Is current unemployment structural?

Mark Thoma, writing for Money Watch, identifies the three basic types of unemployment. Frictional unemployment arises mainly from the combined movements of a free people. Cyclical unemployment, what most economists believed was the cause of the current recession, is the normal ups and downs of the business cycle. There is a growing body of evidence that the persistent unemployment we are experiencing may be structural:

…defined as unemployment arising from technical change such as automation, or from changes in the composition of output due to variations in the types of products people demand.

In a letter published on the Federal Reserve Bank of San Francisco‘s website, authors Mary Daly and Bart Hobijn find evidence of structural unemployment in a divergence in Okun’s Law, a law that has remained true for 60 years, until now.

In 1962 Arthur Okun, then a Yale University professor, had been tracking GDP and unemployment statistics dating back to 1949. He found that for every 2% that real GDP fell below its trend, there was a 1% increase in the unemployment rate. As time passed and the ratio held, this became known as Okun’s Law.

As seen by the red boxes in the chart below, Okun’s Law has remained consistent up until 2009.


By permission of FRBSF

As Daly and Hobijn point out:

Since real GDP was almost flat in 2009 while its trend level increased by 3%, the unemployment rate under Okun’s law should have increased by 1½ percentage points. Instead it rose by 3 percentage points, more than twice the predicted increase.*

Evidence suggests that the reason for this was an unusually rapid rise in worker productivity. Output remained stable while businesses shed excess labor, as shown by GDP per hour in the chart below.


By permission of FRBSF

It should be remembered, however, that GDP is mostly measured on the buy side, not the sell side. In 1949 there was no such thing as a Japanese import. 1949 was the year of the communist take-over in China. In 1949, products stamped “Made in USA” were commonplace throughout the world. Measuring what was bought in America would produce a nearly identical statistic as measuring what was made in America. To put it mildly, things are a little different now.

Whether you’re buying a shirt made in Mexico, a coffee maker from China, or an automobile made in parts unknown around the world and assembled here, it all gets counted as domestic product. The growing body of evidence for structural unemployment, is matched by a growing body of evidence that GDP has become an archaic metric.

There is also the difference between the industrial economy of 1949, and the service economy of today. It is much easier to lay-off a service worker and still maintain a reasonable amount of service, than to lay-off a manufacturer and maintain output. This could help account for the rise in GDP per hour.

In any case, economists are still sifting through the rubble of the recession that began in 2008 to understand what happened. Any decisions made by politicians now, will be based on incomplete evidence.

*Reprinted from the Federal Reserve Bank of San Francisco Economic Letter 2010-07. The opinions expressed in this article do not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco, or of the Board of Governors of the Federal Reserve System.

How to build a corporate state using a simple yield curve

In a strange twist of fate, I've begun to cheer for the Democrats. My thinking is that the faster they build their progressive utopia, the sooner rational people will see it for the Orwellian nightmare that it is. Many Republicans believe this is already happening, and all will be well in November. I believe it will take longer, mainly because the Republicans seem to be helping them.

Just to make sure we're all starting on the same page, here's a quick and easy explanation of the yield curve.


The maturity on the bottom is the time element. The yield is the promised return on the investment. The longer the time, the greater the risk, and therefore, the higher the return. You don't need to calculate the yield to understand the curve. I told you it was easy.

There's a terrific animated chart on stockcharts.com that compares the yield curve on government bonds with the S&P 500. The last 8 years provide a good demonstration of the yield curve's importance. I can't bring the animation here, but the site encourages people to take screenshots. And, now that I've successfully navigated the Microsoft labyrinth and found the magic snipping tool, we can look at some.



We start our latest round of corporate-nation building in mid July of 2002. On the left, the black line is the yield curve, and the gray areas show the movement and velocity. At this time, the yield curve is in near perfect formation. The chart on the right is the S&P 500. We can see that in 2002, the S&P was just bumping along in no particular direction. Short term investors were having a hard time outguessing which way it would go, and long term investors weren't making anything. Nobody was happy. Stability breeds boredom.



June of 2003: In an effort to get things moving, the Federal Reserve steps in and lowers short term interest rates (dropping the yield). This causes investors to move their money from treasury bills and other short term bonds into the stock market. The S&P hits new highs, and the rally is on. Long term rates remain the same to help home buyers. This move was wildly applauded by nearly everyone at the time.



November of 2005: With the rally sustained, the Fed raises short term interest rates. They do this to prevent what Alan Greenspan once dubbed "irrational exuberance". Having started the rally, they now try to dampen the enthusiasm for it. On the S&P chart, notice the stair step nature of the upward momentum, with double and triple peaks followed by minor sell-offs. Each incremental increase in rates by the Fed causes a few investors to exit the stock market. A general upward trend continues as Keynes' "animal spirits" are still in the majority.



March of 2006: The first sign of trouble, the yield curve turns flat. It's generally considered to be a precursor of an economic transition. Still, it's only one negative sign in a field of positives. The rally continues.



June of 2006: An ominous sign. The yield curve is now inverted with short term yields paying more than longer term yields. The previous 6 recessions were preceded by an inverted yield curve. "Not to worry", say the talking heads, "we've had inversions without recessions, and recessions without inversions before. 6 straight doesn't necessarily mean there will be a 7th." They're right, of course, it doesn't. In fact, the longer a trend is, the less likely it will continue.



November of 2006: The yield curve flattens and inverts again. This time, it's more pronounced and unmistakable. Talk in the press of an impending recession becomes more numerous. The "doom and gloom" forecasters are largely ignored.



November of 2007: The S&P 500 is at the tail end of a major double peak formation, suggesting the years-long rally has lost its momentum. The Fed begins lowering interest rates to keep the rally going, or at the very least, produce a "soft landing." With short term yields still relatively high, the smart money exits the stock market.



August of 2008: The Bush stimulus in the spring helps with a small upward spike, but the major sell-off continues. Worst of all, as we now know, is many company's borrowed heavily on the way up. With prices falling and investors becoming scarce, they are now strapped for cash. As the old saying goes, "Adventure is the result of bad planning." But dude, check out that good lookin' yield curve!




December of 2008: This is what a panic looks like. It's hard to say who's having the greater adventure here, corporate officers, stock market investors or Federal Reserve officials. Interest rates hit zero, and $400 dollars invested in a 3 month Treasury Bill now brings a profit of 1 cent. Even that won't get money back into the stock market.



March of 2010: The S&P 500 hits bottom. The stimulus plan was passed in February and together with the government's buying of millions of shares of stock, we have a new meaning to the term "corporate welfare." We might also note that with interest rates at zero, an inverted yield curve is impossible. A flat curve, while theoretically possible, isn't very likely. As a predictive tool, the yield curve is now a meaningless relic. Government manipulation of interest rates is over, for the time being.



June of 2010: So, here we are today, with the S&P a couple of hundred points above where we started and heading down.

On the political left, there are calls for another round of stimulus and government buying of private debt. This has the unhealthy side effects of ever more federal debt and government ownership of for-profit industry (corporatism). I can't be the only one who noticed that the last round of stimulus did wonders for the stock market while doing nothing for the unemployed; and this from the Party of the Common Man.

On the right are the inevitable calls for tax cuts to "promote growth." Aggregate debt for the S&P alone is over $2.5 Trillion. Are there enough taxes to cut to make up for that much? I don't know, but forget the scissors, better fire up the chainsaw.

All across the political spectrum is a small but growing minority that wants to dump the Federal Reserve altogether. While this won't solve the current dilemma, it might prevent another one. After all, it only took 8 years from the Fed's creation (1913) to the first recession (1921), and 16 years to the first crash (1929). Their record since has been marginally better, but remember, they're supposed to be maintaining stability.

Historically, the stock market is pretty quiet through the summer, and if there is to be another plunge, it would happen in October. Second quarter earnings reports will be released over the next few weeks. We will soon know whether we will have a quiet summer, or an adventurous one; a work stoppage, or more building.

Bloomberg Update And "The scariest jobs chart ever"

Way back in August, I mentioned a Bloomberg article regarding their court case against the Federal Reserve Bank of New York. At the time, Manhattan Chief U.S. District Judge Loretta Preska had ordered the government to hand over TARP fund documents within 30 days. Well, the 30 days came and went with no news forthcoming. Nearly 5 months later, SURPRISE, the government is going to appeal the ruling. It's beginning to look like this one will end up in the Supreme Court.

“The question is at what point does the government get so involved in the life of the institution that the public has a right to know?” said Charles Davis, executive director of the National Freedom of Information Coalition at the University of Missouri in Columbia. Davis isn’t involved in the lawsuit.

We are in it for $2.14 trillion. I'd say we've reached the point.

One group that is involved with the lawsuit is Clearing House Association LLC, whose members include Bank of America, The Bank of New York Mellon Corp., Citigroup, HSBC, JPMorgan Chase, US Bancorp and Wells Fargo. They don't like transparency. Nor do they like new rules. The lobbying effort by this group was largely responsible for gutting HR4173, the financial reform act passed in December.

And, as promised, one of the best and most prolific chart makers on the internet, Calculated Risk, offers what some are calling, "The scariest jobs chart ever."



Although the government cheerleaders are heralding the "recovery", we are continuing in the worst jobs market since the end of WW II (on a percentage basis). It should be clear to all which side of the Wall St./Main St. divide our representatives are on.

Bernanke's thin line of defense

Senate hearings for the reconfirmation of Federal Reserve Chairman Ben Bernanke started this week. He is expected to be reconfirmed. Aside from a few Republican Senators, criticism seems to be light. Senator Jim De Mint of South Carolina almost identified the problem. In an exchange with Bernanke (see the video here), De Mint asks about the duties of the Fed. (The questions have been edited for the sake of brevity, the answers are in full).

De Mint: One of the goals is fostering the stability of the financial system in containing systemic risk. Has the Fed accomplished that goal?

Bernanke: No, be we have lots of other co-conspirators in that problem.

De Mint: Another is supervising and regulating the banking system to promote safety and soundness.

Bernanke: We've found some mistakes and we've tried to improve them.

De Mint: Another is conducting the nation's monetary policy in pursuit of the statutory objective of maximum employment.

Bernanke: We've moved monetary policy was much as possible to try to support employment growth, but obviously a 10% unemployment rate is not very satisfactory.

The problems are not so much with Bernanke as they are with the Federal Reserve Bank itself. Trying to manage, or even anticipate the thousands of individual economic decisions made every day by 300 million Americans is likely impossible. It should also be noted that government is very much a part of the system, and therefore plays a role in the systemic risk. All debt requires a buyer- a financier- someone who will take the risk of loaning money in return for the cash flow generated by the interest rate. With Congressional over-spending, the depreciating dollar, and interest rates as low as possible, foreign buyers of federal debt are becoming scarce. The risks outweigh the benefits.

Margaret Thatcher once said that "socialism works until you run out of rich people". It seems to me that the banks and the politicians have run out of consumers, and what we are witnessing is the end of the Consumer Society. Nowhere is it reported on the amount of loans that are rejected. I doubt that anyone even tracks that number. It was always assumed that people would want loans if they could get them. Why spend your own money when you can spend somebody else's. I suspect that assumption is no longer true.

One almost has to feel sorry for Ben Bernanke. Almost. Fed chairmen have always walked a thin line between the halls of power and the money centers. Produce just enough inflation to keep businesses hiring, debt accumulation payable, the bottom lines padded, and the people won't ask questions. Bernanke's misfortune is that after 95 years of Fed secrecy, the truth is coming out. Sharp downturns always unmask the frauds, and our government's monetary policy is one of them.

More From The Transparency Wars

In a clear case of the Empire striking back, Mel Watt, a Democrat from North Carolina, who chairs the domestic monetary policy and technology subcommittee of the House Financial Services Committee has "gutted" H.R. 1207, the bill to audit the Federal Reserve. Some possible motivations for Mr. Watt's actions come from American Banking News.

Bank of America (NYSE:BAC) has its headquarters in his congressional district, which is based in Charlotte...Watt’s largest contributors included American Express (NYSE: AXP), Wachovia, Bank of America and the American Bankers Association. Altogether the financial industry donated over $217,109 to Watt, which was over 35 percent of the overall contributions he received.

Bloomberg reports on the key provisions taken out of the bill:

The bill, with 308 co-sponsors, has been stripped of provisions that would remove Fed exemptions from audits of transactions with foreign central banks, monetary policy deliberations, transactions made under the direction of the Federal Open Market Committee and communications between the Board, the reserve banks and staff

Ron Paul, the author of H.R. 1207, plans to offer an amendment when the new bill reaches the floor. Barney Frank, the Chairman of the Financial Services Committee said the legislation will likely be rolled into the broader financial regulation package, currently still in progress.

And speaking of Bloomberg, the story of they're lawsuit, filed under the Freedom of Information Act against the Federal Reserve Bank of New York, seems to have disappeard. When last heard from, the government had 30 days to appeal. Those 30 days were up in early October, but there's been no news on the outcome. My only guess is that there must be some back room negotiations taking place.

One thing for certain in all this; finding out what the government is doing with our money is not going to be easy.

End The Fed: A Review

Congressman Ron Paul's new book, "End The Fed" is an excellent book, especially if you're of a libertarian mind. If not, there are still several good arguments for the abolition of the Federal Reserve Bank that could have mass appeal. Speaking as one who was sympathetic with Dr. Paul's rEVOLution in 2008, I can see that this book could be written off as the work of a crackpot by Dr. Paul's opponents. The good doctor just can't help himself from wandering off the main subject and onto some of the more esoteric avenues of libertarian philosophy. That's unfortunate as there is a core of truth here that non-libertarians need to realize.

The book starts with a simple explanation of what fractional reserve banking is and how it works. This is worth the price of the book all by itself. The idea that debt can be used as a form of collateral is central to the inherent dishonesty and ultimate instability of the system. It causes money to become unnaturally "elastic". Far from creating wealth as its proponents claim, this elasticity only creates the illusion of wealth. It causes new money to be created, but there is no corresponding new labor, no new production, and no new assets. This is the very definition of inflation. The ability to create inflation is the root cause of political favoritism, crony capitalism, corruption, military adventurism, massive public debt and a host of lesser ills.

An honest currency is a benefit to any honest person, no matter one's political stripe. The economics of a sound currency cannot be separated from its moral justification. An honest dollar breeds honest business dealings, honest government, and an honest society. Accounting tricks and false promises breed suspicion and distrust. It's no coincidence that even socialist Senator Bernie Sanders is on board with the idea. I doubt if it was the free market argument or the strict interpretation of the Constitution that persuaded him. I can only surmise that it was the moral argument that he found convincing. The great mass in the middle could be persuaded as well.

Some may be asking, "If we abolish the Federal Reserve, what do we replace it with?" The answer is the same thing that all 50 state governments have, and every county and city government too; Nothing. Governments do fine with taxes, fees and bonds. There is no reason why the Federal Government could not do the same. Regulation of the money supply could easily be handled by the Treasury Department, which unlike the Federal Reserve, is accountable to the people.

The Federal Reserve Bank has been the bane of libertarians for decades. There are plenty of valid reasons outside of libertarian philosophy to abolish it. With the current financial mess, the Fed's record of failure is now apparent to all, and there is no simple reform or granting of new powers that will change that. This is no time to be preaching to the choir. It's the other 98% of America that needs to hear this, and now that we have their attention, it's important to remember the first rule of business: Don't scare the customer.

Transparency, And America's Most Powerful Woman

There's been a couple of important developments this week that have gone almost unmentioned in the press regarding the Federal Reserve. Nearly simultaneously with the announcement that Ben Bernanke will be renominated for another term as Chairman, a court case was being decided in New York.

The case, Bloomberg LP v. Board of Governors of the Federal Reserve System, 08-CV-9595, U.S. District Court, Southern District of New York (Manhattan) was filed on November 7, 2008 by Bloomberg News under the Freedom Of Information Act. As President Obama was making his announcement,

Manhattan Chief U.S. District Judge Loretta Preska ruled against the central bank...rejecting the argument that loan records aren’t covered by the law because their disclosure would harm borrowers’ competitive positions...The judge said the central bank “improperly withheld agency records” by “conducting an inadequate search”...She gave the Fed five days to turn over documents it told the reporters it located, including 231 pages of reports (11 separate programs), and said it must look for more at the Federal Reserve Bank of New York, which runs most of the loan programs..

It is not yet decided whether the government will appeal the ruling which only covers the original $787 Billion TARP Fund. We may soon get a peek at part of the $2 Trillion portfolio of toxic assets, along with some interesting loan histories.

The other development comes from Forbes magazine (Sept. 7 issue). They published their 100 most powerful women in the world. Angela Merkel, Chancellor of Germany, came in first, but a surprise second was Sheila Bair, Chairman of the Federal Deposit Insurance Corporation (FDIC). She had been raising concerns about the sub-prime market since 2001, when she was at the Treasury Dept. As Chairman of the FDIC, she is clearly on the side of Main Street. Currently she is enmeshed in a dispute with both the Federal Reserve and the Treasury Dept. over a plan to move regulatory jurisdiction of the biggest banks to the Fed. A good background of her history and philosophy can be found in a Frontline interview from December of 2008.

A lot of this, it's not rocket science. Making loans people can repay, documenting their income, what's hard about that? Having compensation structures that reward long-term performance, that's not hard either; having leverage constraints that apply across the board. And again, it will be difficult to craft those, but I think the basic principle is not a difficult one to grasp.

Amen Sister, and let's not forget the bill to audit the Federal Reserve that passed the House on a bipartisan vote that is still in the Senate. It appears that the forces of Main Street are gathering for a counter-attack, and just in time for an election year. This could be good.

Lessons from 1907

In 2007, a book was published called The Panic Of 1907 as a way of documenting the crisis on it's 100 year anniversary. My original interest in the 1907 panic is that it was the last in a series of panics that led to the creation of the Federal Reserve System. Although the authors don't spend a lot of time on how this panic led to the Federal Reserve, it turned out to be a great history book anyway.

Starting with the San Francisco earthquake and the drought in Egypt in 1906, the authors show how these two unrelated events affected the movement of gold bullion around the world. As money was growing scarce in New York, Fritz Heinze, owner of the United Copper Company attempted a short squeeze that brought down the Mercantile National Bank. It would be the first of many bank failures.

Looming throughout, was J.P. Morgan, "Pierpont" to his friends. At the time he was the richest man in the world, semi-retired, and whose main interest was building an art collection. No one else had the financial weight, trust, or abilities to influence like he did. He would become the indispensable man during the crisis, and earn him a congressional investigation when it was over.

Unknown to the publishers, 2007 would see another banking crisis. They have since added another chapter that compares 1907 with 2007. It ends with the TARP bailout in 2008. There are several things these two crises have in common: system complexity, collective action, and the psychology of crowds among other things. Of particular interest was information asymmetry.

In boom times, banks can operate with quite a lot of information asymmetry. That's why they call it "trust". In a downturn however, trust disappears along with any sense of co-operation, replaced by a game of cut-throat poker. Who has the high cards and who's bluffing. When a banker approached JP Morgan asking for a bailout, the first thing J. Pierpont Morgan demanded was to see the books. He had to know what the guy had, and more importantly, what he didn't have. Only then could he make a rational decision as to what was needed.

With the Federal Reserve System, the US taxpayer now plays the roll of Mr. Morgan. The differences being that we're broke too, we have no knowledge of where our money is going, and nobody listens to us. As Pierpont once put it, "Open the books, or find another banker."

Moral Hazard And The CDS Exchange

Way back during the Bush Administration, when bailouts were measured in mere billions of dollars, many writers in the economic field warned of the "moral hazard". The idea is that when failure is rewarded, those that have failed will have learned nothing and will continue their failing ways. Evidence of the truth of this argument is now on full display. The Wall St. investment banks are back to raking in billions on the still unregulated, and privately traded, Credit Default Swaps (CDS). A rather lengthy article in Spiegel Online examines the situation world-wide:

...banks are back to behaving the same way they did before the crisis. Even worse, thanks to government guarantees for the financial sector and cheap money from central banks, it has never been easier for banks to make money..."The taxpayer is paying for the chips in the casino," the head of the German operations of an international investment bank says quite openly, but anonymously nevertheless. "It doesn't get any better."

Beyond that, since several large banks have gone away, and smaller banks, who were not bailed out, are unable to compete, there are fewer players.

The survivors of the crisis see the thinned out field of competitors as a historic opportunity, and they are taking advantage of it. "Right now, (Goldman Sachs is) one of only a few people on the beach, so they're getting all the girls," New York finance professor and former Goldman partner Roy Smith told the Wall Street Journal.

To date, congress has passed exactly one banking regulation; a cap on executive salaries with a giant loophole. There is no cap on employee bonuses. In the case of Goldman Sachs, who have made $22 Billion already this year, roughly $11 Billion is set aside for employee bonuses. A more ineffective regulation could hardly be imagined.

There are two ideas currently being debated in the House and Senate, regarding CDS regulations. The first is to form a clearing house for the CDS. It was proposed by Treasury Secretary Geitner and is supported by the nine largest investment banks who have formed the CDS Dealers Conglomerate to lobby for the idea. The clearing house would be regulated by the Federal Reserve Bank of New York. Under this plan, the CDS would still be a private transaction and only the banks and, to a lesser extent the government, would have access to most information.

A much better alternative is being proposed by Iowa Democratic Senator Tom Harkin. His proposal would create a CDS Exchange that would operate much like a futures market. Different futures exchanges could compete for business with the various banks and brokers. It would all be out in the open, with market prices made public, the same set of rules for all concerned, and hopefully, equal enforcement. An added bonus is it would have the effect of lowering prices and enable the smaller banks to compete.

The finance lobby is the wealthiest lobbying group in Washington, with strong ties within the Obama Administration. No doubt a lot of Democrats will be taking the money and voting for the private clearing house. I'm not one to agree with Senator Harkin on much of anything, but he's right on this one. Republicans should get on board Harkin's CDS Exchange. Open markets and transparency is the right thing to do.

At Last, Some Transparency

Once again an old rule sheds some light: If you want to know what's happening in America, read a British newspaper. It turns out the Federal Reserve really is being transparent, at least for some people.

The Fed has emerged as one of Wall Street’s biggest customers during the financial crisis, buying massive amounts of securities to help stabilise the markets...However, the Fed is not a typical market player. In the interests of transparency, it often announces its intention to buy particular securities in advance. A former Fed official said this strategy enables banks to sell these securities to the Fed at an inflated price.

This is the same Federal Reserve that doesn't want to be audited by congress. That would be too transparent.

The central bank’s approach to securities purchases was defended by William Dudley, president of the New York Fed, which is responsible for market operations. “We believe that opting for transparency is a greater good,” he said. “If we didn’t have transparency, we’d be criticised on other grounds.”...However, another official familiar with the matter said the central bank “has heard that dealers load up on securities to sell to the Fed. There is concern, but policy goals override other considerations.”

Yes, let's all express concern as our representatives funnel taxpayer dollars to incompetent bankers.

Barney Frank, chairman of the House financial services committee, said the potential profiteering may be part of the price for stabilising the financial system...“You can’t rescue the credit system without benefiting some of the people in it.” Still, Mr Frank said Congress would be watching. “We don’t want the Fed to drive the hardest possible bargain, but we don’t want them to get ripped off.”

Really? You mean there are people who work in corporations? Who knew. We're being robbed in broad daylight while the powers that be express concern. Whatever would become of those poor shrinking violets on Wall Street if we were to demand a fair deal? Why, they'd have to start making a profit in some honest way. Would they even know where to begin?

There will always be crooks on Wall Street, but when the Federal Reserve actively enriches them, and hides behind congress, it's time to end the Fed.

This Just In: Youtube Discovers An Honest Senator

We won't get to see how our money is being spent, but at least Omaha gets a new museum.

Fed Transparency

Texas Congressman Ron Paul's Federal Reserve Transparency Act (HR 1207) now has 234 cosponsors including Dean Heller (of course), and Shelley Berkley, along with 64 other House Democrats. From the summary:

Directs the Comptroller General to complete, before the end of 2010, an audit of the Board of Governors of the Federal Reserve System and of the federal reserve banks, followed by a detailed report to Congress.

The cozy relationship and cronyism between Wall St. and Washington would surly make for some interesting headlines in the future.

Meanwhile, over in the Senate, the companion bill, S.604 has only 2 cosponsors and is currently in the Committee on Banking, Housing, and Urban Affairs. Neither Nevada Senator has spoken about it. Senator Ensign has been a little preoccupied with a zipper malfunction lately, and Senator Reid presumably wants no part of it; the Senate Bill I mean.

The Negative Interest Rate Explained

There have been several articles written over the last moth or so about the possibility of negative interest rates. Conventional wisdom holds that interest rates can not go below zero. With the Fed Funds Rate currently at 1/4%, any further action by the Federal Reserve would have to be negative. Raising interest rates would be the smart thing to do, but is politically unacceptable. So, are negative interest rates possible?

The easiest way to understand the idea is explained by Alex J. Pollock writing in American.com:

Would anybody rationally pay $1.02 for $1.00 in cash? They do today, if they take cash as a non-customer from an ATM. The average ATM surcharge fee is about $2. For a $100 withdrawal, that is equivalent to a price of $1.02. Alternately thought of, if a $200 withdrawal were cash for one month, the average fee would be equivalent to a negative 12% interest rate.

Currently, the banks are using the bailout money to increase their deposits with the Fed in an effort to cover all their bad loans and toxic assetts. One way to get the banks to release the money would be for the Fed to "go negative", giving the banks an incentive to put their newfound wealth somewhere else.

The problem for the Fed right now is that all other interest rates, including passbook savings accounts, ultimately take their cue from the Fed Funds Rate. Imagine the political fallout when us commoners are not only paying to bailout the banks with our tax dollars, but seeing our savings drained by those very same banks. The resulting bank run would not only bring on the collapse of the Federal Reserve System, but would surely spell the end of several political careers.

It's the proverbial rock and a hard place and a good reason why I believe the Federal Reserve System is about to be replaced, either by choice or by default.

Is The End Nigh, Yet?

March 18, 2009, I’m marking it on my calendar. Was that the day our president admitted to a high bowling score of 129? No. It was the day the Federal Reserve announced they would begin buying Treasury Bills. In effect, we are now loaning money to ourselves. There is only one reason why anyone would do this. Nobody else will loan us the money. Like an overzealous mall rat, we are paying off one credit card with another credit card. It is the last act of the soon to be bankrupt.

Ever since Hillary’s visit, the Chinese have been making public noises about their nervousness over our debt. They’re financing quite a lot of it and they have good reason to be nervous. With the currency being inflated, they won’t be getting the returns they were expecting when they bought in. Having taken our best customer to the cleaners, can we really expect them to come back for more?

There are stories circulating that the US dollar is going to lose its reserve status. It’s a subject you’ll be hearing more about once the upcoming G20 meetings get under way. Reserve status is a huge advantage to us. Not only do other countries buy dollars for emergency use, but also having our own currency as reserve, allows for all sorts of game playing with the debt. And boy have we been playing games with our debt lately.

Other countries resented us for it before, but now they are being pushed over the edge. Any group of countries can create a currency amongst themselves, and it looks like some are going to give it a try. Russia seems to be the ringleader. There is certainly talk behind closed European doors going on.

Here's what the metals have been doing through all this. The blue line shows the day before; stable and trending slightly down. The red line shows a spike up at the time of the announcement. The yellow line is the day after.


The same with silver:

I'm not quite ready to start walking around downtown with an "The End Is Nigh" sign, but a little metal under the floorboards might be a good idea, if you don't have some already.

End the Fed

Thanks to Vox Day for pointing this out. It's too good not to pass along.

The Federal Reserve’s low interest rate policy is a big mistake; it is not a panacea.

Artificially low interest rates are achieved by inflating the money supply. Low interest rates penalize the thrifty and those who save are cheated. It promotes consumption and borrowing over savings and investing. Manipulating interest rates is an immoral act. It’s economically destructive.

The policy of artificially low interest rates caused our problems and therefore cannot be the solution. The market rate of interest is crucial information for the smooth operation of the economy. A central bank setting interest rates is price fixing and is a form of central economic planning. Price fixing is a tool of socialists and destroys production. Central bankers, politicians, and bureaucrats can’t know what the proper rate should be. They lack the knowledge and are deceived by their own aggrandizement.

Manipulating the money supply and interest rates rejects all the principles of the free market. Ironically free markets and sound money generates low rates, but unlike the artificially low rates orchestrated by the Fed, the information conveyed is beneficial to investors and savers. The Congress, by conceding this authority, conveys extraordinary economic power to the elite few. This is a power that has been abused throughout history. Only the Federal Reserve can inflate the currency, creating new money and credit out of thin air, in secrecy, without oversight or supervision. Inflation facilitates deficits, needless wars and excessive welfare spending.

Debasing a currency is counterfeiting. It steals value from every dollar earned or saved. It robs the people and makes them poorer. It is the enemy of the working man. Inflation is the most vicious and regressive of all forms of taxation. It transfers wealth from the middle-class to the privileged rich. The economic chaos that results from a policy of central bank inflation inevitably leads to political instability and violence. It’s an ancient tool of all authoritarians. Inflating is never a benefit to freedom loving people. It destroys prosperity and feeds the fires of war. It is responsible for recessions and depressions. It’s deceptive, addictive and causes delusions of grandeur with regards to wealth and knowledge. Wealth cannot be achieved by creating money by fiat. It instead destroys wealth and it rewards the special interests.

Depending on monetary fraud for national prosperity or a reversal of our downward spiral is riskier than depending on the lottery.

Inflation has been used to pay for all wars and empires. And they all end badly. Inflationism and corporatism engenders protectionism and trade wars. It prompts scapegoating: blaming foreigners, illegal immigrants, ethnic minorities, and too often freedom itself for the predictable events and suffering that result. Besides, the whole process is unconstitutional. There is no legal authority to operate such a monetary system. So let’s stop it. Let’s restore a policy of prosperity, peace, and liberty.

The time has come. Let’s End the Fed.

Congressman Ron Paul's speech to Congress 2/25/09

Real Trust Requires Real Capitalists

Plowing through the hyperbole that the financial sections have become, one can sometimes find a little perspective. Rob Kirby writing in Financial Sense looks back on the road we have traveled:

Banks in the 19th century were owned by real capitalists and the equity capital of banks was about 60–80% of their balance sheets: bankers were lending or investing their own money, so they were responsible and did not accept excessive risks.

The 19th century also had what were called "wildcat" banks. These were often owned and operated by thieves and counterfeiters. They were located throughout the country, but were especially prevalent in the territories. They were characterized by the fact that they only had enough money to convince the locals that they had more. Today, we call that "a low reserve ratio".

Following a succession of bank panics, the central banking system was created in 1913 and called the Federal Reserve. And here is where it gets really interesting. The reserve ratio was set at 3%-12% depending on the size of the bank. What only a year before had been considered dishonest at best and criminal at worst, was now institutionalized as the norm. Shortly after this, the honest banker disappeared. The gold standard became a political football, before being phased out. With no cultural pressures, and no system of measurement, the wildcats could run free.

The required reserve ratio at the Fed is currently 10% on transaction deposits (checking and savings), and zero on everything else. Homes, cars, credit cards, entire businesses, have all been financed with nothing. And what of those savings accounts? Of course, there are plenty of exemptions and waiver rules included for favored political donors. Mr. Kirby continues:

...an accurate and logical accounting of where we are would amount to a confessional by the powers-that-be, punishable by law.

I don't see that anything is punishable by law. Inaccuracy and illogical accounting is the law. The lack of trust we see today is only the widespread realization that the money center banks are insolvent. They have been for a very long time. The banks are broke and everybody knows it. If the banks had been built on real wealth, regaining trust would be quick and easy. As it stands, what's to trust?