Congress Must Act Now To Save America’s Homes or Seal Our Fate!

INTRODUCTION:

As of December 2011, housing prices have fallen 38% nationally, 7% more than during the Great Depression. While pricing has already dipped below the trend line that housing might have followed had the housing bubble not occurred, the outlook is for prices to continue freefalling another 4% during 2012. Some experts predict prices could drop nationally below 50 % of peak levels or more. Yet others suggest that economic fundamentals should be supporting a leveling of prices, and they wonder if normal economics of supply and demand have abandoned the housing market altogether.

Even though they may not appear so, the rules of economics actually still do apply to the housing market, and unfortunately they point ominously to even more alarming conditions in the years ahead. While many believe that Congress makes things worse every time they fiddle with the economy, Congress really has no choice but to intervene in this housing market if we are to save a cornerstone of America’s economic future. This post describes why housing prices rose and fell, and why they will continue to fall in the absence of intervention. It suggests why half the home mortgages in America could end up underwater and disrupt our economy for decades to come if Congress fails to act.

HOUSING’S RISE:

1995: Total housing units (in millions) 112.6 Renter Occupied 35.2 Vacant 12.7

In the five decades leading up to the 2000s building frenzy, housing prices rose predictably according to the principles of supply and demand. Housing pricing surged and slumped in response to peaks and troughs of business cycles, increases and decreases in interest rates, and growing or obsolescing local market commerce. Yet, nationally, averages followed historical patterns of a gradually rising nominal price market. Adjusted for home square footage that increased with each decade, new home prices tracked inflation nationally. Housing starts followed population growth, and as a major 14 % component of America’s GDP, housing generally has led the nation out of recessions.

Beginning in the mid 1990s however, housing economics began a dramatic divergence from historical trends. For the next decade, a sustained building spree added 6.6 million more housing units than was needed to support the rise in U.S. population, as many as one million units per year. In a rationally functioning market, this excessive addition of new homes would have quickly precipitated a business cycle slump and prices would have dropped to encourage a slowdown of new housing starts. But America got caught up in a housing frenzy and added enough demand to absorb this excessive supply while bidding prices up 225% above their historical trend line, a speculation that Fed Chairman Alan Greenspan as early as 1997 called an “irrational exuberance”.

COMPONENTS OF INCREASED DEMAND:

2006: Total housing units (in millions) 126.6 Renter Occupied 34.1 Vacant 16.7

LOW INCOME BUYERS: Some blame the excessive demand that pushed pricing well above its historical trend line on low income buyers who benefited from government regulations that forced lenders to ease requirements for lending. By passing the Community Reinvestment Act (CRA) and substantially revising regulations in 1995, Congress pulled these non-traditional buyers and their higher risk into the housing market. In doing so, Congress did nudge the beginning of the feeding frenzy, but the immediate effect of adding these buyers was not a large component of demand but merely a catalyst of future demand.

More importantly to the housing bubble than the numbers of low income CRA buyers was their impact on creative financing. Being forced into accepting additional risk, banks responded by creating risk spreading financial tools to mitigate high-risk, subprime loans. These tools would later be used to set the housing industry ablaze. Without them, the Housing Ponzi could not have developed.

BABY BOOMERS: Others blame the added demand of the bubble on Baby Boomers whose retirement accounts had been consumed by the bursting of the Dot Com bubble. In need of a quick fix for their fast approaching retirements, some Baby Boomers took advantage of “exotic” loans to buy too much home at too high prices hoping for substantial returns. As more Boomers entered the market, they pushed up home prices and acquired excessive debt in the process. At the beginning of the bubble, the median home price was $120,000 and the median income was $73,000, a ratio of 1.65. At the peak, the median home price had soared to $215,000 but incomes remained the same increasing the loan to income ratio to 2.94, an unsustainable level.

To cover the shortfall of income needed to make their new debt payments, consumers relied on home equity loans and credit card debt. Between 2000 and 2006, home equity debt increased $1.2 trillion and credit card debt rose $900 billion, again to unsustainable levels. By the peak of the Ponzi, home ownership had surged from a historical 65.1 percent to a 69.9 percent of the population and home ownership debt load had increased from 65% of GDP to an unsustainable 110%.

CONGRESS: More blame the actions of Congress for the housing bubble than the addition of non-traditional buyers and overreaching Baby Boomers. Certainly the Community Reinvestment Act and its subsequent regulatory revisions in 1995, including HUD’s direction that Fannie Mae and Freddy Mac set aside 50% of guaranty funds for low income earners, increased subprime loans tenfold and increased demand. But the repeal of Glass-Steagall, through the Financial Services Modernization Act of 1999 that allowed commercial-banking, Wall Street banks, and the insurance industry to merge, created banking products that swelled demand much more. And the Commodities Futures Modernization Act of 2000, that excluded certain financial commodities from oversight by the Commodity Futures Trading Commission, the Securities and Exchange Commission, the Federal Reserve, and state insurance regulators, allowed bankers to flood the world with lucrative credit-default swaps and to push exotic retail products into a growing speculative housing market to feed the swap market. Without the collusion of Congress, the irrational exuberance of consumers needed to fuel housing’s excessive demand could not have been enticed by the resulting banking products.

INVESTMENT BANKING: Most place the blame for the Housing Ponzi squarely on the shoulders of investment bankers. To allow non-traditional buyers into the market in the mid 1990s, banks initiated low doc and low down payment introductory loans to the primary market and combined these loans with others to form securities called Collateralized Debt Obligations (CDOs) which were then sold into the secondary market to transfer bank risk off their books. While 52% of low income loans were securitized by Fannie Mae and Freddie Mac in the early years, securitization quickly became a lucrative international commodity product of investment bankers and the market topped $2 trillion at its peak in 2006.

Yet as big a profit maker as CDOs were, an even greater profit was made in the issuance of Credit Default Swaps (CDSs), a form of unregulated insurance that allowed banks to take the risk of loans off their books, to increase their loan-to-collateral values four fold, and to profit from insuring events that they thought could never occur. At the peak of the Ponzi, the CDS outstanding market topped $60 trillion and had made $4 trillion in profits for participants in just three short years, much more than the $2.7 billion paid for lobbying Congress or the $1 billion paid in campaign contributions by the financial industry (peanuts in comparison) to persuade Congress’s votes allowing this free-for-all in the decade prior to the financial crisis.

To feed this frenetic pace of profiteering, international banking required the pace of loan origination to increase even though housing prices were accelerating upward beyond traditional affordability, and thus they began what became their final phase to lure additional demand. To bring the last customers into the Ponzi before its collapse, banks introduced a myriad of “exotic” loan products. After low doc and low down payment loans came no down payment and no doc loans. Later, interest only and negative amortization loans were offered. Banks then created piggy back loans with first and second mortgages that eliminated PMI and even offered to finance closing costs. From 2003 until the peak of the Ponzi, fully 25% of mortgage loans included teaser introductory rates. And in the final two years of the housing spree, banks allowed consumers to acquire pay-option mortgages that gave them the choice each month of paying fully amortized, interest only, or even very small monthly minimum payments. All of these risky products fed the secondary CDO and CDS market with mortgage securities by targeting the U.S. market for excess demand and exuberant prices.

RISING HOME PRICES: By 2003, all semblances of historical housing pricing metrics were gone. Brokers, agents, and bankers all explained that the new measurement of housing value was not bound by either the historical rental rate of housing or the constraint of trailing American incomes, but was instead measured by a new metric, combining these traditional valuations with the rate of return of increasing home prices themselves, thus spurring a real estate bubble with the fallacies of hope and greed. Half of all home buyers responded to this new flawed ideal by purchasing beyond their means, and in the process, pushing up the price of housing.

FEDERAL RESERVE: The Federal Reserve, flush with investment from China and concerned about recession because of the bursting of the Dot Com bubble and the economic shock of 9/11, consciously chose to support the housing surge through lowering of interest rates from 2001 through 2005. As a result, average mortgage rates reduced through the period from 7.9 percent to 5.6 percent, increasing demand and supporting higher home prices.

SECURITIES AND EXCHANGE COMMISION: The SEC inexplicably allowed five of the nation’s largest brokers to waive their capital-to-debt requirements that had historically been held to a 12 to 1 ratio. The brokers responded by leveraging their capital as high as 40 to 1, adding liquidity to debt financing, fueling housing demand, and pushing up pricing. Three of the five qualifying brokers later went bankrupt or were absorbed by other firms.

In the aftermath of the financial crisis, when many are demanding prosecutions of what seems to have been criminal actions by some in the financing industry, the SEC has been loath to act. Data suggests that the SEC had significant knowledge of financial firms’ negligence in following regulations for several years prior to the financial crisis and yet the SEC chose not to act on its knowledge. If the SEC were to take action now, the resulting trials would focus as much on the SEC’s foreknowledge and complicity as they would on the potential criminality of bankers and would shine an ugly light on the revolving door between government and industry, two reasons why the SEC might conspicuously choose to continue its inaction.

THE HOUSING BUBBLE POP:

2008: Total housing units (in millions) 130.3 Renter Occupied 35.8 Vacant 18.6

Inwardly, the banking industry knew that it had stretched the bounds of credibility and sustainability as it introduced riskier and riskier loan products to create additional demand. Bankers feared that resulting aggregate loan to income ratios exceeded all historical limits and might eventually collapse. In fact, some industry insiders even began to bet against CDO portfolios of other companies through CDSs, expecting to profit on rising defaults that began as early as 2004.

So when these defaulting subprime loan cracks appeared in the dyke of this elaborate housing Ponzi, a nervous fog settled in over the entire industry and many began to speculate whether highly leveraged firms such as Bear Sterns could cover their liquidity gaps. After some banks refused to cover Bear Stearns with short term loans, confidence waned, Bear’s stock plummeted, and Bear was purchased by J.P. Morgan Chase. By allowing Bear’s leverage to grow to 35 to 1, the SEC allowed just a 1% loss of asset value to increase Bear’s leverage to over 70 to 1. In this maximum consumer debt environment, that extraordinary leverage caused market confidence to collapse. Lehman Brothers followed suit six months later with a delayed total collapse of their 40 to 1 leveraged firm.

In the after shock of Bear Sterns and Lehman Brothers, the U.S. Government stepped in to rescue Freddy Mac and Fannie Mae, made loans to AIG, put in place a $700 billion bailout of teetering banks, forced the sale of Washington Mutual to J.P. Morgan Chase, and implemented a stimulus plan to strengthen Wall Street. The two remaining firms that had taken advantage of the SECs allowance of extreme leveraging, Goldman Sachs and Morgan Stanley, abandoned their status as investment banks. One effect of such sweeping industry changes was to substantially reduce the demand for higher risk mortgage CDOs in the secondary market, thereby dampening exotic retail products which then diminished housing demand and depressed pricing.

THE UNWINDING OF HOUSING SUPPLY AND DEMAND:

2011: Total housing units (in millions) 131.2 Renter Occupied 38.3 Vacant 18.7

SUPPLY:

EXISTING INVENTORY: At the peak of the housing bubble, housing inventory for sale equaled about 4 months of sales. From that point, listed inventory rose steadily to level off at about 9 months of inventory. Additional shadow inventory being withheld from the market, such as bank REOs, has kept listed supply at about 9 months for the past two years. However, as housing prices continue to decline, more houses will be returned to banks either through walk-aways or foreclosures, adding to bank’s already significant shadow inventory. In addition, job uncertainty and job immobility due to housing illiquidity continues to add to shadow supply. If demand increases, shadow inventory will flow into the market and continue to depress pricing.

NEW INVENTORY: Demand for new construction is now running at about half of the 1.2 million new homes per year required to fill the needs of a growing population. The excess supply of existing housing and the increasing cost of new construction commodity materials have combined to keep existing housing prices well below the cost of new construction. This price differential not only pressures construction labor rates downward and reduces profitability of the new construction industry, but it causes demand to be filled by existing homes rather than new ones. Therefore the vacant inventory of existing homes is being absorbed at a rate of 600,000 units a year. At this rate, the excess 6.6 million homes that were built during the Ponzi will not be fully absorbed until 2020, extending pricing slide and/or excessive gap for years to come.

VACANCY RATE: At 9.8%, vacancy rates are about 40% higher than the 40 year historical norm. Vacancy rates increased to such historical highs for two reasons. First, housing construction lagged the housing crisis and new units were completed even as the crisis unfolded. Vacancy rates surged as these lagging units came online. Second, as the crisis unfolded, foreclosure rates increased fivefold adding to the rental population. Increased vacancy rates have depressed pricing.

RENTAL RATE: Home ownership unwound from its Ponzi peak rate of 69.9% back toward its historical averages of 65.1% as home owners gave their homes back to the banks and entered the rental market. As a result of increased demand for rentals, the percentage of new construction rental units has increased. In addition the monthly rental rate in many U.S. markets now exceeds monthly mortgage rates. The growing gap in rental versus mortgage costs suggests either that home buyers are unable or reluctant to buy and indicates a lax demand that is depressing pricing.

DEMAND:

PURCHASE RATE: At a rate of 4.9 million purchases annually, housing purchases are occurring at approximately the rate that would be expected had the bubble not occurred and had the trend of purchases extended with population growth from the early 1990s until now. The current rate of housing purchases is slightly below historical standards, but only appears depressed when compared to the excessive standard of the housing bubble. No indicators point to any trends that will materially increase purchase rates for the foreseeable future. Therefore, an extended period of excess housing supply will continue to support a long term downward drift in pricing.

Buyers have left home ownership in droves since the beginning of the housing crisis by either selling, short selling, walking away from mortgages or being forced out through foreclosures and have shifted to either rentals, sharing quarters with others, or becoming homeless. Home ownership has unwound from its Ponzi peak rate of 69.9% back toward its historical averages of 65.1%. Nonetheless, there are no indicators to suggest in this high unemployment and uncertain business environment that home ownership will level off at its historical average of 65.1%. It will likely continue to decrease, depressing demand and pricing further as a result.

REDUCED DEMAND OF SECONDARY MARKET: While the market for credit default swaps still exists and continues to destabilize the world’s economy, demand for CDSs has dropped to half of its peak of $60 trillion at the height of the housing bubble. Demand for underlying CDOs has been hampered by the scandal of claims to title that has rocked the CDO market. During the frenzy of the housing bubble, short cuts were taken that left the chain of title to millions of individual notes in question, threatening legal entanglement for years to come. At the same time, housing value deteriorated, reducing the value of their packaged CDOs and in some cases triggering repayment from their corresponding CDSs. The resulting title debacle collapsed the secondary market for CDOs, squashed the exotic loan supply, lessened demand for housing, and dampened housing pricing.

REDUCED ACCESS TO CREDIT: Banks, that had received bailouts from the Federal Government in its attempt to preserve lending liquidity, instead chose to reserve funds to enhance balance sheets. In addition, without being able to pass risky loans to the secondary market, banks tightened credit criteria and withdrew to more standard loan products, requiring PMI insurance, higher down payments, higher credit ratings, more solid work histories, and historical income to debt ratios. Tighter credit requirements diminished demand for housing and depressed pricing.

Banks also substantially retracted from the credit card market, eliminating 25% of $5 trillion available credit. In addition, banks increased average rates on credit cards from 10.9 percent to 16.2 percent. Buyers had counted on consumer credit to support their short fall between income and housing debt during the bubble, and without it, home buyers lost the ability to carry higher priced homes. Even though the financial crisis eliminated the motive to flip houses for profit and thus removed a primary reason for excessive use of credit card credit, the loss of credit as a cash management tool for existing housing dampened demand and depressed pricing.

SAVING TREND: After the housing bubble burst, consumers prudently used excess funds to pay down loans, eliminating more than a trillion in housing debt, and more than $100 billion of the peak credit card debt. Another $4 trillion is needed to reduce housing debt overhang and close to $800 billion in credit card debt still remains. If the economy and housing prices continue to drift downward, these numbers will grow. The trend toward repayment has subsided somewhat but continues to remove funds from the purchase market and to depress pricing.

INFLATION: While median salaries essentially remained stagnant throughout the housing bubble and beyond, prices for commodities have increased. As food, energy, clothing and other essential commodity prices continue to increase against a back drop of stagnant wages, less income will be available for housing which will dampen demand and depress pricing.

The Fed has signaled that interest rates will be held at essentially zero for the next two years but the Fed may be forced to change its position as external events overtake it. Housing ARM interest rates are threatened not only by creeping inflation but by rating agency threats over continued Congressional inaction, the Fed’s stuffing of long term treasuries with the its Operation Twist, and by potential overflow reaction as the Euro Zone worsens. The mere uncertainty of interest rate increases that would cause more funds to be used to pay interest instead of higher home prices dampens demand and depresses pricing.

POPULATION DEMOGRAPHICS HAVE SHIFTED: The housing bubble was driven in large part by Baby Boomers who controlled 80 percent of America’s wealth. During the bubble, they aggressively added 12 million housing units to the existing inventory of 112 million units, influencing the size and style of new inventory. Boomers reached beyond their means to buy more square footage than they needed or could afford. From the post war 1950s, the average home gradually increased from 258 square feet per person, but during the bubble, size increases swelled to over 960 square feet per person. To fill the square footage void, boomers added immediately obsolescing features such as gargantuan walk in closets, media rooms, sitting areas, and home offices that would not be valued by the following green generations.

The housing bubble burst just as the Baby Boomers began to retire, wanting to shed themselves of large houses. Their 1.7 children were flying from the nest and Boomers now wanted to condo-size. However, the 20 years following the Boomers’ births, 1965 to 1985, produced about one million less babies per year, not enough to absorb Boomer houses. This group of home buyers is now entering their peak earning and peak square footage years at a time of economic slump and increased awareness of energy and space efficiency. Therefore, the demand for large Baby Boomer houses will be diminished as contractors build new houses to meet this group’s desires. Changing demographics will place a downward pressure on Boomer housing pricing that will permeate the entire home market.

PRICE STICKINESS: 28.6 percent of homes with mortgages, or 14.6 million homes, have underwater mortgages. If the cost of selling a home and putting a down payment on a new home is included, then fully 50% of home owners cannot afford to sell their homes now. As pricing drifts downward, this figure will only exacerbate. As a result, would be buyers who cannot take the loss of a sale of their own property are trapped from entering the market, reducing demand, and depressing pricing.

Employers, who used to buy workers’ homes to initiate job transfers have ample local employee choices and can no longer justify the cost, further exacerbating a reduction of demand and thus putting a downward pressure on pricing.

GLOBALIZATION: After WWII, the United States military provided a modicum of economic stability in the world, lessening the risks of businesses transferring operations to overseas locations. As a result, mass transfers of capital and jobs to direct foreign investments increased significantly. With China’s doors opening in 1979, the U.S. flooded China with 40,000 new factories that each took away certainty of America’s future and that accelerated a trend toward wealth disparity and a diminishing middle class. The resulting impact on wage pressures over the past three decades has lowered the expectations of the new generation of home buyers, reducing demand and depressing pricing.

MONETARY IMPLOSION: The artificially stimulated economy of the past two bubble decades hid the underlying sickness of America’s base GDP. When the housing bubble finally popped, our consumer based economy was clogged with both housing and consumer debt that had been diverted from the real economy to feed the housing bubble. After the banks quickly pulled credit to protect themselves from what they knew would be a chaotic implosion, America’s consumer base had no means to continue consuming, the credit engine of small business was stopped even before small business could fulfill its current client requests, and business shortfalls translated to employee layoffs, precipitating a circular implosion of consumers, businesses, and employees wealth and debt capacity.

After the implosion, as the economy lingered without commerce or money creation, debts mounted, credit ratings suffered, and unemployment intensified. The ability of home owners to pay their mortgages decreased which in turn increased mortgage delinquencies and foreclosures and accelerated the deflation of the housing bubble, exposing the housing debt overhang.

The resulting economy now suffers from a trifecta of dilemmas. The greatest bubble America has ever experienced has led to a housing debt overhang that stifles America’s engine of consumption. It has also damaged credit ratings that have pulled American businesses’ and home owners’ access to essential cash management tools and vital growth credit. And it has led to a loss of productive jobs for 25 million Americans who without work cannot help to restore America’s economy. If a simultaneous solution to these dilemmas is not enacted, the economy will spiral lower and will create an environment for a continued downwardly drifting malaise of the housing market.

CONCLUSION:

Since the passage of the National Housing Act of 1949, Home ownership has been heralded as a benefit to American society, supporting stable families and prosperous communities. It has provided the number one source of economic security for the majority of Americans for the past six decades. However, rather than bring hope to millions of Americans that had previously been left out of the American dream, two decades of governmental policies and international banking have led to the gutting of that dream not only for those who could not afford homes previously but for tens of millions more Americans, eroding home ownership benefits in the process.

Rather than the rock of social stability that it could have been, the American home has become the proverbial albatross around the neck of the middle class, draining its limited wealth to keep banks from suffering the consequences of their prior decisions. If Congress is to stop the housing crisis’s deterioration of families and communities across America, and if it is to protect the cornerstone of our economic and national security, Congress must act now to stabilize what, by all indicators, will be another decade of housing pricing decay.

Components of my plan:

Equity for debt swap to remove excess housing debt
http://jobvoucherplan.com/2011/08/04/hawaiians-have-the-hale-housing-solution-to-right-america-housing-bubble/

Job voucher plan to employ all able Americans immediately
http://jobvoucherplan.com/must-reads/

Credit amnesty program to quickly repair business and consumer credit
http://jobvoucherplan.com/2011/09/08/yes-america-can-quickly-turnaround-heres-how/

Modified Republican multinational incentives that entice domestic investment without giving carte blanche tax holiday and that do not entice further foreign domestic investment
https://jobvoucherplan.wordpress.com/2011/10/26/our-economy-can-be-re-ignited-like-a-boy-scout-fire/

Is Congress Punch Drunk?

In 2010, two Democrat Congressmen walk into a bar. One quips to the other, “This unemployment situation is getting pretty bad, how we should focus on it.” The other sternly replies, “I don’t know about you, but I for one am going to make sure they have health care when they finally get a job!”

Punch line: Tea Party

In 2011, two Republican campaign strategists walk into a bar. One says to the other “Hey what kind of slogan can we have for the unemployment situation.” The other one says, “How about – Hey you lazy bum, go get a job!”

Punch line: Occupy Wall Street

Yesterday, two Republican senators walked into a bar. One said to the other, “I am concerned that our free trade legislation created extended high unemployment that has hurt our ability to make good on our pledge to reduce the deficit. What do we do?” “I know”, the other one chirps, “Let’s introduce legislation to significantly shorten the term of unemployment compensation!”

Punch Line: Are you kidding me? These aren’t jokes!

Congress’s obtuse politicians should spend a little less time in bars and a lot more time helping to get Lady Liberty back on her feet.

Kyoto Protocols Would Have Accelerated China’s Plan to Reverse-Exploit EurAmerica

In 1978, the year China emerged onto the world stage with its four modernizations, China, a country with four times the population of the United States, had a paltry gross domestic product of $216 billion, less than eight percent of the United States. China exposed her strategy of four modernizations to the world as if to say,”Please invest in China and we will ensure that our workforce is educated, and that our business infrastructure is stable for your investment.” Yet, this openly expressed strategy, that may have seemed to the rest of the world as a difficult but noble goal for China to achieve, was only the tip of China’s Grand Plan, and only the part she wanted the world to see.

EurAmerica’s history with China was one of gunboat diplomacy, exploitation, and forced trading. When China opened her borders again in 1979, EurAmerica’s merchants were enthusiastic to exploit an opportunity once again. Yet, China had not forgotten EurAmerica’s role in the Opium War, the Sino-Japanese War, and the Boxer Rebellion. China would never open her border again to be exploited. When she finally opened her border in 1979, it was from a position of power, deep strategy, and long lived planning that suggested EurAmerica was finally ripe for reverse exploitation. China’s grand plan was to emerge as the 21st century world power.

What boldness of purpose China must have felt as she aligned her nation’s efforts to that decade’s long task. Looking back today on her impossible achievements, one must give pause to the monumental economic goal she set for herself in 1978, indeed greater than America’s technical goal of landing on the moon early in 1961. Yet, with such a miniscule $216 billion GDP and few material assets how could China possibly build her empire to surpass that of the United States?

Through a hybrid statist-capitalist political structure, China would create a conduit through which American businesses would willingly draw down the wealth of Europe and America and transfer it to China in order to share in the prosperity of that wealth transfer. Through the centralized imposition of forced savings on its people, China would provide low cost labor to sell goods at low enough prices to cause EurAmerica to look the other way as their neighbors’ jobs went to China. Through low interest loans, China would entice EurAmerican politicians to spend beyond their means to temporarily ease the pain of EurAmerica as China’s sucked away their life force. These were the basis of her strategy.

Similarly to how a business cycle contains early adopters and late stage laggards, China planned a capital extraction cycle for EurAmerica, in which China would extract capital in multiple phases, each phase having an optimal extraction strategy. First extraction would be through the early adopter “gold rush” investors rushing into China to stake a claim. China would also plan for early majority, late majority and laggard’s capital extraction.

In 1978, China assessed America’s assets:
• America’s most valuable assets were intellectual capital that resulted from 200 years of publicly funded primary and publicly subsidized secondary education
• America’s physical assets included business assets, commercial, and residential real estate worth $7 trillion in addition to public assets of land, buildings, and infrastructure
• America produced 26% of the world’s GDP at $2.8 trillion and consumed a quarter of the world’s goods
• America’s debt was as low as it had been since WWII as a percentage of GDP and its 110 million workers were capable of doubling their loans to provide China more capital
• America’s Baby boomers were entering a peak spending phase followed by peak saving
• America’s constitutional republic allowed a relative few capitalists to control the direction of her economy

By 1978, multinational corporations had steadily grown in number and size for two decades. China’s success depended on corralling MNCs through direct foreign investment to create massive inflows of capital quickly monetized as hard assets and infrastructure.

China would entice merchants to invest by offering access to the future potential purchasing power of its people. However, given China’s low household incomes, market penetration would be low to start. Therefore, to entice the early adopters, China would create special economic zones that provided the perfect investment opportunity of cheap educated labor, loose regulation, low taxation, strengthened business law, and enhanced infrastructure and transportation, in which businesses could produce goods at very low arbitrage costs to sell back to their home countries for high margins.

With low cost of goods from special economic zones, early adopter businesses were highly profitable and banks poured investment into China as a result. But, China could not complete her Grand Plan to multiply her GDP 50 times by enticing early adopter investors alone. She had to implement a plan timed to extract maximum dollars from EurAmerica at each phase of her exponential growth.

During the next stage, the early majority stage, China manipulated baby boomers’ peak spending phase:
• China’s low prices secured America’s baby boomers as loyal customers
• Prior to America noticing a substantial loss of jobs, China secured free trade agreements, and mined American businesses for their intellectual capital.
• She reinvested profits back into America’s debt to keep America’s interest rates artificially low in order to spur on higher levels of consumer spending and government borrowing.
• China supported lobbying of America’s mass investment vehicles to fund MNCs. 401Ks and IRAs, created in ‘80and ’81, funneled money through the stock market into MNCs for investment into China.

Then, America was drawn into the late majority stage as America’s baby boomers entered their peak saving years. 401Ks and IRAs artificially fed the stock market frenzy. Baby boomers sensed they knew how to invest in a bubble market that kept rising. With access to low interest rate loans kept low by China’s reinvestment, speculators borrowed money to bet on the rising stock market. America ultimately increased its debt to pump up stock values to build more Chinese factories.

Inevitably, the stock market bubble burst, leaving America’s baby boomers with lower retirement savings. The stock market that seemed destined to go up forever finally reversed rapidly decreasing valuations. However, the debt that had funded its escalation remained.

During the late majority phase:
• More businesses began to invest in China just to remain competitive with businesses that had moved offshore earlier.
• Tens of thousands of businesses transferred factories to China to obtain low cost labor
• Millions of Americans lost jobs
• With a generation of education completed, China now was able to take more advanced jobs as well as factory jobs. America’s bastion of protected, more technically competent jobs was not a bastion after all.
• American retail outlets for Chinese goods grew exponentially
• China continued to loan its excess profits back to the American government to keep interest rates low.
After having lived through the weakness of the stock market, real estate appeared to be the baby boomers’ best retirement savings alternative. In the early stages of the Great Ponsi, housing prices went steadily up. With low interest rates, Americans could now borrow on the value of their homes to continue funding China’s growth. China’s final stages of extraction saw the housing bubble increase beyond what had ever been experienced before.

Even though American jobs were increasingly being driven offshore, the frenzy of increased housing prices allowed additional borrowing from Americans, feeding the China gold rush further. This behavior was not unexpected, following a pattern of historical boom-bust cycles and was part of China’s planning. As a result of the stock bubble and the housing bubble, America’s total debt had risen to over $55 trillion. With such exuberance in the housing market, secondary debt markets participated in credit default swaps to the tune of an additional $42 trillion. China now had extracted close to the maximum of America’s value, leaving America with the corresponding debt.

So China extracted maximum value, first in trade secrets and early adoptive money, then by IRAs and 401Ks, then by stock market and home equity loans, then by 2nd mortgages and housing speculation. China monetized the massive cash flows as quickly as possible, building infrastructure and excess manufacturing capacity, while leaving America holding debt in exchange.

Without any other rising asset values to borrow from, America has tapped out its debt. Having maxed its debt, America can only print money to finance its trade deficits. Without further real debt derived money extraction to give China for infrastructure investment and without a real ability to pay for low cost Chinese goods, America is fast losing her worth to China as an infrastructure vehicle. Recognizing that maximized extraction and rapid monetization of America’s wealth is nearing its end, China is now finalizing the implementation of her strategy, that of pulling out of American debt before other countries that maintain reserve currencies create a run on the dollar.

In thirty short years, China was able to accelerate her GDP from $216 billion to $11 trillion. She amassed reserve capital of $3 trillion. She reversed America’s fortunes from the greatest creditor nation to the greatest debtor nation. She gutted America’s factories while creating the world’s largest manufacturing base in her own country. A measure of output that highly correlates to GDP is energy consumption. In June of this year, 2011, China surpassed the United States as the largest consumer of energy on the planet. While the U.S consumes 19 percent of the world’s energy, China consumes 20.3 percent.

In 1992, the world came together to discuss the impact of climate change resulting from energy consumption. The talks resulted in Kyoto protocols being initially adopted in 1997 that attempted to create a framework for reducing greenhouse emissions. The protocols called for 33 industrialized nations to reduce their greenhouse gases to 1990 levels and then to maintain emissions at those levels. Although it called for emerging countries like China to voluntarily lower levels, it did not require them to be mandated.

Of course, all of the countries who had no requirements to reduce their emissions signed the agreement. The United States, under scrutiny from environmentalists and others did not sign. China did sign. This was an additional strategy perhaps not envisioned in 1978 that nonetheless would have assisted in accelerating America’s slide had we signed.

GDP highly correlates to energy usage. In 1990, America’s real GDP was about $8 trillion as compared to $14 trillion in 2011. Kyoto would have caused America to either:
• Invest billions in the attempt to lower our energy usage per dollar of GDP
• Pay billions to other countries to have them produce less so that we could grow our GDP from $8 to $14 trillion
• Or, maintain our GDP at 8 trillion

In the meantime, China’s GDP in 1990 was $1.3 trillion and has since grown to over $10 trillion. China’s energy use has correspondingly grown as well until the point that this month, she overtook America as the greatest polluter. Kyoto was a grand idea that was doomed from the start because of the flaw that allowed the now greatest polluter to play by different rules. It attempted to cap the economic growth of America while allowing other countries to grow unfettered.

China had a Grand Plan that has been executed with the finesse expected of a centrally planned economy. Kyoto added nicely to that plan. America has been thwarted by China’s plan but now has the ability to reverse course. Given China’s size and growth rate, she will pass us soon if she has not already and her stride will be too great for us to catch her. However, by avoiding traps like Kyoto, and understanding that economic gamesmanship can accomplish a much greater destruction of a nation’s wealth than warfare ever could, perhaps America can once again right its course.

America’s Future – Building Block #1: U.S. Debt – Do we increase, decrease or default?

One of a few critical building blocks of American policy that will be required to right our ship of state is stabilization of America’s debt. The seeming annual deadline to vote on raising the debt ceiling is set for August 2nd. While the Republicans have threatened to default unless the ceiling increase has corresponding cuts to the budget, and while the world anticipates corrective action, we may only see hollow political chatter without material cuts because it is not yet America’s season for freefall from treasuries default.

However, it should be the season for reason. Some economists tell us that recent fear of historic deficits comes only from those ignorant of economics. They say we can print money at will without retaliation because of our sovereignty and world reserve currency status, that we owe this debt to ourselves, and that we can inflate the debt away. They surmise that we are nowhere near an insurmountable debt maximum. But how can they be so confident that America’s ballooning debt is not an issue?

Learned pontifications have confounded us through continued clamoring of countering arguments since 1990, when the debt ceiling was raised 33% to 4.1 trillion to contain our previous housing bubble, the savings and loan crisis. We have just exceeded our latest federal debt ceiling of $14.29 trillion dollars. Total American obligations of all public and private debtors are over $55 trillion, and including government’s unfunded liabilities, we owe $168 trillion. Even if we could balance the budget today, each working American is already obligated in some form to pay the world one million dollars. Who is right? How much American debt is too much debt?

In placing their faith in the pseudoscience of modern economics, our scholars fail to mention that the majority of currencies in history no longer exist. Hyperinflations do occur with regularity, 21 countries in the last 25 years. Debt levels do collapse governments, small (Zimbabwe) and large (USSR). Unfortunately, by the time societies recognize they have reached the beginnings of hyper-inflation, their currencies are already on a glide path to extinction. How close are we?

Prior to WWII, America paid down its debt between wars but our perception of debt changed in 1945. Backed by 70% of the world’s gold, the dollar was the world’s hope for rebuilding, and hence became its reserve currency. In 1944, the architects of Bretton Woods envisioned the dollar as the lynchpin to a system in which central banks maintained stable exchange rates to support balanced trade between industrialized countries, with minimal international indebtedness. They did not foresee the corrupting power they entrusted to the United States that would later subjugate the emerging world to a devaluing dollar.

Control of the world’s reserve currency proved too powerful an elixir for America. Perhaps we convinced ourselves that exporting inflation was a fair trade for granting Europe and Japan seed capital, and for our supplying our trading partners with military security. Nonetheless, for the past six decades the U.S. taxed the world $15 trillion through devaluation, and borrowed another $14 trillion, diverting substantial growth capital from emerging countries to fund America’s sustenance.

Without a realistic alternative, the world reluctantly accepted losses of their reserve currencies, but devaluation has not been without cost to America. The collapse of Bretton Woods spurred the growth of a $300 trillion FX market that has quickened the demise of the dollar’s reserve currency role. FX arbitrage and speculative volatility also precipitated the Asian crisis, causing the Asian monetary zone to closely align, lessening a need for dollar reserves. Including Europe’s drive to a common currency and China’s rise, all reduced the dollar’s power and made the possibility of an alternate monetary system possible. And America’s choice to drastically export dollar devaluation to provide investment banks buffer for unwinding of credit default swaps has brought the world to the brink.

While largely diminished, the dollar still yet dominates but for how much longer? After $2.6 billion of quantitatively eased dilution, Bernanke has fatefully claimed an end to QE, but only after President Obama announced a decade long expansion of trillion dollar budget deficits, replacing QE in name only. Is there no limit? If a limit is reached and the world fully rejects the dollar, history has shown that its fall will be too rapid to save. We now have imminent signs of that moment’s approach:

• China rejecting the dollar – For eight years, China purchased 20% of the U.S.’s deficit, buying 50% in 2006. However, for the last year, China has been a net seller of U.S. debt, reducing its total holdings 30%, and dropping its treasuries 97%. China has signaled that its risk of holding U.S. debt is greater than its risk of causing U.S. interest rates to rise, which will limit our investment in China, and will cause us to purchase less Chinese goods. Their risk equation has pivoted.

• Fed’s acquisition of treasuries – In 2011, the Fed has been the chief buyer of U.S. treasuries, purchasing over 70%, as opposed to 10 % during the last decade.

• Private investment shies away from the dollar – Investment firm Pimco, managing the largest bond fund in the world, cut its holdings of US government-related paper from $237 billion to zero for the first time in the history of the firm, stating the U.S’s problem is worse than Greece’s.

• Regionalization of reserve currencies – Asian, European, and Middle Eastern trading blocs all are all moving away from dollar denominated trades. As an example, China’s and India’s central banks agreed to direct currency exchange as of 2011.

• Commodity inflation – While the U.S. government quoted core inflation is up a mere 0.4 percent, Americans have felt the results of a real 12% inflation and much higher commodity inflation.

• Debt rating concerns – As of June, 2011, Moody’s has threatened to reduce the U.S.’s debt rating unless imminent progress is made on reducing America’s deficit

• American public losing faith – Most telling is the behavior of the American people. With 28% of home prices lower than the underlying mortgages, record numbers of Americans have chosen strategic foreclosures. 25% of foreclosures are from those that have chosen to walk away from debt obligations even though they still have the wherewithal to pay them. Feeling betrayed by America’s financial institutions’ “contract” with Americans for stable money, stable employment, and stable pricing, Americans increasingly no longer feel compelled to honor their financial contracts. The underpinnings of the dollar are on shaky grounds.

Our political and financial leadership now have choices to make. The Fed has signaled no more QE and the President has signaled a decade of continued historic deficits, but those announcements are political balloons that have been lofted toward their constituents. What should America’s true strategy be for our mounting debt?

We have but limited choices. 1) Debt can continue to increase at historic rates, perhaps preserving our banking system in its zombie state, but risking the loss of world credit, a spike in interest rates, crowding out of government services, and the march toward hyperinflation. 2) The rate of increasing debt can be reduced by either budget cuts or tax increases, but either measure may precipitate a return to America’s recession, increasing unemployment, decreasing GDP, and without substantially austere measures, continuing down a path toward loss of world reserve currency status. Or 3) America can take drastic measures to eliminate the deficit and to begin reducing the debt, most likely causing a rapid downward spiral of GDP which, similar to Greece’s predicament, will create an imploding cycle of further austerity measures and GDP reduction.

Considering that credit agencies have already fired lowered debt rating shots hair-raisingly close to America’s bow, the first option of continuing down our current path of printing money to fund our federal deficit is daring fate to draw us into the abyss. The world is quickly shutting off America’s Fed spigot of money printing. If we continue printing money, we risk paying higher interest on existing debt, crowding out needed government services and shocking America back into recession. The EU’s prescription for Greece has enlightened us that the third option of severe austerity is a prescription for thrusting America into obscurity with little hope of return. Therefore, we must now immediately embark down the second path of significant but directed deficit reduction. Sound choices of which reductions to make is a topic for a near future building block post and would be an interesting response from readers.

While the middle choice of materially lowering the rate of increase in our debt and over time reaching balance is our hope of recovery, it risks sending America into a double dip recession. If we reduce public spending without subsequently increasing private spending, demand will decrease, most certainly causing a downturn. Increasing taxes, without correspondingly increasing earnings of those paying them, will crowd out private spending, also decreasing demand. To successfully navigate our debt hazards, any decrease in government spending must be accompanied by a similar increase in private spending.

To increase private spending, either consumer demand must be increased with corresponding availability to credit, or private business spending must be increased with a corresponding potential for demand for its goods or services and a corresponding availability of credit. To keep this post to a reasonable limit, these issues are items for a future building block post.

Consumer credit is maxed out. Historic consumer debt combined with loss of housing and stock market equity and lowered prospects for employment have dried up any chances of a consumer led recovery. Loosening of credit without a corresponding increased demand for employees is unwarranted and spurring demand for employees is unfortunately another building block topic.

State and local governments are operating outside of constitutional authority in the red, and foreign governments have reduced credit to the federal government. Therefore, deficit reduction must initially be accompanied by increased domestic business spending if we are to avoid a recession. Increased spending must have the potential for successful creation of new profits. Sources of new spending must come from private providers of debt and capital, bank debt in combination with private business equity. America can no longer allow our banks to set the agenda for the path forward. The current prescription of repairing bank balance sheets while limiting credit is no longer feasible. These issues are also a subject for another building block discussion.

Some in Congress suggest we have a fourth option, that of initially maintaining the deficit by cutting taxes to spur growth while reducing government spending accordingly, eventually growing tax revenue through increased growth of the economy. While the idea has much conceptual merit, its implementation in previous Congresses was spurious. Private capital from lowered taxes was siphoned into overseas investments with little if any net benefit to the domestic economy. Much work from Congress, the courts, our executive branch, including trade negotiators and national strategists, business and labor must be done together as a community if we are to establish the real environment that can actually benefit from reduced taxes. (yet another building block discussion)

Initial prescription: Material reductions in government spending with corresponding highly incentivized, private investment that directs spending to domestic projects and increases domestic employment. Ultimately, in a timeframe considered realistic by world markets, the deficit must be eliminated through combination of reduced spending and increased GDP that strategically grows the domestic economy, creates full employment, and retains innovation. (More meat in future building block discussions)

God Save Us from the Fish Mongers – An Allegory

A small, tropical isle fishing village sits across an inlet from a much larger fishing village to the east. Both villages want for little, spending their days either fishing or taking leisure. The western villagers choose to fish in deep-water, prime fishing grounds where catches are ample and large. They have much leisure, for long ago a western family learned to use the woodlands of their island to produce boats. The eastern villagers, lacking boat building skills, are forced however to cast long hours along their shores for smaller inlet fish. The boat building family enjoys even more leisure than most because their skills provide access to the deep waters so their villagers give them a bit of fish from every catch.

Desiring vessels for their people, eastern village elders approach the boat builders with head gear in hand, explaining that they will provide twice the fish of the western villagers if the boat builders will also supply them with boats. With such an agreeable offer, the boat building family begins to supply boats to the eastern village, and soon eastern villagers can be seen venturing out into the deep for fish.

Flush with fish from the easterners, the boat builders craft an idea. They will trade their excess to westerners in exchange for a return of fish later. To entice their villagers, they will agree to give more fish today than will have to be returned later. Westerners find the offer irresistible because they can enjoy leisure now knowing that some day when they must repay the debt, they will work fewer hours than the hours of leisure they gain today.

Having an abundance of both leisure and fish but now lusting for more, the boat builders unwittingly cast aside their future and that of their island as they craft another idea. They will teach eastern islanders the secrets their forefathers gave them about boat building in exchange for a bit of fish from every catch of the boats the easterners build. Yearning to harvest more of the deep waters, easterners agree to the terms. As the ambitious easterners flood the fishing fields with boats, the western boat building family’s fortunes become titanic.

Mongers now flood the shores with fish from the east, eventually causing a fourth of the western villagers to sit idly by, borrowing from the boat builder’s excesses. Without a need to fish, they slowly lose their knowledge of the seas, and without a need to venture into the deep their boats fall into disrepair. The western village elders, who had survived by taking a bit of fish from every villager as payment for administering the village, now find that with many of their villagers idly living on the fish of the easterners, that they cannot skim enough catch from their villagers to live.

They approach the uberwealthy boat building family for solutions. Lobbying that loans of fish to the idle westerners is good for the westerners because they are receiving more fish today than they will have to repay, the family also quietly agrees to supply ample fish to the elders in exchange for support of continuing eastern trades. Having provided the elders fish that can no longer be obtained from the villagers, the family feels justified in crafting yet another idea. They will give fish to eastern villagers so that they can stop fishing and build even more boats in the east that will return a bit of fish from every catch.

The eastern villagers now control the deep fishing fields and begin to weary of trading fish to the westerners, who must rely on eastern fish, as their boats are no longer sailable. With even more villagers sitting out the long hot days in their huts, western elders grow ever hungrier, so with head gear in hand they travel in weather worn boats to the eastern shore and meet with the eastern village elders by the campfire. Emboldened by their newfound wealth, the eastern elders chide the western elders for their lack of foresight but agree to provide fish in exchange for the promise that the western elders will demand a skim of their villagers’ fish to repay the easterners.

For awhile, this uneasy arrangement continues between the western villagers, their elders, the eastern villagers and the family of boat builders until the eastern village bulges with boats. No longer needing the skills of the boat builders, the eastern village does not desire to give another fish to the westerners but instead demands the western village return the fish they borrowed.

Without the skills or boats to repay their debt, the western villagers look aghast as their elders call them to the camp fire. They no longer can sit by the shore gorging on borrowed fish, nor can they linger leisurely. They must now work long hours catching inlet fish to repay the eastern village. Their previous agreement to pay for earlier leisure with less work hours today was unfortunately sold off by the boat builders. For now, the westerners have no boats to venture into the deep and their labor will be spent casting from the shores. This tranquil village in paradise has unwittingly indentured its future to the easterners.

The family of boat builders, attempting to revive its lost fortunes, now sheepheadishly offers to build boats for the western villagers, but their offer is rebuffed. The easterners are now the preeminent boat builders and one by one, the villagers must meekly travel to the east with head gear in hand, hoping to acquire boats today in exchange for a bit of fish from every catch.

So….Why were the villagers allowed to borrow fish that they could never pay back? Why were the boat builders allowed to give the secrets of the island to the easterners, not only giving away their claims to the island’s boats of survival but the rights to the deep fishing fields that were not theirs to give? Why were elders allowed to borrow from the easterners while so many villagers sat idly? Why did the villagers not see that their elders would yield to the boat builders as a means of their own survival? Why didn’t the western village foresee that letting their skills and boats diminish was unsustainable for their island’s survival? Why didn’t they understand that by borrowing leisure, they would end up fishing for scrub fish along the inlet shore? Why?

Is America Prepared for Kamikaze Finance?

Brett Arends, in his April 25th Marketwatch article entitled “IMF Bombshell: Age of America Nears End”  reports that the IMF has predicted 2016 as the year when China’s economy overtakes that of the United States.

http://www.marketwatch.com/story/imf-bombshell-age-of-america-about-to-end-2011-04-25

Perhaps the word bombshell is the right allusion.  What comes to mind is America’s shock and disbelief in 1941 that the Japanese could fly formations of attack aircraft for so long under the radar right above sea level to destroy Pearl Harbor.  Just as Americans were unprepared to foresee the stealth attack of Japan even after years of her militaristic advances, Americans have stood helplessly by as the armaments of American financial defense sit helplessly in Congressional harbors of polarized politics.

Two concepts of financial attack seem reasonable afterthoughts.  First is that exponential financial expansion is hidden from radar until the last few years of growth.  American appeasers failed to recognize that as China expanded it’s economy 10 percent per year for 30 years, the law of exponential growth meant China’s economy would grow 800 percent in thirty years, but that the  greatest 400% would occur in the last seven years.  

The second even more ingenious stealth move unforeseen by America but creating an even more shocking surprise attack is that by holding the exchange rate low for so many years, the Chinese were able to fly even lower to the ocean swells and build a purchase power parity empire undetected by conventional financial defenses.

In preparation for this two pronged financial assault,  China has been building the hegemonic relationships that thwarted Japan’s  military attempt to over take the United States just 6 decades ago.   China also was successful in its hegemonic strategy to preemptively gut American factories through the “treasonous”  collaboration of multinational corporations and international banks residing  in financial cells right here in America.  

Our American factories, that were so successful in mounting a war of attrition against the Japanese in WWII, now lay dormant in the rust belt as 24 percent of our capable American workers line the “soup kitchens” of the American social welfare system and charitable organization’s generosity.  This time around, without the physical and financial capabilities to defend ourselves from within, it may be Americans who are forced to display patriotism through financial kamikaze during the end stages of the American empire.

How Could America Have Squandered the Gold of Ancient Egypt and the Incas?

Gold has been the store of human endeavor since ancient times. While each ounce of gold can hold only a finite amount of labor, perhaps 1,000 hours in non-industrialized nations, some of the gold locked in Fort Knox has touched millions of hours of labor from civilizations untold. For gold’s greatest benefit, as with all money, is not its storage of value but its lasting ability to temporarily hold value in the exchange of non-coincidental barters.

For millenniums, money was the interchange commodity for simple trades as between farmers and herders. The farmer gave the herder a coin in winter for meat, and the herder returned the coin at harvest time for a bushel of vegetables. Farmers and herders relied on the value of gold because precious metals took effort to mine and purify, were tested for weight and purity, and could be stamped, coined and carried. With such a universal appeal, precious metals became synonymous with storage of value and dominated the world’s choice for money.

At one point, America held within its coffers 70% of all the gold that has ever been purified from ancient Egypt and the Incas through modern times. But it was our misjudgment as to the true value of gold that robbed our forts of ingots and brought America to the precipice of ruin. As history’s greatest superpower, why did America not learn from ancient empires that tumbled down the path to insignificance, and why did we allow our government to amass more debt than has ever been owed by every other soul that has ever lived?

1964 marked an accelerating turning point in America’s misfortunes. In 1964, President Johnson was elected to enact Great Society reforms just as America was increasing her involvement in Viet Nam. Baby boomers were entering the work force just as multinational corporations were beginning an upsurge of direct foreign investment and the transfer of jobs to overseas markets. America’s use of oil was peaking just as political undercurrents were coalescing around oil as a geopolitical force.

Six simultaneous assaults on the American dollar joined to fuel the American financial malaise; a lack of fiscal adherence to a gold standard, military excursions in support of American interests, funding of the great society, a lack of will to respond to oil cartels, multinational corporate indifference to the plight of the American worker, and a financial industry gone wild.

America did not Steward Its Gold

Even though, for 600 decades of recorded history, gold was the stable base of transactions, the world has temporarily abandoned this gold standard for the last 5 decades. Our abandonment was not because of the world’s enlightenment that gold is an unnecessary physical impediment to the electronic age of finance. It is because, with no viable alternative, the world has clung to the hollowed out American dollar that inflated beyond the discipline of the gold standard.

In the 20th century, industrialized nations twice attempted to redistribute wealth through great wars that left all of Europe bankrupt. Afterward, America held 70 percent of the world’s processed gold, and became through Bretton Woods the gold-backed, paper money guarantor of the free world. During the next 15 years, America squandered her gold to cover currency imbalances, until by 1960 the dollar lost its legitimacy. Interestingly, it took Spain over a hundred years to squander its 20,000 tons of Inca gold.

From 1971 until now, America and the rest of the world have had little choice but to allow our currencies to float, giving up the imperfect discipline imposed by a gold standard. As a result of America’s freewheeling monetary policies, it is now encumbered by a spend drunk Congress and an obliging central bank that have conspired to reduce the value of America’s 1971 fiat dollar to a mere 17 cents today.

Scholars suggest that the reason for the dollar’s fall was the inevitable Triffin dilemma which requires America to carry a current account deficit to provide the world with reserve currency. Yet debt financed trade imbalances are not required to provide reserves. Reserves could just as well have been sold to other countries as given to them through trade shortfalls. No, America’s post war monetary policies quickly gambled away the historical hegemony that was bestowed on us at the end of two world wars.

This five decade hiatus from a gold standard will prove only temporary. Gold’s appeal as the engine of financial growth has not been lost on China. At the end of World War II, U.S. gold reserve was over 18,000 tons but has since reduced to 8,000 tons. China is executing a strategy of purchasing approximately 250 tons per year and, as the world’s largest producer of gold, producing 320 tons per year, and now has surpassed all but the U.S. as the second largest holder of gold with 2,000 tons.

Military Excursions Drained America’s Coffers

Without the ability to borrow vast moneys, earlier civilizations relied on warring, exploration and conquest to quickly expand their stores of gold. This strategy was not without consequences. To fund war, Rome engaged in coin clipping and smelting with lesser metals to reduce size and value of denarius in attempts to pay soldiers with coins of veiled value. After 200 years, the Roman denarius reduced from 100 percent silver to only 5 percent just prior its army leaving Rome unprotected from invasions and fall. Interestingly, it has taken less than 100 years for America’s dollar value to plunge that amount.

As all empires have before, America found that its wars must be financed with inflation. The Fed supported an excessive expansion of the money supply (dollar clipping), creating debt to fund each of America’s wars. The Civil War added 2.8 billion. WWI added another 21 billion. WWII created another $216 billion. The Korean War was financed with taxes. Viet Nam increased the debt $146 billion. Cold war expenditures cost 1.6 trillion. The first Gulf War cost a mere $7 billion. In contrast, Iraq cost $786 billion and Afghanistan cost $397 billion. Not including the 700 foreign soil U.S. military bases that contribute greatly to America’s balance of payments deficit, her major wars added a total of $3.4 trillion dollars of carried debt.

The Great Society Became the Broke Society

President Johnson outlined The Great Society in his State of the Union Speech on January 4, 1965, saying “The great society asks not how much, but how good; not only how to create wealth but how to use it.” Notwithstanding the good that was done by these programs, they drained America’s future potential GDP growth and the money that would fuel her economic engine.

46 years later, Great Society initiatives touched education, health, urban renewal, transportation, arts and culture, Medicare and Medicaid, the Food Stamp program, Project Head Start, The National Endowment for the Arts, The Corporation for Public Broadcasting and federal aid to public education for a total expenditure of $9.5 trillion dollars.

America’s Addiction to Oil Made Us Slaves to the Oil Cartel

Oil enabled powerful nations to create a world order that flowed money from agrarian nations to those that controlled hydrocarbon powered machines. Oil was the catalyst that propelled the 20th century’s world leaders into fortune and thrust the world into war. Oil is a finite fuel, controlled by a few nations that are barely separated geopolitically and have common ancient civilizations and modern goals.

Already struggling from Viet Nam and Great Society debts, America found herself the object of a politically motivated oil embargo in 1973. Fuel prices soared and supplies tightened to cause the 70’s stagflation in America. From then until now, America has not found the political will through fluctuating fuel prices to organize an intervention away from oil dependence.

Since the embargo, America has consumed 250 billion barrels of oil at a total cost of $11 trillion dollars. This debit line in our national budget has only one trade, oil for dollars. Had America given our energy war a smidgeon of the effort of placing a man on the moon, we could have easily reduced energy consumption by 20 percent for the same productive output, transportation, and environmental comfort, and saved 2.2 trillion dollars. Surely, the costs to achieve such a modest conservation would have to be netted from the gross, but those costs could have been internally generated and added to America’s GDP.

America’s Multinational Corporations (MNC) were Indifferent Citizens

While America fought the war on poverty, her political leaders surrendered to the war on American jobs. Certainly, with the relative world peace supported by America’s military, globalization was bound to occur. With the risk of direct foreign investments reduced, the last five decades have unleashed an acceleration of money flow and intellectual capital from America to other countries.

While over 4 trillion dollars have been invested overseas by American uberwealthy, America has also been a receiver of investment, so that the net outflow has only been 0.7 trillion. However, the loss of America’s wealth and jobs has been much greater, contributing to a stagnant workforce where one in four able Americans has been idled. MNC direct foreign investment has indirectly added $4 trillion dollars to America’s debt.

The Fed Financed MNCs and Saved Banks but Failed to Keep America Employed

During most of the 17th century, Europe embroiled itself in wars that killed 30% of its population. Some of the world’s largest banking houses failed as royal debtors defaulted, including England in1672. Finally, in 1694, the king agreed to give the Bank of England authority to print all of England’s bank notes in exchange for bank loans to support his war with France. The newly created Central bank, having transferred its risk of loss to British subjects, profited simply by printing money for the monarchy. However, this excess printing did not stop the emptying of England’s coffers.

After America revolted to escape the monetary control of the Bank of England, Hamilton, the United States’ Secretary of the treasury, proposed a charter to a create a similar central bank for America. Against Thomas Jefferson’s insistence, the First Bank of the United States became the precursor to America’s Federal Reserve. Some say major banks manufactured a bank run in 1907 to destabilize the Treasury and instigate support for the Federal Reserve Act of 1913 establishing the Fed, a quasi-agency, private enterprise with a quasi-public board.

From the establishment of the Fed until today, many have argued that major Fed decisions have enriched banks at the expense of the American People. An example is the erroneous decision the Fed made to keep interest rates high for an extensive period of time as America and the World clearly were entering the Great Depression. Also of heated debate was the decision to bail out the banking industry at the start of the Great Recession.

Nonetheless, Fed decisions combined with lobbied efforts to reduce financial regulations, allowed Wall Street to orchestrate multiple financial bubbles that consecutively destroyed value in American portfolios. It cost taxpayers $88 billion to bail out the S&L crisis. The boiling and bursting of the dot.com bubble evaporated $5 trillion dollars. Notwithstanding that the credit default bubble lost the world $30 trillion in value, it has thus far cost America $51 billion in bank bailouts, $787 billion in stimulus, $1.5 trillion in quantitative easing, $5 trillion in lost property values, and with over 5 million bankruptcies and 5 million foreclosures, ruined trillions of dollars worth of wealth generating credit.

In Conclusion

Adding up the numbers versus our $15 trillion dollar debt, it is amazing that the resiliency of the American economy is thus far holding ground:

10,000 tons of gold: $0.5 trillion
Wars: $3.4 trillion
Great Society: $9.5 trillion
Lack of Energy Policy $2.2 trillion
MNC DFI: $4.0 trillion
Banking Debacles: $12.4 trillion +
Total $32.0 trillion

The idea of currencies unsupported by gold reserves is not in itself troublesome. Whether Crowley shells, tally sticks, or paper money, if the market has trust in its role as a place holder for non-incidental barter, any money will do. However without the external discipline imposed by a gold standard, America must instead substitute gold’s imposition for a President strong enough to stand for American sovereignty, a Fed subjugated to defend a stable currency, a Congress selfless enough to impose its own financial discipline, and a willingness of American businesses to defend American jobs. Otherwise, America’s five decade reign over this short lived worldwide fiat money dollar system will come to an end.

Sincere Politics May Force Walton’s Mountain For America To Recover

Our leadership has been steering the ship for the last forty years on the premise that we will choose  fiscal and social priorities, acquiesce to the political realities of not raising taxes, and print money to make up the difference.  Our country must now act upon a different order.  We must set a budget maximum and then set highest priorities to reach that budget.  

This budgeting process is completed collegiately every year by all private sector businesses without gnashing of teeth.  Each year we set budgets and debate which items on our wish list must wait another year to be implemented.  The painful truth is that some items will be slashed.  

When times were good, I took my entire company and our families to Disney for a Christmas Weekend with gifts and visits to dinner from Mickey himself.  In tough times, the lavishness has been replaced with a subdued dinner.  This year we are talking about working together at the salvation army breakfast.  Our mentality of teaming together for survival is the mentality yet to surface fully in Washington, but it must.

As disheartening as it may be, tough debates must begin to reach consensus on how to slash  the federal budget holistically.  Noone gains when Republicans play idiotic games cutting pet budget items to beat their war drums for their political base or when Democrats clamor that no cuts can be made to sacred cows.

If Steven Tyler and J Lo can slash and burn Idol pets to keep the top 24 out of over 150 singers in a week  at Hollywood then our nation’s brightest leaders ought to be able to mull over the top 60 cents of every dollar we spend to keep the very highest priorities.  

What happens to the rest of our critical priorities?  They get pushed to the states and then the cities, each that have no money and that will be forced by crisis to slash even further.

Critical priorities and charities will go unfunded and families and communities will have to take up the slack.  Scenes from Walton’s mountain will play out again in America.

We will have orderly retreat from the high water social mark we set in the previous baby boomer generation, remembering our path so that we may return.  The alternative will be a full scale chaotic retreat into reckless abandonment of our duties to society as our economy collapses for want of disciplined retraction.

Whether Hot or Cold Governance, Middle America Seeks Change

Ah the pleasure of food that is either cold or hot! Place ice in coffee and it becomes lukewarm, and neither hot nor cold, to be spit out of the mouth. Since the time that Barry Goldwater and Mao Zedong coexisted, perhaps the world’s economic and political systems have globalized into a lukewarm concoction, unappealing to the senses, pulled headlong by a decentralized mass of multinational corporations.

As America’s current leadership struggles to redistribute wealth, some in the administration, have reflected admiringly on the ideals of Mao. From Anita Dunn, who said that Mao was her favorite philosopher to President Obama, who was influenced by Saul Alinsky’s Rules for Radicals, the American administration points its ship in the direction of a distant socialist star. In stark contrast, elected Tea Partiers in Congress, repulsed by the mire of Washington’s lukewarm beauracracy, are waving the libertarian flags of Goldwater’s limited government.

Meanwhile, as America’s governance continues to linger in lukewarm languidness, China’s political class is struggling to keep ahead of mass entitlement implied by a move toward socialist capitalism. While a mildly heated temperature can still be felt in China’s economic success, as the acceleration of the Chinese economic miracle begins to fade, the vast middle of China will feel the lukewarm effects of unfulfilled promises as well.

As the great middle of each in our societies is impacted by our own brands of lukewarm politics, some will yearn to spit them out in favor of a fond memory for hot and cold.

The Great Bear is Angry

If the Republicans are Elephants and the Democrats are Donkeys, then I see the American middle class as a Great Bear, mellowed by decades of ‘elephant ear’mark treats, but now wounded by globalization and no longer tamed by either political party.

The three beasts have been thrown into a grudge cage and are gnawing and clawing for survival. Gone are the glorious decades of one party supremacy. The Great Bear gave the Donkey two years to strip irresponsibility from the wealthy elite, but instead the Donkey wasted its political capital on special interests. With one fell swoop, the Great bear has thrown the Donkey against the rope, and is giving the Elephant the chance to take down the excesses of the Donkey’s social welfare desires.

But while the Bear may not have the memory of an Elephant, it has the anger of a Bear, and after the Ass’s clock is cleaned, the Bear will gnash at the stoic excesses of the Pachyderm, taking back the tax break that was so selfishly placed at its feet as a token of appreciation for subduing the Donkey. The Great Bear has been caught in a steel trap of trade deficits, tax deficits, and technology transfer deficits, and is fighting to free itself.

It is not wrong for America to reduce its social programs. We cannot eat what we have on our plates. It is not wrong for America to reduce its government size. We cannot carry that much social administration. It is not wrong for America to reduce the burden of its entitlements. We did not create a future generation large enough to carry it. It is not wrong for America to insist that the wealthy pay more to move our country forward. They have gained true wealth for the last three decades while the Great Bear has lost true wealth in the same period. It is wrong for the Elephant, the Donkey, and all their special interests to force the Great Bear into a grudge cage just to see a future for its cubs.