Are You Ready for the Coming Debt Revolution?

Bill BonnerMay 15, 2015

There is a spectre haunting America…and all the developed nations of the world.

It is the spectre of a debt revolution.

We left off yesterday talking about how the economy of the last 30 years — and especially that of the last six years — has favoured the old over the young.

‘Rise up, ye young’uns,’ we as much as said, ‘you have nothing to lose but your parents’ debts.’

We showed how the value of US corporate equity, mainly held by older people, had multiplied by 28 times since 1981.

That was no honest bull market in stocks; it was a market sent soaring by an explosion of credit.

But what did it do for young people whose only assets are their time and their youthful energy?

Alas, the real economy has increased by only five times over the same period.

A grim and menacing spectre

And when you look more closely at work and wages, the spectre grows grimmer and more menacing.

Average hourly wages have barely budged in the last 30 years. And average household incomes have fallen — from $57,000 to $52,000 — in the 21st century.

But as our fingers came to rest yesterday, there was one question hanging in the air, like the smoke from an exploded hand grenade: Why?

Was this huge shift — of trillions of dollars of wealth from young working people to old asset holders — an accident?

Was it just the maturing of a market economy in the electronic age?

Was it because China took the capitalist road in 1979?

Or because robots were competing with young people for jobs?

Nope…on all three counts.

First, old people, not young people, control government.

Ultra-wealthy campaign funders like Sheldon Adelman and the Koch brothers were all born in the 1930s. The big money comes from wealthy geezers like these, eager to buy candidates early in the season when they are still relatively cheap.

Old companies fund most Washington lobbyists, too.

And old people decide elections: There are a lot of them…and they vote. They know where the money is.

Second, the government — doing the bidding of old people — restricts competition, subsidises well-entrenched industries, raises the cost of employing young people, and directs its bailouts, cheap credit, and contracts to the greybeards.

Third, the credit-based money system increases the profits and prices of existing capital. It encourages borrowing and spending. This rewards the current generation while pushing the costs into the future.

Grandparents prey on grandchildren

None of this was an accident. None of it would have happened without the active intervention of the old folks, using the government to get what they could never have gotten honestly.

This is not the same as saying they were completely aware of what they were doing and what consequences their actions would have.

We doubt the Nixon administration had any idea what would happen after it tore up the Bretton Woods monetary system in 1971.

It was behind the eight ball, fearing foreign governments would call away America’s gold.

Few in the White House realised they had made such a calamitous mistake when the president ended the convertibility of the dollar into gold.

And yet it created a world in which parents and grandparents could prey on their grandchildren…for the next 44 years.

And it’s still not over.

The new credit money — which could be borrowed into existence with no need for any savings or gold backing — was just what old people needed.

We have estimated that it increased spending by about $33 trillion over and above what the old, gold-backed system would have allowed.

That spending lifted the value of the geezers’ assets and increased their living standards.

Meanwhile, the average 25-year-old reporting for work in 2015 can’t expect a single dollar more in real hourly wages than his father did in 1980.

The total value of outstanding US corporate bonds was 17% of GDP in 1981. Now, it’s $11.6 trillion — or 65% of GDP.

What did corporations use that money for?

Some of it went into capital investment that made companies more productive and more profitable. But much of it went where you would expect it to go: to buy back shares…to acquire other companies at inflated prices…and to pay off executives as the value of their share options went up!

Who did this benefit?

Mostly people over 50.

Government debt is even worse. Unlike most personal debt, it doesn’t go to the grave with the person who borrowed it. It sticks around to burden the next generation — who got nothing from it.

Federal debt in 1980 was less than $1 trillion. Today, it is $18 trillion. That money was used to fund federal programs — few of which provided any benefit to young people.

An accident? A mistake?

Partly. But old people must have known what they were doing.

Their lobbyists asked for the spending. Their politicians voted for it. Their companies enjoyed the revenues. And they pocketed much of the money.

When the economy threatened a correction, they demanded more credit on easier terms to keep the money flowing. And when their credit balloon popped in 2008, they whined to the feds to protect their ill-gotten gains.

Honest capitalism? Not if they could prevent it.

Creative destruction? Not on their watch.

Pay for what you get? Not if they could put the bills on the next generation.

Young people of the world, unite!

Regards,

Bill Bonner

Source: Daily Reckoning

Follow us on Twitter: @blacklioncm

The Most Important Story in All of Finance

The Most Important Story in All of Finance 
By Richard Duncan, Editor, Macro Watch

The classical gold standard existed up until the time of World War I. At that point, all the European nations went off the gold standard because they didn't have enough gold to fight the war. 

Under the gold standard, gold was money. So you had to pay for things with gold. 

You couldn't have big trade deficits with other countries because you'd have to pay with your gold. After a while, you wouldn't have any more gold… and so you'd stop buying things from other countries. 

But during World War I, European governments went off the gold standard… printed a lot of paper money… and used it to finance the government debt. 

This led to the giant worldwide credit bubble we call the Roaring Twenties. 

In 1930, the credit couldn't be repaid. The banking system failed. Global trade collapsed. And the Great Depression began. 


War Stimulus
Most people don't see it that way, but the Great Depression was a direct result of going off the gold standard… and the credit bubble that occurred when we went off the gold standard.

The Great Depression lasted until the outbreak of World War II. Then the US government increased the amount of money it was spending. 

Government spending increased by 900%. That 900% increase ended the Great Depression. And we had World War II. You know what happened then. Sixty million people died.

After the war the US and Britain – the good guys – won, they wanted to reestablish a global monetary framework. They would have liked to have returned to the gold standard. 

But that wasn't possible because the US had almost all the world's gold. And so it wouldn't have been possible for the US to trade with other countries if they didn't have any gold.

So the Allies created the so-called Bretton Woods system. The US dollar would be backed by gold – at $35 an ounce – and all the other countries in the world would either peg their currency directly to the dollar or to gold. 

It more or less amounted to the same thing – pegged exchange rates. That's the way things worked from roughly 1945 up until the late 1960s. 

The Dollar Standard
At that point, the Bretton Woods system fell apart because the US was no longer willing to abide by the Bretton Woods rules. 

Under President Johnson, it started sending too many dollars abroad to finance the Vietnam War. Meanwhile, US corporations were investing heavily in Europe. So a lot of dollars were going overseas and being accumulated by the foreign central banks. 

Under Bretton Woods, foreign governments had the right to directly convert their dollars into US gold. They did that. And as a result, during the 1960s the US lost half of its gold reserves.

By 1971, when President Nixon "closed the gold window" – he ended the direct convertibility of dollars to gold – there were four times as many dollars overseas as the US had gold available for those dollars to be converted into. 

It was simply no longer possible for the US to allow other countries to convert their dollars into gold. Nixon stopped that. And that international monetary system collapsed.

There were some efforts to create a new gold-backed system after that. But they were unsuccessful. The system that evolved from the ashes of Bretton Woods I call the "Dollar Standard." Because dollars became the dominant global currency. 

An Explosion of Credit
That changed everything. 

First, it removed all constraints on how much credit banks could create. And after 1971, credit in the US exploded. 

As long as you had to have some gold backing for dollars, there was a limit to the amount of gold you had. So there was always a limit to how much credit you could create. Without gold backing, there were no longer any limits.

In the US, total credit expanded from $1 trillion in 1964 to $50 trillion in 2007. So in 43 years, total credit expanded 50 times. And that explosion of credit really built our world. 

The other important change was that when we had the gold standard, or the quasi-gold-standard Bretton Woods system, trade between countries had to balance. 

Let me give you an example. One hundred and fifty years ago, if Britain had a big trade deficit with France, Britain's gold would have been put on a ship and sent over to France. Because gold was money, Britain's money supply would have contracted. 

That would have caused Britain to have a big recession. Unemployment would have gone up. And Britain would have had deflation. 

The opposite would have happened in France. France would have more gold. So credit would expand. The economy would boom. And pretty soon France would have inflation. 

Soon the rich French people would start buying more cheap British goods. Poor, unemployed British would stop buying so many expensive French goods. And trade would come back into balance again. That's the way trade always worked up until that point.

When Adam Smith and David Ricardo were writing their classical economic theories, their world was a world where gold was money and trade between nations had to balance. 

A Return to the 1930s?
Today, the global economy is like a big rubber raft. Instead of being inflated with air, it's inflated with credit. On top of the raft you have all the asset classes – stocks, bonds and commodities, including gold – and 7 billion people. 

The problem is the raft has now become fundamentally defective. So much credit has been created that the income of the 7 billion people is insufficient to service the interest on the debt… and they keep defaulting. 

When they default, the credit leaks outside of the raft. In other words, the raft is full of holes. And the credit keeps leaking out. 

There's a fundamental flaw in the raft now. There's too much credit relative to the income, at least in the way that world income is currently distributed.

The natural tendency of the raft is to sink. And when it sinks – as it did in 2008… and when QE1 and QE2 ended – all asset classes go down together. 

Stocks go down… commodities go down… house prices go down, etc. People start to get their feet wet. And they start to panic. 

There's only one possible policy response – and that's to pump in more credit. 

That's what the QE is about. Central banks pump in more credit. And when they do the raft reflates. Asset prices all go back up again… people have dry feet again… and they're all happy again.

What happens if policymakers completely cut off money printing now and don't step in with some other policy, like more aggressive fiscal stimulus? 

The raft would sink just like it did in 1930. We would get sucked into a deflationary whirlpool… the international banking system would collapse… and global trade would collapse. 

When that happened last time, Berlin ruled Europe and Tokyo ruled Asia. 

Source: Bonner & Partners

Follow us on Twitter: @blacklioncm

A Secret Only a Tiny Number of Investors Understand

A Secret Only a Tiny Number of Investors Understand 

by Bill Bonner, Chairman, Bonner & Partners
At 7 a.m. on Saturday morning we were in our room at the China World Hotel, looking down on eight lanes of traffic that had come to a dead stop in the Beijing traffic. 

“The last century was America’s century,” says our Chinese colleague. “This is China’s century.” 

“You know why America was such a success,” he continued. “Because it was a fairly free market with massive domestic demand. Companies could scale up in the highly competitive US market. That would make them larger and more advanced than their foreign competitors. They could then enter foreign markets and easily beat the locals. 

“Now, the US is gummed up by taxes, debt and regulation. Outside of Silicon Valley most of the companies are old. There are few new businesses and not much new technology. 

“I think you wrote something about the declining number of start-ups in the US. It’s a big deal that few people recognize. I think you said it was a result of crony capitalism. The feds subsidize and protect the big boys… and bail them out when they get into trouble. That’s why GM and Fannie Mae are still in business. But the little guys can’t even get credit. 

“China, meanwhile, is full of new companies. Everything is new. And the internal market is fairly free compared to America. Talk about scale. These companies have massive domestic growth and learning capacity before they have to compete on the world markets.
The Largest IPO Ever
“Take Alibaba, for example. It’s a huge company already. It recently introduced a new kind of bank account, where you earn interest daily… at a much higher rate than banks in the US. Within a week, it was the third biggest, in terms of deposits, in the world. 

“Alibaba is going public soon. It will be the largest IPO ever.” 

More evidence of the liberty with which Chinese firms operate comes from a dear reader: 

Bill, I probably shouldn’t bother you, but this one (about China) is right on and close to my heart. My wife has been a naturalized US citizen for 3 years, an LPR for 3 years before that. For the year before that (2007), we were waiting for the I-190 immigration processing. We were married in 2007 in Nanchang, Jiangxi province, her family hometown. She had been running a business in Guangzhou. At start-up, she went to ONE place for a license. She started to tell the guy she planned to deal in Suzhou silk embroideries, calligraphies, and paintings. He cut her off with, “You want to buy and sell things. Okay.” She paid nominal taxes. In the US there is Schedule C, state B&O tax, county property tax, city license and taxes, and aaaarrrgggghhh… We own a small “fangzi” in Nanchang and visit China every few years (her daughter is our partner and manages the property). For some time I have felt that China is MUCH more truly “free market” than we are. How tragic!

Can the Market Be Beaten?
But let us leave China and return to the subject of these last few Diary entries: how to invest intelligently in a world where real knowledge is scarce. 

This is the third in our series. We have one or two more coming. So keep an eye out for those… 

We grew up with the Efficient Market Hypothesis – which was popularized by economist Burton Malkiel in his 1973 book, A Random Walk Down Wall Street. 

The hypothesis is that stock market prices reflect the sum of all publicly available knowledge about a company. Because no one could know more than everyone could know collectively, an individual would be unable to “beat the market” over the long term. 

Of course, many investors did outperform the market. But efficient market proponents believed this to be a matter of luck, not skill. 

Academics and investors attacked EMH from several directions. Some, such as a well-known investor from Omaha, pointed out he and others schooled in Graham-and-Dodd-style value investing had been able to earn the consistent above-market gains EMH theory said was impossible. 

How did they do it? 

We recently put the question to colleague Porter Stansberry. His reply: 

I’ve nearly doubled the S&P 500 over the past 10 years, beating the market in both bull and bear markets... despite the significant handicap of having to do something on a monthly basis. How could I do that if the market was efficient...? And I’m far from the only investor who has proven able to beat the market consistently, over long periods of time. These investors aren’t lucky monkeys. They all tend to follow the same types of strategies – strategies that exploit proven anomalies in the market. The Efficient Market Hypothesis, on the other hand, is the creation of academics who have never been tasked with making a living by their investments. This is second-hand knowledge of the worst kind. The EMH logic you’re aping is precisely the kind of “phony” knowledge you’ve written books about. But let’s just give you a few simple examples that make a mockery of the EMH. Right now two of the smartest investors in America – Carl Icahn and Bill Ackerman can’t agree on whether or not Herbalife is a fraud. Herbalife, as you probably know has been a public company with audited financial statements for the past 20 years. One extremely knowledgeable investor says it’s a Ponzi scheme. The other says it’s a great business. How could all of the available information about this business be accurately priced into the stock market? The answer, of course, is that it can’t be. Nor could it ever be. Bill, as you know better than anyone else that I know, human beings aren’t driven by logic or facts. They’re driven by the delusions of their hearts. These delusions are reflected in the price of stocks. That creates frequent opportunities to buy stocks at prices that are attractive. Off the top of my head, I can list at least a dozen “delusions” that are almost always available in the stock market. For the sake of brevity here are four that I’ve used in my career to trounce the market over the past 10 years... 1. The most important quality of any insurance company is the ability to profitably underwrite across the insurance cycle. But there is zero correlation between insurance company stock prices and underwriting track record. Instead, Wall Street values all insurance stocks based on return on equity alone – even though all professional investors “know” that insurance company earnings are merely estimates that future losses will actually determine. Betting on the insurance companies with good underwriting culture is nearly a free bet that shouldn’t exist in an efficient market. This opportunity has existed for as long as there is good data on underwriting and shows no signs of disappearing due to investor “knowledge.” 2. Certain homebuilders – NVR for example – have an enormous advantage by not owning any land. Rather than tying capital up in landholding, they merely option the land they need, at the time they need it. These facts were clear for all investors to “know” and have been for at least the last 25 years. And yet... the human bias to desire land is so strong that not only do these firms rarely trade at a premium to other large homebuilders, they frequently will trade at a discount. Meanwhile, the performance of the “landless” homebuilders dwarfs all of the “landed” homebuilders, both on annual measures (like returns on assets and equity) and in terms of stock performance over the long term. No one on Wall Street has ever mentioned this advantage… and in fact, Wall Street and most professional investors continue to publish research professing a desire to own the land banks inside most homebuilders. 3. Investors favor buying puts rather than calls. Investors irrationally fear losses far more than they desire gains, leading to a permanent imbalance in the demand for put options as opposed to call options. This imbalance makes it easy for investors to invest in put options (by selling them) and immediately gain an advantage over other investors who are unwilling or unable to sell puts. We’ve used this advantage to produce market-beating average returns in stocks while taking much less risk in my Stansberry Alpha product. 4. Credit investors are far better informed and far more rational than equity investors. Frequently, credit investors will price a firm’s debt at a price that indicates bankruptcy is an inevitability. In nearly every case, these firms do in fact go bankrupt. Meanwhile, equity investors will value the attached common stock as being worth hundreds of millions of dollars, when, in fact, there is no possibility of even making the bond investors whole. Shorting these stocks is sometimes even possible after bankruptcy has been announced and after the company has publicly advised its shareholders that no recovery is possible. 5. Okay... one more... frequently there are opportunities to profit from publicly announced mergers, acquisitions, spin-offs, and special dividends. Warren Buffett claims that with relatively small amounts of capital, investors can routinely earn 50% annually exploiting these anomalies. I can recall buying shares of Anheuser Busch in the fall of 2008 for less than $56 per share within weeks of a fully funded, all-cash offer of $70 per share. Although this is, admittedly, a dramatic example, you couldn’t argue that all of the information about this deal wasn’t “known” to the market participants. 6. Just one more... The entire stock market continues to be priced according to “earnings” – which are derived from FASB accounting. These accounting methods were developed by the PA Railroad more than 100 years ago. They are nearly useless for evaluating companies that have low capital investment requirements. This continuing anomaly is largely responsible for Buffett’s success... and mine. It’s easy to build a model that will always outperform the S&P over any reasonable period of time (five years) by simply focusing on companies with good margins and low capital costs. These firms will produce higher cash returns for investors per dollar of sales. Again, this information is available to all investors... And yet most investors continue to believe what they “know” about earnings – much of which isn’t so.

How the “Smart Money” Invests
And not only are individual stocks and groups of stocks often mispriced, but also sometimes the whole stock market wanders far from the path predicted for it by EMH. 

Yale’s Robert Shiller, among others, looked back at what investors actually did, as opposed to what EMH said they should have done. This “behavioral finance” approach demonstrated a wide gulf between EMH theory and real-world investor activity. 

According to Shiller, “As tests were developed, they tended to confirm the overall hypothesis that stock market volatility was far greater than the Efficient Market Hypothesis could explain.” 

As any old-timer could tell you, investors are moved by greed and fear… often becoming too bullish… and sometimes too bearish. 

This, of course, was obvious. Shiller went on to explain what Buffett, Stansberry and other market beaters were really doing. The “smart money” takes advantage of the irrational behavior of other investors. 

When investors misprice a stock – which Shiller refers to as an “innovation” – a smart investor with a sharp pencil and a clear mind buys the stock. The stock then returns to a more reasonable price. And the smart investor makes more than the great mass of greedy and fearful investors. 

Readers will recognize our own Simplified Trading Strategy (STS) as a way to “time” the market at these extremes of greed and fear. 

According to the EMH theorists – as well as many Graham-and-Dodd value investors – timing the market is impossible. But just as a single stock is sometimes extremely mispriced, so is the entire stock market. 

Our system – of buying stocks when P/Es are 10 or below and selling when they are 20 or above – is just a blunt, and rather stupid, way to take advantage of the same anomaly. 

Shiller describes the difference between the “smart money” and other investors in a way that makes most investors seem innumerate. Rather than do the numbers, they read the paper… react to the news and opinions… and are greatly influenced by recent history. 

They are “feedback investors,” he says. 

As stocks move higher and higher, more and more people come into the market hoping for quick and easy profits. These unsophisticated investors are particularly “feedback” sensitive. 

They have not done the math. They don’t know the real value of the shares they buy. They bid them up. And seeing the stock market rise, they become convinced that it is going higher still. 

The smart money sees this as irrational behavior… 

“Find the trend whose premise is false,” says George Soros, “and bet against it.” 

As we have seen in our discussion of the asymmetry of knowledge, it is easier to know what is false than what is true. 

The STS gives us a way to profit from it. 

More tomorrow – including how much you could have made with STS had you lived as long as 108-year-old value investor Irving Kahn… 

Regards, 



Bill
Source: Bonner and Partners

Follow us on Twitter: @blacklioncm

The Ultimate Secret of the Ultra Rich

The Ultimate Secret
of the Ultra Rich 

by Bill Bonner, Chairman, Bonner & Partners

Dear Reader, 

What separates the rich from the rest of us? 

"They have more money," said Hemingway. 

But how did they get it? How do they hold onto it? 

That's a bit more complicated. 

I recently drove through a working class neighborhood in Baltimore called Dundalk. It is an area of simple one- and two-story wooden houses on small lots.

Fifty years ago, it was where Baltimore's industrial labor force lived. They worked in industry – for Bethlehem Steel, General Motors, The B&O Railroad and in the busy harbor. 

Today, those high-wage industries are mostly silent and rusting. Some sites along the water have been converted to loft apartments for Baltimore's young professionals. And some of the children and grandchildren have moved away – to the suburbs or to other cities. 

But most of them are still there. Their parents and grandparents earned a good living. But few got rich. And now, few of their descendants are rich either. 

Across town in the rich "old" northern suburbs of Roland Park and Ruxton the people are different. 

The rich left the city many years ago. But in these green suburbs they remain. Some richer. Some poorer. But, by and large, the same people whose parents were there 50 years ago. 

What accounts for it? 

How come some families stay rich generation after generation, while others never have a nickel? 

"Culture," you will say. 

"Education," perhaps. 

You won't be wrong. But what, specifically, about culture and education is it that makes such a big difference in outcomes? 

Simply put, you might say the secret is that these "Old Money" families take the long view. 

But there is something deeper and more important. These families know how to turn time into an ally instead of an enemy.   

They have worked out very specific strategies that use time to boost investment returns (much higher rates of return... with lower risk). 

And they have worked out ways to use time to prepare the family to not only protect money... but to make it grow. 

This is why they invest in education and training. And why they make sure family members add to their collective wealth, rather than subtracting from it. 

It is why they try to guide their children to suitable spouses. They know that a rotten apple will spoil the barrel. 

It is why they spend time and money on lawyers and accountants, too – making sure that the structures are in place to pass along wealth and protect it. 

It is why they prefer deep value assets over momentum investing. Over time, value rises to the top. Momentum slows. 

It is why they will wait a long time – many, many years – for the right investment at the right price. 

It is why they like investments with long-term payoffs – such as timber, mining and infrastructure. And it's how they are able to benefit from compound growth – letting relatively modest gains grow over several generations. 

It is why they are almost fanatical about eliminating costs – taxes, investment charges and unrewarding living expenses. They know that wear and tear, over time, will wreck their family fortunes. 

It is why they develop long-lasting partnerships with the professionals they need to make sure their interests are protected and their plans are carried out. 

Let me ask you something. If you thought you'd live forever, would you do anything different? 

Wouldn't your attitude to your money change a little? Wouldn't you slow down, realizing that you're not in such a hurry to make money? 

And wouldn't you reduce your spending too – knowing that your money would have to last you a long, long time? 

The truly wealthy are careful to spend their money on things that hold their value over time. 

It is why they do not trade in and out of investments. Instead, they find a few positions and stick with them – for decades. 

It is also why they prepare their families, over the course of many, many years, so that they will be prepared for the challenge of managing and enlarging the family wealth. 

This is what separates the serious money from the here-today-gone-tomorrow crowd. The serious money knows there's a lot more to successful wealth building... especially over the long run... than just stock picking. 

Instead of trying to control the uncontrollable - the returns you get from stocks - they are focused on what they can control. 

Of course, most really wealthy families have a family office somewhere in the background making sure these things are on track. 

And without someone dedicating time to making these things happen, they often don't. Most generational wealth transfers fail. Money that was hard earned is lost through poor investment decisions and lack of planning. 

When it comes down to it, you might say that successful families do all the things unsuccessful families don't want to do. 

These things take work. But if you're determined to keep wealth in the family, the sooner you start on them, the better. 

Sincerely,



Bill Bonner
Editor, Diary of a Rogue Economist

Source: Wall Street Daily

Follow us on Twitter: @blacklioncm

In Praise of America's Bureaucrats

In Praise of America's 

Bureaucrats 

by Bill Bonner, Chairman, Bonner & Partners

Editor’s Note:

Will Bonner here again, publisher of Diary of a Rogue Economist.

It’s Boxing Day. So, no regular Diary entry.

But if you’re in the mood for appreciating the nation’s bureaucrats, here’s an essay you might enjoy!

Enjoy!

Will

It’s been “Bureaucrat Appreciation Week.”

Just when we had lost all respect for them, we notice a counter trend. It’s time for us to get in step. So, today, we take time out from our regularly scheduled programming to thank the people who rule us…

To the TSA agents at airports… to the IRS agents who audit our tax returns… to the NSA agents who read our emails… and to zombies everywhere…

To all of you, we’d like to say a heartfelt “Go f***k yourself.”

No… no… no…

We meant to say THANK YOU!

Yes, dear reader, we’ve got to bring our thinking in line with the prevailing trend. And today, the US is developing a real affection and respect for authority!

Americans seem to like to have people rifle through their luggage and pat down their grandmothers at airports. It makes them feel safer.

The Fed’s Dirty Little Secret 

Americans want someone “in charge” of the US economy too. That’s why the new chairman of the Fed is so important.

What are the requirements for the job? It has to be someone who can keep a secret and tell a joke with a straight face.

The secret is that the Fed can’t really control the economy. It can influence it. But the influence it has is all negative. That’s the joke.

Fixing interest rates at any level other than that chosen by willing borrowers and lenders, the Fed distorts the price of credit… and the price of just about every other financial asset that is priced off interest rates.

And distorting prices always leads to problems – either shortages or surpluses.

Also, by fixing rates at ultra-low levels, the Fed is stealing from one group and giving to another. The middle class, savers and working people lose wealth. Hedge fund managers, bankers, zombies… and, of course, those lovable feds… gain.

That’s why the rich are getting richer as everyone else loses ground. They call it a “stimulus” program. And they’re right: It’s very stimulating for those who get the money.

As for the rest – well, the joke’s on us!

A Message to Obama

As you know, the best candidate to take over at the Fed, after Ben Bernanke leaves, is yours truly. But so far our phone has not rung. And the person not calling is the POTUS, Barack Obama. (We’re hoping that this very sincere note of appreciation, respect and thanks to the feds will help our candidacy.)
As the end of Bernanke’s term approaches, if things seem to be going well in the economy, President Obama will go with the safe choice: Janet Yellen.

If they are going badly – as in the scenario we’ve outlined above – he will go for the bolder candidate: the “brilliant” Larry Summers.

Alas, your Diary editor is unlikely to get the nod. The president is too busy claiming to “save the middle class” to spend any time trying to figure out what’s wrong with the middle class. Since he hasn’t figured it out, he won’t call the only candidate who could turn things around (albeit in an unpleasant way).

If Larry Summers takes over, we can expect some real excitement. He is less sure of the benefits of QE than Yellen. But he is more sure of himself. He will be more direct…

And when the sound of helicopters reaches the news media, you will wish you had taken our advice and done your gold shopping now.

We don’t know what will happen… or when. But no fiat monetary system has ever survived a full credit cycle. This will be no exception.

Charm Offensive

But enough of that. Let’s talk about something else…

Besides, it is not very civic minded of us to kvetch about our authorities this week. The feds have mounted a full-on charm offensive. From what we read, the progress of mankind depends on them.

No kidding…

From Edward Luce in the Financial Times: “Washington ain’t that bad.”

From Clyde Prestowitz in Foreign Policy: “Thank Washington for shale oil.”

And from Martin Wolf, also in the Financial Times: “The state is the real engine of innovation.”

What these headlines have in common is a breathtaking cloddishness… an appreciation of government that is so naïve you wonder about the species itself: How could the brightest people in the human race be so dull witted?

Of Martin Wolf, we would expect no less. Said to be one of the “100 most influential people” on the planet, it raises questions about the other 99.

Wolf’s influence comes from his post as chief economics commentator at the Financial Times, where he leads the “pink paper” to most of its wrongheaded ideas.

In his article this week… in the first sentence… with no hesitation nor even a qualification… he sets out in the wrong direction: “Growth in output per head determines living standards.”

He should have hesitated. Imagine an economy in which everyone is given a tiny shovel and told to turn the Earth. Then, in an effort to improve output per head, each is given a bigger shovel. Will living standards improve? Not a bit. They are all wasting their time, no matter how much dirt they turn over.

Having set out in the wrong direction, naturally, Wolf soon arrives at the wrong destination. There, he discovers a world well suited only to simpleminded intellectuals – where molecular research, Google’s search engine, the Internet itself and even hydro-fracking are the products of what he calls “state-supported innovation.”

Of course, the people who supposedly benefit from these innovations are the taxpayers.

Do they want them? Do they get their money’s worth? Is this the best way to get these benefits? Are they actually beneficial at all… and how does anyone know?

The questions never seem to occur to Wolf. Instead, he accepts the feds’ storyline without quibble or irony. And he regards the failure to appreciate the feds’ contributions as “the greatest threat to rising prosperity.”

What?

Greater than the lack of real savings? Greater than the burden of crushing debt? Or unfunded pensions? Or overfunded, overleveraged, overhyped speculations? Or jackass economists?

Standing on the Shoulders of the State?

Nevermind.

Meanwhile, here comes Clyde Prestowitz, an agreeable and intelligent man whom we met in Georgetown just last year.

“The truth,” says Prestowitz, “is that virtually none of America’s great inventors and entrepreneurs did it on their own. In the overwhelming majority of cases, they received taxpayer-supported federal help along the way.”

When we started our publishing business we looked around for a place to put it. At the time Baltimore was such a rundown dump that the city was giving away buildings for $1. We took two of them.

Was our business also “supported by government”? You bet.

It is almost impossible to do anything without receiving some form of taxpayer support. The feds pass out money as though they were seeking re-election.

Support the universities? Support research? Support everybody! As long as it’s not your money, why not?

But does that mean that government funding is an efficient or effective way of allocating capital resources?

With hundreds of billions of dollars’ worth of taxpayer money running in every direction, some of it is bound to rub up against something useful.

But why would public officials, with no skin in the game, do a better job of investing it than the people who earned the money in the first place?

It’s easy to piddle away money. It’s hard to get a good return on it.

Nevertheless, Edward Luce looks on Washington with favor. It is “home to some of the brightest people in the US,” he says.

Hmmm… We lived in and around Washington for many years. As we recall, the gas station attendants and bootblacks were about as clever as those in any other city. But the closer you got to the halls of power, the more you ran into real nincompoops.

Imbecilities and Indignities

Years ago, we shared a car with a member of Congress from California…

At first, we thought he was just stupid. But after a while, we began to wonder. His conversation was so mindless, it like elevator Muzak playing in a continuous loop. Soothing. Senseless.

When he turned his head, we took the opportunity to peer in his ear, thinking we might catch of glimpse of the electronic gear that made him work. (We saw nothing but a normal ear… which just goes to show what great advances in bionics the feds have made!)

But at least Washington has “the decency to apologize for itself,” says Luce.

Huh?

We can’t remember getting an apology. During our lifetime, I estimate that the feds may have squandered as much as $30 trillion.

And in Vietnam, Iraq, Afghanistan and Pakistan they have gotten roughly 2 million people killed… for no apparent gain.

Over the years, we have suffered countless imbecilities and indignities, from pointless gas lines and “Whip Inflation Now” buttons in the 1970s to the TSA, NSA and a silly War on Terror today.

The war in Iraq alone cost an estimated $5 trillion (most of it still to be paid) and some 100,000 lives.

Apology? Public hangings would be more appropriate.

But respect for authority is cyclical. And presently, the authorities are enjoying an upswing.

People look to the feds to get things they can’t get on their own. Health care paid for by someone else… a retirement they can’t afford… and foolish pride they don’t deserve.

US troops patrol the streets of towns we never heard of… US drones wipe out families we never met… the NSA listens in on the world’s conversations…

Yes, thanks to the NSA, TSA, CIA, IRS, FBI and the Pentagon. No sparrow can fall anywhere in the world without it setting off alarms in America’s command centers.

Larceny, bullying, eavesdropping, assassinations – they all help us to stand a little taller and hold our heads a little higher.

Thanks, bureaucrats… really.

Regards,

Bill