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Winter 2009
When Currency Becomes a Fiat
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Norman Ball Opines on Currency vs. Insanity

"This business about appetite for risk or ability to shift risk is all crap."

- from The Institutional Risk Analyst

SOMETHING IS AFOOT THAT, SO FAR, eludes the most sprawling macro-economic theories. Like the ultimate exogeneity or game-changing black swan, the best evidence of a dawning paradigm is that few things make sense through the old glasses. As T. S. Eliot remarked of great poetry (and I paraphrase), its arrival is felt before its impact is understood. In this instance, we will regret mistaking a lack of understanding for a lack of arrival.

Not surprisingly, all roads lead to modern-day Rome. Indeed there is a super-dimensional aspect to America's most-favored nation status as propagator of the world's reserve currency. When Zimbabwe prints money, hyper-inflation results, the standard textbook stuff. Land reform programs (i.e. taking arable land from those with green thumbs and giving it to those with brown noses) will earn you 11,000,000% inflation or greater.

It's said the rich are different. So is King Dollar. Indeed Mugabe must salivate at American alchemy as Fed Chairman Ben Bernanke’s profligacy spurs a ‘flight to dollar safety’. It doesn’t take a PhD in Economics to glean that business as usual has been shattered. Fed panic speaks in the sheer verticality. The recent growth in the US monetary base has been nothing short of parabolic. It seems the Fed has been shooting a fire-hose through a pin-hole --the pin-hole being the banking industry’s reluctance to create fresh loan activity from torrents of new money as they preoccupy themselves with rebuilding capital reserves. Basic economics tell us that, while inflation can be postponed, it cannot permanently be repealed. Not with repeated helicopter drops like this. The ghost is in the machine. Now we await its apparation.

America should take little comfort from its currency's relative strength. However one calibrates the chutes and ladders, the dollar, once proud eagle, has become a pigeon among sparrows.
But shock of shocks, the dollar is strengthening. Indeed there may be a technical (read: temporary) complexion to the recent dollar run-up. (See Confusion reigns: A crisis-driven global rush to dollar liquidity is not deflation.) As the world shifts, panic-stricken, from one troubled asset class to the next, each swoon must pass through the dollar toll-booth. Thus we find wholesale panic bullish for the reserve currency. As Jesse’s Café Americain October 2 blog entry describes, European current demand for dollars is acute but really a short-term artificiality caused by “a currency imbalance [that] increases the cost of euro-dollar swaps”. ( See this link for more info ).

Thus the last few weeks’ event of a strengthening dollar – vis a vis practically everything else – only mimics the trend of deflation. As Jesse says elsewhere, in the midst of “a short term liquidity crunch, traders, in this case most likely hedge funds and small speculators, go into panic selling to address margin calls and short term cash obligations.” Deflation would require a conscious central bank policy to raise interest rates, not likely. Dollar strength is thus an unsustainable aberration. Inflation is all but assured.

America should take little comfort from its currency’s relative strength. However one calibrates the chutes and ladders, the dollar, once proud eagle, has become a pigeon among sparrows. Moreover the diminishment is a global phenomenon. No boat can avert a receding tide. The world’s economy will emerge from this debacle economy-sized. Isn’t it a bit supercilious then to crow that the highest man clinging to the mast of a sinking ship is in a position of ‘relative safety’ when the ship, the currency complex, is sinking? So the last man drowns last. Big deal.

Beyond even these technical machinations, there is a ghost in the machinery of the currency complex that betrays a measure of irrationality, a non-quantifiable 'fealty' to dollars. Call it a force of habit. Other apt analogies? The Divine Right of Kings, Pax Romana. People are swimming – partly as an act of faith, partly from a half-century of ingrained habit – towards a lifeboat with a fatal leak. What's the alternative, hugging a wave? For those who prefer casting aspersions with their last breath, they might shout, who didn't pack a second lifeboat? Perhaps it's not a lifeboat at all that will save us, but an island – gold. Perhaps there are better, more utilitarian, stores of intrinsic value: cigarettes, nylons and chocolate for example. Own a warehouse of ciggies and you may one day preside over a small mid-western town. (See Negative "Positive Feedback Loop" of Employment and Housing.)

The bitter prospect of marking-to-market is an admission of lost might, a medicine far too hard to swallow.
Though wealth can evaporate overnight, belief systems tend to linger beyond their period of efficacy. A belief system that has held sway for the better part of a half-century, Pax Americana, is bankrupt (literally), and risking hyper-inflation (after perhaps a brief deflationary interlude) as it strives mightily to forestall the inexorable process of its decline. History is littered with denialists (See iTulip Ka-Poom Theory, 1999). The bitter prospect of marking-to-market is an admission of lost might, a medicine far too hard to swallow. An empire collapses back to more manageable perimeters only with great reluctance. For one thing, retreat precipitates ugly feed-back loops. Other uppity frontier regions become emboldened. The empire buzzes with insurrection. The powers-that-be will embrace denial before they embrace retreat. We are about to learn just how dangerous a wounded Master of the Universe can be.

    Depression. That's a word they're loath to say,
    the men whose jobs revolve around the myth
    that words, like sticks and stones, put trends in play
    not easily reversed. They'll take the fifth
    before reciting populist accounts
    as though hard times held under house arrest
    might huddle in the basement. All that counts
    is what gets counted --keep the bloody rest.
    No gesture pays for braces. No harangue
    can cure the blind of pathologic greed.
    Econometric models lack the pang
    of hunger. How the poor excel at need.
    Depression means no money, simply put
    --a truth too bare to snare a tailored suit.

      - Jawboning, Norman Ball

How can the world purge itself of dollars when it is awash in them? It pays to remember currencies are comparative, not intrinsic, stores of value. Thus purging oneself of a currency always involves bingeing on another.
One wonders, can the Pax Americana/Bretton Woods/Plaza Accord regime truly hand the baton to a new world order (lower case) without a resounding capitulation followed by an ensuing period of collapse? The Visigoths destroyed Rome. Centuries of darkness ensued before Pax Britannia re-ordered the world. But take solace, my broadband brethren. In the digital era, the prior business of centuries now concludes itself in mere decades if not years. Computers aren't going away.

How can the world purge itself of dollars when it is awash in them? It pays to remember currencies are comparative, not intrinsic, stores of value. Thus purging oneself of a currency always involves bingeing on another. In an era of dwindling resources and looming peak oil, resource proxies are looking good – gold, oil. The euro might have served nicely as an orderly re-assembly point. But it's hard to imagine the long-term twin collapse of the dollar and the euro meaning anything less than the wholesale collapse of the currency regime. After all who are the pretenders to the currency throne? Certainly not the yen. The Japanese are too insular to host the coin of the realm. The Swiss franc must contend with a banking system whose short-term bank debt equals 1,273% of the Swiss government’s national debt. Clearly the gnomes of Zurich have been busy. By contrast, the U.S. looks positively chaste at 43%. ( Source: New York Times; “The World’s Banks Could Prove Too Big to Fail — or to Rescue’; 10/10/08; Floyd Norris. )

Best not to push too hard on that 43% figure though; according to Mr. Mortgage’s recent calculations, American banks’ so-called Level 2 ‘mark-to-market’ balance sheet value approaches $7.3 trillion. As this number is a creature of Excel spreadsheets, the market-derived value could be anything, more likely significantly less. Mr. Mortgage’s doom-laden prognostications have been pretty accurate since at least 2006.

In short, there are no bright beacons in the world. Fiats of all stripes have been done in by hubris. The loss of goodwill and trust in the power of paper --too hard to calibrate in the midst of the crisis-- will no doubt be staggering.

As for the Paulson Plan, it's an insult to band-aids everywhere. Apparently, the master plan is that all scorched parties must show up for future treasury auctions and pretend that their bandaged third-degree burns are mere flesh wounds. Isn't that the unspoken quid pro quo of the bail-out bill, uninterrupted Ponzi participation by foreign central banks? What dupe continues to show up for a Ponzi scheme after the pyramid's been revealed? The Plan reeks of global central bank fear. They will pretend on one another’s behalf to avoid the eradication of their species. Our currencies are their hapless pawns.

Up until very recently, gradualists had held out hope for a long-term dollar-to-euro migration. However, this trail has become washed-out in recent days as the euro proves itself more committee than currency. This is extremely bad news for a world desperately in need of economic bipolarity. One implication of a dollar-saturated world is that safe havens get repealed. Every kitchen sink becomes one-step removed from a dollar. Getting from point A to B requires a dollar. Of course it's easy to parochialize the debate around those damnable dollars. The larger point is that the world is drunk on fiats: currencies, derivatives, stocks, bonds.

The currency will first be debauched until only a wheelbarrow full of it buys a cup of coffee. For one thing, influence purchased with sacks of gold is too susceptible to detection. Paper is the currency of epic-scale usury and malfeasance.
Structured finance always had a Faustian ring. Seeking to defy God's laws of gravity and commensurateness it is, as Ezra Pound warned in ‘With Usura’, contra natura. We've been misstating our income and levitating our wealth. The world's elite are loath to face just how poor we – and they – are. For the populist, there may be a silver lining as the rich --by practical necessity financial-asset-bound-- have much further to fall than does the little guy. Thus the collapse of paper could have a laudatory distributive effect. No wonder Paulson sped through a $700 billion vacuum hose, affixing it to the coffers of Main Street. In order for the powers-that-be to avoid becoming the powers-that-were, they need us to re-capitalize them.

Moreover he $700 billion figure is hugely misleading. As the erudite blogger London Banker points out in his October 2 entry, $700 million is only the diameter of the spigot – like an income statement, a mere snapshot at any given time: “Whether the final value of the legislation this week is $700 billion or $150 billion is irrelevant as long as the laundering operation can accommodate the throughput, as that number is only a cap on total extensions at any one time.”

Meanwhile the Great American Unipole is sick and getting sicker by the day. Absolute power has indeed corrupted absolutely. Iraq is the military facet of the same hubris. America succeeded beyond its wildest dreams, stuffing all gills with crappy Ponzi paper. The only solution available to the purveyors of paper is of course more paper; in short, a recipe for more disaster. Suddenly that industrial base looks like something more than a grimy anachronism. We make nothing, and the world is beginning to take notice.

Even a well-anticipated freight train is unavoidable when you’re lashed to the track. The long-term answer must lie outside the fiat currency complex. But this is the Mount Everest of official denial. We will hyper-inflate back to a gold standard. No one in a position of power and authority will take us there. The currency will first be debauched until only a wheelbarrow full of it buys a cup of coffee. For one thing, influence purchased with sacks of gold is too susceptible to detection. Paper is the currency of epic-scale usury and malfeasance.

As it is, the world finds itself (much to its chagrin) divided into two sprawling camps: Americans and Americans-by-proxy (or if you prefer 'foreign bag-holders'). In short, both camps only pretend at being two camps. Together, they will slide, daisy-chained, into the abyss.

Europe's present turmoil marches the world one step closer to this abyss. Brazil and Argentina, God bless them, have announced bilateral trade will be conducted in their home currencies, no longer dollars. Of course they are less dollar-pregnant than Europe or China, economies who are frankly too big to bail --on the dollar. The euro was to be the world's second lifeboat. Hang on to your ciggies folks.

Note: This essay benefits greatly from the many informed folks at, in particular head Tuliper, Eric Janszen, progenitor of the Ka-Poom Theory. An embedded link explaining this theory appears in the essay.

When risk conforms by profile or by sleights
of counter-party hand to prop a shoe
that cannot fall, or engineers a flight
to weaker hands --sound bid 's been bid adieu.

When ask splits distance that value can't divine
from hubris, moral compassing won't span
the gulf. Thus marked to market, we resign
to Fate which underwrites the boldest plan,

meting out peril rough to right reward,
and we meet our Maker on a cropless field
bankrupted by the grains we sought to hoard
and harvest. Then yield our epic greed

to untransacted glare undone by Him,
black swans and laissez-faire.

-- The Bid Is the Father of the Ask, Norman Ball

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