The Fed will make matters worse until... - The Daily Reckoning
The Daily Reckoning by Bill Bonner
On This Day - 30 April 2014
The Fed will make matters worse until... A  A  A

Gualfin, Argentina

Dow up another 86 points. Can anything stop it? Yes. We're just waiting to find out what.

We began this series with a question: isn't it possible that the very same savants who now presume to address the problem of wealth inequality were those most responsible for causing it?

The question arose as we discussed a publishing sensation: Thomas Piketty's "Capital in the 21st Century". As you will recall, the book - all 700 pages -- was recently number one on the Amazon best seller list. Whoever heard of an economics tome that sold so well? The reason, we suspect, is that the book tells us something that a lot of people were waiting to hear.

Piketty's gripe, as near as we can determine, is that the rich get richer - especially when economic growth rates are low. Growth rates have been tending downwards for the last 40 years. As a percentage of national income and wealth, the rich have gotten progressively more and more.

Of course, there are many reasons for this - some innocent, others corrupt.

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We will not bother with the innocent ones. Criminals, the chiselers, and con-artists are more revealing and entertaining. And just to make it more interesting, we will name names.

In the '70s, the US economy was kissed by the magic of easy credit. Poof! It was transformed from a handsome prince...into a toad. It has been an economy where people earned money by making things for people who could afford to buy them. It became an economy of people who lent money to people so they could buy things they didn't need with money they didn't have.

Mr. Piketty's insights on the subject, along with his key formula - r > g - are meaningless and irrelevant. He thinks he is criticizing capitalism. But after the '70s, real capital played a smaller and smaller role. It was replaced by credit (and its sinister twin, debt). Mr. Piketty's 'r' is supposed to represent the return on capital investment. But where did the wad come from? Savings rates went down. Real earnings went down. Growth rates went down. So how could there be more capital available and how could it produce higher rates of return (compared to economic growth).

The whole thing is a headache for a thoughtful man. Capital investments with no real capital behind them. Profits that outstrip the economic growth from which they must come. What to make of it?

We don't dispute the basic facts. For years, we've been complaining about the distortions caused by Fed policies. Rewarding the asset-owning classes (the rich) is just one of them. You could add - creating market bubbles, depressing middle class incomes, increasing debt levels, misallocating resources to worthless, wealth-destroying activities, allowing government to avoid serious budget control, financing monster houses coast to coast, and our own personal favorite - putting dorky economists in positions of immense power and status.

And now we even have dorky economists with Number One best selling books! What next?

Revolution! At least, that is what you might think if you listen to Mr. Piketty. He thinks r will continue outpace g. And the natives will get restless.

The "market economy if left to itself, contains powerful forces of convergence in the distribution of wealth", he explains. But "it also contains powerful forces of divergence, which are potentially threatening to democratic societies and to the values of social justice on which they are based."

Once again, he misunderstands the modern, democratic state. It is not based on real social justice. It is based on fraud. The masses are told that they control the government. And while they are earnestly reading the newspapers, arguing about Obamacare and voting, the elites profit from bailouts, zero-interest rate policies, subsidies, tariffs, sweetheart loans - you name it. That is how the rich got so rich...with the eager connivance of the authorities.

And now he concludes that the forces of 'divergence' - of wealth - are likely to be much more powerful in the 21st century and that someone needs to do something about it. Who? The same authorities who distracted the public while the elites picked their pockets.

Until 1968, the Fed was required to maintain 25 cents worth of gold for every dollar in circulation. Then, under Lyndon Johnson, that requirement was scrapped. Thenceforth, there was no limit to the amount of cash and credit in the system.

In 1971, under Richard Nixon, the US reneged on its commitment to pay off foreign governments in gold. Now, there was no limit to the amount of debt Americans could run up abroad. Instead of paying their bills in gold...they could just pay in dollars, which are essentially more debt instruments.

In 1987...and again in 2000...Alan Greenspan showed that the Fed would not permit a serious correction. When a credit contraction threatened...the Fed came up with more credit on easier terms. By 2007, under the leadership of Ben Bernanke, the Fed was fully committed to credit expansion forever. Milton Friedman had convinced Bernanke that the Great Depression was caused by a shrinking supply of money and credit. Bernanke saluted Friedman with: "we won't do it again."

Thanks to these authorities - and many others - real capital disappeared from the capitalist system. It was replaced by what Sisson called "a fictitious money" causing a "monstrous aberration." That is what we live with today. It was caused by the authorities. They will continue making it worse...until the whole dreadful system blows up.

Bill Bonner is the President & Founder of Agora Inc, an international publisher of financial and special interest books and newsletters.

The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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