Editor's note: Has anyone from the Federal Reserve showed up at your front door recently, offering you a check for hundreds of dollars?
Of course not... and Richard Maybury says that's our first clue that the Fed is acting like a counterfeiter is going to have terrible consequences...
In today's edition of the weekend Masters Series, we're happy to present more work from Richard, editor of the U.S. & World Early Warning Report. Longtime readers know we consider him one of the top free-market thinkers and historians in the world.
In the following essay – originally published in the January 2010 issue of Early Warning Report – Maybury explains what really happens when the Federal Reserve creates huge sums of money. The conditions he describes have only intensified since then... And the Fed's most recent announcement of unlimited money printing has only made his warning more urgent...
The Fed-Caused Disaster Is Here, Part I
By Richard J. Maybury
In the September 1992 Early Warning Report, and again in the 2004 revision of my little Uncle Eric book The Money Mystery, I proposed that the conventional view of the Federal Reserve's monetary policy might be wrong. I suggested what I believe is a more realistic – and chilling – view.
Those projections appear to be coming true now, so it is time for a comprehensive review of what's happening to us. Keeping this article as scientific as possible, we will begin with...
... two clearly observable facts.
The first is that the Federal Reserve creates dollars and injects them into the economy. This is no secret. In Washington, inflating the money supply is considered a good thing; the Fed does it openly and proudly. Google "Federal Reserve money supply data," and you will find plenty of evidence on the Fed's own websites.
The second fact is that, when Fed officials inflate, the new dollars do not descend on the country in a uniform blanket.
For instance, in 2009, when the U.S. population was 308 million, and the Fed injected an estimated $200 billion into the economy, did someone from the Fed show up at your front door to give each member of your household their shares, $649.34 per person?
No? OK then, we know the money was distributed unevenly. Other people received your shares.
The federal government and mainstream press ignore the implications of this.
Most newly created dollars are injected through the banking system, and no one knows where they end up. All we can say for sure is that you and I do not receive our shares, so our dollars must go somewhere else.
Also, I think it is safe to assume the recipients of the dollars spend them. One transaction after another, the new dollars spread outward from the initial entry points, until they are widely dispersed. (Figure A)
This entry point, or cone of money, is a hot spot. People in the hot spot go on a spending spree.
Businesses see the hot spot and move into it to tap into the increased flow of greenbacks. (Figure B) They acquire new plants, equipment, and workers. The tech industries in the 1990s, and real estate until 2008, are examples.
A key point (I'll italicize key points): The formation of new businesses in the hot spots is not investment, it is malinvestment. It is mistakes made by managers and investors who have been misled by the flow of newly created dollars. These people have been lured into financing enterprises that are in the wrong places doing the wrong things.
Another key point: Each injection of new money causes more malinvestment, and this malinvestment needs continued new pourings to keep it alive.
It's happening everywhere.
I am writing here about the U.S. Federal Reserve, but this explanation applies to the behavior of all governments around the world. As of the 1970s, all have issued fiat currencies that can be created without limit.
The money goes somewhere, and wherever it goes, malinvestment accumulates.
Another way to understand this is to ask, why is counterfeiting illegal? After all, what could be more helpful than creating and distributing money?
Supply of dollars up, value of dollar down.
Money responds to the law of supply and demand just as everything else does. As the quantity of dollars goes up, the value of each individual dollar goes down, and prices rise to compensate.
That's inflation. Inflation is not rising prices, it is an increase in the amount of money that causes rising prices.
The government eventually becomes concerned about the fall in the value of the dollar, and tightens the money supply.
The flow of money to the hot spots slows, and the shakeout of the malinvestment begins. Businesses go broke and workers lose their jobs. (Figure C)
That's a depression. A depression is the correction period following an inflation. It lasts until the assets of the businesses are sold off and the workers find new jobs.
Usually, when a depression begins, officials panic, and re-inflate. This stops the correction. That's a recession. A recession is a depression that has been cut short, by resumption of the inflation.
Summarizing what we've covered so far...
... when officials inject money into the economy, this distorts prices and causes business managers and investors, who use prices as guides for decision making, to make mistakes. Firms are created and expanded, and employees are hired, in areas where they otherwise would not be – meaning in the areas to which the new money is flowing. These mistakes are malinvestment.
The firms and employees in these artificially created hot spots are then dependent on continued injections of money.
This disorganization of firms and employees caused by the injections, can be called the "injection effect."
To stop the recession, the government resumes its injections. But – another key point – it has little control over where the money goes after the initial pour. Each person's spending decisions change daily. So – another key – when injections resume, many of the dollars go to new places, creating fresh pockets of malinvestment.
Further, the pockets of malinvestment are not identifiable until the Fed's counterfeiting stops and the bankruptcies begin. (But it's not counterfeiting, it's "monetary policy," just as the Korean War wasn't a war, it was a "police action" and Social Security isn't a Ponzi scheme, it's "insurance.")
Ever-larger additional injections are needed to prop up the malinvestment and prevent depression. The amounts of newly created money, and malinvestment, spiral upward.
Let me emphasize, in 2009, no one from the Fed gave you your $649.34, so you know for a fact that the newly injected money is distributed unequally, and therefore has uneven effects. It creates cones. (Figure D.)
Editor's note: Richard believes limitless money printing will lead to a debasement of the U.S. dollar – a trend that will send Americans into "uncharted territory." He has compiled a series of books and reports – the "Embarkation Package" – that he says will "provide a map to follow as you travel to a place of greater understanding about economics, finance, history, and law."
To sign up for Richard's Early Warning Report – and learn more about his "Embarkation Package" and some other special offers – click here.