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THE
ROCKET SCHOOL OF ECONOMICS


The Broken Watch -- Part 1.
by Professor von Braun

March 27th, 2008

Before applying a solution it is necessary to clearly understand what the problem actually is.

In the case of the unfolding financial debacle taking place on a global basis with its originations within the U.S., it is not easy to identify what the problem actually is. Obviously it appears to be a banking problem that has its beginnings with the issuing of credit to borrowers who were not creditworthy to begin with. But one must also ask the question as to whether the lenders themselves who were making these loans were qualified to do so.

Who gave them the authority to issue credit in the first place? What were the authorities doing while all this was taking place? Who are the authorities responsible? What was the Federal Reserve doing?

The American public has been duped and this process had its originations a long time ago, dating back to 1913 when the Federal Reserve was created. The rescue of the Fed after its first major screw up in the late 1920's involved the Federal government's confiscation of the gold owned by US citizens. The legality of this action was never really tested, but legal or not the event took place. The real capital of the citizens was stolen and after that event all they were allowed to own was debt. J.P. Morgan once said that gold is money and all else is credit, and let's be clear on what credit is. Credit is debt!

When President Nixon closed the gold window on August 15, 1971, the Federal Reserve got its second major break, since now the US dollar, the official government sanctioned currency and the Federal Reserve were unshackled. Now there was no official requirement to redeem US dollars for anything at all. They were a promise to pay a promise to pay a promise to pay a promise and basically that's all they were. After 31st December, 1974, when the right of citizens to own gold was reinstated, 'officially' these dollars could be used to buy gold again after a 40 year period of no gold ownership. Real capital, genuine savings, could, once again, be accumulated.

Alan Greenspan knew of the outcome of having a banking system that did not adhere to a gold standard when he said in a book published by Ayn Rand in 1967: "In the absence of a gold standard there is no way to protect savings from confiscation through inflation. There is no safe store of value." He went on to say: "Deficit spending is simply a scheme for the hidden confiscation of wealth. Gold stands in the way of this insidious process. It stands as a protector of property rights."

Strong words from a man who later led the Federal Reserve in the greatest expansion of credit the world has ever seen.

Once again we need to be reminded of the obvious fact that to provide the correct solution we need to clearly understand the problem.

What is taking place in the US is exactly what Greenspan was warning people about many years ago. The savings he was referring to have been confiscated via inflation in the form of rising or inflated house prices which had to be the outcome he was referring to when he said that in the absence of a gold standard this is what will happen.

Now to compound this situation, the savings of the citizens are finally depleted -- a process that was aided and abetted by predatory lending practices essentially sanctioned by the Federal Reserve. I say sanctioned because they did nothing to stop it and yet they are deemed to be the US equivalent of a Central Bank. They allowed any entity to issue credit, without controls, to anybody they could sign up; and that activity inflated real estate prices to the degree we have just seen.

Now we are seeing the end game of what Greenspan was referring to many years ago and what is ironic is the fact that, in his role as Chairman of the Federal Reserve, he is just as responsible for this as are the politicians that allowed this event to occur.

To put things in perspective, today, the citizens' savings are gone, the wealth of the people has been confiscated and their property rights are now held by some unknown Belgian doctor or a Norwegian school board.

So is this a banking problem or is it something more complex? I have not seen anything in print by Greenspan that addresses the issues of the potential outcome he was referring to in his 1967 comments about the absence of a gold standard, yet that outcome has arrived.

This is a country in debt up to its neck. Its citizens have no savings and the means for maintaining the debt game have been exhausted. The idea of using ones home equity -- which was the result of inflating house prices -- as a form of savings is over. Those who have aided and abetted this insidious scheme are now finding this out for themselves. The banking system has no fallback position, none, not any, nada. But do they know that?

Can they create one via a series of bailouts of sick financial entities? With the recently announced bailout of Bear Sterns, (perhaps Stern Bear would be a more appropriate name), it seems like they are going to try. But does the Federal Reserve realize that they have now arrived at the situation that was described years ago by their former chairman?

What happens when the music stops? What happens when all the savings have been confiscated and can not be replaced by any other scheme involving inflation via the issuing of debt?

There are no more assets out there that can be securitized, there is nobody left to lend to and there is no real capital to kick start the game all over again, since that went via the official confiscation in 1933.

Bernanke recently spoke of banks going under, closing their doors as a result of running out of capital, but what about the depositors at those banks? Who will bail them out? Can they even be bailed out?

A common theme that we are seeing is that the banks themselves have run out of entities to sell their dodgy assets to, thereby compounding their precarious position to the downside. They, too, are responsible for killing the goose that laid the golden egg, since they are dependant upon the savers for their capital and for their deposits and its the savers that have had their wealth confiscated via the insidious process that Greenspan was referring to.

So what exactly is the problem? How do you kick start a broken watch? Well the first thing is to recognize that the watch itself is broken and we are not seeing that at present. The push by both the Fed and the US Treasury Dept to stop foreclosures along with Bernanke's plea for the bankers to forgive some of the mortgage debt (I wish) are early signs that a recognition of some sort is taking place. But is it taking place in the right arena? Who, after all, has been the one taking an ongoing advantage of the process of confiscation of the wealth of the American people? The issuers of US dollar denominated debt would have to be the answer -- and who are they? Well let's start with the Treasury Department itself and the US Government's dependence upon debt for its operational capability.

That debt is dependent upon the ability of the former savers to pay taxes to the issuer and said tax payments are required to pay the interest to the holders of those notes. How can this continue in an environment whereby the asset class and savings substitute, home equity, is declining at an alarming rate and to the degree that it is compounding to the downside and we are now seeing house prices decline to below the value of the mortgage amount? Not a good sign!

The savers have no savings! The well is dry! The capital is gone! The sheep have no more wool!

Now how do you fix that? With more bailouts? Bailouts buy whom? Who can be tapped when there is nothing left to tap?


The Prof can be contacted by email at profvonb2@aol.com

Copyright by Professor von Braun. All Rights Reserved. Reprinted at USAGOLD by permission.

Return to the The Gilded Opinion Index Page

The Rocket School of Economics -- The Lecture Series Index

  • 22 May 2009 -- An Often Overlooked Issue!
  • 28 Mar 2009 -- Problematic Banking Systems!
  • 14 Nov 2008 -- What Exactly is an Asset?
  • 23 Aug 2008 -- Through the Looking Glass?
  • 02 Aug 2008 -- Compounding to the Downside!
  • 26 May 2008 -- Back to Basics Again!
  • 31 Mar 2008 -- The Broken Watch -- Part 2.
  • 27 Mar 2008 -- The Broken Watch -- Part 1.
  • 06 Feb 2008 -- The Financial Equivalent of Faulty Towers.
  • 10 Dec 2007 -- Monetary Systems & Productive Assets.
  • 14 Feb 2007 -- Divorced from Reality
  • 06 Sep 2006 -- Gold, Bankers, the Trade Deficit and Unsettled Transactions
  • 19 Jun 2006 -- When is a Reserve Not a Reserve?
  • 31 May 2006 -- The significance of August 15, 1971.
  • 08 Apr 2006 -- Keep Your Eye on the Ball!
  • 30 Mar 2006 -- What came first?
  • 11 Mar 2006 -- An Unanswered Question.
  • 08 Jan 2006 -- Where have all the projects gone!
  • 11 Dec 2005 -- Gorillas, Rising Gold Prices and Depreciating Paper Currencies!
  • 23 Oct 2005 -- Custodial Risk.
  • 16 Sep 2005 -- An Inherent Flaw.
  • 08 Aug 2005 -- Central Banks and 'Reserves'.
  • 31 Jul 2005 -- Central Bankers, Actors and 'We'.
  • 17 Jul 2005 -- Unintended Consequences! -- Part 3.
  • 07 Jul 2005 -- Unintended Consequences! -- Part 2.
  • 25 Jun 2005 -- Unintended Consequences! -- Part 1.
  • 14 Jun 2005 -- The Two Greater Fools Theory.
  • 03 Jun 2005 -- Real Money, Funny Money and YOU -- Part 4.
  • 30 May 2005 -- Real Money, Funny Money and YOU -- Part 3.
  • 26 May 2005 -- Real Money, Funny Money and YOU -- Part 2.
  • 21 May 2005 -- Real Money, Funny Money and YOU -- Part 1.
  • 09 Nov 2002 -- Carrying a Big Stick.
  • 17 Sep 2002 -- Wishful Thinking!
  • 27 Jul 2002 -- Gold Bugs Beware -- part 2.
  • 10 Jun 2002 -- Gold Bugs Beware!
  • 06 Apr 2002 -- Currencies versus Gold.
  • 26 Jan 2002 -- Bear Market Strategies.
  • 01 Jan 2002 -- 2002 -- A Perspective.
  • 20 Oct 2001 -- The Storm Clouds are Gathering.
  • 30 Sep 2001 -- What to Say?
  • 01 Jul 2001 -- ...Said the Fly to the Spider.
  • 14 Jun 2001 -- Upward and Downward!
  • 28 May 2001 -- Volatility Time, Again!
  • 14 May 2001 -- The Coming Bull Market in Gold Stocks?
  • 24 Feb 2001 -- High Hopes, Wishful Thinking & The Absurd
  • 20 Feb 2001 -- Who Put the Holes in the Swiss Cheese?
  • 22 Jan 2001 -- US Dollar Admits Identity Crisis!
  • 16 Jan 2001 -- Dear George W.
  • 24 Nov 2000 -- The Bubble Has Burst
  • 11 Nov 2000 -- The Media, Bull Markets & the Gold Price
  • 02 Nov 2000 -- Gold Stocks
  • 29 Oct 2000 -- Oh The Tangled Web We Weave ...When We Set Out to Deceive
  • 24 Oct 2000 -- A Mystery!
  • 16 Oct 2000 -- A Peso Here ...and a Few Thousand Pesos There
  • 10 Oct 2000 -- The Unfolding
  • 30 Sep 2000 -- What's Wrong with THIS Picture?
  • 25 Sep 2000 -- Buy Gold Now!!
  • 23 Sep 2000 -- The Times, They Are a' Changing
  • 15 Sep 2000 -- Time WILL Tell!
  • 27 Aug 2000 -- SS "Paper Assets" Begins to Take on Water
  • 06 Aug 2000 -- The Indian Summer
  • 26 Jun 2000 -- A Yellow Brick Wall
  • 22 May 2000 -- The King IS Naked
  • 30 Apr 2000 -- Goodbye Yellow Brick Road
  • 18 Apr 2000 -- Beware the Ides of March, April and May
  • 08 Apr 2000 -- Really, Sir Aldot!
  • 25 Mar 2000 -- Where To From Here?
  • 18 Mar 2000 -- The Gnomes of Zurich
  • 12 Mar 2000 -- The "New" Economy??
  • 06 Mar 2000 -- Two Questions
  • 04 Mar 2000 -- Iceberg Dead Ahead!
  • 28 Feb 2000 -- The Wizard of Oz
  • 06 Feb 2000 -- Here We Go Again!!
  • 15 Jan 2000 -- Comments on the Gold Market
  • 29 Dec 1999 -- No Raw Ingredients Required
  • 28 Dec 1999 -- No Way Out
  • 14 Dec 1999 -- Ho, Ho, Ho!
  • 07 Dec 1999 -- Greenspan's Bubble
  • 03 Dec 1999 -- Early Warning Signs


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