A Friendly Discussion Between Friends

Hi Ted.

Hi Al.
There is this new law in Congress right now that I really like.
Oh yeah!  What is it?
It is about healthcare.  It will make healthcare cheaper.
Does is repeal a previous law?
No.  It will cost us a little more in the short term, but it will actually help lower costs in the long run.  It will also invest money in finding new technologies that will help with the quality of care we receive.
Haven’t we heard that promise before?
Yeah, but there are a lot of healthcare professionals who believe this will help.
I don’t like it.
Well, maybe I need to explain it to you better and get you some facts and figures.
Well, that is all fine, but what if I don’t like it?
Well, maybe you won’t like it.  I don’t know.  But you should look at the proposal.
But what if I don’t like it?
Then you won’t like it.
If I disagree and don’t go along with this proposal, will you advocate that violence be used against me?
What do you mean?  I am not violent.
But if I disagree with you on this, will someone point a gun to my head?
Hey man, I’m just having a friendly discussion with you here.  I am not talking about using guns or any other kind of violence.  You can disagree with me if you want.
But you said that this new legislation will cost money in the short run.  Who is going to pay for it?
Well, everybody is going to pay, through some kind of taxes or user fees.
But what if I don’t want to pay?
Well, we live in a society where you have to pay your taxes.  Come on, man.
But what happens if I don’t want to pay for it?
Well, you will probably get hit with some extra tax penalties, so you should probably go ahead and pay it.
What if I don’t pay the tax penalties?
Well, I suppose they’ll eventually take you to court and make you pay them.
What if I don’t show up for court, or what if I do go and refuse to pay?
You probably don’t want to do that.  You could get in big trouble.  They might send you to jail.  You better pay your taxes.
What if I don’t go to jail?
Well, I don’t think you will have a choice.  If you refuse, the police will come to your house and arrest you, I’m guessing.
Will they pull out a gun and point it at me?
Well, probably.
If I don’t comply, will they shoot me?
Well, you can’t disobey the police.
So, in other words, if I don’t pay for this new legislation that you like, then someone will eventually point a gun at me and shoot me if I don’t obey.
Well, I guess if you want to put it like that.
So other than just verbally disagreeing with you, I am not really allowed to disagree with this new proposal that you like without having violence inflicted upon me.
Well, you can disagree, but you will still have to go along with it.
That’s what I thought.
Anyway, I have to go now.  I am meeting some friends for lunch.  We are meeting near a bunch of restaurants and then we have to decide on a place to eat.

Well, if you don’t agree with the others on where to have lunch, at least you won’t be shot if you disagree and decide not to participate.

Libertarian Thoughts on Romney’s Five Point Plan

During Mitt Romney’s speech at the Republican National Convention, he laid out a brief five point plan to improve the economy.  As if libertarians needed another reason not to support this man, even when he gets somewhat specific, his proposed policies are still abysmal.

Romney starts out, “I have a plan to create 12 million new jobs.  It has 5 steps.  First, by 2020, North America will be energy independent by taking full advantage of our oil and coal and gas and nuclear and renewables.”

But why do we want to be energy independent?  Should we also be car independent?  Food independent?  Electronic independent?  Should we just seal off the borders of all trade?  And how is Romney going to do this?  Will he spend massive amounts of taxpayer money to find oil?  And what if the government, or the contractors hired to do it, can’t find enough to become “energy independent”?  Will we have to give up our cars?

Romney continues, “Second, we will give our fellow citizens the skills they need for jobs of today and the careers of tomorrow.  When it comes to the school your child will attend, every parent should have a choice, and every child should have a chance.”

Other than the “choice” part, that could have been said by any Democrat.  This is more top-down centralization of the so-called education system.  How nice of Romney that he will “give” his fellow citizens the skills they need.  How does he or any other politicians know what skills are needed.  This is pure central planning.

Romney continues, “Third, we will make trade work for America by forging new trade agreements.  And when nations cheat in trade, there will be unmistakable consequences.”

So what constitutes cheating and who will determine this?  Will it be Romney, the Congress, or some bureaucratic committee?  What will the consequences be?  Is he going to cut off trade with China?  Will he bomb China?  And why do we need new trade agreements?  Once again, this is total central planning.  Will Romney do this initiative through Congress or will he sign an executive order?  He obviously is not in favor of free trade, as free trade doesn’t really need any agreements.

Romney continues, “Fourth, to assure every entrepreneur and every job creator that their investments in America will not vanish as have those in Greece, we will cut the deficit and put America on track to a balanced budget.”

So we won’t actually have a balanced budget from a President Romney.  He will just get America on “track” for one.  How is Romney going to cut the deficit?  The only specific I have ever heard from Romney is that he is in favor of means testing for Social Security.  In other words, he wants to stiff the old people who are rich, while maintaining everything else.  So where is Romney going to come up with the other $1 trillion dollar or more in cuts necessary to balance the budget?  He is not advocating the elimination of one single department.  I want specifics and I have heard none out of Romney.  If he can’t offer anything substantial while he is campaigning, he certainly is not going to cut anything once he has political power.

Romney continues, “And fifth, we will champion small businesses, America’s engine of job growth.  That means reducing taxes on business, not raising them.  It means simplifying and modernizing the regulations that hurt small business the most.  And it means that we must rein in the skyrocketing cost of healthcare by repealing and replacing Obamacare.”

Did you catch that?  He wants to repeal and replace Obamacare.  What is his replacement?  Will it be Romneycare?  Will it be more socialized medicine than what Obamacare has to offer?  And what is this part about modernizing regulations?  Why does he have to simplify and modernize?  Why can’t he just repeal regulations?  Again, will he get this done through Congress?  Romney’s advocacy of lowering taxes on business is about the only part of this five point plan that is at all attractive to a libertarian.  Even there, who knows what he has in mind.

Libertarians should be very scared of a Romney presidency.  He does not offer any significant alternative to Obama.  At least with Obama in the White House, we have some opposition to big government coming from Congress, even if it is just in rhetoric only.

Phrases for Libertarians to Avoid

Here is a short list of phrases that libertarians should avoid, at least when used in a particular context.  I’m sure I will think of many more later.  If you have any suggestions, please leave them in the comments.

“The less fortunate” – when used to describe poor people.  Perhaps some poor people are less fortunate in that they grew up in a poor family with a bad childhood.  But this phrase is used by statists to imply that being poor is all because of bad luck.  It implies that poor people cannot help their own situation.

“The working class” – used to describe the middle or lower class.  It implies that rich people don’t work.  It implies that all rich people got their money through corruption or luck.  If anything, it is often high income people who work the most, particularly small business owners and professionals such as doctors and lawyers.

“We” – when it is used to describe actions of the government.  We didn’t bomb Iraq.  We didn’t run up the national debt.  It was specific people working for the U.S. government who did these things.

“The filthy rich” – used to describe very wealthy people.  Why is rich being filthy?  It was probably invented by statists who use class warfare to imply that having too much money is dirty.  While there certainly are some rich people who are filthy, particularly in our corporatist system, there are still many honest rich people out there who made their money through hard work, innovation, and pleasing customers.

“Ask” – is often used by statists who are actually referring to government force.  It sounds so much nicer to say that we are just “asking” the rich to pay more in taxes.  In reality, they are not asking at all.  They want to tell people to pay more taxes using the threat of violence.  If they are just asking, can people say “no” without going to jail?

“Help those in need” – is again used instead of referring to government force.  This is a code phrase for redistributing wealth.  When statists say they want to help those in need, they personally don’t want to help.  They want to force others to help those in need.

“Democracy” – is often used interchangeably with the term freedom, even though they mean entirely different things.  In fact, they are somewhat opposite.  Democracy is majority rule, which infringes on the rights and liberties of the minority.

“Fair or fairness” – is often used to mean the opposite of freedom, but in a subtle way.  Instead of free trade, many statists will advocate fair trade.  Fair to whom?  If two parties want to trade with each other, is it fair to them for someone else to interfere who has no business?

These are just a few of my favorites.  Many people who aren’t statists, including libertarians, will often unknowingly adopt some of the language of the statists.  We all do it at times.  It is good to be cognizant of our language.

Charles Goyette Interview

Right after I wrote a blog post about government spending and unemployment, I read an interview (linked from LewRockwell.com) of Charles Goyette.  When I wrote my blog post, I was going after Keynesians, who think that government spending actually helps an economy and helps unemployment. Perhaps, unknowingly at the time, it was also attacking some libertarians, or hopefully setting them straight.

I greatly admire the writings of Charles Goyette.  His book, The Dollar Meltdown, is the one book that I have had permanently linked on my homepage.  Yet, reading this interview today, I felt like a child going to a football game to watch his favorite receiver, only to see him drop several passes while he was wide open in the end zone.

This interview, conducted by Martin Weiss, is a long read.  There are certainly several things that Goyette said in which I agree.  For this post today, I am just going to focus on a few of the things where I found myself vehemently disagreeing.

First, they talk about the coming fiscal cliff in 2013.  I discussed this yesterday.  I said that the media and politicians and even some conservative hosts are lumping together tax hikes and spending cuts.  Well, I guess I should have included Goyette and Weiss (the interviewer).  I don’t really consider them as part of the mainstream media.

Goyette starts off talking about the huge debts that the federal government has run up.  He partially blames our current situation on this and rightly so.  But then he talks about the Budget Control Act of 2011.  He talks about the cuts that will be imposed on defense, Health and Human Services, Medicare, and other entitlements.  He says, “Total: $109.5 billion pulled out of the economy and out of people’s pockets, starting this coming New Year’s Day and every year thereafter.”  The problem here is that Goyette is not talking about the tax hikes.  He is talking about spending cuts.  He has it completely backwards.  If the governments isn’t spending this money, then it will be in the people’s pockets who actually earned it.  This is what we need.  And this money will not be “pulled out of the economy”.  It just won’t be spent (misallocated) by government bureaucrats.

Goyette then says, “According to a recent university study, these and other cuts will destroy more than two million jobs throughout the economy.”

Goyette goes on about how the U.S. defense industry (as if most of it is really defensive spending) will be the hardest hit.  Then Weiss, the interviewer, adds to my misery and says, “after the Great Depression, it was thanks to massive increases in defense spending, for World War II, that the unemployment rate finally dropped.”

This is complete ignorance.  It could be spoken by Obama or Paul Krugman and I wouldn’t know the difference.  While unemployment dropped during WWII, much of it due to millions of young men going off to war, there was no recovery until after the war.  The recovery came in 1946 after federal spending was dramatically cut.  It was one of those rare times in American history when government actually scaled back dramatically.

If that isn’t enough, then Goyette discusses the bailouts and stimulus.  He says they are ending and that “we will NOT have that stimulus to fuel the economy or the stock market – and the impact could be severe.”

I might buy his argument about the stock market, as it seems highly dependent on government debt and money creation by the Fed.  He may even be right that it will expose the fragile economy.  But he needs to be clear that this is what needs to happen.  There should be major cuts in government spending far beyond what he is talking about.  Only then will we correct at least some of the major misallocations from the past.  We need a dramatic scaling back of government so that we can one day have a real recovery.

Lastly (as far as my major criticisms), Goyette talks about some of the ramifications and the appropriate investments.  He says that interest rates are going up.  He says to invest in an exchange traded fund (ETF) that bets on higher interest rates.  He thinks the Fed is suppressing interest rates.

I hate to break it to him, but the market has some say in all of this.  There is no doubt that the Fed’s buying of government debt affects rates and helps keep them down.  But the horrible economy and the fear people have of spending too much and borrowing too much is playing a major role in keeping interest rates down.

Why does he think higher rates are imminent now?  He thinks the Fed will do more money creation.  He thinks the economy is headed for a major downturn in 2013.  Wouldn’t these things keep interest rates low in the short term?

In his book The Dollar Meltdown, I disagreed with one piece of advice he offered.  At that time, he suggested shorting bonds (betting on higher interest rates), just as he is doing now.  I disagreed.  He was wrong on that point several years ago.  How can he be so sure he is right now?  That book is about three years old and rates are just as low or lower than they were then.

I still like Charles Goyette and his writings and I am thankful he is part of the libertarian movement.  With that said, he dropped a few too many passes in this interview and it was rather disappointing.  I hope to see some touchdowns the next time I read or listen to him.

Government Spending and Unemployment

Ron Paul was recently interviewed on Bloomberg TV.  At one point during the interview (at approximately 3:50 in the video), he suggested that government should cut spending.  The woman interviewing him then said, “How is cutting spending going to create jobs?”  And she said it in a rather condescending way.

There is also a lot of talk about a fiscal cliff coming at the beginning of 2013 because if Congress doesn’t act, then tax rates will go up and there will be mandatory spending cuts.  (These aren’t really spending cuts.  They are just cuts in the projected increase, but for the sake of this discussion, we’ll pretend like they really are cuts.)

It is funny (or maybe sad) that the media and politicians are portraying tax hikes and spending cuts on the same level.  They are both referred to as austerity measures at times.  I have even heard conservative commentators referring to the coming fiscal cliff and mentioning both tax hikes and government spending cuts, as if they somehow have the equivalent effects.

This is really the heart of Keynesianism.  It is one of the biggest fallacies that exists in economics and it does us all much harm.

The whole notion of creating jobs is actually kind of ridiculous.  It isn’t that we want to create jobs.  It is that we want to create wealth and we get that from production.  We get production from people working.  If we had unlimited wealth in this world, then it wouldn’t be necessary for anyone to work and we wouldn’t want to create any jobs.  I have explained this before.

The reason that there is high unemployment for people who want to work is due to government interference in the marketplace.  If this government intervention weren’t an issue, then creating jobs wouldn’t be on our mind.

So with that said, if jobs are going to be created, they should be jobs that meet consumer needs and wants.  They should produce something or help someone else produce something, whether that is a good or service.

Only the free market can properly allocate resources to best meet consumer demand.  When the government takes money (resources) through the threat of force and then spends it, these resources are being misallocated into areas that do not best meet consumer demands.

For people to say that cutting government spending hurts the economy or stifles job creation is ridiculous.  Not only is it wrong, but it is actually the opposite of the truth.  Cutting spending will help the economy in the long run and it will actually lead to good job creation.  This is the kind of job creation that satisfies the needs and wants of consumers and makes us wealthier.

By cutting government spending, it puts resources back into the hands of people and businesses.  While people may make bad decisions with some resources, like in starting a business that is unprofitable, they will be quickly corrected by the market through the profit and loss system.  The lack of profits will stop the wasting of resources, whereas there is no such mechanism when government is wasting resources (which it constantly does).

Even if a decline in government spending leads individuals to save more and invest more, there is nothing wrong with this.  We need savings and investment.  We need capital investment to produce more in the future.  This will eventually lead to a rise in our standard of living.  Without savings, a society is unlikely to advance at all.

In conclusion, government spending cuts is what this economy desperately needs.  We need more savings and investment.  We need a correction to reallocate all of the resources that have previously been misallocated due to government interference.  We need jobs that will produce goods and services that are most demanded by consumers.  This will ultimately lead to a sustained recovery and an increase in our standard of living.  More government spending will only keep us down.

Presidential Election Analysis – September 1, 2012

The Republican National Convention is over and now we get to look forward to (or not) the Democratic National Convention.  While I am biasedly libertarian and will absolutely not vote for Romney or Obama, I am going to try to offer some unbiased analysis.

I didn’t watch the whole convention in Tampa, but I did see a few speeches.  I saw Rand Paul, Paul Ryan, Marco Rubio, Clint Eastwood, and Mitt Romney.  I have to say that out of all of those people, Romney was by far the least charismatic.  Perhaps Eastwood’s speech was a little strange, but it wasn’t boring.  Plus, it may have even rattled the establishment a little.  And I’m not saying that I believed all of the talk about liberty from the other speakers, but they were somewhat charismatic.

Romney, on the other hand, comes across as stiff and robotic.  He is another John Kerry or Al Gore.  He is a dud.  He does not come across as stupid like George W. Bush, but he doesn’t really come across as all that likeable.  He doesn’t come across as unlikeable either (except for some of the things he is saying).  He seems like a decent family man, but it is always hard to say.  I consider most politicians to be sleazy, and I’m sure he is no exception.  Regardless, he just doesn’t have much appeal to the average person.  Republicans are supporting him because they hate Obama.

I’m not saying that Romney’s lack of charisma is a reason to not support him, but it is a reason that millions of Americans won’t support him.  It should be for his bad policy proposals and his lack of principles, but it will be his lack of charisma that mostly haunts him.

After the Democrat’s convention, Obama will likely get a slight bounce back up in the polls.  At that point, I think Obama is the favorite to win the election.

Romney and the Republican establishment really ticked off the Ron Paul supporters in Tampa.  The word has spread quickly through the internet of their treatment.  My guess is that the large majority of Ron Paul people will not vote for Romney.  They probably won’t vote for Obama either.  Some will go to Gary Johnson, some will write in Ron Paul’s name, and some will stay home.  Regardless, Romney will not get many Paul supporters voting for him.

I do see one scenario where Obama could lose to Romney.  If there is some major bad economic news in the next two months, then Obama may be done.  For example, let’s say that the stock market (the Dow) drops 2,000 points over the next two months.  Let’s say that unemployment continues to tick back up.  This may be enough to tip the scales in favor of Romney.  Ironically, there is not much Obama can do about this.

Most potential voters are probably already decided at this point.  There is probably about 10% of the voting population who could still go either way.  If things stay the same between now and the election, then they will likely default towards Obama.  If things are looking worse, particularly economically, then they might decide to pull the lever for Romney.

I know I make a lot of Republicans mad when I say this, but I don’t thing it will matter much either way.  In some ways, Romney could possibly be worse if he decides to take military action against Iran. As far as economics, Romney will not be any better than Obama, especially because there will no longer be any opposition to big government coming from the House of Representatives, even if it is just in rhetoric only.  There might be a slight hope of repealing Obamacare if Romney wins, but even this is doubtful.  The Republicans would have to win the Senate and then they would actually have to get the votes for repeal.

As far as investment implications, I don’t think there are any.  Conservatives think that the economy is completely dependent upon extending the so-called Bush tax cuts.  Liberals (in the modern use of the term) think that the economy will run better if we tax the rich more.  But it all goes so far beyond tax rates.  More important is the spending, government regulations, and Fed policy.

If Romney is elected and all of the tax cuts are extended into 2013, it will not make much of a difference.  We are still facing a massive recession, or else massive price inflation before that.  It cannot be avoided at this point because of all of the previous malinvestment that has taken place.

It is somewhat ironic because the Democrats and Republicans should be hoping the other side wins.  Whoever is president in the next term is going to face major economic problems and is probably going take a lot of blame.  The problems have already been created.  The only way to solve them at this point is to cut spending massively and default on some of the government promises.  I don’t expect that out of Obama or Romney, unless they have no choice.

In conclusion, I predict Obama will win unless there is some kind of major change like a big drop in the stock market.  Intrade is also predicting an Obama win at this point, with about 58% voting (with their money) in favor of an Obama win.

A Political Speech For a New Era

Here is the text of a short speech I have written for some future politician running for office in the U.S. Congress.  As I have written before, there will end up being a battle between generations, and I believe the younger generation will eventually win.  This speech will not appeal to many voters in Naples, Florida.  It will appeal to the tens of millions of young people who are struggling every day.

Here is the speech.  Any future politician can feel free to use it.

My fellow Americans, I come before you today to speak of a great injustice that I see.  We are supposed to live in a land of liberty and opportunity.  Unfortunately, I look around today, and I see sadness and despair.  I see people who have lost all hope for the future.  I see people who are struggling just to get through each day.  I see a generation of Americans who are worse off than their parents.  It is not supposed to be this way.

Our country is now faced with a massive national debt and unfunded liabilities of hundreds of trillions of dollars.  The large majority of the federal budget it going towards the military, interest on the debt, and so-called entitlement programs.  It is the last item that I wish to address today.

Programs like Medicare and Social Security are referred to as entitlements, as well as government pensions.  But why are people entitled to these?  They can say they paid into them, but does that really matter now?  These promises were made in the past by politicians trying to buy votes.  The money that was collected in the past has already been spent.  The only way to pay for these programs now is by inflating the currency more, accumulating more debt, or collecting more taxes.  But we can’t print any more without completely destroying the dollar, we can’t borrow any more for the same reason, and taxes are already too high.

The young people in this country never made these promises, so why should they be burdened with having to pay for them?  I look around and see young people barely scraping by.  They struggle to raise kids.  They have to make tough decisions on what to forego in life.  It is difficult for many now just to make enough money to meet the basic needs of housing, clothing, food, medical care, and child care.

Meanwhile, I look at an older generation that is doing quite a bit better.  Sure, there are some who are struggling.  But there are many who don’t work and spend their time playing cards, playing golf, going to dinner parties, taking vacations, and soaking up the sun.  To be clear, I have no problem with people doing any of these activities.  The problem is that they are doing these activities at the expense of a younger generation, while that younger generation struggles to stay above water.  This is an injustice.

That is why I am proposing a new plan to radically reform this so-called entitlement spending.  We will cut all Social Security payments by 10% per year for the next 5 years for anyone who is under the age of 80.  The so-called retirement age will be raised gradually up to the age of 80.  Anyone under the age of 80 will also be responsible for a higher co-pay when using Medicare, which will eventually be eliminated for anyone under 80 who is not severely disabled.

This does not mean that people cannot retire in their 60’s.  People can decide to retire any time they want.  They simply have to plan for their future and save enough money to fund their own retirement.  These so-called safety nets of Medicare and Social Security have turned into retirement plans, while they hold down all of the people working who are forced to pay for them.

Of course, with these cuts, we will see a dramatic reduction in the federal budget and we will see a proportional decline in payroll taxes.  This will lift a huge burden off of younger people trying to get started in their adult life.  Why should they have to pay into a system that does not benefit them now and will eventually be bankrupt anyway?  Why should they have to continually struggle with a stagnant economy that cannot grow due to massive government taxes and interventions?

So I ask you, if you are a worker, struggling every day to get by, and you would like some relief from paying for the relatively lavish lifestyles of the older generation, please vote for me in the upcoming election.  We are not talking about throwing anyone out on the street.  We are simply asking for justice and fairness.  We are asking the older generation to stop placing such a heavy burden on their children and grandchildren.  Please vote for me and let’s get America back to where it should be.

Rand Paul Speech at the Republican National Convention

Rand Paul gave his speech at the Republican National Convention.  The Republican establishment would not let his father speak, unless he was willing to endorse Romney and have his speech pre-approved.  Needless to say, Ron Paul is not endorsing Romney and he is not getting any pre-approvals for his speeches.  The Republican establishment could count on Rand to be a little more diplomatic.  Translation: the Republican establishment could count on Rand to speak less radically in favor of liberty.

Rand Paul is a pretty good speaker.  There isn’t much he said in his speech that I (as a radical libertarian) would disagree with.  In some ways, Rand’s speech reminded me of Ronald Reagan a little bit.  I’m not sure if anyone will ever have the charm of Reagan, but Rand Paul certainly spoke well and spoke well in favor of liberty.  My disagreements with Rand Paul and speech are not on the things he said (except his endorsement of Romney).  It was the things that he didn’t say that I really disagree with.

Most of his speech was about attacking Obama and his presidency.  It was like listening to a good episode of Rush Limbaugh.  Most of the criticisms he threw at Obama were valid.  My problem is that many of the same things could have been said about George W. Bush or Mitt Romney.

Obama passed Obamacare, but Bush passed his Medicare prescription drug plan and Romney passed Romneycare in Massachusetts.  Bush racked up massive debt on his watch and supported massive bailouts.  If Romney is elected, I have no doubt that the massive deficits will continue.

Rand did give a brief mention about how Republicans need to admit that not all military spending is necessary or well-spent.  He had to throw a bone to his dad’s supporters.  Of course, he didn’t mention the hundreds of thousands of innocent lives that have been lost due to the U.S. wars.  He didn’t mention that the U.S. government has become the policeman and wanna-be dictator of the world.

The last time I posted something about Rand Paul, I was very critical and I said that he threw away his future political career.  I made that statement because I think there is a good portion of Ron Paul supporters who simply don’t trust him anymore, and rightfully so.  However, I may have to take back my statement about his political career being over.  Rand gave a very uplifting speech and he may be able to imitate Reagan enough to pull the wool over the eyes of the Republican electorate.  While I’m sure many Ron Paul supporters would support him in the future (and many wouldn’t), I think there are many non-Ron Paul supporters who would be happy with Rand.

While Rand Paul is certainly the best senator in Washington DC, that is not saying much.  He may end up being the best speaker at the convention (from a libertarian standpoint), but again, that isn’t saying much.  I don’t think I will be investing any time or money with Rand in his future political career.  I simply cannot trust him to the same extent that I can trust his dad.  Rand seems like a genuinely nice guy, but there is only one Ron Paul.  I think our future in liberty does not lie in politics, but in education and technology.

Hyperinflation Scenarios

I have argued that I don’t think hyperinflation is a likely scenario in America.  I know that the statists have changed the definition of inflation from meaning an increase in the money supply to an increase in prices.  For today’s post, when I talk about hyperinflation, I am referring to prices.  I would consider price inflation of 100% or more per year to be in the category of hyperinflation, but I realize that definitions can differ.

I think hyperinflation is unlikely because it would lead to a massive breakdown of the division of labor, particularly without any existing competing currencies or other forms of money, mostly because of the legal tender laws and other restrictions on precious metals.  I don’t see the Federal Reserve going all the way to hyperinflation as they would be destroying themselves along with the entire economy.  While most of the Fed officials are foolish, they are not completely stupid.

It is technically possible to have hyperinflation even if the Fed tries to stop it.  As I discussed in my previous post, the Fed cannot always withdraw all of the money that it creates.  If it buys shares of a particular stock for $100 per share and then the price drops to $30 per share, then the Fed can only sell the shares in the open market for $30 per share at that point.  It can only withdraw 30% of the money that it originally created to buy the stock.

While we don’t know if the Fed has been buying stocks, we do know that the Fed has been buying government bonds and mortgage-backed securities.  We already know that the mortgage-backed securities are worth less than what the Fed bought them for.  If interest rates were to rise, then the government bonds in its portfolio would also decrease in value.

But even if all of this happened, the Fed could still sell the assets it has and withdraw some money that was previously created.  In addition, just by announcing that it will no longer monetize any debt for an extended period of time, this would probably be enough to avert a hyperinflation scenario.

Ironically, the libertarian movement might create the best chance for a hyperinflation scenario.  While the libertarian movement should keep the Fed somewhat in check, it might also have a great effect on people’s views on money.

Hyperinflation usually occurs because of a massive increase in the money supply.  People come to believe that the money printing will never stop or even slow down.  People then demand less cash.  They try to spend it instead, driving up velocity.  As money changes hands quicker, it drives up prices faster and faster.  This eventually leads to hyperinflation.

If libertarians convince enough people that the U.S. dollar will eventually end up like every other fiat currency in history and go to zero, then this alone could take down the dollar.  Imagine if 20 million people started listening and believing everything that Ron Paul says.  Now imagine if these 20 million people take half of their money and start buying hard assets like gold, silver, real estate, etc.  Not only would the price of hard assets go up, but the dollar would go down.  The demand for the U.S. dollar would go down.  This in turn might get more people to question the dollar.  It is like a snowball effect.

So technically speaking, it is possible to see a currency destroyed even if the money supply is not increasing dramatically, or even at all.  It would take a huge shift in the attitudes of the American people to do this, but it is possible.  Not only would they have to understand the dangers of a fiat currency, but they would also have to believe that others see the same thing.  If everyone turned into a libertarian overnight, yet nobody announced it, then the dollar would probably survive because even libertarians hold dollars, thinking that everyone around them will continue to use it and trust it as money.

As you can see, psychology plays a huge role in the demand for money, which in turn affects overall prices.  So while the money supply is important to watch, it is not everything when it comes to price inflation.

Can the Fed Withdraw Money?

In response to one of my posts last week on Helicopter Ben Bernanke, I received a comment/ question. While it is a fairly easy question to answer, I thought I would expand some thoughts on it and I thought it might be interesting to others.

The comment said, “Just curious.  Can the Fed do negative printing.  By that I mean, can it reduce the money that is out there?  Can it take in dollar bills and burn them if they think inflation is getting out of control?  Or the equivalent in our digital world.  So if the US has $3 trillion in circulation, can they reduce that number to $2.5 trillion somehow?  Not sure why I’m asking, I’m just curious I guess.”

The short answer to the question is “yes”.  The Federal Reserve can reduce the money supply that is in circulation.  It would not do this by taking in dollar bills and burning them, although technically it probably could do this.  It would do it digitally, doing the reverse of how it created money in the first place.

The Fed creates money out of thin air by buying assets.  Usually these assets consist of government debt.  It does not buy this government debt directly through the government, although there is probably no reason that it couldn’t.  It buys it through an intermediary, usually a large bank or financial institution.  It buys the debt and basically does a computer entry onto the bank’s books.

If an individual bought a government bond from a bank, then money would transfer from that individual’s checking account into the bank’s account.  Ownership of the bond would transfer to the individual.  No new money is created in the process.  It is just changing hands.  In the case of the Fed buying a government bond (or lots of them), it is using money created out of thin air to buy.  This is monetary inflation.

If the Fed wants to reduce the supply of money, it can do the reverse and sell the government bonds.  The bank (or whoever is buying the bonds) would transfer money back to the Fed, which would then magically disappear from the system.  It really isn’t magic, but it almost seems like it.  This is monetary deflation, as it is reducing the overall money supply, even if just digitally speaking.

The Fed can also reduce the money supply by simply refusing to rollover government debt.  When a bond expires, the Treasury Department would have to pay back the principal amount on the bond.  If the Fed does not buy another bond to replace it, then that money is essentially pulled out of the system, except any money that the Fed uses to pay for its own expenses.

There is a scenario where the Fed may not be able to reduce the money supply to the same extent that it increased the money supply.  If it bought long-term bonds and the rates go up, then the market value of the bonds will go down.  If the Fed sells these bonds in the open market before expiration, it will not be able to sell them for the same price at which they were bought.

The same goes for any other asset.  One area where this subject is particularly glaring right now is mortgage-backed securities.  The Fed started buying these back in late 2008 and paid the full value that the banks had them valued for on their books, even though they were worth far less.  Due to defaulting mortgages, these securities are worth far less than what the Fed paid for them.

Just for example, if the Fed bought $600 billion in mortgage-backed securities and they are now worth only $400 billion, then the Fed would only be able to withdraw $400 billion from the system (from selling these particular assets).  I suppose they could force the banks to buy them back for the full amount, but that would probably bankrupt the banks, which the Fed obviously wouldn’t do.  So even if the Fed sold all of the mortgage-backed securities from its portfolio, there would still be a net increase of $200 billion in the money supply from the above example.  This would only be an increase from the last 4 years regarding this particular asset.  Looking at it just from a short time frame of this year, selling these assets now would be monetary deflation.

Of course, the Fed can control price inflation in other ways through manipulation of interest rates, controlling rates paid on excess reserves, and also controlling the required reserves of the banks.  The Fed can also control price inflation simply by telling the marketplace what it plans to do.  If most people believe that the Fed will inflate the money supply significantly in the near future, this in itself can increase velocity and increase price inflation.

There are a lot of variables to consider and that it why it can be quite difficult to predict price inflation, particularly in the short term.  The Fed can certainly sell some assets and reduce the money supply, but I would be surprised if it did this right now, especially since price inflation is relatively low (at least for now) and the economy continues to stagnate.

Combining Free Market Economics with Investing