Dear Diary,
The Dow fell 96 points yesterday, or 0.5%. Gold jumped up $16.70, or 1.4%, to settle at $1,232 an ounce.
But let us return to the big picture… and the explosion of credit under the post-1970s fiat money system.
As long as America’s accounts had to be settled in gold, the supply of money was constrained. It could go out and about town and have a good time. But when the party was over it had to go home and face an unforgiving and unyielding spouse – gold – to which it was bound in marriage.
Too bad…
But after repeated infidelities, the marriage broke down. And in 1971, President Nixon finally annulled it.
The new fiat money system that took the place of the gold standard was different. It was free and fun loving. It could stay out all night, for as long as it chose, and not get in trouble with anyone.
Wall Street – no slouch when it comes to making money – saw the potential almost immediately. Stirring its innovative and larcenous spirits, it figured out how to make use of the new liberated currency a hundred ways from Sunday.
The New Subprime
The latest evidence tells us it has just done a job on auto loans.
No need for panic. Auto loans are not mortgage loans. And an exploding bubble in auto finance is not likely to knock down the entire economy.
There are less than $1 trillion of auto loans outstanding. Still, auto loans, student loans, oil-slick loans, emerging market loans, bust European sovereign loans… A trillion here, a trillion there – pretty soon, you’re talking real money!
The Wall Street Journal reports on the deteriorating subprime auto loans picture:
More than 8.4% of borrowers with weak credit scores who took out loans in the first quarter of 2014 had missed payments by November, according to the Moody’s analysis of Equifax credit-reporting data. That was the highest level since 2008, when early delinquencies for subprime borrowers rose above 9%.
More than one-third of the auto-loan market is now subprime. Many of these loans will turn sour.
But let’s not get distracted. We’re talking about the perversion of an entire economy over a long time…
Unanchored Dollars
Since the 1970s, more and more financial transactions owe their existence to “money” that no one ever earned or saved – these new, unanchored dollars.
Thirty-five trillion dollars is our estimate of “excess credit” created since the 1970s.
This is the amount of credit beyond what we would have had if the ratio of credit to GDP had remained where it was during the preceding decades.
But instead of debt to GDP at 140% – where it had been for decades – debt rose to over 300% of GDP, where it is today.
This spending boosted activity of all sorts – including the ambitions of the government.
For example, Washington collected taxes on capital gains and incomes that would not have existed otherwise. When even that was not enough, it borrowed money to cover the holes in its budget… and made promises it couldn’t possibly keep.
Government grew by offering more and more protection from more and more evils – from North Koreans, Cubans, marijuana, North Vietnamese, Iraqis, Afghans, jihadists, sickness, unemployment, poverty, illiteracy, discrimination… to lack of access to a mortgage, rural telephone, electricity and broadband Internet.
Whatever seemed popular or threatening at the time.
Mind the Gap
In France, government spending rose to 57% of GDP. In the US, the percentage is lower, but it rises sharply when education and health care – two industries that are still largely “private” but heavily controlled by government – are added in.
But according to Boston University economics professor Laurence Kotlikoff, when you add the cost of all the health care and retirement promises made by the US government to its voters, the nation’s “fiscal gap” – the difference between the government’s projected financial obligations and the present value of all projected future tax and other receipts – is $212 trillion.
Eliminating this gap – effectively the nation’s credit card bill – would require a permanent 59% increase in federal tax revenue. Or a permanent 38% cut in federal spending. Neither of which is even remotely likely to happen.
And not only was the US economy perverted by this wave of credit, entire industries were too.
Writing in the Washington Post, George Mason University professor of public policy Janine Wedel explains that doctors have been suborned by the pharmaceutical business, retired generals have been bought by weapons manufacturers and even economists’ judgment – such as it is – has been bent in the direction of Wall Street:
[C]onsider the activities of 19 top academic economists tracked by a University of Massachusetts Amherst study. These economists promoted specific financial reform proposals in the media and advised governmental bodies such as congressional committees in the run-up to and just after the 2008 financial crisis – without disclosing their links to private financial institutions.
Without so much credit, the world would still exist. But it wouldn’t be the world we know today.
Bubbles would still exist, even without the gigantic bubble in credit. But they would be smaller and less frequent.
And Wall Street wouldn’t be bidding so lustily for economists if it had to live on its pre-credit-expansion earnings.
Wall Street sells credit; as the market for loans increased so did the Street’s profits – rising from barely 10% of total corporate profits in the 1960s to as much as 40% in 2007.
The US Empire of Debt depends on the explosion of credit too. Without it, America would not be so eager to throw her weight around.
More to come…
Bill
Berlin’s “Extremely Nasty” Dilemma
That’s not far off the peak-to-trough slide between January and March 1980, which saw gold fall 43%.
And at this morning’s price of $1,239 an ounce, gold is still down 35% from its high of $1,924 an ounce set on September 6, 2011.
This isn’t as severe as some other bursting asset price bubbles – such as the 78% plunge in the Nasdaq between March 2000 and October 2002… or the 63% plunge in Japan’s Nikkei 225 between December 1989 and August 1992. But it’s been a rough ride for gold holders over the last three years.
Gold may hold its value over the ultra-long run. But over the short run it can be highly volatile – especially against a backdrop of global currency wars.
That plus the recent bullish action in the gold-mining sector – the Market Vectors Gold Miners ETF, GDX, is up almost 17% so far in 2015 – and we could be looking at a good entry point if you’re looking to add more “disaster insurance” to your portfolio.