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July 19, 2019 | Two Reasons the Feds Can’t Sit Still

Is an American author of books and articles on economic and financial subjects. He is the founder and president of Agora Publishing, and author of the daily financial column, Diary of a Rogue Economist.

YOUGHAL, IRELAND – Once again, a beautiful summer day here in Ireland.

But we have no time to smell the flowers. It’s Inflate or Die, the new era that began, more or less officially, in May of this year. It was then that the Fed abandoned any pretense of sensible monetary policy and looked for a reason to slash rates to keep the fake boom alive.


The view from Youghal, Ireland

In the Inflate or Die era, the feds have only two choices…

They can add to the supply of fake money (they have no real money) with lower interest rates, tax rebates, quantitative easing (QE), zero interest-rate policy (ZIRP), bigger deficits, more debt, more price distortion… or whatever gimcrackery they can come up with…

…Or they can let the system deflate with recession, asset sell-offs, sad faces, bankruptcies, reputational damage, career impairment, and wealth losses.

There are no other options.

It is the lack of other options that we set out to explore today.

Transports Slump

But before we get to that, we note that the ol’ reliable Dow Jones Transportation Average index tells us the real story. The transport stocks – ships, trucks, and railroads – aren’t sexy. They’re not hip. They’re not the stocks that people boast about owning.

Instead, they are gritty and honest. They tell us when goods are moving. If they’re not rolling on rails, traveling down highways, or floating on the sea – the economy is not booming.

And unconfirmed by the transports, a new high in the Dow Jones Industrial Average is meaningless, according to Dow Theory.

And now, instead of rising to join the Dow industrials at all-time highs, the transports are headed down. Here’s Bloomberg:

Industrials led the S&P 500 Index below 3,000, with CSX Corp. plunging 10% after a weakened sales forecast stoked fears of a prolonged freight slump. The Dow Jones Transportation Average, a barometer of economic growth, tumbled.

Credit From Nowhere

So, let us return to today’s cogitation. Why can’t “growth” continue without more inflation from the feds? Why does the Fed have to lower rates? Why not leave them as they are?

Why does it have to be a case of Inflate or Die?

We can think of two reasons.

First, in our post-1971 fake money system, new money enters the economy as it is borrowed.

When a bank borrows from the Federal Reserve, for example, new money is created by electronic notation. Even when you take out a mortgage, the lender doesn’t go into his vault and pull out a stack of dollar bills. He merely extends credit… from nowhere.

The money supply increases as more people borrow. And as more people borrow, debt increases.

Debt is a measure of what the future owes the past. The war in Iraq may be long over, but Americans will pay for it for generations. The crisis of 2008-2009 may have ended 10 years ago, but the feds spent $10 trillion in deficits supposedly stimulating a recovery – we’ll be financing and refinancing that debt forever.

Monetary Whirlwind

Even now, with more than full employment and the stock market at record highs, the feds are still “stimulating” a recovery with a deficit of over $1 trillion per year… and proposing to lower interest rates below the level of consumer price increases – that is to say, into negative territory.

But with so much debt outstanding, each dollar of extra inflation yields only about 25 cents of growth.

Because, instead of leading to new output, new projects, and more growth… the new credit (inflation) must be used to refinance old loans… to pay interest on old debt… and to keep debt-drenched zombie businesses alive.

You can do the math yourself. Over the last decade, that $20 trillion of extra debt brought forth only $5 trillion of extra GDP.


Remember, stimulus is a fraud. It doesn’t lead to more growth. It simply moves future spending forward and simulates real growth with fake economic activity.

In the advanced stages of consumer price inflation, for example, consumers become frantic to get rid of their currency. They buy cars they don’t need and houses they don’t want.

Bachelors buy baby car seats… teetotalers lay in a supply of Jim Beam… people buy whatever they can to avoid losing money on their wasting currency.

But this monetary whirlwind doesn’t create wealth. It destroys it.

Ground Gives Way

Which brings us to the second reason the feds can’t stand still: the ground gives way beneath them.

When they inflate – either consumer prices or asset prices – they deceive people into thinking we can spend more freely. More spending looks for all the world like “growth”… which causes businesses and investors to make decisions based on a false reading of consumer demand.

The feds also lend short-term, not long-term, at ultra-low rates. You can’t build real long-term businesses on short-term loans. But you can finance tricks and gimmicks to boost your stock price and pay off the insiders.

Overall, the whole economy becomes less focused on real wealth-building and more focused on quick, EZ-money scores. This is the trend of “financialization” we have covered in these pages.

Again, the destruction is probably most obvious in the advanced stages. By then, the speculators are running wild… while real businesses have given up trying to anticipate price changes or borrowing costs.

They have stopped investing in new factories and warehouses. They are just trying – and often failing – to survive. Just look at Venezuela today.

Protect Yourself

What do you do to protect yourself? Bridgewater Associates founder Ray Dalio is wondering. In a research note, he asks:

What will be the next-best currency or storehold of wealth when most reserve currency bankers want to devalue currencies in a fiat system?

The Block continues:

Dalio believes now is a good time for investors to question how the current decade’s reflationary environment paradigm may be unsustainable, and “visualize how the paradigm shift will transpire when that unwinds.”

The note concluded by suggesting investors consider adding gold to their portfolios, and other assets that perform well in times when money is being depreciated and amid ongoing domestic and international strife.

More tomorrow…




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July 19th, 2019

Posted In: Bill Bonner's Diary

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