After yesterday’s Federal Reserve antics, we were taken by the reaction of one well-known writer, who said, “I didn’t know whether to laugh or cry.” That is truly the most apt phrase for the current situation.
To sum up the bigger picture:
Almost 100 years ago to the day, the U.S. “subcontracted” money and the banking system to third parties. These third parties called themselves the “Federal Reserve” but, of the few unchallenged facts one can determine about the actual ownership of the Fed, it becomes clear they are neither “federal” nor a “reserve.”
As an aside, the only two presidents in U.S. history who fought the central banking system tooth and nail were Lincoln and Kennedy. The original “greenback,” named by Lincoln, was named so because it was “free” money not based on debt. This is a historical fact.
Once the Fed was in place, the U.S. moved from an economy that paid for goods with free money, to an economy that paid for goods with debt or promises. Any doubts about this were completely removed in 1971, when Nixon took the U.S. off the gold standard. However, within a year, by 1972, Nixon had put deals in place with Middle Eastern countries that effectively made the greenback the only way to buy oil. This effectively made the buck the world’s reserve currency, and the U.S. was back on top.
By the 1980s, scholars began to notice that the U.S., as well as other countries that had adopted the central banking template, were in danger of imploding via deflation. The computer revolution of the 1990s delayed the evolution of the deflationary scenario temporarily, culminating in the 2000 stock market crash as expectations exceeded reality.
In the same approximate period, “central planners” loosened the chains that for decades had kept the banks in the role as enablers to the system, and allowed the banks to become deal-makers in their own right. This is now considered part of the paradigm by which the U.S. attempted to transition from a manufacturing to a pure service economy, and the derivative market exploded.
Cynics began to note that, when the economy produced a widget or a loaf of bread, the consumer could actually use the widget or eat the bread. Plus, there were jobs to be had making the widget or growing the wheat for the bread. However, when the economy produced profits through 100% paper trades in the invisible derivative market, the gains (which were indeed real) provided benefit to only a very tiny percentage of the economy, a portion which later came to be known as the “1%.” And there, because of the efficiencies in the banking sector, no new jobs were created or even needed, as the older manufacturing jobs continued to disappear.
This was hardly a viable model. Strange and bizarre attempts were made to artificially boost this new “Franken-conomy” by, for example, encouraging anyone with a pulse to buy a home on credit (the so-called NINJA loans—NO INCOME NO JOB NO ASSETS NO PROBLEM).
This, in turn, created yet another “bubble” or Ponzi scheme, whereby neighbors were flipping homes to neighbors at higher and higher prices. The banking sector, in its new role as Master (not Slave) could not resist taking all the new debt being created in the bubble and re-packaging it into a new type of derivative instrument, and then selling it at a profit to less predatory organizations seeking a higher return.
The system collapsed. Books and Hollywood movies have been done about this event. The current issue of Businessweek right now is 100% devoted to the behind-the-scenes stories of this event. The federal government intervened on a scale never before seen in the history of the modern world and used public money to “bail out” the banking sector on the grounds the sector was “too big to fail.”
The banking sector happily accepted the money and gave much of it back to its own people as bonuses for the year. To this day, no executives have been punished for any of this.
Meanwhile, the public was told this was all in their best interest.
Although the banking sector was now in great shape, the rest of the economy was in tatters. Also, the federal government itself was painfully aware that much of the debt service it owed to foreign countries from the decades prior to the crash would become un-payable if rates of interest on that debt rose or remained high. Although this was never made clear to the public, the U.S. was close to bankruptcy.
The Fed then proposed a solution. It would use its money creation power to intervene in credit markets and purchase its own debt. Even now most Americans still do not understand this process. You owe Visa a lot of money. You are a poor risk. Visa charges you 22% a year on the balance. You call Visa and say that, because you are able to print money under the law, you are going to buy back all your debt from them with new money.
Wait, it gets better. Because you have just created such a strong demand market for your own debt (after all, you are buying it) you suggest to Visa that they should not charge you 22%, which is the rate for a poor risk creditor, but rather one percent, which is the rate for a rock-solid credit risk. Visa agrees, and drops your rate to one percent. As word gets around that Visa now considers you a great risk, and is only charging you one percent, everyone else wants to loan you money (because you are such a great risk) and also offers one percent. Bang! One percent is now the new lending rate because of the key trend-setter.
The new ultra-low lending rates really, really help your pals in the banking sector (who can now make money by reinvesting in any investment with a rate of return higher than one percent, which is most of them!) and also helps lower the service costs on your own payments to foreign creditors. You are happy.
Once again, the public is told this is in their best interest (hah!) and it will bring in a new era of prosperity. But the new era of prosperity does not arrive as planned. Jobs disappear. Manufacturing disappears. More Americans are on food stamps than at any prior time in history.
Flash-forward to September 2013. The Dow Jones Industrial Average “has been well managed.” It is up. Gold has been well managed. It is down. Politicians have been demanding that the “heroin” of the low rates (from the self-buying of debt) be removed from the system, because it is addictive and is stifling what little remains of the capitalist system. You want to do this. You announce you will do it (taper). But the numbers, even after being re-defined many times to the point of insanity—ARE STILL BAD. The experts say that removing the medicine will kill the patient.
Against this backdrop, you surprise everyone by saying the current regime of low or manipulated rates will continue until there is improvement. (Well, not quite everyone. Your “pals” knew what was coming and were able to make millions by front-running key markets. Zerohedge asked in an editorial yesterday, “WHO TOLD THE TRADERS IN ADVANCE?”)
Analysts who read your pronouncement and understood the implications “don’t know whether to laugh or cry.”
And now, kind reader, you understand why.
(Reprinted from Lombardi’s Profit Taker e-Alert issued September 19, 2013.)