Saturday Economic Musings


By Karl Denninger

The dichotomy of the following two pieces is rather sobering, when one considers the implications. 

First, from George Soros: 

“The collapse of the financial system as we know it is real, and the crisis is far from over,” Soros said today at a conference in Vienna. “Indeed, we have just entered Act II of the drama.” 

Soros, 79, said the current situation in the world economy is “eerily” reminiscent of the 1930s with governments under pressure to narrow their budget deficits at a time when the economic recovery is weak.  

That, of course, is because the original medicine was incorrect.  The entire financial world, including Soros, advocated for (and got) more Keynesian stimulus – that is, more debt applies to an over-levered debt-laden world. 

Indeed, as the below shows, the fundamental instability here is not one of excess capacity, it is one of excess debt – an excess that has built up since the early 1980s: 


This, incidentally, is not just a US-centric thing.  It is a global problem and rests at the root of virtually all of the ills.  By willfully and intentionally abdicating the black-letter responsibility vested in The Federal Reserve, and by our Congress and Executive refusing to hold The Fed to account in regard to its core mission, the stage was set. 

What core mission? 

The Board of Governors of the Federal Reserve System and the Federal Open Market Committee shall maintain long run growth of the monetary and credit aggregates commensurate with the economy’s long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates.  

[12 USC 225a. As added by act of November 16, 1977 (91 Stat. 1387) and amended by acts of October 27, 1978 (92 Stat. 1897); Aug. 23, 1988 (102 Stat. 1375); and Dec. 27, 2000 (114 Stat. 3028).] 

“Stable prices” does not mean “inflation at some rate.”  Stable means stable – that is, level, unchanging, etc. 

The Fed has willfully and intentionally refused to follow the law and Congress and The Executive have willfully and intentionally refused to enforce the law. 

From here all other evils in the economy flow. 

For example, for March 30th: 

Rising stock prices, a stabilizing housing market and fewer firings may be giving households hope that the recovery from the worst recession since the 1930s will be sustained. The 184,000 increase in payrolls economists project for this month shows it will take years for the economy to reverse the loss of 8.4 million jobs since the contraction began in December 2007. 

Why would rising stock prices matter?  

The government’s refusal to hold The Fed accountable to it’s mission has effectively forced people to “invest” in what amount to serial Ponzi Schemes in an attempt to have anything at all for retirement! 

Why would government do this?  

Because it forces dependency.  

Social Security and Medicare would both be immaterial and unnecessary if it was possible to simply sock away 10% of one’s earnings every year for retirement, and wind up with the same purchasing power at the end as you began with. 

Consider the person who earns $50,000 a year “on average” from entry into th workforce at 23 (assuming a college education) to 65.  If we have stable prices then wages would also remain stable.  So said person, assuming no promotions or improvements in their contribution to society (as measured by their productivity) works for 42 years and puts away $5,000 x 42 = $210,000. 

At 65 they retire and live 20 more years, to 85.  They can take $10,500 a year from that money, assuming zero dividends or otherwise, and live on it. 

But zero isn’t realistic.  What’s the operating return on a real business?  Presume it’s 10% – again, in constant dollars.  Further presume that as owners, you decide (shareholders are owners, right?) that half of this should be returned to the owners, and half plowed back into the company in development of further opportunity.  We now can take out $10,000 a year in dividends and never touch the principal, or we could run a 2 or 3% “depletion rate” on the principal and live on the mixture. 

Now you say “but that’s not enough!”  Ah, but during those years they also bought a house and were paying for it over time.  By 65, they own it free and clear.  If that house was a $100,000 (again, we’re assuming stable prices) home it still is, and they now have $310,000.  Now we’re up to $18,000-$20,000 a year in lifestyle. 

Perfect?  No, but remember, in retirement your expenses tend to drop as you don’t need to drive to work, you don’t need fancy suits or other clothing, there is no need to go out to lunch every day and other similar things. 

You want more?  Save more. 

Note that nowhere in this analysis have I factored in any sort of compound growth!  It isn’t necessary any more for you to “make it”, nor is any sort of government nonsense necessary either.  Mere saving is now enough! 

What else does the current intentional malfeasance lead to?  This sort of crap: 

Has the worm turned at last? As the oil continues to gush in the Gulf of Mexico, angry rhetoric has gushed from President Barack Obama’s lips. His rabid denunciations of BP have damaged the interests not only of that company but of most British people, in a way that must make us wonder whether he leads a friendly country. 


As BP’s share price has plummeted, it has lost £55billion of its market value, and the company’s entire outlook is very bleak, which affects most of us. Every British insurance company, building society and pension fund has large holdings of BP shares in its portfolio.  

If you have a pension, at present or in prospect, your income falls with every sour word Obama speaks. It’s a fine way for a friend to behave, if indeed we should regard the president as a friend. 

Spoken like a true douchebag banker apologist. 

In point of fact I suspect Mr. Wheatcroft is simply brainwashed by the idiocy of the time, rather than being in the pocket of the bankster cult.  After all, when one grows up with and lives under a structure that over the intermediate and long run cannot be stable, but which appears to produce “prosperity” for a time, it is difficult not to become imbued with the premise that one must have “compound growth” of earnings (and interest) to be able to “make prosperity.” 

In point of fact chasing compound return is how pensioners and insurance companies got in this mess.  Such a quest is an unsustainable Ponzi Scheme that was always doomed to fail – we were merely arguing over the when, not the what.  That BP found itself pressured by the demands to fulfill ever-rising profit expectations and thus allegedly decided to install and operate generators without working airdoor shutdowns along with continuing to drill while either knowing or being able to know that critical safety equipment was inoperative in fact doesn’t change this set of facts, it underlines them. 

Similarly, Foxconn, which is a contract manufacturer in China that makes Apple iPhones and HP Computers (among other things) is rumored to be intending to pull out of the nation and head for sunnier shores – in India, Vietnam and Taiwan.  Suicides at their plants have brought them under intense pressure – deaths blamed on harsh working conditions.  When one considers that the average Chinese worker in their plants makes $161 a month (after raises going into effect in July!) the problem should become obvious – these are people who would have to work for nearly three months to afford one of these $500 gadgets. 

Contrast this with the US, where at the current $7.25 minimum wage a worker performing 40 hours of work would earn nearly double that amount in one week.  That is, at minimum wage a worker in the US earns (gross) about $1,300 monthly, or eight times as much.  At the average manufacturing wage in the United States ($10.60 – $15.88 – call it $13 for grins and giggles) said US worker would make $2,340 monthly before taxes – 14.5 times what the Chinese worker makes

Are you really going to argue that for the minimum wage worker the cost of living in America is eight times that in China, or for the average factory worker it is 14 times higher?  Nonsense.  The truth is that said Chinese worker lives in what we consider abject poverty with the boot of the company, enabled by a murderous and thuggish central government that refuses to recognize and honor fundamental human rights, pressed ever-more tightly on the people’s necks. 

If you can drive people like slaves by first buying up and bulldozing their villages to put in your “compounds” where said work is done, then (as a consequence) becoming the only reasonable means of earning anything at all, you can exploit people like this.  

For a while. 

Until they jump off the roof. 

There are many who claim that our “problems” all come from a lack of “hard money” and “The Fed”, including Ron Paul in Congress.  He, and the rest, are wrong. 

The problem isn’t The Fed, it’s Congress.  It’s Ron Paul and the other 534 Ron Paul’s in Congress.  “End The Fed” is a fraudulent premise when in fact The Federal Reserve Act itself contains a legal stricture that imposes, by statute, a zero-inflation mandate – if Congress and The Executive would only enforce it. 

The Federal Reserve Act provides for a proper and correct monetary system.  Whether the currency is backed by gold, bushels of corn or grains of rice is immaterial if one is allowed to extend credit without bound.  The Federal Reserve Act is supposed to place upon The Fed a stricture not to allow that, and they have the ability to prevent it through control of leverage – which they are absolutely capable of exercising (e.g. reserve ratio requirements, etc.) 

The failure to do so is no accident, it is policy.  Policy of Congress and policy of The Executive, just as it was policy that allowed S&Ls to backdate deposits and detonate the FSLIC and one of the very regulators at OTS who allowed that to happen did the exact same thing with IndyMac bank 20 years down the road! 

Regulation and law without enforcement is no law at all.  We have seen this time and time again – with liar loans, with securities sold to investors that didn’t really contain what was claimed to be within them, with leverage constraints removed and now with BP, which managed to drill with, it appears, critical safety measures (that were supposed to be present) inoperative or damaged. 

When the disaster then strikes we have people cry poverty of foreknowledge, claiming that “nobody could have predicted this” and “nobody saw it coming.” 


If you drill oil wells with an inoperative blowout preventer than eventually you will drill a hole that blows out and you will be unable to stop it. 

If you make liar loans and sell securities based on them claiming to have “good paper” when it is in fact trash, eventually the number of suckers available to continue to ponzi scheme will be exhausted and the financial market(s) associated with same will collapse. 

Mathematically, the results over sufficient periods of time are certain.  While it is true that “nobody can tell you in advance which trial of a probability game will result in the bad outcome”, what everyone who analyzes such a mathematical system can tell you is that the ultimate outcome is not one of chance, but certainty – the only element of uncertainty is WHEN the bad outcome will be realized, not if it will

We as Americans (and indeed as citizens of the world) must demand that the purveyors of schemes that contain these sorts of “will fail, without question of outcome, only time” elements be held to full account personally for their willful and intentional malfeasance.  

This, in the context of BP, means each and every executive up and down the line who knew the blowout preventer was not at 100% of design capacity to interrupt a blowout along with each and every person who knew that the generator engines lacked air doors.  The former is the cause of being unable to shut down the well, the latter is the proximate cause of ignition of the gas that was ejected during the blowout and thus the explosion, fire and destruction of the rig, along with the death of 11 men. 

In the context of our financial system it means that we must put into the dock and demand the removal of each and every lawmaker and regulator who allowed credit aggregates to grow to double their long-run sustainable values.  We must force those aggregates to contract to sustainable values and accept the economic contraction and deflation that must come with it, in order to restore long-run stability.  At the same time we must put a full and complete stop to the sort of global wage arbitrage that has been enabled by and fueled this insane game, along with all the “high frequency trading” games that have replaced the proper public and social purpose of public equity and debt markets in the first place (the raising and allocation of capital for legitimate business purpose.) 

Doing so requires we “clean house” at the legislative and executive levels.  Those current lawmakers who wish to retain their jobs must immediately demonstrate that they “Get It” and will act here and now to put a stop to the BS.  A few steps that would do so would be reinstatement of Glass-Steagall, a one-second rule for all orders entered on stock, commodity and futures exchanges (once entered no order may be modified or canceled for one second, which would make the “dancing games” of the HFT boys instantly unprofitable) and a stop to all “specialized” information flows for these folks not available to ordinary investors (and by which they cheat said ordinary investors.) 

In addition The Government must demand of The Fed that it immediately bring to bear its tools to contract total systemic credit outstanding to a ratio commensurate with the long-run stable economic levels known for more than fifty years – that is, no higher than 175% of GDP economy-wide.  Provide for a five year period during which this adjustment must take place, and that aggregates must fall by at least 1/5th of the requirement adjustment from top to bottom each year, with the penalty for failure being de-certification of The Federal Reserve and reversion to Treasury of monetary control. 

Finally, regulatory statutes in the United States, including The Federal Reserve Act, Prompt Corrective Action, MMS regulations governing oil and gas drilling and elsewhere must all be revised to contain an “or else” that is criminally enforceable against government actors who fail to perform their duties, and a civil cause of action and standing for each taxpayer. 

The day in which one may rob a bank or poison a waterway through regulatory malfeasance and corruption and go free, yet the same crime committed with a ski mask, hold-up note and a gun draws a 20 year sentence must end. The Market-Ticker