Third financial bubble due to pop?
by Alfred Adask
John Hussman is a top hedge fund manager, president of Hussman Investment Trust and heavy- hitter in the Wall Street world of finance. In a recent article published by
NewsMax.com ("Hussman: 'Fed Has Created 3rd Financial Bubble in 15 Years'") Hussman warned that we are living in another financial "bubble" created by the Federal Reserve. More, just as the last "bubble" popped in A.D. 2008 and triggered the Great Recession-our current "bubble" is also likely to pop, and pop soon.
According to the
NewsMax article,
"The Fed has now created the third financial bubble in 15 years. . . . Focusing on two variables-inflation and unemployment-the Fed has missed the most important consideration: the risk to financial stability . . . this mistake will ultimately end just as tragically both for the economy and financial markets as the 2008 onset of the Great Recession."
"The Fed has kept its federal funds interest rate target at a record low of zero to 0.25 percent since December 2008. Fed Chair Janet Yellen said last week that the central bank will likely begin
raising rates this year.
"There seems to be a perception that central bankers are gods . . . . Coupled with this deification of central bankers is a faith that
interest rates are a panacea. Whatever the problem, interest rates can solve it. Inflation too high? Simply raise interest rates. Economy too weak? Then lower interest rates."
"This obsession with
interest rates as a cure-all rests on some dubious views about the way the world works. It would appear that monetary policy isn't the most effective tool for managing the economy."
The Fed has lowered interest rates to near-zero over the past five years to supposedly
stimulate the economy. But, by lowering interest rates, they've pushed capital out of the US as lenders search for foreign markets paying higher interest rates. Result? As the domestic money supply is reduced, deflation rears its ugly snout. Thus, lowering interest rates could tend to
slow rather than
stimulate, the economy.
I can't say that lowering interest rates will absolutely slow the economy, but there will be a "balance" between the anticipated effects of lowering the interest rates (which should stimulate the economy) and the resulting reduction in the money supply (which should slow the economy). Is the stimulating effect of lowering interest rates is predominant over the slowing effect of causing capital to flee to higher interest rates-or vice versa? I don't know.
Maybe the net effect is to stimulate the economy. Maybe the net effect is to slow the economy. But, common sense tells me there will be less stimulation than economists expect.
For example, suppose that economists expect near-zero interest rates to provide a hypothetical 10 "units" of economic stimulation. But, if the low interest rates drive capital out of the economy in search of higher returns on investment, the money supply will be reduced and that reduction might cause a hypothetical 6 "units" of economic slowing. By combining 10 units of stimulation with 6 units of slowing, the net effect is 4 units of stimulation. The Federal reserve expected to get 10 units or stimulation, but they only got 4.
Still, in this hypothetical example, the Fed lowered interest rates and did get some economic stimulation.
But it's also hypothetically possible that the Fed might lower interest rates to near-zero in hopes of getting 10 units of "stimulation," but also cause enough capital to flee to cause 15 units of "slowing". In this example, the net effect of lowering interest rates might be 5 units of "slowing". The more they lowered interest rates, the slower the economy might go.
That should get them talking to themselves.
My point is that the stimulating effects of lowering interest rates might be offset and compromised by the correlative slowing effects of capital fleeing in search of higher interest rates.
Assuming this analysis is roughly correct, the smartest thing the Fed could do might be to raise interest rates since doing so might attract so much foreign capital into the US economy, that the money supply would be increased enough to cause a net stimulation.
Of course, it's counter-intuitive to suppose that raising interest rates would stimulate the economy-and maybe that wouldn't happen.
But it's clear that, contrary to traditional economic theory and expectations, the last seven years of near-zero interest rates have failed to significantly stimulate the economy. Something has happened to compromise the stimulative effects economists expected to flow from near-zero interest rates. I believe that compromise is traceable to the flow of capital out of the US economy in search of higher interest rates.
* Insofar as "monetary policy isn't the most effective tool for managing the economy," the
NewsMax article admitted that the Federal Reserve (which is responsible for "monetary policy") is no longer able to control the economy.
That's consistent with an opinion I've advocated for a month or more:
Nobody's In Control of our economy. It's lumbering along like a ship without a rudder. Its momentum is propelling the economy, but there's no captain at the helm. Where the economy is going, or even where it currently is, is not only unknown to the public but also to the Federal Reserve and federal government.
Why? As I'll explain, I suspect the fundamental reason may be that
digital currency is too "slippery" to be controlled by the Fed or the federal government. If they can't control the currency, they won't be able to control the economy.
* "The government should turn to
fiscal policy instead."
Bunk.
While the Federal Reserve has come to primarily control "monetary policy" by means of interest rate adjustments, the federal government controls "fiscal policy" by increasing or decreasing the currency supply by means of raising or lowering taxes, borrowing and
spending.
The problem is this: In order to spend more currency into circulation, the government must first acquire the currency to spend. Government is non-productive and can't really produce currency all by itself. In order to acquire more currency to spend, government must either: 1)
raise taxes on the few, remaining productive elements of the economy; or 2)
increase borrowing (and leave a growing debt to cripple the productive members of future generations).
If government raised taxes on productive Americans in order to stimulate the economy with more spending, we'll simply have less productivity and more unemployed. That'll
slow rather than stimulate the economy.
Government's fiscal policy can't get the economy going by raising taxes to spend more money.
* OK-what about
borrowing?
If government borrows money today and leaves the debt for future generations, the government will be slowing the
future economy in order to artificially stimulate today's economy.
Government doesn't mind impoverishing future generations to reelect today's incumbent politicians. Therefore, government is happy to borrow trillions to be spent in the name of "stimulating" today's economy (and reelecting incumbents).
Unfortunately, there are limits. The US government has already borrowed so much that the current National Debt is too great to ever be repaid in full. Lenders, doubting that they'll ever be repaid in full on the current debt, are therefore reluctant to lend even more to the technically-bankrupt US government.
In the past two or three years, the only reliable source of borrowed funds for the US government has been the Federal Reserve (which has been the primary purchaser of US bonds). But the Federal Reserve's "balance sheet" (their list of debts) has grown so great that if they go much deeper into debt, even the Fed might slide into bankruptcy. With the end of QE3, even the Fed has slowed (and perhaps nearly stopped) lending to the government.
Government can no longer borrow enough to both fund big government and stimulate the economy.
My point is that government can't really spend more in fiscal policy to increase the money supply and stimulate the economy because:
1) Government
can't raise taxes without slowing the already-fragile economy; and,
2) Government is so deeply indebted that it's already technically bankrupt and therefore
can't borrow much more currency because lenders have lost most of their former willingness to buy US bonds. Without willing creditors, the federal government has insufficient access to borrowed funds.
Result? In a no-tax, no-borrow environment, government is going broke, programs are being cut and government spending is being reduced.
If the federal government can't raise taxes or increase borrowing, how can fiscal policy be tweaked to increase government spending to stimulate the economy?
It can't.
So, that's where the economy is now-between the rock of the Federal Reserve's inability to lower interest rates without reducing the money supply-and the hard place of the federal government's inability to raise taxes or borrow more funds to spend into circulation.
* How could government get around these problems?
They might be able to impose some sort of currency controls that would prevent currency from fleeing the US economy in search of higher interest rates. However, I doubt that government can implement effective currency controls on
digital currency that is finally nothing more than 1's and 0's on somebody's hard drive.
Ohh, government can enforce currency controls against pizza deliverymen and insurance company secretaries. But, I doubt that currency controls can be enforced against major corporations and the "big money" of billionaires.
Because digital currency has no weight, no mass, no substance, it can move at the speed of light. Government moves at the speed of a paraplegic trying to traverse a swamp made of molasses. Does anyone believe that government can prevent Bill and Hillary from instantaneously moving millions from their Trust Fund in Arkansas to some secret bank account in Paris or Buenos Aires? If Bill moves that money today, will government even find out for six months or a year?
There is one form of currency controls that might work-although only on the "little money" of ordinary Americans: eliminate all cash, put all currency on debit cards that are constantly monitored and controlled by the federal government-and thereby prevent any "small" currency from going anywhere that's not government-approved and thereby "stimulate" the US economy.
But, given the problem we already have with foreign hackers breaking into ordinary people's credit cards and bank accounts and moving millions of digital dollars from those accounts to foreign countries-how much trouble will it be for hackers to break into any new-and-improved, completely digital monetary system and moving/stealing billions?
Not much.
* In fact, I suspect that the sum total of funds stolen in a cashless, all-digital monetary system will be much greater than the total sum of funds stolen in today's partially-paper-based monetary system.
Why? Because even paper dollars have a
physical reality that slows or inhibits their transfer.
The
physical nature of real money like gold or silver coins, or even paper currency, makes it comparatively hard to produce or move from place to place or from buyer to seller. Digital currency, on the other hand, is extraordinarily "slippery". It can cross the globe at the speed of light. Hackers can drain millions from bank accounts with a few keystrokes.
It's because of the
non-physical nature of digital currency that I doubt that government can really control digital currency under any circumstances. I predict that a "cashless" (paper-less, precious-metal-less) digital, monetary system will be far more susceptible to hacking, theft, fraud and confiscation by government than a gold- or even paper-based monetary system.
I.e., to rob a man of $1,000 in
physical cash, I have to catch him when he's alone, knock him out and take his wallet. That's hard, dangerous work. The victim might pull a gun and shoot me.
To rob a man of $1,000 in
digital currency, all I need to do is access his bank account info, start my computer, enter a few keystrokes, transfer his digital funds to my account, and walk to the refrigerator and grab a beer. No muss, no fuss, no stress and-if you know what you're doing-very little danger. It's comparatively easy to steal digital currency. If we go to a cashless monetary system, the chances of your digital dollars being stolen by private-sector crooks or confiscated by government employees will only be increased.
* If currency controls won't work reliably on digital currency, government could restore a gold- or silver-based monetary system wherein
physical money can't be moved across oceans on the internet at the speed of light. I'd be astonished if that happened. I certainly don't expect it to happen any time soon.
But, if it's true that government can't control the economy unless it controls the currency-and if it's true that government can't really control the super-slippery digital currency-then it follows that government can't keep the digital dollars without losing control of the economy.
If currency controls won't really work on digital currency, then one apparent solution is to implement a new currency system that's based on a form of money that's
physical rather than digital. What else can that mean besides a restoration of a gold- or silver-based money?
Yes, that's a fantastic and improbable argument, but it still strikes me as plausible.
* In any case, for the moment, the Federal Reserve can't control the economy with monetary policy, and the federal government can't control the economy with fiscal policy, and that implies that
nobody's really in control of the US economy.
If it's true that digital currency can't be effectively controlled by the Fed's monetary policy or the government's fiscal policy, we can suspect that (just as John Hussman warned in the
NewsMax article) something dramatic is about to happen to that current "financial bubble" (that's been over-inflated with digital currency). If government wants control of the people, but digital currency can't be effectively controlled, then, one way or another, digital currency has to go or be dramatically changed.
Is there any imaginable way that digital currency can be changed that will truly benefit the vast majority of the American people? I can't see how. Whatever government does (if anything) to digital currency, it won't be good for 98% of Americans.
But even if digital currency remains unchanged, it will expose those who save their wealth digitally to greater likelihood of electronic theft by private thieves or electronic confiscation by government.
Q: If that's true, how can you protect yourself and preserve your wealth?
A: Get out of digital currency now and get back into a
physical money like silver or gold.
