Infinite
Stupidity
“The unlimited resources” of the European Central Bank
(ECB) are quickly becoming the new magic mantra in political commentary and
financial market analysis, now that the bigger euro-dominos are beginning to
wobble, and everybody realizes that nobody has the firepower to bail out Italy
or to “recapitalize” (i.e., bail out again) all the banks that lent to the
country. So the chorus that demands that the printing press finally be put to
good use is getting louder by the day.
Robert Preston, the BBC economics expert, last week
claimed that the solution now lies with the ECB, and he spoke confidently of
the ECB’s “unlimited resources.” Yesterday, Vince Cable demanded “unlimited
powers” for the central bank. He also shamelessly regurgitated the well-worn
politician’s excuse for Europe’s problems, namely, that these countries are
under “speculative attack.” The advocates of large-scale ECB intervention now include
many pundits and commentators, plus, a sizable group of financial market
economists and strategists, whom decency obliges me to leave nameless. “It is
important to keep the ECB engaged,” as one economist put it, “as only the ECB
has unlimited resources.”
Such proclamations immediately invoke Albert
Einstein’s famous dictum: “Only two things are infinite, the universe and human
stupidity, and I am not sure about the universe.”
Everything Is Going According to Script.
None of what is going on surprises me. It is perfectly
in line with what I predicted in my book. However, I am ready to admit that I
am a bit baffled by the quick willingness by so many people to embrace what is,
ultimately, a sure road to complete economic destruction. In Paper Money Collapse: The Folly of
Elastic Money and the Coming Monetary Breakdown, I explain why systems of elastic money are always
suboptimal, unstable and, ultimately, unsustainable. A monetary system like
ours must, over time, accumulate dislocations and imbalances that will,
finally, become so big that their liquidation through market forces is deemed
politically unacceptable. Then, out of desperation, an unwinnable war against
economic reality will be fought by means of the printing press. Ever more money
will be created ever faster in a futile attempt to outrun the market’s urge to
liquidate.
In Chapter 10 of my book, I describe the two final
stages of a paper money system as monetization of debt and inflationary
meltdown. We are now firmly in the monetization of debt phase. This process
will accelerate in coming months and quarters. Not only in the eurozone, but
also in the United States and in the U.K. All of these central banks will
continue to expand their balance sheets aggressively and use their ability to
print money — without limit — to support banks, governments and a wide range of
asset classes.
Bernanke (Fed) and Draghi (ECB) pointed out, in their
respective press conferences, recently that monetary policy is not a panacea
for all economic ills. It doesn’t matter. Policy has no other tools left to
postpone the inevitable or to make the status quo appear sustainable again. By
the way, it is entirely immaterial what Bernanke or Draghi thinks and says.
Their press conferences keep Wall Street and City of London economists busy.
But these gentlemen are quickly becoming mere extras in a bigger political
game, in which desperation rules, and in which they will simply perform their
roles of fiat money producers.
When do we enter the final stage of inflationary
meltdown? Difficult to say. It all depends on when the public loses faith in a
form of paper money that is being printed in evermore bizarre quantities, only
to keep states and banks alive and to project some resemblance of normalcy to
the masses.
I do not disagree with the mainstream economists on
whether paper money central banks can create, essentially, unlimited amounts of
money. Of course, they can. That is precisely why gold and silver as monetary
assets were replaced with entirely flexible state money under central bank
control in the first place. And I do not disagree that we will soon see more
debt monetization by the ECB and other central banks around the world.
What is sheer lunacy, however, is to advocate such a
policy as a solution, or part of a solution, to our problems. This is where I
draw the line. It is simply beyond me how people who call themselves economic
experts, and who must have at least a basic understanding of monetary theory
and some knowledge of economic history, can seriously advocate debt
monetization as a sensible policy tool.
Dr. Strangelove — Or How I Learned to Love the
Printing Press
Our financial market economists now cling to anything
that promises to buy them time and some stability, even if logic tells them
that what they are advocating is exactly the opposite of what should be done.
They are not unlike the gambler who knows he should quit, but out of sheer
desperation, is rolling the dice one more time.
Of course, there are always those who are imbued in
Keynesian economics and other sorts of interventionist myth to such a degree
that they honestly think that there is no problem that cannot be fixed with
government stimulus. If the medication hasn’t worked, just keep increasing the
dose. Paul Krugman (Nobel laureate) and Christina Romer come to mind. But I
don’t quite believe that all economists are in this camp.
Whatever their reasons and motivations, it is quite
clear that all these economists are now mouthpieces for the establishment. They
are all defenders of the status quo, or of what has passed for the status quo
for the past 30 years.
Government bonds should again be considered “risk
free” assets, and banks should again be considered “too big to fail” and “too
important to fail.” This is so the symbiotic relationship between states and
banks that fiat money system fosters, and that has been so mutually beneficial
to the political class and the banks, can finally be restored. It is a sad
spectacle to see people who call themselves economists — and often, even
free-market economists — come up with evermore extreme recommendations of how
we can fund Big Government.
To the broader public and the economy as a whole, the
collapse of this system would be painful first, but ultimately, hugely
advantageous. It would allow a renaissance of real capitalism, rather than the
continuation of this system of monetary interventionism that has allowed the
state to assume control over such vast resources and the financial sector to
enjoy uninterrupted fiat-money-fuelled growth for decades.
What good do these economists expect to come out of
ECB debt monetization? Do they really believe that once the ECB has committed
itself to buying hundreds of billions worth of Italian government bonds, in
order to manipulate the yield on these bonds — against market forces — down to
what the political class deems sustainable (let’s say 5%), that then Italian
politicians will reform public finances in the country? That they will quickly
bring down deficits and the debt load to sustainable levels, at which point,
Italy can borrow from the market again, the ECB can safely sell its bonds and
reduce its balance sheet and everybody lives happily ever after? Does anybody
seriously suggest that this scenario is likely, probable or even possible?
The fact is that none of these governments can be
trusted to bring their finances under control, as long as they have access to
cheap credit, i.e., to funds at “sustainable” interest rates. Germany forced
through the Stability and Growth Pact at the start of EMU (does anybody
remember Theo Waigel?) that should have limited debt-to-GDP ratios to 60%, only
to violate it herself. Germany’s ratio is now, officially, at 83%. The
government is already on the hook for another €211 billion under its EFSF
commitments, which are now all but guaranteed to come due, as the bailout fund
is supposed to cover first losses on bonds in order to maximize its
“firepower,” meaning Germany is already set for more than 90% of debt to GDP.
And that is supposed to be Europe’s “stability anchor.”
All rules and guidelines that were designed to
guarantee the fiscal and monetary stability of EMU and were implemented at its
start have, by now, been broken — without exception. Do you think that this
will change once the politicians have obtained the unlimited support of the
printing press?
“Quantitative easing” in Japan, the United States and
the United Kingdom goes hand in hand with growing debt, not debt reduction.
Providing a lender of last resort and easy money and cheap credit to governments
does not lead to deleveraging, but to the opposite.
Only default and cutting off a government from
additional borrowing will reform the government. That is why I say: Embrace
default!
The Future
When the ECB will have implemented its backstop for Italian
government bonds, it will end up buying vast amounts of these securities at
above-market prices. Draining equal amounts of liquidity from somewhere else in
the system, in order to minimize the inflationary impact, will be illusionary.
Inflation will creep higher. Concerns about sovereign solvency are, of course,
not restricted to Italy. These concerns, plus rising inflation, will put upward
pressure on the yields of other bond markets, in particular, Spanish and French
bonds. The ECB will have to expand its support program in order to
stabilize these bond markets as well. Why should unlimited ECB support
be limited to Italy? What is good in the case of Italy must be equally good for
Spain and France!
The notion that the ECB could ever change course now
and tighten policy, in order to fight rising inflation pressure, will appear
increasingly fantastical. Market participants and the wider public that uses
the euro will simply not believe it. Inflation expectations will rise rapidly.
Money will become a hot potato. When money demand falls, inflation will shoot
up quickly, which would require the central bank to establish markedly positive
real interest rates in order to restore confidence in paper money. But this
would mean allowing several governments that are now reliant on cheap central
bank funding to go bankrupt. This will not be allowed to happen, which will
undermine confidence in paper money further. We will have reached the
inflationary meltdown phase.
All complete paper money systems in history were
established to fund the state. Our system is no exception, as becomes
increasingly clear. All paper money systems in history failed. Ours will be no
exception, either. Our system is the most ambitious. We had a global system of
unrestricted fiat money production for 40 years.
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