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The world is doomed to an endless cycle of bubble, financial crisis and currency collapse. Get used to it. At least, that is what the world’s central bankers – who gathered in all their wonky majesty last week for the Federal Reserve Bank of Kansas City’s annual conference in Jackson Hole, Wyoming – seem to expect.
All their discussion of the international financial system was marked by a fatalist acceptance of the status quo. Despite the success of unconventional monetary policy and recent big upgrades to financial regulation, we still have no way to tackle imbalances in the global economy, and that means new crises in the future.
Indeed, the problem is becoming worse. Since the collapse in 1971 of the old fixed exchange rate system of Bretton Woods, the world has become used to the “trilemma” of international finance: the impossibility of having free capital flows, fixed exchange rates and an independent monetary policy all at the same time. Most countries have plumped for control over their own monetary policy and a floating exchange rate.
In an excellent new paper presented at Jackson Hole, however, Professor Hélène Rey of the London Business School argued that a global cycle in credit and capital flows – driven by the US Federal Reserve’s monetary policy – means that even a floating exchange rate does not give a country control over its own destiny. The trilemma is, in truth, a dilemma. The choice is this: impose capital controls or let the Fed run your economy.
The shrugging acceptance of this gloomy analysis in Jackson Hole was striking, especially at a time when capital is fleeing the emerging world – pulling down exchange rates – as the Fed ponders a tapering of its asset purchases from $85bn a month. At a minimum, that threatens developing countries with higher inflation and higher interest rates; those that enjoyed the capital inflows a bit too much, such as India and Indonesia, could suffer something worse.
Yet all the debate was about how individual countries can damp the impact of capital flowing in and out. Prof Rey’s own conclusion was that it is hopeless to expect the Fed to set policy with other countries in mind (which would be illegal). She recommended targeted capital controls, tough bank regulation, and domestic policy to cool off credit booms.
In practice, this will never work well. It requires every country in the world to react with discipline to constantly changing capital flows. It is like saying we can cure the common cold if only everyone in the world would wash their hands hourly and never leave the house. Even if it did work, the necessary volatility of policy would still impose painful economic costs on the countries acting this way.
But it is not the only choice. Five years ago, after the collapse of Lehman Brothers, there was appetite and momentum for a new kind of international financial system. That appetite is gone – but we desperately need to get it back.
The flaws in the international financial system are old and profound, and they defeat any effort to work around them. Chief among them is the lack of a mechanism to force any country with a current account surplus to reduce it. Huge imbalances – such as the Chinese surplus that sent a flood of capital into the US and helped create the financial crisis – can therefore develop and persist.
Indeed, running a surplus is wise because there is no international central bank to rely on if investors decide they want to pull capital out of your country. There is the International Monetary Fund – but Asian countries tried that in 1997, and the experience was so delightful they have been piling up foreign exchange reserves ever since to avoid a repeat.
A reliable backstop is impossible when the international system relies on a national currency – the US dollar – as its reserve asset. Only the Fed makes dollars. In a crisis, there are never enough of them – a shortage that will only get worse as the world economy grows relative to the US – even if the problem for emerging markets right now is too many of them.
The answer is what John Maynard Keynes proposed in the 1930s: an international reserve asset, rules for pricing national currencies against it, and penalties for countries that run a persistent surplus. After the financial crisis there was a flood of proposals along these lines from the UN, from the economist Joseph Stiglitz, and even from the governor of the People’s Bank of China. None has gone anywhere.
Even the most basic first step towards that goal – boosting the IMF’s resources and handing more voting power to emerging markets so they can rely on it in time of need – has stalled in the US Congress.
The potential for reform, however, is greater than it has been for decades. The crisis and recession have reduced global imbalances – if only temporarily. So China, for example, would no longer have to make a big immediate adjustment to reduce its surplus. The financial crisis also gave the US a vivid lesson in the disadvantages of supplying the world’s reserve currency. Emerging markets are getting a reminder of the perils of importing US monetary policy.
Gradual change is more plausible than a sudden revolution – but the time to make progress is now. A stable international financial system has eluded the world since the end of the gold standard. The first condition for creating one, however, is the ambition to try.
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In any discussion about privacy, there’s invariably someone who says, “Well, if you have nothing to hide, you have nothing to fear.”
What a bunch of baloney. This may be one of the most ignorant statements ever uttered yet it’s held by a wide majority of people who still trust their governments.
Yesterday the Guardian newspaper published yet another example of why this thinking is completely fallacious.
On Wednesday of this week, Michele Catalano and her husband, both residents of Long Island, were greeted by a knock at the door by a counter-terrorism task force.
Apparently their Google searches had aroused intense suspicion. She was looking for pressure cookers online. Her husband was searching for backpacks.
Ordinarily those two items would seem completely harmless. But in such an absurd, security-conscious world where finger-nail clippers are considered deadly weapons, a pressure cooker and a backpack are viewed as vital tools in a terrorist’s toolkit… practically WMDs.
And so, Big Brother’s crew of six government agents arrived to the family’s home with weapons in holster, and their vehicles tactically positioned to block any exit from the premises.
The husband was questioned, and the agents searched the house looking for any other terrorist clues.
And in their conversation, the agents proclaimed that they do this “about 100 times a week.”
Apparently this is what passes as a free society these days, where even the most harmless online interactions end up being scrutinized by armed agents.
And thanks to a never-ending and expanding apparatus of online surveillance, governments have the means to monitor… almost everyone.
Of course, they want us to think that we have nothing to fear as long as we have nothing to hide. But a rational, thinking person has got to see the writing on the wall at this point and realize how out of control the police state has become.
Remember, there are a number of ways to safeguard your web browsing, search experience, email, and phone calls. And we’ve put a lot of great resources together for you in this free guide, something that we call ‘How to give the NSA the finger.’
If you haven’t downloaded it already, please spend some time to read it and implement some of the many free solutions available. And feel free to share it with friends and loved ones.
Click here to download the free report.
Cars may be machines, but they can still be incredibly sexy.
Curving lines, powerful engines, and outrageous luxury can draw people in just as much as a pretty face.
That’s why we’ve assembled this list of the 50 sexiest cars of the past century.
We’ve got American muscle, Italian speed, and British luxury. We even have Swedish power.
Some of these cars were lemons, some were total flops. Others were wildly successful and are still on the market today. But every last one is packed with sex appeal.
….read & view more HERE
Those who follow the mainstream media’s “all Federal Reserve, all the time” coverage of financial news naturally conclude that Senator Chuck Schumer neatly summarized reality last year when he declared that the Federal Reserve “is the only game in town.”
This obsessive focus on Federal Reserve policies and pronouncements has several causes, including
1. laziness; i.e., publishing press releases and official spin as “news”
2. willful ignorance
3. craven desire to tout the party line, lest the plumage of someone higher up become ruffled and the messengers be sent to the career guillotine
4. adolescent faith in an all-powerful financial Deity (the Federal Reserve) being far less troubling than skepticism, and
5. all the other lemmings are persuasively running in that direction, so it must be right
This lemming-like belief in the power of the Federal Reserve generates its own psychological force field, of course; the actual power of the Fed is superseded by the belief in its power. The widespread belief in the Fed’s omnipotence is the source of the Fed’s power to move markets.
We can thus anticipate widespread disbelief at the discovery that the Fed is either irrelevant or an impediment to the non-asset-bubble parts of the economy.
Once ensconced in the comfort of the Fed Cargo Cult, it’s easy to believe that the Fed-inflated asset bubbles in stocks, bonds, and real estate are either the most important sectors of the economy, or they accurately reflect the real economy.
But if we emerge from the dark hut of the Fed Cargo Cult into the bright sun of reality, we find that everything that really matters in the real (i.e., non-Wall-Street) economy is outside the control of the Fed.
What the Fed Does Control
For context, let’s recall what the Fed actually does control:
1. The Fed controls the Fed Funds Rate; i.e., the lending rate between banks.
2. The Fed can influence interest rates in the real economy by buying and selling Treasury bonds and other securities; i.e., increasing or decreasing liquidity/money supply.
3. The Fed can make funds available to the financial sector. During the 2008 Global Financial Crisis, the Fed loaned over $16 trillion to large global banks. This is roughly equal to the entire gross domestic product (GDP) of the U.S.; all residential mortgages in the U.S. total about $9.4 trillion.
4. The Fed can invoke the public-relations magic created by belief in its power to issue grandiose pronouncements; for example, “we’ll keep interest rates low essentially forever.”
That this is, strictly speaking, not completely within the Fed’s power is left unsaid, lest the magic dissipate.
So the godlike powers of the Fed boil down to three levers:
What the Fed Doesn’t Control
Here’s what the Fed cannot do:
1. It cannot force any enterprise or person to borrow more money.
2. It cannot differentiate between productive investments and financial speculation/malinvestments.
3. It cannot distribute money to households by dropping cash from helicopters; all it can do is make money available to banks.
Since it can’t do any of these, its powers in the real economy are severely limited.
In actuality, the Fed has little control or influence over the things that really matter in the real economy.
Innovation and the Fed
Innovation is often a meaningless buzzword (think “financial innovation”), but it is also the key driver of wealth creation in the real economy.
The Federal Reserve could be shut down and all its asset bubbles could pop, and innovations in energy, agriculture, transportation, education, media, medicine, etc. would continue to impact the availability and abundance of what really matters in the real world: energy, knowledge, water, food, and opportunity, to name a few off the top of a long list.
It is rather striking, isn’t it? The supposedly omnipotent Fed has virtually no positive role in the key driver of wealth creation. On the contrary, the Fed’s policies have had an actively negative influence, as its monetary manipulations have distorted the investment landscape so drastically that capital pours into unproductive speculative bubbles rather than into productive innovation because the return on Fed-backed speculation is higher and the risk is lower (recall the Fed’s $16 trillion bailout of banks; including guarantees, the total aid extended by the Fed exceeded $23 trillion; the landscape looks different when the Fed has your back).
Profits from speculative gambling in malinvestments are yours to keep, while losses are either transferred to the public or buried in the Fed’s balance sheet. Why bother seeking real-world returns earned from real innovations?
Apologists within the Fed Cargo Cult’s gloomy hut (repetitive chanting can be heard through the thin walls—humba, humba, aggregate demand!) claim that the Fed’s financial repression of interest rates boosts innovation by making money cheap for innovators to borrow.
But this is precisely backward: cheap money fuels unproductive speculative bubbles and siphons resources away from innovation, while high interest rates reward innovation and punish malinvestments and financial gambling.
Two thought experiments illustrate the dynamic:
The Free Lunch
Let’s say J.Q. Public has the opportunity to borrow $1 billion at 0% interest rate from the Federal Reserve. It costs absolutely nothing to keep the $1 billion. How careful will J.Q. be with the $1 billion? There’s a casino open; why not bet a few thousand dollars at roulette? Actually, why not bet a couple of million? If J.Q. loses the entire $1 billion, there’s no recourse for the lender, while J.Q. gets to keep the winnings (if any).
With essentially free money, there is little incentive to seek out long-term real-world investments that might pay off in the future, and every incentive to seek financial carry trades that generate short-term profits with little risk. In other words, if you can borrow money at 1%, then shifting the funds around the world to lend at 4% generates a 3% return with modest risk. Since 3% guaranteed return beats the uncertain return of investing in innovative real-world companies, the carry trade is the compellingly superior choice.
The Square Meal
If we can only borrow money at an annual rate of 10%, there aren’t many carry trades available, and those that are available are very high-risk. At 10%, we have to sharpen our pencils and select the very best investments that offer the highest returns for the risk.
Let’s say you’re an entrepreneur and it costs 10% per annum to borrow money to pursue a business opportunity. The only investments that make sense at this rate are the ones with outstanding risk-return characteristics.
In other words, cheap money doesn’t incentivize risky investments in high-return innovation; it incentivizes carry trades and financial speculation, which actively siphon off talent and capital that could have been applied to real-world enterprises. High real interest rates force entrepreneurs to choose the best investments, a process that favors high-risk, high-return innovations.
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