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10 Banks Allowed to Repay TARP Bailout Money

This article was written by in Economy. 18 comments.

Ten banks have now been approved by the government to being repaying taxpayers for a portion of the more than $700 billion the industry has received from the Troubled Asset Relief Program (TARP) in total. The stated purpose of the TARP was to provide banks with the capital to boost their balance sheets and ease the tightening in lending, boosting the financial industry from its slump.

TARP funds have become a liability, though, at least in terms of public relations. A number of insurance companies were approved for an offshoot of the TARP, but many of these companies ended up refusing the extra capital and government involvement, a thorn in the side of executives who have seen their compensation regulated.

Now companies cannot leave the TARP program fast enough. According to the Wall Street Journal, these are banks that are satisfied with the benefits they received from the government so far and are now eager to repay taxpayers a total of $68 billion:

  • American Express
  • Bank of New York Mellon
  • BB&T Corporation
  • Capital One Financial
  • Goldman Sachs
  • JPMorgan Chase
  • Morgan Stanley
  • Northern Trust
  • State Street Corporation
  • US Bancorp

By accpeting the repayments, the government is giving up almost $2 billion in annual interest payments that would have come from these banks. The move, however, may be a sign that the financial industry is rebounding.

Updated September 4, 2016 and originally published June 9, 2009.

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About the author

Luke Landes is the founder of Consumerism Commentary. He has been blogging and writing for the internet since 1995 and has been building online communities since 1991. Find out more about Luke Landes and follow him on Twitter. View all articles by .

{ 18 comments… read them below or add one }

avatar 1 Anonymous

What gets me is we are guessing at the 10 banks giving back the money. Why can’t the government just announce the names of the banks? Where the heck is the transparency we’ve been promised from this administration. It continues to be murky at best. We’re left guessing which banks yet again. I’m tired of it. I’m tired of the rhetoric.

When I see China telling us they diversifying their dollar holdings because they are concerned at how our government is printing money at light speed I know we are in trouble ( ). Which might explain by gold is tracking higher today on the announcement about the banks and the news out of China. Looking at gold right now with the widget I use ( ) it’s bounced back of the lows it saw yesterday. Now at $955.20. Silver back up too.

I think a lot of people are looking to hedge in gold when they see the coming inflation on the horizon. Even Northwestern Mutual Life Insurance Co. bought gold for the first time in their 152 life time. That’s amazing if you ask me and I think the lack of transparency and heavy handed government practices towards the private sector are scaring a lot of people that way.

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avatar 2 Anonymous

IMHO this is a good thing. If every bank accept the money, then it means the conditions weren’t onerous enough. It shouldn’t be a no-brainer to go on the public dole.

Hal, what are you talking about? The list is right there.

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avatar 3 Anonymous

This is why news organizations (coughfoxcough) piss me off when they say things like, “This adminstration has settled every tax payer with thousands in debt by giving out this money.” These were always loans, not grants, and we’re not the ones supposed to be paying it off.
As for gold, BAD investment. Over the course of a few hundred years, gold just basically kept up with inflation, going up in bad times, and dropping in good. It was in the $800 in 1983 (adjusted for inflation)

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avatar 4 Anonymous

Rassah, you are incorrect. Most of this money will never be seen again, regardless of whether it is a loan or a grant. Remember, in some cases the government has shifted the loan into equity (with AIG or Citi or GM), which means now the stock price has to increase in order for us to get the money back, and the company doesn’t have to pay interest on the “loan”. In the case of GM, the “loan” was for almost 10 times what the company was worth, and in addition, was for more than the company was worth AT ITS PEAK stock price.
You may be pissed off because the news reporters are only telling 1/2 the story, but it’s the key part to the story – most of this money is GONE. This is because another large portion, which was used to purchase toxic assets, OVERPAID for the assets, and are now sitting on the Fed’s balance sheet at a value many times less than what we paid for them. So Bernanke and Obama are pleased you’ve allowed yourself to be angry at the press and so willing to buy their snake oil.

More importantly, and this is the part that NOBODY is paying attention to, is HOW ARE THEY ABLE TO PAY IT BACK SO QUICKLY? Well, that’s actually quite easy to answer. There’s this thing called the “Carry Trade”, which is essentially a bubble-inducing trade that the Fed has started running where the banks borrow money at close to 0% interest in the short term, and lend it out on the long term for 4-5%. Where does the interest differential magically appear from? Why it’s called PRINTING MONEY…which the Fed is doing at a remarkably fast rate. So this has helped the financial firms improve their balance sheets artificially (and the only cost has been in the real value of everything you own, which is declining, but you don’t see it because inflation is masking it).

Finally, you have the wondrous effects of the removal of “mark to market”. You know this fantastic and magical upward run we’ve been on since March? It’s called “we don’t need to tell you how much capital we really have on the books because you don’t need to know”. The REAL capital on banks books is actually less than it was in March, due to declining values in real estate. But they don’t have to report that number any more. Now, had the government allowed this in September, the meltdown would have been avoided and these “loans” the government made would have been non-existent. But instead, there was a shell game being played, which allowed the “loans” to be made in exchange for the banks to behave in certain ways and get certain funds…while the government got greater say in their activities. It was a deal with the devil, and honestly the politicians are pleased that you’re not worried about it.
The problem, however, is that because mark to market was kept on the books for so long, and the market melted down, its removal in March was ill-timed and has a far more deleterious effect on the economy than you or I realize. Why? Because now we don’t know the REAL health of the banks….but we’re still going to get idiots to invest in them because they LOOK good. But they aren’t good. So now the government will get its money back (or a portion of it) from private investors….but guess what? The government doesn’t have to give up the additional powers it has now gotten over the banking system. Splendid trade off, wasn’t it? Instead of limiting damage a few months ago by changing a rule, the politicians allowed massive hemorrhaging in your 401(k), which you undoubtedly sold (or some people did, anyway, I didn’t) in exchange for increased political control of the economy.

Meanwhile, our fascist leader is now telling the banks to LEND MORE MONEY, even though this concept of lending more money CREATED the original problem anyway. But it’s OK this time because the FED is printing more, so banks can lend more, and it’s cheap because it’s just paper anyway….so go borrow money and buy stuff because our lovely politicians have fixed everything up in this peachy keen way which is really cool.

Fact is, the next dip is coming and it will coincide with massive inflation. Remember the 1970’s? I do. This will be worse.

Obama is a failure already but his sheeple haven’t figured it out yet. If it were McCain, I’d be saying the same thing. It’s not a partisan issue – it’s a political one. We are essentially a fascist nation and people simply haven’t noticed because not every business is under government mandate. Yet.

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avatar 5 Anonymous

Heh, three years ago I was arguing with you for inflation and against using Gold. Now I’m a huge Bitcoin supporter. :D

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avatar 6 Anonymous

The problem I was reading in regard to the list is that the government didn’t tell us which banks. They were unnamed. The list above was the Wall Street Journals guess and probably rather accurate, but none-the-less the transparency remains murky.

This Bloomberg commentary I think is rather interesting:
Obama Tells American Businesses to Drop Dead: Kevin Hassett

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avatar 7 Anonymous

Mises, The Mystery of Banking, by Murray Rothbard. Read this book for the REAL truth about how our economy works. Government bailouts will never work.

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avatar 8 Anonymous

Nothing in the book that’s not covered in college level economics and monetary policy (other things covered are reasons for why the ideas in the book are really bad). Based on what I’ve learned (and have been taught), inflation is a good thing, as is fractional reserve. On the other hand, gold standard (or any commodity standard) is a really bad thing, because it keeps our economy expanding only at the pace of us being able to create that new commodity. Gold standards also cause deflation, which in many ways is even worse than inflation. So, good book, but very much outdated for our modern economy.

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avatar 9 Anonymous

Are you an economist? I have a Master’s from the New School for Social Research. In grad school we studied Von Mises (and the New School is a socialist institution), and it was widely agreed he is one of the best. Assuming that a “modern” economy is different from an economy of the 1930’s or 40’s is absurd, at best. The way the economy functions today is no different – goods must be manufactured, product delivered, and costs contained.
The “differences” in modern versus other economies are primarily financial in nature. That is, the instruments of cash are not the same. We now have a monetary supply that involves huge lines of credit that, in the 1930’s, were never seen before. Money is transferred in the blink of an eye, thus easing capital flows. All this means is that the cost of capital is lower now than ever before. From an economic standpoint, this mean our economy is LESS complex, not more so.
From a financial standpoint, the easy money flows have allowed for the creation of new instruments of money exchange (derivatives of various nature). This does make financial management more complex, but does not make the economy “better”. In fact, one can argue that some of these instruments are destabilizing because they are so new we don’t know enough about them. This means the “modern” economy is more in need of ideas like Von Mises than not.

Finally, please explain to me why deflation is worse than inflation? There is a standard belief among lay people that one is better than the other, but nobody has ever given me a good answer on this. In fact, deflation in a limited sense is better – it puts more products within reach of more people. Inflation is corrosive. Consider the definition of inflation – increased prices due to the increase in money supply. This is not demand driven inflation, which is a good thing (too little supply, too much demand), this is money inflation (twice as much money chasing the same number of goods). We are suffering this today, or we will be very soon. Tell me how this makes a “modern” economy better? Because we can print more money?

Remember that several major societal shifts, which were not for the better (The French Revolution, the rise of the Third Reich) occurred in part due to monetary inflation. Inflation is a very bad thing, much worse in some ways than deflation. Compare the inflation of the Weimar Republic to the deflation of the US during roughly similar periods and in roughly similar types of economies. Which was more destabilizing? I think you’d be hard pressed to say the US was worse off – in fact, the deflation set the stage for a strong 50+ year run of post war growth.

Gold standards are useful, from time to time, to stabilize economies that are unstable. If the US economy continues down its perilous path, we will need to return to the gold standard. Fiat currencies are useful as long as politicians do not use them to achieve political goals – which they sadly always do. de Tocqueville once said that America would remain a democracy until the politicians figured out how to bribe the people with their own money.

It seems we now have presidents and a Congress which are willing to do this. We are bribed with our own money daily. Print more, loan more, it doesn’t matter what the long term results are going to be….we’ll pay for it with more taxes which will be covered by “growth” in the economy. I don’t know how you can inflate deficits by 10% to achieve 3% growth and make up the remaining 7% because you “grew”. This is one aspect of the bastardization of Keynesian thought that baffles me.

Keynes was astute enough to know that once the government got the economy moving by using deficit spending (which he felt was best done primarily by tax cuts), you then had to balance the budget to burn off the debt or you’d be overburdened.

Our Dear Leader, Mr. Obama seems to have missed that class. Then again, I should say he never had that class. He’s a politician and he’s soaking you and me with “loans” (as you seemed to call them) to companies, which are converted to equity (more likely never to be repaid).

Good luck with that, Rassah. Not sure which college level classes you took, but they seem to be fairly remedial.

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avatar 10 Anonymous

My degree is in Business Finance. I did require at least intermediate-level micro and macro econ classes, but the majority of my studies were in banking, international monetary policy, securities/investments, etc. So no, I’m not an economist by degree or profession; just a business analyst with money/economics as a hobby.

“Modern” economy is different from 30’s and 40’s economy due to drastically increased speed and globalization. Gold production could ALMOST keep up with economic expansion in the 30’s without causing too much deflation. I don’t think that is the case now (considering The Wizard of Oz, it doesn’t seem like it was back then, either).

Inflation “forces” the economy to move. Businesses rush to continue to invest, expand, and create ways of turning their value-losing cash into more cash in order to outpace inflation. Customers rush to buy goods and services, or to invest in businesses, to make sure their money does not lose value either. Deflation would mean people would have an incentive to hold on to their cash and watch it grow, rather than spend it. Deflation also runs the risk of self-feeding stagnation: people hold onto their money instead of buying things, economy slows and available cash declines, cash increases in value even more, people have even more incentive to hold onto their cash instead of grow it, and on and on (until we have a cash bubble, like the tulip mania in Netherlands). Both runaway inflation and runaway deflation are bad, but I believe low 2% to 3% inflation is better and safer than 2% to 3% deflation, and has a way lower risk for making things go really bad.

Also, why specifically “gold” for a standard? Why not silver, platinum, or tulips? I don’t believe gold can increase in quantity rapidly enough to keep up with our economic expansion, so it would lead to severe deflation. Fiat currency allows us to more or less control inflationary and deflationary forces (start or stop the printers, so to speak). We can’t control the amount of gold in mines. Also since we are globalized, and can easily buy other types of commodities or currencies, why even a “standard?” If you are worried about USD, you can buy precious metal ETFs, stocks, or even Euros/Yen. As I see it, due to much more globalized economy, extremely fast speed of transactions, and with way fewer barriers, we already have a somewhat free market for currency, one that competes against other forms of currency and valuables. The only barrier left is free immigration: we can’t easily escape taxes by moving to another country.

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avatar 11 Anonymous

Your reply seems very poorly considered, and here is why.

You may have the degree or background you say you do… but if you did, the concepts you espouse means you got that background by working for, or learning at, the feet of some delusional people.

The concept that “inflation forces the economy to move” is absurd. Inflation devalues currency, which in turn devalues assets. Over time, the only people with assets in extreme surplus are capable of surviving. Inflation erodes confidence and demoralizes purchasers. Even tepid inflation, in the 2-3% range, has a net negative effect on valuation over time. The problem is that well-educated and well-connected people see this, and put their money into good places and this helps them survive. Poorly educated and less wealthy people lose everything. Today’s increase in the divide from top wealth to bottom is not the result of any political policy except for one – the inflationary effects of easy money. It is a left/liberal concept that more money makes things better, including more cash…so inflation has been considered “de rigeur” as part of the management of the economy, for years. It is a bad concept.

Deflation, at 2/3% a year is no more damaging than inflation at 2/3% a year. People learn to adapt and utilize the situations they are faced with. Wicksell once proved that people “adjust” to high interest rates. That is, if we set rates at 8%, it seems high today, but several years from now if they fall to 7 1/2%, it will be a “bargain”. Again, witness to this effect is the high interest rates of the 1970’s, and the fact that borrowing did not collapse. Today, people view rates at 6% as “high”. Since I grew up with 7 1/2 and 8%, I consider 6% “low” by historical standards.

Thus, moderate sustained deflation can be a good thing, because it puts more goods, at a more reasonable price level, within the reach of more people.

Your idea that inflation spurs businessess to invest is also poorly considered. Inflation does force many decisions that SEEM like businesses are spurred to invest, but usually this investment is poorly done and creates an imbalance in markets, because the rush to invest supercedes proper consideration of WHERE to invest. Witness, again, the disastrous results of the business investments of the 1970’s. The US, upon leaving the inflationary environment, had more shuttered factories than before the inflation began, and was forced to reinvest heavily throughout the 1980’s…which was done via massive amounts of borrowing….which leads us to where we are today – on the cusp of a repeat of the 1970’s.

It is a dangerous cycle, and one that only fools would perceive as beneficial, to believe that inflation, even moderate inflation over time, is a good thing. Deflation is, indeed, bad…but only if it is massive, sudden, and then sustained over time. But the US has had deflation from time to time over the last 63 years, and it has not had detrimental results on the economy. In fact, the periods following moderate deflation were high growth. Sadly, there are not enough of these events to create a statistically significant model, primarily due to the ingrained bias toward corrosive inflation.

As to your question about “why gold and why not silver, etc.?” – the answer is that you can use any precious metal. England, for years, was based on silver (the pound sterling, if you’ve done your homework, which you clearly haven’t). The reason why precious metals are used as a basis for currency is the inability to massively inflate their stocks. Consider the “wealth” of Spain during the years of exploration, when huge quantities of gold were expropriated from the New World back to Europe. Spain suffered MASSIVE inflation and slowly lost its prominence as a world power. England, which focused more on manufacture and trade, grew more steadily and more powerfully. Inflating stocks of money, even precious metals, is a bad thing.
The reason precious metals work is because they are in high demand, and the marginal utility of each successive ounce available rises. Since their quantities are limited, as you accumulate your stocks of precious metal, you slowly “pay more” for each amount beyond a certain point. Thus, the rising marginal utility makes it a value determinant par excellence.

In addition, because precious metals are in high demand, they tend to retain high valuations over time. Gold has fluctuated quite a bit, but even during its periods of depression over the last 28 years, it has been considered a “basic” stock of ownership of any asset class….and it has never really gone below the very high price of about $380 an ounce (considering the low price it had in the 1960’s).

Finally, with regard to the supposed differentiation of “modern” versus “current” economies – you simply reiterated what I said without explaining why the “difference” is “more complex”. In fact, as I pointed out, the speed of transaction is cost beneficial for capital flows around the world. This makes economies LESS complex, not more so. That is because the calculations once needed to derive the value of capital infusions has been radically reduced – it’s almost cost-free at this point. For me to invest in a foreign enterprise, my main considerations now are currency exchange and taxation. I no longer have to consider the cost of capital transfers, since that is done with the touch of a button.

You have not supported your case or view very well. I’d suggest reading more economics and spending less time trying to figure out financial angles. While financial angles are useful and important for Wall Street currency and derivative traders, these activities add little economic value and in many ways act as a dead weight loss on economic activity (thank you Warren Buffet for pointing this out to people recently, as did John Bogle).

You may think financial activies, which are complex at times, means that economies are more complex. But you’d be wrong. Economies are based on only a few things:
Agriculture – less complex today than ever
Manufacture – less complex today
Information processing – far less complex
Distribution – far less complex
Finance – somewhat more complex

We tend to take the last portion and say it represents everything else. We’re usually wrong.

avatar 12 Anonymous

reply posted below (4 is max apparently)

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avatar 13 Anonymous

P.S. tier 3 school? Don’t toss around credentials in debates. There are a lot of idiots with doctorates out there, as I’m sure you will agree. I can toss in the fact that I’m a Russian/Italian count, but I doubt it’ll help my argument any, either.

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avatar 14 Anonymous

Nope, it wouldn’t. See, where I come from, we don’t really give a damn about hereditary or political titles.

We tend to respect intelligence that shows through hard work, clear thought, honest and sincere behavior, and general trustworthiness. Others among us are easily duped by titles, however, and fall for the concept that a title means you “know” something they don’t.

Most of the titled people I have met are no better than anyone else. As Joseph Priestly’s wife once said, “I find the conduct of the upper so exactly like that of the lower classes that I am thankful I was born in the middle.”

I’m not sure where you got the Tier 3 school reference – I’ve done a thorough search and I don’t see where I said anything about a Tier 3 school. I did say it seems your economic education is remedial, and I’d stand by that, based on the way you seem to think inflation “drives” the economy. In addition, your concept that all commodities are the same, and thus act in the same fashion reminds me of the Physiocrats concept of economic activity. I mentioned my credentials because I earned them at school, and have applied them over the years. Were it not for my honest and sincere behavior at work, I’m certain I’d be much further ahead financially, but I’m certainly not hurting for cash. Unfortunately, the two things that seem pretty standard in many countries (and the fact that you were impelled to tell me you are a count confirms this) are connections and political stature.

avatar 15 Anonymous

— “The concepts you espouse means you got that background by working for, or learning at, the feet of some delusional people.”

Thanks for letting me know. I’ll make sure to study under more lusional ones from now on (I’m aware of the spat between Business Finance and Economics departments btw).

Asset value is relative (to other assets). I’d like to know how inflation can make an asset value drop, since by definition, inflation means that an asset is worth more in currency as time goes by. Wouldn’t the asset be just as valuable in relation to other assets?

Regarding high interest rates, wouldn’t deflation cause interest rates to drop? Also, investment returns would have to compete directly with cash. I don’t know if that’s a good thing. I also don’t know how it’s possible to control deflation with a locked commodity (such as gold), so I don’t know how one would avoid the problem of hoarding. Again, I view currency as just another commodity.

Regarding where to invest, what you are essentially proposing is for investors to really slow down and spend a lot of time on research before putting their money into things they believe will provide good returns. I don’t think inflation alone is a driving force for investing quickly. Beating your competitors is an even bigger force, and no doubt was the one behind the recent bank collapse. As for the example of “shuttered factories,” it’s a deceptive one. Factories were shuttered for the same reason many farms were closed decades earlier: technological progress.

— “In fact, the periods following moderate deflation were high growth.”

Why was there no growth during the deflation, and only once inflation returned?

Regarding your precious metals example, marginal utility rising IS deflation, isn’t it? As more people hoard it, its value rises. If you want to be rich, make everyone hoard it. I suspect eventually owning “cash” will become too expensive for some people, and they will come up with some other form of currency (copper perhaps?). In the end, currency is once again just a commodity. The main difference is that it’s a more convenient one to trade with. Again, you no doubt already know this.

Regarding gold and precious metals, gold has retained its value at about the level of USD over the last few centuries. Investing in gold in 1800’s would have given you a 2% return over the course of the years, which really sucks by investment standards. Then again, gold prices are very much influenced by cash, so it’s not really fair to use as an example of “what’s better and what’s worse” when they are as closely inversely related as they are.

You were the one who said that I said modern economies are “more complex.” I just said they are different, specifically in regards to being able to support a gold standard. And perhaps from a purely macroeconomic point of view, things are easier, since they flow more like the neatly set-up models with fewer variables, but from a business view point, there are a lot more things to consider when running today’s businesses than those of 20’s and 30’s, due to increased competition, needed information, sources of said information, knowledge of international laws and economy, and the required technologies, especially since modern businesses are more horizontal in structure than vertical, and require far more communication, networking, and research; so, at least to me things seem more complex, but again, just a hypothetical answer, since I did not pose this opinion in the first place.

I would like to know, if we do go to a gold standard, how can we prevent runaway deflation, such as the type people were worried about in the 1890’s? And how can we prevent a gold bubble, which can easily be caused by people simply realizing that it’s just a metal with limited uses, and is not really all that convenient to trade with, after all?

P.S. what financial angles are you talking about?

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avatar 16 Anonymous

Inflation causes the REAL value of common assets to fall relative to other assets. What is the most common asset people hold? Money. We all have bank accounts. If inflation doubles because of monetary policy, then the money I have in the bank is worth 1/2 what it was worth yesterday – I think even you can figure that out. So my #1 hard asset – the one thing EVERY common person holds – is worth much less than it was, because it buys 1/2 as much due to money driven inflation. The prices of other assets (say stocks), while they may RISE due to money driven inflation, will fall in real terms as other assets rise in price (such as homes). Again, if you did your homework and reviewed the 1970’s, as I suggested, I wouldn’t have to explain this to you. Clearly, you do need to spend some time with “lusional” people.

Yes, interest rates would drop with deflation. But that isn’t the same as “easy credit”. Interest rates falling in a deflationary environment are a result of low lending demand. Interest rates falling in our current, inflationary, environment is the result of the Fed lowering interest rates (or providing easy credit). It’s almost like printing money, but not quite – it’s the “creation” of money by purchasing Treasuries – increasing money supply and forcing down interest. This is not a supply/demand driven equation – it’s entirely politically motivated. Furthermore, gold can contain the worst aspects of inflation and deflation because there is a limitation on available currency. If the government has 1000 ounces of gold at $1,000 an ounce, there is $1,000,000 in available currency….no more, no less. You cannot CREATE more currency, except by increasing the volatility of money, which is the direct result of increased economic activity. So, the price of gold can theoretically rise (thus allowing the government to release more currency into circulation at some point), but is driven by economic activity, not political fiat. I hope you can understand the difference in these different drivers.

Factories are shuttered for many reasons. Sometimes it is progress, I agree. But sometimes the drive to invest is too fast because of reasons that are stupid. I don’t suggest that investment take time and research that is uncalled for – but I have worked for enough companies to tell you that inflation, as a driver for investment (as you suggested it is) is the WORST guide. Rather than focus on shuttered factories, focus on those that were kept open (such as autos) that SHOULD have been shuttered, but the false hope of inflation kept them open? The point is, inflation guides POOR investment decisions, it DOES NOT guide good ones. Which means growth is in areas of poor return, overall.

You have the equation backward – demand driven inflation (which is what you refer to, and is not what I referred to) is a result of GROWTH DURING or FOLLOWING ON a period of deflation. As people saw prices drop modestly, they started spending…which drove growth, and in turn caused demand driven inflation.

I’ll pause here in my response to point out that you seem to think there is only one kind of inflation. There is not. There are several, and right now we are facing the worst kind – currency creation inflation. That is, the doubling of the amount of currency in circulation, thereby artificially increasing prices and devaluing currency held. It makes everyone poorer, not wealthier, and destabilizes economies.

Hoarding is NOT marginal utility rising, nor is it deflation. It’s clear you’ve missed that class. I suggest you go learn this. The concept of hoarding creates demand driven inflation (purchases of an asset class for the purposes of holding, thus inflating the price of the class), then leads to deflation (once the price is too high, and people assume they have enough, they no longer trade the asset, allowing prices to fall as fewer people chase the asset). Currency is a commodity, but since there are many kinds of currency available, you are focussing on one while ignoring others. You can’t just make a blanket statement that a commodity is a commodity and therefore they all behave the same way at the same time. They do not. Hoarding of an asset class “edges out” investment and is a behavioral defect that is typically brought on by external shocks (such as currency creation) in order to preserve value. A good example is this – I see the government printing money with abandon, so I buy Gold as a hedge, knowing that as more money is printed, Gold’s price will rise. I “hoard” it, as you say. I do not hold cash. YOU hold cash, which each day is worth less and less as more money is printed and inflation rises. Are you beginning to see why misallocation of resources occurs when governments print money as we are right now? Does it make sense to you? People “hoard” because they fear the value of currency (which is a declining value commodity) is falling. The “value” of what they are “hoarding” is rising in current currency terms, but is flat in real terms. Currency value, however, is declining. In addition, other commodities, like food, may come under price pressure as misallocation causes people to stop buying food and buy more Gold. Or they stop buying cars and buy more Gold. The external shock of government interference becomes the primary driver of investment decisions, and they are usually pretty bad decisions.

On the other hand, if money supply was pegged to precious metals, misallocation of resources would be less common because any increase in the value of Gold would be based on the increased economic activity driven by monetary velocity. I need a car, you need a car, I need food, you need food. As we consume more, the money circulates faster, prices are driven by REAL economic activity.

As you point out, it’s not fair to look at precious metal prices and their return. This is another example of how currency inflation devalues some assets while increasing the value of others. US Currency, over the last 100 years, has been a WORLDWIDE RESERVE CURRENCY. This means every nation has needed to buy dollars and hold them in reserve for purposes of trade and financial transaction. Over most of the last century, this has caused many countries to SELL Gold – thus acting as a depressant on precious metal value. Over periods of time the printing of currency acts as a depressant on some asset classes. HOWEVER, once the printing of money reaches its zenith, and the unraveling of excess debt (as driven by easy money) occurs, there is a flight to value – back to precious metals. There are points in time, such as the late 1970’s, and to some degree today, where the returns on Gold have been far in excess of its relative value… DUE TO excessive printing of money.

What you earlier called inflation driving economic activity is really a false concept. Inflation was driven by easy money, which created debt driven economic activity, which caused misallocation of resources toward “things” that don’t retain value (cars, etc.) in excess of natural economic need. Over time, this debt driven activity has to be redressed, since the natural “anchor” of precious metals was removed. At this point, the “anchor” becomes the area of “misallocation” of resources and there is a flight to quality and value… thus depressing economic activity.

While inflation can seemingly “drive” economic activity, it is never a natural driver. It is the result of poor decision making and unnatural purchasing behavior based on the false promise of ever increasing prices and value. This false promise is based on the creation of currency, which is slowly undermining its own value, because it has no innate value.

There is no difference in economies today or 100 years ago. As I pointed out, they still all rely on the same natural forces they did 100 years ago – so I’d like to know why you think they’ve changed.

What has changed is the political motivation behind the management of finance and economics. Thus, politicians believe that THEY control economic outcomes, which is a false concept, which means THEY have to do something when economies seem to falter. 100 years ago, depressions and recessions were more frequent, but shorter, than they are today. You ask how we can solve problems – I reply we cannot “solve” anything that is part of the economic cycle. All we can do is create an environment in which excess is punished naturally (without political activity) and positive economic activity generates its own reward. We cannot prevent “bubbles” based on irrational behavior, but we CAN prevent “bubbles” based on currency creation.

And while I may be using the term “complex” – I used it because it is a more defining term than “different”. I fail to see how economies are different today, except that the service sector is larger than manufacturing, but that isn’t necessarily a bad thing, nor does it require vastly different solutions to “problems” (I fail to see how a down economic cycle is a problem, however…but I hear that alot from people who don’t understand economics).

What are financial angles? I see you haven’t ever had to determine the cost of doing business or generate cash for a company. Is it better to borrow or raise capital? Should you option stock or create more? Can you drive the market, and help your capital position, with a well timed press release, or can you let market forces act on their own to support your position? Can you use potential revenue generation (via sales forecast) to manipulate the stock price or the terms of a loan? Many of these things, or at least the way they are done today, are new to financial markets. If you’d like to see how they were done in the past, I’d suggest reading “Reminisinces of a Stock Operator” Jesse Livermore was a well known financial manipulator, but he was also interested in helping the average man access the stock market. Sadly, the politicians ignored his advice on how to make the markets more transparent, and all they did was improve the rigging so it benefited themselves more.

I’m surprised you haven’t studied economic history more in your field. The concept that inflation causes growth is, well, so quaint… but really – you didn’t truly believe that, did you?

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avatar 17 Anonymous

Apologies for oversimplifying things, but don’t put words in my mouth. Inflation encourages people to put their cash to use instead of investing in it (hoarding). Never implied it drives the economy (we both know that’s ridiculously stupid)

Actions and words define a person, not titles or degrees. My title to you is as meaningless as your degree is to me, since I base my view of you on what you say, not what degree you have. Whether you’re aware or not, there are quite a few biologists out there with doctoral degrees who think evolution is a sham. Again, meaningless without proof. You mentioned your credentials to try to impress me, or give more validity to your statements. They did neither, since I am more interested in what you had to say than whom you learned it from. No idea where you got that I think all commodities are “the same,” or what you even mean by that. I do believe commodities have a value in relation to other commodities (with many complex variations and interplays), and I believe currency is a government manufactured commodity. Same, though? No.

I think our economy changed because it is easier to transfer information and objects around the world, it’s easier to keep track of vastly larger amounts of data (economic, financial, supplier, customer, etc), and it’s much easier and faster to exchange things of value (money, commodities, IOUs, etc). That change is why the big three in Detroit are dying (large vertical businesses), and small startups are exploding (dynamic horizontal businesses). The main two changes, as I’ve mentioned, are globalization and speed. Regardless of economics’ natural laws, these two things were not a large factor in the 30’s and 40’s. (P.S. I REALLY think GM and Chrysler should have been allowed to die or just be bought out by someone else, too, since government intervention means unfair competition for other smaller car companies)

Regarding the main point, gold; the reason gold standard really bothers me is because I feel it would be way too similar to last year’s oil spike: people hoard it, driving the cost of it up artificially. At least oil is renewable; gold is not quite as much. If gold were the currency standard, people hoarding gold would make its value go up. Food would cost less and less gold comparatively. That’s deflation. Should the bubble pop, or another type of currency enter the market, the gold, having almost no utility value, would crash, and food would cost more and more gold. Inflation. We would essentially be in a perpetual cycle, driven by people not smart enough to realize what they’re doing. Am I incorrect in understanding this? Also, our economy, and our population, has expanded exponentially in the last few decades. With a limited supply of gold, we would have less and less gold per person. Scarcity would again lead to deflation (price of money/gold going up). Even with banks using low reserve rates and re-loaning the money, I can’t see something like gold growing fast enough to support this, can you?

Most of the rest of your post was the same stuff I learned in my econ classes, so thanks for the refresher (I’m serious). And yes, I know of the crash of 1970’s, but a hyperinflation argument to show that all inflation is bad is a bad argument. The idea of another hyperinflation hitting US is not one I’m too keen on either (most of my “cash” is in stocks and ETFs though). Nor am I arguing for printing money willy-nilly, but somehow I get the feeling that that’s what you think I’m doing.

Also, you completely misunderstood my last question. You were implying I was talking about this from financial angles. I wanted to know why you believed that.

And yes, the concept that inflation causes growth is pretty stupid. A bit insulting that you would attribute that to me, since there’s quite a difference between growth and velocity of money. Money can move just as quickly to drive us into a pit. But a high velocity is still better than low, in my opinion. In this case, it’s probably really just an opinion, since things moving fast v.s. slow is really personal preference I think.

P.S. I don’t think this is the place for this discussion. Let me know if you want to take this in private.

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avatar 18 Anonymous

Seriously? A US News Ranking used to belittle my Master’s qualification? You do know those rankings are often called into question based on payoffs, right? More importantly, as an undergrad institution, I don’t know many people who seek it out. As a graduate school, particularly for Economics, it has produced some Nobel Prize winners and attracted several to teach (I had 2) as well. Trying to diminish my qualifications with a ploy as pathetic as calling the New School “Tier 3” is laughable.

You seem to think there is an issue with gold as a reserve. There isn’t. And hoarding isn’t a problem as long as the government acts to increase money supply by only releasing as much currency as is needed based on the current relative value of gold. That is – only as much currency is released as the government has in reserve, and currency in circulation is only increased via the purchase of gold at the going rate. This would eliminate the issue of “hoarding” as an irrational behavior while maintaining the value of gold as a reserve. Sadly, most governments which have used gold in the past as a reserve have outlawed its ownership and monopolized the market, just as they are doing now with fiat currency. This is a flawed concept.

Consider this – if government increasing currency in circulation is a good thing, then why is cournterfeiting outlawed? In theory, it’s because “bad money drives out the good”, implying ONLY government issued scrip is of value. Meanwhile, by engaging in “easy money” policy, the government is essentially creating “bad money” by encouraging irrational behavior regarding currency. In a sense, “easy money” is essentially a legal form of counterfeiting. Why not just hand people printing presses and be done with it? This would increase currency in circulation, eliminate debt, and (as you said) the resulting inflation would “drive” the growth of the economy. I attributed that to you because you actually said that – go back and reread your post.
Furthermore, your discussion points were all about how inflation was better than deflation, which is simply not true, and I have pointed this out from a variety of angles. Both are bad in extreme, but in moderation inflation is always worse while deflation is not.
Before I engage in my final discussion, it’s fair to also point out that increasing velocity of money is good. Why? If this is what causes inflation, it’s demand driven inflation, meaning inflation as a result of real economic growth. On the other hand, if inflation is the result of printing money (regardless of whether it’s willy-nilly or not), you are NOT increasing the size of the economy via growth. You are ARTIFICIALLY increasing the size of the economy in current currency, but actually there is NO CHANGE in real currency terms. This means you’ve created inflation without true growth. Why doesn’t this show up in statistics? Well, if you took a refresher, you’d see that the government “rigs” the measuring standards. They impute a “deflator” of price to give GDP a “real” increase or decrease based on underlying inflation. But if they’ve lowballed inflation (which they do regularly), then they are overstating real growth. Which explains why debt has exploded over the last 20 years….because there hasn’t been REAL growth – it’s all been based on easy money.

This is not an out-and-out support for a gold standard. Fiat currency has a place in economic management, particularly in times of innovation, when there is a need to reflate based on the growth of new markets. However, once a crisis situation has been reached (we reached that point many years ago), there is a need to shift BACK to a gold standard to “reanchor” currency and stabilize financial markets.

More interestingly, read this article (plucked from the wires moments ago), which fully support everything I’ve said. We are not seeing any “green shoots” as our politicians suggest. Those are hopeful lies based on reflation of the currency bubble. Look particularly at points 6-8, which are directly related to the issues of mismanagement of currency in circulation that I have discussed at length:

The recent buoyancy of the financial markets has created a sense of calm about the economy. The overall sense of panic has gone.

But there’s still a wariness in the air, a feeling that the fragile “green shoots” of the recovery might be stomped out by some new crisis. People are waiting for the next shoe to drop.

Here we suggest 10 things that might stymie our recovery. Some are purely financial events. Others are geopolitical. And one involves these little piggies.

Did your favorite nightmare scenario make the cut?

1. Swine Flu Second Wave: Typically, influenza outbreaks come in waves, getting worse with each one. The very ease with which we seem to have survived the first wave of swine flu may make us vulnerable to a horrific second wave.

2. Commercial Real Estate Collapse: Various commercial real estate deals face trillions in refinancing obligations over the coming years. But the market is practically closed, ensuring massive bankruptcies and restructuring.

Why are lenders so freaked out? Because existing loans are going sour at a pace unlike anything we’ve seen in history. Because of that, even commercial real estate properties with strong cash flows are finding financing extremely difficult to come by.

3. The Option Adjustable Rate Mortgage Explosion: Anyone referring to the “subprime crisis” has got to get with the program. The subprime wave of defaults is basically over. Now the question is, what about all the other types of mortgages? You know, Option ARM, Alt-As and of course, good old fashioned prime mortgage.

The big wave of Option ARM resets has yet to come, and given the drop in home prices, refinancing won’t be realistic. Let’s hope the homeowners can afford their new monthly payments.

4. Global Food Crisis: As we saw last year, the global food supply teeters on the edge of adequacy. Any serious shock–floods in the Midwest, a war in Asia, social unrest in China, political upheaval in Thailand or Egypt–could result in shortages in countries that import large amounts of their food.

5. Israel Bombs Iran: The Obama administration’s openness to the Iranian regime may have the perverse effect of emboldening its nuclear ambitions. Very likely, the fears of the nuclear Iran are over-stated. It would probably behave like most members of the global nuke club, cowed by its own destructive power into behaving responsibly.

But Iran isn’t the only country to worry about in the region. Israel may not be willing to tolerate a nuclear armed Iran, and may choose to strike out to destroy Iran’s nascent nuclear capabilities. This would obvious raise tensions throughout the Middle East. At the very least, oil prices will likely spike and remain elevated following any military action against Iran. This, in turn, will slow the global economy.

6. A Wave of Municipal Defaults: Historically, cities and states don’t default on their loans very much. But as Warren Buffett pointed out, historical results don’t mean jack because muni insurance wasn’t around. Unless it gets a bailout, California may go bankrupt, causing the muni market to seize up, bringing public works and spending to a halt, kneecapping GDP.

At that point, with no ability to borrow, the other states will rush to default themselves, sparing their taxpayers any more pain.

7. Another Bank Run: It seems unlikely, given the government’s implicit guarantee of the banking sector, but it’s always possible that investors or lenders could lose confidence in one of the banks again, prompting a financing run a la Bear Stearns.

If this happened, we’d be back to square one with all the confidence and bailouts since Lehman’s collapse — only, the government would have fewer bullets left in the gun.

8. Runaway Inflation: The Federal Reserve seems confident that it can “land the recovery.” Is it right?

There’s good reason to be skeptical that the Fed will be able to reduce the monetary base before it floods out into the economy, driving up prices and destroying savings. For one thing, the Fed has never really been very good at doing this. By the time the Fed realizes that inflation is taking off, it may be too late.

9. North Korean Missile Launch: Wee dictator Kim Jong II has lulled the world to sleep, performing missile tests on a seemingly daily basis. What was once a cause for alarm now barely merits a bulletin on CNBC. In fact, the dollar has rallied on the nervousness.

But his neighbors in China, South Korea and Japan are freaked out and an actual war, or genuine provocation, could wreak havoc on far eastern trade. This might cause investors to flee towards the dollar, but it would be terrible for markets and economic activity.

10. Chinese Financial Crisis: Most economic discussion of China these days is about how dependent the US government has become on China buying Treasury bonds. But China has lately learned that its own economy is dangerously leveraged on foreign demand for Chinese manufactured goods. The global downturn has helped expose the fragility of the Chinese economic miracle, and worse might be coming.

A collapse of profits in China could very well spark a banking crisis, much like the collapse of real estate prices did to US financial institutions. Very little attention has been paid to the fragility of the Chinese financial system, which is dominated by large, slow, non-transparent, often corrupt state-run banks and centralized decision making. Slowing exports could be the tide that goes out and reveals which Chinese banks have been swimming naked. And the Chinese financial system, which has almost no effective securitization and therefore high concentrations of financial risk, is much less prepared to deal bank failures than the US was.

Of course, this will be bad news for the US. Any financial crisis in China will hurt the demand for our debt, both public and private, driving up interest rates and slowing down the US economy. This, in turn, would reduce demand for Chinese exports, exposing shaky banks to risk of collapse all over again.

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