*****Fed Planning 15-Fold Increase In US Monetary Base*****

The fed is planning moves that would more than double its balance-sheet assets by September to $4.5 trillion from $1.9 trillion. Whether expressing approval or concern over the fed's intentions, most commentators fail to understand the real magnitude of the projected expansion of the US monetary base because they don't take into account the amount of dollars circulating abroad.

At least 70 percent of all US currency is held outside the country, and this means the US monetary base is considerably smaller than the fed's overall balance sheet. Take, for example, the true US domestic money supply at the beginning of September 2008, before the fed started its quantitative easing. From the Federal Reserve's website, we know that currency in circulation was 833 Billion. This translates as 583 Billion dollars circulating abroad (70 percent), and 250 Billion dollars circulating domestically (30 percent). Since the bank reserve balances held with Federal Reserve Banks were 12 billion, that gives us a 262 Billion domestic monetary base as of September 2008. Now compare that to the projected US domestic monetary base for September 2009 which is 3,818 billion (4,500 billion — 583 billion (dollars circulating abroad) — 99 billion (other fed liabilities not part of the money supply)). The fed's planned balance sheet expansion results in a 15-fold increase in the base money supply.

262 Billion = US monetary base as of September 2008 (minus dollars held abroad)
3,818 Billion = projected US monetary base in September 2009 (minus dollars held abroad)

3,818 Billion / 262 Billion = 15-Fold Increase
in US monetary base

This is a staggering devaluation of the US currency! It means that for every dollar in America in September 2008, the fed is going to create fourteen more of them! Below is a rough sketch of what this increase in US monetary base would look like:

This 15-Fold Increase will be impossible to reverse

Next September, when the fed realizes it has gone too far and tries to reverse its balance sheet expansion, it will be unable to do so. The realities which will hinder the fed's control of the money supply are:

1) The toxic assets filling its balance sheet

Expanding the money supply is easy. All the fed has to do is print dollars and then use them to buy assets. There is no effective limit to how much the fed can print and spend.

Shrinking the money is much trickier. To shrink the base money supply, the fed sell assets and takes the dollars it receives for them out of circulation. The amount the fed can shrink the money supply is therefore effectively limited by the market value of assets on its balance sheets. Since the fed is in the process of loading up on toxic securities while trying to restore health to the financial sector, it is now sitting billions of unrealized losses. These unrealized losses means the fed has little ammunition available to bring the money supply under control.

Once September rolls around, If the fed wants to reverse the expansion of its balance sheet and shrink the monetary base back down from 3,818 billion to 262 billion, then it will need to sell 3,556 billion worth of assets. However, the market value of its assets will only be worth a fraction of that.

2) Political constrains on fed's actions

Even if the fed does try to shrink the money, it is likely to run into political constrains on its actions:

A) Selling toxic assets at a loss could become a crippling source of major embarrassment for the fed, undermining its authority. For example, last year when the fed took 29 billion toxic assets to help JPMorgan's takeover of Bear Stearns, it assured Americans that by holding those securities till maturity, the cost to taxpayers would be minimal. If the fed sells those toxic Bearn Stearns assets at a catastrophic loss, it would cause fury and outrage from voters and lawmakers.

B) Selling assets at below book value will quickly cause the fed's equity to turn negative. The Federal Reserve would then need to be recapitalized by new debt from the treasury, which would increase the national debt.

3) The benefits from of its balance sheet expansion would be lost if the fed starts selling assets

The fed is accumulating toxic mortgage backed securities, long term treasuries, and other assets to unfreeze the credit markets and spur economic growth. Turning around and selling those assets would result in the collapse of the credit markets and the financial system, which the fed has been desperately trying to prevent.

Upwards pressure on interest rates

On top of all the issues above, the fed's woes are going to be compounded by upwards pressure on the yields of treasuries and other US debt. This upwards pressure will likely force the fed to monetize far more treasuries than the planned $300 billion purchases it has already announced, and will greatly complicate any efforts by the fed to control the money supply.

Below are the nine factors which will cause yields to move higher.

1) Massive supply of treasuries in the pipeline

The biggest force pressuring treasury yield upward is without a doubt the trillions of debt the treasury has to sell to finance the enormous 2009 budget deficit. There is nowhere near enough buyers to absorb this supply. The graph below demonstrates the challenge facing the treasury in funding this year's budget.

2) As a reserve asset, treasury bonds will face enormous selling pressure in 2009

There is the mistaken belief that the role of treasuries as a safe haven is bullish for treasury bonds. It is not. This logic ignores the reality that reserve assets, such as treasuries, are accumulate in good times and sold in bad times:

Federal and state agencies will be selling treasury reserves. For example, the Deposit Insurance Fund (a.k.a. FDIC) will be selling treasuries to pay back depositors of failed banks, and the Unemployment Trust Fund will be selling treasuries to make payments to the unemployed.

State and local governments will be selling treasury reserves. As an example, states have already begun drawing down reserves as their budget troubles worsen. The bulk of those reserve remain, and they will be sold over the course of this year.

Banks and insurers will be selling off their treasury loan-loss reserves. Financial institutions have been building their treasury loan-loss reserve for the last year in anticipation of growing defaults. In 2009, this process will reverse as loans go bad and insurers make good on claims.

Foreign central banks will be selling off their treasury foreign reserves. Saudi Arabia, for example, is projecting a 2009 Budget Deficit, which it intends to finance by selling off its US holdings. Russia, meanwhile, has already sold over 20% of its $598.1 billion reserves, and India's central bank has been forced to sell off its US holdings to curb its currency's decline, and its total reserves have decreased by $62.2 billion. Japan, which is now running a record current account deficit, can also be expected to sell treasuries.

Even China could become a seller of treasuries as it mobilizes its dollar reserves. The Chinese government has sent clear signals that it is shifting from passive to active management of its reserve and is exploring more efficient ways to use its reserves to boost its domestic economy.

3) Retirement inflows into treasuries are over

The steady accumulation of treasuries by government retirement funds has helped absorb the supply of treasury bonds for over three decades. This accumulation of government debt to secure the retirement of baby boomers helped drive down treasury yields and fund deficit spending. As of September 2008, the four biggest of these funds held 3.3 trillion treasuries:

2150 billion (Federal old-age and survivors insurance trust fund)
615 billion (Federal employees retirement fund)
318 billion (federal hospital insurance trust fund)
217 billion (federal disability insurance trust fund) (for more on these four funds, see where social security tax amounts are deposited)

3300 billion total

Today, the accumulation of treasuries by government retirement funds is over. Baby boomers are beginning to retire, increasing outflows, and unemployment is rising, cutting inflows. More importantly, the 3.3 trillion already accumulated in these funds provides an enormous political incentive to prevent treasury prices from collapsing. Faced with a run on treasuries, politicians, rather than explaining to baby boomers that their retirement savings are gone, will instruct the fed to monetize treasury bonds. This alone will prevent the fed from reversing its current balance sheet expansion.

4) Deleveraging in credit-default swap market will drive up risk premiums

If you have been following the credit crisis in any detail, you might have heard that the 53 trillion credit-default swap market threatening the solvency of the financial system. What you might not have heard is the other dire threat posed by the CDS market: drastically higher risk premiums on all forms of debt.

These higher risk premiums are the result of reversing the process by which credit-default swaps were leveraged up and packaged into investment vehicles. Some examples of these horrors are:

Synthetic CDOs
As opposed to regular CDOs (which contain actual bonds), synthetic CDOs provide income to investors by selling credit-default swaps on hundreds bonds from companies and governments.
To juice returns, these synthetic CDOs disproportionally insured the riskiest AAA rated debt, such as Lehman's bonds. Synthetic CDOs are estimated to have sold insurance on between $1.25 trillion to $6 trillion worth of bonds.

Constant-Proportion Debt Obligations
CPDOs are specialized funds which work exactly like synthetic CDOs but with one major difference: they used leverage to boost returns. These CPDO
funds typically borrowed about $15 for every dollar invested with them. They also contain safety triggers that force the liquidation of their investments if losses reach a predetermined level, and most CPDO funds have begun to hit these triggers. For example, Three CPDO funds launched in 2006 by Dutch bank ABN Amro Holding NV have already been forced to liquidate as credit insurance costs spiked and their credit ratings were downgraded.

Credit Derivative Product Companies
CDPPs are another group of specialized funds which work exactly like synthetic CDOs and CPDO funds, except for one key difference: they used an insane amount of leverage, as much as $80 for every dollar invested. CDPP funds together with subprime CDOs squared are finalists for the title of "most idiotic financial instrument ever created".

Since these leveraged investment vehicles sold an enormous amount of insurance, the premiums for CDS insurance dropped sharply, making corporate debt seem safer and lowering interest rates. In effect, the process of building up the 53 trillion CDS market created an era of artificially low risk premiums on all forms of debt. Unfortunately, the pendulum is now swinging in the other direction, and the pain has just begun.

As investors attempt to get out of synthetic CDOs and CPDO/CDPP funds try to deleverage, they push up the cost of default insurance. In turn, that raises the risk premium on all forms of debt since most investors use the cost of default insurance as a guide when deciding at what interest rate they will buy bonds.
Many banks are also tying corporate loan rates to credit-default swaps, raising borrowing costs and exposing companies to an overleveraged derivative market which is largely responsible for crippling the financial system.

The graph below shows how the cost of insuring the debt of EU nations is being driven up.

The rising cost of insuring debt is impacting treasuries too.
The cost to hedge against losses on $10 million of Treasuries is now about $100,000 annually for 10 years, up from $1,000 in the first half of 2007. These rising insurance costs have helped push up treasury yields in the last few months. Worse still, the rising costs of insuring against government defaults will undermine faith in dollar. After all, the CDS market is telling us that 10-year treasury notes have become 100 times riskier in the last two years.

5) Unwinding the Gold carry trade

The massive expansion in the US money supply will undoubtedly drive gold prices several times higher and force the unwinding of the gold carry trade. To see the threat which unwinding the gold carry trade poses, it is necessary to understand how US and UK financial institutions got themselves stuck in an enormous short position in gold from which they have no hope of ever escaping. For that purpose, I have outlined below the five steps Wall Street seems to repeat endlessly on its path to ruin.

Step 1: Wall Street embraces a false paradigm

"Housing prices never fall"


"gold is a relic" or "gold is in a permanent downtrend"

Step 2: Wall Street makes billions embracing this false paradigm...

US/UK Financial institutions made billion in fees from making mortgage loans and securitizing them.


US/UK Financial institutions made billions via gold carry trade. Here is an ultra quick explanation how it works from zealllc.com

So, if you can find a cheap enough cost of capital, a safe enough destination, and you have the credit to borrow large amounts of money, you too could make enormous profits in carry trades. The notorious gold carry trade is based on the exact same idea. Elite money-center bullion banks were given sweetheart opportunities to borrow central bank physical gold at 1%, sell it in the open market, and immediately invest the proceeds in higher yielding "safe" investments and reap vast profits.

As Moneyweek further explains:

It seemed like a no-brainer. The central banks got to squeeze a yield from their gold. The borrowers got to sell the gold on, and use the proceeds to fund more exciting investments like 10-year US Treasuries yielding 4% per year or so. Yes, these 'carry trade' returns were tiny. But the cost of borrowing gold was tinier still.

Step 3: ...and creates a catastrophic mess in the process

Enormous housing bubble
Subprime CDOs squared
Off balance sheet SIVs


Commercial banks and speculators are left inescapably short gold. These ridiculous short positions are best captured by John Hathaway in his 1999 article,
The Golden Pyramid.

The recipe for a shortage has been carefully followed. A few finishing touches may be required before a market epiphany. There is no known reconciliation between paper and physical positions, and none will be attempted until after the squeeze. The weakness of credit analysis and supervisory oversight, as well as the many ambiguities in the linkage between paper gold and physical can flourish only if there is supreme confidence in gold's permanent downtrend. The trust and confidence essential to balance the gold derivatives pyramid depends on three critical errors: that mine reserves = physical gold; that gold receivables = gold on hand; and that financial markets will enjoy smooth sailing indefinitely. Trust is nothing more than a state of mind. When this levitation is finally exposed and its illusions shattered, it is ludicrous to think the imbalances can be corrected by a small rise in the price and within a comfortable time frame. Expect the resolution to be swift, furious, and uncomfortable for those caught short.

Step 4: Something goes horribly wrong

Subprime borrowers start defaulting
Housing prices plummet


Gold prices shoot up after the 1999 Washington Agreement on Gold (EU central banks agreed to limits on gold sales/leasing).

This gold bear trap is best described by Reginald H. Howe in his report about central banks at the abyss.

The first Washington Agreement on Gold, announced in September 1999 at the close of the annual meetings of the International Monetary Fund and World Bank in Washington, D.C., placed limits for the next five years on the official gold sales of the signatories as well as on their gold lending and use of futures and options. Put together at the instigation of major Euro Area central banks in response to the decline in gold prices caused by the series of U.K. gold auctions announced in May of the same year, WAG I caused gold prices to shoot sharply higher.

Within days, as gold shorts rushed to cover, the price jumped from around $265 to almost $330/oz. and gold lease rates spiked to over 9%.
The rally caught the major bullion banks completely wrong-footed, resulting in the panic later described by Edward A.J. George, then Governor of the Bank of England (Complaint, 55):

We looked into the abyss if the gold price rose further. A further rise would have taken down one or several trading houses, which might have taken down all the rest in their wake. Therefore at any price, at any cost, the central banks had to quell the gold price, manage it. It was very difficult to get the gold price under control but we have now succeeded. The U.S. Fed was very active in getting the gold price down. So was the U.K.

Despite managing to "get the gold price under control", US/UK bullion banks (JPMorgan, HSBC, etc...) have been stuck on the short side of gold ever since.

Step 5: The US fed and UK do everything in their power to "save the financial system"

Royal Bank of Scotland bailout
Bear Stearns bailout
Freddie/Fannie bailout
AIG bailout
US/UK Quantitative easing


Leasing out all US/UK gold to bullion banks
Gold swaps with foreign central banks (then leasing out the gold)
Convincing allies to sell gold
Writing naked call options on gold
Britain's 1999 gold sales
Pre-emptive gold sales
Allowing JPMorgan's and HSBC's manipulation of COMEX futures

Make no mistake, gold prices have suppressed, but calling this process a "conspiracy" would be inaccurate. Gold suppression by the US and UK is better characterized as a desperate cover-up. Furthermore, while a side affect of the gold carry trade and gold suppression was to drive down interest rates, that was never their intended effect. A desire to hold interest rates would not have been enough to push the fed or the Bank of England to manipulate gold prices. It was only the threat of the total collapse of US/UK financial system which prompted the suppression of gold. The unwinding of the gold carry trade would have (and will) dragged down the some of the biggest US/UK banks under (JPMorgan, HSBC, etc...) and that was what had to be prevented at any cost.

Stay away from any form of paper gold: GLD (HSBC is custodian), gold pools and unallocated gold accounts, gold futures, etc... Paper gold investments are guaranteed to default before this crisis ends.

Besides leaving the financial system inescapably short gold, the gold carry trade also drove down yields on treasuries and other US debt, as commercial banks invested the proceeds from the sale of borrowed central bank gold and other naked short positions. Unwinding the gold carry trade involves the purchase of physical gold, but also the sale of the investments linked to the gold short positions. As the fed begins 15-fold expansion of the monetary base (which logically should eventually send gold prices up at least ten times where they are now), the unwinding and fallout of the gold carry trade seems imminent.

6) The return of the 580 billion dollars circulating abroad

Over the last thirty years, the steady outflow of 580 billion dollars has helped drive down interest rates. For example, If 10 billion dollars leaked out of the US and began circulating abroad, the fed would print 10 billion and buy treasuries in order to replenish the domestic money supply. So the 580 billion dollars held abroad resulted in the purchase of roughly 580 billion treasury bonds by the fed, thereby increasing demand for US debt.

While the accumulation of oversea dollars has been beneficial in the past, today the large pools of dollars circulating in foreign hands pose a threat. With many dollar alternatives becoming available, US oversea currency looks increasingly likely to start flowing back home. The main currencies with the potential to displace dollars are:

A) The Chinese yuan which is becoming an international currency
B) The Khaleeji, a new currency being launched by Gulf states which will be possibly backed by gold.
C) The Euro with its partial gold backing
D) Gold

Furthermore, now that the fed has begun creating money at an accelerating rate, the extensive foreign holdings of US currency might exacerbate the effects of inflation fears. As foreign dollar holders' confidence in the dollar is eroded, they will trade their dollars for alternate stores of value (yuan, euro, gold, etc...), potentially sending a flood of currency back to the US. If the Fed failed to reduce the supply of currency to counteract dollars being unloaded from abroad, the inflationary consequences would be made worse as the mass reversal of currency flows from foreigners to the US becomes overwhelming.

7) Interest rate derivates nightmare

The threat posed by interest rate derivates is perhaps the greatest out of all the ones outlined so far. It is also the one hardest to understand. The first thing to note about interest rate swaps is the size of the market, as explained by the Wikipedia:

The Bank for International Settlements reports that interest rate swaps are the largest component of the global OTC derivative market. The notional amount outstanding as of December 2006 in OTC interest rate swaps was $229.8 trillion, up $60.7 trillion (35.9%) from December 2005. These contracts account for 55.4% of the entire $415 trillion OTC derivative market. As of Dec 2007 the number rose to 309,6 trillion according to the same source.

The growth in interest rate swaps creates demand for bonds because many of these interest derivatives require the purchase of bonds as a hedge. Rob Kirby on 321gold.com explains this in his article, the real ponzi scheme - "unreal interest rates".

Interest Rate Swaps create demand for bonds because bond trades are implicitly embedded in these transactions. Without end user demand for the product - trading for "trading sake" creates ARTIFICIAL demand for bonds. This manipulates rates lower than they otherwise would be.

Interest rate swaps were originally developed to [1] allow parties to exchange streams of interest payments for another party's stream of cash flows; [2] manage fixed or floating assets and liabilities and [3] to speculate - replicating unfunded bond exposures to profit from changes in interest rates. Growth in the first two of these activities are dependent on their being increased end-user-demand for these products - graph 1 above indicated that this is not the case:

In the case of J.P. Morgan in particular [forgetting about the lesser obscenities at Citi and B of A]; their interest rate swap book is so big that there are not enough U.S. Government bonds being issued or in existence for them to adequately hedge their positions.

This means that
the obscene, explosive growth in interest rate derivatives was all about overwhelming the long end of the interest rate complex to ensure that every and any U.S. Government bond ever issued had a buyer on attractive terms for the issuer. Concurrent with the neutering of usury, the price of gold was also "capped" largely through Fed appointed banks "shorting gold futures" as well as brokering gold leases [sales in drag] sourcing vaulted Sovereign Central Bank gold bullion. The gold price had to be rigged concurrently because historically, according to observations outlined in Gibson's Paradox - lowering interest rates leads to a higher gold price. Gold price strength is historically synonymous with U.S. Dollar weakness which leads to higher financing costs or the possibility of capital flight.

Same as with the gold carry trade, while the explosive growth in interest rate derivatives did reduce interest rates by creating demand for bonds, I am not sure about the conspiracy element. From everything I have seen and read during the credit crisis, the wizards of Wall Street (ie: the creators of the subprime CDO squared and other horrors) and the Federal Reserve seem more like children playing with dynamite rather than masterminds capable of pulling off vast conspiracies.

The greater threat posed by interest rate swaps

Besides creating artificial demand for bonds, the interest rate swap market poses a systematic risk exceeding that of the credit-default swap market because of its enormous size and the fact that each interest rate swap contract offers the potential for unlimited losses. The graph below should help show this danger.

In a currency collapse (which is where we are headed with Bernanke's 15-fold increase in the money supply), interest rates follow inflation to astronomical heights. Loans run for 24 hour periods. Interest rates in the five or six digits range are common in hyperinflation, and, should they occur here in the States, anyone "short the swap" (the floating-rate payers in interest rate swaps) will be crushed into oblivion. At least with credit default swaps, there is a limit to how much investors can lose.

8) The liquidation of the 8 Trillion dollar holdings of overleveraged European banks

European banks increased their dollar assets sharply in the last decade which helped drive down US interest rates
and absorbed a large portion of America's growing debt. Their combined long dollar positions grew to more than $800 billion by mid-2007. This $800 billion was then leveraged into $8 trillion in US assets. The low capital ratios of these dollar positions were acceptable to regulators because European banks are allowed to apply a lot more leverage as long as they are buying exclusively AAA rated securities.

Unfortunately, as we have learned over the past 18 months, AAA is not always AAA. While much of the AAA rated securities bought by European banks were treasuries and agencies, some of these AAA rated securities were senior securitized loans that are still marked close to par on the balance sheet of European banks despite the fact they trade around 70 cents on the dollar in the markets. The enormous unrealized losses on their US holdings are only one of the problems facing European banks.

The other is the loss of their dollar funding. The enormous leverage employed by European banks to purchase toxic AAA rated assets was funded in great part by loans from US money market funds. After Lehman's default led to massive withdrawals from those money market funds, European banks lost access to billions in dollar funding.

If European banks are forced to sell their 8 trillion US assets, it will crash the credit markets, and they will have to recognize enormous losses. Since the fed is desperate to prevent the collapse of the US financial system, it lent those European banks 600 billion dollars so that they wouldn't be forced to sell. Meanwhile, European banks accepted this 600 billion because they don't want to recognize losses on their toxic US securities.

What is going to happen next with these overleveraged European banks?

Well, if history is any guide, the outlook isn't good for the US financial system:

"When the American economy fell into depression, US banks recalled their loans, causing the German banking system to collapse"

The same thing will happen in 2009, except the roles will be reversed. It will be European banks that will recall their loans and sell off dollar assets, causing the US banking system to collapse.

What could convince European banks sell off their US assets at firesale prices?

The answer is simple: fear of a dollar collapse. With the fed increasing the monetary base 15-fold, the strategy of waiting for impaired assets to recover becomes meaningless: with the dollar likely to lose nine tenths of its value in the next year, waiting for assets trading 70 cents on the dollar to recover is a senseless venture.

9) Inflation expectations

The US's experience during the Great Depression has left America dominated by Keynesian thinking and prone to deflation fears. As a result, inflation expectations are about nonexistent right now despite the current financial crisis. However, the fed's latest plan to expand the monetary base 15-fold should give pause to even the most hardened deflationist. Indeed someone must be worried, because the fed's Wednesday announcement has caused a dramatic collapse of the dollar:

The sheer size the fed's monetary expansion and the dollar's fall will soon increase both inflation and inflation expectations. This in turn will put upwards pressure on treasury yields.


During the last three decades, long-term interests rates have fallen steadily in US, as demonstrated by the chart below

Logically speaking, the chart above makes no sense. The fundamentals underlying the US economy have grown steadily worse over the last thirty years. For example, in 2006, the US's current account deficit nearly hit 9 percent of our gdp, and economists usually consider 4 percent to be unsustainable. There are also the US's chronic budget deficits and the massive projected social security shortfalls. Even more incomprehensible, over the last six months the yield on long-term treasuries has fallen in the face of a disintegrating economy and massive expansion in the supply of treasuries. This is NOT how the world works: as the financial health of borrowers decrease, their interest rates are supposed to go up. The only rational explanation is that some combination of forces has been unnaturally driving rates lower. These forces, (outlined above) which have been driving interest rates down, are today threats and issues which need to be resolved before the financial crisis can end:

The US budget deficit
The crisis in entitlement spending
The trade deficit and large holdings of treasury reserves
The credit-default swap market
The gold carry trade
The 580 billion dollar circulating overseas
The 8 trillion dollar assets accumulated by European banks
The interest rate swaps market
The Keynesian thinking dominating US economic and fiscal policy

This entry was posted in Currency_Collapse, Euro_Zone, Gold, Key_Entries, Wall_Street_Meltdown. Bookmark the permalink.

84 Responses to *****Fed Planning 15-Fold Increase In US Monetary Base*****

  1. Martijn says:

    The FED still ownes gold which is valued way below todays market price on its balance. Selling that could bring back quite some dollars (I'm not saying that would be a wise thing, but still).

    Freshly created dollars might also leak outside of country, so not all money printing has to result in a domestic increase only.

  2. Boris says:

    Hi Eric.

    What you think about this?

    Very interesting analysis and very opposite to yours.

  3. Michel says:

    Hi Eric,

    since I am European (Italian), I am very interesting in knowing where the 8 trillions $ accumulated by European banks actually are. Do you have data about the percentage held by UK, Swiss, German, ...etc. banks?


  4. Anonymous says:

    forget denninger. he is more apt to divert your attention from the real problem. He is not genuine. Be careful. My opinion based on experience.

  5. SPECTRE of Deflation says:

    You still are not watching M1 Money Multiplier. If I give you a trillion dollars, and you stick it under the mattress, the net result is zero concerning money in circulation. Secondly, the EU has $25 Trillion in pure shit that will be defaulted on, so how do we get hyperinflation when more money/credit is being vaporized then can be created? Look at the last 18 months for your answer.

  6. Anonymous says:

    Just wondering, what will be the effect on gold/silver prices if USD default on their debt or total collapse of USD thus it get replaced. My thinking is, this will cause gold/silver price to drop because the money supply decrease substantially

  7. Jeff Burton says:

    One thing can be said for Denninger - he is going to all cash for the long haul (at least he claims to be), so at least his actions are consistent with his words. His argument boils down to one point and one point only: he can't see any connection between money supply growth and wages, therefore there will be no inflation. What he ignores is gov't spending, which is an extremely efficient conveyor belt and is obviously connected to wages. Denninger has made some good calls in the past, but has a gigantic ego and will not admit when he's wrong (e.g. he swore up and down in post after post and trashed anyone that disagreed that "Bernanke CAN'T monetize the debt.")

    This was simply a superb post, Eric. When I sell some more of my paper gold, I'll paypal you some of the profits ;)

  8. SPECTRE of Deflation says:

    Also look at the latest TIC from the FED which lays out my point rather well. Everything is contracting except government which can't carry all the water. The FED is like an ant pissing on a 5 alarm fire.

  9. Martijn says:

    So far Spectre and Mish seem to be right. We are in a deflationary period and with more defaults to come and no new loans being taken out this downward pressure on money supply will remain rather strong, despite Mr. Bernankes helicopter flights.
    And there are indeed various scenarios thinkable for high inflation, but so far non has played out:

    China mobilizing dollar reserve => there have already been arguments about China not picking up enough new treasuries. They might not be to wiling to further excalate this discussion by throwing their dollars in the game.

    Europe (and other countries) sending their dollars back => still quite some dollar shortages, so no massive dumping in sight as of yet

    Monetary domestic inflation => currently nobody is taking out loans, and due to coming job losses much more credit is likely to default, so it looks more like deflation currently

    The only thing that might happen is a loss of trust leading to increased velocity of money (so far most money is going to debt repayments so no chance for spending and velocity picking up) or to international dollars returning home.

    Could be, but it will take some more printing before that happens.

  10. Martijn says:

    Previous comment was about the general (deflationary) trend.
    Rising food prices are however reason of great concern! Looks like we're in for quite a squeeze..

  11. avd says:

    Sorry, I don't understand why you add that amount to currency. I would add it to M1. As far as I understand those money won't be physically printed, but just put on bank accounts.

  12. Martijn says:

    BTW one condition for the dollar "going down the drain" is for other currencies to inflate less then the USD. At this time GBP and CHF are also being inflated for instance. And many monetary regions will not be too happy seeing their currency appriciate too much against the USD, so in that sense H. Ben has some extra leeway knowing that his example sets some pressure for others to follow.

  13. Martijn says:

    Even more so, the IMF is also talking about printing money, isn't it?

  14. Boris says:

    Good news. ECB won't follow BoE, BoJ, SNB and Fed in their madness called QE.

    Weber’s comments suggest he favors expanding the ECB’s existing policy of lending banks as much cash as they want rather than following the U.S. Federal Reserve and the Bank of England and buying government or corporate debt to revive the economy.

    “The ECB is a totally different animal to the Fed and the other central banks,” said Laurent Bilke

    The bank, ... is hemmed in by European Union rules that forbid it from buying bonds directly from governments.


    ECB President Jean-Claude Trichet said in an interview with Europe 1 radio on March 18 that although his central bank is studying whether to take more unconventional monetary policies, “they won’t necessarily be the same as our counterparts.”


  15. Martijn says:

    And as far as I can make up from the other links posted the ECB has at least agreed to expand a bit, but has not decided by what measures.

    That doesn't necessarily present a sunny outlook at all.

  16. avd says:

    A 2005 article of late Andre Gunder Frank:


  17. Anonymous says:

    The only reason the dollar has any value is because of its reserve currency status. All the countries in the world will accept it for goods they produce if it could only be used to buy things produced in the country it represents like all other currencies it wouldn't be worth much because we don't produce much. Economics is not complicated it is very simple.

  18. Anonymous says:

    @Anonymous: economics can however get a bit more difficult than that...

  19. Photoguy says:


    Excellent, lucid, thought-provoking post. I agree on the "ego" post regarding Denninger; if he's going all cash, he'll be in the food lines of 2012.

    There is no doubt, NO DOUBT, in my mind that within the next three years, Au & possibly Ag will be confiscated. Other than canned goods, hard liquor, and other obvious storable items of value, what else could be transition our wealth into that could be easily stored and that would preserve our wealth during a period of hyperinflation? Other than Au & Ag? Diamonds are too hard to accurately grade, so I wouldn't want them. Land & CRE is taxed each year, so I don't want that. What?

    There has to be something, other than Au & Ag. Perhaps I'm overthinking this, but I see what's coming and I'm doing my best to prepare.

  20. Anonymous says:

    The details can be complicated. I have read Von Mises,Rothbard,etc. If the dollar lost its reserve currency status it would lose much of its value even if the fed did not print a single dollar more.

  21. Boris says:

    Hi Eric.

    Please read this.

    Puncturing Deflation Myths, Part 1
    Inflation During The Great Depression

    Puncturing Deflation Myths, Part 2
    False Lessons From Japan


    This end up story about deflation. There will be monetary inflation with asset deflation in USA.

    Just like Island today.

    I lived in hyperinflation in 1992-94. It completely destroyed economy (I still have that money, the largest currency was 500 billion dinars) but there was asset deflation in the same time as Deutsche Mark was unofficial currency. I remember very well how people cheaply bought real estates.

  22. OperationNorthwoods says:


    If things get bad enough that the authorities try to confiscate physical gold and silver, you'd better hide your booze and garden, too. In any case, retirement funds are the most obvious target, simply because Americans don't own any gold to speak of.

  23. Anonymous says:

    "There has to be something, other than Au & Ag."

    Pb & a bunch of it.

  24. Martijn says:

    To all, things might indeed get messy in the future. There are some scenario's for that and by the latest fed move there likeliness of playing out has increased a bit.
    However, there still is a chance that things will go much smoother and that we will actually overcome this "crisis". I'm not saying that's guaranteed, far from it in fact, but it is possible.
    As for silver and gold: for now they do seem like the best safe havens in my opinion and should things really go bad they will appriceate quite a lot before it is time to buy booze or other replacement.
    Keep your cool a bit guys. That's the best way to prepare!

  25. Anonymous says:

    Hey Photoguy...I remember you from tickerforum, before you got the boot! LOL. Your predictions back then were considered tinfoil, and you were banned. Nice to hear from you. BTW-Denninger is running a fascist state over there at TF...its often closed down to the general public, unless you want to pay $150. Now that's tinfoil funny!

    PHOTOGUY- do you have a blogsite??

  26. Martijn says:

    Btw, for those arguing that the ECB is not allowed to buy up treasuries and monetize debt: think again.
    Although article 21 prohibits doing so, article 20 allows the ECB to use all measures it deams necessary as long as there is a majority of 2/3.

    With the dollar plunging against the euro we might soon see that majority in order to keep exports at an agreable level.

  27. Photoguy says:

    Au will go to two-K within three fortnights...unavoidable.

    I'm the walrus.

  28. Boris says:

    Schiff explained it well on the end. And the question is how Fed will shrink money supply when they sit on large amount of toxic securities? Who will buy this s***?


    For those who still believe in monetary deflation just look what is going on in UK? Bank of England uses QE and there is already higher inflation.

    But UK deflation simply doesn't exist. In December, annual CPI inflation fell to 3.1 per cent – way above the Bank's 2 per cent target. That number was used as "evidence" we're on "the brink of deflation". Anyone examining this data could see the lower inflation rate was driven by the one-off 2.5 point VAT cut. Adjusted for tax, the CPI actually rose – from 3.9 to 4.1 per cent. That's not surprising given that our ailing currency saw import prices rise a painful 14 per cent. CPI inflation fell to 3 per cent in January. Again, the detailed data is instructive. Food price inflation hit 10.3 per cent. Even "core inflation" – excluding food and fuel – rose, despite the screams of "deflation" from Whitehall and beyond.


    And the comparable UK graph doesn't look much different.

    But don't worry! Inflation isn't a problem. Despite massive monetary expansion, a 30pc drop in sterling that's pushing import prices up, deflation is the danger we face. New data shows food prices up 7pc in February and CPI inflation remains at 3pc – way above the Bank of England's target. Yet we're still "on the brink" of an era of prolonged Japanese-style price falls that threaten to lock our economy into terminal decline.

    Does anyone really believe that?


    For QE, and the price surge it will cause, will allow the UK, like some kind of post-Imperial banana republic, to inflate away its debts.


  29. Anonymous says:

    Karl Denninger is a fraud, period. He should stick to repairing computers as those are his credentials. Beware.

  30. John Galt says:

    Nicely done Eric. I'm amazed that a lot of folks are not considering the implications of the Fed's monetary expansion and not accepting the consequences of their actions. Once again, well done.

  31. Anonymous says:

    The facts are pretty compelling that the U.S. will have to default on its debt. When that time comes, how will the rest of the world react?

    Will other countries threaten violent force? Will they try to acquire U.S. claims to oil reserves in the middle east and Latin America, and to other "indirect" U.S. claims to commodities--originating from U.S. based companies?

    If you look deeply at the facts, the wars of the past 100 years up to the present day have been fought in order to control more of the world's oil.

    With peak oil probably already reached, the country that can adapt to life without oil first will be in the best position. The country in the best position to move beyond oil is probably the U.S; due to California VC firms already invested in and helping engineers develop 21st century energy, and the U.S' impressive ability (historically at least) to support innovation and discovery, and ultimately adapt--big thanks to the U.S. constitution (which has been trampled, but still always acknowledged).

    China, for all its prudent economic policy and production, is still behind the west from a governmental standpoint, and they are now clamoring for oil and other metals while the U.S. has already been using up the world's oil for years and is now taking steps to move beyond oil (elements like Palladium, Silver, Zinc, Silicon etc. will always be in demand). In addition, China simply has too many people for its population to be sustained with the world's supply of natural resources.

    China's quest to acquire oil and other natural resources will buy it time, but smaller populations such as those in the U.S., UK, and Europe will be better positioned to sustain their people when oil wells, aquifers, and natural gas pipelines start running dry.

    China, as it has been too many times in its history, is still one step behind the West. They are chasing walkman's while the west is chasing iPod's.

    That is not to say oil won't be in high demand, but from a macro perspective the analogy applies.

    How could this change?

    With the majority of the world's currencies becoming comically worthless, you have to ask yourself where you would want to live, all currencies being held equal?

    I would pick the U.S. or Europe--better laws, a lot of good climates, and as for the people, that is up to you to decide.

    As long as the U.S. is one of the most desirable places to live, it will remain a great force in the world. If China can make its country a desirable destination (right now it's basically communist, it's language is very hard to learn, there's not enough food and water), then it could truly replace the West as the new world superpower.

    Right now, India is doing its best to be democratic, and it will be a quiet ally of the U.S. in future years, and perhaps rival China's "superpower" status.

    China will benefit economically from this crisis, and if they use that advantage to make China a better country to live in by helping its citizens enjoy better lives, they will become the world super power.

    The U.S. will feel a lot of pain and a lot of people in the U.S. and around the world may die, but if the ideals of life, liberty, and the pursuit of happiness hold up, as well as the U.S' ability to intimidate other country's, then the U.S. will be in good shape when this is all done.

  32. Saurabh says:

    Hi Eric,

    I am from a geography u may never have received a post from earlier, I am from India. I am a recent college graduate and just bought some gold with my father before reading your analysis, and now I have ten reasons to fell good about it. :)

    Thanks a lot for writing such a nice article in simple terms so that even a engineering student like me could grasp almost all of it (with looking for specific terms in wiki offcourse)

    I had just added your webpage in my schedule of daily reading.

    It would be great if you good guide me to some articles where I could understand the real motives of Fed reserve
    I know I would sound naive but just read through once.

    I have understand is that Fed is governed by very rich people of world "money trust" and have around 8000 tonnes of gold reserves so they would always love prices of gold go high, rest all they do is to get the real power that they are exercising "Power of printing money".
    Let me know your views on it.

  33. John Galt says:

    Anon, no central bank, using a fiat currency and as a bank controlling a debtor nation, has in 3000 years of human history ever defaulted.

    The US will NOT default on its debt.


    It will monetize it. The challenge will be to contract government obligations without creating a political firestorm and the lazy slugs we have now will not do it until we see a USD Index around 30 to 40.

    Way too late to save us by then.

  34. M says:

    Re: Denninger: everyone take 1-2 years of $US out of circulation. Hmmm...That will help swallow up some of those returning bills! May even help the Treasury.

    Brilliant Analysis Eric!

  35. Hyperinflation and the crash of the Keynesian model could be in the offing soon if the Chinese drastically draw down.



  36. Boris said...
    Hi Eric.

    What you think about this?

    Very interesting analysis and very opposite to yours.

    I had a look at Karl Denninger article, and, while it is interesting, he is unfortunately wrong. Here is the he says about the hyperinflationist scenario:

    The error in the hyperinflationist scenario is that without being able to couple price increases back into wages they are unsustainable - price increases instead collapse demand. If gasoline goes to $20/gallon you will buy less of it - a lot less - not because you want to, but because you simply don't have the money. This in turn destroys the gasoline retailer and oil company's operating cash flow, which in turn causes them to lay off more people. In a debt-laden economy the debt percentage (of GDP) continues to rise even as spending drops and a mad dash to try to redeem what debt can be repaid soaks up all available money.

    My response:

    The error in Karl Denninger's logic is that hyperinflation will happen despite falling consumer purchasing power because the flow of goods into the US will dry up. Here is the hyperinflationist scenario I see occurring:

    You walk into a retailer and two thirds of the shelves are empty. You walk over to shelves, and you see prices have doubled.

    Why are the shelves empty?

    Because China broke its dollar peg and the dollar is plummeting against foreign currencies. Retailers could only afford to restock one third of their normal inventory.

    Why are costs twice as high?

    A) Cost of importing inventory has more than doubled. "Cheap Chinese consumer goods" aren't "cheap" anymore.
    B) With two thirds of supply wiped out, retailers can raise despite growing unemployment and falling wages.

  37. stibot says:

    Eric, unfortunately I can't catch the keypoint.

    I'm not economist but as I underestood: if FED issues trillions of USD on its sheets, why you compare them to monetary base?

    Those new money will not by pressed on paper and given to Joe. So I expect comparing them to M1 or rather M2 (which is fare away from ratio of 1:15).

    Could you have a note on that?

  38. Jeff Burton says:

    Those new money will not by pressed on paper and given to Joe

    Oh yes it will. Remember, when the fed monetizes the debt, the government gets the dollars, which are IMMEDIATELY spent. They aren't going into some kind of Scrooge-McDuck style money bin in Washington. They are going right out the door.

  39. Anonymous says:

    The Fed does not have to print money to increase the monetary base, because the monetary base is currency + acounts at the Fed.

  40. Anonymous says:

    One thing I noticed regarding TF and Karl Denninger is that he uses different usernames to post his garbage. He does this to validate his threads by using different usernames to agree to his nonesense and repudiate any other user that says otherwise. Truth is its just him disguised by different usernames, its clear as day.

  41. Anonymous says:

    Sockpuppetry is the sign of a desperate mind. I sometimes post as Anonymous in forums, but never to fake support for one of my own "named" arguments. Jeff Burton is correct imo, because the Fed has repeatedly expressed dismay that the bank recapitalizations haven't translated to velocity. FOFOA mentioned the possibility of Gov debit card issuance to promote targeted spending (prevent debt repayment & hoarding). Interesting thought. Photoguy: There is no doubt, NO DOUBT, in my mind that within the next three years, Au & possibly Ag will be confiscated
    I'll take that bet. Au AND Ag? I don't believe even Au will be confiscated. All paper Au will be liquidated w/o delivery (obviously), but to confiscate Au when it is not tied to money as in 1933 is the Gov declaring war on its citizens. SHTF breakdown, because enough do hold a little physical to revolt.

  42. Anonymous says:

    But - the only Au I hold that is US issue is circa 1901, just in case. ;-)

  43. Anonymous says:

    The dollar will soon be replaced by a new international currency. The dollar will be devalued at least 50%--gold will go to over $2000. April 2 meeting of western financial leaders will first reveal the new currency and plan. This is simply the only recovery plan possible under current world debt levels.

  44. Anonymous says:


    Your description of higher consumer prices as "inflation" doesn't seem applicable to me.

    A currency fall relative to another isn't the definition of inflation. True, in our case it might be a moot point because we rely on the low cost of Chinese goods and would face much higher costs. But still, if one misuses terms then conversation and debate becomes difficult.

    Having listened to and given thought to both the deflation/inflation proponents, I have to say the deflation argument makes more sense to me.

    The fall in asset values along with raising unemployment would seem to counteract inflationary forces for the time being.

    Now higher prices due to food & commodity shortages is something I do believe imminent. The root
    of that is over population, however that is a subject that unfortunately the world even now doesn't seem ready to address.

  45. Anonymous says:

    15 fold means 1 $ divided by 15
    meaning your US $ will be worth less than 5 cents come September
    but by April 2 a new currency will under pin world transactions.
    They are creating the need for a new currency in America .
    by all indications it is a contrived
    plan ,A Coup D'etat

  46. m says:

    Plant a garden (Rosa DeLauro notwithstanding). Don't use hybrids so you can store seed. Buy a large freezer. Learn to can the food you grow. Someone else said it first... We ARE in for quite a squeeze and fortune favors the prepared. Buy seeds NOW. Plant fruit and nut trees. Get out of the cities. Do not depend on anyone else for your food, safety or wellbeing.

    All of this came about because politicians took special interest money and sold out the American public.

    Please remember we are Americans and should be helping Americans. But also remember, if you have a years worth of food for 4 people, when you bring your sister's family of 4 that year of food is now 6 months of food.

  47. Anonymous says:

    i agree with Eric's argument, although it may not be within the historical context of inflation.

    I really see it as a faux type of inflation. One that is created simply out of greed, and those factors mentioned by Eric. It is those necessity that will double or triple over the next few years including oil, natgas, food, commodities and water.

    Per anonymous comment - Yes, I believe Denninger does have several aliases at TF. I have never taken one of his "hints" on the market, and I'm glad I didn't. There is really something strange about the entire site.

  48. acudoc says:

    Please review this one possible solution, via Constitutional Amendment, which has the advantage that the financial class is bought out and mollified, while empowering productive industries and individuals.

    American Freedom Note Amendment

    The fractional-reserve banking system, established by the Federal Reserve Act of 1913 to oversee a debt-based currency, is obsolete and detrimental to the needs of the American people in the 21st Century. The very act of creating money by debt-assumption on the part of the citizenry gives unwarranted power to a financial elite and erodes the very foundations of the American Republic. The constantly increasing debt with its associated interest acts as a millstone around the neck of industry and stifles economic creativity, while rewarding the well-connected elite generously.

    By amendment to the US Constitution, establish a new currency, the American Freedom Note.

    All debt instruments (loan contracts, bonds, govt debt, etc.) originating in Federal Reserve banks, all existing Federal Reserve Notes and checking account balances, are exchanged for American Freedom Notes. Creditors forgo liens and are cashed out 100%. Debtors are exonerated, and assume 100% ownership of any encumbered assets, including---and most importantly--- the productive assets of the country (factories, farms, productive enterprises in general).

    A fixed quantity of AFNs results from this system-wide exchange, and this currency is associated with the value of all previously encumbered assets. This new money supply can be loaned at interest rates determined freely in the marketplace, with the strict proviso that no fractional-reserve lending is allowed from that point forward under penalty of fraud.

    Over time a natural deflation occurs and the American Freedom Notes, fixed in quantity by this Amendment, acquire increasing purchasing power.

    Debt forgiveness, greed forgiveness. The financial elite are bought out, the rest of us indentured servants are freed, and most importantly, no blood in the streets and the American experiment in liberty with its enshrinement of the rights of the individual continues with renewed character!

  49. Anonymous says:


    Wouldn't that be oh so nice.. great thinking.

  50. The FED still ownes gold which is valued way below todays market price on its balance. Selling that could bring back quite some dollars (I'm not saying that would be a wise thing, but still).

    US govt holdings of Gold only amount to 2.75% of the outstanding public debt--which has now advanced to 11 Trillion.

    If gold were to go up 40x, the books would balance!


  51. Anonymous says:

    There are only three ways out of this mess.

    1. Revalue gold from the $43 per ounce on the government balance sheet to $10,000.

    2. Create a new world currency.

    3. Declare a Jubilee.

    The odds favor option #2.

  52. Anonymous says:

    Democracy should severly punish those who brought the nation down. The FED should be dissolved and become an agency of the Goverment.JFK RIP and others spoke the truth and paid. Democracy must not create 9/11s to wipe off the Pentagons accounts department. Despite so much spent in National Security, the real enemy has finally brought down the State without a single fight or bullet, by exposing the nation to toxic creative accounting and fake dollar floods...What an end...

  53. Anonymous says:

    I don't buy the whole 'the money's going under the mattress' crap. Money is not created to sit there. It will be 'invested' by banks and levered up. They're addicted to this game, still playing derivatives bets and all the BS that got us in this mess.

  54. Anonymous says:

    It would be a double-standard if at least one of your statements was correct. When a particular field is dominated by certain people, it is because those people are good at it.

    Your messages about the nationality/religion of people that hold high ranking positions in a field that is collapsing in a greedy economy (along with almost any other field) leave the impression that you yourself are not good enough to reach a high position in a competitive setting in any field, and that you yourself are bitter because you are not "smart and hardworking".

  55. christian says:

    seriously misleading

    even though i enjoyed the article after paragraph 2

    the 15 fold increase is not from currency in circulation (which stands at 839.9 billion still) it is a result of excess reserves going thru the roof.....gee what a co-incidence that excess reserves go up the same time that the fed decides to pay intrest on excess reserves held at the fed...this excess reserves can be moved by banks from other operation's that they might do with the money like lending overnite to institution that need to meet reserve requirments or To meet capital requirements from the tsunami of possible future writedowns on Residential real estate and commercial.

    Thus the money was transfered to more quality investments as well as lent by the fed in cash for trash swaps that keep rolling over...it is to be held for writedowns not hyperinflation...even though this is Eric's stick....and yes i agree with the criticism of derringer...

    here is a nice post where i got some of my info


  56. acudoc says:

    Playing a violin is not fraudulent.

  57. Anonymous says:

    The main players need a common fear to perpetuate the bullshit snowball. The Billdeberg, tri lateral commishion, and Council on Foreign Relations will do a worldly evil. They have to instill fear upon the majority through the media, manufactured to keep the Lie alive and everyone buying in.

  58. Francis says:

    Inflation is a monetary event.
    Nothing to do with supply and demand.
    There's more USD around, there will be more inflation.

  59. Anonymous says:

    Excellent analysis Eric. As for Karl Denninger, the man is a ranting fool. Before the Fed announced its plan, Denninger said the dollar would fall 80% if we started monetizing debt (this was just a few days ago). Now he has changed his mind and thinks it will be deflationary. His S&P; 500 targets change week to week as well - I have seen him it move between 200 to 1000 over the past couple months. His blog is pure hyperbole, based on whatever he is pissed off at at the moment.

  60. Sean says:

    you have to take into consideration also the massive amount of leveraging that took place over the last 10 years which essentially increased the money supply without increasing the FED's measured money supply. This is what caused the massive inflation of the last 10 years. Now that the banks won't be able to leverage 30 to 1 this might offset the increase in the FED's balance sheet. The dollar will still devalue relative to other currencies, causing prices to rise because commodities are dollar denominated and if the dollar declines relative to other currencies this will cause inflation locally.


  61. Anonymous says:

    Wow. Honestly...I see Z.O.G.'s point and I think it's relevant. I think this is more about the clan mentality than success.

  62. Flow5 says:

    The "monetary base" is not a base for the expansion of the money supply. Legal reserves are that base. And in the U.S. legal reserves aren't binding.

  63. Anonymous says:

    I can't find the $3,818 billion 2009 projection anywhere online. Where did that number come from? The rest of the article hinges on that one number.

  64. Anonymous said...
    I can't find the $3,818 billion 2009 projection anywhere online. Where did that number come from? The rest of the article hinges on that one number.

    The fed is planning moves that would more than double its balance-sheet assets by September to $4.5 trillion from $1.9 trillion

    4,500 billion = 4.5 trillion

    3,818 billion = 4,500 billion – 583 billion (dollars circulating abroad) – 99 billion (other fed liabilities not part of the money supply)

  65. christian said...
    seriously misleading

    even though i enjoyed the article after paragraph 2

    the 15 fold increase is not from currency in circulation (which stands at 839.9 billion still) it is a result of excess reserves going thru the roof

    Excess reserves can be withdrawn by banks at any time and so are essentially the same as "currency in circulation".

    As to the article being "seriously misleading", I disagree. If the monetary base is being expanded 15-fold, with little possibility of ever reversing this process, then it is simply a matter of time before the dollar lose 93% of its value.

    gee what a co-incidence that excess reserves go up the same time that the fed decides to pay intrest on excess reserves held at the fed

    I didn't address the issue of the velocity of money or fed paying intrest on excess reserves because this article was already overloaded with enough info.

    Paying intrest on excess reserves creates a ticking time bomb. Right now the fed is only paying .25% interest. However once interest rates starts to rise, it will start getting very costly for the fed to keep making these interest payments. In fact, since it is planning to buy treasuries at 3%, once interest rates rise to around 4 to 5 percent, the fed will no longer be able to keep paying interests on reserves without printing money. Finally, the instant the fed backs away from paying interest, the money will start flowing out and excess reserves will become "currency in circulation".


    Francis said...
    Inflation is a monetary event.
    Nothing to do with supply and demand.
    There's more USD around, there will be more inflation.

    To economists, Inflation is a monetary event, and it is just like you described.

    To the average joe, Inflation means rising prices, and supply/demand is a factor.

    The academic VS common definition of inflation is responcible for an enormous amount of misunderstanding...

  66. Anonymous says:

    Inflation is here! Healthcare up 30% in a year, oil and energy up 50%, housing up 50% over 4 years.

    Where has everyone been? In Bush-economic land?

    Inflation hasn't kept pace with wages except for the George Bush's constituents - the elite / entitled class.

    And with extra tax entitlements to the elite class, the democracy has lost more revenue. This caused the current financial crisis.

    If wages were up 100% over the past 4 years, every home payment would be made, credit worthiness would be up.

    If Banks were disallowed from causing those behind in 1 payment to support 20% interest rate hikes, there would be credit worthiness. This lopsided benefit to the elite class and their interests, did not result in trickle down benefits, its become a torrent of debt, not benefits.

    To turn the ship around, real inflation must be met with wage increases of real inflation + 4%, with careful price controls and tax policy to push prices for key commodities - food, housing, healthcare, energy in the right direction - stable and predictable.

    90% tax on short term gains for example.

    We live in a democracy, it's time the country behaved with respect for population. The elite class, a small group that has enjoyed specialized laws that only benefit them has broken our democracy and those need to be held to account.

    Wages rise, price controls, appropriate tax and the faith restored to Americans that working hard and producing will earn direct rewards, and not some scheme of 'trickle down' thievery. Even if that means working directly for the government, since big business cannot be trusted any longer.

  67. acudoc says:

    The number is unimportant in the sense that the very method of money creation is flawed and the experts run around re-arranging deck chairs on the Titanic instead of addressing this flawed identity. Fractional-reserve banking systems managing a debt-based money system eventually run out of steam----nobody can go further into debt,neither individuals nor enterprises, and the ongoing payments on existing loans continue to extinguish existing money, and the whole of society gets punished as credit goes tight, all so that the top 10% can collect interest on the loans which were made originally without both partners to the contract offering consideration.It's is screwed up royally.

  68. Chris says:

    Eric deCarbonnel, I see where the $3,818 number came from in the article. But where is the research that shows that the Fed is increasing the money supply 15 fold?
    I followed the only link that pointed to the Federal reserve website and did a Find on the page for 2009 and found nothing. I'm not arguing that they aren't going to increase the money supply, only that I want to see the 2009 US projection and this article doesn't show that source.

  69. PA says:

    Eric, can you please comment on the concept of asset deflation occuring at the same time as monetray inflation? I am thinking real estate could still drop much further because of rising interest rates while gold climbs. Possible? Also, what would happen to share prices in that environment? Thanks in advance for your reply.

  70. acudoc says:

    In a fractional-reserve banking system managing a debt-based currency created solely by the citizenry going further into debt, despite their awful balance sheets, ANYTHING can happen, but one thing is certain to happen---the top ten percenters of those who manage the money (not the producers whose wealth contributes to our well-being) will continue to collect 80-90% of the interest. If the people are happy with that scenario, then the money "experts" can continue their ad hoc patches of an inherently-flawed system and the financial papers of record can continue encouraging re-arranging deck chairs on the Titanic.

  71. Mark says:

    Is the following idea possible?

    Assume the FED is not run by TOTAL idiots. What would they be up to?

    For me, buying up long-term treasuries looks like replacing the current crisis with a future or prolonged one: buying up the treasuries could drive asset prices up and let the FED sell its sub-prime stuff for a good price (not in real terms, of course). So they would effectively gain some time.

    BTW: what happens if treasury buyers drop their treasuries? Where will these US Dollars end up if they don't buy US assets? In the chinese foreign reserves?

  72. acudoc says:

    The use of the word "buying" in describing the activities of the FED is ascribing too much integrity to an inherently fraudulent fractional-reserve banking system. When I buy something I have already offered my productivity in order to get purchasing power. When the FED buys something it writes a check that is not backed by previous productivity, it creates purchasing power ex nihilo----and this is exactly the empowerment that eventually undermines a nation and misallocates resources. It politicizes our money and makes us vie for access to the medium of exchange, turning Americans against Americans as the puppetmasters sit back and laugh.

  73. Anonymous says:

    hi eric.. interesting commentary and in response i think i will go long on June gold spread trade for a bit of gambling fun ;-) (i hear this form of trading which we have here in south africa, is not allowed in the US?).
    nevertheless, i think U$ devaluation is moot as various countries will play arbitrage buying up loans in dollars, earning higher int rates and closing out when the dollar drops.. but as traders know, when there is "certainty" of something happening (USD drop) an efficient market will quickly iron out any apparent creases? - in my limited insight, but i see there are some smart types here that could perhaps correct my view?

  74. Topher says:

    I was at a coin show in Baltimore this past weekend and the Engraving branch of the Treasury was there. THey said there was no order from the Fed to increase the supply of printed currency. It is $6.9 billion (of which 43% is dollar bills) and will be for Sept. 09. Where is increase in orinted money coming from--bc those who make it know nothing of this increase.

  75. acudoc says:

    When the FED writes a check backed by nothing to buy a Treasury Bill, or any asset under the sun for that matter, the check is deposited in the payee's account at a commercial bank in the Federal Reserve system, and no money ever has to actually be printed. Most of the money supply is in the form these checkable deposit accounts, rather than Federal Reserve Notes (dollar bills) or coins.

  76. Dion says:

    Buy physical gold or silver. Dump your US$ in favour of precious metals. After all they are still denominated in US$ but for how much longer???

  77. TerraHertz says:

    Very interesting article. However there's a small problem with attempting to make predictions in the current situation. Considering:

    The validity of a fiat currency system depends on the Rule of Law, since paper money and digits in bank accounts have no intrinsic value. Survival of a fiat currency system depends on the faith of the people that the money has value. Which in turn derives from the maintenance of the deception of lawfullness in the creation of the money (ref FED - a private unconstitutional monopoly on money creation), and thus confidence that the money will not be destroyed though greed and illegality on the part of the creators of the money.

    The public deception of the origin of fiat money is breaking down. The true mechanism is being blatently exposed by the creation of Trillions to order, for the 'bailouts'.

    The Rule of Law is breaking down. This should be clear even to MSM-fed minds, while those following the more extremist net news sources (eg C Story, Casper, S, etc) will recognise that the breakdown is effectively total and rooted in complete amorality at the highest levels of government.

    The entire structure of social and economic governance, starting with the global financial elites, on down through national governments, regulators and most corporate boards, is run by people who's sole interest is their own enrichment. Regardless of the cost to others. Something about society over the last 100+ years seems to have bred out the capacity for noble dedication to the betterment of humankind - at least among our rulers.

    Looking at the history of the legislative changes in the last decade that allowed the explosion of unregulated, insanely complex, and inherently unstable financial instruments that are now blowing up, one forms an impression that the chain of events was planned, deliberately to produce the results we are now seeing. An economic collapse following the removal of credit? Where have we heard that before?
    "Economic crises have been produced by us for the goyim by no other means than the withdrawal of money from circulation." - Protocols of Guess Who.

    All the present economic 'virtual paper world' dramas are being played out in the context of an interacting system of real world physical crisis - the resources vs population crisis, the environmental degradation crisis, the energy crisis, the contagious disease crisis, the political/ideological corruption crisis, etc.
    It would be fair to say that the financial crisis is really a kind of distraction from the real problems - if you will allow calling impending mass starvation and death a 'distraction'. Another possible metaphor would be a controlled demolition - what positive benefits are there to 'bringing down the house' a few years early, and who gains those benefits?

    It is apparent that the world's elites are in a state of extreme panic and fear at whatever it is their pet think-tanks have forecast for the near future. Their individual behaviour recently could be characterised as a desperate struggle to maximise assets for personal survival (ie money, in stupendous amounts), and bugger everyone else. At the government levels of preparation, we see measures to impose martial law, disarm civilians, coopting of state militias, fabrication of 'necessary external enemies', pacify with mood altering drugs, construct huge FEMA detention camps, and so on.

    The global mainstream media is totally under the editorial control of factions of those same elites. The message being played to the masses is carefully tuned to distract, numb, and minimise public awareness that the ship is doomed, going down fast, and there aren't enough lifeboats. There also isn't any conceivable chance of educating the majority of people in the true reality, ever, let alone in time. Not least since the elites also destroyed the education systems, resulting in most people simply not possessing the critical mental facilities, attention span, and determination to seek out truth that are a basic requirement for such an understanding. Thus we can forget about any sensible mass public response to the situation.

    There will eventually be mass public responses, but they will likely be knee jerk, ill-informed, destructive mob actions. Involving lists of names of the obvious elites. Maybe that's what has the elites so spooked. If so, if you were in their position, what would you be planning to do about that, preemptively? Forgetting about 'morality', as one does when attempting to avoid ending up hanging by the neck from a lamp post.

    When large, massively complicated engineered systems break out of 'routine' operation, and enter into modes in which many never-before-experienced highly amplified paths of positive feedback come into effect, the system's behaviour is guaranteed to be highly non-linear, and non-compliant with the predictive models previously in use. This is another way of viewing the present blobal economic crisis. A truckload of new, powerful positive feedback mechanisms have been hacked onto an already unmanagably complicated system in the last decade. To tweak the system into 'stability' for as long as possible (or until it was intended to let it blow up), hidden control channels (aka market rigging) were also added. Now the whole thing has gone into chaotic breakdown, big surprise to everyone - except to some insiders who just happened to profit mightily from the 'unforseen' events.

    In summary, though it may be true that some age-old economic fundamentals still apply, I wouldn't bet on any economic predictions based on past models or even common sense. What we have now is a highly chaotic runaway self-destruct mode, combined with a breakdown of the Rule of Law, exacerbated by an underlying resource/energy crunch, PLUS the objectives of the elites being quite possibly very different from what we might assume.

  78. Anonymous says:

    "Something about society over the last 100+ years seems to have bred out the capacity for noble dedication to the betterment of humankind - at least among our rulers."

    It's called fractional-reserve banking of a debt-based currency. People have to grasp the inherent fraudulent nature of this style of banking and money creation The best book to gain such an understanding is the scholarly (and unfortunately dense) treatise "Money. Bank Credit and Economic Cycles" by Jesus Huerta de Soto.

    If you can wade through it it is well worth your while.

  79. The links in TerraHertz's comment above were distorting web page.


    TerraHertz said...
    Thanks for the de Soto reference, anon. Here are some more 'fractional reserve' resources:

    If you want the best and clearest analysis of the fraudulent and destructive system known as fractional reserve banking, read the book by the Austrian School's free market economist, Murray Rothbard: "The Mystery of Banking." It's posted free on-line.

    LETS Engineering Mathematics
    by John C. Turmel, B. Eng.

    http://www.augustreview.com/news_commentary/ global_banking/the_twilight_of_irredeemable_debt_2008050890/
    The Twilight of Irredeemable Debt
    By Professor Antal E. Fekete
    May 2, 2008

    Fractional Reserve Banking as Economic Parasitism: A Scientific, Mathematical & Historical Expose, Critique, and Manifesto
    Vladimir Z. Nuri
    Abstract: This paper looks at the history of money and its modern form from a scientific and mathematical point of view. The approach here is to emphasize simplicity. A straightforward model and algebraic formula for a large economy analogous to the ideal gas law of thermodynamics is proposed. It may be something like a new 'F=ma' rule of the emerging econophysics field. Some implications of the equation are outlined, derived, and proved. The phenomena of counterfeiting, inflation and deflation are analyzed for interrelations. Analogies of the economy to an ecosystem or energy system are advanced. The fundamental legitimacy of 'expansion of the money supply' in particular is re-examined and challenged. From the hypotheses a major (admittedly radical) conclusion is that the modern international 'fractional reserve banking system' is actually equivalent to 'legalized economic parasitism by private bankers.' This is the case because, contrary to conventional wisdom, the proceeds of inflation are not actually spendable by the state. Also possible are forms of 'economic warfare' based on the principles. Alternative systems are proposed to remediate this catastrophic flaw.
    plus just a few 'banking' links:
    http://www.globalresearch.ca/index.php?context= viewArticle&code;=BRO20080315&articleId;=8349
    Today We're All Irish: Debt Serfdom Comes to America
    This form of "debt slavery" or "debt peonage" was not just an accidental development of history. It was a deliberately-planned alternative to the slave arrangement in which owners were responsible for the feeding and care of a dependent population, and it is still with us today. Although European financiers were in favor of an American Civil War that would return the United States to its colonial status, they admitted privately that they were not necessarily interested in preserving slavery. They preferred "the European plan": capital could exploit labor by controlling the money supply, while letting the laborers feed themselves. In July 1862, this ploy was revealed in a notorious document called the Hazard Circular, which was circulated by British banking interests among their American banking counterparts. It said:
    "Slavery is likely to be abolished by the war power and chattel slavery destroyed. This, I and my European friends are glad of, for slavery is but the owning of labor and carries with it the care of the laborers, while the European plan, led by England, is that capital shall control labor by controlling wages. This can be done by controlling the money. The great debt that capitalists will see to it is made out of the war, must be used as a means to control the volume of money. To accomplish this, the bonds [government debt to the bankers] must be used as a banking basis. . . . It will not do to allow the greenback, as it is called, to circulate as money any length of time, as we cannot control that."
    Posted Mar 16, 2008 10:06 AM PST

  80. Robert Abrames says:

    anon said:

    The best book to gain such an understanding is... treatise "Money. Bank Credit and Economic Cycles" by Jesus Huerta de Soto.

    And an even better book to understand where the machinations that de Soto discusses originated, you should read a copy of "The Protocols of the Elders of Zion".

    Forgery? Who knows. One thing is for sure though, that was one hell of a prescient forger, when you compare what he said will be made to happen with what has actually happened over these 100 years since the book was written!

  81. Tim says:

    Tim Martin - Private Gold Mining Company - Investment Opportunity - Mining Sites in South America A+ Management Team - Investment Window Open. Dont miss this opportunity to own % of your own gold mining company! developflorida@gmail.com

  82. driftwood says:

    Well, it's november now and nothing has happened. Have anything to say about that?

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