The first in a series of discussions of what are the leading causes and likely and/or necessary features of the global credit regime that will emerge once the USD goes the way of the Dodo.

http://www.debtorsprisonblog.org/journal/2009/11/30/transitioning-to-a-global-credit-regime-part-i.html

Greetings fellow inmates,

In our most recent posts, A large-scale look at debt, Count the Money v2.0 and A visual history of how US Treasuries became worthless, we have spent a good amount of time discussing the apparent inevitability of the eventual collapse of the global debt mountain and the monetary crisis that will follow. Much of our focus has been on sovereign debt, specifically the US variety, since the USD is still the world’s reserve currency. While we have become convinced of this inevitability, there is no certainty regarding its timing, the full magnitude of its effects and the subsequent global response. The natural next step then in this rational discourse is to begin thinking about what comes next. In that spirit, this is the first in a series of posts that will aim to discuss and dissect the more likely nature, features and requirements of the global monetary and debt system that will emerge once the current one disintegrates. To be clear, we define the current system as consisting of fiat sovereign currencies collaterized by sovereign (and now private) debt, primarily from the US. It is precisely this system that we have come to believe is unsustainable and will eventually crash in what many people call the Dollar Event Horizon (DEH). What emerges after DEH must therefore not be of a sovereign nature, but of a global one; of that we are certain. Though, as always, we will try to stick to Numbers, Facts and Reason (NFR) as much as possible, the nature of this particular discourse must necessarily include some speculative elements. For that reason, we highly encourage all our readers to participate in this discussion as many minds are infinitely better than a few, and understanding the nature of this transition will be instrumental to financial survival.

There are many variables, uncertainties and viewpoints when pondering what will come after the DEH. Though we will at times distinguish monetary and credit issues, please keep in mind that for the purposes of this exercise, they are in fact the same thing: Debt is money, money is debt. In this first instalment, we begin by looking at the issue from a more monetary perspective.

Contrary to what many economic pundits propound , history often serves as a guide for future events. At the very least, we owe it to ourselves as rational monkeys to explore some previous historical cases of transformational systemic change in the global monetary system, which is exactly what we expect is going to happen. As a recent and eerily similar example, we take a look at 1933, quite an eventful year in many respects. In Germany, the Nazis rose quickly to power as Adolf Hitler became dictator of Germany, and spent a good amount of the year burning books, repealing civil liberties, building concentration camps and signing accords with the Pope. Germany and Japan, the elder axis of evil, left the League of Nations. The US and the Soviet Union formally established diplomatic relationships. Paraguay declared war on Bolivia. But none of this garnered any attention, relatively, as the Great Depression was raging on worldwide.

In the US, 1933 was a year of particular significance as many of the features of the current financial, monetary and regulatory infrastructure came into being. On 03.04.33, Franklin Delano Roosevelt was inaugurated, famously proclaiming “the only thing we have to fear is fear itself”. Pretty much immediately upon entering office, he instituted a sweeping set of reforms, mostly in the New Deal, to the financial and monetary system that would have deep repercussions for the world as a whole. The underlying causes/circumstances for these reforms were then, as they are now: high unemployment, a deep economic recession/depression, threats of deflation and fear of an impending economic deathball-of-destruction (d-o-d). The Agricultural Adjustment Administration (AAA), the Federal Deposit Insurance Corporation (FDIC), the Public Works Administration (PWA), the Glass-Steagall Act (expired), the Securities and Exchange Commission (SEC), and the Social Security Program were all enshrined into law within FDRs first two years in office. Please, take a moment to think about how deeply your life is affected by these programs. As if that wasn’t enough, in exactly 33 days, after entering office, he passed Executive Order 6102 (EO6201) and proceeded then to effectively end the gold standard as it had functioned for the past couple of centuries before that. Beginning with EO6201, FDR prohibited the private ownership of gold and mandated that it would no longer be acceptable as legal tender of debts, except for foreign exchange. In other words, every US citizen was forced to hand over part of their tangible wealth, and it became illegal to demand gold in exchange of your debt, at the penalty of death. Let’s think about that for a second. If we assume the notion that gold actually serves as a real store of wealth, then this was a gargantuan outright theft of the people by Uncle Benny’s Black Magick Money Wizard forbears. Peoples were forced to give up their tangible assets in exchange for paper currency backed by government debt, forced to participate in the current fiat system. While this example illustrates the theft very vividly because gold is a tangible asset as opposed to its financial paper successor, we argue that even the gold standard was in fact fiat. Of course, gold does have some inherent qualities that make it well suited as currency (mainly density, malleabity, indestructibility and scarcity), but it still lacks a significant intrinsic value to humans as we cannot eat or drink it, nor shelter or clothe ourselves with it, nor economically build stuff. It does have some value however since we use mainly for industry and jewellery, in addition to its remaining financial uses. In a future post on gold we will examine some of its history, where it went, and some of the intricacies of its true value. For now however, we wish to simply focus on its monetary nature.

These changes resulted in a 41% devaluation of the dollar. This was partly motivated and justified by the rampant fears of deflation which, much like today, were used to galvanize a wantonly expansionary policy. Check out the video “Inflation” in the Video Cart, (produced by MGM, curiously, in 1933), which explains to us poor dumb folk how money works and how inflation is good for everyone! Two important things to note: at that moment every unit of currency went from being backed by a tangible and finite asset of an agreed-upon “value”(price), into being backed by government debt, which is nothing but claims on the future production of US citizens. In other words, effectively (and we would love some debate on this matter) US and global citizens alike, were deprived of wealth held in their physical possession and handed one that depended how hard they worked, or as is known in some circles, the ol’ “hand over everything you’ve got and I’ll give it back depending on how hard you work for me slave”. This was a paradigm shift.

Clearly, there are some differences from 1933 and today, almost 77 years later. Today, we are already operating under the notion that currency is backed by a potentially infinite supply of government debt, which in turn is claims on the future production of its citizens. It is difficult to imagine the system changing significantly in this feature since the supply of money is already boundless. In this respect, we can think of the 1933 repeal of the gold standard as having a larger philosophical implication than what seems likely today. We will deal in more detail with the potential source/distribution of sources of supply of money collateral in a later instalment.

More to the point, in 1933 the dollar was devalued by 41% as a result of this shift, resulting in large inflation. The following is a chart of the USD Trade Weighted Index for Major Currencies (EU, CAD, JPY, GBP, CHF, AUD, SEK), data courtesy of Uncle Benny.



We can easily notice the multi-decade secular down trend in which the Index went from a high of about 150 in 1985, to about 73 today, or about a 51% decline in the value of the USD. This, during a time of strong economic and financial expansion. Combined with the 1933 example, it does not seem implausible that the dollar could lose 50% of its value once again, as a minimum (or for now merely representative) value for the worst case scenario in the systemic transition we expect will happen. This amount of devaluation would lead immediately to the eradication, or rather expropriation, of about $2.7tr of foreign exchange reserves, which represent the total global amount of sovereign savings. The Chinese would be especially hurt by this; have you ever tried to stiff one of them for even a few nickels? We have, it got us shanked!

This should clearly lead to a wide exodus from US debt, greatly raising interest rates and make it nearly impossible for the US to continue financing the Ponzi scheme. A massive wave of inflation, which we lovingly call SuperInflation, is likely to result as a means of alleviate the debt burden which is no longer able to be rolled forward. Confidence, or faith in the system will crack. However, as we said, it seems unlikely at this point that the fiat nature of a currency backed by a boundless supply of money collateral, which is in the form of claims on future production, will change. Rather, what we think will happen is a shift to globalize this dependency. In other words, the world will have one money backed by a boundless supply of money collateral which are claims on the future production of the world, rather than individual countries. The financial enslavement of the world will be then completed.

Even though the shift from a largely unipolar sovereign monetary/credit system to a non-polar global system will have dramatic consequences, we must not fool ourselves: it will still be fiat based on debt. We will discuss what this means and how we could hopefully avoid it in more detail in next instalments of this Series.

That’s it for this instalment. In the upcoming ones, we will discuss the nascent market for debt issued by international organizations (IMF, etc), the possibility of a global tax-collecting agency, more detailed examination of what would happen to the current debt, what kind of asset redistribution could take place, requirements of a single world currency, potential regulatory overhauls, and much much more. Join us as we kick around this rusty ol can out in the Yard.

May your capital be safe and your investments prosperous,

MAAA