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No less than the Fed subscribes to this view...According to Ben Bernanke, the probable future Fed chairman said this: I got this quote from an article on financial sense by Dr. Appel. "On November 21, 2002, Bernanke stated before the National Economists Club in Washington D.C. that; “Like gold, U.S. dollars have value only to the extent that they are strictly limited in supply. But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost.” He went on to say that: “...If we do fall into deflation, however, we can take comfort that the logic of the printing press example must assert itself, and sufficient injections of money will ultimately reverse a deflation.” Throughout this now famous speech, Bernanke described the various methods that the Fed could use to inject liquidity into the banking system. He stated that in addition to acquiring federal backed debt such as Ginnie Mae securities, they could purchase, “foreign government debt, as well as domestic government debt”. I would like to address this statement in two parts. But before I get into this more, I wish to state the following, my thesis: I am sure that simple monetary inflation ( just printing more money) cannot address the issue of a collapse of REAL PRICING POWER and DEMAND. The core issue of a deflation in real economic terms is a collapse of pricing power and a collapse of demand, and merely attempting to utilize simple fiat inflation cannot fundamentally solve the demand problem, but would rather lead immediately to hyperinflation, just another from of collapsing real, lasting aggregate demand. In order for me to illustrate why the two statements above by Bernanke will fail in the objective of salvaging collapsing real aggregate demand in the economy, I will have to provide my definitions of real aggregate demand, and real money. First, what real aggregate demand is. Real aggregate demand is the ability of the economy to cause the sustained demand for anything. The key issue is the word sustained. The level of sustained demand is what ultimately causes not only the sale of present inventory of goods in the supply chain, but the ongoing productive activities that ultimately lead to goods in the supply chain.......and the ensuing cycle of demand for them. Now, since, to make a car for example, we have a world of activities that not only put the vehicle together and distribute, finance and sell it, there are a whole collection of support (production) activities that must occur if the creation and sale of vehicles is to last beyond the present existing vehicle inventory.... those support activities, from mining steel, to forging it into components, to making plastic parts, and all the various activities of the suppliers require one thing that must accompany the purchase of said vehicle.... that is confidence in ongoing demand.... if confidence in ongoing demand were to disappear, then all the very costly supply chain activities would start to cease immediately, the planning, building and purchasing of all the materials for the not yet created vehicles that must keep the supply chain moving..... Now then. If Bernanke were to find deflation emerging in the US, and were to merely cause monetary inflation only, all that would occur is the exhaustion of the existing inventory, and much of the ongoing manufacturing activities to restock the supply chain would ultimately cease because of a lack of confidence in the overall economy and the money of that economy....The ensuing collapse of confidence will cause a collapse of incomes. You would then have lots of dollars chasing cars merely to get money transferred into a real asset, but once the overall value of the money is inflated into oblivion, there being no REAL MONEY anymore, ie money that people will accept, then there will be no need to make cars anymore. And no one will sell a car for that money... hence the objective of creating demand sufficient to overcome emerging deflation will just ultimately lead to the demise of the said currency, but never address the fundamental collapsing demand issues.... and we will just get a collapsed currency combined with collapsing demand.... in other words a hyperinflationary collapse, and depression.... This fact that money can lose the ability to facilitate demand lies in the following excerpt of Bernanke's first statement above: "Like gold, U.S. dollars have value only to the extent that they are strictly limited in supply. " That part is a correct statement. But pray tell, how is a demand problem in the economy to be solved by merely removing the value of a currency? Isn't the problem of demand a little more complicated than just the issue of the value of a currency??? Money can facilitate demand only, but ultimately it cannot foster demand. Here lies the key error of the argument that monetary inflation will solve collapsing demand (deflation). Most definitely. The fact is, that the mere existence of money that people will use to transact is irrelevant to the problem of a demand collapse. The only thing that changing the value of a currency will do is merely spread the remaining real aggregate demand out, and if done unwisely will just exhaust the remaining value of said currency to zero, and significantly create new issues that harm demand in the first place, namely by destroying the blood cells that must exist in the body of the economy to provide oxygen to the cells that consume goods in the first place. Money is the oxygen, or rather the hemoglobin of an economy. It does not create oxygen, it carries oxygen. Merely increasing the number of red blood cells without increasing the attendant hemoglobin will not address an anemia crisis. Nor will it create the oxygen itself. Oxygen has to be present and carried for the whole process to occur. Merely adding more blood does nothing for a patient that is being suffocated by lack of available oxygen. Analogously, merely increasing dollars in circulation does not address the fundamental economic issues that result in collapse of demand. All it does is spread out the remaining demand, like adding more red blood cells but not increasing the density of hemoglobin in the blood. Such an effort will not solve a demand problem but will make it worse. Merely attempting to fix demand issues by injuring the currency does nothing to build aggregate real demand, but rather will just inure the body economy further, after a small stimulative effect... and thus make all the more sure the death of the economy. Now what is the equivalent of hemoglobin in blood to a currency? It is the willingness to accept it in the NORMAL COURSE OF TRANSACTIONS that are representative of the economic activity, ie a measurement of demand but is not demand itself. Now then, let us talk about how demand is really created. If a person has the ability to produce something that others want, and they in turn produce something that the first person wants, an exchange can occur between the two. They can either barter (trade which is very inefficient) or, they can use a mutually agreeable medium of exchange, usually a currency. Currencies are efficient. All a currency does is create efficiencies...it does not create the demand itself. But the currency does not represent the demand itself. It represents the medium of that demand, nothing more..... Adding scads of new currency does not create the demand.... it just increases the medium to enable the existing mutual demands to be exchanged.... Therefore, merely increasing a medium of exchange intrinsically does nothing whatsoever to create demand....that must occur through mutual needs, wants, and ultimately mutual PRODUCTION to enable the willing exchanges to occur in the first place.....or to put it better, the willing mutual exchange of real things, goods and services. In the absence of that ability to mutually provide something real on both sides of the exchange, aggregate demand disappears altogether. So the issue here lies in understanding what real aggregate demand is, and not merely understanding what a currency does. Messing with a currency does not address the fundamental issue whatsoever. Now clearly, when Mr. Bernanke says that all he has to do is alter the value of the exchange medium to fend off deflation, he is confusing the representative of demand for the demand itself.......ie confusing a currency for the actual goods and appetite of those goods themselves. The goods are real. The appetite is real. The currency is a theoretical idea that is not real. Tell me, when you take 20,000$ and buy a car, you get a real thing, but what is that money except pieces of paper? Or worse yet, an electronic balance that is really just an idea in someone's head??????????????? Why would anyone take that 20000$ in the first place, if he doubted that he would be able to then use it for something else that he wants??? not likely.......... Now what happens in a hyperinflation, is that people initially try to convert as much paper into real things (that's what money is supposed to represent but depends on confidence) and basically once all the value of the total stock of currency is converted reluctantly into 500 pairs of shoes a person can't use.... the economy is now dead. Now we have to go to the incredibly inefficient barter system......... and now all those goods are worth less than they would otherwise be, because of all the overhead of effort needed to redistribute them in various exchanges hither and yon.....And now, we have people with goods worth less than orginally, because of inefficiencies of transaction.. sounds just like a massive deflationary force to me. How, by reducing a currency's value, namely attacking the very thing that makes it able to foster economic efficiencies, do you expect to foster ongoing demand???? That is absurd. Yes, the collapse of a currency through hyper inflation does more than just stop transacting, it actually lowers the value of the remaining goods out there and further impoverishes the community, thereby further reducing their real wealth because one person cannot use 500 pairs of shoes, those 500 shoes are valuable only when they are properly distributed in a timely manner to people here and there who need that type at that time..... So ultimately, rather than only causing flight from paper to real goods, the whole system now becomes further impoverished and less able to transact, a thing that is essential for an economy to function efficiently..... It would be like the US GDP collapsed all of a sudden by 30 or 50 percent with the same amount of goods! How does that help demand to function eh???? Then why think that inflating a currency into zilch will solve demand issues, namely deflation????????? Now we get to the other method of artificially creating demand, and that is through debt, or borrowing from the future. This leads us to the second part of Mr. Bernanke's statement: "Throughout this now famous speech, Bernanke described the various methods that the Fed could use to inject liquidity into the banking system. He stated that in addition to acquiring federal backed debt such as Ginnie Mae securities, they could purchase, “foreign government debt, as well as domestic government debt”. This mechanism is the method of choice for the whole world right now... ie creating and fostering debt, borrowing demand from the future, to address a demand issue in the first place....... What the world is doing right now, is borrowing demand from the future. Japan is fostering this in their Yen carry trade that artificially lowers interest rates in the US, stimulates demand for Toyotas, and indebts the US consumer more, and makes him borrow from his future ability to demand goods. China is fostering demand artificially, by purchasing UST bonds, recycling US dollars back in a massive vendor finance program, and enables the US consumer to borrow more from his future ability to demand goods. Sounds like a massive deflationary force to me. Nations that abuse currency rates, borrow demand from their own citizens, and transfer that to another nation... in a vendor finance operation... The US housing bubble, is a massive borrowing from the future operation that the world encourages, enabling the US consumer to borrow all the demand from the future that HE can underwrite personally. So, we have Japan fostering the ability of the world consumer by effectively lending their own national demand to the US. China is enabling the US consumer to borrow Chinese future demand by debasing the Yuan (do not confuse this with the present debate on China revaluing their Yuan/Reminbi they have already undertaken a massive devaluing of the Yuan/Reminbi that is being sought to be revalued by the US) , and thus lending Chinese future demand to the US. The US consumer is borrowing all the demand he can from the future merely using the housing boom as a mechanism to indebt themselves. Ultimately they will be left with houses that they paid too much for, using those as collateral for loans that enabled them to borrow all the demand possible, from not only themselves but from Japan and China as well....The houses will devalue but the outstanding loans will remain. All the housing boom is, in the final analysis, is a mechanism to borrow from the future. No more, no less. This sounds like a massive deflationary force to me. If deflation is defined as a collapse of demand, then what will borrowing from future demand accomplish, except to pre place a future collapse of demand? And of course we have the rest of the world, again borrowing all the demand they can muster themselves, using their own housing bubbles that are merely vehicles to collateralize debts, which is borrowing against their respective futures as well. Now then, we have double and triple indemnity. First, the US consumer borrows all the future demand he can himself. The the Chinese, Japanese and so on, lend the US consumer all the demand that they can offer from their own citizenry, by either debasing their currencies, or cycling US trade dollars into US T bills, or the asset backed securities... and a whole plethora of vehicles that facilitate such borrowing.. and the Yen carry trade and so on. SO, the US consumer has now borrowed everything he can TWICE OVER... and now for triple indemnity, China, Japan and Asia have now borrowed their own demand from their own future using their own asset bubbles as the vehicle to collateralize the debts created against themselves as well! The whole world has now borrowed two or three times all the demand they can from the future! Now do tell me, how is a mere currency inflation going to address all this???? Since the whole problem is being facilitated in part by currency debasements, Concurrent Yen carry trades, Yen debasements, and same for China, even though they have been letting the Yuan strengthen, they have really debased their own money system through debts and asset bubble finance....and only the whole rest of the world has done the same.... I am not covering everything here. I'll just have to write a book about this... and that is coming, I plan to write first, an ebook about the coming collapses world wide, the core nature of that collapse, how it will occur.... and even what you can do about it.. there are some things that will work .....the strategies that I have come upon are not what you usually read about. By the way, I have gone beyond gold as the answer, gold is the answer for cash assets tho. I'm finding somewhat more than was my usual 'gold only' refrain. That material is being developed as I research and think about what is coming, as I go it along. Also, the ebook on financial paradigms is still in process, but this is all morphing into a larger work. I'm not going to give the title of the first ebook now because I want to surprise you. But when you hear the title, you will immediately see what I am talking about as a gestalt, that is, if you have been following me for a while. The implications of what I am seeing is astounding. We aren't only talking depression.....that is only part of what is to come.
The Prudent Squirrel newsletter is Chris Laird’s weekly macroeconomic gold newsletter. A month or so ago, I predicted the short term gold bear market is over based on the weak USD and the continuing concern in the Mid East. That has proven to be true – holding up gold in spite of weakness in the base metals…. Stop by and have a look. CONTACT
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