A new struggle for Independence begins

I'm afraid America's fallen off track, perhaps irrevocably so. Humpty Dumpty fell off the wall kind of stuff. We're getting beat by the Chinese, who are working for less. Our leaders have abandoned domestic employment for offshoring and outsourcing. Worst of all, there appears to be no end in sight to the draining of the American economy.

Now for quite some time wages have been falling in real terms. "Real" is defined in economic terms as the true purchasing power of the dollars that we earn. If prices go up, and our wages go up a corresponding amount, then income gains are cancelled out.

Most Americans are woefully ignorant about the present value of money--the concept that our money loses value over time. Instead, prices are said to be going up while in fact it's the dollar that's going down. Nowhere has this been clearer than with the price of gold. Speculation drives prices up, yes, but it's ultimately the weakening purchasing power of the dollar that makes commodity prices rise.

If Americans really knew how the current banking system was set up to devalue their currency, they'd grab their pitchforks and storm the castle. Ignorance therefore plays a vital role in perpetuating the myth that the dollar is a store of value when it's really designed to lose value, 96% of it as a matter of fact since the inception of the Federal Reserve.

So if you had bought dollars in 1913, put them in your mattress and pulled them out, they'd be worth four cents in today's money (excepting of course the value of the physical currency to collectors.) Perhaps a better example would be the penny. So devalued has the penny become that Congress actually had to pass a law to prevent pennies from being melted down for scrap--the copper in them is worth more than one cent. Eventually our currency will be so devalued that a penny might only be worth a quarter of a cent, an eighth, and so on until its copper value becomes too expensive to justify its use in the coin. Perhaps you've seen the cheap foreign currencies made from aluminum.

So the penny is a proxy for our weakening currency. Yet most Americans ignore the constant devaluation of their currency. I say "their" because it is the people's money. Their representatives in Congress--at least they should be "theirs" according to the Constitution--have the exclusive right to control the issuance of money. Every year, Congress grants the Federal Reserve the right to distribute money. Not surprisingly, every year the Federal Reserve brings into existence more money, meaning the money out there is worth less.

Say the Federal Reserve expands the money supply by 100%. Instead of, let's say, $5 trillion in circulation, there's $10 trillion. Imagine if a corporation did that with their stock, doubling the amount issued every year. What would happen to the poor saps who bought last year's stock? Where would the price go? Well unless the company had a banner year, the stock price would likely fall, perhaps by half. Why? The ownership shares which the company issues in the form of its stock get diluted. More shares: existing shares worth less.

Now the same is true with your money. The government upon which people depend to preserve the value of their savings is actually working against them. It's diluting the value of existing dollars by printing or distributing more of them.

Now of course the Treasury and the banks that constitute the Federal Reserve have their little tricks...well, ok, maybe not so little...to conceal the massive increases in money supply. First, they abandoned tracking the amount of money in circulation a few years back. A valuable statistic called M3 was no longer made public. As a result of the change, following the real quantity of dollars out there became more challenging, subject to more subjective analysis, and therefore harder to pinpoint.

Why did the government abandon tracking? Well, you could say they have something to hide. Something called shadow banking. Shadow banking is a system of loans and securitization of debts that allows banks to create money in the present from debts payable in the future. By lending amongst themselves, banks can convert a stream of future payments--a mortgage payout, let's say--into what's called a "present value". The present value is of course dependent on how certain the debt is to be repaid. As we saw in the mortgage crisis, the level of debt repayment uncertainty rises, so too does the risk premium, or amount that lenders charge borrowers, goes up. Perhaps way up, to the point the funds from investors simply aren't available, except at usurious rates.

Now the problem with securitization of all those mortgages--securitization means the process of converting future payments into a present day value--is that assumptions have been built into the value of the debt, assumptions that may not be true, or subject to changing conditions.

As the uncertainty of mortgage borrowers ability to repay climbs, the appetite for risk among the banks declines. You end up with a situation a lot like you see today, where lenders are hesitant to lend, or at least stop lending cheaply.

Now the purpose of my explanation here is not to review the reasons for the mortgage crisis. Instead, I wanted to offer as full an explanation of why the US economy is about to experience a second meltdown.

History often repeats itself. If the causes for the meltdown in 2008 (and the decline in stocks through 2009) still exist today, then the probability of a reoccurrence remains. And the magnitude of the correction could be even larger if the causes of the past meltdown haven't been reduced or eliminated.

I could go over the conduct of companies which had a key role in the mortgage meltdown--either profiting from it, or exploiting it and/or the subsequent bailout, but that's not relevant really for a couple of reasons. All that really matters is the system that allowed the mortgage crisis to occur still remains.

If you've read anything that I've been saying over the past four years, you'll surely know that I'm predicting a major crisis at this point. And it won't be an economic cause. Whatever our nations struggle with international competition, the reality is that our financial system is completely demolished. The regulatory bodies failed the American people in 2008 haven't been repaired. The so-called financial reform, as far as I can tell, doesn't go far enough in preventing the kind of abuses that made the 2008 crisis possible.

Former bank regulator Bill Black has blamed the collapse on mortgage fraud. Fraud is an important word. It essentially means to employ deceit or trickery. The truth represents a threat to the fraudsters; they operate using a opaque screen to cover their misdeeds. And our government, which should be regulating the financial entities, has been compromised utterly by their political influence.

We've reached a point of no going back. The relationship between cronies within/into/out of government, and corporation and government have become too strong. The democratic will of people--as established in the vital preamble to the Constitution--has been violated. As a result, I can go on no longer in placing my faith in the operation of government, or its role in regulating the currency.

In my opinion, the lack of regulatory enforcement is a window into the murky cross-relationship between those with money and those in power. The only way to end such a relationship is to let the economy go where it must--where the pain of going as as we do exceeds the pain of change.

Of course the ramifications of no change will continue to grow, and manifest themselves in the state of our economy, and in other troubling ways. Catherine Austin Fitts has labelled the system built around making profit from misery a tapeworm economy. The Military Industrial Complex and the Banking Establishment have grown so powerful that they now control our nation's policies at the highest level, no matter their popularity or acceptance. And the two-party system avoids accountability, by exchanging twiddleedee with twiddleedum every so often, in periods long enough to capitalize on the American public seeming mystifying inability to remember.

Why do I write this? Not to depress you, the reader, but rather to warn you of the need to take action. Protect yourself from the constant devaluation of the currency. And unfortunately I must recommend you divest yourself of the American stock market until such time as the Republic--and its controls over the corporate sphere--have been reestablished.

I'm not expecting miracles overnight. It will take a great deal of courage and strength to contest the status quo. Absent resistance to the order, it's likely the economy will slide into ever worsening stagnancy, with constant devaluation of our savings and lethargy in the stock market or worse. The need for real lasting political change overshadows now whatever confidence remains in the system, a system so corrupt and rotten it can only be removed in entirety. Pull the root, and don't hack at its branches.

Employee ownership has a place in recovery

I wish our economic troubles could be lit off like fireworks, sent off to explode somewhere far away. We'll likely face much more economic hardship. Talk of a second bailout has emerged in Washington.

One topic that came up with friends and family during the Independence Day holiday was the term "socialism," one which has been redefined as the spending of government money. The real term socialism means that workers own the means of production.

With the bailouts, the original meaning has been turned around to mean bestowing federal aid on a single corporate entity. This interpretation of the term has been more accurately termed "corporate socialism," a sort of Robin Hood-in-reverse where corporate entities receive public money.

If GM were actually socialized, the company would be under the control of its workforce, not government. With real socialism, the people who run the factory own it.

Worker-owned companies make money not for the benefit of its shareholders but rather for its employees. Employees would seek to making a living from what they produce and sell, rather than by borrowing or outsourcing to maximize short-term profitability.

Under true socialism, upper management has no role in managing shareholder relations, or seeing the stock price driven up, as the company is private and has no stock trading in public markets. The price of the stock is secondary to the benefit the company provides its workers.

Employee ownership isn't to say the company doesn't try to improve its profitability. It can sell itself, for the benefit of its workers, but it's more likely that a worker-owned company, being better aligned with the interests of the local community and its citizens, would seek to stay in business, to offer a source of local employment for future generations.

Rather than attract capital through outside investors, the company seeks to set aside profits, rather than borrow massive sums in order to grow. Of course this model of saving is far more sound for long term growth than trying to borrow one's way to prosperity. But less lending is hardly beneficial to the politically powerful lenders, who want an economic system based on debt because they profit that way.

Under a traditional corporate scheme, employees are considered "stakeholders," a little used but apt description of people who matter to the entity but aren't the core focus: which is profitability. Some corporations have made their workforce integral to their business strategies. Henry Ford did make paying a reasonable wage central to his business model, so those who built his cars could afford them. Virtually all companies do consider employees important stakeholders, but few would place the needs of their worker as equivalent to those of their shareholders.

Maybe what's needed to resolve the crisis is greater levels of employee empowerment. Japanese companies, for instance, take a much more deliberate approach to decisions in a protracted process of consensus-building. Another nice bonus is the novelty of employee ownership; Americans needn't feel imprisoned by industrial age modes of thinking, exempting of course Ford and a few other visionaries.

Employee-owned companies are a radical departure from pure capitalism, but if a company can make profits that way, no one can deny the validity of letting certain companies, especially failing ones, redesign their business model. Change is after all what is required by economic turbulence and challenges; doing as one has done in the past is like following a doomed course.

Change, unfortunately, is not in the interest of the government, which must like the convenience offered by regular paychecks because of the taxes they provide. But increased employee ownership might not be so bad if the alternative is stagnant tax roles and falling employment, or subsidizing ongoing failures via bailouts to shareholders and management.

Given the bureaucracy predisposition towards change, the approach to collecting taxes does matter. Originally corporations weren't responsible for withholding. Yet the industrial/assembly line nature of manufacturing industries lent itself to the taxing of workers. They received uniform pay at regular intervals. The factory produced goods consistently, it therefore could pay its workers regularly, and direct taxes withheld to government.

Also 401(k)s provide a rich stream of fees and revenue for banks and other financial firms administering the accounts. We saw the depth of this industry's greed in a series of mutual fund fee scams that resulted in $3.5 billion in fines in 2003.

[Update: I just read that Goldman Sachs may have been conducting illicit front-running operations via server routers, a process referred to as quant scamming, the digital equivalent of sniffing out server routes for web traffic in order to get ahead of trades. See bottom of this post.]

Traditionally, Americans were responsible for their taxes. Without withholding, the tax burden was clearly too much to bear. Unless you had sufficient savings on hand, you were in for big trouble come tax time. Enter withholding and the IRS, at precisely the time when America's industrial greatness peaked in 1913 or so.

The notion of regular income is clearly an attractive target for government. If workers were paid in stock, perhaps on irregular intervals, or moved to a trade-and-barter system, their incomes wouldn't be as readily taxed. So the industrial model fit, with workers paying their share of the taxes, an amount that was percentage-wise roughly equal to what their boss paid.

Enter Reagan and the age of the investor class. The idea behind this popular conservatism was that economic benefits of lower taxes and regulation would trickle down to the lower-paid end of the workforce. For a while, that approach seemed to work, generating unprecedented levels of participation in the stock markets. {Not often heralded in the economic media is the truth that ownership of stock by the middle class presages larger economic vitality. After the 2000-1 recession, investments in the market by middle income folks fell substantially, and could have predicted the broader market malaise.}

The idea of lower taxes was great, and the Earned Income Tax Credit did relieve working families. But the government began to run larger deficits, not a problem at first but a gradually growing threat. And over time, the disparity in income grew between the investors (top 20%) and top 1%). The wealth of the rich peaked during the Bush years. Coupled with globalization, domestic manufacturing was gutted, in a form of competition and direct threat.

The rich do pay the majority of taxes but they also make the most income. To keep up their money-making ways, the investor class has long sought to get preferential tax treatment. Executive compensation has skyrocketed largely through the use of stock options and awards based on performance, in lieu of direct pay.

Stock-based Compensation

Ownership of company stock is significant on two levels. Whoever owns more stock controls more of the company. Through dividends and capital growth, those with the most proportional ownership get the most profit. Stockholders are owners, so company stock purchase programs encourage the same sense of pride as a worker-owned company, making workers and management essentially one.

On another level, huge quantities of stock given to corporate managers by their boards is seen as a giant giveaway. Upper managers own large quantities of stock through board-ratified stock ownership programs, adding to a broadening discrepancy in incomes between top and bottom of the corporate pay scale. Average wages have scarcely grown in the past decade whereas CEO pay has gone up many multiples, especially in the US.

Recently, the banks' thrust towards higher employee compensation made the news and created a large political liability for the investor class and their supporters in Washington. Largely through stock options, executive pay has climbed to the point Congress and the President feel compelled to intervene.

New legislation working its way through Congress may only limit some kinds of compensation. With so much influence available on the Hill, the Wall Street lobby is likely to forestall or water down any potential reforms.

Choosing between regular salary and purely incentive-based pay is an old business school debate. If managers get paid more salary they may be less committed to their companies--the inverse of stock ownership. Still, higher pay has to make workers more loyal; if anything they'll be more eager to keep getting paid and keep their pay structure viable.

I'd say most company officers are better paid in cash rather than stock. Cash will incur a great tax cost burden however, which is a chief motivator behind stock grants which tend to be treated favorably under the tax code, a big bonus for top-bracket executives. The maximum marginal rate on income might be 30-33% while capital gains are taxed at a rate that taps out at 15%--a difference of maybe 15%, or $150,000 on every million of stock grants awarded vs. salary.

CEO pay can be performance-based even without stock, a fact easily forgotten in the era of corporate irresponsibility and greed. A company's executive pay committee could choose to pay based on performance, but the standards might be based on varying criteria. Clearly a drop in stock price during a recession isn't evidence of bad management, for instance. Increased sales could be fudged perhaps, or inventories could drop because of a short-running marketing campaign, which means sales can look good on paper but disguise other deficiencies.

In a bull market, compensation paid in stock has been a way to double up on the benefit of increased performance. Rising stock prices may or may not The bull market of the 1990s encouraged executive pay in stock but the rising tide may have done more to boost returns than any executive talent or ability.

When the stock boom lost its luster yet during Bush years executive pay continued to rise. Despite the flat stock market performance for most companies--with the Dow barely rising--much compensation came in the form of stocks, typically provided at below-market cost on a deferred basis, with the company paying the difference. Much has also been made of possible collusion between executive compensation committees, where board members offer a quid pro quo between large companies that inflates the size of stock awards for upper management. In return, board members get offered more seats on new companies, where they offer liberal compensation agreements.

In time, the stock is likely diluted. Adding millions of shares each year has the effect of weakening the value of existing shares. The company must also pay more dividends, which sap cash flow. Dilution was recently in the news as large financial companies made stock offerings in order to repay TARP funds; CItigroup is planning a massive conversion (60 billion shares) of preferred stock, which might lower the interest/dividend payments it makes, but has cheapened the stock considerably.

If upper management is paid in stock they might be motivated to "pull an Enron," which could be the use of off-balance sheet techniques, and liability-hiding chicanery that allows the corporate stock price to stay higher than if more transparency were offered. Then, even as they talked up the company, Enron's manager sold their private holdings. Much of the stock came at below-market prices through heavily subsidized stock purchase agreements, so selling stock makes sense, plus of course the taxes on capital gains are lower. (For more on accounting changes by FASB see this link in HuffPo.)

Back in 2006 or so, Indianapolis Power and Light was purchased by a foreign consortium. Before workers could sell their shares, upper management cashed in. By the time workers were able to sell their shares, they'd become almost worthless. I'd written about the event on this blog; I'd not been surprised at the collapse, but rather the complete, abject denial of worker rights to sell their stock held in retirement plans-whereas I guess the typical executive stock compensation program holds the stock in less constrained, more easily sold accounts.

Different treatment of employee and executive stock ownership accounts comes from the onerous fiduciary responsibilities associated with managing retirement accounts under the ERISA law governing tax-deferred contributions and withdrawals. Tax implications and legal ramifications of a company offering its stock to employees are complex--still, a well founded rule of financial planning is NOT to invest more than 10% of your worth in your company's stock. Should the company fail, you'd therefore lose not only your job but your retirement savings as well.

Tax structure, not surprisingly, is geared to reward investors. Workers meanwhile get to pay social security on all their income. Now if workers could be paid in company stock, a worker-owned company could really work but unfortunately cash money is how bills are paid. Perhaps mini-shares in a worker-owned company could be used in lieu of cash by local, accepting business. Heck California has already gone to this mode by issuing IOUs, which is what our fiat money system is built on. Maybe as state finances deteriorate nationwide, more states and even localities will turn to the production of their own stores of value, what is more commonly known as money.

It's amusing that the Federal government can get so excited about Private Barter Currencies like the Liberty Dollar when the state of California can flash in its flash warrants and IOUS that can be traded in a secondary market and are in fact no different from money. On top of this dubious prosecutorial position, the federal government has so mismanaged its access to credit that it can set no example for the states and citizens to follow. Unsustainable money policies are exactly that--unsustainable. In time, we'll know just how long our government could continue to borrow, or even run a monopoly on the production, issuance, and trading of various kinds of money. Later, we might see many currencies trading throughout the country. This would be especially true if the federal government could no longer borrow from abroad, or monetized its debt to the point inflation were out of control and the dollar unable to act as a store of value. In fact, it's been anything but, losing over 96% of its value since the creation of the Federal Reserve and IRS in 1913.

The only thing you can be assured about is that the US Federal Reserve Note will not keep its value over the long term. Silver, on the contrary, would buy in 1900 what it bought in 2000, four gallons of petrol, give or take. Why? Its simple. The silver supply didn't grow. The amount of dollars used and spent, put into circulation, during those 100 years grew far faster. Money may have been more broadly distributed, but the purchasing power of the dollars fell, redefining what it was to be wealthy. Yes, Americans experienced a much higher standard of living during the century, but the next question is whether Americans will be able to continue their past economic growth, particularly with a financial model that has at its heart hyper-cosumption and the creation of ever more debt.

As the recent correction has shown, the only way to sustain "growth" in our economy is to increase the supply of money, so much so maybe that the entire pile of paper that we call our wealth and income gradually perhaps more rapidly descends in value. For this reason I continue to recommend silver as a hedge against inflation, or more accurately, the over-expansion of the supply of Federal Reserve notes, more commonly known as the dollar.

We could be in a deflationary period, which makes cash more valuable as prices go down, but my guess is at the over-expansion of the money supply through chronic deficit spending will make the purchasing power of our money decline. So even if we think we're getting paid more, or producing more, all that has happened is that the supply of dollars rose and that each dollar is worth less.

Also, the more borrowing our country needs to do, the more it will be forced to rely on the Federal Reserve to buy back our bonds, using dollars they've borrowed from our own Treasury Department via the Bureau of Printing and Engraving. Net cost to them: a penny a bill, no matter what the size. In turn, the Fed will sell off the bonds--if it can. Demand appears solid--for now.

The Fed is dependent on demand from investors, who will at a minimum require more interest for their extension of finances. Already the Chinese grumble, raising serious questions about how sovereign our debt truly is, and how much independence from our creditors we have in designing our foreign policy. I doubt we'd ever attack North Korea without Chinese consent, although the reason for that may be more with the idea of losing one of the best markets for our nation's debt, not to mention the possibility of millions of PRC troops pouring over the border.

I have in the past pointed out the issue of crowding out, a business school-type term that means simply that government bonds are more attractive than other forms of debt. This phenomena occurs largely as the consequence of too much government borrowing, as it competes with private sector debt for a shrinking pool of cash available.

As the rates paid on government increase, so too does the spread on corporate borrowing, meaning corporations must offer more to remain attractive. The prices of their bonds will drop, to compensate investors for the additional risk.

The government, as the issuers of money itself, retains the exclusive, unrestricted the ability to tax. These powers means it is viewed as less risky debt by investors, under the grounds it can simply print the money out of thin air. Yet as our system stands structured, the Federal Reserve has to find buyers. Eventually the only way to sell our bonds might be to use money lent to the Fed by the Treasury.

Recently I've been reading that crowding out has not been in evidence ("As Treasury Bond Yields Rise, Why Are Other Yields Falling", marketoracle.co.uk) and that demand for corporate debt remains strong.

Rates that short-term US Treasuries offer remain low, meaning they're considered good stores of value in the short term. Even longer term government bonds are yielding fairly low rates. This would seem to indicate all the borrowing isn't having an effect on corporate investment, or the appeal of corporate bonds, for at least as long as yields on safer government debt remain low

Still, it's the general state of the economy that's keeping rates low. Once the economy begins to rebound, as it one day must, borrowing will get more expensive quickly. Lenders will want more in interest, especially on corporate and longer term debt. When there's a lot of risk out there, lenders demand more interest from private sector issuers. Inflation--the possibility that money itself will buy less--appears to be the chief risk, although there are many including of course the cyclical economic environment.

Inflation isn't all bad. Borrowers use new, cheaper dollars to pay back their loans. In this sense consumers could benefit, if of course they have access to credit. On the equities side, corporate profits might rise rapidly, along with real estate prices, but for now we seem topped out or dropping in those categories. Financial companies tend to suffer, as they deal in money, an item that becomes cheaper just as real assets--commodities, land, energy--become more costly in real terms.

We've been told the health of Wall Street is vital to restoring the economy. The idea of restoring access to credit became a key sticking point used by Geithner and Obama to sell TARP and the massive federal intervention in the credit markets, which came more through Fed discount lending programs (cash-for-trash, etc.) than TARP. Federal Reserve lending topped out at some $12 trillion plus, a fact the mass media neglected to tell most Americans. Whatever loans fail will become the responsibility of the taxpayer.

Yet in time, doubts about AIG have been stirred. Would the whole economy have tanked if AIG had been allowed to fail? I've written extensively on the bailouts and have come to the conclusion that derivatives compromise a huge portion of malinvestment. As a matter of fact, the amount owed, created in a shadow banking system built on CDSs and Mortgage-Backed Securities far exceeded the value of all mortgages in America. So to label the collapse on a few bad apples or "subprime" just doesn't hold up; the problems were in fact systemic and could have cascading consequences (although they may have been felt more by the investor class than the general economy.) Rather than throw huge sums at the problem, we needed to look at the causes of the crisis, make the necessary regulatory reforms, which include re-instituting Glass Steagal and imposing margin requirements on Wall Street speculators.

The impact of the derivatives mess will take years to unravel. Banks have hardly reestablished themselves on solid ground. Arguably inflation and unsound fiscal policies will make recovery that much more tenuous. And if banks, whose primary business is (or should be?) lending to consumers and not each other, face higher defaults, they can hardly be more attractive as investments themselves, or make more money.

We'll see the trend on interest rates, and crowding out, reverse not long after we've hit bottom. Despite all the cheerleading by Larry Kudlow, the green shoots appear to be more about using the media to send a message than report on reality.

If the stock market does reflect the economic environment 6-9 months ahead, we'll be facing the effects of a nascent recovery in the capital markets long before the real economy has had a chance to recover. In other words, the opportunity may lie in finding the bottom.

Rather than try and pick a perfect bottom on bonds, I tend to side with Axel Merk when he says "the cost of borrowing should increase substantially as the supply of new debt may simply dwarf the demand - in that context, it is not particularly relevant whether the demand is domestic or international; plunging bond prices in recent weeks may be a pre-cursor of what is to come." [link]

Too much government borrowing will inevitably and invariably lead to problems with the financial system. A hand on the printing press is simply too tempting, especially when the political consequences of raising taxes and cutting spend are so severe. As Merk says though, should the real economy begin to recover, the additional interest on the bloated debt could rapidly erode the dollar, making commodity prices and inflation spiral up, forcing higher interest rates and stalling the recovery.

One last point. Unmentioned by the mass media is the direct impact Iraq and Afghanistan are heaving on our government's ability to finance itself. As these wars drag on and more debt accumulates, we grow nearer reaching Osama bin Laden's vision for an American empire ruined by economic means. The strategic progress of the anti-American side is reason enough to believe our money is in for a serious collapse.

And our strategic competitors have also come around to the reality we're overspending and driving our currency to worthlessness. Rather than wait for that to occur, BRIC members are right now turning to alternative currencies, maybe even creating one from IMF warrants, to serve as an international reserve currency. Once that happens, demand for dollar will collapse. All those dollars that other countries now must keep in the vaults will likely be dumped, creating a vast oversupply.

While we might keep exports up, this will be due not to some strategic brilliance on our part but rather the fact that other currencies will rise in proportion to the dollar. Foreigners might also choose to purchase American companies and resources as they get cheaper, which is actually a great way to offset some of our past borrowing. To get the American economy back, borrowing will have to slow but this doesn't appear to be happening, at least not with our government spending. The more likely course of action is to simply use the Fed to keep buying the bonds our government sells.

The relationship between the Federal Reserve and our government has devolved into one of mutual dependency. The banks depend on access to US Treasuries at reduced interest costs (making their profits on the difference between what they borrow at and lend money out). Meanwhile the government appears willing to cede virtually all regulatory authority in financial matters to the Fed, essentially giving that private, for-profit entity the keys to our monetary system and dooming any chance of regulatory oversight or restraint.

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Update (7/8 10 PM):

Just posted a comment titled "Whistleblowing vital" on a dailykos article that suggest the Goldman Sachs may have been using illicit internet programs to skim trades, a process referred to as "flushing quant trading."
See the article here. My post reads:

Nice to know there are patriotic Americans who will speak off when people are getting ripped off.
I couldn't help but notice that federal government sites were hit by DoD attacks recently. Could the hacking be a way to cover up past illicit actions, kind of like wiping out the old http addresses so as not to leave a trace of the routers used to sniff data?
Just how much does our government know? Is it like 9-11 where knowing something bad will happen--foreknowledge--isn't the moral equivalent of participating in it? Or do regulators know about the quant trading and are they just staying quiet?
Is this scandal anything like the mutual fund fee scam that erupted in 2003? Even if there's a fine, where does it go? What's being done to correct the vulnerabilities and systemic problems--gaps in regulation perhaps?--that led to the crisis, like the credit crash? Too many questions, with answers not easily answered.

I'd thought about the 2003 mutual fund scandal upon reading May/June version of MotherJones by James Ridgeway, titled "Who Shredded Our Safety Net?" (link)

I think that article relates to my post because the financial system adverse to change that doesn't want pensions. Better it is to identify the ways we're being ripped off, or look to solve the problems American, unregulated capitalism has caused.

I know I tried to cover too much, but the issue of fake vs. real socialism is very comprehensive, impacting social justice issues like retirement in addition to the overreliance on borrowing, the shadow banking/private credit system, and globalization.

Someone once said that there is no national interest, but only interests. In this case, the financial industry scores again, over the workers of real socialism. Except instead of denying them ownership, and forcing companies to borrow in order to expand in this case pensions were abandoned and 401(k)s offered in their place.

I guess the capitalist system really showed how vulnerable the working class are. Nowhere is this more clearer than the credit crisis, which will disproportionately impact lower income Americans. Providing adequate income in retirement needs to be a fundamental right.

///

Recovery a matter of perception

The US economy is in a state of continuing decline. The mass media, meanwhile, is constantly praising confidence and the rebound to come, the so-called "green shoots."

Now if the US should experience a rapid exit out of the recession, it will be because the giant credit bubble has been re-inflated. If the US intends to re-inflate, it might be because the debt load is too large to repay. Another reason might be the political price of raising taxes. I saw that US payroll tax receipts were 44% below last years, an indicator of higher unemployment and a drop in wages lost as our manufacturing base tanks.

Attempting to rebound by even more lending is an admission that our monetary system is in fact a house of cards, a Ponzi scheme where later investors are paid with older money.

Assuming that we're back on our way to record borrowing might not be that good of a destination. The America that will emerge from the recession will be a stronger one only if it's shaken some of the burden of debt, rather than re-inflated through more borrowing.

Expansion has not been sustainable because as consumer were paid more, they spent even more, to the point Americans' net saving rates were negative. It's not enough to print money and distribute it--things must be bought. In the modern period, perhaps not coincidentally from about the time the Fed was created, credit has been the way our consumption-oriented economy has grown. By lending, banks encouraged an expansion of economic activity and hiring, house-building and buying, while bolstering their profits, assuming their loans get repaid.

No healthy consumer would consider getting in debt a model for sustainable growth, although I'm sure the financial companies lending the money can made billions by lending. Now though, even for them, the price of too much lending has become quite high as foreclosures rise and job losses mount, increasing defaults on credit card debt.

We don't simply lend for lending sake, not the bankers' alone. It's the underlying economic activity that borrowing encourages, and is sought after by macroeconomists. Still, looking at debt in isolation distorts the broader policy framework needed for macroeconomic change. In plain English, debt is a bad thing-- a way not out but to be trapped in. Savings will reduce that debt to the point it's manageable. Then of course will come the natural predilection to overspend once again, but we can worry about that later.

The slowdown is actually be a wholly natural response to an overheated economy, and a healthy reaction. Rather than try to re-heat the economy by lending out billions to people and corporations struggling under too much debt, perhaps we need to focus on paying down debt. Instead our federal government has decided to intervene spending trillions on top of trillions. If anything this over-borrowing will accelerate the decline of the value of the dollar, whether by causing a lenders to forestall their purchases of US government-issued debt, or by inflation caused by monetizing the debt--basically printing money to pay for bonds we issue.

One major factor that could curtail the recovery is also the availability of credit for lending banks from foreign sources. We've grown dependent on foreigners to finance our government's borrowings. This cannot change, unless of course we simply print and distribute dollars ad nauseum, to the point the grow utterly worthless over time. We need to anchor our dollar and Government debt in sound monetary policy. Inflating the debt may be preferable to facing the consequences of higher taxation, an almost certain inevitability under the budget deficits of the present. Still, if Americans save, and spend less on imports--the natural consequence of economic contraction--we can have more money available to invest herein home, for our long-term benefit.

So quickly the size of these inter-bank and hedge fund derivatives grew. The companies involved made record profits, even if they weren't entirely sure what they were seling, or how risky it was.

Their size and importance to the US economy--at least on paper--grew massively. The US economy has become increasingly a product of financial services corporation output, which now accounts for some 40% of GDP.

I keep raising this point because that portion of the economy doesn't make anything real. Profits are generated by washing piles of electronic dollars, or selling securitized debt through a shadow banking, or private credit money system. By creating money in debt-backed securities, these financial companies were then able to speculate, with electronic dollars created out of thin air by churning huge sums of credit derivatives among each other, in private money transactions.

How much more capital will the banks need? This question can only be determined by a rigorous and objective audit of the banks. Such a review should be transparent, in order to inspire public confidence.

In order to assess the financial strength of the financial companies, the extent of their liabilities needs to be uncovered. That task may be impossible, judging by the sheer number of derivatives bought, sold, or owed by one financial entity to another. And there are the CDSs. I've talked about complex insurance policies called Credit Default Swaps which kick in if the value of the underlying debt security declines beyond a certain point.

The assessment of CDS-insured prices becomes a futile exercise, kind of like the question "which came first the chicken or the egg?" Should the debt securities all decline in value to the point that the CDSs kick in, it's likely that the companies underwriting the risk will go bankrupt, in what is called systemic risk--the ripple effect of one insolvency leading to others. The possibility of a meltdown which was the chief reason for TARP and the federal interventions with AIG last fall.

Containing a potential system wide collapse may have averted a crisis but that's hardly the same as helping the economy, and dodging a crisis does not a recovery make.

We are now being told to turn the other cheek, at least on torture. After so much fear-mongering, how can Americans really believe that what they're told is true?

Even the recovery is perception managed as if building public confidence were an end in itself. The reaction to the crisis so far--all in the past we are told as if the current reality could be transposed on the past, washing it out--appears to be nothing more than a methodology to put more money in the hands of the bankers.

Basically the whole crisis we face today, while real, is stage-managed to engender maximum popular support for financial assistance for government, in this case directed towards the financial entities who have the most influence in government, thereby shaping policy around their interests.

Every wisp of potentially good news about home sales is blown into unrealistic expectation as part of the media happy train on the economy the truth is home sales are going up because their prices have come down. Lower prices, more sales. Nothing more or less need be read into the data.

Under these circumstances, it's hard not to get conspiratorial about why the US economy seems so prone to cyclical upheaval, as much as we are told that we'd advance into a "service economy" which transcends peaks and valleys in the economy. In the past I've brought up the reality that the conclusion of each economic cycle in this country results in greater wealth being concentrated in fewer hands. Essentially the wealthy can use their capital more effectively, and capture better rates of return on investments long before wages recover. We can't blame the rich for causing the crisis or can we? After all, it was persistent efforts to change longstanding regulations, and operate a extremely loose money policy that triggered the crisis.

Increasing home "ownership" ( a misnomer because this term is better described as "home borrowship") has long been a stated policy of the (command and control) political economy, a monster we've been feeding, one wrapped around unsustainable borrowing, not to mention the machinery of the State, the Tapeworm Economy, a system created for the benefit of insiders. Perhaps the fate of the economy rests in the hands of the militiary industrial complex and other feeders at the federal trough, a most ignoble procession now led by the banks. Perhaps our state of permanent war nurtures a war economy that can't stop. Kill the parasite and you kill the host.

Unlike past crisis, much of the fiscal resources devoted to a recovery have been directed to financial companies, under the shaky premise that the loosening credit would act as a giant stimulus. Now while lending could help, it may well be that things happen for a reason. The lower lending were now seeing is the direct result of higher savings rates. People are rightfully worried about their job security. Accordingly they act to reduce consumption, which slows the general economy.

Media environment

The media consolidation occurring under Bush has contaminated coverage of the markets. The idea is that by controlling the media, right wing causes get preferential coverage, while stories negative to the prevailing media myths of the moment get zero coverage. Case in point: Geithner's recent trip to China and speech to Peking University. In Tuesday's New York Times, no mention was made of the Chinese reaction to Geithner's statement that US Treasuries were basically sound. Chinese there laughed, a reaction that shows just how rhetoric-driven Geithner is, and how much more knowledgeable Chinese were about the true state of the US's finances. See the BBC article here.

For a more accurate picture of what really happened, look at fund manager Axl Merk's article and video at SafeHaven.com. Writing in advance of Geithner visit, Merk protests the idea that the Chinese "need to be sold US Treasuries. The Chinese are very well aware about all the issues surrounding Treasuries...the structural deficits, and the insatiable appetite of the US Congress..."

Merk runs a hard currency fund, which invests in currencies from countries with "sound monetary policies" which obviously doesn't include the US. In the past I've considered these types of funds, but can't say for sure when the dollar will depreciate, and against which currencies. So I guess I'd be hesitant to recommend any currency. Besides, the dollar may devalue, but interest rates might allow the investor to better stay up with inflation, although as always I mention I hold silver and no equity, not exactly a balanced portfolio, but then again I don't have much capital.

Every day a cheering squad on CNBC led by Larry Kudlow talks up the resurgent US economy. The over-optimism has led some to conclude that this more recent rally, with the market having a great May, might be for suckers. That idea is that the more the insiders talk about how much better things are, the more they are looking to sell, kind of like Enron's top management shortly before that company fell. Of course no one with a lot of money at risk wants to scare potential investors or raise doubts about the market. Kudlow does have a genuine affection for the marketplace, beyond just seeing his millions appreciate--he and the rest of the investor class need to see the promise of economic vitality preserved, if not in reality than at least in the perpetually rosy prognosis on a gateway for a conservative company, GE, parent of NBC.

Confidence-building can't replace sound bookkeeping. The truth has a way of getting out anyway.

Additional Sources

Banks are still trying to use shortcuts, just like the debt securitization and over-leverage which led to the crisis. See this article by Ryan Grim in HuffPo about the banks fluffing up their earnings through accounting chicanery. See also this postin moneymorning.com, too. Also, I thought this commentary by Howard Davidowitz on yahoo was quite striking.

I was pleased to see my earlier reference to Andy Kroll's "Six Ways to Scam the Bailout Scams" (kind of like a Letterman list) made a few months ago pop up at tomdispatch.com. Engelhardt refers to the bailout as an instrument of investor class insider like Geithner, who's tied to the same investor class bozos who got us into this mess.

For more on a tool of the investor class who's someone made his way into Obama's circle of toxic advisors is this March truthout.org column by Robert Scheer about Gary Gensler, nominated for the position of Commodity Futures Trading Commission.

Last year, I'd blogged about testimony by a former chairman of that body, Michael Greenberger, concerning the regulations subverted, which in turn allowed massive speculation on oil and other commodities. The C-Span video was down, lost I guess to the digital memory hole. NPR's Terry Gross does interview Greenberger, available courtesy Tony Wikrent at epluribusmedia.net.

In the May Atlantic is Jeffrey Goldberg's entertaining article "Why I Fired My Broker."

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