The Late Depression

The Start to 2020

Today is April 11, 2020 - long Easter weekend. So far 2020 has turned out to be an extremely eventful year. And there's more coming down the road with the US election now set to be between Joe Biden and Donal Trump.

The year started with fears of war between the US and Iran. They lobbed a few missiles at each other and it seemed to blow over quite quickly. The gold price rose sharply over the Christmas/New Year period.

Australia suffered a terrible bushfire season, with drought and worldwide media attention exacerbating political tensions. PM Scott Morrison had a hard time, and quite soon after the Liberal Party was finally more united after winning the 'unwinnable' election in 2019.

• Additionally, in late 2019 the UK Conservatives swept Labour aside in a landslide - removing the annoyance of Jeremy Corbyn from our television screens.

The coronavirus was already affecting China at the end of 2019, and by early March was affecting life in Australia and elsewhere in the world. Large gatherings were the first to be cancelled, followed by gatherings greater than 100 people. Sports competitions across the globe have been cancelled, including the Olympics. Gathering at pubs etc. is no longer allowed. Inter-regional travel in Western Australia was banned at the end of March.

By April the 6th, UK PM Boris Johnson was in intensive care after contracting coronavirus. Johnson, having won his late 2019 election, managed to get Brexit done on the 31st of January - more than three years after the referendum.

The Economic Blame Game

This pandemic is now seen as the cause of our current economic difficulty in the West. Difficulty that is accurately described as the fastest bear market in history - including the 1929 stock market crash. This bear market makes the GFC look like a puppy.

Popular opinion will lay the blame for our economic difficulties at the foot of coronavirus, and expect a bailout due to force majeure. I however, would call the pandemic a catalyst (or trigger) of these difficulties. Difficulties that would have been triggered soon anyway, and triggered by less conspicuous events. Nonetheless, the US has passed a $2.2T stimulus package through the Senate. Australia has done the same with a $130B 'jobkeeper' package. These are unprecedented times.

My contention is that the cause of our current predicament is far more complex and involves interconnected events going back a hundred years and more. The monetary reality drives the causes of the causes of the causes that produce the multitude of instances experienced by you and I. And the monetary reality is no force of nature, but a failure of culture and individuals.

A simple anecdote to contest coronavirus as the only (or primary) cause, is the trouble in the repo markets in September of 2019. This may get the reader to consider that the coronavirus is only the most recent cause among many prior and active causes.

Where Does Economics Begin?

Say's Law (roughly) states that production is the source of demand. I need first, to reformulate Say's Law so that it is less easily dismissed.

‌Many an entrepreneur will tell you that the act of production does not automatically generate consumption. That a consumer must be willing to part with his productive efforts in exchange. That only in the case of successful barter (extended via cash) can production create demand - an ability to consume.

Further, this is not the only source of demand in our modern economy. Much consumption is driven by money creation. That is banks lending money into existence, and this demands a moral stance.

See my attempt at reformulation below:

Successful barter (direct or extended) should be the only source of demand in an economy, in order to maximise the prosperity of a people. Say's Law spruced for 2020

This is where we start; at this reformulated version of Say's Law. Those who readily reject it belong to the Keynesian school of economic thought, whilst the rest of us have a more Classical bent. The next question is why do Keynesians reject such a statement?

Say's law can seem rather innocuous; pointless even. Yet the point is there. With purely extended barter, Say's Law ensures that total consumption = total production. Not only that, but that rounds of consumption = rounds of production. Savings are delayed consumption, whilst investment is advanced consumption. Savings and investment is achieved by banks via maturity transformation, which is their only profit motive.

Where Economics Has Wound Up

Fractional reserve banking and its modern equivalent/bastard do not adhere to Say's Law. Money is loaned into existence independent of production. It competes with earned money to consume that round of goods/services produced. It makes buyers more willing and able, thus distorting markets (especially asset markets/prices) in an upwards direction.

‌And herein is the problem with disobeying Say's Law; instead of investment being funded by delayed consumption, it is funded with delayed production via advanced consumption.

‌Keynesians hold an assumption that consumption fuelled by money creation is easy to undo/make whole. However, in order for anyone to wind down debts arising from created money - they must destroy money. That is they will produce goods/services, the sale of which cancels out digits on a screen, but which do not drive any consumption. When aggregate consumption falls in an economy, need for production is diminished.

‌The real economy - Main Street - thus becomes enveloped by Wall Street. Those who make a living not through producing goods, but via the dilution of production from Main Street. Hence Main Street shares their division of labour with elitist globalists who refer to the US Midwest as flyover States. No wonder Trump won in 2016.

Even small amounts of money destruction (relative to the scale of creation) threaten to tip the economy into recession, or worse, into depression. A lot of this has to do with using GDP to measure growth. The powers that be will not let GDP fall. Thus as money destruction accelerates, money creation will accelerate faster. Thus the acceleration of the dilution of the real economy and actual production.

‌Richard Koo (of Japan) has labelled the persistent need for money destruction a 'balance sheet recession'. Firms are no longer motivated by profit maximisation, instead preferring to minimise debt.

The charts below bear witness to this fact. Quantitative tightening didn't last long; nor did raising interest rates. With a wobble in the markets in late 2018, QT and rate hikes were put on hold in late 2019 before being cut very, very quickly.

Rates in the US were higher than in the rest of the world for a period. This accelerated the drying up of USD liquidity around the world as better returns/trades were sought via interest rate differentials. A similar situation with interest rate differentials helped Australia avoid the GFC. Don't wait for the mainstream media to admit it though - for it was Kevin Rudd and Labor's genius that saved us.

Our current monetary system, and globalism, creates huge distortions in investment and trade. Classical economists have long seen the can being kicked down the road. Peter Schiff called it before QT and rate hikes were paused, and then reversed.

There is no undoing the money creation "good times" without significant pain in the form of unemployment and so on. And this will not be the first attempt at kicking the can down the road. The can was successfully kicked down the road after the GFC, and after the dot-com bubble before that, and before that even. We've been off the gold standard (which wasn't really a gold standard) since August 1971, and money creation has been getting into more and more asset classes since then.

The Seriousness of Our Predicament

Many folks believe that there will be a V-shape recovery from the effects of coronavirus. I do not. This is because coronavirus is only the catalyst and one part in a network of mostly top-down causality (for another time). ‌

Before the GFC, Wall Streeters mistook leverage for genius. Just over ten years later and we find ourselves in the same place. The thing about leverage is that it works in both directions. On the way up banks can leverage 2% margins into 25% profits for shareholders. In the opposite direction however, losses of 12.5% will wipe out the entire value shareholders equity. Margin Call is a film about this very thing.

Read the article below to understand why the motivations of banks will not align with the motivations of government stimulus and central bank liquidity injections. Banks have no interest in maturity transformation, and therefore no interest in helping SMEs.

Alasdair Macleod has for some time been my favourite economist. I find no cause to disagree with any of his economic views though we don't see eye to eye on politics. Whilst he believes Trump to be oblivious to the absurdity of our situation, I do not. In fact I believe that Trump and his counterparts have the contingencies in place to return the West to sound money. Libertarians are proof that politics cannot be executed with economics, for politics is a field with a far different set of constraints than those faced by economists.

The destructive force of bank credit (goldmoney.com)

Commentators routinely confuse the deflationary effects of a contraction of bank credit with the inflationary effects of central bank policies designed to offset it. Central banks always ensure their stimulus is greater, so inflation, not deflation, is always the outcome.

www.goldmoney.com

To further illustrate how extensive the effect of the coronavirus will be on the economy, it will pay to read the following paper by Zoltan Pozsar and James Sweeney of Credit Suisse. In essence, it illustrates that a supply chain is payments chain in reverse. It shows that coronavirus is turning firms, then banks, then central banks into deficit agents of the US Fed - which is where the buck stops.

Zoltan Poszar - Covid-19 and Global Dollar Funding (PDF)

Between the degree of leverage that exists in the financial system; and the halting of payment/supply chains, we are in an incredibly precarious situation.

Unwinding the Debt. Sudden or Gradual?

There is no doubt that these debts will need to be resolved. Resolution options are limited: debts can either be repaid, defaulted on, or inflated away.There must be a resolution, in that they cannot exist indefinitely. QT in 2018/2019 showed the cost of repayment and further showed that we are unwilling to pay it.

Thus debts will either be defaulted upon, or inflated away, likely a mixture of both. How will our governments deal with their debts? They could repay their debts through taxation or through inflation (which mitigates the need for default). Like our governments, firms and individuals will have their debts resolved through inflation.

‌What is inflation? Having experienced Zimbabwe during hyperinflation, it was often described as too much money chasing too few/fewer goods. Strewth. In the West however, QE (essentially government money printing) did not result in inflation. Why?

‌Firstly I'd point out that inflation has been more like 10% than what manipulated CPI figures return. But there has been no major general inflation. There has however been significant inflation in asset prices. And here's a good question - what percentage of those assets can be made liquid/converted without causing a crash is asset prices?

‌Inflation is strange. It is beyond conscious appraisal. Inflation has both an objective and a subjective component. Monetarists of the late 70's/early 80's believed it too objective; whilst Zimbabwe demonstrated the subjective component to me.

‌There comes a subjective preference for goods over money at some point - an unwillingness to hold cash without spending it, and then money creation is chasing inflation as much as causing it. Alasdair Macleod's article below if of great interest:

Money and the theory of exchange (goldmoney.com)

What causes such a preference? Whist asset classes other than cash (equities, bonds, real estate and commodities) can be reliably counted on to store value, cash maintains a consistent value. When this is not the case, and money is looking for a safe haven, goods will become better stores of value than cash. Once this process begins it is extremely difficult to reverse, until it's run its course.

‌Higher interest rates were often attributed with getting inflation in the 70s and early 80s under control. But it is worth noting that in 1971 Nixon "temporarily" suspended the gold standard. Suspiciously close to the start of inflation in 1972. The price of gold (which was artificially suppressed) rose from $35/oz to $850/oz by January of 1980.

‌The 70s experienced high unemployment and high inflation. In the 70s, the Dow Jones Industrial average bounced around between 600 and 1000 without the trend going up or down. The 30s depression experienced high unemployment and deflation in general and asset prices. What explains both of these situations just 40 years apart?

‌What will we experience considering that the stock markets have already fallen 30%? As at writing we are either experiencing a serious dead cat bounce (30K to 18K back to 24K), or an inflationary phase has set in.

‌By an inflationary phase, I mean that there has been enough of a deflationary shock to asset prices, that central bank intervention and stimulus will drive these asset prices higher and at the same time produce general goods inflation.

My instinct is that this is a dead cat bounce. Asset prices will go lower again, and money will begin to chase safe havens. Banks will be in trouble, thus real estate will be in trouble. That's equities and real estate falling. Bonds will be highly bought by the Fed and other central banks. They may maintain their value, but not thanks to the private sector. That leaves cash and commodities. Once big money starts buying commodities in order to store value, we will really start to see inflation move into general goods and services - the final products of commodities. Here a preference to hold goods over cash develops.

‌At some point I wonder whether the US Congress (and equivalents around the world) will allow the Fed to buy equities, as the Bank of Japan does. Not quite the route to totalitarianism that Lenin or Stalin imagined.

‌What explains the 70s, I believe, is the unwinding of distortions developed over decades. Money creation did not create a step change in real estate prices. Instead prices increased from 3x an average annual salary to 12x an average annual salary over a couple decades. This has to do with incrementally increasing willingness and ability of buyers.

‌Releasing gold from its peg had the effect of an asset class revaluation/reset. I contend that the suspension of the gold standard would not produce a step change, but an incremental one that lasted at least a decade.

‌In our case, the question regards real relative gains/losses between asset classes:

• Equities
• Bonds
• Real estate
• Cash
• Commodities

Asset class values (relative to other asset classes) are far from fixed - especially due to money creation. Just look at the chart below which relates only gold to stocks.

The initial shock has been, and will continue to be deflationary. This will then develop into an inflationary crash. One where all prices are going up. But the price of bread will go up faster than the price of stocks.

Inflation is on its way. And that's good news.

Broken markets and fragile currencies (goldmoney.com)

Interest rates, time-preference and gold (goldmoney.com)

How to Do Inflation Properly?

‌If inflation is not only inevitable, but necessary...then how should we approach it?

‌The level of money destruction right now is huge. All the indignity of unemployment awaits a significant proportion of our population. Rather than central bank attempts to inflate/maintain asset prices, I'd rather see the use of MMT (modern monetary theory) - not because I see it as a long term solution, but because mass unemployment will be blamed on capitalism and the free market rather than on the money creationists. And it will act as an indirect form of assistance to the unemployed.

MMT contends that governments that control their own currency can spend freely, as they can always create more money to pay off debts in their own currency. That is they don't need to worry about debt - or paying their debt off.

‌At this late stage, now that QT has proven impossible, I believe that Keynesians will slowly transition into MMT advocates. This will be an unconscious response to their environment. Positive Money (in the video below) has the best conscious solution to our predicament. It asserts that Keynesianism solves economic slowdowns by creating more money and therefore more debt. Whereas what is required is to create more money and less debt.

‌Instead of QE, MMT will allow governments to get money into the real economy directly through government spending, tax cuts or via a citizens dividend. Thus money creation will lead to debt/money destruction, rather than increased debt levels.

Australian economist Steve Keen reckons that we are in need of a modern debt jubilee. That is a forgiveness/cancellation of debts. He describes the practice in ancient societies, yet it is completely impracticable to us. So I will point out that all conscious solutions to our predicament are not created alike.

‌Now where I have followed Steve Keen's analysis is in regards to changes in credit. This is extremely interesting when looking at it as part of a country's GDP. He shows that credit plays such a role in GDP that in many contemporary economies, a slow down equivalent to 1/3 of credit can translate to a 5% fall in GDP for example. Credit drives aggregate demand to such as extent that when credit goes negative...watch out, as it will cause a recession.

Arriving at Sound Money

I'm extremely interested in psychology. Psychology itself is not interesting until you realise that what people consciously believe they are doing is very different from what they're actually doing. A socialist sees economics as a zero sum game, and they see themselves as making it more fair. What they're actually doing is treating an open system like a closed system. Sure this can act as an impediment to those who see an open system, but the greatest impediment is to themselves. Such a misapprehension will colour every interaction they conduct, and for the worse.

There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose. - Milton Keynes

It is easy to believe that most of what happens in life is consciously directed. Or that it needs to be, else it wouldn't happen. However, it may be the case that events go largely unguided by human consciousness. Economics has long accepted the value of outcomes as generated by a greater agent...Adam Smith placed his faith in the invisible hand. A theologian would call it God.What is inflation/asset revaluation/reset of not a debt jubilee. More money = more debt. Versus more money = less debt.

Whilst Steve Keen refers to ancient tribes and their practise of debt jubilees, I'd ask him what is the difference between a debt jubilee and inflation?

invisible hand

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The looming derivative crisis (goldmoney.com)

exters pyramid

gold is free of counterparty risk

Bitcoin

unavailability of physical bullion and the paper markets and open contracts

The monetary lessons from Germany (goldmoney.com)

Jacked to the Tits

Onto Politics‌

Bernie Sanders has dropped out. He did beat Pocahontas though. Trump vs Biden

‌I love this clip from the film ' The Big Short'. Jared Vennett is my guy.

‌A lot of characters are secular apocalyptic. Whereas Jared is Christian apocalyptic.