European Stability Mechanism: Dictatorship in Waiting?

• First, our political system is broken and has deteriorated into little more than a fancy debating society.

• And second, the world's central bankers remain out of control; their bailouts are saving the irresponsible at the expense of the hardworking. Our regulators and Wall Street remain locked in an unholy alliance that has done very little to fix the underlying problems that have resulted from decades of bad fiscal policies, unsound monetary practices, and dysfunctional leadership.

• Fiscal responsibility and fairness will rule. As liberal as the movement is as a whole, many of the individual protestors - I've talked at the OWS camp here in Portland - remain fiscally conservative. They're not looking to get rich, they are looking for financial fairness. They're also seeking responsibility and accountability in key areas that matter to all of us, like bank accounts, medical payments, and simple survival.

This means OWS-friendly companies like Google Inc. (Nasdaq: GOOG), Apple Inc. (Nasdaq: AAPL), Facebook Inc. and other millennial-friendly companies will rise to the top of the investing pyramid. Meanwhile, industries associated with the establishment, like energy or finance, will face an uncertain regulatory environment. They also will have to deal with increasingly hostile public backlash. It will be a new world in which many former stalwarts will find themselves on the defensive.


• A new economic reality will arise. I am not sure exactly what this term means yet as the OWSers define it. This is not because I disagree with them. In fact, I don't on many issues. But for every articulate individual I've encountered who is part of the movement, I have also run across a variety of foul-mouthed cretins who have no concept of how economics work and whose antics diminish the OWS movement. Still, living within our means seems to be the overarching theme.

I am not yet sure how this will manifest itself in the future but it seems to me that the concept of liberty is the undercurrent here and fiscal responsibility is the driver. People are enamored with the American dream and the right to succeed. What they forget is that liberty also includes the right to fail. It is not yet clear to me if the OWS movement has really internalized this. Nor is it clear that the OWS movement has collectively thought through the principles of liberty that put us in control of making our own decisions - for better or for worse. Socialism is not the answer but neither is the few ruining the lives of the many.

Milton Freedman reportedly quipped there is no such thing as a free lunch. Perhaps we are coming to the end of a free lunch society. I have to wonder.


• Banking will be boring. Many OWSers have focused on corporate greed without really identifying the elements needed to rein it in. To me, this is part of the greater social justice narrative. It's also indirectly a political process because the bankers who got us into this mess are tied to the K-Streeters who, in turn, are tied to the special interest dollars used to "buy" our entire political system. If anything, the anger being directed at our bankers is a spectacular glimpse into the very roots of democracy and equality because it could come full circle come election time.

Movements often start with noble ideas that are commonly accepted and often very hard to argue with. But if OWS fails to come into its own, I see self-aggrandizing politicians jumping into the void with draconian proposals that actually make things worse. Generally speaking, this is going to be bad for the markets and even worse for the preservation of personal wealth. It also speaks to shorting virtually the entire mainstream financial sector while investing in small, local community banks, as well as the infrastructure companies they fund.


• Social investing will go mainstream. We've had social investing funds and social investing mandates for years. There are "sin"-free portfolios, portfolios that comply with the spiritual values of the world's major religions, energy-free investments and more. I can easily envision additional social investing categories based on the many divergent causes now wrapped up in OWS. Sadly, though, I can also envision Washington riding to the "rescue" with mandated investments designed to control what's left of our personal wealth as a result of the OWS movement. The biggest target is the wealth already accumulated in our 401k plans - more than $14 trillion at last count. Social security, mandatory healthcare, infrastructure...these are all thinly disguised taxes. If OWS truly represents the 99% as it claims, perhaps it's time to engage the big issues rather than let politicians dictate our choices regardless of which side of the aisle they sit on.

That's the real key here. If OWS gets traction, it will carry the debate away from traditional politicians. Therefore, the real objective should be to change the agenda. The question is, can OWS get enough momentum to make the politicians yield to its will?

This is about as good an argument as any I've heard for continued investment overseas. The combination of overzealous politicians, punitive tax policies, and the involuntary redistribution of wealth that will inevitably hit us all - from the very highest earners to the very lowest - signal weaker financial markets ahead. The best choices will be companies doing the bulk of their business in foreign countries where their money (and their investment) is treated better. Until politicians understand that stretching the recovery does nothing to eliminate the excess, nothing is going to change.


• Hard assets will back a new global currency basket. I'm not hearing any talk of this from OWSers; perhaps they haven't put two and two together yet. If there is to be equality and the gap between the haves and have-nots is to be closed, there has to be a reduction in debt and a corresponding increase in real assets. This will take a concerted, worldwide effort that may ultimately need to include a common currency or at least a common currency trade basket. In that sense, OWS may prompt the "new world order" long feared by conspiracy theorists.

I believe this game is already underway and has been for some time now. The United States fancies itself a player but, in fact, is being played. The dollar, which it tries to use as a weapon, is seen as a liability by a growing percentage of the world. This speaks to investing in creditor nations backed by real reserves rather than debtors with mountains of funny money they cannot possibly pay back. Hard currencies will be backed by countries with hard economies - right now that's the Asian countries led by China, warts and all. After the euro debacle, I doubt very seriously there is a nation on earth that will subordinate their currency to a pool of countries ever again.

This is copied straight from a word document, adapted from a previous essay on Nouriel Roubini’s Crisis Economics:

“It is well that the people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.”
— Henry Ford

The United States Empire is on the precipice of collapse. That catastrophic “Great Recession” in the aftermath of the popped real estate bubble, and the ensuing 2008 financial crisis are far from resolution. On top of that, America must now confront a sovereign debt debacle, which has already begun to manifest as dollar devaluation and the subsequent loss of the Greenback’s prized petro-dollar, world-reserve-currency status (and with it goes the exorbitant privilege granted to those that hold dollars).
The Bretton-Woods ancien régime of dollar dominance is deteriorating, vis-à-vis outrageous risk in technologized financial markets and desperate Monetarist expansion (only possible in the absence of the discipline historically imposed by a gold standard). Quantative Easing, an infusion of liquidity intended to spur aggregate demand (in the tradition of Keynes and his successors Galbraith and Krugman), finds its way not to the grasping palms of the huddled masses, but instead the digital cash is sequestered as excess reserves of the megalithic banking oligopoly, utilizing it to speculate in all flavor of paper asset. The anti-capitalist “Too Big To Fail” rhetoric drove panicked bailouts of financial firms at the behest of Henry Paulson, Ben Bernanke, and Timothy Geithner– resurrecting the zombified, tyrannical financial sector. You name it, these banks speculate in it. Stocks, bonds, Real Estate Investment Trusts, Exchange Traded Funds, petroleum futures, credit default swaps, mortgaged backed securities, and the carry trade. This is due in part to the repeal the Glass-Steagall Act under the Financial Services Modernization Act of 1999, a bill that filed down the teeth of (already spineless) regulators, and loosened the reigns on investment conduits by dissolving the legal distinction between Depository and Investment banks. Suddenly, it was common practice for pension funds and savings accounts to be funneled into collateralized debt obligations
at 20 times leverage! Thanks to the reckless overuse of leverage, profits were astronomical on the way up–but losses were equally outrageous on the way down.

This suffusion of the financial service industry into every orifice of the economy was reflected by its doubling in share of GDP since the 60s. In a New York Times op-ed by Paul Krugman, “After 1980, of course, a very different financial system emerged. In the deregulation-minded Reagan era, old-fashioned banking was increasingly replaced by wheeling and dealing on a grand scale. The new system was much bigger than the old regime: On the eve of the current crisis, finance and insurance accounted for 8 percent of G.D.P., more than twice their share in the 1960s.”1
The crisis that erupted in October of 2008 continues to this day (albeit quietly, by necessity, as markets are driven by sentiment). In 2008 alone, the US lost an estimated total of $10.2 Trillion in home equity, mortgage-backed securities, collateralized debt obligations, credit default swaps, and all flavors of derivative were sold at fire-sale prices as panic swept through markets when Bear Sterns and Lehman Brothers fell.2 That figure is almost equal to the total GDP of the US, which hovers around $14 Trillion per year. Today, one in six homeowners are under-water on their mortgages. That $10 Trillion is enough to give each one of America’s 350 million citizens $28,570. Instead, TARP bailed out the banks that made the “errors” (whom, knowing full well they would be bailed out, demonstrated moral hazard). Most dangerously, because the fractional reserve currency system is tied to aggregate asset value (much of which was leveraged, like home equity loans), the threat of a deflationary depression loomed large, threatening to usher in

1 Krugman, Paul. “The Market Mystique” March 26, 2009
2 Carney, John. “
AAmerica Lost $10.2 Trillion In 2008” Business Insider.com
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a repeat of the 1930s Great Depression. But one valiant savior stepped up: Enter Benjamin Shalom Bernanke, former Princeton economist, Great Depression scholar and Chairman of the Federal Reserve board. He is also known as Helicopter Ben, because he stated, only half-jokingly, that he would be willing to drop cash out of helicopters if necessary to stave off deflation. The housing market is still deflating, and the only asset classes that have gained in nominal value are those that move inversely with inflation (commodities, stocks, precious metals). The question is, what would have happened absent these stimuli?
Nouriel Roubini, economics professor at NYU and world-renowned financial commentator, predicted the collapse of the housing market in 2008. Roubini is accused of being a “permabear,” for his gloomy predictions in recent years (the lame-stream financial media—CNBC, Reuters, Bloomberg, WSJ—are ebulliently bullish, because they construct a worldview catered to retail investors that are meant to serve as meat- shields that buy whatever the smart money sells just before the markets contract). The thesis of his excellent book is that financial crises are inherent to the capitalist system. They are not black swan events, as Nassim Taleb described—but wholly predictable, often preceded by specific economic conditions. These conditions, Roubini claims, can be: loose monetary policy, a new technological advancement, land grab/cheap labor force, unsustainable government debt, the mania of asset bubbles, or any combination thereof. These conditions support a boom in the “business cycle,” (as if it were a natural phenomenon) followed by a crash, as valuations come down to Earth.

There is no denying that these crises occur regularly. Some well-known asset bubbles include the Dutch Mania of 1637, where a single tulip was valued at ten times
the annual salary of a skilled craftsman, or enough to buy a house on the Amsterdam canal. The price collapsed in the next tulip-growing season. Next was the South Sea Company bubble of 1720, when a British company was granted monopoly rights to trade with Spain’s South American colonies. Leading up to its collapse, the South Sea Company even controlled most of Britian’s national debt.
Not to be outdone, France was about to produce one of the most catastrophic bubbles in history. A murderous Scottish gambler named John Law fled from Amsterdam to France at the dawn of the 1700’s, quickly ingratiating himself into the Royal cabinet on the basis of his criminally keen financial mind (first advising Louis XV to institute fiat, or paper money). Riding high on the power of his friend, the king, Law became finance minister, head of the Royal Bank, and owner of the Mississippi Company, which was granted exclusive trading rights with the new colony of Louisiana. Stock was issued, and subsequently backed by the Royal bank. Louisiana was rumored to be lush with natural resources, and the investment bubble began. Only in 1720, when word returned that Louisiana was a swamp crawling with hostile savages, did the share price plummet, and set the stage for hyperinflation and civil unrest in decades to come. This pattern occurred many times throughout recent history, including the 1825 collapse of Latin American stock after excessive speculation, and the 1873 Railroad Boom involving tycoon Jay Cooke. Groupthink continually sets the stage for revolution-inciting volatility in financial markets.

Realizing the instability of the boom and bust in investment-driven markets, measures were put in place to (theoretically) stabilize it. During the banking panics of 1907, behemoth financier J.P. Morgan was called upon to bail out the megalithic, Too
Big To Fail banking trusts on two separate occasions. In the midst of a third plea to bail out the system, Morgan decided that the markets should not rely upon a single figure for rescue, and he called a meeting with a dozen of the country’s most prominent financiers. One evening, Morgan locked these tall-hats in his expansive private library until 4 A.M., when they finally came to an agreement to bail each other out if need be.

A few years later, this system was codified in the Federal Reserve Act of 1913. Morgan, Senator Nelson Aldrich, Banker Paul Warburg, and others secretly met at Morgan’s estate on Jekyll Island, off the coast of Georgia. They did not use last names, for fear that the servants would deduce their identities. After ten days, the Federal Reserve plan was drafted and hastily passed by the Wilson administration.

Since the advent of this private central bank, the dollar has lost over 90% of its value in one century, where inflation had been minimal during the Free Banking era preceding the Fed for multiple centuries. Andrew Jackson, in his death bed, was asked about his greatest accomplishment, he replied, “I killed the bank,” referring to the Second Bank of the United States, one of several attempts at establishing a private, for-profit central bank.

A quote from Congressman Charles Lindbergh, one of several representatives that opposed the Federal Reserve act: “
To cause high prices, all the Federal Reserve Board will do will be to lower the discount rate– producing an expansion of credit and a rising stock market; then, when business men are
adjusted to these conditions, it can check prosperity in mid-career by arbitrarily raising the rate of interest.

It can cause the pendulum of a rising and falling market to swing gently back and forth by slight changes in the discount rate, or cause violent fluctuations by a greater rate variation and in
either case it will possess inside information as to financial conditions and advance knowledge of the coming change, either up or down.

This is the strangest, most dangerous advantage ever placed in the hands of a special privilege class by any Government that ever existed. The system is private, conducted for the sole purpose
of obtaining the greatest possible profits from the use of other people’s money. They know in advance when to create panics to their advantage, they also know when to stop panic. Inflation
and deflation work equally well for them when they control finance. … Depressions will now be
scientifically created.” – Charles A. Lindbergh, Sr. Congressional Record, 1913

And they did just that—contracted the money supply in 1929, turning what would have been the mere bankruptcy of the Knickerbocker Trust into the Great Depression. The Great Depression destroyed many small banks, competitors to the Federal Reserve system.3 The Federal Reserve is not a government agency. It pays a 6% dividend to its shareholders, which happen to be the TBTF banks themselves. Not to mention, these banks have access to the Fed’s discount window, charging a scant 25 basis points of interest on all credit. Even President Wilson later regretted the measure that he so hastily passed, saying:

Another measure, justified to impart stability to the markets, was the 1944 Bretton Woods conference in New Hampshire. This meeting of world leaders was where John Maynard Keynes directed the creation of the International Monetary Fund and the precursor to the World Bank. The most important mandate was that every currency would be tied to the U.S. Dollar at a fixed exchange rate. This was accepted because the dollar was pegged to gold, at a rate of $35/oz. This is no more, especially after 1972 and Nixon’s closure of the Gold Window. The phrase “good as gold,” in reference to the Dollar is no more. Only its petrodollar status, coupled with deep liquidity and tradition, continue to support the greenback’s hegemony. The dollar is crumbling, today, as the IMF’s Special Drawing Rights, the Chinese Renminbi (yuan), gold, or any combination of such are now being eyed as the next reserve asset.

3 “Remarks by Governor Ben S. Bernanke: Money, Gold, and the Great Depression.” Federal Reserve Board, 2004.

“A great industrial nation is controlled by its system of credit. Our system of credit is
concentrated in the hands of a few men. We have come to be one of the worst ruled, one of the
most completely controlled and dominated governments in the world–no longer a government of
free opinion, no longer a government by conviction and vote of the majority, but a government by
the opinion and duress of small groups of dominant men.”

When all is said and done, however, two pertinent quotes come to mind:

“Gold and silver are money. Everything else is credit.” – J.P. Morgan

“You have to choose [as a voter] between trusting to the natural stability of gold and the natural stability of the honesty and intelligence of the members of the Government. And, with due respect for these gentlemen, I advise you, as long as the Capitalist system lasts, to vote for gold.” – George Bernard Shaw

According to Robert Reich in an opinion piece for the New York Times, this crisis was a long time in the works. Following the Great Prosperity of 1947-77, when middle class wages continually rose, the Great Regression began in 1981 (the year Reagan and his trickle-down ideology reigned) and continues to this day. At first, more women entered the workforce, slowing the widening of the wealth gap. By the 1990s, households began compensating for declining real wages by going into debt. The housing market was in a secular uptrend, so reverse and home-equity credit lines were seen as a “painless” method of upgrading one’s living standard. By the mid-2000s, a housing bubble had emerged (helped by a period of low interest rates and new wealth from the Tech Bubble). This was the era of mortgage-backed securities and collateralized debt obligations. Sub-prime mortgages were lent, and then packaged with thousands of others and sold to pension funds, retail investors, and financial firms.

These new derivatives often yielded 6-9% annually. Normally, high rates compensate for risk. Apparently this law of finance no longer applied, according to Moody’s, Fitch, and Standard and Poor’s–the oligopoly of ratings agencies. They rated some CDOs as AAA, or, as safe as government debt. Thus, pension funds were legally allowed to invest in them, and compared to Treasuries, with a similar risk profile, MBS paid a significantly higher yield. The choice seemed obvious. Financial firms garnered lucrative fees from this new trade, which partially explains why, according to Reich, “…by 2007, financial companies accounted for over 40 percent of American corporate profits and almost as great a percentage of pay, up from 10 percent during the Great Prosperity.” Note: The financial services sector produces nothing tangible, shuffling
securities around in a zero-sum game, extracting wealth from others. Theoretically, they are charged with allocating capital efficiently, but that was never the goal. In the field of ecology, competition makes both parties worse off, because they waste resources trying to thwart each other, when they could instead work mutualistically.

When this zero-sum game yields 40% of corporate profits, it denotes a massive chunk of wasted productive capacity.
All good (?) things must come to an end, and so, the housing bubble began to burst in 2007. It wouldn’t be until September 2008 when rumors of bank insolvency arose. When they did, the market plummeted farther than it had since the Great Depression. Lehman Brothers, Bear Sterns, Fannie and Freddie, and dozens of others went under. Bank of America, Citigroup, JP Morgan Chase, Merrill Lynch, Washington Mutual, Goldman Sachs, and other “Too Big To Fail” banks were all at risk of insolvency.

Henry Paulson, the cartoonishly shifty Treasury Secretary (and former Chairman and CEO of Goldman Sachs) burst onto the scene. He, Bernanke and Geithner threatened Congress with martial law if the banks weren’t bailed out to the tune of $700 billion.

The total Fed bailouts since then number in the trillions of dollars, and after a rare, recent Fed audit, we find that at least $800 billion went to European banks. Keep in mind: Every dollar issued results in a minute loss in the value of existing dollars. The banks were saved, but the real economy was left marred, as portfolios and pensions were eviscerated. Aggregate demand declined, and the housing market remains (to this day) in free-fall. By March 2009, $34.4 trillion in equity had been destroyed globally4. The annual GDP of the world is $55 trillion.

Today, we have entered into what the Pacific Investment Management Co.’s (aka PIMCO, the largest bond trader in the world based in Newport Beach) CEO Mohammed El-Erian dubs “The New Normal,” an era where the US does not lead the world in a steady secular uptrend, and asset classes that were once considered stalwart (US Treasuries, mega-cap stocks) lose their glitter. El-Erian refers to a “multipolar” world, where East Asia will take over where the declining Western economies faltered. Goldman Sachs predicts that Chinese GDP will overtake the US economy by 2020. The Chinese perceive this shift as a regression to the mean, considering China led as the

4 Liu, Henry. “The crisis of wealth destruction.” Asia Times. April 13, 2010.

world’s largest economy for centuries before the British and US empires. But, what about US exceptionalism? And where are we today? The fundamental picture is very grim. Even the Fed, who must normally put up a façade of bullishness, is
expecting weakness until at least mid-2013.

Bernanke also acknowledged that the US faces structural problems, the remediation of which are outside the realm of monetary policy. Q3 GDP was revised to down 0.4%, and unemployment sits between 9.1-20%, depending on who one asks.

A recent stimulus aimed at juicing the equity markets, termed Operation Twist, where the Fed sells short dated treasuries and purchases longer- dated treasuries, “flattening the yield curve,” in order to reduce adjustable mortgage rates (while stripping pension funds of their income stream), was received badly by the markets, resulting in a massive selloff and rush for the exists, with the S&P 500 declining 6.5% in 3 days, the sharpest drop since the 2008 Lehman debacle.

Credit default swap rates and the London Interbank Overnight Rate or LIBOR are quietly skyrocketing, as banks don’t want to lend to one another on suspicions that they’re exposed to PIIGS debt. There is talk of “Lehman-style” collapse in the Eurozone, Greek default on the horizon, and the resignation of ECB official Juergen Stark all portend gloomily for the future of the Eurozone. A likely “hard landing” and real estate bubble popping in Australia and China will slow down these otherwise phenomenal growth areas. The US economy has a gutted manufacturing base and the trade deficit is widening. When, not if, treasury yields rise a few points, it will be disastrous for the US economy. All that outcome requires to occur is China, UK, Saudi Arabia, Japan purchasing fewer treasuries. The PBoC is has been incrementally floating the renminbi, with a very large move in September. When the yuan is readily traded, the purchasing power of the dollar will decline, as the renminbi will be competing with the dollar for the purchase of commodities.
The Fed will step in and “monetize” the debt, kicking inflation into high gear (not merely a product of increased money supply or velocity, but lack of confidence in the USD and subsequent loss of world reserve currency status. After China severs even more ties with the US, Asia-Pacific markets will likely boom. East Asia is undergoing the Industrial Revolution on steroids, because they have the sparknotes. In ten years or sooner, China will have dealt with major mal-investment and will be booming again. Just
ask Jim Rogers, co-founder of Quantum Funds with George Soros, one of the most successful hedge funds of all time. He’s moved to Hong Kong and his children are learning Mandarin.
The markets have been driven up by Quantative Easing, and down by fundamentals. Most of the data recently has been awful. The cheap money from QE and speculation by Fed member banks (GS, JPM, C, BAC, WF, etc.) have levitated the equity, commodity and bond markets, but QE has diminishing returns. The unprecedented low federal funds rate and subsequent dollar devaluation boost the appearance of corporate profit repatriation (1 euro of sales = $1.40 USD profits). Aggressive inflation also diminishes the value of the national debt. The likely outcome is continued stagflation followed by deflation, as necessary deleveraging continues. Peak credit occurred in 2007, and as debt is paid off or defaulted upon, the money supply is diminished. The Fed will continue their endeavor to prop up the markets, but the classical concept that “markets eventually clear” holds true. Ultimately, if there is little aggregate demand for loans, new money simply cannot be created by any other mechanism than fiscal stimulus (which appears unlikely as well, given DC gridlock and opposition to increasing US debt / GDP). The US is between a rock and a hard place.
Secondly, the Fed cannot allow treasury rates to rise (and will buy up the slack) or else the US simply could not service the interest on the national debt. Thus, interest rates will stay low. The result will be dollar devaluation plus the relative deflation in asset values, low or negative annualized GDP growth, and high STRUCTURAL unemployment (all of which characterize stagflation, or biflation). The global market, especially the emerging markets, has enormous growth potential, but they are overdue due for a correction and a period of creative destruction, which will likely occur in tandem with the unwinding of structural imbalances in the developed economies.
Optimistically, the proverbial phoenix will rise from the ashes of a defunct and corrupt socioeconomic model, making way for a more egalitarian system to emerge.

The risk is that, amid the global civil unrest now just beginning to emerge in the PIIGS nations in response to austerity measures, governments crack down and become more oppressive, less accountable to the constituents, and outright tyrannical. The general trend, throughout history, has been one of punctuated equilibrium of the status quo, moving toward individual sovereignty, equality and liberty.

The Magna Carta, the storming of the Bastille, and the Declaration of Independence are mere manifestations of this self-evident enlightenment ideal.

Emergent from slavery, feudalism, and monarchy, is the prospect of democracy, self-determination and a brighter world, shaped from the bottom-up and not imposed by a centralized, fascist power structure. Let us hope that this upheaval is merely a birth pang of the free, decentralized socioeconomic order for which humanity has been yearning. In Rahm Emanuel said, “every crisis is an opportunity.” Let it be an opportunity for us, and not them.

“History doesn’t repeat, but it often rhymes.” – Mark Twain

As radicalism creeps in, credibility retreats from OWS

As radicalism creeps in, credibility retreats from OWS

Want to know what we're up against? And, why we're going to defeat them?

Uploaded by AFPFoundation on Nov 8, 2011