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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the power of the Federal Reserve generates its own psychological force field, of course; the actual power of the Fed is superseded by the belief in its power.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.

What do you get when you “cross a Concorde with a rail gun and an air hockey table?”

I know… it sounds like the start of a bad joke. Except there’s no punch line.

Rather, the answer is one of the world’s coolest, most mind-blowing technologies. One with truly groundbreaking, revolutionary potential.

You see, this is how entrepreneur extraordinaire Elon Musk describes something called the “Hyperloop.”

And if you think globalization has made the world smaller, just wait till you see what this innovation could do for us…

Ladies and Gents… Fasten Your Seatbelts as We Enter the Hyperloop

Simply put, the Hyperloop is a futuristic form of travel, whereby passengers will be blasted to their destinations in ultra-high-speed pneumatic vacuum tubes.

Welcome to the “No Wind” Tunnel

Whether you’re in a car, train or plane, wind resistance is the bane of travel. The vehicle needs to push air out of the way to move forward. That takes energy. As speed increases, so does resistance and drag.

Solution? Suck out the air and create a vacuum, so you have no wind resistance. In fact, no inhibiting weather conditions at all.

Now apply that theory to transportation: Build huge vacuum tubes (either on, above or underneath the ground/water) and blast trains through them. As MIT mechanical engineering professor Ernst Frankel tells the BBC, “The advantage of a vacuum tube is that you can achieve very high speeds.”

His team proved it, too. They created a half-mile-long vacuum tube and blasted objects through it as fast as 580 mph — double the speed of a tube with air.

To maintain the conditions for transportation, Frankel says, you’d have “giant pumps keeping a near vacuum in the tube, probably 20-30 miles apart.”

That’s Part 1 of the Hyperloop. But you still have the problem of friction. Enter Part 2…

Vacuum + Magnets = Hyper Speed

Combine the vacuum tube with magnetic levitation technology (maglev) and you’d catapult from high speed to “hyperloop” speed.

Magnetic levitation basically uses the “like” poles on electromagnets to repel two forces. This allows an object to “float,” thus eliminating friction. This is how current maglev train systems in Japan and China work — by magnetizing the train and the area underneath it.

Without friction, the ride is smoother, quieter, and the object can travel much faster. The Chinese system, for example, reaches speeds around 250 mph.

This is the second part of the Hyperloop. Put trains inside vacuum tunnels and propel them using maglev technology and you could achieve ridiculously high speeds.

One company working on the concept is Colorado’s ET3. CEO Daryl Oster calls its technology — Evacuated Tube Transport (ETT) — “space travel on Earth.” ETT’s 400-pound, six-person capsules are capable of hitting 370 mph in-state and 4,000 mph on international travel.

Oster’s optimism doesn’t end there. He says ETT could be up and running for global travel within 10 years. And the price? Based on a 2003 study, he says a 350-mph system would cost $2 million per mile — significantly cheaper than high-speed rail systems and road networks.

It’s not exactly teleportation… but it’s pretty darn close.

We’re talking about traveling at speeds of up to 4,000 mph.

Yes… you read that right.

Boston to San Francisco in four minutes? Well, not quite.

But shooting from the East Coast to the West Coast in less than an hour will be doable…

Or imagine jetting from New York to London in an hour…

And visiting places like Tokyo and Sydney would no longer be epic, 18-hour marathon journeys. Just hop into the Hyperloop and you’d be there in time for dinner.

Our world will shrink dramatically.

Now, you might think this idea is pure science fiction. Reserved for Doctor Who,Star Trek and Ray Bradbury books.

So is it possible? Elon Musk thinks so. And he’s not alone…

He  told AllThingsD in May that his Hyperloop involvement is based on the proposed high-speed train system between Los Angeles and San Francisco… which he says is actually the slowest and most expensive “bullet train” system in the world.

But he was tight-lipped about more details. Fortunately, we won’t have to wait long…

Two weeks ago, Musk tweeted that he’ll “publish Hyperloop alpha design by Aug. 12.”

He’s promised to make it “open source,” as he “hates patents unless critical to company survival.”

And in keeping with his entrepreneurial spirit (Musk co-founded PayPal and is co-founder and CEO of electric car company Tesla Motors and private spaceflight company SpaceX), he wants partners who share his vision of “breakthrough tech done fast without wasting money on BS.”

Music to our ears! We’ll keep you posted on the progress of this exciting technology.

Ahead of the tape,

Louis Basenese

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