, in a post headed, "Some things I know," FOA wrote:

This work started back in 1988, not long after the 87 crash. Important people were asking some very serious questions about the timeline of the world monetary system. They expected a long term evolving report that would expand ongoing events into a format of true life context. A context to be understood at all levels of economic exposure. In other words, it had to do a better job of explaining the (then) recent illogical swings of world economic affairs and the effects of those swings on various national economic groups. Were we progressing into a new, better age, or was our system responding in a death like downtrend?

Because the questions grew from a fear that the world economy would indeed contract in the future, leaders wanted to know how one could retain the most wealth during such an event. It was thought that if the basic extended family blocks of a nation could survive such a collapse, savings intact, those nations and their children would be a benefit to economic affairs of the future. In effect, negate a possible return to the Dark Ages of European history. Our time frame was outward some 20+ years. I cannot offer the full report or its complete ongoing analysis. But, the effort you have seen to date is one of sharing somewhat for the common good of all.

Notice that he's talking about a global economic contraction as an event to survive, a collapse to make it through, not something permanent as Marion's commenter clearly describes: "We have had growth for the last 250 years, give or take a few temporary downturns. But it's gone, and it’s not coming back. Growth is over, gone, finished. Our future is a long, slow economic contraction…"

Nonsense! What we have is a long, slow economic contraction as long as the $IMFS continues, but guess what? Hyperinflation'll fix that! ;D

Now, you can substitute any of those crazy "Capitalisms" for the $IMFS in that sentence: "Finance Capitalism," "Wall Street Capitalism," "Corporate Capitalism," "Late Capitalism," "Ponzi Capitalism," even Anand's "extreme capitalism." Like this: "What we have is a long, slow economic contraction as long as 'Wall Street Capitalism' continues…"

And again, this is a global problem. I wish I could insert a whole 10K word post here, my 2015 post What the World Needs Now…, but I won't do that to you. Instead I'll only insert two-thirds of it, omitting the section on Eurodollars. ;D If you want to skip this part, or have recently read this post, just click here to jump to the end.

What the World Needs Now…

In the last thread, Michael dV asked:

"Why can't the world optimize the use of commodities using the dollar system?
FOA said it was not possible and it seems true but is it just the debt?
Is it the financialization that has turned supply demand on its head so now nothing makes sense except to speculators?
Is it the way money moves around the world so fast that there is no way to grow a stable commodity enterprise?
Is it the way commodity producing countries are regularly caught in the debt trap of the business cycle?
...some combination...or have I completely missed it?
It does seem that the statement is correct but the reason isn't entirely clear to me."

This is a good question to explore, and I think the answer will tie together a few different ideas that are floating around right now.

First, let's talk about the concepts of overinvestment, overcapacity, overvaluation and unprofitability. The flipside of overcapacity is a lack of demand. If your factory has the capacity to make more of something than the market demands, that's overcapacity, but it's also a lack of demand. If demand were higher, then your factory's capacity might be just right. Or maybe, if demand was even higher than your production capacity, you'd have room to grow even bigger and more valuable.

Financial investment could help you grow your production capacity to meet demand. But then if it later turned out that the high demand was a financed illusion that could disappear even faster than it appeared, you'd find yourself overinvested, overvalued and in a precarious position of overcapacity. I propose to you that, very generally speaking, this is the state of both the entire global financial and real economies today, all thanks to the $IMFS.

Now, when you're overinvested and overvalued, you are unprofitable. There are ways to ignore reality in order to maintain the illusion of a higher value for a while, but all that does is lock you into perpetual unprofitability. Again, very generally speaking, I propose that this is the state of both the entire global financial and real economies today, all thanks to the $IMFS. The entire world in aggregate is stuck in perpetual unprofitability, and the only way to break that cycle is through liquidation. What the world needs now is a grand, global liquidation.

For anyone who is unclear about what I mean, imagine you expanded your widget producing business, by borrowing money, to meet a demand that was also funded by borrowed money. Then suddenly the level of demand dropped, but your debt, overcapacity and overvaluation remained. And imagine that then your income from the business could barely even service the debt. You could keep producing at a loss just to service your debt and keep your dream of an illusory value alive, or you could liquidate your business at market prices and then someone else who paid much less could run it profitably.

This is not just about businesses though, it's about everything. Another example could be a rental property. You paid too much with zero down at the height of the market, and now the rent doesn't even cover the mortgage payments, let alone the taxes and upkeep. It's probably a little more obvious in this example that you should liquidate, and then whoever buys the property from you will be able to rent it out at a profit because they paid much less. The point being, aggregate profitability is a simple matter of valuation relative to real demand.

I'm speaking very broadly and generally here, and taking the world in aggregate, but to put it another way, the global economy cannot start to flourish again, even with the modern miracle of electronically connected global markets and the promise of worldwide free trade, until the reality of its overinvestment, overcapacity, overvaluation and unprofitability is realized, and overvalued assets are liquidated at market prices. And the punch line is that the $IMFS can't handle such a realization and liquidation. Very simply, it will reflect the end of the system, because the system's very existence rests upon the "bedrock" of everyman's wealth equaling the perpetual expansion and endless rolling over of everyman's debt.

FOA (3/14/99; 16:17:55MDT - Msg ID:3362)

Ironically, the very prospect of free world trade, so fought for by the American Administration, is the condition that the IMF/dollar system cannot handle! The debt built up from all of the past, unfree, protectionist old world trade is killing the transition. The policy is to sell free trade and the narrow margins it produces as they shut down entire economies because the low profits cannot service the old debt. Do you follow the logic and the problem? This brilliant, modern free trade system and all of its benefits cannot be implemented using the US dollar as a reserve currency. It shuts off commerce that in turn limits the use of commodities such as oil, metals, food and the like. Many hail the low price inflation in the US as a victory and ignore the intent other nations had in following "free trade". That being to promote a world economy, not just a US economy.

Enter the Euro! Understand that the increased use of commodities is a good thing. It's not just for the purpose of making a rising chart pattern so speculators can sell their calls! Commodity usage creates real things and helps the lives of real people. When citizens gain real productive mechanisms, they hold real wealth. Some would have you believe that third world people are enriched by saving US treasury bonds, not true! The only way to increase world trade, with an eye on building new consumers in all countries, is to remove the overhang of "dollar settlement".

The US started the free trade movement but quickly backed away when it was realized that the US currency, backed by debt through the fractional reserve system, would suffer severe inflation in the transition. Government guarantees would require the treasury (and Fed) to print unbelievable amounts of new currency to cover the unserviceable debt that Free Trade would create!

This global overinvestment, overcapacity, overvaluation and unprofitability didn't happen overnight. It took 70+ years of the $IMFS to reach today's end. It basically begins with WWII and ends with China today, and it was the purpose behind my three main posts last year: Fiat 33 (covering WWII to 1971), Dirty Float (covering 1971 to 2014), and Global Stagnation (covering the present condition of economic stagnation due to global overinvestment, overcapacity, overvaluation and unprofitability).

Following WWII, Europe's productive capacity was decimated, and the US was the productive engine of the world. Through Bretton Woods, Europe was able to rebuild its productive capacity in about 12 short years. Picture a classroom globe of the world. Since WWII, productive capacity for durable consumer products has been migrating eastward, from the US to Europe to Eastern Europe and all the way around the globe to China. Again, I'm speaking in broad and general terms here in order to paint a broad and general picture for you.

As consumer goods productive capacity migrated eastward, industrial capacity in the West atrophied while entire Western economies gradually migrated from goods production toward the services sector. From the turn of the century, China gained goods production capacity almost as fast as Europe did after WWII. And by 2010 or so, the around-the-world-migration was complete. Most of our consumer goods are now produced elsewhere, but the US is really good at producing things like Facebook and Twitter. And I'm not talking about the websites. I'm talking about the ownership shares which are sold by our services sector to the ROW as an investment as soon as the website becomes popular.

It's pretty interesting how real goods production capacity migrates east, from where it is less profitable (leaving abandoned plants to rust) to where it's more profitable. And then when it finally gets there, it continues expanding, regardless of demand (thanks to the $IMFS), until some companies start shutting down. And then the ones that are still producing keep building even more new plants to produce more product, just to make their debt payments even as their profit margin shrinks down to zero and below.

Meanwhile, services (which are often luxuries) are generally more localized than real goods (necessities) such that they can't be undercut by global competition. For example, a massage parlor in Bangkok which offers top-shelf service and a mind-blowing menu of options for about $30 does not undercut your local parlor which charges twice as much for a boring basic. So it should be no surprise that 80% of the US economy has migrated to the services sector, leaving 19% in specialized industrial goods (like Boeing) and capital goods (like the machines and technology exported to build consumer products in China), and about 1% in agricultural goods (food and other boring stuff like that).

Also in the last thread, Aaron asked me to explain Jeffrey P. Snider as if to a 5-year-old. I'll try to get to that in this post as that is one of the few different ideas floating around that I hope to tie together, but first here's a quote from Jeff Snider on China's overcapacity:

"China’s ghost cities and empty factories are legend… Overcapacity is the only dominating feature there, and it is traced directly to “highly accommodative” past policy that did nothing but foment future economic destruction; monetarism “buys” short-term activity at a very high future price…"

To round out this point and hopefully really drive it home for you, I'm going to give you a couple more quotes from an older article, and then a full article from just the other day in the NY Times. The first two are from an article by Marc Chandler which appeared on Zero Hedge in July of 2013. This first one identifies nine key sectors of China's economy that its government says are operating unprofitably due to overinvestment and overcapacity, in some cases piling up excess output in warehouses and calling it inventory:

"This over-capacity itself is one dimension of the surplus capital problem we think is so central. Over-capacity is often understood in the context of China. China's development has been predicated in part on its ability to rapidly enter new fields with economies of scale.

There is strong competition between local officials to fund the next boom. Their special investment vehicles borrow the money to finance projects ranging from steel, cement and chemicals to earth moving equipment, flat screen televisions, cell phones and solar panels.

Previously when fixed costs were low and a situation of over production arose, a producer might cut back on output rather than produce at a loss. However, when fixed costs are relatively high, as they are under modern production, a producer has little choice than to continue to produce, even at a loss.

Consider a couple of specific examples. China produces about half of the world's aluminum supply. The price of aluminum has fallen sharply in recent years and, a recent report noted, that half its producers are now operating at a loss. Nevertheless, more smelters are being built. Meanwhile, capacity is being shuttered elsewhere, unable to cope with China's cheap output.

On the eve of the financial crisis, Chinese steel companies were highly profitable. This attracted huge investment flows and expansion of capacity. Moreover, the form of China's massive stimulus program underpinned even more investment. Last year, it had a surplus of 160 mln tonnes. Output is near record levels, but utilization is near 80%. Around half the output is going into inventory.

The cement industry followed a similar pattern. Despite the vast infrastructure projects under way, China's cement industry, which accounts for almost 2/3 of the global industry, is operating at less than 70% capacity.

There have been press reports documenting excess production in numerous other sectors, including glass, paper, solar panels and other clean technology, and shipbuilding. There are a wide range of consumer durable goods plagued by excess capacity as well, such as cell phones and autos.

The Chinese government has officially identified 9 key sectors that are suffering from over investment (excess capacity). Steel, aluminum, rare earths, cement, electronics, pharmaceuticals, autos, shipbuilding, and industrial agriculture."

This next excerpt from the same article describes the eastward migration of the auto industry, and the atrophy of those left in its wake:

"Command economies, such as China, are not the only ones suffering from over-investment and excess capacity. Consider the European auto market. It has the capacity to produce a little more than 19 mln vehicles a year. Sales in 2012 were 13.1 mln and this year they are projected to fall to 12 mln. In 2008, 16 mln cars were bought in the EU.

…there is a shift in the global division of labor and auto production is moving east. While Italy, Spain and France have seen sharp declines in their auto output for more than a decade, output in the Czech Republic and Slovakia has grown 3-fold in the past 10 years and now produce more than France. Slovakia, incidentally, has the highest auto output per capita in the world.

Reports suggest Russia has a growing domestic market and is set to surpass Germany. Romania is poised to surpass Italy in auto production. Italy's auto factories are operating near 45% of capacity. The older and less efficient capacity is in the euro area. Some has been closed, but insufficient for industry analysts to anticipate profitable production any time soon. Moreover, with high levels of unemployment and weak economies, Italy, Spain and France have indicated that they will not tolerate any more rationalization of the European auto industry--plant closings--at their expense.

The US also suffered from excess capacity in the auto sector. The bankruptcy of General Motors and Chrysler and the near-death experience of Ford, helped spur on an industry restructuring. It included the closure of capacity."

Finally, here's an article from a couple weeks ago in the NY Times:

Zombie Factories Stalk the Sputtering Chinese Economy
AUG. 28, 2015

The Changzhi Cement Group factory, a partially abandoned state-owned enterprise near Changzhi, China, idling on Monday. Two years ago production ground to a halt, and workers stopped receiving paychecks.

Miao Leijie loses money on each ton of cement his company produces. But stopping production is not an option.

When the plant opened in 2011 to supply the real estate and infrastructure industries in the northern Chinese city of Changzhi, the company raised most of the initial money from banks. Now, Mr. Miao, the factory’s general director, needs to keep churning out cement simply so the company can pay the interest on its loans.

It will be tough for the business, Lucheng Zhuoyue Cement Plant, to get out of the hole. Customers and investments are drying up, and the company is borrowing even more money to stay afloat.

“If we ceased production, the losses would be crushing,” Mr. Miao said, as he chain-smoked in the company’s quiet, spartan office. “We are working for the bank.”

Changzhi and its environs are littered with half-dead cement factories and silent, mothballed plants, an eerie backdrop to the struggling Chinese economy.

An idle section of the Changzhi Cement Group factory.

Like many industrial cities across China, Changzhi, which expanded aggressively during the country’s long investment boom, has too many factories and too little demand. That excess capacity, many economists indicate, will have to be eliminated for the Chinese economy to return to healthy growth.

But rather than shut down, Lucheng Zhuoyue and other Changzhi companies are limping along in a kind of march of the undead.

To protect jobs and plants, the government and its state-owned banks sometimes keep money-losing businesses on life support by rolling over or restructuring loans, providing fresh credit or offering other aid. While this may seem like an odd business tactic, it is part of a broader strategy to help maintain social stability, a major goal of China’s leadership. Authorities in China’s provinces and cities also back struggling factories just because they are deemed important to the local economy.

A technician in the control room of an active section of the Changzhi Cement Group factory. Earlier this month a businessman leased part of the plant and hired some of the staff.

Similar strategies have been tried before, with little success. In Japan, such businesses, known as “zombie companies,” are blamed for contributing to that country’s two decades of economic stagnation.

As China allows its own “zombies” to stalk the economy, the situation is clouding the country’s outlook, making it difficult to predict where growth is headed. If the leadership doesn’t address the underlying problem, the economic weakness could be prolonged.

Concerns have already been rising that China’s slowdown is worsening and its problems are becoming harder to overcome. Such fears helped ignite a dramatic sell-off on stock markets around the world. Shares on the Shanghai stock exchange have tumbled by more than a third since the June high.

“Global investors have now come to realize that China’s travails are beginning to affect everyone,” said Frederic Neumann, co-head of Asian economic research at HSBC in Hong Kong.

A former worker of the Changzhi Cement Group factory exiting his apartment building on Monday. He complained that he had paid for his flat but had not received the homeownership documents from the state-owned factory.

A Threat to Prosperity

Far from the sparkle of Shanghai or the export zones of Shenzhen, Changzhi is a modest city of three million people who live in low-rise apartment complexes and work in boxy factory compounds. The local economy depends on steel manufacturing and other heavy industries that girded the country’s decades-long era of high growth. As the property market grew and the government plowed money into roads and other infrastructure, cement factories sprouted on the city’s outskirts to capitalize on the bonanza, creating hundreds of well-paying jobs. In recent years, the busy local shops and crammed fast-food restaurants along Changzhi’s narrow downtown streets bustled with new prosperity.

But the country’s economy is slowing down, threatening that wealth. Gross domestic product expanded 7 percent in the second quarter of 2015. While that would be a stellar performance by the standards of most countries, it is the slowest pace for China in a quarter-century.

Some industries are plummeting, wreaking havoc in less economically diverse cities and towns. Empty apartments built during the boom are now weighing down the property sector. Businessmen in Changzhi complain that construction projects supported by the local government have also been scaled back.

As a result, Changzhi’s cement plants are saddled by excess capacity. Companies in the province can produce three times as much cement as what was actually needed in 2014, according to the Shanxi Provincial Association of Building Material Industries. Two-thirds of them lost money in that year.

Discarded sacks of cement in a warehouse at the abandoned 7016 Cement Factory, a state-owned enterprise near Changzhi, China. It opened in 1958 and closed in 2010, leaving over 500 workers unemployed.

Such conditions have turned once promising companies into zombies. While trucks are still parked outside the sprawling industrial compound of Changzhi’s Huatai Cement Clinker Company, there are far fewer than just a couple of years ago, and they have less to haul. The money-losing company has produced a mere 200,000 metric tons of cement this year, even though it is able to make one million.

As a state-owned enterprise, Huatai has been kept running with the help of special assistance. Huatai gets coal on credit and access to cheap loans from its parent company, which is owned by the provincial government. That has allowed management to keep all its 300 workers on the payroll — the company’s top priority. “Our employees need to eat, they need to live,” said one manager, who declined to give his name.

Such measures may help sustain employment, but they also delay the much needed overhaul of Chinese industry. A study of China’s labor market by the International Monetary Fund released in July noted that state-owned enterprises tended to keep workers that they did not need. From an economic perspective, it would be better for such businesses to downsize or even close, releasing their trained staff to work at companies or in sectors with stronger prospects. That would shift resources away from less productive parts of the economy, helping get growth back on track.

A motorbike approaching the Huatai Cement Clinker Company, a state-owned enterprise near Changzhi, China. The state-controlled firm produced 200,000 tons of cement this year, but it has the capacity to make one million tons. So far the factory has not laid off any of its 300 workers. To get by, Huatai receives coal on credit from its parent company, which is owned by the provincial government.

Without such a shift, the economy could suffer in the future. Raphael Lam, deputy resident representative at the I.M.F. in Beijing, says Chinese policy makers should move more forcefully to enact pro-market reforms and allow state-owned enterprises to restructure. If not, he says, “Over the long term, there would be an increasing likelihood of a sharper slowdown.”

‘Eternal, Unpaid Vacation’

The situation is also complicating matters for workers not lucky enough to keep their jobs. Though unemployment has remained low nationally, workers in troubled Changzhi complain that good jobs are hard to find.

At the Changzhi Cement Group, where the only sound is a barking dog, a former company electrician, Zhao Liwei, 43, watches TV inside a decrepit room for janitors at the compound’s entrance. Two years ago, as production at the state-owned plant ground to a halt, her paychecks stopped coming. Most employees were left to fend for themselves.

Since the factory was never formally shuttered, they have not received severance payments or other compensation, Ms. Zhao said. Though a private company took on a handful of employees to produce cement in a portion of the plant’s facilities in August, the work is only temporary.

A worker at the Changzhi Cement Group factory. Since the factory was never formally shuttered, workers have not received severance payments or other compensation.

Ms. Zhao has not worked at all. The only jobs in the area, she says, are sweeping floors and waiting tables, for as little as 500 renminbi, or $78, a month. She earned twice that working at the factory. “We were promised an iron rice bowl” — the Chinese term for lifetime employment — she said. But now “it is like we’ve been left on an eternal, unpaid vacation.”

Some of these idled workers have faced biting hardship. Sitting outside a nearby deteriorating residential complex, Du Jianping, 45, says that she has to rely on handouts from her parents to put food on the table for her 12-year-old daughter. She and her husband lost their jobs at the Changzhi Cement Group, and ever since, Ms. Du has been earning a pittance selling women’s clothes and children’s toys at a stall outside a train station.

She feels trapped, fearing she would be unable to get better work elsewhere. “We are too old to find jobs in the cities,” she said. “I hope the government could help lift up the cement industry so that it can recover.”

A village close to the Changzhi Cement Group factory.

Beijing is sensitive to such pleas. Fearing that joblessness could lead to social instability, the government has made maintaining employment a primary goal of its economic policy. Premier Li Keqiang said during a news conference last year that the lowest growth rate acceptable to the regime “needs to ensure fairly full employment and realize reasonable increase of people’s income.”

That helps explain why Beijing is taking stronger action to prop up the economy. On Aug. 25, the central bank cut its benchmark interest rate for the fifth time since November. Almost two weeks earlier, it suddenly devalued the renminbi, which some analysts see as an attempt to lift China’s sagging exports by making them cheaper in international markets.

The government is also planning to use state banks to finance another round of infrastructure spending aimed at aiding beleaguered industries like cement. Managers in Changzhi argue that the authorities should be doing even more to help, by setting a minimum price for cement or supporting local construction projects.

Piles of coal in front of the Shawang Cement Factory near Changzhi, China. The factory went bankrupt and closed in 2014 and has since been taken over by a businessman who is converting it into a quicklime factory.

Still, such steps may do little more than keep zombie companies alive — to the detriment of the overall economy. By pumping up growth with fresh credit and stimulus, the government might temporarily revive some factories, but also exacerbate the economy’s problems of excess capacity and high debt.

The consulting firm IHS Global Insight estimates that debt relative to China’s output will reach 254 percent in 2015, nearly double the level of 2008. Such debt levels can pose substantial risks to an economy if borrowers are unable to repay them and a wave of defaults follows. “The size of debt only accumulates,” said Grace Wu, a senior director at the rating agency Fitch in Hong Kong. “That doesn’t help with the underlying economy. It doesn’t help create jobs.”

Over the long term, Chinese policy makers are trying to decrease the economy’s dependence on excessive investment for growth and allow household consumption to play a bigger role. That means the factories in many heavy industries, like cement, may never run again at full tilt.

An empty security office in an idle section of the Changzhi Cement Group factory, a partially abandoned state-owned enterprise, near Changzhi, China.

Wang Xiaohu has not completely given up hope. Over the years, Mr. Wang, a 40-year-old businessman, put 20 million renminbi, or $3.1 million, into Changzhi Ruili Building Materials Ltd., which can produce 300,000 metric tons of cement annually. But now the factory site is watched over by a lone, elderly security guard in an ill-fitting uniform. Mr. Wang was forced to idle the plant about 18 months ago, laying off nearly all of his 100 employees.

Mr. Wang, though, has refused to liquidate the factory. Instead, he maintains the machinery, waiting for the day when the economy revives and he can produce cement once again — a day that even he acknowledges may never come. “Many of the small and medium cement plants here are like this,” Mr. Wang says. “The chances are slim that they will ever reopen.”
A version of this article appears in print on August 30, 2015, on page BU1 of the New York edition with the headline: The Zombie Factories That Stalk China’s Economy.

Getting back to Mike's original question—"Why can't the world optimize the use of commodities using the dollar system?"—let's take another look at what FOA said:

"The policy is to sell free trade and the narrow margins it produces as they shut down entire economies because the low profits cannot service the old debt. Do you follow the logic and the problem? This brilliant, modern free trade system and all of its benefits cannot be implemented using the US dollar as a reserve currency. It shuts off commerce that in turn limits the use of commodities such as oil, metals, food and the like."

It's not so much about the commodities themselves as it is about the economic commerce that makes use of them. If that commerce becomes unprofitable, it shuts down, just like Mr. Wang's cement factory. When it shuts down, it lays off employees, which further diminishes economic demand for the consumer end products it produces. It's a vicious circle.

Remember my overly simplified car wash example from The Big Picture?

Imagine buying a car wash that's priced so high that it would take you decades to break even, or if the operating costs associated with it were so high that you'd be operating at a loss and never turn a profit. Imagine you had to pay your car dryers $50 per hour as per union rules and couldn't reduce their numbers or hours. That's operating a business at a loss. It's not that a car wash isn't necessarily a good idea in that neighborhood, but just that its price or its related expenses simply make it unprofitable.

My point is that prices determine what is profitable and what is not. In the car wash scenario, maybe you go bankrupt with your unprofitable car wash and it is liquidated for pennies on the dollar. The new buyer who gets it for a song could then operate it profitably because his income will exceed his costs. In this latter case, isn't the neighborhood better off having cleaner cars?

This is an overly-simplified example, but just consider whether or not much of the world today is completely priced out of profitability. Think about my simple example of a neighborhood car wash. If owning the business itself is priced too high, either its purchase price or its operating costs (not the price of getting your car washed), then it will probably either fail or never get started in the first place without a government subsidy. If the employees have to be paid too much, there will be either fewer jobs or no jobs at all, so few in the neighborhood will even be able to afford a car wash, let alone a car.

To what end does such a system lead, in which asset prices are driven so high that the businesses themselves are not profitable in the real economy? It's called a Ponzi or pyramid system, in which profits are made not from the real economy but from the greater fool, the greater fool in aggregate being the savers.

Have you ever run a true Ponzi scheme like Bernie Madoff? Sometimes they start out as schemes with an honest intention, but then they just get out of control. Here's a list of a bunch of them. The real take-home point, however, is that once they're out of control, they can't be unwound. They can only keep growing until they blow up. In fact, it is the withdrawal of funds, the reversal from expansion to contraction, and the attempted unwinding that always blows them up.

Ponzi schemes occasionally begin as legitimate businesses, until the business fails to achieve the returns expected. The business becomes a Ponzi scheme if it then continues under fraudulent terms. Whatever the initial situation, the perpetuation of the high returns requires an ever-increasing flow of money from new investors to sustain the scheme. -Wikipedia

High (meaning too high, or overvalued) prices are good for the seller, but not for the buyer (nor for the economy, because overvalued assets become economically unprofitable and unviable). I was involved in the sale of a small business that happened right at the peak of the real estate boom in 2007, and the bulk of its price was the market value of the land under it. Being the peak of a bubble in local land prices, the business was overvalued and the buyer went bankrupt two years later.

The business was simply not economically viable given the high price of the land it was on, like putting a car wash on prime, oceanfront property. The buyer who paid the overvalued price had planned on rezoning and flipping the property, but when land values dropped, he had no choice but to declare bankruptcy and liquidate, losing his down payment of $750,000. As part of the bankruptcy, the bank liquidated the business at a price that was almost 30% lower, and the new owner has been operating it profitably ever since.

I know I'm jumping around here a bit, but I'm trying to paint a very broad picture for you, one that encompasses everything, and shows you how to tie it all together on your own. So next, I'd like you to watch 4 minutes of this video that bnsf1980 posted in the last thread. It should start at 19:43 and I want you to watch until about 23:43. It's the guy on the far right talking first, and then the guy on the far left responds:

The first guy (Robert Atkinson) notices that the decline of American productivity positively correlated with the amount of free shit we were getting from foreigners through the perpetual trade deficit, and the second guy (Dan Ikenson) argues that we don't have to pay it back because, for the most part, the foreigners were buying up private sector assets which simply makes American property more valuable. He says he thinks there's no problem with the chronic deficit as long as it's just overvaluing American assets (i.e., driving up their prices, which as I said is good for the sellers, but bad for prospective buyers and the profitability (i.e., viability) of the economy).

Can you see why I highlighted this exchange?

Perpetual trade deficits like we've had for the last 40 years don't just happen. In fact, we're the first and only time this has happened. And it's not something we caused. No, we didn't fight against it too hard, but if perpetual trade deficits could simply be caused by the receivers of all the free shit, then they would be more common than once in forever. In fact, it was the inflow of "investment money" (what we call our capital account surplus) that caused our 40 year trade deficit and all of these asset market bubbles/pops that everyone hates.

Can you see yet how it's not economically beneficial to have too much "investment" money flowing into your assets, driving up their prices into bubble territory? That's right, Dan Ikenson is wrong. A gross influx of money flowing into any economic asset, driving up its price, does not make it more economically valuable or viable. In fact, in the $IMFS it often makes it less viable. The reason is because these assets have objective metrics by which they are valued, so overvaluation is not only possible, it is economically destructive. (Not so for gold, which is why I vehemently disagree with Charlie Munger.)

But it's not just foreign "investment" money flowing into the US that's the $IMFS's problem, it's the aggregate of savers' passive savings everywhere flowing into economic assets anywhere. The $IMFS drives overinvestment, overcapacity, overvaluation and unprofitability everywhere, because that is the global financial system we have today, and that's the end we have finally reached. And when economic assets are overvalued and therefore economically unprofitable, they become simple trading pawns in a Ponzi-like speculation game while the real economy atrophies. The $IMFS won't survive an economic transition because its bedrock—its asset values—will be destroyed in the process.

I probably don't need to explain to you how the US stock and bond markets are overvalued right now (with a different crowd I might have to, but not here at the Speakeasy), but the rest of the world's economic assets in aggregate, both paper and physical, being now unprofitable because they are already overvalued by too much savings, might not be as obvious to you as it is to me. So I try to explain. ;D

If we go back to Marc Chandler's 2013 article which I excerpted above, he's writing about a problem which he calls excess or surplus capital. At the beginning of the article, he explains that you will need to set aside everything you know and suspend disbelief in order to read the rest of the article, which presents an idea that he says "is inconceivable to most economists and policy makers so they cannot perceive it. [Because they believe] there cannot be too much capital."

What he's missing, however, is the simple delineation of savers' passive savings, aka simple wealth, from active investment. And that's the whole problem with the $IMFS in a nutshell! Eliminate the concept of simple wealth such that savers' passive savings become part of the global mass of investment capital, and you will end up with something that is so inconceivable to economists and policy makers that they can't even perceive it: excess capital! Here's another excerpt:

"Economists recognize three factors of production: land, labor and capital. Under capitalism, these factors are treated as commodities that can be bought and sold…

There is an income stream associated with each. Land receives rents; labor, wages and capital, profits. The income stream is a function of the relative supply and demand. When there are more workers, for example, than available jobs, labor's income in aggregate, the wage bill, tends to decline. The integration of the former Soviet Union, China and many low and middle income countries into the world economy, partly meant an influx hundreds of millions of low skilled workers. This, in turn, both caused and obscured an even more critical imbalance, and that is one of excess capital.

This is inconceivable to most economists and policy makers so they cannot perceive it. There cannot be too much capital…

The Great War killed 80-90 mln people and destroyed much capital, in terms of both the means of production and the means of destruction. Capital was not in surplus in the post-war years, and its central place in economic discourse and analysis was forgotten. To the extent that it is picked up in the 1970s and early 1980s, it was relegated to the periphery and not integrated in the mainstream discourse.

By the late 1960s and early 1970s, the surplus capital problem had reemerged. After the Bretton Woods regime collapsed, it took a good decade before a new vision and institutional arrangement emerged that addressed the problem. Ever since the late 19th century, US policy makers had consistently recognized the need to export capital --foreign direct and portfolio investment. The Reagan-Thatcher solution was essentially for the Anglo-American economies, with deep (and being made deeper) capital markets, to absorb the world's surplus capital through running trade and current account deficits. The US, of course, was the biggest, but for the size of their economies, the UK and Australia recorded substantial deficits.

It turned out that the surplus eventually overwhelmed the US ability to recycle it. Rules and regulations that ensured the financial pipes were robust had either been diluted, abolished entirely, or went unenforced. With leverage, the proverbial house of cards was built…

At the same time, there was a limit on the extent and duration of the US current account deficit, without hitting that Triffin moment, when that deficit undermines investors' embrace of the dollar as the numeraire and central bankers use of it as a reserve asset. There was, and continues to be, a protectionist current in the US. It began weakening the fragile support for free-trade and open markets. There was international backlash as well, with countries arguing that the US current account deficit posed the greatest risk to the global economy.

Reagan-Thatcher was, in part, a response to the problems that emerged and submerged Bretton Woods. The solution it offered worked for two decades, also lies in ruin. A new solution to the surplus capital problem has yet to emerge."

A-HA, he has that right, huh? Freegold has yet to emerge (although it does not have yet to be understood (by us))! :D

Hopefully by now you all understand this simple idea that all of the world's passive savers saving in all sorts of things, from stocks to bonds to CDs to ETFs to annuities to real estate to whatever you can name, anything but gold which doesn't have a value objectively tied to something else in the economy, is what is causing this global economic stagnation because of Chandler's "excess capital" which causes overinvestment, overcapacity, overvaluation and unprofitability. This is why, as FOA said, "Ironically, the very prospect of free world trade, so fought for by the American Administration, is the condition that the IMF/dollar system cannot handle… The US started the free trade movement but quickly backed away when it was realized that the US currency, backed by debt through the fractional reserve system, would suffer severe inflation in the transition." Chandler, even though he doesn't quite understand why, appears to agree with FOA: "There was, and continues to be, a protectionist current in the US. It began weakening the fragile support for free-trade and open markets."


Getting back to the original question once again…

"Why can't the world optimize the use of commodities using the dollar system?
FOA said it was not possible and it seems true but is it just the debt?
Is it the financialization that has turned supply demand on its head so now nothing makes sense except to speculators?
Is it the way money moves around the world so fast that there is no way to grow a stable commodity enterprise?
Is it the way commodity producing countries are regularly caught in the debt trap of the business cycle?
...some combination...or have I completely missed it?
It does seem that the statement is correct but the reason isn't entirely clear to me."

I hope I have cleared it up a little bit for you, Mike. ;D

The problem is that asset values (prices) in the $IMFS are all based on the savers in a world of 7B++ people saving in the wrong things. There's not a "savings glut" per se (which is a hot-button term among most of those I have quoted above), but more like a "misplacement of savings" glut. There are those who say there's too much savings, and those who say it's just capitalism that's faulty. It's neither. It is FOFOA's dilemma at work: "When a single medium is used as both store of value and medium of exchange it leads to a conflict between debtors and savers."

Mike, as you stated (quoting me) in a recent comment, the price of gold is arbitrary. What that means, for those who do not know, is that gold has no objective valuation metrics, while almost everything else does. Objective valuation metrics are things like earnings, yield, or rents relative to the purchase price, or the objective value (price) of the component parts of something.

An inflow of foreign money into anything, like, say, your neighborhood, might be a good thing for you and other sellers, but it's not good for buyers because it overvalues the properties. No one will buy a rental property that loses money because the price is higher than the potential income. The same goes for everything. Being overvalued by too much misplaced savings has made this world economically unprofitable, only profitable for those who engage in profiting from greater fools, i.e., the Ponzi game.

That's right, the whole world is a giant Ponzi scheme right now (thanks to the $IMFS), which is why we have global economic stagnation, deflation and mass frustration, and the real punch line is that it has already reversed from expansion into contraction, and the attempted unwinding is already underway, which means the Bernie Madoff moment could happen at any time! :D

At least that's my view.

What the world needs now is a global liquidation of overinvested, overvalued, unprofitable economic assets. It needs a grand reboot! But that's not going to happen through the nominal deflation the deflationists hope for. That would be like unwinding a Ponzi scheme. Sure, markets will collapse, and that's what I'm waiting for, but the Fed will respond. Do you think the Fed will raise rates next week? I really hope they do, but they probably won't. Eventually, however, they will be printing and buying everything in sight, because, in the real world, in extremis, that is their only mandate.

FOA: Many of you have read countless opinions as to why our credit markets would implode into deflation as a "Mises" style economic theory surfaced to control the controllers. Truly, these people confuse theory with human action as much as they do not understand real physics! Indeed, strings that cannot be pushed are either thrown or cast aside in the real world.

What the world needs now is a good, old-fashioned hyperinflation! That'll fix shit. And you better get ready, because it's coming! :D

[End of What the World Needs Now]

The China article in that post mentioned Japan's "zombie companies," which "are blamed for contributing to its two decades of economic stagnation." I want to include part of a post from ORO here, which I came across while searching for one of FOA's comments I used, because he makes some good points about Japan's Lost Decade(s):

ORO (09/11/1999; 02:46:00 MDT - Msg ID: 13308)

I read the Taylor interview carefully. He points out a natural expansion-contraction cycle of money supply and of price inflation. He assumes the actions of central banks are incorporated into the cycle and will not change it, nor do wars change the cycle in his view, though they may play a role as part of it.

The issue of the CB is quite strongly apparent in his charts as a long flat line at the bottom of the chart for the previous bottom, that of the great depression. Another bottom, the current one in Japan was prolonged by the power structure trying to buy time and wait out the problem, hoping it will go away. They were the problem and the bad loans left on the books as place holders for assets are preventing any action by the banks. This attempt at keeping the dead emperor of Japanese debt in his throne by using makeup to make him look as if alive, is keeping Japan from recovery. The enormous savings in Japan change the proportions relative to the US. The Japanese bubble had not gone anywhere near as far as the US bubble had in the 50s and 60s nor in the current bubble.


In Japan of the 80s the worker was working more and producing more, but the increase in his pay never reached the increase in productivity, and what was made available was eaten by the inflated costs of real estate. The availability of labor outside Japan to new production prevented them from gaining the larger portion of the economic pie that would otherwise have gone their way. When the markets collapsed, the government made things worse by attempting to save it and the system. The low prices of real estate and securities never occurred because the banks were not forced to take bad loans off their books, thus the bankrupt owners were not forced into fire sales. Savings were kept as such, as cash never gained the premium that normally occurs when there is massive liquidation. The lack of liquidations, also left the demand for money as it was, pressuring prices downward in a consistent trend rather than a one-time crash, further ingraining the tendency to delay spending. The artificially low interest rates were also causing capital diversion into the US in search of income, while the money left behind could not generate income, and thus more was needed to make retirement of large portion of the population comfortable, further enhancing the demand for money and the tendency to delay spending. The Japanese policies prevented resolution of the debt problem despite having the largest pool of capital ever amassed, standing by, idle.

I just saw a segment on Tucker about the student loan/debt crisis, which reminded me of this post in terms of young people today having such a bleak outlook on the future. At one point, the guest says the problem is so profound that people are actually committing suicide to get out of their student loan debt. And Tucker interrupts him and says, "We have a system that's causing people to kill themselves?" I wanted to show it to you but couldn't find it online, so I just recorded it off the TV:

Now, I obviously think this is just one symptom of a much larger problem, and the solution is not just to change the laws regarding student loans. But how do you tell people that the only solution to such enormous problems is that they are going to have to lose their savings, that their nest egg is gonna go "poof" in order for the next generation to have any prospect or hope of opportunity and economic growth in the future? It's certainly a conundrum.

Even if you could make a convincing case that it's the only solution, if you put it out to the masses, the markets would collapse immediately, and nobody would get their wealth out. Remember what FOA wrote? He said that what led to him and ANOTHER posting on USAGOLD was something that started ten years earlier, not long after the 1987 "Black Monday" stock market crash, when certain leaders and "important people" started asking questions, and "wanted to know how one could retain the most wealth during such an event."

He said their timeframe was "outward some 20+ years," which means they thought "the event" would take place within the next 20 years. The "event" was not just a stock market crash. They'd just had one, and we had two more within their 20+ year timeframe. No, the "event" is the transition from the "dollar international monetary and financial system" ($IMFS) to the next one. And that transition cannot happen with everyone's 401K staying intact.

This is not the end of capitalism, but it is the end of "Wall Street Capitalism" and "Ponzi Capitalism." In order to transition from "Wall Street Capitalism" back to real capitalism, capitalism's driving forces of profit and competition must be restored. And the only way to restore them is through a grand liquidation. Of course "Wall Street Capitalism" simply can't let that happen (liquidation).

Hyperinflation is a grand liquidation. Liquidation means low, fire sale prices, but since we can't have a nominal deflation, hyperinflation is the way we'll get a price collapse in real terms.

Everything is priced too high today to be profitable. It's why the current generation can't afford to compete. It's why there seems to be little hope for the future. It's why the global economy is stagnant. And all of those unprofitably-high priced businesses are what's stuffing everyone's 401Ks.

"…an even more critical imbalance, and that is one of excess capital.

This is inconceivable to most economists and policy makers so they cannot perceive it. There cannot be too much capital…

The Great War killed 80-90 mln people and destroyed much capital, in terms of both the means of production and the means of destruction. Capital was not in surplus in the post-war years…"

Millions of people and real capital—the means of real production—do not need to be destroyed today to restore profitability, competition, hope and growth. Thankfully only "Ponzi Capital" need be destroyed this time, and hyperinflation'll fix that. ;D

I know what you're thinking right now. I can read your mind. You're thinking I just changed my mind on the stock market crashing when I said, "but since we can't have a nominal deflation, hyperinflation is the way we'll get a price collapse in real terms." But I didn't.

This is the only way it can play out in my estimation, yes. And no, "they" can't "allow" the stock market to crash. And yes, they will print and print and print, because that's all they can do. But they can't prevent it from crashing. They can only go full hyper when it does. And that's why I called this the Year of the Head Fake, not the year of the deflationary stock market collapse that perma-bears and deflationists have been predicting forever.

It needs to crash before we go hyper, and it will. It may not happen this year. There are only about five weeks left, and my New Year's predictions have only about a 10% success rate, much worse than a coin flip, because I always bet on the longshot. I do that because it costs me nothing. It's all upside and no downside, because in the end I'll win them all.

I don't know precisely how everything will play out, obviously, I only know certain things that must happen. For example, I don't know how far the stock market will crash. My best guess is 25-50%, and then it starts rising again because the currency is collapsing. I don't know how long it will take, or when it will happen, but my best guess is six months or less, and sooner rather than later. And I can't say precisely how hyperinflation will fix everything, I just know that it'll set us on a course that, at the very least, will begin to reverse the damage that was done by the $IMFS.

But don't confuse fixing stuff with being a walk in the park. Like ANOTHER said, "Because we are speaking of currencies here, the transition will be brutal!" But FOA also said, "However, everyone that is positioned in physical gold will carry this storm in fantastic shape." And that's what this is all about, why we're all here. The transition to a new system will be brutal, but we are prepared.

Happy Thanksgiving to everyone celebrating this week!