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"Understanding the Great Depression & the Modern Business Cycle"
 by Dan Blatt - Publisher of FUTURECASTS online magazine.

AT LAST! An analysis of the fundamental causes of the Great Depression and the current business cycle without ideological clap trap, theory confirmation bias or political spin.

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Table of Contents & Introduction

August, 2011
www.futurecasts.com

FUTURECASTS JOURNAL

Lies, Damn Lies, and Projections

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The Keynesian long term:

  There is no "long term" during Keynesian policy times. There is not even a medium term. Promises to cut spending and budget deficits in the medium and long term are a lie. Plans for such cuts are works of fiction.
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Promises to cut spending and budget deficits in the medium and long term are a lie. Plans for such cuts are works of fiction.

 

By the fourth year, some of those houses of financial cards will have grown into great cathedrals of debt the collapse of which will threaten the entire financial structure.

  Keynesian policies quickly become trapped in a never-ending short term. The need for aggressive interventions to deal with the instability and economic crises caused by Keynesian deficits and monetary inflation quickly becomes interminable.
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  It may be all right for the Fed to force interest rates down for a few months during some crisis period - or perhaps even for a year. However, after a year or two, the economy naturally adapts to the low interest rate environment. Those who are prone to take substantial risks with borrowed capital soon erect numerous houses of financial cards. By the fourth year, some of those houses of financial cards will have grown into great cathedrals of debt the collapse of which will threaten the entire financial structure.
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  After several years of Keynesian budget deficits and artificially low interest rates, Keynesian policy periods will always involve economic crises caused by those policies. The austerity recession that as a practical matter becomes inevitable whenever the Fed allows interest rates to rise to market levels - as inevitably it must - will always act as a deterrent to monetary austerity. The "medium term" becomes a constantly receding horizon - the end of the rainbow. By the time you get there, there is no there there any more.
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If Bernanke fulfills his promise, price inflation will be RAGING at much higher rates than anything expected by establishment economists, talking heads or media.

  Now Fed Chairman Bernanke has pledged to remain in the short term. He has committed  to monetary inflation and artificially low interest rates through the 2012 election period (What a surprise!) and well into 2013. Don't be surprised if he trots out quantitative easing III to try to juice up the economy for the election.
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  Bernanke has committed to drive the economy determinedly back into the Keynesian inflationary morass of the 1970s that Fed Chairman Paul Volcker extricated the economy from at such great cost in the 1980s.  If Bernanke fulfills his promise, price inflation will be RAGING at much higher rates than anything expected by establishment economists, talking heads or media.
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The Fed provides a buy signal for gold whenever it pushes interest rates substantially below market levels, and a sell signal when it is forced to permit interest rates to rise back towards market levels.

  If Bernanke is true to his word, gold will soar. How high can gold go? The limit is the same as the limit of monetary inflation that Bernanke can indulge in. There is no limit to the fiat currency that Bernanke can create.
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  Keynesians hate gold because it is the most sensitive and immediate indicator of the failure of their policies. It is the most straight forward way for those who reject Keynesian dogma to protect themselves from Keynesian price inflation. Ironically, the ability to export gold to support the dollar in the 1960s was responsible for the only period of apparent success for Keynesian policies - and by the time the gold ran out, the dollar and the nation's finances were basket cases.
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  Any economist who disparages gold as an investment during Keynesian policy times is incompetent. Any investment advisor who failed to advise the inclusion of some gold in investment portfolios during the last decade is incompetent. There may be better investments available - silver for one has outperformed gold - but gold is a no-brainer. The Fed provides a buy signal whenever it pushes interest rates substantially below market levels, and a sell signal when it is forced to permit interest rates to rise back towards market levels. Whenever rates are pushed artificially low for periods in excess of a year, gold will rise.
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  Gold bugs, too, frequently prove incompetent. Gold, like all inflation hedges, becomes bubbly during Keynesian inflationary times. Professionals may attempt to take advantage of the last surges, but amateurs should be off the dance floor as soon as the interest rates begin to rise.
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  Interest rates are in fact rising worldwide as nations grapple with the price inflation consequences of Bernanke's heedless inflation of the world's primary reserve currency. The U.S. balance of payments deficit is flooding the developing world with dollars. Bernanke is thus causing instability worldwide.
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  Nations can protect themselves from much of this price inflation by allowing their currencies to appreciate. However, while modest rates of currency appreciation are clearly beneficial, currency volatility in excess of a few percent per year constitutes a massive increase in commercial risks that can reach intolerable levels.
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  Interest rate increases in important developing nations like China and India can affect commodity prices - including the price of gold and oil - if sufficient to materially slow or reverse economic growth. However, gold will trend higher in terms of dollars as long as Bernanke remains committed to the debauching of the dollar. 
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  Price inflation is at about 4% through the first seven months of 2011 in the U.S. as a result of three years of Keynesian monetary stimulus since the Credit Crunch recession. There is considerable suspicion that the government's inflation index is as phony as its budget statistics and would be much higher if calculated according to the 1970s index. This may make it quite interesting as the Fed tries to determine the rate of "real" inflation adjusted interest rates that are so vital for rational monetary policy.
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  The markets are responding as forecast by FUTURECASTS. As explained by FUTURECASTS, it has historically taken three or four years for price inflation to manifest itself in the U.S. after determined Fed efforts to maintain artificially low interest rates.
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    Repeated assertions by Keynesians that price inflation is no threat while there is substantial unemployment are once again revealed as either stupid or lies - or lies that are stupid. After just a few years, monetary inflation doesn't prevent high rates of unemployment, it always causes high rates of unemployment.

  1. Price inflation surrging as high as an 8.3% annual rate as measured by the GNP deflator afflicted the Depression-ravaged economy during the first six months of 1937 after four years of New Deal monetary inflation. This occurred despite unemployment rates in excess of 14%. Those who criticize the monetary and budget policies that caused the 1937 relapse and its 19% unemployment rate somehow never seem to mention the price inflation surging above 8% as measured by the GNP price deflator that forced those moves.

  2. The impacts of the monetary inflation policies of the Kennedy/Johnson administration were absorbed by the export of gold - until the gold began to run out in 1968 and the gold exchange system began to collapse. The result was a rising rate of price inflation and the terminal disarray of the nation's finances.

  3. It took only a few years of Arthur Burns' monetary inflation policies to send price inflation, interest rates - and unemployment - soaring into double digit territory practically all at the same time at the end of the 1970s.

  4. Price inflation surging above 4% after four years of Greenspan's  low interest rate policies following the dot-com bust forced a rise to over 6% for the Fed's basic interest rates and quickly started the popping of credit bubbles that led to the Credit Crunch.

It is no longer possible - as a practical matter - to unwind the price inflation impacts without a monetary austerity period that will produce an austerity recession of significant proportions.

  Now that the economy is entering the fourth year of rapid monetary inflation, it is no longer possible - as a practical matter - to unwind the price inflation impacts without a monetary austerity period that will produce an austerity recession of significant proportions. All assurances to the contrary are stupid or lies.- or lies that are stupid. Soft landings occur only in the rationalizations of economists completely divorced from reality.
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  Thus, as FUTURECASTS has warned since its first issues, prudence dictates that all economic and political entities build sufficient reserves to survive a recession similar to that of 1980-1982. The vast hoards of cash on corporate books are a comforting indication that at least some managements are heeding such advice.
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The Fed's strong dollar policy:

  The strong dollar policy is a lie.
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The fiat 1970 dollar is now worth about 18.

  The dollar that the Fed took charge of at the close of World War I is now worth about a nickel. Even if we ignore the impact of World War II and Korea, the loss of value has been extraordinary. The fiat 1970 dollar is now worth about 18. Either the U.S. has turned its monetary policy over to a bunch of incompetents or a bunch of liars - or a bunch of liars who are incompetent.
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  These same monetary officials routinely climbed Capital Hill during the 1950s to solemnly assure Congress of their undoubted capacity to keep the silver in U.S. coinage. During the 1960s, with equal solemnity, they affirmed their capacity to keep the dollar as good as gold. Those assurances were soon abandoned without a qualm. A host of economists and other academics rushed to assure the public that this was all for the best and would facilitate the successful Keynesian management of the economy - as Keynesian policies drove the economy into the inflationary morass of the 1970s.
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  Solemn assertions of intent with respect to a strong dollar policy have been persistently expressed by Fed and Treasury officials throughout the nine decades of Fed monetary policy since WW-I. Maintenance of the purchasing power of the dollar was the primary strategic objective for which the Fed was created in 1913.
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   Tactical objectives included such things as providing regulatory supervision for member banks, discounting commercial paper, assuring ample financing for the fall harvest, and acting as lender of last resort during a banking crisis so that good member banks that could submit good but perhaps temporarily illiquid collateral would not be carried away with the bad that lacked good collateral. See, Friedman & Schwartz, Monetary History of U.S. (I), Greenbacks and Gold (1867-1921), Meltzer, History of Federal Reserve, v. 1 (I),, "The Search for Monetary Stability (1913-1923).
 ?
  Since that time, the Fed has been charged with a host of often conflicting explicit and implicit objectives that are clearly beyond its capacity to achieve. It is responsible for 

  1. keeping unemployment levels down, 

  2. keeping interest rates down, 

  3. allocating credit into the housing market (it currently holds over $1 trillion in low yield mortgages that it will not be able to market at par), 

  4. acting as lender of last resort - now to major institutions throughout the economy and sometimes for foreign nations, 

  5. guarantying the credit of too-big-to-fail corporations, 

  6. maintaining order during the decline of the dollar exchange rate, 

  7. supporting Treasury bond issues, 

  8. maintaining overall financial stability, and - most important - 

  9. boosting the economy during election years.

  Finally, the Fed is expected to fulfill the necessary role of scapegoat when things go wrong. Heavens forbid that incumbent politicians take blame for the mayhem their heedless policies occasionally inflict upon the economy. It is, after all, Congress and its vast budget deficits that make Fed monetary policy so impossibly difficult. See, Congress: The Engine of Inflation.
 ?
  With the exception of the Eisenhower years and the two decades after 1980 when Volcker became Fed Chairman, the Fed's other express and implicit objectives somehow always seemed to take precedence over its strong dollar commitment. As these other commitments have proliferated, expressions of commitment to a strong dollar have become a transparent lie.
 ?

  Assertions of Fed independence in the conduct of monetary policy are a transparent lie. The falseness of this assertion has in fact been acknowledged by Fed officials who have admitted that they are just members of the administration team. They are thus dedicated not to the national or public interest but to the political interests of the administration.
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    The Fed is a statutory agency. It does not have specific authorization under the constitution. It thus lives in dread of what the political arms of the government might do to it. It needs political cover to take the difficult decisions required for prudent monetary policy. Only Presidents Eisenhower, Reagan and Bush (I) offered such political cover. Bernanke is no Volcker, and Obama is no Reagan.
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Macro econometric projections:

 

 

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   Mathematical economists and other Keynesian economists now freely admit that they lack the competence to offer economic forecasts. This means that they are also unable to provide testable hypotheses. We must take their asserted expertise on faith - like the expertise asserted by high priests of some ancient state religion. Indeed, priestly interpretations of the entrails of a pig would provide superior results.
 ?

Keynesian projections have never included or survived the failure of Keynesian policies.

  All that these economists offer are projections. Unfortunately, these projections have never included or survived the failure of Keynesian policies. Unfortunately, any economic projection covering several years or more during Keynesian policy times is inevitably inaccurate if it does not include the failure of the Keynesian policies.
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  Such projections are thus of no use for planning purposes. They are of use solely for propaganda purposes. They routinely underestimate the costs of proposed programs and overestimate future revenues. They confuse the credulous and provide material for the press in its usual role as conduits for authoritative misinformation.
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  In short, the taxpayers are paying for the government to employ economists whose primary role is to lie to the public.
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The free market business cycle:

  Free market responsibility for the business cycle is an obvious lie. There has not been a free market business cycle since WW-I.
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There has not been a free market business cycle since WW-I.

  Every economic contraction since WW-I has been caused in whole or in substantial part by government policies or actions, often of incredible stupidity determinedly - heedlessly - maintained as the economic world collapsed. This includes all the most severe periods of economic turmoil during this period.

  1. The Great Depression was an artifact of a trade war world - a post WW-I world - a Treaty of Versailles world. Note that all of these were government policies and activities that were tremendous burdens and constraints for markets, yet no one of them alone would have produced a Great Depression.

  2. The Keynesian inflationary morass of the 1970s with its vicious swings of the business cycle is so obviously the result of government Keynesian policies that even the Keynesian economists no longer try to deny it. Rather, they try to deflect attention from it by emphasizing their efforts to avoid another Great Depression. Price inflation that is chronic as opposed to the ordinary price increases and declines that accompany the business cycle are impossible if the monetary authority - the Fed - is not vigorously expanding the money supply.

  3. Even the recent Credit Crunch recession - blamed with  some justification on free market fundamentalism and efficient market theory - is primarily the result of the government policies that disabled the market's most important disciplinary mechanisms. Too-big-to-fail policy magically transformed fierce credit market vigilantes into accommodative credit market enablers. They no longer needed to worry about default or require higher levels of collateral and interest rate yield from over-leveraged borrowers with risky business models. Artificially low interest  rates made it impossible to determine the time cost of money and encouraged the taking of substantial business risks with borrowed money. Government allocation of resources into favored economic sectors like housing and green energy distort the basic supply and demand function of the market that limits overcapacity tendencies.

Market disciplinary mechanisms are far more effective and efficient than any administered alternative.

 

Like the Sarbanes-Oxley regulatory scheme, the new regulatory schemes will prove costly and useless in avoiding the next recession.

  Efficient market theories are also lies. Men are not angels, and market disciplinary mechanisms are far from perfect. However, market disciplinary mechanisms are far more effective and efficient than any administered alternatives.
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  While regulatory arrangements can supplement market disciplines, regulations are always costly and can never adequately supplant the market mechanisms.  Remember that the banking, real estate and securities industries at the heart of the Credit Crunch recession were among the most heavily regulated industries in the economy. Remember that it took the Credit Crunch recession itself to bring the Madoff Ponzi scheme to a halt even though the regulators had received repeated warnings about Madoff from market experts.
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  Like the Sarbanes-Oxley regulatory scheme imposed after the dot-com bust, the new regulatory schemes will prove costly and useless in avoiding the next recession.
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  Governments heedlessly - determinedly - undermine economic systems in a host of ways in addition to policies that disable market disciplinary mechanisms.

  1. Tax statutes are typically cancerous morasses of noxious incentives.

  2. Banking policies during artificially low interest rate periods encourage "wholesale" banking based primarily not on deposits but on funds borrowed from unstable short term money markets.

  3. Chronic price inflation distorts economic incentives.

  4. Employers are punished with high taxes, liability risks and regulatory burdens.

  5. Sovereign debt loads increase financial risks for entire nations.

  6. Entitlements without cost controls threaten ultimate financial ruin.

    This list is undoubtedly far from complete.
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The double dip recession:

  The Obama-Bernanke recession is now an inevitability. While there will be some carryover causes from the Credit Crunch, the notion of a double dip recession is ridiculous. The fundamental causes of the coming recession are overwhelmingly to be found in Obama policies and Bernanke monetary inflation.
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The fundamental causes of the coming recession are overwhelmingly to be found in Obama policies and Bernanke monetary inflation.

  Keynesian budget deficits and monetary inflation are the primary causes, so their continuation can only make the economy increasingly unstable and the ultimate monetary austerity recession significantly deeper. As price inflation rises towards double digit levels during these next few years, Bernanke will run out of maneuvering room. The failure of the Keynesian policies during the Obama-Bernanke years will become manifest as has always happened in the past and as will always happen in the future.
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  WELCOME BACK TO THE KEYNESIAN MORASS OF THE 1970s!

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