What I've learned from my fellow Stoolies

[mjkst27]

OK, let?s get back to our A-B-C?s of real-world fractional/fiat economics here?

 

The function of our ?economic system? at its most abstracted and generic level, is to create loans. Period. Not to provide jobs, not to keep interest rates stable and reasonable for savers and investors alike, not to guarantee robust GDP growth. These things will (hopefully) follow once the prime directive has been satisfied ? and the prime directive is to make loans. Loans made equals profits for the loan makers, and profits is what drives capitalists! Make more loans this year than last year, in total dollar terms. Then make more than that the following year. If the system fails to do this, then the system is ?deflating? which means that compound interest payments on loans somewhere in the system are not being made due to lack of funds. (Compound interest monies are not created when bank loans are made, only the principal amount is. Therefore, the monies to make the compound interest payments on today?s loans must come from the principal amounts of tomorrow?s loans, speaking in the aggregate.) When deflation is happening, people have to sell assets to make ends meet, or just go bankrupt. Deflation can be prevented if more loans can be made this year than last year. And then next year. And so on.

 

If the ?economy? is for whatever reasons unwilling to borrow these loans into existence at a greater rate this year than last year, interest rates will come down, across all investment timeframes 0-30 years, in order to spur the economy into action (borrow). This is the system?s way of ?stepping on the gas pedal.? If on the other hand, the economy is ready and willing to borrow, borrow, borrow, as in the mid-late 90?s due to perceived wonderful business opportunities in the T/M/T sectors for example, then interest rates will rise as the system seeks to profit maximally from the investment frenzy, and also as a sort of natural brake that ?saves some for next year?.

 

So, in the current lethargic economic environment in mid-2003, with few new and exciting business opportunities and the bar set so high (in terms of $ value of loans made in previous years), interest rates both short-term and long-term are drifting ever downward, as the system requests ?more speed! We need to catch and surpass last year?s loan amounts? But alas, it still seems fewer loans are being made this year than last, so rates continue to drift ever lower. 10-year UST?s yield less than 3.2% as of this morning. The Fed Funds rate is at 1.25% and will probably go lower in a few weeks. This patient (economy) is moribund!

 

So what?s happening here? The ?economy? is telling the ?system? (by ?system? I collectively mean the Banks, the GSE?s, the Fed, the Govt, Wall Street, the ABS/MBS crowd, etc., and by the ?economy? I mean all the rest of us simple folks) that it?s tired and can?t borrow at increasing rates anymore. That the burden of all those decades of built up loans they are still paying on is too heavy and that they would rather work towards paying down existing loans than taking out more new loans. What needs to happen is a considerable net reduction in loans outstanding, via paybacks and defaults, before the y-o-y growth in loans made can resume. This is known as an economic contraction or depression. The last time it happened notably in the US was in the Great Depression of the 1930?s. There is really no escape from this outcome. Either we get a short, sharp cleansing of debt from the system ? a ?crash?, or we have 10 or 20 years of sideways drift with growing unemployment ? ?stagflation?, either of which will cleanse the system of sufficient debt, before an uptrend ? ?economic growth and good times? ? can resume. Pick one.

 

And then there is the issue of defaults/bankruptcies. When a household or a company has borrowed money and then later cannot sustain the payments, it might be forced to declare bankruptcy. Bankruptcy forever traps money in the system. In other words, when a loan is made (money created from thin air by the bank), it is expected to be paid back to the bank, with interest (by paying the loan back, money disappears or is ?destroyed?). In fact, more money is removed from the system when a loan is paid off in full with interest than was put into the system when the loan was originally made! (there's some kind of fishing reel/bass-o-matic analogy in here somewhere) This represents a natural contractive tendency or behavior on the part of the money supply, which tends of course to uphold the value of the monetary unit (dollar) ? a very good thing! But when a default happens somewhere in the system, those loan moneys remain trapped in the system forever ? no one is obligated to pay them back, or essentially remove them from the system, any longer. This represents a permanent expansion of the money supply, which is the same as a debasement of the monetary unit. INFLATION!

 

So what?s been happening to the international exchange value of the monetary unit, the Dollar, for the past 18 months? Right, falling swiftly. Is it a coincidence that it is happening along side sluggish economic growth? Probably not. And what about all those bankruptcies that have been going on, both at the household and corporate level? What does that really represent? I think those bankruptcies represent the collective errors made by the system, the net misallocation of capital, the aggregate amount by which society has lived above it?s true means and resources, coming home to roost in a debauched currency. Too many loans were extended that should never have been prudently made. You can?t just sweep these mistakes under the rug at the systemic level. They do manifest somewhere, someway, someday.

 

And what?s been happening to US money supply for the past 15 years? Exploding to the upside! Percentage growth rates that far exceed GDP growth, for whatever the GDP numbers are worth. What can this be attributed to? Increasing numbers of bankruptcies for one thing and monetization of outstanding treasury debts by the Fed, as well as monetization of housing collateral by the GSE?s, as well as other sources of monetization (see Doug Noland?s archived Credit Bubble Bulletins for an explanation of how the ABS/MBS community, together with the Money Market complex creates money from thin air). What does all this monetization and bankruptcy represent? It?s just the ?system??s reaction to the collective wheezing on the part of the ?economy??which is screaming ?I am tired! Give me a rest! Let me pay down or restructure my loans for a while before I take out any more loans! Please!?. But restructuring and paying down does ?the System? no good! Banks make more profits when times are good and loans are growing! So they step on the gas, interest rates fall?the excuse is that ?low interest rates will stimulate growth!??well, maybe?.if the economy can bear it, which it currently looks like it can?t.

 

Think about it. What?s up with all the zero-percent auto loans and rebates the past couple years? That all started right after 9-11, but still hasn?t been retracted by the auto industry, because they couldn?t move their inventory without these incentives. And this whole repetitious re-finance binge that homeowners have benefited from? Skyrocketing house prices? Are these things that should intuitively be happening in a sluggish economy? I personally don?t think so, I think people should be battening down and getting more thrifty. But this isn?t about what?s good for the economy at large, or even what makes basic common sense. It?s simply about what?s good for the ?system? ? and the system needs constant nourishment in the form of new loans, despite the fact that it is counterintuitive to what would seem to be the best interests of rational economic players across the countryside. The system simply requires loans be made, so it will adjust in such a manner as to promote making loans...until it can't adjust anymore.

 

So, buckle up, it?s only going to get more interesting from here!

[Yoshaviah]

What you have said here today is most correct and few people ever think about it at all. They just say, "Oh well, times are bad right now," without ever considering that the system itself is defective." The very design of the fiat fractional reserve usury system is for the benefit of the bankers at the expense of the working class. In effect it is the means by which labor and the produce thereof are taxed in order to pay the fees demanded for the management of the system. The politicians and bankers work hand in hand to extract these fees from the working segment of society. It is rather ironic that the working segment of society is the cause of the very system that taxes them. When they vote they yield power to the politicians who in turn yield power to the bankers.

 

Would you be so kind so as to allow me to elaborate on this one point; namely, that bankruptcy forever traps money in the system. I would first consider that when money is borrowed 90% of the principal is created out of nothing as the banks are required to hold a fraction of their reserves at the inner sanctum in the temple of the Fed. The loan then becomes an IOU on the asset side of the balance sheet. But, and this is the important point, the title to the asset is held by the bank (unless the loan is sold) and represents some form of equity to the bank so long as it holds the title. If the borrower defaults then the bank loses future interest payments from the borrower. But now the bank is free to repossess the asset and sell it into the market to recover as much of the principle as possible. After this occurs the bank recovers some portion of the principle in exchange for the sale of the property. Little has changed insofar as the money supply is concerned because the bank recovered at least some of its money, which then disappears as fast as it appeared. The IOU is cleansed from the asset side of the books and the property no longer exists on the equity side. But the property has now been transferred to another owner (possibly an immigrant with a large holding of dollars).

 

The loser is the original borrower. He no doubt paid the bank a large fee to settle on the property. The bank also is a loser in that it has lost a portion of the stream of interest income that it needs to support itself. This is a major problem in itself. The other problem is that if the bank resells the property at a loss due to falling prices then it must sell some of its existing assets in order to meet its reserve requirements at the Fed. The Fed can attempt to compensate in one of two ways; 1) lower the reserve requirement, or 2) lower the interest rates. A lower reserve requirement would be inflationary. A lower interest rate allows the bank to sell some of its assets at a higher price. In this way the bank avoids a contraction and the subsequent loss to shareholders. It is obvious that this cannot go on forever, which is why the Fed is very concerned about falling asset prices.

 

As prices continue to fall the Fed must continue to lower rates and this deprives the banks of more of the stream of interest income. Their bonds may increase in value, but their business and consumer loans return less and less profit. Today business and consumer debt has reached such high levels that only government and foreign investment can provide the necessary funds to continue to meet interest demands on the debt. The problem with government spending is that it is inflationary and weakens the purchasing power of the dollar. The problem with foreign investment is that foreign countries have to subsidize US debt at the expense of debasing their own money. The basic problem is that money is losing its purchasing power because a larger and larger portion of new money must sustain interest payments due on older existing money, which leaves less and less money or purchasing power for new growth. The money itself is bad. It is no good. The very system of debt-based money is defective to begin with. At least this is how I understand it. Please correct me if I am wrong. After all, you can't pack a lot of brains into a little cranium like mine.

[mjkst27]

Spot on Yosh. You have nicely elaborated the aspect of secured debt, where in my original post I had unsecured debt in mind when I talked about bankruptcy. Certainly most debt out there is secured, so your point is highly relevant - the banking system will fight to protect itself from falling asset prices after the original borrower goes bankrupt. So all this garbage about deflation coming from Greenspan translates to "The banks must protect their asset base, damn everything and everyone else". But, it's really all a facade. When the stepping-down of interest rates gets to zero, and asset values can be defended no longer, the rules of the game will be changed. He who holds the title to property wins, regardless of how many fiat dollars that title was once "worth" or had liened against it. True, I suppose the banks would rather it not come to this, they would prefer to simply profit from the economy getting back up on its feet because it would avoid a lot of ugliness, but if push does come to shove, the banks will own everything.

 

So, in big bold letters...The upcoming and inevitable contraction in prices and economic activity is built into our economic system of commerce as it is currently architected. Kondratieff wasn't blind - prior systems behaved similarly because debt was prevalent in those systems, and he was simply able to observe the periodic sine wave of expansion and contraction.

 

I will assume it is self-evident that some group of human beings designed our existing system, and that they stand to benefit greatly from the downside, just as they benefit from the upside of the sine wave. Heads we win, tails you lose. I'm not trying to dig into this conspiracy, Griffin did that masterfully in The Creature from Jekyll Island. What I am hoping to do is write a simple story in 6th grade english that describes the simple mechanism by which the broad sweep of economic activity is pre-ordained, so that ordinary folks can become aware and prepared for the future.

 

I'll end with a question...where would we be today, June 11, 2003, if not for all of the fiscal and monetary stimulus of just the last 24 months? Without the re-fi's, repo's, tax cuts, deficit spending, monetization, reduced interest rates?

[Hypertiger]

Pretty good stuff mjkst27, Yoshaviah

 

More of the same?

 

The FED has estimated that US Fiat currency in circulation (paper and coin) is about 700 Billion dollars on the entire planet. And it is safe to say that it is supplemented with illegal fiat counterfeit dollars to the tune of lets say 300 Billion?

 

We are left with 1 Trillion dollars of hard currency (paper and coin) But it is all just debt backed by debt used to make change?

 

The best estimate of the ledger debt on the books, or US obligations, is 33 Trillion dollars

 

The system is the floating exchange rate debt backed by debt fractional reserve system or as Mark of M2M fame likes to simplify it? the Matrix

 

So 1 Trillion of debt is the basis or true money supply backing up 33 Trillion dollars which makes the fractional reserve realistically about 3%... The world reserve currency before 1971 was Gold under the Bretton woods Gold backed fractional reserve system which collapsed when the Gold window at the FED was closed when they, The US, ran out of Gold to pay it?s foreign bills (Imports). After 1971 Gold was replaced with US dollars or debt.

 

Back to the 3% reserve?

 

Every Friday of every week is Payday and when the paychecks are handed out they are composed of 3% pre existing debt the monetary base or fractional reserve and 97% newly created ledger debt.

 

Whether you have a job or not or a paycheck is almost totally dependant on the amount of debt created if you happen to work for a living?

 

If you make 50,000 dollars a year you or someone else in the Matrix has to borrow 48,500 dollars + interest each and every year to ensure there is at least enough debt in the system to support your paycheck. The compound interest grows every year, by year 2 you or someone somewhere in the Matrix has to borrow 48,500 dollars + interest + interest (Compounding interest) and so on and so forth until you die and then some? The nature of the floating exchange rate debt backed by debt fractional reserve system or Matrix is inflationary?

 

The key is ?inflate or die? because in order for you to put food in your mouth the debt must inflate enough to provide a place at the table where the price is always going up.

 

Enough of that?

 

It?s safe to say that the interest payment due the banking system works on a constant compounding rate calculation by the second?International transfers of debt is timed with the atomic clocks which the keeps the GPS satellite system in synch to figure the interest due down to the millisecond?

 

The 33 Trillion debt pile when taken as a whole has a 5% compound interest charge to service it or 1.65 Trillion dollars per year just to tread water? or 1.65 trillion dollars per year + interest must be created just to pay the interest on the debt pile?

 

The Ripley?s believe it or not side story is that if all borrowing (new debt creation) stopped and everyone was shaken by their ankles upside down over wheelbarrows and the 1 Trillion dollars in paper and coin was dumped on the debt pile you would still owe 33 trillion dollars and have no way to pay the interest payment left over of 650 Billion dollars. Pretty funny eh?

 

We are fast approaching just such a Hyperdeflationary implosion nightmare event such as that.

 

Called maxout the floating exchange rate debt backed by debt fractional reserve system is approaching the total maxout point where all new debt creation stops maximum debt inflation? dropping interest rates and rising unemployment are unmistakable signs that the new debt being created is not enough and it only a matter of time with rates as low as they are now. since the initial ?12 cuts? which is the largest magnitude chop in the history of floating exchange rate debt backed by debt fractional reserve system?wham bam, that?s basically it, the big guns have fired and the debt deflationary monster that is stalking us was staggered but did not fall? when everyone that possibly can borrow has borrowed debt creation slows then stops and the most feared unthinkable manmade creation like the monster in the Movie ?Forbidden Planet? is unleashed and becomes totally unstoppable.

 

Remember when earlier I mentioned the class of people that work for a living? There is another class of people, the ones that live off the people that work for a living or the people that depend on their existence from interest income?They take their frustrations out on the workers for a living when the interest income they glen from them drops past the point where their lifestyle starts to suffer.

 

Monsters from the id

 

Final tidbit

 

The powers that be know this is a done deal?they are licking their chops in anticipation of the great orgy/feast which will take place?Massive Power consolidation

 

I?m bracing for impact also because with what I know I will be forced to take part when wild corned animal stage takes place. Forced Goddamnit? Unless I die real soon or some other miracle shows up.

[mjkst27]

Great post, Hyper. I was hoping you'd show up.

 

Just wanted to say that this is my favorite phrase in the whole wide whirld:

 

"floating-exchange-rate debt-backed-by-debt fractional reserve system"

 

I think I'm gonna get some T-shirts made up that say

 

"Do you know where your floating-exchange-rate debt-backed-by-debt fractional reserve system is?"

 

or maybe

"Have you kissed your floating-exchange-rate debt-backed-by-debt fractional reserve system today?"

[Flaming Turds]

Sinclair wrote a good piece this week on the velocity of money chart from the fed site and also money supply and they are both in a downtrend (one of the M's I forget which one) . He correlates it with data from the late 20s its a good read. Scroll down to ealrier in the week to find it.

 

http://www.jsmineset.com/s/Home.asp

 

My personal feeling is that Greenspan knows exactly what hes doing and made a personal choice a long time ago to accept the challenge to try to be the first one to beat the game. He has played like a master but the charts tell me that he has already lost, which was inevitable anyway. I marvel at the wonders our little game has produced. What we need is open source decentralized money. One last thing, you may want to research where reserves are at right now, I believe in the 90s to ward off the deflation beginning then, he lowered reserves to almost nothing. Im sure its much lower than quoted above, I think its in the neighborhood of one percent or something stupid like that.

[Hypertiger]

On paper I think it is zero if you have under 55 million dollars then it jumps to 10%...

 

But you can go to the discount window at the FED and borrow a billion at 1.25 and then fractionally reserve it up to 10 billion at 5% which gets you 500 million, more then enough to pay the interest due to the FED of 12.5 million... all you have to do is find the bagholders

 

realistically the cash, coin and paper is the only reserve the rest is all debt backed by debt that will cease to exist once the ability to maintain it by creating more debt "to keep backing it up" stops...when the people can't or won't borrow anymore...or you run out of bagholders.

 

A ponzi scheme.

[Tig 'Ol Bitties]

The discourse on this site never ceases to amaze me.

 

Screw the Hell's Angels, I think we are the one percenters. The (much less than) one percent who have actually spent time thinking about how the system operates, how the plumbing functions.

 

True, we are closer than we have been since the 30s to systematic failure and maxout, but the game is now on a global scale. The village is much larger and has many more villagers than ever in history and they are all along for the ride.

 

In regards to Ft's comment that Al Green knows exactly what he is doing, it has been documented that he spoke about facing the K wave winter and how as a central banker he would flood the system with liquidity when he was a member of Ayn Rand's Objectivists. He does know what he is up against, whether he knows what he is doing is another matter.

 

My vote for the t-shirt is "Have you kissed your floating-exchange-rate debt-backed-by-debt fractional reserve system today?"

[mjkst27]

I think I tripped over an important insight (at least in my own journey towards understanding this mess of a system we have) in my first post. That insight is that bankruptcies are good for the system, they are required in order for the system to function. Why? Because they trap some un-escorted dollars inside the system that can be used by other debtors to make their compound interest payments.

 

Now, that doesn't help me to understand why the money supply necessarily grows every year. (looking at a money supply chart, even mild contractions are associated with hard times) I'll have to think some more on that one.

 

Tig 'Ol - I think sites like the Stool attract truthseekers, of which there are very few. Truthseekers by nature doubt all conventional wisdom and seek to build their own mental models and understanding of whatever interests or is important to them.

[3Martinis]

The powers that be know this is a done deal?they are licking their chops in anticipation of the great orgy/feast which will take place?Massive Power consolidation

 

I?m bracing for impact also because with what I know I will be forced to take part when wild corned animal stage takes place. Forced Goddamnit? Unless I die real soon or some other miracle shows up.

 

He's Back!

 

Great freakin thread. Tanks mjstk, that opening riff is whats been spilling around in my head for a long time, but haven't been quite able to stitch into a coherent train of thought like you've done.

 

The fact that this is a global phenomenon, and not just a US bred beast, is what really gets me reaching for the heart pills. What a freaking mess. At least we can hope to be slightly armored wild-cornered-animals if/when the worst comes to pass.

 

The human capacity to f*&k things up never ceases to amaze.

 

Stoolville rocks. Stay safe.

[mjkst27]

Great freakin thread. Tanks mjstk, that opening riff is whats been spilling around in my head for a long time, but haven't been quite able to stitch into a coherent train of thought like you've done.

Thanks 3M, but don't take my word for it, I'm certainly no expert. Yosh and Hyper and Yobob and MH and others could probably shoot lots of holes in what I've written above. That's just what I'm hoping for, in fact. What spurred me to write that first post is just the desire to collect my current thoughts about this subject, and to gain ever more detailed insights into how the beast works. I've only been "studying" or "catching up" to this crap for a year or so. Others have been watching for much longer. If I have to write something blatantly wrong and let others point it out to me in order to learn, so be it. IMO this subject needs to be mastered.

 

What I find frustrating is that whenever I think something is a big factor, it seems to turn out to be fairly minor, and when something appears minor, it turns out to be pretty weighty. This is one slippery beast, but it was architected by men, so it must have a fairly simple design at its core. Or else its just layers upon layers of papered-over crap accumulated over the years. Or both.

[Guest Icky Twerp]

go ahead, Yobob, tell us what you're thinking...

[Guest yobob1]

But when a default happens somewhere in the system, those loan moneys remain trapped in the system forever ? no one is obligated to pay them back, or essentially remove them from the system, any longer. This represents a permanent expansion of the money supply, which is the same as a debasement of the monetary unit. INFLATION!

 

I would have to disagreee with this. When a loan defaults and is not repaid, then this ledger entry is "written off" as bad debt and thus rightly counts as a direct deduct from the bottom line profit. (The money no longer exists in the system) It matters little if the loan is unsecured or secured if things get bad enough. In the case of a loan secured by an auto for example. When a default occurs, then the lender, if he is able to locate and reposses the auto, can then sell the auto and recoup part of the ledger balance, with the rest of the balance and any costs incurred remaining as debt owed by the original borrower until such a time as it is either paid (highly unlikely) or it is written off. In normal times a lender might recover 50 - 80% of the balance owed. However when things go real bad and there is a large number of repos of similar items then the market is unable to absorb the new supply of used items. In those instances the recovery percentage can effectively go to zero. This is what happened in the 30's. Warehouses were filled with repo'ed radios, washing machines, cars and whatever the consumers had binged on. That took the effective value of the merchandise to zero. It will probably happen again.

[mjkst27]

Not sure I follow you Yobob. Let's say I'm the bank and I lend you $10,000 to buy a car, which enters the economy via the transaction with the car dealer. Later, you subsequently default after making $1,000 worth of monthly payments. I repo the car and sell it for $5,000, and write the remaining $4,000 off as uncollectible (assume the interest rate was 0%). To my mind there is now $4,000 bouncing around the economy that is not attached to any debt, i.e. there is no loan at any bank that this money is earmarked to. Since the bank created the 10K largely out of nothing, how does the bank's ledger accounting for the uncollectible money "remove" that money from the system? (I'm no accountant or banker, maybe I'm missing something obvious, or maybe I'm just dense).

[Guest yobob1]

I'm no banker either. I have no desire to be shot by an angry mob in the future. However if that $4,000 is deducted from the bottom line profit as it should be, then the assets of the lender are reduced by $4,000. They then have $4,000 less to reinvest (loan out, hedge with, buy treasuries, etc.) or pay-out as dividends. Perhaps this is too logical?