Thursday, October 16, 2008

About the crisis.... (understanding the system)

Ok folks....

long time without updating this thing... so maybe this site has lost some of it's readers....
anyways, here i go with my random toughs.
Lately (actually last week) the world has been shaking because the financial crisis and the 770 billion dollars Bush pulled out to try to put a aid bandage over a huge deep bleeding cut. As you could see on the right corner... i'm not an economist or anything alike... i'm just an electrical engineer... but i have some words to say about this!I am foreseeing hyperinflation:

The world situation now is basically a damned death circle... and at this point it seems that nobody can brake it... unless something catastrophic happens.. (end of the world kind of thing)
The world trade currency is the dollar... who is facing a problem by design. The dollarized economy is build all over thin air instead of stone or good foundations.... and this is basically how and why.

  • The united states (and apparently every country in the world except china) has a trade deficit. to avoid getting into numbers.... let me put it simple... the country creates goods and sells them out (exports) and also buy foreign goods (imports)... the key word here is "deficit" which means USA consume more than what it's produce. Only the united states has a trade deficit of over 400 billion dollars. In lower scale it is like earning $1000 and spending $2000.
Obviously, taking out all the bullshit math and trends and shit this looks pretty damn simple so a 8 year old kid can tell you what is wrong. Spending more than what we earn (or produce in the case of macroeconomic analysis) lead to the next problem.... The scary part of this trade deficit is that it's has been growing and the trend is to keep going up as hell up to the point that now it is uncontrollable. Ofcourse, neo-liberalization ideals are making this worst. (more about trade deficit here)
  • National debt is growing. The national debt (USA) is growing an average of 3.37 billion per year since september 2007. Only under George Bush command, Gringoland government has borrowed 4.3 trillion (check here for further details)
Back to the I earn $1000 and spend $2000... this is basically getting the other $1000 from credit cards and equity loans... pushing the problem forward.
What they don't tell you is that every single dime the government owe is affecting the dollar buying power (dollar value).

Since USA import more goods than they export... (trade deficit) in 1971 Richard Nixon change the rules... The dollar became a currency instead of real money.... Too much gold was going out from the USA to Japan, Europe and who knows where else, because each dollar was backed up by gold. Before this act, every bank/government could trade their dollars for gold.

  • So, since 1971 the dollar is, by design and instrument of debt; and now the US government could print as much dollars as they want out of "thin air" leading to dollar depreciation.
So new money is created out of "thin air" to supply the demand.... the new money printed get it's value from the existing money (that is no longer backed up by gold) so the real value drops... ripping off the buying power of each single dollar. Between 1996 and 2006, only 10 years, the dollar value has lost half of it's value compared to gold. In 1996 each ounce of gold worth US $250... in 2006 gold was sell over $600 and ounce... . sad but true.... since 1971 whatever you have saved in the bank worth NOTHING!

Many experts will say that the dollar depreciation is caused by inflation... and it may be true.. (who i am to contradict the experts) but according to my understandings... the system is designed to be inflationary...

Ok... i just realized i'm forgetting another problem
  • Government budget deficit. ok... this one is simple... the US government (and almost every other one) is spending more money than what they take in. Acording to last news, the US budget deficit is over $450 billion.
So... the ingredients for the financial disaster are in the bowl mixing.... and the system has been cooking them slowly...

As the Government needs money to supply the demand (because deficits) they print out treasury bonds (that actually are instruments of debs) increasing the national debt.... decreasing the value of the dollar. So here... at this point we can see clearly why it is a loop.

Addenda:

Ofcourse all above is sad and true... but it is not all the story. There is another big problem that make everything worst.
  • Elder people living longer. Why this is a problem? Retirements plans were designed with a specific life expectation that is now higher since technology , fitness awareness and others increase the life of the world population in average.
Only int he united states, baby boomers are about to retire... and since you understood that the money currently circulating is bad money, the Gresham law get's into action. If you do not understand what wikipedia is saying... here goes my explanation:

Back in the roman empire times, when the emperor needed to produce more money, usually they get a bunch of the existing coins... take out some gold/silver (Depending) and trow out coins with less real value (because the lack of metal)... so the REAL coins got into hiding. (here you see the bad money and good money)

So... if elders live longer they are taking out resources of an already in bankruptcy social security and medicare plans... which means these people will need to get into deb to supply their lack of resources...

So more deb is created...

Ok here is where everything gets interesting....
US dollars are created within a fractional reserve banking system.

The central bank (or the federal reserve) print money... but because the money isn't back up by gold anymore... these money has no real value.
The real action is that these "new money" is backed up by treasury bonds... a pice of paper that the government sells to the fed reserve... an instrument of debt.

basically the government is giving a promise to pay for the new printed money... .and that's all about the central bank creating new money (nothing interesting here)

THE REAL DEAL is what economist call "checkbook" money.
Let's say one of these elders i'm talking about goes to a bank to get a loan... the "comercial bank" use the money the central bank printed and give it away as a loan... but since the system is fractional they only need to keep 10% (current regulation) of that money created as a reserve.

What usually happens is that the guy who borrowed the money deposit it in his bank account... and the process repeats... the new bank keep 10% of it as a reserve and the rest is available for loans... (see modern money mechanics booklet)

on wikipeadia table (see link above) $357 dollars are created out of "thin air" on top of the original $100 dollars printed by the central bank (or federal reserve)... and again these money has no real value cause it is not backed up by gold anymore...

Something else comes into the equation here... each loans have the burden of interest... and as you may see... each debt creates new money into the system... so "money is debt and debt is money"

since debt is money and money is debt, the system encourage everyone to get into debt... decreasing the buying power of each dollar... encouraging everyone to buy more than what they can produce.... closing the cycle.

Every bill in your wallet is owed to someone by someone... permanently loosing it's buying power.... leading the system to it's inevitable failure.