Although the latest banking crisis seems to have some similarities with the financial crisis in 2008, there are some notable differences as well.

One big difference is that we have high consumer price inflation right now that wasn’t the case in 2008. This is probably the big story because the Fed is in a position that makes it more difficult to give unlimited bailouts.

The Fed has already reignited QE, or whatever you want to call it. The balance sheet expanded by hundreds of billions of dollars in March despite its policy of not rolling over $95 billion per month in maturing debt.

We’ll see if the Fed’s balance sheet starts declining again, but it just shows that things can change very quickly. Even if it does start declining again, we could get hit with another bank failure and another Fed bailout at any time.

So while the Fed seemed committed to fighting price inflation (that it created), it seems to be more committed to bailing out bank depositors.

The Fed Takes Away the High

While there is much responsibility to go around, it is hard not to blame the Fed as the primary culprit of the shaky banking system. The Fed’s boom/ bust policies, with wild swings in interest rates, has caused this problem.

The real problem is having any central bank or central authority with a monopoly over the supply of money. But stepping into our statist world of central banking, the Fed has still done far more damage than what could have been. If the Fed hadn’t been so crazy lowering interest rates to near zero and massively creating new money out of thin air, then we wouldn’t be where we are now.

There are many consequences to the loose money. It distorts the economy in many ways. It misallocates resources, and it encourages spending over saving. The consequence that is noticeable – rising consumer prices – finally showed up in 2022. Now the Fed is forced to deal with it.

So now we have gone from near-zero interest rates to interest rates at 3% or 4% or higher.

Why SVB Failed

In 2008, banks and other financial institutions started failing largely because of an implosion of the housing bubble. The financial institutions had stupidly made loans to many people that would not be able to meet the monthly payment obligations.

In addition, they made many loans with very low down payments, so house buyers had very little equity going into the deal.

Of course, this was all fueled by the Fed’s easy money policy before that, but the financial institutions are still partially to blame.

When housing prices started falling, many homeowners were underwater in their mortgage. The house they owned was worth less than the mortgage. So they decided to make a smart financial decision and not pay the mortgage. You can argue whether or not this is the moral thing to do, but it did make financial sense.

The banks were stuck with loans where people were defaulting. This was a large part of the bank failures.

In the case of Silicon Valley Bank (SVB), they weren’t giving out crazy loans to homeowners. They were giving out crazy loans to the government.

Yes, that’s right. The big risky asset that sunk SVB was buying government bonds.

Someone looking at SVB’s financial statements could have easily determined that the bank was being rather conservative with depositor money.

In fact, according to this article by Simon Black, SVB had $173 billion in customer deposits but only had $74 billion in (non-government) loans as of December 31 of last year.

In our world of fractional-reserve lending, this is actually quite conservative.

A majority of depositor money at SVB was put in U.S. government bonds. And that is what sunk the bank.

The Risky Asset

We don’t normally think of government bonds as risky. One of the big risks with any asset like this is inflation. You lend out money and then get paid back in depreciating dollars.

But that’s not the problem with what happened here with SVB.

If you need to sell a government bond, then the value will depend on the current interest rate as compared to the interest rate on the bond.

SVB likely bought most of these bonds when rates were near zero. When interest rates rise, the value of the bond goes down if you need to sell it before maturity.

It makes me think that the people running the show at SVB were more stupid than reckless. They didn’t match up their time horizons.

They were buying longer-term government bonds, like 10-year bonds. But the depositors didn’t have to wait for 10 years to get their money back. They could demand their money at any time. So there was a mismatch.

If SVB had just purchased 1-month or 3-month securities instead of 10-year securities, the bank probably would have been fine. Even if there had been a good mix, it might have been fine.

If you buy a 1-month Treasury bill, you get the whole balance back in one month. If rates have gone up during that time, you can buy another one at a higher rate. If SVB had done this, it likely would have been fine even if there was an unexpected increase in the number of depositors demanding their money.

A Lesson for the Individual Investor

This is why it is so important to be diversified. Even for individuals with a longer time horizon, you can’t predict the future and should have some diversification.

If you buy a longer-term bond, it may lose value if you sell it early, especially if interest rates go higher.

You could hold the bond until maturity, and this seems risk free. But then you have the risk of inflation. When you get your principal amount back at maturity, how much purchasing power will be lost?

If you hold it for 10 years and price inflation is at 7% per year, then your initial investment will have about half the purchasing power from 10 years ago.

Bonds are useful as a hedge against deflation and a depression. They can serve a purpose in a portfolio like the permanent portfolio.

But as we have seen with SVB, U.S. government bonds can be a highly risky asset on their own.

The upcoming presidential primaries will be nothing short of interesting. Some libertarians will say that they are all the same and that it doesn’t really matter who is elected president because they are all controlled by the deep state.

In the past, this was mostly true. As Gary North used to write, it is CFR Team A vs. CFR Team B. That is the Council on Foreign Relations. You could also say Establishment Candidate A vs. Establishment Candidate B.

In 2004, we had George W. Bush against John Kerry in the general election. They are both part of Skull and Bones, a small elitist group out of Yale. It doesn’t get more establishment than that.

Maybe Donald Trump really is controlled by the establishment. He didn’t seem to overturn any major deep state policies while in office for four years. Trump couldn’t even wind down some wars that he seemed to want to end. His own administration got in his way. When Trump tried to pull troops out of Syria, the people he hired stepped in and assured us that we weren’t really pulling out of Syria.

Still, Trump’s rhetoric is one that doesn’t show signs of him being embedded with the establishment. He may hire the wrong people and take the wrong position on some issues, but it is easy to recognize that there is at least something different about Trump.

A Different Slate of Candidates

Following politics can be depressing for a libertarian. It seems as though the worst person wins more often than not. And most times, it really doesn’t matter that much, as the only choices are really bad choices.

Now maybe it’s just the rhetoric, but there is something different this time around. There is definitely an anti government or anti establishment wave of public opinion.

Even if the candidates are completely lying to us, which I don’t think is the case, they at least feel the need to use rhetoric that is anti establishment.

There are a lot of interesting people who are running or possibly running for president beyond Donald Trump and Ron DeSantis.

Dave Smith is likely running for the Libertarian Party nomination, which in itself will make a general election far more interesting. He will find ways to get exposure through alternative media, and he will bring up issues like war and the Fed in a way that Trump would not.

On the Democratic Party side, there is talk of Robert F. Kennedy Jr. running. Sure, he would be smeared as “anti-vax”, but it would be great if he were able to get into a debate with Biden or whoever the establishment favorite is. I highly doubt Kennedy has any chance of getting the nomination from this pitiful and evil party. Much of the party just dutifully obey the orders of their masters.

There are certainly issues where liberty-minded people may not agree with Kennedy, but at least he is honest and courageous. Those are the two most important traits in taking on the establishment.

On the Republican side, there are establishment candidates or possible candidates like Nikki Haley and Mike Pence. Luckily, these evil people are likely going nowhere.

We, of course, have Trump and possibly DeSantis running, who are the favorites. But another interesting person is Vivek Ramaswamy. It’s hard to know where he stands on foreign policy, but he has been attacking the Federal Reserve and saying we need to abolish the Department of Education (music to a libertarian’s ear).

Restoring My Faith in Mankind

If Dave Smith is the LP nominee, and Vivek Ramaswamy is the Republican nominee, and Robert Kennedy Jr. is the Democratic nominee, my optimism for the future will rise to nearly 100%. This would really restore my faith in mankind.

Even if two out of three are the nominees and the other one gets good traction, I will consider it a win.

Out of the three, Dave Smith has the best chance of being the nominee because the party is so small and it is the hardcore people who really get to decide. The LP nomination happens at the national convention as opposed to state primaries.

So right off the bat, this is great news because Dave Smith is a hardcore and principled libertarian who knows how to present the message well. (He will reach even more people when he cleans up his mouth for a general audience).

Ramaswamy may be looking for a VP slot under Trump, but his message is still important. He will force a conversation, at least to a certain degree, about the Fed and other issues. While he isn’t as great as Ron Paul, his presence will likely be similar to that of Ron Paul in the 2007/2008 and 2011/2012 elections.

I have far less optimism with Kennedy running as a Democrat. It’s not because he doesn’t have a lot of valuable things to say. It is because the party and their obedient media will attempt to censor him. They will just try to pretend that he doesn’t exist. And when they feel compelled to acknowledge his existence, they will smear him. It’s hard to say if they will be successful in keeping him off the debate stage.

Vivek’s Take on DeSantis

The big wildcard for me is Ron DeSantis. I voted for him in the last governor race because he was one of the least bad governors on COVID.

DeSantis did lock down Florida in April 2020. Luckily, he got smart and got some courage and quickly reversed course while most of the rest of the country was still in isolation (i.e., under totalitarian orders).

I have a concern that DeSantis is too politically brilliant. So I don’t always know if I’m being played. It’s nice that DeSantis takes on the “woke” crowd, but this doesn’t really do much for me or anyone else if he is president.

Just because you can speak boldly against the “woke” crowd, it doesn’t really mean you are taking on the establishment. It doesn’t mean you are taking on the military-industrial complex. It doesn’t mean that you are taking on the so-called intelligence agencies. It doesn’t mean you are taking on the Fed or the Department of Education.

I don’t want DeSantis – if he were president – to stop transgender story hour for kindergarteners. I want him to abolish the Department of Education.

Vivek Ramaswamy did an interview with Candace Owens, and she asked him about his thoughts on Trump and DeSantis. Vivek is somewhat complimentary of both of them, but he doesn’t have faith that they can get the job done as president. He is actually a bit harsher towards DeSantis.

Now, again, Vivek may be setting himself as a possible Trump running mate, but I think his criticism of DeSantis is fair, and Candace Owens agreed with him.

Vivek said that DeSantis actually doesn’t have enough courage and implies he is too scripted and rehearsed. When DeSantis addressed the news that Trump may be arrested, DeSantis cleverly kept referring to the “Soros-backed District Attorney (DA)”. He repeated it several times.

But it was a bit too clever for me. It was a brilliant political statement, which is exactly the problem. I don’t know if he is just telling conservatives what they want to hear.

Conclusion

There are things I like and hate about Trump. This has been the case for a while now.

I generally like Kennedy and Ramaswamy. I don’t exactly know where they stand on foreign policy, but I like that they will bring up issues that the establishment does not want to talk about.

I am unclear on DeSantis and how good or bad he would be as president. We need to hear more of what a DeSantis foreign policy would look like, and then we’ll have to judge if we can take him seriously.

Dave Smith will be a great LP candidate and help spread the message of liberty far and wide. He just needs to start making videos that I can send to my mother.

Overall, despite the depressing state of the world in many areas, it is encouraging that we have different voices that will help to change the conversation in America. It isn’t simply CFR Team A against CFR Team B anymore.

The FOMC released its latest monetary policy statement. The Fed is hiking its target rate by 25 basis points. It was not completely certain this time around with the new banking crisis. It was possible that the Fed could have paused its rate hikes.

In the second paragraph of the statement, it states: “The U.S. banking system is sound and resilient.”

That is the howler of the year right there. If you ever want to understand the term gaslighting, that is it right there.

The Fed might just as well say: “It’s ok, citizens. We just hit a minor bump in the road. Never mind the inverted yield curve. Never mind price inflation. Never mind the failing banks. Unemployment is low and the economy is looking good. We just need to tweak a few things.”

In Jerome Powell’s press conference, he assured us that the balance sheet expansion was just temporary.

Monetary Inflation – Two Steps Forward, One Tiny Step Back

If you look at the Implementation Note from the statement, there are a couple of key bullet points that stayed the same.

The Fed will continue to roll over Treasury securities exceeding $60 billion per month and mortgage-backed securities exceeding $35 billion per month.

This means that the Fed will not roll over $95 billion per month. So the maturing debt will come off the balance sheet. The balance sheet – the base money supply – should be going down by about $95 billion per month.

But in the previous two weeks in the midst of a banking crisis, the Fed added about $300 billion to its balance sheet. So it negated over three months worth of balance sheet reduction in a matter of a couple of weeks.

So it’s real nice of the Fed to fight price inflation by draining its balance sheet by not rolling over some maturing debt, but they are adding new debt to the balance sheet in some other form.

What kind of a game is this? Does it make a difference if you don’t roll over $95 billion in maturing debt but then just add $300 billion in new debt? It would be the same thing as rolling over all of the maturing debt and just adding an additional $205 billion this month.

But don’t worry, the U.S. banking system is sound and resilient.

Resiliency with a Money Making Machine

Maybe it’s not wrong to refer to the banking system as sound and resilient. Anything can be sound and resilient with nearly unlimited funds.

The primary goal of the Federal Reserve isn’t low unemployment and price stability. The primary goal is to act as a lender of last resort to the major banks. March 2023 has demonstrated that well. (Its other main goal is to fund the deficits from Congress.)

The Fed is not exactly bailing out the banks that are failing in this case. They seem to be letting the people running the banks off the hook, but the banks will likely technically go bankrupt. But the Fed is bailing out the depositors.

They are also implicitly bailing out the entire banking system by giving assurance that they will do anything necessary to stop major bank runs.

So if a bank looks shaky, depositors are far less likely to make a run on the bank, knowing that the Fed is there. The “Fed put” isn’t on the stock market. The “Fed put” is on the banking system. It encourages bad banking practices to continue.

Tight Money or Loose Money?

While the Fed has expanded its balance sheet in recent weeks, it just hiked its target federal funds rate by 25 basis points.

There is a major disconnect there. Prior to 2008, the Fed generally controlled its balance sheet by raising or lowering its target rate. A higher rate generally correlates with a stable or declining money supply.

It’s not likely that the Fed can continue this practice easily. This may have been the last rate hike for a long while. Maybe we’ll see one more 25 basis point hike at the next meeting if things stay relatively calm.

Regardless of the Fed’s rate hike, the balance sheet has expanded again. It is difficult to fight price inflation when you are expanding the money supply.

We could go in either direction at this point. It could be a major recession, or it could be higher price inflation. It’s possible that we will get both.

I believe we are in a new financial crisis. It may or may not be similar to 2008. As with most events in history, you will find similar characteristics with past events.

I have been a long-time proponent of having a permanent portfolio. This is designed to protect your wealth in any economic environment. There are no guarantees in life, but this is the closest thing I’ve found to protecting wealth in virtually any environment.

If there is an all-out nuclear war, then no investment strategy is going to do you any good unless you have a bunker and a lot of food. I am talking about the common economic environments of inflation, deflation, prosperity, and recession.

While a permanent portfolio is generally conservative, it doesn’t mean you can’t have risky investments. But these should be outside of your permanent portfolio. Your permanent portfolio is for the money you can’t afford to easily lose.

So the big question is: Will the permanent portfolio hold up with what is coming in 2023?

A Financial Crisis or a Monetary Crisis

One problem is that we don’t even know how this will play out. It looks like a financial crisis with banks failing, but we know that the Federal Reserve and other central banks have the capability of bailing out banks (or bailing out depositors) by creating new money out of thin air.

If the Fed chooses to continue bailing out depositors, then it might lose its grip on its supposed fight against inflation. In other words, if the Fed has to create new money to “solve” a banking crisis, it creates a new crisis.

It then becomes a monetary crisis where you start to worry more about the purchasing power of your dollars. Your dollars are safe in the bank in terms of their quantity, but their value quickly diminishes.

Will we see something resembling more of a depression with failing banks and depositors losing money (in excess of what is covered by the FDIC)? Or will we see massive price inflation or even something closer to hyperinflation?

The Point of the Permanent Portfolio

The whole point of the permanent portfolio is that we can’t predict the future with any certainty. It is designed to protect your wealth no matter what crazy decision a bunch of Fed officials make.

If the next bank failure comes and the Fed decides not to come to the rescue, maybe we will see a financial crisis greater than 2008. We may see a depression with price inflation coming down. In fact, even if there are bailouts, there still may be some kind of depression.

In late 2008, stocks fell hard. This could easily happen again. It could happen to an even greater degree.

Maybe the Fed’s bailout of Silicon Valley Bank is the new norm. Maybe all quantitative tightening is over and we will see price inflation go higher than it was last year. Stocks still may fall, or they may start an upward trajectory as happened in the spring of 2009.

We just don’t know. All four investments in the permanent portfolio – stocks, bonds, gold and cash – are at the whims of central bankers and the billions of people that make up the world economy. They could go in any direction. But there is a good chance that at least one of them will do well in the coming year or so.

What About Interest Rates?

Since the permanent portfolio is somewhat conservative, then why not just invest in Treasury bills that are paying close to 5%?

In some cases, this may make sense. If you are saving to buy a house in one year, then it probably makes sense to put your savings in a Treasury bill. But even here, we have to be a little bit careful.

The permanent portfolio is wonderfully designed, especially with its gold portion, to protect your wealth against inflation.

If you are saving for the longer run, then you want to get returns above inflation. In the short run, you really just need to concern yourself with hyperinflation, which hopefully never comes.

If you invest in shorter-term Treasury bills right now, you are still lagging behind inflation. Again, this may be a good strategy if you have a shorter-term purpose for the money.

But for the long run, you are going to lose purchasing power. Even with higher interest rates today, they are lagging behind price inflation. If price inflation goes to 10% from here, it is going to take a little while for interest rates to catch up.

Also, since the start of the banking issues becoming apparent, interest rates have gone down. This has been good for bond holders. But if you have all of your money in Treasury bills, the rates will be lower when it is time to roll them over.

So I generally don’t think Treasury bills are a good substitute for the permanent portfolio, even at this stage.

Buy Low, Sell High

One of the features of the permanent portfolio is that when you rebalance, you are selling assets that have risen in price, and you are buying assets that have fallen in price (or not gone up as much as the others).

Sometimes this can seem to hurt you in the short run because you miss out on the big runs in certain assets. But you will still have 25% exposure while taking the gains off the table. So you don’t have to think about when to buy and sell, as long as you stay disciplined and rebalance according to your own schedule.

(The mutual fund PRPFX, while not an exact replica, is a good substitute for setting up your own permanent portfolio. The great thing about PRPFX is that it takes away any temptation from you in terms of rebalancing or not rebalancing your portfolio.)

Personally, I tend to think stocks are the biggest risk category right now. I would actually prefer bonds at this point with the threat of a major recession coming (if it’s not already here).

However, in terms of the permanent portfolio, I don’t need to speculate. I can just follow the formula. I can speculate outside of the permanent portfolio by not owning stocks or even by shorting stocks.

Sleep at Night

Sometimes I call it the sleep-at-night portfolio. I don’t want to constantly be worried about my investments. I take interest in the financial markets because it is interesting to me, but I’m not panicked about a stock market crash, or Bitcoin falling, or interest rates spiking, or whatever.

I am well diversified, so I know that I am not going to have wild swings like some other people do.

Just because we are on the verge of another financial crisis, I am not worried about changing my general investment strategy. In other words, I can sleep at night, at least in terms of not worrying about my investment portfolio.