The Stimulus post lays out the mechanics of how the recession was an inevitable result of an economy built on runaway consumer credit. There is also another phenomenon in play in the form of savings that are comprised of wealth that does not really exist.

In recent decades, ownership of stocks has become more of an up or down speculative activity rather than purchasing shares for yield or appreciation tied directly to true growth. Regardless, other than IPO’s, share purchases are the cash reimbursement of ownership, not actually investing in the true sense of the word.

These trillions of dollars of wealth are actually a perception. Every dollar of stock sale receipt comes from some one else’s earnings. The share buyer’s savings becomes the seller’s spending money. It is wealth transfer; A zero sum game! It is currently coming unglued. All stock market value depends on the future expenditure of other people’s disposable earnings! As those disposable earnings disappear, The perceived purchasing power of shareholders disappears also.

The title of an award winner of mine in April of 2000 was “There’s no Such Thing as Money in the Market.”

What follows is the original post:

Peter Asher (04/13/00; 12:59:10MDT – Msg ID:28562)
Econoclast (04/13/00; 11:46:58MDT – Msg ID:28561)

Re your >>>I’ve had a thought which leads to a question…
If anybody had any opinions on this, please share. — As far as I’ve reasoned it out so far, if a share of stock that was worth $100 yesterday is only worth
$50 today. Was that $50 of lost value simply extinguished from the money supply?<<<<

None of the money supply is “in” the market to be extinguished. — I went back and edited Y2K out of a previously posted tome, itself a composite of earlier posts. Hopefully, this will clarify rather then confuse this controversial issue.

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All money must firstly lie in a bank ledger, a wallet, a strong box or under a mattress. All of us here have agreed with the empirical fact that money does not ‘lie’ in the stock market; even the money spent on an IPO becomes someone else’s working capital, residing in their bank account.

So there is a lot of money out there, always being ‘someone’s’ spending power unless it cycles back to the bank, reversing the fractionalization creation, or to the Fed as a repayment from the bank that originally borrowed it. Therefore the question is, who has that spending power and what might they intend to do with it?

A record breaking amount of discretionary income has detoured through the equity markets. Specifically the earners of that income have, instead of spending it on consumption, on the capitalizing of production, or ‘saving it’; decided to reimburse an owner of shares in a company and then the seller of those shares makes the decision to consume, capitalize or spend. Ergo, money “Flows thorough” the stock market rather then being “In” it.

Let us assume for now, the continuation of the present level of sales and employment and therefore the same level of discretionary income. If stock market sentiment were to decline, then the spending decisions will swing back to the income earners. In that environment, will there be more homes and new cars bought, more businesses started or expanded, or more money ‘saved’? (The latter, of course, is allowing the Banks to expand the amount of that money and then loan it out for one or the other of the former.)

An expanded money supply, demanding more goods and services from a specific quantity of production facility, would be inflationary. On the other hand, if a lot of spending power were used to hire the creation of more production facilities, it would not. Finally, if their was an excess of production facilities created, there would be deflation. Recession or depression only occurs if the cycle of produce and consume breaks down, from whatever cause.

Envision the Free market economy depicted as justice is, by a sculpture of a blindfolded lady holding a scale. One side weighs production, the other consumption. It all comes down to a question of balance.

In a falling market, the *outstanding money supply is changing hands, not changing in size*. If the stock market declines, gradually or otherwise, those who get less for their stock than they paid for it, have allowed some of their earnings to permanently stay in the hands of others.

What will be increasing when less money “cycles through the market” is the amount of spending decided by the original receivers of income, rather then when that spending decision was made by stock sellers. I believe last year I posted a concept of stock certificates being the fifth currency, after the dollar, yen, mark, and SF. Other than the right to take part in company affairs, the only difference is the form in which that (stock) currency is exchanged. That is why the wealth effect exists. People perceive their stock as a saved currency that will increase in value against the dollar.

It is not the inflated values considered to be the “Bubble” that I see as the danger. It is the magnitude of the overall investment capital that is passing through the equity conversion machine and exiting as spending money.

The challenge to AG & Co. is to keep that flow-through steady without expanding the bubble or scaring investors out of it either. It would appear that Investors fear of loss is becoming strongly counter-balanced by the fear of missing out on exorbitant capital gains. AG could be shrewdly playing this “like a violin” as they say.

One day some optimistic comment or an as expected rate announcement. A few days later, a little bit of a discouraging word. The market rallies, the market corrects. Investors are no longer ‘making’ their twenty percent. At some point they may be just breaking even. But they’ll never know if next week everything will go roaring upward again. Damned if they sell and damned if they don’t.

I’ve stated that money is a form of bookkeeping, and that a dollar is a “production chit.” So, let’s say a dollar is a note that says, “Pay to the bearer on demand one dollar worth of goods or services from the people of the USA. My point is that the government is not the writer of that note. The USG is the Title Company guaranteeing that note. The govt. doesn’t really owe it; that note is based on the American People’s ability and willingness to honor it.

As long as the citizens of this country are getting up and going to work and keeping the economic machine going, they are the primary underpinning of the US dollar. The secondary factor is how the trade value of the dollar floats in the currencies game. This massive debt that occurs from printed money represents goods and services consumed in return for goods and services not yet created. So, maybe there is a check and balance here. If global money games devalue the dollar, then the demand for American goods and services would rise, the trade balance would improve, and the debt level decrease. The threat to the global economy comes from excesses. If default or devaluation of sufficient magnitude occurs then the domino effect gets triggered.

The gist of all this is that fiat money depends on maintaining the agreements behind it. (Dun and Bradstreet’s motto is “Credit: Man’s Confidence in Man”) If the agreement can not be held in place, then a medium of exchange is necessary to hold onto value earned, and this is where GOLD has always functioned.. The big question is to what degree does one need to devote production into hoarded gold, in order to secure earnings. (That is what the central banks are wrestling with at this time. Do they back their currencies, or purchase more national necessities such as weapons, welfare or favors)

The money supply expands or contracts depending on the loaning or returning of funds, (credits) out of or into the banking system. The effect of a market crash would certainly be first and foremost a decline in spending. The “Wealth Factor”, which is nothing more than an expectation of future stock sales being paid for by money being ‘saved’ out of future earnings, would be devastated. If stock market sentiment were to decline, then the spending decisions would swing back to the income earners. In that environment, would there be more homes and new cars bought, more businesses started or expanded, or more money saved? (The latter allocation, of course, would result in the banks expanding the money supply and then issuing loans for consumption or capitalization.) However, if there wasn’t a demand for new loans due to a crash in consumer confidence, then that money would exit the Money Supply.

Years ago, people used to say” I have some stock in AT&T” or whatever company. Not “My money is in AT&T.” That’s all people have, a share in a company. The only money that is actually IN the market is whatever bid is on the floor of the exchange at that particular moment. If at noon tomorrow there are bids for 2000 shares of AMZN @ $50 per share, and nothing else, then in that moment in time, the total wealth factor of the company could be seen as $100,000. First guy to sell his 2000 shares is the one who “Gets (some of) his money out of the market.”

If that flow through of savings into stock sales diminished, spending would then depend on what money people were earning, and whether they saved it or purchased consumer goods. If they saved it in banks it would contract the money supply, If they kept it circulating, purchasing things, then the ‘price’ inflation/ deflation would depend on the willing buyer/willing seller dynamic that is the heart and soul of economics. My definition of the cause of inflation is “The power to command price.” Even if wages are not earned due to a shortage of supplies to run the production, prices can still stay up there if there is ‘saved’ money in circulation to acquire the remaining available goods. For deflation to occur there would have to be enough goods eagerly seeking a small pool of buyers who still were willing to spend. If everyone who still had unspent credit was scared into gold, it could go to the moon while everything else was in the tank.

I would define a depression as a situation where people cannot find the opportunity to produce and exchange with each other. The government can always print our way out of a depression. But then those who still have purchasing power will not have the opportunity to buy up the world for a pittance, so, the question then becomes “Who will the government be working for”

There is one cardinal difference between Gold (and silver) and bank note currency. All bank notes are credits; they will purchase things from others, but only so long as their debt is honored by the society that uses them for rights of exchange. A banknote basically a WeOU. “We the people of this country owe you this numerical value of goods or services.” (Dependent on where inflation or deflation has taken that value when you call in the entitlement.) So in a sense, when you take currency out of the bank you are saying, “Hey tear me out that piece of the page where you have my deposit written down. I’d rather hold on to it myself.” Therefore, an FRN is the last refuge of credit money. No matter what fails in the world of electronic or paper ledgers, holding your own “Ledger to go” as Aragorn then described this, is a safe solution.

What cash has in common with gold is possession at the expense of lost interest. The big difference is that only gold protects against lost value. Gold or silver or precious stones are in effect, credits exercised and transformed into the ownership of portable value. That value may fluctuate as does a currency, but it can not be defaulted. In post #2400 of 2/14-PM, I defined Gold as ‘asset’ money and currency as ‘credit’ money; I keep coming back to that as the basic criteria for analyzing the relationship between gold and paper.

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By Peter Asher©

Originally posted on American Solutions, 8 Dec. ’08

“No one saw this coming.” — Dick Cheney

“My great regret is that I and so many of us who have been involved in this industry for so long did not recognize the serious possibility of the extreme circumstances that the financial system faces today”– Robert Rubin

How absurd!

Anyone with an analytical mind could have seen it coming and anyone with an analytical mind can be shown what needs to happen to fix things.

This recession was not caused by a credit crunch and it was not caused by the sub-prime crisis. The cause was that the economy was built on a debt bubble that expanded to a level of unsustainable debt service. The capability to produce goods and services expanded to the money supply allotted to it, but an economy that attains equilibrium on the advancement of purchasing power must inevitably contract when that advancement can no longer be maintained. . Defaulting mortgage debt was the proverbial last-straw-on-the-camel’s-back, the final load on this unsustainable debt.

Debt service now claims a substantial portion of overall purchasing power. The portion remaining to drive the economy is therefore now less than it would be even on a no-credit, spend-it-as-you-earn-it basis. The economy that has expanded to fulfill the demand of earnings-plus-advanced-payment, must contract to the demand of earnings-minus-cost-of-debt-service. What for decades was an economy built on, “Buy now, pay later,” has become, “Pay now, buy later!”

Statistics on sales, from lattes to car purchases, indicate that, as with the stimulus package, people are curtailing spending and are saving or paying debt with earnings. Yet one person’s earnings are created by another person’s spending. One person’s spending enables someone else to earn a living, as someone else’s spending has enabled them. What creates the imbalance in the economy is spending what one has not yet earned on that which will not contribute to earnings.

This is the difference between money borrowed to facilitate production and distribution and money borrowed for consumption and speculation. In between, there is borrowing for personal needs that are essential for personal function, such as a car loan or a new computer. Credit abuse, not credit use, is what damages an economy.

Now, as the numbers of the unemployed swell, more unemployment is triggered because those former wage earners no longer have the spending power to contribute to other people’s earnings. This is feeding on itself and is potentially a downward spiral headed toward a full blown depression.

The bailout devotees claim that frozen credit markets are holding this recession in place. Infusing hundreds of billions of dollars into the banking system was supposed to result in making new credit available (which has not occurred), and yet it is the extent of credit already granted that has brought about the situation in the first place. More credit, which can only be issued to the degree that there are those who can still qualify for it, can provide a temporary stimulus, but after that there is that much more debt load to be serviced.

The proportion of purchasing power created by credit relative to the total economy is far greater than at any other time in history, a direct result of qualification standards being lowered more than at any other time in history.

The housing bubble was really a replay of the 10% margin phenomena that created the 1929 stock market bubble. Highly leveraged purchases of equities that have been highly overvalued by, let’s call it, mob psychology! People do not so much forget history; they seem not to have learned it. I doubt there was a single money-losing home flipper who knew of the Dutch tulip bulb mania which escalated to the point where someone sold their town house to purchase one allegedly exotic specimen!

All of the bailout proposals, including the tax holiday, create new debt. There is no quantitative difference between giving consumers more credit directly or causing them to be indebted by the taxes that will come due to finance stimuli. The only difference between a tax holiday and government-issued checks is the method and apportionment of the distribution.

The one stimulus that would create new purchasing power without creating new debt would be the refinancing of existing debt at lower interest! Paulson has proposed this as a possible 4.5% interest mortgage rate, but that has been acknowledged as only available to those individuals qualified under the current strict lending standards.

Someone rolling over a $300K mortgage from 6.5% to 4.5% would be “stimulated” by a reduction in debt load of $500 per month/$6000 per year for decades. That would be a much more powerful stimulus than a single government check for $1200 or even a two-month tax holiday that would save an average of maybe $4000, one time only. Also, while Government stimuli empirically result in additional taxes, reduced mortgage payments would immediately result in reduced interest deductions, whereby tax revenues would increase. Unfortunately, the number of people who would be able to obtain these possible refi’s is nowhere near enough to generate the purchasing power necessary to give the required “jolt” to the collapsed economy.

Currently America’s internal and external debt is about $60 trillion, almost 500% of the country’s annual GDP of a bit over $14 trillion. Of that total, family debt (including mortgages) is about $15 trillion, financial firms $17 trillion, non-financial firms $22 trillion, municipal debt $3.5 trillion, and national debt $11 trillion.
Leaving aside the fact that all of that debt must be paid back from the flows of personal and business earnings; the $15 trillion family debt, if owed by – say – 60 million households, averages out to $250,000 each.

If mortgages are running 6% to 11% and credit cards up past 30%, we could, for the purpose of discussion, estimate the median interest rate to be 7.5%. This comes out to $1562.50 per month for that average family. That’s $1,125 trillion of interest per year, which is 8% of the GDP. If that interest could be cut in half it would stimulate the economy by a growth factor of 4%!

Now rollover loans at 3.75% might seem extraordinarily low, but if the Fed rate were held long term at ½% to zero, then that lower interest rate could be brought about. If the lenders weren’t willing to do that, perhaps some “Jawboning” or direct stipulation from their TARP benefactors would do it. The newest plan to adjust mortgages in bankruptcy proceedings is short sighted! If mortgages are adjusted by refinancing now then people don’t wind up filing for bankruptcy.

Failing that, the government could bypass the banks and create a direct-from-the-Fed lending entity to give one-time rollover loans to all who were fully current on their debt, as of the first of the year. The loans could refinance both mortgage (home owner only!) and credit card debt. In return, the debtor would agree to a stipulation (recorded on their credit report) that they were unqualified for further credit until some time well-off in the future when they would have significantly reduced their debt. Not only would this reduce the cost of the systemic debt overload it would be unwinding the systemic debt position.

Those that lost their jobs or had major business setbacks could be given a year’s grace by amortizing a year’s interest into the loan which would only raise the interest rate to 3.9%. This would allow them to keep their homes, which would greatly enhance their ability to focus their energies on reestablishing earnings. Simultaneously the economy would be recovering sufficiently to provide the opportunities needed.

This Fed-direct plan would initially require new funding into the system, but every loan paid off would route those funds to the banks or the holders of credit card and mortgage bonds. The banks, having their customer base reduced by the competing loan rollovers, would have excess capital inventory. Money “printed” for the fractionalization expansion could be required to be funded back to the Fed. The bond holders would have their bad and risky loans paid off, be recapitalized, and have new funds to lend. Their “mark to market rate” would recover. There would no longer be a need for a bailout; it would have been done in reverse order!

Naturally many loans would not be fully collateralized, but collateral value would immediately rise upon the implementation of the program, since foreclosures would not be glutting the market and qualified buyers would be re-establishing activity in the home construction sector.

Certainly, the banks and credit card companies would strongly object to a plan that would severely contract their business However; if one can grasp the magnitude of the threat of debt, default, deflation and depression; one can see that surviving at a smaller size is preferable to being larger and defunct!

All of the above, aided by a re-institution of usury laws, could lead to an economy and a society that are less dependent on spending not-yet-earned money for the needs of the present moment.