Desperate Economic Action Ahead?

The economic condition of the country continues to decline toward its rendezvous with an as yet unknowable catastrophe. Speculation regarding this outcome is natural because self-interest, if not self-preservation, is at stake.

Here is but one possibility. It is not a prediction, but a look at a series of not improbable events that could develop. Any similar government desperation would change our economic world overnight. 

It is mid-year 2012. The country has officially been in recession since the end of 2010. Many believe that it never recovered from what began in 2008. The word "depression" is now almost commonplace.

Trust in Congress has fallen to single digits. Similarly, government reports and statistics are increasingly mocked by the public. The media is likened to Pravda because only government-speak is allowed. Distrust, despair, and fear are everywhere.

2012 Economic Scenario:

  • Official unemployment numbers approach 14%. Unofficial estimates of unemployment range from 30%-35%. There are no signs of a turnaround in employment.
  • The Dow-Jones average has hovered around 4,500 for the past month.
  • Official GDP has been declining for four consecutive quarters. Independent analysts estimate the true numbers have been declining for two years.
  • Tax collections continue to drop while federal spending accelerates. The deficit is expected to exceed $3 trillion. Federal debt now exceeds $16 trillion.
  • The rate of foreclosures has doubled from the previous high in 2011. Personal and corporate bankruptcies have reached levels thought impossible.
  • Major companies have left or announced intentions of leaving the U.S. to avoid the confiscatory taxes and regulations. College students, unable to find jobs, are emigrating to more favorable economies.
  • California, Illinois, and several other states are in bankruptcy court. Almost a thousand municipalities have filed as well. Many states and municipalities are using IOUs for payments.
  • Welfare and unemployment checks are two months behind on average. Social Security checks and Medicare reimbursements are delayed. Some private pension funds have reduced their payments by 10%-25%.
  • Hospitals and doctors refuse to see Medicare patients until federal reimbursements, already eight months behind schedule, are paid.
  • Public unions across the country are on strike. Large areas are without teachers, police, firemen, or hospital staff.
  • Food stamps are rejected at grocery stores because of slow reimbursement and government default risk.
  • Martial law has been imposed in several cities to counter rioting and looting.
  • Isolated runs on banks have occurred. Mattress-stuffing is considered less risky than zero-interest returns from banks.
  • The dollar is rejected by local merchants around the world. Oil is priced in a weighted basket of currencies of which only 20% represents dollars.
  • Foreign disinvestment in Treasuries has been accelerating as a result of trade wars, concerns of default and the desperate need for funding at home.
  • Gold is selling at $2,800 per ounce.
Despite QE on a scale not even Paul Krugman would have recommended, the economy continues to deteriorate. Treasury and toxic asset purchases have swelled the Fed's balance sheet from $800 billion in 2008 to $6 trillion.

Despite incredible money-creation, the deflationary spiral continues. Banks continue to add more excess reserves. Creditworthy borrowers refuse to borrow. People and businesses everywhere have hunkered down, waiting for the next shoe to drop. Many withdraw funds from the banking system in fear of its collapse.

The Emergency Measure

It is against this backdrop that the President of the United States appears with a major economic announcement. Treasury Secretary Chris Dodd and Fed Chairman Barney Frank, both in their best solemnity, accompany him.

President Joe Biden (in office for six months after former President Obama resigned "to spend more time with his family") issues a short, terse message: 

The Federal Government, as a result of our national economic emergency, will be recalling all U.S. dollars effective immediately. All will be replaced with new currency known as the JohnLawDollar. Each old dollar will be exchanged for three JohnLawDollars. Amounts in checking accounts and savings accounts will automatically convert by tomorrow at 10 AM. Currency in circulation must be taken to a bank and converted within the next 48 hours. Dollars in foreign countries will have 72 hours to convert. All old dollars will be unredeemable and no longer legal tender after the deadlines. All contractual obligations will be honored in JohnLawDollars.

This action is necessary in order to revive our economy from a downturn nearly as severe as the Great Depression. Your new dollars are triple what your old dollars were. With your larger amount of money, we encourage you to go out and buy stuff, lots of it. Your cooperation will revive the economy.

The Reality

The announcement represents a(n undeclared) U.S. default on 67% of its contractual obligations. That includes Treasuries, Social Security, Medicare, and welfare payments. All debt has been reduced by two-thirds in value. The debt problem (public and private) is what is killing the economy. With one short proclamation, the debt problem has been reduced dramatically.

Tripling the money supply will eventually triple prices and wages. Home prices will soar while mortgage obligations remain fixed and payable out of incomes that will be three times what they are now. The government will have cut its obligations dramatically and now be able to pay its bills.

The government's gain will come at the expense of Social Security, Medicare, and welfare recipients. Borrowers gain only what lenders lose. Other private contracts produce winners only at the expense of losers. There is no net value added. Every gain is someone's loss. Only the amounts "stolen" from foreign investors might be claimed to help the U.S. The rest is nothing more than a redistribution of wealth.

Likelihood of This Scenario

Many believe that the government would never do such a thing. The reality is that this has been their proposed solution for the past couple of years. It is exactly the policy they have tried to implement. There are only two differences between the current policy and the hypothetical one: 

  • Effectiveness
  • Timing
Fed Chair Ben Bernanke has clearly been trying to inflate the economy. He and other supposed experts regard inflation as the way out. Only Mr Bernanke's ineffectiveness explains why we don't have inflation. The hypothetical measure is nothing more than the preferred strategy compressed in time. The effects, other than timing, would be identical. Lew Rockwell's thief analogy is appropriate. What is the difference between a thief who breaks into your house every night and steals a little versus the one who backs up a moving truck and takes everything? Eventually you end up with an empty house. Only the timing differs. 

As economic and political matters become more desperate, so will what the government considers acceptable. If a debt default cannot be engineered via continuous inflation, it will occur via a direct repudiation of obligations or a quasi-surreptitious one like the hypothetical presented. Viewed from this perspective, I don't think such a move or something approximating it is out of the question.

The political class's survival is at stake. Eventually, anything that extends their rule will be tried. It is not concern for you or the economy that is driving policy, but the preservation of power of an increasingly wounded power elite. Their survival is now driving policy.  Unfortunately, what benefits them is generally harmful for the economy.

It is improbable that Bernanke's strategy will gain enough traction fast enough. Two years have gone by, and inflation is decreasing, rather than increasing. Mr. Bernanke has thrown more than anyone dreamed at the problem with no results. Thus, a home-run pass somewhat like the one discussed becomes more likely. It will be a surprise when it comes.

Nothing discussed here or tried by the administration will solve the economic problems of the country. What I have suggested is what could happen. It is not to be confused with good economic policy. Both the hypothetical measure and the more conventional inflationary strategy will lead to hyperinflation.

Inflation is not an economic event. Short of an inept Central Bank, inflation is always a political event. It is never a solution to an economic problem. It is employed out of desperation. When economic and political problems are intractable, the political class is apt to do anything to retain power.

Protect yourself, your family, and your wealth in that order. Do not expect any help from Washington. The political class is not your friend, especially when its survival is at stake. Women, children, and other citizens will have lifeboats only if there are any left after the rats have escaped the sinking ship.

Monty Pelerin is a recovering economist who blogs at www.economicnoise.com.
The economic condition of the country continues to decline toward its rendezvous with an as yet unknowable catastrophe. Speculation regarding this outcome is natural because self-interest, if not self-preservation, is at stake.

Here is but one possibility. It is not a prediction, but a look at a series of not improbable events that could develop. Any similar government desperation would change our economic world overnight. 

It is mid-year 2012. The country has officially been in recession since the end of 2010. Many believe that it never recovered from what began in 2008. The word "depression" is now almost commonplace.

Trust in Congress has fallen to single digits. Similarly, government reports and statistics are increasingly mocked by the public. The media is likened to Pravda because only government-speak is allowed. Distrust, despair, and fear are everywhere.

2012 Economic Scenario:

  • Official unemployment numbers approach 14%. Unofficial estimates of unemployment range from 30%-35%. There are no signs of a turnaround in employment.
  • The Dow-Jones average has hovered around 4,500 for the past month.
  • Official GDP has been declining for four consecutive quarters. Independent analysts estimate the true numbers have been declining for two years.
  • Tax collections continue to drop while federal spending accelerates. The deficit is expected to exceed $3 trillion. Federal debt now exceeds $16 trillion.
  • The rate of foreclosures has doubled from the previous high in 2011. Personal and corporate bankruptcies have reached levels thought impossible.
  • Major companies have left or announced intentions of leaving the U.S. to avoid the confiscatory taxes and regulations. College students, unable to find jobs, are emigrating to more favorable economies.
  • California, Illinois, and several other states are in bankruptcy court. Almost a thousand municipalities have filed as well. Many states and municipalities are using IOUs for payments.
  • Welfare and unemployment checks are two months behind on average. Social Security checks and Medicare reimbursements are delayed. Some private pension funds have reduced their payments by 10%-25%.
  • Hospitals and doctors refuse to see Medicare patients until federal reimbursements, already eight months behind schedule, are paid.
  • Public unions across the country are on strike. Large areas are without teachers, police, firemen, or hospital staff.
  • Food stamps are rejected at grocery stores because of slow reimbursement and government default risk.
  • Martial law has been imposed in several cities to counter rioting and looting.
  • Isolated runs on banks have occurred. Mattress-stuffing is considered less risky than zero-interest returns from banks.
  • The dollar is rejected by local merchants around the world. Oil is priced in a weighted basket of currencies of which only 20% represents dollars.
  • Foreign disinvestment in Treasuries has been accelerating as a result of trade wars, concerns of default and the desperate need for funding at home.
  • Gold is selling at $2,800 per ounce.
Despite QE on a scale not even Paul Krugman would have recommended, the economy continues to deteriorate. Treasury and toxic asset purchases have swelled the Fed's balance sheet from $800 billion in 2008 to $6 trillion.

Despite incredible money-creation, the deflationary spiral continues. Banks continue to add more excess reserves. Creditworthy borrowers refuse to borrow. People and businesses everywhere have hunkered down, waiting for the next shoe to drop. Many withdraw funds from the banking system in fear of its collapse.

The Emergency Measure

It is against this backdrop that the President of the United States appears with a major economic announcement. Treasury Secretary Chris Dodd and Fed Chairman Barney Frank, both in their best solemnity, accompany him.

President Joe Biden (in office for six months after former President Obama resigned "to spend more time with his family") issues a short, terse message: 

The Federal Government, as a result of our national economic emergency, will be recalling all U.S. dollars effective immediately. All will be replaced with new currency known as the JohnLawDollar. Each old dollar will be exchanged for three JohnLawDollars. Amounts in checking accounts and savings accounts will automatically convert by tomorrow at 10 AM. Currency in circulation must be taken to a bank and converted within the next 48 hours. Dollars in foreign countries will have 72 hours to convert. All old dollars will be unredeemable and no longer legal tender after the deadlines. All contractual obligations will be honored in JohnLawDollars.

This action is necessary in order to revive our economy from a downturn nearly as severe as the Great Depression. Your new dollars are triple what your old dollars were. With your larger amount of money, we encourage you to go out and buy stuff, lots of it. Your cooperation will revive the economy.

The Reality

The announcement represents a(n undeclared) U.S. default on 67% of its contractual obligations. That includes Treasuries, Social Security, Medicare, and welfare payments. All debt has been reduced by two-thirds in value. The debt problem (public and private) is what is killing the economy. With one short proclamation, the debt problem has been reduced dramatically.

Tripling the money supply will eventually triple prices and wages. Home prices will soar while mortgage obligations remain fixed and payable out of incomes that will be three times what they are now. The government will have cut its obligations dramatically and now be able to pay its bills.

The government's gain will come at the expense of Social Security, Medicare, and welfare recipients. Borrowers gain only what lenders lose. Other private contracts produce winners only at the expense of losers. There is no net value added. Every gain is someone's loss. Only the amounts "stolen" from foreign investors might be claimed to help the U.S. The rest is nothing more than a redistribution of wealth.

Likelihood of This Scenario

Many believe that the government would never do such a thing. The reality is that this has been their proposed solution for the past couple of years. It is exactly the policy they have tried to implement. There are only two differences between the current policy and the hypothetical one: 

  • Effectiveness
  • Timing
Fed Chair Ben Bernanke has clearly been trying to inflate the economy. He and other supposed experts regard inflation as the way out. Only Mr Bernanke's ineffectiveness explains why we don't have inflation. The hypothetical measure is nothing more than the preferred strategy compressed in time. The effects, other than timing, would be identical. Lew Rockwell's thief analogy is appropriate. What is the difference between a thief who breaks into your house every night and steals a little versus the one who backs up a moving truck and takes everything? Eventually you end up with an empty house. Only the timing differs. 

As economic and political matters become more desperate, so will what the government considers acceptable. If a debt default cannot be engineered via continuous inflation, it will occur via a direct repudiation of obligations or a quasi-surreptitious one like the hypothetical presented. Viewed from this perspective, I don't think such a move or something approximating it is out of the question.

The political class's survival is at stake. Eventually, anything that extends their rule will be tried. It is not concern for you or the economy that is driving policy, but the preservation of power of an increasingly wounded power elite. Their survival is now driving policy.  Unfortunately, what benefits them is generally harmful for the economy.

It is improbable that Bernanke's strategy will gain enough traction fast enough. Two years have gone by, and inflation is decreasing, rather than increasing. Mr. Bernanke has thrown more than anyone dreamed at the problem with no results. Thus, a home-run pass somewhat like the one discussed becomes more likely. It will be a surprise when it comes.

Nothing discussed here or tried by the administration will solve the economic problems of the country. What I have suggested is what could happen. It is not to be confused with good economic policy. Both the hypothetical measure and the more conventional inflationary strategy will lead to hyperinflation.

Inflation is not an economic event. Short of an inept Central Bank, inflation is always a political event. It is never a solution to an economic problem. It is employed out of desperation. When economic and political problems are intractable, the political class is apt to do anything to retain power.

Protect yourself, your family, and your wealth in that order. Do not expect any help from Washington. The political class is not your friend, especially when its survival is at stake. Women, children, and other citizens will have lifeboats only if there are any left after the rats have escaped the sinking ship.

Monty Pelerin is a recovering economist who blogs at www.economicnoise.com.