1. The US Dollar: The Damage and Death Caused by Fake Money

By David Redick, www.Forward-USA.org June, 2008 P. 1 of 6

The US Dollar: How Fake Money Starts Wars, and Damages the Economy and Ethics

This is Dave’s short course on the creation and results of government money (or 'currency' = coins and paper). Dave’s MBA major was Economics, and he has a special interest in our monetary system because it affects government so much. You won't read this analysis in the newspapers or in a college economics course. Most government and industry leaders, and professors like the present system; their jobs, grants, and social life depend on having and supporting it!

Money was invented by people (not governments) because it is more convenient than barter (buying shoes with milk, etc.). It is; 1. a medium of exchange, 2. a unit of account , and 3. a store of value.

The two key reasons for convertibility of paper to a commodity with intrinsic market value, that people can exchange at a bank on demand, are to; 1) Limit excess expansion of the money supply (inflation; loss of value) by the government, and 2) Provide a market-based store of value, as opposed to a 'fiat' value decreed by the government (this piece of metal or paper is worth 'one dollar'). The commodity could be wheat, iron, diamonds, or pearls, but gold works best for many reasons because It is; 1) Malleable, so can be made into coins, 2) Stable physically and chemically; doesn't break, rust, or rot, 3) Easy to determine purity-by weight-, 4 Low amount in existence now, and limited new supply; rare, 5) Difficult to counterfeit, 6) Homogeneous in content (a chunks is the same throughout), and 7) High value per ounce (not bulky to handle or store). Silver is more volatile (more new production, consumed for industrial use, etc.), so is less attractive.

History shows us that when countries use sound money (convertible to gold) they have zero or low inflation, zero or minor 'cycles' of economic panic or depression, and more peace, liberty, and prosperity. Thus, we would expect all countries to use sound money, except the leaders want more money than they can get by taxing, especially for wars. They often 'suspend' convertibiliy before, during , and after wars (the USA did for the Revolutionary and Civil wars), and then must be pushed to restore it (often with less value).

To avoid the inevitable crash in value of its' money , the US should allow convertibility. The coins and money should be designated as worth a certain weight in gold, even if given names like 'dollar', or 'quarter'. This would make the US$ worth about 1/800 ounce of gold today (2008), rather than the fake 'official' value of $32 per ounce, or 1/32 oz. per dollar, and this would not be changed in the future (hence absence of 'inflation' by government abuse). If this were done, the question is; 'Does the US have enough gold to back-up convertibility, and thus avoid 'runs' to convert paper and base-metal coins?' Conversion is a tricky process to avoid panic and uncertainty among current owners of fake money. It has been suggested that a 'new' convertible currency be introduced in parallel as a transition. Stay tuned !

The USA ended the right for other nations (FDR took it from mere people in 1933) to convert paper dollars to gold when Nixon abrogated the Bretton Woods Agreement in August, 1971 due to our serious financial problems such as; a. We were running out of gold; France and others were converting their 'EuroDollars' to gold (US$ accumulated in Europe due to our spending there); b. The US was poor after spending on Vietnam and LBJ's 'Great Society', etc. Under this pressure, Nixon illegally 'floated' the US$ (no fixed-price for gold; no fixed exchange rates with foreign currency), and ended convertibility to gold by any person or government. This meant the US could make dollars out of thin air at will, and did they ever! Whoopee!

Again, the main purpose of convertibility of paper (or electronic dollars) to gold is to prevent excess expansion of the money supply ('inflation') by the government, and thus reduction in purchasing power. Without convertibility, this 'easy money' is an unlimited 'piggy-bank' and credit card for the government. hence, the government cannot be truted to not abuse it. The excess money has allowed damaging, unconstitutional, corrupting, massive increases in government spending for wars, welfare, and pork. It has also created the growth in the number of lobbyists seeking favors. Prices started their 'hockey stick' shaped rise a few years later as the effect of excess money and spending trickled to the world economy. Within in a few years, all nations worldwide ceased convertibility, even the prudent Swiss floated the Swiss Franc (SF), but have been less abusive than others; hence while 1 USD$=about 4 sf in 1961, it is now about 1 US=1 sf, so they only inflated by 2.5 while by 2008 the US inflated by 10; 4 times more! The USA has been the worst abuser among developed nations (older countries remembered their lessons from past monetary failures). The US has created so much new 'free, fake money' since 1971 that the US$ has lost about 80% of its purchasing power (this excess expansion of the money supply is called 'inflation', like a balloon) with its consequent price increases. Check prices of common 'commodity' items (that are not imported, subsidized, cheaper due to new technology, or under price control), such as a pizza, or a restaurant meal. A good example is that a room at 'Motel 6' cost $6 in the '50s and is now in the $60 range in 2008 (same type of room and service). There is your 10X loss of US$ value! This goes along with a 95% loss since the Federal Reserve monopoly was created in 1913! The only reason we can get away with this is because the US$ is the world's 'reserve currency' (any person or bank will take and keep it as if 'good as gold'), because it is viewed as a share in 'USA, Inc.', the world's strongest economy, which sadly is fading (starting 2007) as we continue the long abuse of our economy (by spending, taxing, and harmful intervention 'management' by the Fed and gov't) and money (by excess expansion of the supply). The era of USA world dominance is ending, as it does with all empires (see #5 Empires in left margin).

Again, history shows us that the use of 'real money' (convertible to a commodity with intrinsic value market such as gold, by anyone, on demand; not just paper) is fundamental to the long-term success and survival of a nation (see topic #5 'Empire' in left margin of Home page; debasement of currency). 'Fake Money', paper and base-metal coins created and 'managed' by the Federal Reserve System (Fed) is what allows the massive spending and debt for wars and domestic pork and welfare. The pork and grants have corrupted the ethics of our Federal government ('here's some pork, vote for me'), and the citizens, business, universities, and academics, etc. who happily accept it. Congresspersons brag on their web sites about how much pork they have obtained for their districts or states. This 2-way corruption is a fatal sign of a failing Empire; see Part #5, Empire, in the left margin of this site.

The Fed is a private bank that was created in 1913 and was granted monopoly authority to produce our currency and manage our monetary system. The crash of 1907 was used to justify the Fed, but its' true purpose was to put our monetary system in the hands of the federal government and commercial bankers. It has been a massive failure in its' mission the 'protect the value and stability of the US dollar' (USD), since the purchasing power of the USD has dropped 90% since 1913, all due to excess creation of new money (expansion of the money supply; inflation). However, the bankers have done well, since they make money selling US debt (T-bills, etc.) and get bailed-out when in trouble due to their own greed (Bear-Stearns in 2008, etc.). Most of its meetings are secret, and proceedings are not even available to Congress. Some economists say the Fed is needed in order to assure adequate 'liquidity' for growth by proper expansion of the money supply, equal to growth of the economy; about 3 to 5% per year. The problem is that such powers are ALWAYS abused by governments (by expansion of 10 to 20% per year, or more!). This excess expansion of the money supply was the original meaning of 'inflation' (expansion in size; like a balloon). Now, inflation usually means 'price increases', which is actually a secondary effect of excess money. This excess money causes bad spending and investment decisions at both the business and personal level, which creates financial distortions (big peaks, then valleys), as seen in; 1. Bailing-out England after WW1, leading to mal-investment (too much $ around) and the crash of 1929 when the money-supply was reduced by the Fed, and 2. The Jan-08 housing collapse due to excess mortgage money (created by the Fed) being pushed to weak borrowers by lenders, and 3. Many other large peaks and valleys, and 90% loss of purchasing value since the Fed was created. So much for government 'management' of currency and the economy!!

Nations that use real money may have small highs and lows in their economy, but they are 'self-liquidating' (private investors stop putting limited funds into bad deals), but they never the huge variations caused by excess fake money (investors and the gov't have lots of money to keep funding lots of deals; good and bad).

The heroin analogy rules! The injection of heroin into your body, or a large increase in the money supply (over 5% per year) into an economy, are both 'stimulants', but cause illness when used to excess. When the stimulants are ended to solve the bad effects, your body suffers from withdrawal, and the economy from recession, or worse! Its an old story caused by government meddling with the economy (stimulants, depressants, controls, etc., etc.). The solution is to use real money and free markets. Not perfect, but many times better results (peace, prosperity, justice, etc.) than produced by government meddling!

The Fed measures the quantity of money ('money supply') in three ways; M1 = currency + checkable deposits, M2 = M1 + near-money (savings accounts, mutual funds, etc; quick conversion to money), and M3 = M2 + large time-deposits (over $100k). They stopped publishing M3 in 2006. Note that far less than half of this money is coins or paper (= 'currency'). The rest is electronic/digital.

In addition to creating the Fed, the government tampers with money in other ways, such as; 1. 'Legal tender' laws were passed to force people to accept Fed money (rather than insist on gold, etc.), 2. FDR was worried that Fed money would lose favor and use because of the Great Depression, so issued the Gold Recall Act (an illegal executive order) in 1933 that it was illegal to own gold except for jewelry and by rare coin collectors. This demonitized gold. People were forced to sell it to the gov't for $20.67 of paper per ounce, and then FDR increased the 'official' price to $35 oz ! (a fake bonus for the gov't !), 3. There have been a series of international agreements to 'manage' currency'. The International Monetary Fund (IMF) and World Bank were born of these deals. Both are counterproductive casuses of spending and distortions (including feeding corrupt governments) and should be abolished. Convertibilty was restricted more and more until the 'Bretton Woods' agreement (named for the resort in NH where they met) in 1944 allowed only nations to redeem paper for gold between each other (not people). The US engaged in so much monetary expansion (inflation of the money supply) after WW2 it lost much of its value and flooded Europe with so-called 'Euro-dollars'. France finally started demanding gold for most of their paper dollars but Nixon refused (we were running out of gold), and then abrogated Bretton Woods on Aug. 15, 1971, setting the dollar 'afloat' with no convertibility. Within a few years, all nations had done the same, including conservative Switzerland. Whoopee! Everybody could make money out of thin air! However, the USD (US Dollar) emerged as the world's reserve currency (good as gold) because all paper money is actually viewed as a share in the economy of the issuer. Thus, the paper of a large and stable government and economy has good value. Until recently (2008) the USA was without question the strongest, and the USD had good value as a share in 'USA, Inc.'. Since 1971, the US has abused/inflated its currency even more than other countries, and value has decreased (prices increased) rapidly ever since (look at any chart) on both the international exchange basis (about 4:1 against western Europe 'legacy' currencies from 1971 to 1999, then a loss of about 2:1 against the Euro from 1999 to 2008; 0.8 to 1.5 USD per Euro !), and about 10:1 domestically (price increase of cars, pizza, etc.; things not subsidized or under price controls).

'Fractional reserve' banking is a big part of the problem. When the Fed sets the legal reserve at a typical 10%, banks can loan ten times more than they have. Note that every time a loan is made, or a credit card issued, the money supply increases (and value of all US$ goes down).

Another key problem is the Federal Deposit Insurance Corp. (FDIC). This fake 'insurance' (rates not set by market risks) was created by the government so depositors wouldn't get suspicious of fake money and worry enough to withdraw, or avoid making, deposits. It back-fired in 1991 when the also fake Federal Home Loan Banks ('Savings and Loan' banks) were deregulated in 1990 (as to rates paid to depositors), yet were still insured. White-collar crooks start S&Ls, offered excess high rates to attract deposits, then paid themselves high salaries and bonuses before going bankrupt due to high interest costs! A federal taxpayer-, fake money-funded bailout ensued. Yet another unintended consequence of government intervention in the free (honest) market.

The FHA (Federal Housing Administration), created in 1934, insures lenders against default by home-buyers. This is another distortion of the market that weakens our economy.

Another counterproductive monetary intervention is the 'Pension Benefit Guaranty Corporation'. It is an independent agency of the federal gov't that was created to support (bail-out?) private pension plans. How in the world does Congress justify using taxes (or fake money, or under-funded insurance premiums) to bail-out private pension plans? Well, it is called 'buying votes' from pensioners. This is what economists call a 'moral hazard' (or perverse incentive), because it allows firms to under-fund their pension plans without penalty; thus more do it. The same applies to 'Federal Disaster Insurance' (passed by Congress in Nov-07), and 'National Flood Insurance' (NFIP, 1968) which forces all taxpayers to subsidize rates for 'other people' or land developers (including fees tagged-on to home loans , even in areas with extremely low flood risk; a small creek nearby !!) so they can get 'affordable' (subsidized) insurance to build (or rebuild) in high risk (flood, hurricane. etc.) areas. All this applies to FEMA, the disastrous Federal org that is supposed to help us after disasters, which in fact should be treated as State and local issues! This is more counterproductive 'vote getting' with fake money (the States run out of money, but the Federal gov't doesn't; it is another form of Federal pork)! FEMA should be abolished.

Yet other damaging contrivances are the federally-chartered GSE (Government Sponsored Enterprise) corporations Federal National Mortgage Association (FannieMae, founded in 1938 by FDR, www.fanniemae.com/), and Federal Home Loan Mortgage Corp.(FreddieMac, founded in 1970, www.freddiemac.com). These fake orgs were created to allow banks to issue 30-year fixed-rate home mortgages to 'help' make home purchases 'affordable' (with fake, non market-based rates and terms). The problem is, no sane banker would ever guarantee a rate for 30 years! The game is that private banks sell these loans to home buyers, and then re-sell them to Fannie or Freddie the same day (to get rid of such garbage). Both are listed on the NYSE (FNM and FRE), and because their debts are semi-guaranteed by the U.S. Gov’t, they are able to borrow at low rates.

A third player, Ginnie Mae, or GNMA, Government National Mortgage Association also provides a link between capital markets (the lenders) and the Federal Housing markets. This makes Mortgage backed Securities more attractive to investors, such as pension funds and the like. The main difference between this company and Fannie Mae lies in the government backing. While the backing is only perceived in Fannie Mae, it is real in the case of a Ginnie Mae backed security or mortgage since the US Government owns Ginnie (it was spun-out when Fannie went public in 1968). 95% of all home loans through FHA (Federal Housing Authority) and the VA (Veterans Administration) are backed by GNMA.

These orgs distort our financial system, since at their fake low loan rates, excess money goes into housing because low wage earners can buy bigger houses. This is nice for politicians who want votes, but is a misallocation of resources in the overall economy! Of course, the Federal Reserve is part of the game with their own rate and reserve manipulations. This is what caused the 'sub-prime' mortgage crash in 2008! Even socialist Canada, while amortizing the principal over 30 years, requires the interest rate to be adjusted to 'market' every five years. Part of the fun is that Mom and Pop borrower get to pay-off their loan with cheap dollars (the $ value declines every year - 10:1 since 1975 - , and most wages and salaries go up to compensate).

Excess money (combined with greed) also hurts the 'big guys'. The Mar-08 bailout of investment bank Bear-Stearns by the Fed (and injection of over $200 B 'liquidity' for others) was to prevent the bankruptcy of B-S, and its ripple effect on others, caused by high-risk, high-leverage (up to 34:1), high-profit investments that got into trouble. The Fed stepped-in to save the US 'financial system'. What a pathetic, costly joke!; they damage the system with excess, and 'loose' money, then try to fix it with more of the same; guess who loses?, the taxpayers and little guys!). The system includes:

1. 'Commercial Banks', which provide services to large firms,

2. 'Retail Banks', which provide services to small firms and individuals (1 and 2 are sometimes called 'National banks' if multi-state),

3. 'Investment Banks' which invest in ('own') capital (bonds, securities, mortgages, etc.; not to be confused with securities brokers or dealers),

4. 'Savings and Loan Institutions' ('Thrifts'), which provide home mortgages, and

5. Stock Exchanges (SE), which sell securities (shares) issued by corporations. Examples are; New York SE, Pacific SE, NASDAQ, etc.

The 'system' is regulated by the:

1. 'Federal Reserve System' (not a bank; see above),

2. 'Securities and Exchange Commission' (SEC), created in 1934 to regulate securities markets,

3. 'Federal Deposit Insurance Corp.' (FDIC) which insures deposits against bank failures,

4. 'Office of Control of Currency' (OCC) was established in 1863 as a bureau of the U.S. Department of the Treasury. The OCC is headed by the Comptroller , who is appointed by the President. The OCC was created by Congress to charter national banks, and to oversee a nationwide system of banking institutions.

5. 'Commodity Futures Trading Commission’ (CFTC) is an independent agency of the US gov’t. Its mission is to protect market users and the public from fraud, manipulation, and abusive practices related to the sale of commodity and financial futures and options, and to foster open, competitive, and financially sound futures and option markets, and

6. 'Office of Thrift Supervision' (OTS), an agency of the United States Department of the Treasury, is the primary regulator of federal savings associations (sometimes referred to as federal thrifts). Federal savings associations include both federal savings banks and federal savings and loans. The OTS is also responsible for supervising savings and loan holding companies (SLHCs) and some state-chartered institutions. The OTS was established by Congress as a bureau of the Department of the Treasury on August 9, 1989 as part of the Financial Institutions Reform, Recovery and Enforcement Act of 1989.

Here are some words that came out of the April 3, ’08 Senate Banking Committee hearing investigating the near collapse of Bear Stearns: "20 years ago the Fed would have let Bear Stearns go bust; today, it is too interlinked to fail." Not too big to fail, too interlinked to fail. The ‘I’ word is our new monster! ‘I’ describes the world of derivatives, and the world of hedge funds. The proliferation of a vast array of complex financial instruments that are sliced and diced and recombined in a bewildering variety of forms and bought and sold and traded by thousands of parties across the globe (and sometimes labeled ‘AAA’ even though backed by junk loans; can you say FRAUD) has woven everyone tightly together into one big knot. It wasn’t just Bear-Stearns, but the entire system of globally interlinked financial markets and Crony Capitalism that got bailed out! Again, the Insiders win, and the People lose!

The ‘moral hazard’ here is that Wall Street knows they will get bailed-out the next time their high-risk, highly-leveraged ventures fail. Oh sure, Paulson and Bush promise ‘sweeping changes’ with new regulations and powers for the Fed, but Wall Street will find a new away around them.

It all comes back to the unspoken core problem; Fake Money. Without the hundreds of billions of ‘liquidity’ (Fake Money) the Fed poured into the financial system since the ‘90s, these games couldn’t be played. The toys they play with are the fake, sub-prime home mortgages, plus other lose-money-based securities.

In the past, we could keep spending this fake money worldwide (by both people and govt) because the US$ (USD) was still the world's only 'reserve currency' (anyone would accept it as payment, and hold assets denominated in it) because despite our problems, others have been worse (past tense; others are becoming attractive; Euro, yen, Yuan). The US$ now has competition! Our strong (while it lasts) economy sets the confidence level that it won't become worthless (but it is now crashing because the USA is bankrupt due to debt and spending, with no cure in sight). For fear of starting world-wide panic selling, those countries who own a lot of US$ (trillions in China, Japan, etc. due to payments for exports to USA) can't afford to dump them as their value declines, but history shows us that something always triggers panic selling, and a crash in value.

For example, as of Spring 2008, individuals and businesses worldwide are starting to avoid transactions, investments, and savings in US$. They fear ongoing loss of market value in dollar-denominated assets. They are right, and this is how worldwide crashes in a currency can start!

Governments play the 'hold-and-hope' game with 'other people's money', but people and businesses avoid (or run away from?) a failing currency with their own money and assets!! The crash could start from the bottom up !

One of the risks foreign governments fear is that the US will payoff its debts be creating huge amounts of cash out of thin air. This would greatly reduce the value of the dollar, and is a form of default.

FLASH !! Politicians hate REAL money because it limits their vote-getting spending funded by creation of new money out of thin-air!!

Are you catching on to the self-serving, vote-getting games Congress and the State politicians play with fake money??

Very few people understand, or care about, the above currency issues. They prefer bread and circuses, as we crash!! SAD.

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Notes:

A shortened version of the above was published as a ‘Guest Column’ on Jan. 29, 2008 by the Wisconsin State Journal, a regional daily newspaper based in Madison, WI. See it on www.madison.com, and in topic #8E 'Daves Writings' on the Home page, and
For more , visit http://en.wikipedia.org/wiki/Money_supply, http://www.mises.org/freemarket_detail.aspx?control=483, http://www.history.com/minisites/money/viewPage?pageId=52498 , and http://www.mises.org/money.asp (book; What has the Government Done to our Money?)