As long as no one pays too much attention to the details…
by David Galland, Casey’s Daily Depatch
Posted originally Nov 9, 2010
EVER SINCE NIXON YANKED GOLD OUT FROM UNDER THE U.S. DOLLAR in 1971, the world’s nation-states have operated on a pure fiat monetary system. The great advantage of a fiat money system is that as long as no one pays too much attention to the details, a government can create money out of thin air – usually in support of social spending programs designed to win support from the grateful plebes.
All to the good – until it isn’t. More on that momentarily.
In any event, armed with the power of the printing press, the nation’s governments – all with the best of intentions, I am sure – began taking on bigger and bigger spending commitments, and because it was also politically pleasing, began papering over even normal business cycle gyrations. Unfortunately, kicking the can down the road didn’t really resolve much of anything, but rather caused the dislocations to become ever larger.
Skipping to the present, the consequence of these actions is a world awash in historic levels of debt, on both the individual level and particularly the governmental level.
Of course, individuals who find themselves deep in debt can try to cure the situation by reducing their spending, taking a second job, or even declaring personal bankruptcy in order to begin the process of working things out with creditors.
By contrast, governments don’t actually produce any wealth and so, when faced with mountainous debt loads as they are now, have a very limited range of options available. For instance, they can raise taxes – but that’s counterproductive in a struggling economy. As for belt-tightening, decades of establishing large bureaucracies and taking on hard-coded obligations aimed at pleasing the citizenry – mandatory spending programs such as Medicare and Social Security – make cutting the budgets increasingly more difficult. In fact, thanks to simple demographics, the mandatory spending is only set to rise from here – and significantly so.
So here we are, with the U.S. government – long the provider and protector of the world’s reserve fiat currency – up to its eyeballs in debt, and piling on more by the trillions.
A moment ago I made a passing comment that fiat systems work as long as no one pays too much attention to the details of the government’s monetary actions. Generally speaking, this fact ensures that governments are nuanced and even somewhat reserved in their money printing. If they become so extreme that the market begins to notice, the bond vigilantes will demand higher and higher interest rates.
Unfortunately, the scale of the problems now facing the U.S. have reached the point where…
• The nation’s debt and mandatory spending obligations are intractable. Simply, there is no conceivable way that the debt can be paid and the obligations met, at least not through any “normal” government operations.
• Evidence that this is true can be seen in that it is now accepted as a fait accompli by Democrats and Republicans alike that annual U.S. budget deficits approaching $1.5 trillion will be the norm for years into the future. A few days ago, I ran an interview with a newly elected Tea Party congressman in which he states that even the Tea Party has no interest in touching Social Security and Medicare spending.
Tack that politically sensible but economically unviable position onto the Republicans’ Pledge to America that explicitly excuses military and homeland security spending from further scrutiny, and you end up with exactly zero chance of making even the slightest of dents in runaway government spending
• A lot of people are paying attention. In fact, pretty much everyone is watching the desperate follies of the U.S. government. The watchers may hope for the best, but if the prices of gold and silver are any indication, they are beginning to suspect the worst
• Desperate to avoid the debt death spiral that will be triggered by rising interest rates, the Fed has announced that even if no one else shows up at the almost daily auctions of Treasury debt, the Fed will. By doing so, Bernanke & Friends hope to lull the watchers back to a less vigilant posture. So far, it is “sort of” working… the watchers are buying the argument that as long as the Fed keeps buying Treasuries, rates should remain dampened.
It is, however, our contention that this charade cannot last. A sentiment shared, it is clear, by the number of big money players recently piling into sound money – the precious metals.
There are a number of big questions yet to be answered, but the core issue surrounding the ability of the U.S. government to meet its obligations using normal operations is not one of them. It can’t. Therefore, by definition, it must either default or attempt to debase the dollar to the point where fixed-amount obligations erode back into a range where they can be paid.
[Apologies to David Galland for the change in headline and minor editing of the original article. – Aurick]