Globalism Sucks

Paul Craig Roberts latest column, Death By Globalism, does a very credible job dissecting the two prevailing economic views of how to deal with America's economic struggle. I've posted the article below and inserted my commentary (bold italics) which I think relevant.

Have economists made themselves irrelevant?  If you have any doubts, have a look at the current issue of the magazine, International Economy, a slick endorsed by former Federal Reserve chairmen Paul Volcker and Alan Greenspan, by Jean-Claude Trichet, president of the European Central Bank, by former Secretary of State George Shultz, and by the New York Times and Washington Post, both of which declare the magazine to be "ahead of the curve."

The main feature of the current issue is "The Great Stimulus Debate" [PDF] Is the Obama fiscal stimulus helping the economy or hindering it?
Princeton economics professor and New York Times columnist Paul Krugman [Email him] and Moody’s Analytics chief economist Mark Zandi [Email him] represent the Keynesian view that government deficit spending is needed to lift the economy out of recession. Zandi declares that thanks to the fiscal stimulus, "The economy has made enormous progress since early 2009"[PDF], an opinion shared by the President’s Council of Economic Advisors and the Congressional Budget Office.

For those readers wanting to assign political ideology, the Keynesian view which emphasizes stimulus (debt) as the best way to head off the recession is more representative of the Democrat party. The Obama administration economists including Larry Summer, and the recently departed Christine Romer for example, have followed this path.  Discussion basically delves into how much stimulus and where to apply it. There are democrats in Congress that oppose more stimulus, but the leaders of the party - Obama, Reid, and Pelosi - clearly follow the lead of Summers and the economic team.

The opposite view, associated with Harvard economics professor Robert Barro and with European  economists, such as Francesco Giavazzi and Marco Pagano and the European Central Bank, is that government budget surpluses achieved by cutting government spending spur the economy by reducing the ratio of debt to Gross Domestic Product.
This is the "let them eat cake” school of economics.
Barro says that fiscal stimulus has no effect, because people anticipate the future tax increases implied by government deficits and increase their personal savings to offset the added government debt. Giavazzi and Pagano reason that, since fiscal stimulus does not expand the economy, fiscal austerity consisting of higher taxes and reduced government spending could be the cure for unemployment.

If one overlooks the real world and the need of life for sustenance, one can become engrossed in this debate. However, the minute one looks out the window upon the world, one realizes that cutting Social Security, Medicare, Medicaid, food stamps, and housing subsidies when 15 million Americans have lost jobs, medical coverage, and homes is a certain path to death by starvation, curable diseases, and exposure, and the loss of the productive labor inputs from 15 million people. Although some proponents of this anti-Keynesian policy deny that it results in social upheaval, Gerald Celente’s observation is closer to the mark: "When people have nothing left to lose, they lose it."

The above strategy is more closely aligned with the conservative or Republican ideology, with the exception in some cases of raising taxes. Paul Ryun would be a well known example. Ryan proposes what is in effect a VAT to generate revenue, while at the same time scaling down benefits and entitlement spending.

This approach appeals to many conservatives that vehemently oppose paying unemployment benefits beyond the 26 weeks that the insurance is designed to pay. Understandably, many conservatives argue that subsidies encourages slothfulness and a greater reliance on the government. But you must realize that we now have more than 40 million Americans on food stamps and manufacturing jobs that will never come back. The people receiving government benefits are not only made up of the chronically lazy, but increasingly include large numbers of formerly hard-working individuals whose skills are now obsolete do to global wage arbitrage and there just aren't comparable opportunities available.

The Krugman Keynesian school is just as deluded.  Neither side in "The Great Stimulus Debate" has a clue that the problem for the U.S. is that a large chunk of U.S. GDP and the jobs, incomes, and careers associated with it, have been moved offshore and given to Chinese, Indians, and others with low wage rates. Profits have soared on Wall Street, while job prospects for the middle class have been eliminated.

The off shoring of American jobs resulted from (1) Wall Street pressures for "higher shareholder returns", that is, for more profits, and from (2) no-think economists, such as the ones engaged in the debate over fiscal stimulus, who mistakenly associated globalism with free trade instead of with its antithesis—the pursuit of lowest factor cost abroad or absolute advantage, the opposite of comparative advantage, which is the basis for free trade theory. Even Krugman, who has some credentials as a trade theorist, has fallen for the equation of globalism with free trade.

As economists assume, incorrectly according to the latest trade theory by Ralph Gomory and William Baumol, that free trade is always mutually beneficial, economists have failed to examine the devastatingly harmful effects of off shoring. The more intelligent among them who point it out are dismissed as "protectionists."

The reason fiscal stimulus cannot rescue the U.S. economy has nothing to do with the difference between Barro and Krugman. It has to do with the fact that a large percentage of high-productivity, high-value-added jobs and the middle class incomes and careers associated with them have been given to foreigners. What used to be U.S. GDP is now Chinese, Indian, and other country GDP.

Neither the Krugmanites (representing the Democrat Party) nor the Ryan supporters (representing much of the Republican electorate) have addressed globalism as the factor that continues to decimate job opportunities and wages in America. Currently, the Democrats are in power and the first policy is clearly failing. Much of Europe has recently switched over to austerity (increased taxes and benefit reductions), and it is predicable that Europe will soon fall into depression with great social unrest. Should the Republicans take power, it's reasonable to assume the same fate will await this country.

Roberts is correct in his observation that globalism is hailed as being free trade and beneficial to all, while in fact, the great beneficiaries are the CEO's of the multinational corporations. The common man may pay slightly lower prices for products, however the hidden price is the deficit which the common man must pay in the future in order to subsidize fellow citizens whose once decent wages and jobs are now gone. In other words, that $4.00 purchase at Walmart might have cost $5.00 somewhere else previously, seems like a good deal (you saved $1.00), but in fact you will be hit with another $2.00 in deferred taxes (currently added to the deficit) in order to subsidize the unemployed man whose job was eliminated as a result of Walmart exploiting cheap labor from China.

When the jobs have been shipped overseas, fiscal stimulus does not call workers back to work in order to meet the rising consumer demand. If fiscal stimulus has any effect, it stimulates employment in China and India.

The "let them eat cake school" is equally off the mark. As investment, research, development, etc., have been moved offshore, cutting entitlements simply drives the domestic population deeper in the ground. Americans cannot pay their mortgages, car payments, tuition, utility bills, or for that matter, any bill, based on Chinese and Indian pay scales. Therefore, Americans are priced out of the labor market and become dependencies of the federal budget. "Fiscal  consolidation" means writing off large numbers of humans.

During the Great Depression, many wage and salary earners were new members of the labor force arriving from family farms, where many parents and grandparents still supported themselves. When their city jobs disappeared, many could return to the farm.
Today farming is in the hands of agribusiness. There are no farms to which the unemployed can return.

(And although good quality food is available, the percentage of quality food is quite low)

The "let them eat cake school" never mentions the one point in its favor.  The U.S., with all its huffed up power and importance, depends on the U.S. dollar as reserve currency. It is this role of the dollar that allows America to pay for its imports in its own currency.
For a country whose trade is as unbalanced as America’s, this privilege is what keeps the country afloat.

The threats to the dollar’s role are the budget and trade deficits. Both are so large and have accumulated for so long that the prospect of making good on them has evaporated. As I have written for a number of years, the U.S. is so dependent on the dollar as reserve currency that it must have as its main policy goal to preserve that role.
Otherwise, the U.S., an import-dependent country, will be unable to pay for its excess of imports over its exports.

"Fiscal consolidation," the new term for austerity, could save the dollar. However, unless starvation, homelessness and social upheaval are the goals, the austerity must fall on the military budget.

America cannot afford its multi-trillion dollar wars that serve only to enrich those invested in the armaments industries. The U.S. cannot afford the neoconservative dream of world hegemony and a conquered Middle East open to Israeli colonization.

Roberts misses one key point in my opinion. If the military budget is slashed, we would have to find work for hundreds of thousands of formerly employed military contractors from Boeing to General Dynamics. If GM was too big to fail, what about slashing 20% of US defense spending?

Is anyone surprised that not a single proponent of the "let them eat cake school" mentions cutting military spending?  Entitlements, despite the fact that they are paid for by earmarked taxes and have been in surplus since the Reagan administration, are always what economists put on the chopping block.

Where do the two schools stand on inflation vs. deflation? We don’t have to worry. Martin Feldstein, [Email him] one of America’s pre-eminent economists, says: "The good news…is that investors should worry about neither." His explanation epitomizes the insouciance of American economists.

Feldstein says that there cannot be inflation because of the high rate of unemployment and the low rate of capacity utilization. Thus, "there is little upward pressure on wages and prices in the United States." Moreover, "the recent rise in the value of the dollar relative to the euro and British pound helps by reducing import costs."

As for deflation, no risk there either. The huge deficits prevent deflation, "so the good news is that the possibility of significant inflation or deflation during the next few years is low on the list of economic risks faced by the U.S. economy and by financial investors."
What we have in front of us is an unaware economics profession. There may be some initial period of deflation as stock and housing prices decline with the economy, which is headed down and not up.  The deflation will be short lived, because as the government’s deficit rises with the declining economy, the prospect of financing a $2 trillion annual deficit evaporates once individual investors have completed their flight from the stock market into "safe" government bonds, once the hyped Greek, Spanish, and Irish crises have driven investors out of Euros into dollars, and once the banks’ excess reserves created by the bailout have been used up in the purchase of Treasuries.

What we don't know is how long this process will take to play out. Look for "flight to safety" toward the US bond market to continue as weaker countries face currency crises. At some point, legislators will surely draft punitive laws making it more difficult to take early withdrawals, and will require a certain percentage of you retirement accounts to include US Treasuries. Two years, five, ten? How long can such schemes work to prop up our government and economy?

Then what finances the deficit? Don’t look for an answer from either side of The Great Stimulus Debate. They haven’t a clue—despite the fact that the answer is obvious.
The Federal Reserve will monetize the federal government deficit. The result will be high inflation, possibly hyper-inflation and high unemployment simultaneously.
The no-think economics establishment has no policy response for economic Armageddon, assuming they are even capable of recognizing it.

Economists who have spent their professional lives rationalizing "globalism" as good for America have no idea of the disaster that they have wrought.

Just Who Do They Work For?

The Drudge Report headline read "Obama: $3 billion aid for Unemployed." I followed the link to the AP release titled "Obama Administration to Provide $3 billion in Housing Aid."  The story detailed how the Treasury will use bailout money from the $700 billion TARP to provide interest free loans up to $50,000 targeted for unemployed, underwater homeowners. The jobless homeowners fall deeper into debt as a result of the loans, but the cash layout would enable them to stay put for two years.
What the story does not do is address the reason for the $3 billion taxpayer program. Look, nobody in power gives a damn about any of these people. Its the banks that are being bailed out. Yes, the healed, well-capitalized banks that passed the stress tests will suffer losses once the homeowner defaults.  Once again, Geithner delivers for the big banks by taking taxpayer money to save their bacon. As a bonus point, perhaps the President will retain votes from the disgruntled, unemployed constituents who are the recipients of $50,000 in new debt, allowing them to stay in their house for a few more years.

Banks 1, Public 0.

On to the next story. The online magazine, Information Week, posted a story titled U.S. To Train 3,000 Offshore IT Workers.  The article tells how a hand-picked Obama appointee is overseeing a joint project between the US Government and corporate partners. The Government is chipping in $10 million taxpayer dollars. The idea is to train foreigners in IT positions so that American companies may offshore  domestic jobs in exchange for lower-paying foreign skilled labor in order to cut costs. That's right. Americans are paying taxes in order to subsidize the corporate training of foreigners.  The goal is that the foreign trainees will make suitable replacements for the more costly Americans who are paying taxes to outsource their own jobs.

Corporations 1, Public 0

Just a few months ago, the President went before the American people and announced that his goal would be to double American exports within 5 years. Little did I realize he meant the exportation of jobs, not products. Congress and the Executive Branch of Government clearly represent large corporations, and mega-banks. You can throw in the Judicial Branch for that matter, as the Supreme Court removed monetary restrictions on corporations in the name of free speech. I suppose the logic is that, since money talks, contributions must be considered speech. And banks and corporations are letting their money do the talking. Clearly, DC is listening.

From the Cat Bird's Seat

On a public message board, I posted some thoughts about the enormous expenditures on homeland security and the military.  The catalyst for making the post was the Washington Post's recent report titled Top Secret America.  The larger point gleaned from the data is that the continued growth and expenditures is unsustainable and inevitably the nation's economy and wealth will collapse under crushing debt. Another poster responded with the following retort:

It is great to be in the cat bird's seat, what is your solution?

I'm not sure if the question was specifically addressed to fighting terror or to the sustainability and/or survival of the United States of America as a viable economic and military superpower, but I'll attempt to address the latter concern. My short answer is that there is no solution in terms of reforming the current structure and simultaneously continue the high standard of living this country has known for the last 60-65 years or so. Below, I've numerically listed some of the systemic structural problems we face and the implications.

1. Globalization and Income - With the emergence of developing nation economies and an infinite supply of labor, corporations continue to close shop in America in order take advantage of lower costs overseas. Just last week, India announced the development of a $35 touch screen laptop computer. Such an innovation is great for consumers, and certainly such a breakthrough will allow corporations to purchase equipment at lower costs and operate more efficiently. The example I chose, actually makes some good arguments for globalization. Even so, there is a down side. IT personnel will be let go (it's easier to purchase new $35 computers than retain employees at $50/hour wages and benefits to make repairs), computer repair shops would close (much like electronic repair shops in the past when the cost of new appliances made overseas became cheaper), and manufacturers like Dell and Hewlett-Packard would probably shut down any domestic assembly structures still in operation. You simply cannot produce low cost items without low cost labor. The dollars used to purchase goods wind up primarily in the accounts of multinational corporations and to the foreign laborers which make the goods.

As growing number of Americans are removed from the business of creating goods, how will these Americans attain the income to continue purchasing goods and products? Debt levels have been maxed out for many, and government subsidies in the form of EIC, welfare, food stamps, housing credits, unemployment compensation, etc. depend on tax revenue from gainfully employed citizens. 

Globalism has made American corporations wealthier as a result of morphing into multinational corporations. This has lowered consumer prices for Americans, but in general, the result has left the greater population with lower wages. The differential has been masked through borrowing (credit), and a paper wealth as a result of the real estate bubble. Now that the bubble has popped and credit limits have been reached, lower wages will begin to be reflected by lower wealth levels and living standards.

2. Demographics and Entitlements - Approximately two-thirds of Americans nearing retirement age have not saved adequately to maintain the standard of living they have been accustomed to. Social Security is a safety net designed to provide a minimum source of income in old age. Years ago, multiple workers supported one retiree. As the baby boom generation reaches old age, the ratio becomes 3 to 1 and then 2 to 1. Without changing the formula (lowering benefits and/or upping the age), tax increases on the productive class is inevitable. If the government chooses the first option - reduction of benefits and raising the age requirement - the large elderly demographic will spend less money (vacations, entertainment, etc.) causing a contraction in the economy. If the second option of raising taxes follows, less income will flow to working citizens resulting in less spending and hence, a contraction in the economy. The final option would be to neither raise taxes nor curb benefits. The result here would mean higher deficits as the expenditures on social security and medicare rises.

3. Military and Defense Spending - You really must include the new component of Homeland Security when talking about military and defense spending. Not only does the United States military employ bases in over 100 countries throughout the world in order to maintain stability and protect American interests, but now domestic e-mails and communications are monitored to protect American interests in the event that their are internal enemies of the state (see Top Secret America report). The dollar cost is incredible and growing at a much faster rate than the real economic production (which is hardly growing at all when you use tax revenue as the criteria). Much of the money is unaccountable and a large percentage of the mined data is irrelevant, lost, or simply too voluminous to get to.

4. The Tendency for Bureaucracies to Remain in Inertia - As the central state continues to grow and expand, each agency takes on a survival instinct. Literally tens of millions of Americans now make their livelihood serving the state. Any hint from the public that a component of government face elimination or even shrink is faced with swift and strong resistance. There were some closing of military bases (within the United States, not overseas) a few years ago, but that was an exception. Shrinking the department of defense would mean cuts to companies such as Boeing, Ratheon, and General Dynamics. Congressmen are determined not to allow cuts within their respective fiefdoms. The Department of Education is deemed essential by the elite. The Department of Labor, OSHA, and various other agencies will never be rolled back. The Democrat party has traditionally been all about the expansion of domestic programs, yet George Bush showed that Republicans would match their efforts. Even reformer advocates like conservative Paul Ryan, to my knowledge, has never spoken about the elimination or reduction of government agencies.
 

In conclusion, the growth of government combined with the structure of entitlement and the rise of globalization has morphed an increasingly complex system destined for systemic failure. My recommendation is not to find remedies to make the system better as the system is in its death throes, but rather to individually prepare for hard times in the future so that we may come out safely at the other end when a restructuring after collapse takes place. What the collapse will look like, I have no idea. It could be a prolonged period of peaceful, but difficult circumstances, or it may resemble anarchy and social upheaval. I believe that people have the capacity to adjust and remain happy and productive so long as they don't marry themselves to the necessity that survival of the state is the all important goal. It should not be - at least from where I sit at the cat bird's seat.

Empire Gone Amok

From last August the plans for Iraq were to downsize troop levels from 130,000 to 50,000. The cost of maintaining our huge embassy in Iraq was $1.5 billion in 2009 and estimated to cost $1.8 billion each for years 2010 and 2011. Most of the cost has to do with security along with logistics (fuel, food, transport, etc.).

Today we find that the State Department is basically asking for their own contracted army (a blackwater mercenary type of force if you will) to provide security for the billion dollar embassy we constructed in Baghdad.

The process is ironic if you think about it for a minute or two. The State Department is for the most part a very left-leaning bureaucracy that traditionally emphasizes diplomacy and process over military action. The White House made big promises of leaving Iraq. Technically, the army is leaving Iraq, but in fact the Pentagon will continue and in fact increase expenditures there as soldiers are replaced with higher paid contracted personnel which will be supplied with all the high tech gadgetry and equipment currently employed. If "liberals" labeled the previous arrangement as an occupation, how is this any different? Technically, the military is leaving, but it will be replaced with contracted personnel that is even less accountable.

The plan for Iraq that was sold to the American public was to provide stability so that a freely elected, functioning government would take over and the region become less volatile. While that was certainly an objective, the fact that we constructed a billion dollar embassy (the largest in the world), and plan to maintain a presence there at $1.8 billion/year into perpetuity, indicates there was a much larger plan in store.

Iraq is projected to surpass Saudi Arabia in oil exports in about a decade. Bush and Cheney were aware of this for sure, and the left never fails to point this out. However, Obama is following through on the template, but attempting to give the public the perception that America is leaving. The hypocrisy is great. Does the main stream media provide analysis and discussion that would educate the public? Ha.

While my mind is on the unbelievable transition from a governed Republic into an empire/police state, you might want to check out Charles Hugh Smith's Thursday Blog. Homeland Security has morphed into an untenable monstrosity.

Welcome to the New Economy

Charles Hugh Smith described the 12-step process (printed below) in which the wealth of the country now flows from its citizens to the megabanks in his July 8th posting titled "The Con of the Decade."

1. Enable trillions of dollars in mortgages guaranteed to default by packaging unlimited quantities of them into mortgage-backed securities (MBS), creating umlimited demand for fraudulently originated loans.
2. Sell these MBS as "safe" to credulous investors, institutions, town councils in Norway, etc., i.e. "the bezzle" on a global scale.
3. Make huge "side bets" against these doomed mortgages so when they default then the short-side bets generate billions in profits.
4. Leverage each $1 of actual capital into $100 of high-risk bets.
5. Hide the utterly fraudulent bets offshore and/or off-balance sheet (not that the regulators you had muzzled would have noticed anyway).
6. When the longside bets go bad, transfer hundreds of billions of dollars in Federal guarantees, bailouts and backstops into the private hands which made the risky bets, either via direct payments or via proxies like AIG. Enable these private Power Elites to borrow hundreds of billions more from the Treasury/Fed at zero interest.
7. Deposit these funds at the Federal Reserve, where they earn 3-4%. Reap billions in guaranteed income by borrowing Federal money for free and getting paid interest by the Fed.
8. As profits pile up, start buying boatloads of short-term U.S. Treasuries. Now the taxpayers who absorbed the trillions in private losses and who transferred trillions in subsidies, backstops, guarantees, bailouts and loans to private banks and corporations, are now paying interest on the Treasuries their own money purchased for the banks/corporations.
9. Slowly acquire trillions of dollars in Treasuries--not difficult to do as the Federal government is borrowing $1.5 trillion a year.
10. Stop buying Treasuries and dump a boatload onto the market, forcing interest rates to rise as supply of new T-Bills exceeds demand (at least temporarily). Repeat as necessary to double and then triple interest rates paid on Treasuries.
11. Buy hundreds of billions in long-term Treasuries at high rates of interest. As interest rates rise, interest payments dwarf all other Federal spending, forcing extreme cuts in all other government spending.
12. Enjoy the hundreds of billions of dollars in interest payments being paid by taxpayers on Treasuries that were purchased with their money but which are safely in private hands.

The Treasury holds biweekly auctions in order to sell debt. Zero Hedge reported another $35 billion in 3-year denominated US Treasury bonds were sold today.

The US government is another $35 billion in the debt sink hole. The cost of this marginal addition to our existing debt load ($10 trillion? $100 trillion? who cares) was just 1.055%, which was gobbled up briskly at a 3.20 Bid To Cover. The bulk of the buying came from Primary Dealers who took down the highest portion of the auction, or 45.1%, since May of 2009, when PDs were responsible for 56.6% of the takedown. Indirect bidders, coming in at 40.6%, was the lowest indirect take down since January, when they were responsible for just 38%. The balance of 14.3% was left to the Direct Bidders. The Bid To Cover at 3.20 came in well above the LTM average of 3.03%.

Now that the United States is running $1.5+ trillion deficits annually, there simply aren't enough dollars in the world (China, Japan, or anywhere else) to suck up this amount of debt. When the US was running $400 billion deficits, the Chinese and other foreigners bought the excess. One fear in America was that, once the deficits reached large levels like what we are running today, the yields on the treasuries would rise causing interest rates to spike upward which in turn would wreak havoc on the economy. For now, the Fed has come up with a solution. A comment below the Zero Hedge article sums it up this way:

It's brilliant, in a way.  A mechanism for loaning into existence money we don't have at a very low cost, with the system perpetuated by the reality that the overall world economy is so messed up, courtesy of the same Primary Dealers, that there aren't that many real alternatives to Treasury investment.  Thus the ability of the Fed to continue loaning money into existence at ridiculously low cost is limited only by an upper bound where 1-3% of the total public debt becomes prohibitively expensive as part of the overall budget. For example, if the public debt becomes $30 trillion, then an average cost of say 2% is still only $600 billion a year, which can be easily managed by cuts in the Pentagon budget and the elimination of any remaining social safety nets.  We've done it, an end run around the Second Law of Thermodynamics.  It's a proud day in America.

So how does this process effect Americans and the economy? Well, for one thing, it keeps inflation in check. The Fed loans the money into existence (at 0.0 - 0.25%), which the banks then use to purchase Treasury bonds (a nice profit at zero risk) instead of making loans into the economy. Over time, the banks are able to recapitalized.  Because the Fed is creating money, and the money is pouring into US Treasuries, the yield remains low, thus the interest payment on the national debt does not explode, but creeps up at a steady pace. This process is wonderful for banks and allows the government to stay in business rather than quickly going the way of Greece.

There are down sides of course. Because the banks have every incentive to purchase treasury bonds and not loan out money, the economy cannot be expanded via loans. Other than large corporations, there isn't much saved capital available to start business.

As government deficits annually top $1.5 trillion ,  interest payments on the debt continue to rise, albeit at a slower rate as long as yields remain low. In order to pay the holders of the debt (think megabanks courtesy of Ben Bernanke), entitlements must begin to shrink and taxes raised. The downsizing of entitlements combined with higher taxes will further shrink the economy and impoverish the citizenry. The remaining assets of the citizenry will simply flow through the government to the megabanks as these entities hold a larger and larger proportion of the national debt. Instead of primarily paying higher taxes to China in exchange for cheap goods, US citizens will pay higher taxes to megabanks in exchange for .... nothing?

For the immediate future, I'm thinking the next two years at least, the United States and the world in general should see lower employment, higher taxes, and lower real estate values. Smallish banks will be taken over and gobbled up by larger banks. The megabanks will continue to reap profits even as they keep depreciating assets off the balance sheet. The argument we continue to hear is that the system is recovering and the process of restoring the banks is essential for a full recovery - even if it destroys the citizenry in the process.

There's No Rule of Law Here - Things Have Changed

At the time of the November 2008 elections someone filmed a pair of armed New Black Panther Party members blocking the entrance of a voting sight. Clearly, the intention was to intimidate voters. The clip was shown repeatedly on national television. Today we learned from one of the prosecutors that the federal government ordered the case dismissed (see story).

Tuesday, Bloomberg ran a story describing how Mexican gangs laundered hundreds of billions in illicit drug dollar with the complicity of  Wachovia and Bank of America (story here). The article describes the damage to the economy and pretty much leaves up to the imagination the amount of monetary gain realized by the banks. No significant official of either bank has been indicted. We know that billions of dollars went unaccounted for in Iraq during the Bush administration and now we know that billions of drug related dollars are currently being shuffled in and out of Afghanistan.

The country is changed. Corporations and interest groups, including the financial industry, have captured Congress. The financial industry basically controls the SEC, the Treasury (first Paulson, now Geithner), and the advisors to the President (Summers, Ruben). Lawyers representing unions draw up much of the incomprehensible legislation voted on by Congress and pushed by President Obama. This would include the Health Care Bill with respect to unions and the Financial Reform Bill with respect to banks.  In a late compromise to the latter, a bank tax will be dropped and surplus TARP money (yes, taxpayer dollars) will be substituted in its place.

Sadly, the dropped charges brought against the New Black Panther thugs shouldn’t surprise anyone. If you’ve paid any attention to the Rod Blagojevich trial, the relationships with shady figures in Chicago such as Tony Revco, Williams Ayers, are the hate-spewing preacher where the President attended church,  you know that Obama is up to his eyeballs in sleaze. In a fair, competitive system, cream rises to the top. In a cesspool, the heaviest turd sinks to the bottom.  Our President is the shit.

On the Cover of the Rolling Stone

 Whatever happened to investigative reporting? Its practically nonexistent.

America has been at war in Afghanistan for almost nine years; the longest war in the history of the country. Despite the length of the campaign and the enormous ongoing expenditures, most Americans don't have a clue what is going on, what the objectives are, or how the war is being fought.

We are now two months into what most likely is the worst environmental catastrophe the United States has ever encountered. Information has been limited and controlled by the two authorities involved; BP and the United States Government. Why can't news companies deliver in depth stories?

JP Morgan-Chase and Goldman Sachs spent the last two decades reshaping the policies that govern our financial system. Even after the financial storm on 2008-2009, these financial behemoths continued to loot the American taxpayer with impunity. There has been relatively little coverage and even less justice served.

Finally, there is one journalistic source doing its job to inform the nation. ABC news? Newsweek? CNN? Hardly. Perhaps the most relevant articles produced by investigative reporting in the past year was done by none other than The Rolling Stone.

Do the articles paint an accurate picture of reality? Is it quality reporting? I think so, but its difficult to assess as they seem to be about the only news entity that practices investigative reporting. If you have not yet read any of Rolling Stone's articles (linked below) you should. That is, if you give a damn about what is happening to your country.

The Runaway General
The Spill, The Scandal, and the President
Jefferson County: Democracy Now
The Great American Bubble Machine

Bailout for the States? Summer Showdown Approaches

President Obama is pushing a $50 billion ‘jobs’ bill that would bail out the states (See Obama Presses for Aid to Cities and States).

Making the economic case for helping the states, Mr. Obama said that if teachers and others are laid off — his education secretary, Arne Duncan, has said that without federal aid, up to 300,000 fewer teachers would be in classrooms this fall — “it will mean more costs helping these Americans look for new work, while their lost paychecks will mean less tax revenues and less demand for the products and services provided by other workers.”

Mr. Obama had supported about $50 billion in aid initially — $25 billion for public employees, $23 billion of which would go for teachers’ salaries, and $25 billion to offset states’ increased costs for their share of Medicaid, the public health program for the poor, people with disabilities and many nursing home residents.

Clearly, the purpose of issuing another $50 billion dollars of debt is not for the purpose of stimulating new jobs, but rather for the purpose of maintaining existing jobs and services which can no longer be paid for from tax revenue at the state and local level. It is starting to become apparent that this is no longer a cyclical downturn, but rather a systemic problem. If the latter is the case, how much longer can the federal government borrow debt to prop up state and local economies and keep services running?

Due to an implosion in the bond market which threatened the existence of the European Union,  austerity programs calling for higher taxes, reduced wages, and decreased spending will be implemented. There will be no more stimulus programs overseas. In America, economic advisers and politicians have yet to change course. The President, treasury secretary Tim Geithner, federal reserve chairman Ben Bernanke, and a majority of Congress continue to push spending programs in order to stem the tide of unemployment and continue delivery of benefits and services.

Thus far, neither the bond market nor the will of the people have forced leadership to reverse course and begin making cuts. When a politician states that he will make the tough choices, it is merely rhetoric. If the decision to reign in spending were made, the result would be a powerful depression, slashing of benefits, and social upheaval. Politically, the fallout would result in massive turnover come election day.

America will likely continue the ponzi scheme until it no longer can. Europe has already reached the tipping point. When the moment of truth arrives, America must either embark on unpopular austerity programs or risk the destruction of the currency. If America chooses austerity, it will mean skyrocketing unemployment, reduced wages, less services, lower home values, and the forfeiture of pension promises. The summer showdown will pit Republicans pretending to hawkishly condemn spending versus Democrats who feign concern for the unemployed and suffering. 

For now, my bet is that the bailout will pass, and most Americans will not miss a beat. The job market will not improve, but neither will it collapse. Unemployment compensation, welfare checks, and medicare payments will continue on. But somewhere down the road, the bond market will force politicians to do something other than pass a bill.  Eventually, the choice must be made to choose austerity and face a depression or to debase the currency through massive printing.

New Trend Underway: From Inflation to Deflation

The latest meeting of the G-20 concluded with the failure to reach consensus. Much to the chagrin of Tim Geithner who continues to push for massive sovereign spending, the European contingent basically said that stimulus is over and debt reduction will be the new game plan. In related news, Germany is having second thought about the bailout and may very well pull out. In China, the government has begun implementing measures to tighten credit in order to contract a huge housing bubble. All of these events taken together clearly point toward a large contraction of the global economy, credit, and money supply. The trend is about to change. Geithner, Bernanke, and the United States leadership remain on board the bandwagon of endless spending and stimulus, but if the threat of insolvency can force Europe to about face, it stands to reason that the United States will eventually follow suit. 

Later this summer, state governments from California to New York will bring their troubled budgets to Congress and the White House looking for billions of dollars which they need to maintain programs and services. With elections just months away, politicians will be hard pressed to deny aid. But with a calamitous oil spill, climbing number of foreclosures, downward pressure on housing prices and commercial real estate, a plunging stock market, and rating agencies downgrading everything in sight due to massive debt, its not a slam dunk that the government will come to the rescue this time; at least not to the extent that would have been possible in the past. 

Should equity markets plunge significantly, pension funds currently projecting insolvency toward the end of the decade would have to face such possibilities within just a few years. The feds simply don't have the money to plug all the holes; and if they create the money by creating more debt, the country risks the very real possibility of seeing the bond market attacked in the way that Greece is experiencing. For the time being, yields on 10-year treasuries are falling and will most likely continue to fall for several months. But if Bernanke and Geithner continue to call the shots, the additional spending will not only fail to ignite a recovery, it will eventually result in bond yields reversing and threaten the stability of the political structure of the United States of America. At some point, it is likely that Geithner and Bernanke will be terminated along with their expansionary policies and austerity will be forced on the country. It is going to be ugly. I hope the nation survives.

Texas: Blue State to Red State? Try Brown State

The San Antonio Express lead story Sunday tells about the changing face of Texas. Currently, Hispanic children now make up 49% of the K-12 public school enrollment, whereas Anglo children now make up 33% of public school enrollments.Using 2000 census figures, we can see the percentage changes over just 9 years. In 2000, Anglo children comprised 43% of the enrollment and Hispanic children slightly less at just under 40%. In slightly less than a decade, Hispanic children now outnumber Anglo children 3:2. Projections to 1940 show that the percentage of Anglo children in state schools would be less than 20%. Hispanics would make up 2/3rds of the school population three decades from now.

(source of data below from window.state.tx.us/specialrpt/workforce/demo.php)

 

As of 2006, the table below shows ethnicity changes in Texas from 1980 to 2006. As of 2006, the Anglo population was significantly higher than the Hispanic population, however the figures are virtually reversed when only considering the school age demographic. Today's voters represent an Anglo majority, if there is such a thing, in terms of ethnicity. Tomorrow's votes, as the statistics show, will represent a Hispanic majority. No group is homogeneous as far as political ideology, but the numbers are something to think about.

Exhibit 1-1

Race/Ethnicity in Texas, 1980-2006

Racial/Ethnicity Group	Percent of Population 1980	Percent of Population 1990	Percent of Population 2000	Percent of Population 2006
Anglo	65.7%	60.6%	53.1%	48.3%
Hispanic	21.0%	25.6%	32.0%	35.7%
African American	11.9%	11.6%	11.6%	11.4%
Other	1.4%	2.2%	3.3%	4.6%

 The Houston Chronical reports the following:

Almost six out of 10 Texas public schoolchildren hail from low-income families, marking a troubling spike in poverty over the last decade, a new state report finds.

The increase coincides with a significant jump in the number of Hispanic students, while fewer Anglo students were enrolled last year than 10 years ago, according to the study by the Texas Education Agency. Schools also are educating many more children whose primary language is not English.

 These figures are staggering. If these children do not rise above their current economic status, that would indicate at some point in the future 60% of the adult population could fall below the poverty level. There is no possibility that either the State or the Federal Government could provide a safety net large enough to cover all of their needs.

Our Government is Basically a Bad Bank

Have you ever considered that our country’s deficit funding is analogous to a badly run bank?

Historically, a bank loans money to qualified borrowers who use the proceeds to grow their assets, perhaps by purchasing equipment which grows their business or buying a car that allows the individual to go to work (grow someone else business) and earn money. The loan is beneficial to the borrower because the extra money allows him to grow assets he would otherwise be unable to attain. He then pays back the loan with interest which enriches the lender. Once the bank begins making a number of loans in which the proceeds are used unproductively, the bank has a problem. For example, the bank might make an unsecured loan of $3,000 to an unemployed person who then buys an HD TV. The borrower makes two or three minimum payments and then defaults. The bank loses.

If you examine the budgetary system in the United States, all expenditures in excess of tax revenue are funded by loans via treasury auctions. The holders of the bonds (pension funds, investment banks, individual investors, foreign countries, etc.) must be paid back with interest. But how is this money used? Are the majority of the funds used to build highways and electricity grids that will eventually prove to be an asset? Are most of the proceeds spent on bureaucracy, entitlement payments, welfare, billion dollar embassies in the desert and other projects practically guaranteed to never generate income? If government spending does not generate growth equal to or greater than the rate of interest paid on the bonds, eventually the government defaults and the bond holders get stiffed.

The above scenario is unfolding. Deficit spending, largely geared toward transfer payments, and other non-productive projects (for an example, see article on Boeing project) does not generate the growth needed to pay off bond holders. But unlike the community bank that has to eat losses when it makes a loan to a deadbeat, holders of US treasuries must be paid back – even if the United States government is the equivalent of a deadbeat.

Before we look at the United States, let’s examine Greece. Other European countries, particularly France and Germany, are large bond holders of Greece debt. Greece has spent massively on various entitlements since joining the European Union. Now, Greece has reached the point they cannot make interest payments on their loans, hence Germany and France have a problem. Greece, with just around 2% of the GDP of Europe, is considered too big to fail. France and most of Europe want to extend more loans to Greece which would allow Greece to be able to continue making interest payments which they currently can no longer make. It’s kind of like a person that has $20,000 on his VISA account, but no longer can come up with the minimum payment. VISA, rather than writing off a loss, extends the borrower another $10,000. Now the borrower owes $30,000, but with the $10,000 in new loans, he will be able to make minimum payments once again; for a while. Germany is reluctant to go along with the arrangement because they realize in the long run Greece will default anyway, and by bailing Greece out with additional loans, the default will only be larger.

The model in America is much the same. Our demographics are such that future entitlement funding will grow year after year and current rates will not generate enough revenue to pay for them. Entitlement expenditures are unproductive in the sense they don’t grow the economy very much (probably zero), and the interest on the bonds sold to fund these entitlements will simply result in raising the ratio of debt to GDP.

Some would argue that the economy is cyclical and will soon turn around, resulting in additional tax revenue which would reduce the amount needed to borrow. This is an incorrect assumption. Debt has saturated the economy to the point it cannot expand. Money is tight, thus personal spending is not going to increase. The rate of housing defaults will continue to accelerate. High paying jobs are being constantly phased out. As part of global wage arbitrage companies continue to outsource production facilities overseas. With government wealth transfers (spending via more debt), the economy might grow more than otherwise, but for each additional dollar of debt spent by the government, the economy will grow proportionately less than one dollar. In other words, the more the government spends to inject life in the economy, the bigger the hole that gets dug.

Europe will now begin austerity measures. Basically, austerity measures are designed to transfer the debt from the public sector to the individual citizens. If successful, the government structure remains, the bond holders continued to get paid, and the standard of living declines for the population.

When the nation began, Thomas Jefferson argued against a Central Bank. Alexander Hamilton wanted a powerful Central Bank. Hamilton eventually won. By the time the 1830’s arrived, the Central Bank was considered a corrupt institution which was beginning to bankrupt citizens. Andrew Jackson successfully dismantled the Bank and the country survived for another 80 years ago until the Federal Reserve system was founded in 1913.

How might a government run without a Central Bank? Theoretically, there would not have to be an income tax. This country did not have an income tax until the early 1900’s. People would keep all of their wages. Government would fund projects (highway systems, defense spending, etc.) by simply printing money. Wouldn’t this be inflationary? Whether the money is printed, or loaned into existence via treasury auctions (debt) as it is now, the money supply would not change. The burden on the public of having to pay back interest would be eliminated. The middlemen (the Central Bank and various bond holders) would be eliminated. If the government wanted to add entitlement programs, then I think you’d develop problems because this would involve printing money for unproductive purposes, resulting in inflation.

For now, we’re stuck with the system we have. If we converted over, bond holders would quickly sell their bonds and we’d experience an hyper inflationary currency collapse.

We should have listed to Thomas Jefferson and Andrew Jackson.

What If...?

 ...a few months from now President Obama gave a speech like the one I've written below? I think we'll get some version of this down the road. How will Americans react? How would you react?

My fellow Americans:

I stand before you tonight because it's time for every American to understand the path we've been on, where we need to go, and determine the best way to get there. 

We've been blessed to live in America. This is a land of abundance. We have the greatest agricultural system in the world, the finest educational system, and the unique benefits of pooling knowledge and experience from the most divers group of citizens in the history of mankind. However for several years now, in fact, for several decades, we have lived beyond our means. Our deficits have grown at a pace that, if continued unabated, threaten the very existence of our Republic. The national debt is now more than $13 trillion dollars and the projected spending on entitlements in the years ahead will only add to that debt if unchecked. This is unsustainable.

I know that everyone is aware of the financial events going on in Europe. Greece is relatively small country. Their GDP represents only about 2% of the entire European Union. Greece's debt got out of hand and threatened to bring down the entire currency of the Euro zone. In order to rescue the Euro, the member nations coordinated a plan with the IMF, the European Central Banks, and our Federal Reserve. Thanks to bold measures, a catastrophe has been averted. 

But the danger of a recurrence is still there. The European nations recognize their predicament and have taken steps to ensure that the stability of their respective countries remain in tact. In order to achieve long-term success and maintain the belief that their children can look forward to a bright future, the people of Europe have agreed to make sacrifices. For some, it means reduced wages. For many, it may require paying a little bit more when they make a purchase. Without these measures, it is almost certainty that the European economy would completely collapse. If that happened, the chaos and suffering would be horrific.

Folks, if we don't make similar sacrifices, we will soon find ourselves facing the same grave challenges that Europe is now facing. We can't wait any longer. I've put together a plan that will guide us through this time of struggle so that we can get our financial house in order as a country so that we can pass on our dreams to our children and their children.

I realize that many of you are out of work, and without assistance, would not have the resources to feed your family. I'm not going to cut anybody off. But the fact is, in order to continue providing the assistance that so many require, the government has to have the revenue to provide that assistance. We can't continue to borrow the money because there just isn't anywhere left for us to lend from.

In Europe, when citizens purchase an item, the cost includes something called a value added tax. In most countries the rate exceeds 20%. America doesn't even have a value added tax. This additional revenue can be put to use by the government to help pay for the important services that so many of our fellow citizens require. I'm not going to ask Americans to pay 20%, but I think a 5% value added tax is a fair price to pay in order for everyone to do their part in helping our country in this time of great challenges. When a citizen buys something, that citizen, no matter whether he or she is wealthy or poor, will have the satisfaction of knowing they've played a part in saving our country.

Entitlement expenditures are growing at a pace that cannot be sustained. Current projections show that both medicare and social security will be bankrupt before the end of the decade. I want you to know, if you currently collect social security, the government is not going to take away your benefits. Many of you listening tonight have not yet reached retirement age. Did you know that when social security was implemented, the life expectancy for men and women was less than the age where you become eligible to collect benefits? Due to advances in medicine, we now can expect to live much longer than our forefathers. In order to preserve social security so that it will be there for all of us when we reach old age, I'm proposing that we phase out the current age of ability and extend it to 75. We would implement this change over the next 15 years. Most people are still healthy and able to work well into their 70's. now. I've put together a bipartisan commission to study how we can curtail expanding entitlement spending. This was one of their recommendations.

As time goes on, we'll evaluate progress and make other recommendations that will help our country get back on track. 

Thank you and good night.

O'er the Land of the Fraud and Home of the Brazen

Several bloggers, many economists, a small but growing number of journalists, and at least two TV personalities in Dylan Ratigan and Glenn Beck, have now grasped the sad reality that the entire American economy is underpinned by a mafia-like oligarchy that stretches from Wall Street through Corporate America, to Washington D.C. The last vestige of free market capitalism has been replaced. America is now a welfare state where over $2.3 trillion of the $3.8 trillion dollar budget is spent on entitlements. But that is only the tip of the iceberg. Although $2.3 trillion annually and growing is an awesome figure, this basically represents crumbs fed to placated masses.

In the mid 1990's, the six largest banks held assets worth less than 20% of the gross national product. Now, these six banks hold assets valued at approximately 60% of the gross national product. How did this happen? Due to powerful lobbying, the banking industry, as well as big pharmaceuticals, and  monopolistic agriculture giants captured the government. Wall Street was particularly effective in their efforts. By placing key figures within the Treasury department and hiring a multitude of lawyers who, combined with lobbying dollars, rewrote  laws which enabled Wall Street banks to escape (and evade) regulation, create new, unregulated financial products, and leverage their investments by multiples of anything considered safe.

While the large investment banks were taking over the government, corporate America accelerated the process of off shoring industries in order to take advantage of cheap labor and less punitive taxes. Slavery  in America was outlawed with the end of the Civil War, and decades later the practice of exploiting child labor ended. However, with  the onset of globalization, corporations were no longer bound to fair labor practices and could once again cut costs by replacing American labor with a global workforce in the billions. Certain industries that remained within the borders of the country, such as construction and big agriculture, could simply pay illegal aliens lower wages with no benefits because the federal government was unwilling to enforce the law. Jobs that used to pay well, such as bricklaying, were now  low paying jobs that "Americans won't do." 

Both political parties were complicit with respect to the failure to enforce laws already on the books. Additionally, both parties allowed campaign contributions from special interest groups to write laws favorable to their respective industries. This trend resulted in a consolidation of power as smaller, law biding businesses and citizens were unable to compete and eventually forced out of business or into lower wage paying positions. Congress increasingly abdicated responsibilities to the Executive branch of government. As bureaucracies expanded, from the Department of Education to the new Office of Homeland Security, Congress and the citizens whom they ostensibly represent, had less oversight and knowledge of the policies implemented through the various bureaucracies. 

And here we are today. Accounting rules have been changed in order to give insolvent institutions the appearance of strength. The unaudited Federal Reserve purchased $1.25 trillion dollars of assets  of unknown quality from the financial system over the past year. These same banks park the proceeds of their sales at the Federal Reserve which pays interest back to them. What a sweet deal. The interest provides free profits which help to continue the payout of multimillion dollar bonuses to the banking executives.

The ongoing dismantling of the industrial base, combined with the lawless and corrupt practices of Wall Street are steadily weakening the country. But these practices are now systemic, and if they were abruptly ended, it's likely the nation would quickly collapse. Madoff ran a ponzi scheme. If the SEC had done their job when alerted to the fraud by Markopolous years ago, the losses would have been limited to the tens of millions. By turning a blind eye, investors were able to watch their portfolio grow. Eventually, the truth came out and the losses were astronomical. It's much that way with the American economy. Once reality shines the light on what is happening, there will be much carnage.

In just the past week, quite a few articles have been written about this theme. Below are links to some of them. Read 'em and weep.

How We Get Ahead Now: Gaming the System

Michael Krieger - This is the Last Dance

Fraudonomics: 10 Fun Fraud Facts

Fraudonomics

Limbaugh Gets it Wrong

Just before noon today, I turned on my car radio and caught a portion of Rush Limbaugh's broadcast. Rush was lambasting Obama's financial reform agenda, but he caught my ire when he attempted to buttress his argument by defending Goldman Sachs role in marketing securities which were composed of shoddy loans hand picked by hedge fund investor John Paulson. Limbaugh stated that every deal has a winner and a loser, that the suit brought by the SEC was nothing more than representing whiners upset about losing, and that the parties involved were all sophisticated investors that understand what is at stake. No harm, no foul.

Rush is wrong on so many levels it's incomprehensible. Let's start at the top with the investors. The buyers of these securities included pension funds and similar organizations looking for a decent yield on safe investments (the bonds were rated AAA). Even if the purchasers of these products were sophisticated investors, they had no skin in the game. The pools of money at risk belong to people in the general public who are for the most part interested in protecting their life savings - not speculators looking to risk discretionary income. 

Secondly, the products were rated AAA, the safest rating awarded. But the loans that made up these packages were liars loans. The ratings agencies, influenced by the megabanks that pay their fees, failed to do their job. Loan originators and appraisers knowingly accepted and manufactured false numbers in order to process the loans which generated income to them. The entire chain was full of corruption. The system failed and no one has been punished.

Unfortunately, any reform bill that passes is going to be diluted and most likely even written by representatives of the financial industry of which the bill is designed to regulate. That is a shame. Perhaps a bigger shame however is the fact that millions of listeners turn in to Rush Limbaugh and are led to believe that the billions of losses suffered by millions of Americans is solely due to liberal politicians. Liberalism is part of a big problem we face in America,  but that isn't even an issue here. What we have is a financial oligarchy that commits fraud on the American public with impunity, and in fact controls the government by virtue of political contributions and a revolving-door system where members of Wall Street, politicans, and policy makers  are now interchangeable. Limbaugh doesn't get it.

Slave Trade Alive; America is Losing

The Daily Mail is reporting that more than 1,000 female employees are working 15-hour shifts, six days a week inside a factory at Dongguan, China. While the official employer is KYE Systems, the products (computer mice and webcams) are built for Microsoft. In addition to Microsoft, which accounts for approximately 30% of the factory's work, KYE also produces orders for Hewlett-Packard, Samsung, Foxconn, Acer, Logitech, and Asus. It seems everyone is using the Walmart model. Without overtime, the worker is paid the the equivalent of about $0.70 per hour. The end result is cheaper products for consumers in America and elsewhere, and higher profits for corporations. How do workers survive?

The workers also sleep on site, in factory dormitories, with 14 workers to a room. They must buy their own mattresses and bedding, or else sleep on 28in-wide plywood boards. They 'shower' with a sponge and a bucket.

For at least two decades, globalization has pushed production of goods formerly done inside the United States into developing countries. Underwear is made in Honduras, steel is made in China, customer service outsourced to India, and computer parts made all over southeast Asia. The cost of closing old factories and constructing new facilities, in addition to shipping goods around the globe are high, but the savings in labor more than makes up for the expenses. The positive result for consumers has been lower prices than would otherwise be the case. Corporations have seen their bottom line grow, and compensation for executives is multiples higher than it has ever been.

But there is an enormous downside to globalization. Ignoring the moral aspect for a moment, the financial impact of globalization is devastating to the United States.  In exchange for lower consumer prices, America has lost millions of high paying jobs. Dollars that once circulated throughout the economy now end up overseas. Many of the dollars which wind up overseas are used to purchase US Treasury bonds (government debt) which enable the government to finance entitlement and defense spending which now grows at a far greater rate than does our gross domestic product.

A sobering look at the mathematics behind the globalization that underpins both our economy and finances much of our national budget reveals that the current system is unsustainable. Much of the consumer spending over the past decade was accomplished on credit. Credit simply means receiving something now in exchange for paying later. With America's equity (property values) having fallen greatly and high paying jobs gone for good, there is no possibility that Americans will be able to afford to purchase goods at the same rate as before. The standard of living must fall.

With a falling standing of living caused by lower wages, Americans were temporarily able to get by as a result of drawing on credit. This is what occurred from the end of the tech bubble until the housing collapse. Now, the government is making up the difference for the American citizen by increasing spending in areas such as unemployment compensation, increased tax credits such as the earned income credit, food stamps (now over 39 million recipients), and stimulus bills which pass money to the states in order to fund public schools and other services.

To oversimplify the transformation that is occurring, here is the sequence of what fueled our economy since World War II:

Phase 1

From the end of the war to somewhere in the 1970s, the economy thrived because of capital and production. Credit standards were high and for the most part people purchased only what they had saved up for or could afford. Products were made within the United States and the country was a net exporter. During the decade of the 1970s, the United States experienced peak oil production and increasingly looked to oil imports to fuel the economy. The United States was running large deficits and Richard Nixon took the dollar off of the gold standard. This move, coupled with the fact that the dollar as the world's reserve currency, enabled the United States to continue running large deficits. The rest of the world, having recovered from World War II began to catch up in terms of industrial production. Japanese cars are an example.

Phase 2

Beginning in the 1980s, large oil discoveries in the North Sea and Alaska brought down the price of oil. This was a boom for western economies. Corporations, looking to maximize profits, realized that the supply of a global workforce would reduce labor costs and the push for globalization was on. Granting "most favored nation" status to China, NAFTA, and the lack of enforcement of immigration laws ended up lowering labor costs and transferring employment from American citizens to other countries are non-citizens within the United States. The 1990s saw an erosion of lending standards - anyone breathing could receive a credit card - and people began to run up debt. The technology innovations of the 1990s was the last industrial boom for the country. The boom ended with the bursting of the NASDAQ stock market and then the outsourcing of technology jobs overseas. The article referenced above is indicative of this phenomena.

To overcome the bursting of the NASDAQ, the outsourcing of technology and other industries, and finally the attack of 9-11, the Federal Reserve lowered interest rates far lower and far longer than had ever been done. Wall Street managed to force Congress to change laws making it possible to market gigantic securities based on lending of homes, student loans, auto loans, and virtually every kind of credit. As a result of low interest rates, low or zero lending standards, very few regulations, and zero enforcement of the remaining regulations, the American standard of living managed to hold course and even rise in the 2000s but unlike in the decades of the mid 1900s, this time the standard of living was based on credit and fraud. Finally, beginning in 2008, the credit had maxed out.

Phase 3

With the end of cheap credit in the fall of 2008, Americans saw asset values plummet. With a diminished industrial base, and capacity to draw on credit, the economy would collapse and the lifestyle Americans have become accustomed to would evaporate. Government has now come to the rescue. Government cannot  create productive jobs but, at least for the time being, can provide credit. Trillion dollar deficits are now the means for funding public sector functions such as schools, maintaining roads and bridges, law enforcement, and sewage. These are public services normally provided for by states and municipalities, but increasingly these services must be funded by the national government.

In addition to services, entitlement spending such as social security and medicare, pensions, and defense spending must be funded. The production of the United States economy cannot even come close to funding these obligations, hence the government must run exponentially increasing deficits to honor these obligations. Of course, this is not sustainable, and over time, there will be drastic reductions and probably default. Along the way, the governments at all levels (local, state, federal) will increase fees and taxes in order to pay for some of the expenses as well as protecting the various fiefdoms within each level of government.

Taxes, Wealth Redistribution, and Wage Destruction

Let's begin with a graph:

From 1990 to 2008, the percentage of filers (red line) with no liability has increased from just over 20% to almost 40%. (Another article) lists the percentage at 47% for 2009. Not only do most of these filers have no tax liability, they usually are recipients of refundable tax credits worth thousands of dollars from EIC, additional child tax credit, and now, the First Time Home Buyer Credit. 

This is disturbing on many fronts. The more people that are dependent on payouts from Uncle Sam, the more difficult it becomes to wean the populace from the government teats. Aside from the tax system being used as a means of wealth distribution, other Americans receive unemployment benefits often lasting well over a year, food stamps, subsidized housing vouchers, and other federal goodies.

Probably the most sobering thing about the graph is the realization that without federal subsidies, probably about 30-40% of the population couldn't make it on their income. As a matter of fact, an article was penned recently (link here) that  breaks down the median household income of $50,300 in terms of median housing, food, and other costs. Alarmingly, the conclusion is that the median income can no longer support median expenditures. Wow!

We tend to hear about statistics like those of the above graph and think of the recipients of government largess as moochers. While this is true in many cases, I think the greater truth is that many of these people are willing to work hard, but their skill set simply doesn't demand the same kind of wages as it did a generation ago.

As the trend for businesses and industries to outsource quality jobs overseas in exchange for favorable labor costs and less burdensome tax rates continues, America will see a declining standard of living. Quite simply, the wages in America have been and will continue decline as the global competition for wages forces salaries downward. Politicians will be expected to make up for the declining standard of living by increasing taxes on those individuals who have greater incomes. As the bottom half of the income pyramid becomes the bottom two-thirds, the public will ask for increasing taxes as long as it's the rich guy that gets hit.

Of course, as taxes rise, the economy will continue to suffer and the national debt will grow larger. Small businesses get squeezed out, and the large businesses will for the most part produce their products overseas and import them back here to market them; in essence the Walmart model as it applies to IBM, DELL, US Steel, GE, and any global player. How many years can the system hold up? At some point, the citizens will either passively become debt slaves or actively revolt against the government. Even if decent, intelligent men like Paul Ryan eventually assume a leadership position, is it too late to reverse the trends? How do you bring back high paying jobs to America? What happens if entitlements are cut, now that tens of millions of Americans are now dependent on government for survival?

Debt, Higher Taxes, and a Crumbling System

The first pie chart illustrates expenditures which comprise the national budget. Mandatory portion of outlays (Social Security, Medicare/Medicaid, and interest on the debt) are colored red and gray.  The revenue  taken in by the government (2nd chart) which includes income tax, payroll taxes, corporate taxes, etc., now only approximates the mandatory portion of the budget. Discretionary spending, labeled as defense and non-defense, total more than $1.4 trillion dollars and cannot be paid for. The Treasury issues debt in order to fund these programs.

(Graphs originated at ChrisMartenson.com)

Because of demographics, Social Security and Medicare payments are projected to expand at a much greater rate than the economy for several decades. The third largest component of the budget is defense spending. The United States military currently operates in over 130 countries. Partially because of our dependence on oil and the instability of regions that export oil, spending on defense will continue to be astronomical. As trillion dollar deficits mount, the interest on the debt will increase dramatically. At some point down the road, perhaps very soon, servicing the debt will become a mathematical impossibility; especially if interest rates rise.

Government officials have begun to acknowledge this predicament. Federal reserve chief Ben Bernanke made this statement earlier this week:

"To avoid large and ultimately unsustainable budget deficits, the nation will ultimately have to choose among higher taxes, modifications to entitlement programs such as Social Security and Medicare, less spending on everything else from education to defense, or some combination of the above." 

Just a few days prior to Bernanke's remark, former federal reserve chairman Paul Volker made the following point:

The United States should consider raising taxes to help bring deficits under control and may need to consider a European-style value-added tax.

Volker was not talking about replacing the current income tax system, but adding a value-added tax on top of what we already pay. Everyone knows, including Bernanke and Volker, that raising taxes leaves people less money to save or spend. As a result of increasing taxes, the economy would expand more slowly (or perhaps contract), unemployment levels would rise, and the standard of living would shrink.

Bernanke mentioned that modifications to Social Security and Medicare are necessary. In fact, President Obama has already appointed a commission to make recommendations that would accomplish just that. But just as raising taxes takes away money from citizens, withholding or postponing entitlements to seniors would also result in a reduction of spending and inevitibly contract the economy.

So, why raise taxes and cut promised benefits if it hurts the economy?

Quite simply, the power brokers are willing to shrink the economy in order to preserve the status quo as long as possible. Without raising taxes and/or curtailing entitlements, the national debt and the growing interest would become unserviceable. Eventually, there would have to be a default. Think Iceland, and not too far from now, Greece. By forcing austerity measures on to the public, the government and the banking system can continue to prosper even as the general populace starves - at least for longer a period of time than if these measures were not taken.

If measures such as those proposed by Bernanke and Volker are not taken, the financial system and political system of the United States will collapse. The flip side is that if these measures are implemented, the destruction of the individual wealth of America's citizens will follow.

Given the choice of postponing the collapse of the system at the expense of the citizenry, or allowing the broken system to collapse, thereby displacing the corrupt leaders that now control the system, which path is the better one for the population as a whole? If the people do not allow the politicians and their handlers to implement burdensome taxes and cuts, thus causing the system to fail, could the people of America then rise up from the ashes and begin anew? Could people implement a system of governance more reminiscent of the one formed over two hundred years ago, rather than the oligarchic controlled welfare state we have mutated into?

The vast majority of the people in America still believe, or at least hope, that the system can be still be saved (restored to the former state) via the political process without atrophy in our standard of living. This is a fantasy. It's now a matter of mathematics. The powerful elite realize this. Even as the system crumbles they are taking advantage of the people who support them. The system is collapsing, yet like lemmings, the populace continue to follow the lead of those making decisions for them. We continue to position the military in countries all over the globe, and soon we will begin to pay more of our income to the government, the banks, and the foreign countries that hold our debt. This country was founded on the principle of individual freedom, where the government serves the people. We have been transformed into a country of debt slaves where the people serve the government. Sadly, too many of us think that is the way it is supposed to be.