by Bill Bonner, Chairman, Bonner & Partners
We're back from South America. We're toughened up. But we're more puzzled than ever.
Our horse threw us last week. Maybe that addled our brain. It certainly toughened us up a bit more. But then we learned about the hard life of the poor cattle...
High in the mountains there are pastures. Cattle live there – almost wild. They are the cattle of the local people, but they are so tough they are nearly unsaleable. And they barely survive anyway.
Gustavo explained:
"Most of the calves die. They are killed by the puma or the condors. The condors are the worst. They attack in groups. So while the mother runs one of them off, the others assault the calf. They don't try to kill it. They just eat it alive. They go after the soft parts. They eat the eyes and the tongue. And they attack from the rear too, pulling out the intestines. Then, of course, the calf dies and they eat the whole thing."
Tough Living
Business... investments... climate... food – everything is tougher in the Andes. Including the housing market. Say, for example, you want to buy a house. In the little towns of Argentina – as in much of the undeveloped world – they start a lot of houses... but never seem to finish them.
The village of Molinos, near the ranch, has dozens of houses with no roofs... doors... or windows. In the town of Cafayate, too, houses seem to go up little by little. Walls go up. The roof may be put on years later. You see rebar sticking out... and many walls without plaster.
Why?
Lack of credit. People can't borrow, to buy or build. Instead, they build whenever they have cash. People build houses with paycheck money.
Credit makes it possible to build more efficiently. You borrow the money... build your house... and then pay off the loan over the next 20 or 30 years.
Or you never pay it off. You may refinance. Or you may sell to someone who also takes out another mortgage. This is where it gets interesting: Effectively, the lender owns the property... and you pay "rent" on it to the mortgage lender.
The New Credit Economy
The curious part of this is that the banks – who lend for mortgages – don't have any money to lend in the first place.
The modern fiat money system – with the Fed as regulator-in-chief – allows banks to create money (credit) out of thin air without setting aside any meaningful reserves. (For instance, by 2007, US commercial banks held just $73.2 billion in reserves and vault cash against loans of $11.9 trillion – for a reserve ratio of just 0.6%. In 1945, US commercial banks had a reserve ratio of 12%.)
These days, banks don't lend pre-existing money. When they lend, they create money that didn't exist before. And over the last 30 years, the US economy has come to depend on it.
As former World Bank economist Richard Duncan explains in his book The New Depression, total credit in the US surpassed $1 trillion for the first time in 1964. Between 1964 and 2007 – 43 years – it increased 50 times to $50 trillion.
This credit helped the economy expand. It allowed borrowers to command the resources needed to build their houses. Under the gold standard borrowing was anchored to available savings. But not in the new credit economy. Today, the sky's the limit!
Then borrowers either pay the banks back the money the banks never had... or the banks become permanent "rentiers." Bankers collect mortgage payments. And since few people ever fully pay off their mortgages, bankers get their "rents" almost forever.
Pretty sweet, no?
In other words, this is more or less how the US economy grew over the last three or four decades – using money from nowhere, which was turned into real assets for the financial sector.
The financial industry accounted for only 10% of the nation's corporate profits in the 1960s. By 2007, it was bringing home 40%.
Ben Bernanke was hailed as the "Hero" of 2008-09. By preventing a correction, what he was really doing was saving the bankers' hides... and protecting the system that made them rich.
Now, Janet Yellen has taken up the cause of the poor and unemployed – as though lending more non-existent money will make them better off!
At a speech in Chicago in March, Janet Yellen waxed lyrical about the plight of America's unemployed.
In preparation for her speech, Yellen talked for more than an hour by phone to three Chicagoans struggling to find work. Then, like a presidential hopeful, she weaved their heartbreaking stories into her speech:
Never before has the nation's top central banker delivered such a tear-jerker. And never before has the nation's top central banker gone to such lengths to personalize the plight of the unemployed to justify Fed policy.
What's odd about the Fed's focus on jobs is that the current unemployment rate of 6.3% is below the 6.4% average the US economy has experienced since 1970.
It's also below the 6.5% target the Bernanke Fed set for keeping the federal funds rate (the rate at which banks lend to each other overnight and the key interest rate in the country) at the "zero bound."
Here's what the Bernanke Fed had to say last year about its unemployment target:
We wonder what the market reaction would be if the Fed had kept to its word and started moving the federal funds rate higher once the unemployment rate fell to under 6.5%.
Would US stocks still be rallying? Would the yield on the 10-year Treasury note be just 2.6%... and the yield on the 2-year note be a mere 0.4%?
Unlikely.
The Fed talks a big game on unemployment... and why EZ credit is the key to getting Americans back to work.
The truth is the Fed manipulates the price of credit as it sees fit. When certain objectives are met, it simply changes them to keep the credit economy booming.
Dorine, Jermaine and Vicki are useful PR tools. But Janet Yellen's "jobs crusade" is just a fig leaf to hide the real reason credit needs to stay ultra cheap: Without it, the whole economy is under threat.
