In the last few days I made three ATM withdrawals from my U.S. bank account of 2000 RMB each. The first one cost $316. USD, the second $319. USD, the most recent was $321. USD. The dollar is very quickly losing value in relation to the yuan. Why?
Money is a store value. Say I work for a day. I might earn $20. that is worth a half ounce of silver. In pre-paper money days I would be paid in silver coins. Clearly this was cumbersome when large amounts of money were involved. Paper money was invented as a store of value, so the value of silver and gold could be kept safely in reserve while transactions were made. The government, or sometimes private entities, who issued the paper money were not supposed to print more money than they had in reserve so the money could be redeemed for gold or silver. In China in addition to copper, silver, and gold, tea was sometimes used as the reserve.
Paper money was first invented in China in the 800s. It was abolished in the 1455. In the west paper money was first used in the west in the 1600s and came into wide use by the mid-1700s. Over the years all paper money has a single defining characteristic. None has every been redeemed as promised. Most has become worthless.
Since the value of money was untied to anything tangible governments quickly discovered they could print it uninhibited by the albatross of responsibility. Governments could spend more money than they took in in taxes by simply printing fiat currency. And print it they did.
During the last four years the U.S. Federal Reserve Bank (Fed) has printed some 10 trillion dollars from thin air. This has, in part, allowed the U.S. government to purchase its own debt while keeping interest rates artificially low. The 5 trillion in new debt assumed by the government over the past four years has largely been purchased by the Fed. Had this debt been sold on the open market the interest paid would have been much higher, causing the government to expend billions more annually for carrying costs for the debt.
The explosion in debt has been world wide. Recently the Eurozone has decided its central bank, the ECB, will start funding the debt of its member countries, starting with Greece, Spain and Italy. by buying their bonds with money printed from thin air If history is a view of the future, the ECB will soon be financing the debt of many if not most of its member nations by buying their debt with money created from nothing. Fiat money.
Throughout history the results of irresponsible government spending and borrowing has led to inflation, even hyper-inflation as was seen in the Weimar Republic. The list of countries that have devalued their currencies to adjust for the loss in value caused by inflation is long, and world-wide. Inflation usually occurs when governments spend and print money irresponsibly.
That is certainly happening in America. For every dollar the government spends it has to borrow 0.40. The deficit has risen from 2.1% of the GDP (Gross Domestic Product) to 7.3% in 2012. The government now spends almost $30,000. per family per year with $12,000. borrowed largely from itself.
A company can borrow its way to prosperity because a company uses the borrowed money to increase the quality or quantity of what it produces. A government cannot borrow its way to prosperity because a government produces nothing. Instead of producing, a government redistributes. It takes from one group and after skimming a healthy percentage for itself, give to other groups it deems worthy.
Keynesian economics calls for governments to borrow, spend, and redistribute during bad economic times, then stop borrowing and pay down the debt during good times. The problem is governments don’t stop borrowing during good times. They continue to borrow. Because the economies of both Europe and America are in severe slumps the effects of excessive borrowing and spending has been muted.
In aviation there is a principle called “reverse command.” When a pilot raises the nose of a plane to gain altitude, the plane begins to slow its air speed until finally entering the area of ”reverse command” where the plane slows to the point it longer responds to the command to climb.
That seems to be western governments find themselves today. They have entered the area of “reverse command” where borrowing and printing money no longer stimulates economic growth. The borrowing has stifled recovery by sucking needed capital from the private sector and redistributing it to non-productive classes.
The only logical end to all this spending, borrowing, and money printing is inflation. Inflation allows government to reduce their debts by making them worth less every year. For example, the U.S. government has a 16 trillion dollar national debt. If inflation rises to 10%, the value of the debt will go down 10% each year. The debt will be inflated into a manageable number.
The problems with inflation are numerous. Inflation is a tax on responsible behavior. If a family saves a little from each paycheck each month for 30 years they will have a nice nest egg by the time they retire. If inflation strikes thee value of their savings will decrease by the rate of inflation every year.
Another big problem is inflation discourages normal business activity. Banks don’t want to make loans unless the interest rates they charge is higher than the rate of inflation. So using the 10% example above, a bank may lend money at 15-17% with provisions in the loans to adjust interest rates with the rate of inflation. Clearly it is difficult for businesses to operate with such unknowns.
By keeping the rate of interest artificially low, the Fed is damaging savers who now earn 1-3% on their savings. To pour salt in the would, the government then taxes this modest amount of interest, making the tiny it of interest earned even smaller. The list of inflation’s negative impact goes on and on.
This is the crisis facing the west. Sagging economies due to government interventions, and the specter of massive inflation on the horizon. The west is on autopilot to financial disaster. The potential catastrophe is as plain as the nose on your face. Everyone recognizes it, but few are trying to avert it. Obama was re-elected and has absolutely no plan to address the crisis. The western world is in “reverse command.” This is a time when great leaders are needed, but there are none in sight.