Welcome to Finance and Fury. This episode is exploring the idea that abolishing central banks in their current form would be better for you and I. Now I am fully aware that CBs like the Fed and RBA won’t be abolished anytime soon, modern financial system is too deep into this model – but doing so would be in the best interest of you and I

  1. There is currently a review of the RBA – dubbed as “The Review,” the aim is to review the RBA to make sure it is designed to, and I quote “ensure that Australia’s monetary policy arrangements and the operations of the Reserve Bank continue to support strong macroeconomic outcomes for Australia in a complex and continuously evolving landscape.”
  2. This is an oxymoron – as we will see, CBs have done little over the last 100 years to support macroeconomics of nations – as if they wanted to truly archive this outcome, they would simply go back to the original function of CBs as being the lender of last resort and revoke their inflation mandates and monetary policy measures, such as QE
    1. Because in real economic turns – central banks do little to improve the real economy and more to hard it –
  3. Before we get into it – there are pros of central banks – allows artificially inflated asset prices
    1. To unwind CB policy would create a housing collapse – as the artificial expansion of credit would need to be extracted
    2. Also, It would cause almost every government on earth to default on their debts – if you look around, every major economy’s Government is massively in debt – many over 100% of their GDP – who are they in debt to? If everyone is in debt, who do they owe the money back to? CBs – so governments would no longer be able to constantly have a budget deficit without consequences of losing credit ratings
      1. Australian government still has a AAA credit rating – the best of the best – but we have a 70% debt to GDP ratio – up from 18% in 2008 – net debt to GDP is 36% – but this style of economy with government deficits would not be possible
      2. Major austerity would be needed – i.e. cut backs in government spending, as it would now have consequences to deficit spend
    3. These outcomes would be very hard to adjust to – which is also why CBs capacity and influence over our daily lives won’t be minimised anytime soon – but this episode is to shine a spotlight on the harm that they do, as they inexplicably escape any blame for the problems they cause – instead the blame is always placed on some third party that has little to do with it – and to better inform of the problems that the economy really faces – rather than the blame solely being placed on some scapegoat

How they hurt the economy – i.e. remember the economy is you

  1. Inflation targets and the erosion of your purchasing powers – Central banks by nature have a policy of inflation targeting – to artificially devalue your purchasing power
    1. Looking back – Prior to the Fed and WW1 – looking at the second oldest CB – Britain between 1800 and the Great War, but with notable gaps in the U.S., gold backed paper money. During most of those years, if you didn’t trust the government or want its paper, you could simply swap it for a fixed quantity of gold
    2. That constraint obliged governments to have greater financial control – At the outbreak of WW1 – most nations, like Brittan abandoned the classical gold standard – because sound money and funding a very costly war are incompatible with one another.
    3. Since the 1970s – As the definition of money became corrupted and requirement to exchange gold for paper disappeared, central banks’ and governments’ prudence disintegrated – but trust and belief that CBs could solve any problem has increased
    4. Original intention of CS was to be the lenders of last resort – an idea that came about in the US after speculative defaults on banks occurred in the late 1800s from rail road malinvestment – if commercial banks are going to fail due to liquidity issued, i.e., they have they assets but they cant meet withdrawals without selling assets, a CB can lend money to banks and then banks can repay them – this can help to provide some financial stability to the economy, mainly though elevating fears of bank collapsed due to bank runs – but their inflation targets and fiat currency have a form of financial stability, through guaranteeing real losses to you and I every year
    5. Even Paul Volcker, who was the Fed’s chairman from 1979 to 1987 – stated in 1995 “If the overriding objective is price stability, we did a better job with the 19thcentury gold standard and passive central banks than with today’s fiat money and hyper-interventionist central banks”
    6. Why inflation matters – There are many definitions for inflation – government measures this by CPI – I like to think of it in terms of PP reduction, which is broader then the CPI, which doesn’t measure asset price increases – but say there is inflation of 3% during a given year and your falls 3%; and if inflation is 3% the following year, then the cumulative reduction of PP in two years has gone from being able to use $1 to buy something, to needing $1.063 – not $1.06 – the effects of inflation are compounding
    7. People are talking about inflation today – but what about the cumulative losses over the last 100 years
      1. In Australia – AUD has lost 97% of its value over the last 100 years – $1 in 1920 is worth around $30 today – most of this decline occurred within the first 10 years after the introduction of the Fed – The USD lost 50%, Pound lost 60% and AUD lost 70%
      2. Similar trend across the world – looking at the UDS which has longer dated data from the Bureau of Labor Statistics, dating back to 1800
        1. Mapping the date where the PP is at $1.00 in 1913 – the start of the Fed – the first 113 years were not without their ups and downs – this period was marked by bank failures, financial crises, recessions and wars
        2. PP rose and fall based around economic conditions – a war breaks out in 1812, PP plunged 30%, economic panic sets in 1837, PP fell 25%, Civil War between 1858-1865, it plummeted 44% – but during this time, the US and the world was on a forms of classical gold standard – after these declines in PP, there was a rise – from the start of 1800 to 1913 the PP actually trended upwards despite these declines and was sitting around 40% higher over this 100 year period – due to technology and cheaper goods – so every time it saw a decline due to an economic shock, it recovered within a few years and ended up stronger
        3. Now enter CBs – since their introduction, instantly the PP fell by 50%, and despite a brief period of PP increasing from 1920 to 1933, PP has been on an never ending race to the bottom
        4. Instead of being volatile in a sense where PP can fluctuate – we have been on a stable price policy of constantly losing PP
        5. Think of it in this way – you invest in the share market – which is volatile but whilst it has periods of losing value, over 100 years you end up in a better position – this is the monetary outcome prior to the creation of the Fed – but now say that you don’t wany any volatility in your shares, so you buy shares just to guarantee a loss to end up with 3% of your originally invested capital – is it worth the trade off?
  • Does this make any sense? in short, don’t combat consumer price inflation and promote price stability: they deliberately create inflation and thereby undermine price stability.
  1. Why do this? Because in a debt based economy – which we are, where every dollar that you have is a debt owed to a CB or commercial bank, inflation is the only way to avoid an instant debt spiral – if governments can borrow $100bn and then CBs can devalue this through an inflation target, in 10 years a government can raise another $100bn and to pay off the original debt – but in real terms after inflation this is only $74bn
    1. But this is an indirect tax – you lose money in direct taxes to the government due to taxation policy – here you lose additional wealth through inflation as a monetary policy
  2. Central banks are no longer in the business of preventing financial instability but are often the cause of it
    1. Why abolish central banks? They appear to foment volatility rather than promote stability – An analysis of financial crises – the number and severity of banking crises since the mid-1960s has increase
      1. the decades since Fiat was introduced have been the most volatile in international monetary history in terms of the number, scope, and severity
      2. The last major recession prior to the GFC was the Great Depression – which was exacerbated through the failure of government and CBs –
    2. Ben Bernake even admitted to this – Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton: Regarding the Great Depression. You’re right, we (the Federal Reserve) did it. We’re very sorry. But thanks to you, we won’t do it again
      1. but unlike Ben Bernake thought, they did not learn from their failures but far from promoting stability, they have become a major source of instability through further intervention that doesn’t meet the market demand – the exact same policy that worsened the great depression
    3. Central banks create a boom bust cycle through a giant guessing game – as well as increasing moral hazard
      1. Each Governments Treasury, through their CBs guarantee deposits on commercial banks, but recently in the US, the Fed also guaranteed uninsured deposits over the $250,000 limited and offered loans to banks so they can avoid losses on their fixed-income assets – these FI assets are required to be owned by banks due to government regulations in the first place, and would not have seen losses on their pricing if not for the sudden drop, then increase in interest rates
      2. This is what governments and CBs will never admit, their policies create problems which CBs need to clean up, further leading to more problems –such as creating easy money and then creating a financial panic when the easy money stopped
        1. The economy is a complex system – not a liner model – every input has major unintended consequences down the road
  • Since 2000 – Central banks have adopted a more or less permanent emergency policy – particularly in the US with the near miss of a financial collapse with Long term Capital management – think of it as the pre-GFC
    1. But now the answer to virtually every economic and financial challenge is to provide stimulus through expansion of money through credit – i.e. using debt to inflate asset prices or buy out worthless assets
    2. This style of rescue is bloating and destabilising the global financial system as it is not a real solution – like if you were constantly in debt and some emergency spending is needed for a medical bill, or your car breaks down, or some appliance breaks – if you get more and more in debt each time to fix the problem, your financial position becomes more and more fragile
    3. As fragility grows – each time the CBs implement emergency policies increases the chance they will have to do it again down the road
    4. Being the lender of last resort for commercial banks can help to avoid economic collapses – but providing QE, cheap money and manipulating asset prices is well beyond their original mandates
  1. These have been two points – there are many more, such as their impact on slowing real economic growth through the artificial incentives created by controlling the price of money – resulting in a misallocation of financial capital –
  1. But the most important point of this episode is the outcome of this – impacts different sectors differently
    1. Those who own property and have more wealth invested – the inflationary policy actually benefits – let me explain
      1. If you purchased property in the 90s, the inflation on asset prices allowed you to build major equity in property – real wages in relation to this asset price was higher
      2. If you have a job that your income was growing and owned other assets like shares, then your assets were outpacing inflation rates
    2. Who this really hurts are people who don’t own property and those with lower levels of incomes
      1. The people who find themselves mostly in this group are the younger generation – through the expansion of the money supply feeding never ending lending that ends up pushing up property prices, and if you are starting your career which is on the lower end of your income potential, this inflation policy has made this situation harder for you – and if it continues, worse for the next generation
    3. Guaranteed poverty for passivity –
  2. what is another option to the current system and how to combat these policies – cover in next weeks episode

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