We find Johann Wolfgang von Goethe’s Faust in his library in Germany around the late 18th century in a state of manic depression contemplating his forty years spent in the
study of philosophy from the ancient Greeks and Romans to the the Schopenhauers, Hegels, and Kants of his day. He had nearly gone insane reading the Critique of Pure Reason and it suddenly had dawned on him that he had wasted his entire life drowned in books and that all his learning was worthless. Mephistopheles, the Devil, seeing his opportunity to prey on the spiritually weak, approached him to say all was not lost. He could make up for lost time, and offered him the most beautiful woman in the world (Margarete), and a paradise on earth with her at his side, and all that he had to do was sign over his soul on the dotted line contracting to deliver it up to him at the appointed time of his death. Our friend, Faust, tired and exhausted in studying the vain fruit of the tree of the knowledge of good and evil, decided to choose what he thought would be the new route to Paradise.
In this jolly period Dr. Faustus and Mephistopheles alighted on a Kingdom in Germany where the bankers in Frankfort had created a species or gold shortage, and thereby had induced a depression here in Holy Germany for the purpose of dominating or overthrowing this Christian Kingdom. The population was near to rioting in the streets as they were hungry, the country was is disrepair everywhere with buildings looking like they were going to crumble, and there was a distinct possibility of the King being overthrown after a thousand years of the monarchy.
Enter Dr. Faustus (Goethe) and Mephistopheles (Mayer A. Rothschild and Alexander Baring) into the King’s palace, and there they proposed the John Law remedy of paper money and credit to be created out of nothing to solve the problem of the Frankfurt gold manipulation. The King exclaimed that how could he sign off on a paper and currency that had no gold backing, and not be perceived as a fraud. Mephistopheles answered that they would put the King’s picture on the currency, and they would sign his name to the statement that the currency was backed by all the gold in the kingdom that had not yet been discovered and dug up, and that would solve whatever qualms the population might have had. The King said that it would never work and would not be the first King in his thousand year line of the Holy Roman Empire to have committed such a fraud.
Mephistopheles and Dr. Faustus then proposed a grand ball where all the beauties of the Kingdom would gather, and the liquor would flow profusely, and everyone would have a merry time. The King was plied with drink until he lost his senses, and they then put the paper currency decree into his hand, and he signed it. While the drinking celebrations lasted weeks, Mephistopheles was at work spreading the currency around and the Kingdom became prosperous and happy. Mephistopheles became the finance minister and central bank head, and coordinated with the other members of his caste at other central banks. These were the same folks who had induced the depression in the first place so they could take over this kingdom that was holding out.
Nevertheless, finally the King sobered up, and in walking through the streets of his Kingdom he found that all had changed,and it was happy and prosperous. When he asked how it happened, and found it was due to his having signed the paper money and credit decree, he was furious. What a fraud, he cried. His wisest minister warned him that the new power transferred to the finance minister spelled the eventual doom of his throne, and would lead to the diabolical overthrow of the Christianity that he had sworn as monarch to support over all other things, and the total debasement of all womanhood in the Kingdom as was later seen in Holy Germany during the Weimar period. But Mephistopheles countered that it was too late, and that he would certainly be immediately overthrown if he withdrew the paper as the population was so happy and industrious. The King feared the consequences and relented.
Goethe summarized this series of events with the following poetic verse:
“I am fed up with this endless how and when,
if there is no money, let us make it then.”
And how this make believe paper works is the next part of this discussion.
“Paper money eventually returns to its intrinsic value – zero.” (Voltaire, 1694-1778)
It will be the fate of all paper and fiat credit systems that the monetary unit in such a vehicle will die. I need not cite all the paper wreckages like the American Continental or the French Assignat but the most curious part of the German hyperinflation which was largely caused by the overproduction of the fiat mark was that in 1923 what was left of it vaporized even though the money supply no longer was increasing. People stopped believing in it. What was even more curious was that Dr. Hjalmar Schacht created a new currency with nothing behind it and it maintained its value and he was consequently called the old wizard. The same thing happened to the Saigon currency after the North Vietnamese surrounded the city. Its value vaporized to zero. In each case the value that was thought to be there was what it was thought at the time to be and not what it was in reality. Since this money has become the worshipped idol of our society you will excuse me for coining a new expression for this phenomenon entitled secular transubstantiation or modern idolatry. Karl Marx called it the jealous God of money.
Fiat money and usury are a social control mechanism that are founded on principles that according to Aristotle are against nature (Politica 1258b) in that they cannot create their own children and thus cannot create the interest to pay it back. For example, if I lend to a member of this audience the 176,300 tons of gold which is all that exists in the world, and ask for ten percent interest payable in principle and interest in a year, then the 176,300 tons of gold plus the 17,600 tons of interest cannot be paid in full as there is no gold in the world to pay the interest. In other words, the system based on gold and interest (usury) cannot work as it cannot pay the interest on the fully extended lending base. But even if we used paper, and people believed it was gold, the paper too cannot procreate. So once the money is fully lent out, then no further lending can take place nor can the interest be paid unless you hypothecate out of nothing additional paper or credit. The system would otherwise start an implosion if it were not hypothecated with additional credit or paper money.
Dante placed the usurer in his seventh rung of Hell with the sodomist as the usurer made gold fruitful though it was not, and the sodomist made what was fruitful unfruitful. He consigned both to the seventh rung of Hell for the sinners against nature and God. Shakespeare understood this in his play “The Merchant of Venice” in that Shylock says he makes gold fruitful like Laban’s flock that bore wages to Jacob of the ringstraked and spotted cattle but this could hardly make gold fruitful. And Shylock tells us at the trial that he really wants the life of Signor Antonio because he was interfering with his control mechanism for ruling over the society for his lending without interest would drive system of control out of business. It was through that control mechanism that Shylock controlled the state. He was offered by the angelic Portia a multiple on his interest and refused for state control was more important that the multiple interest to be paid back in multiples in this case.
I would not recommend to the audience that anyone seek to interfere with this control mechanism as he would be striking at the roots of the control of the state of the present masters of the universe and these masters would react no differently than Shylock who wanted his pound of flesh as that would have ended the threat by slaying Signor Antonio the representative of the love your neighbor as thyself state. Plus ca change, plus c’est la meme chose or the more things change the more they stay the same.
Alfred Marshall, J. M, Keynes teacher at Cambridge, struggled with this Aristotelian fallacy in our monetary system and could not solve it. In other words, the gold or paper money cannot create its own liquidity for the interest to be repaid and requires a fraudulent hypothecation to keep it going. He was the last one and there are no others who tried to tackle it since.
The control mechanism works like this. If we take the Euro central bank reserve of 1%, and the Euro is not backed by gold, and I have a billion in capital which I invest in my bank, then my bank will create a hundred billion of new money as it expands under a 1% reserve requirement. The equation is .01x equals a billion so x equals 100 billion. So from a billion in gold or fiat money is created a 100 billion. My goal is to make 10% profit on this money as it expands like an accordion through the EU fractional reserve system, and while interest rates vary, we will use this figure as a simple proxy. So I make ten billion a year out of my one billion in capital or ten percent of my now 100 billion. Now let’s say my neighbor is as rich as I am and invests a billion dollars in gold to build an automobile plant as Henry Ford, and makes a thirty percent profit, then he makes three hundred million dollars a year to my ten billion. He is just as capable and intelligent as I am but I have the fractional reserve banking system behind me. And I make absolutely nothing but money out of nothing. I have no inventory to keep. My wealth is a bookkeeping entry that everyone believes in. As I make ten billion a year in profit, I grow richer and richer. If the central bank deposits a billion dollars in my account and I control that bank, then I make another hundred billion dollars, and reap another ten billion dollars a year of income. How can my Henry Ford neighbor keep up with me? I have to win the game.
And before you know it the Dukes of England with their grand estates are nothing compared to me. I came to England in 1798 and my family took over the whole country as I had all the money. As the Dukes lost their lands to me, I decorated my board with their graces (see Anthony Trollope’s “How We Live Now”). Even the Queen had to come to me when she needed money and I lent it to her (Proverbs 22:7). I became the master of the universe and the Queen became a figurehead (see “Coningsby” by Benjamin Disraeli). I declare on television that I am not accepted as an aristocrat despite my purchased title as I am only in this country five generations but what I don’t say is who cares. I am the ruler and that is all that counts.
Now, my friends, this is why gold cannot work. You cannot mine gold fast enough to cover all of the fiat credit that has been created out of nothing. Nor can the paper money keep up so I just have to make more of it under my system. As our Goethe says in Faust, I am fed up with this endless how and when, if there is no money, let us make it then. And so we have.
Now what is the real value of gold. If the United States has 8,133 tons of gold in Fort Knox (unaudited) which comes to 16,267,000 pounds. The pounds translate to 260,270,000 ounces. If I divide that by M-3 money supply, which is to divide the ounces into about 15 trillion dollars, then the gold backing for the dollar is $57,630.00 for each ounce. The quoted ounce today is around $1,174.40. Twenty dollars in 1920 used to be convertible into one ounce of gold. Now, what does this mean? It means that the fiat money and credit that has no value has supplanted the gold that has intrinsic value until at some future time the jig is up, and reality dawns on the masses as during the German hyperinflation or during the Saigon siege. It is then, and only then, that they will escape from their collective insanity.
I used this literary excursion, taking some liberties with the text, to introduce the discussion of the Euro for reasons which will be soon apparent. The goal of consolidating Europe into one state goes back in modern times to Napoleon Bonaparte’s Continental System whose goal was to create a system of Empire that was self-sufficient and would preserve within it its industrial capacity against the exports of Britain. Here we see a substitution of the Christian consolidating principles of the Holy Roman Empire being replaced by purely materialistic considerations. Napoleon was not the only one to see that you must preserve your own industries if you wish to have power, but Friedrich List wrote about it later in Germany and Alexander Hamilton about this time set up the United States with tariffs so that its industries would not be destroyed. Napoleon used his military genius to foster this system but was confounded in Russia as Germany over hundred years later in the early 1940s. Germany had sought to create a Eurasian Empire from France to Japan using Japan as a partner. Again, Britain in its traditional classical balance of power role, found allies in the United States and Russia to stymie this German project that would have shifted the balance of power against the Anglo-Saxon nations.
The Euro is a new effort led by Germany to achieve a new Continental System. It was Germany that pressed the Euroland nations to extend the Nato Alliance to Poland to protect its industrial investment in eastern Europe in direct violation of the agreements with the drunken Yeltsin. Germany’s foremost goal was to create this 16 trillion Euro common market and Euro currency as a direct competitor of the United States where it would finally have a similar market to scale its products. It is for this reason we do not see Germany giving up on this dream just because a Portugal at 1.4% of Euroland in GDP, or Greece at 1.8% are having problems. (I have to revise my opinion on the longevity of the EU and Euro based on their present conflict with Russia for if it is not settled soon it may lead to the breakdown of the EU and the Euro.) These problems benefit Germany though it cries with crocodile tears of distress over the thought of subsidizing the weaker nations while its exports soar as the Euro falls. These German export profits more than offset some lending to the states as Greece and Portugal that are in IMF tribulation, and these exports act, indeed, as a self-correcting mechanism for the Euro as the trade surplus generated by Germany will act to counter the Euro’s fall.
If there are any problems here it is between the bank exposure of the main Euro nations in lending to the banks of Portugal and Greece, and they would be concerned with triggering another derivative crisis that happened when Lehman went down. The pulling of the plug at Lehman detonated parts of the quadrillion derivatives which represent 17.5 times the world GDP of 65 trillion (This talk was delivered several years ago and I have not revised all the figures.) The currency component of this derivative structure is 58 trillion alone, or nearly the GDP of the entire world. I hold up before this august audience the June 23 article in the Financial Times on quantitative easing of the United States. There is a gigantic fact here that few really understand. It is the 2.9 trillion dollars of Federal Reserve Credit (now over 4.434 trillion). At the time of the fall of Lehman there was only 900 billion of this credit built up from 1914, and in the three months following the Lehman catastrophe the Fed created one trillion in new credit, or a hundred years worth, to save the system, and another trillion over the past few years to keep the United States from falling back into crisis and to try to grow it out of its problems. Would Germany want to pull the plug on Greece or Portugal to face another Lehman as they could not be sure how much effect a Grecian collapse could have on the derivative structure?
I might add in passing that these quadrillion of derivatives have been described by Warren Buffett as a potential financial weapon of mass destruction, and whose description was confirmed by the historical events of October, 2008, have not served as a deterrent for their continued utilization as the derivative aggregates continue to mushroom into larger proportions. A way of analyzing how useful this additional two trillion has been is to divide this base in 2008 of 900 billion into the GDP then of 14.4 trillion, which was a turnover figure of 16. But in 2010 the 2.9 trillion or thereabouts divided into 15 trillion or a turnover ratio of 5. The money is just not being used effectively which is largely reflected by the excess reserves of 1.3 trillion (now 2.4 trillion). The excess reserves are there to bail out the banks as the interest rate the Fed pays the banks for these deposits is above market and so this money is not lent out to stimulate and inflate the economy. The Federal Reserve credit figure is a vitally important figure for it is used by the banks as its base for fractionalizing or expanding loans as a form of money supply. If you use a 1% reserve requirement of the Euro central bank, the mathematical expansion is over 100 times.
It is also important to realize that the credit system of these banks is a closed loop and no money leaks from it except when it is converted to cash, and no money leaks overseas unless it is converted to cash and carried overseas. The latter is not easy to do with western nations watching like hawks these cash transfers via the terrorist laws, or really enemy of the people statutes a la Soviet Russia. Essentially, this credit dollar based on deposits at banks floats against the credit Yuan or credit Yen in a similar manner. The problem with this floating system is that it is not clean. There are dirty floats all over. And instead of the dollar floating by supply and demand against the Yen, the Japanese erect a currency tariff against our goods by buying our currency to raise its value so they can dump their goods on us. If currencies truly float, the deficit countries based on excess say dollar credits would fall making it harder for them to buy imports, and it would serve as a self-correcting mechanism. This mechanism is interfered with by these dirty floats. When we talk about hot money in the United States of about 11.7 trillion we refer to deposits or Treasury instruments that can be immediately sold and converted to foreign credits (this figure is more now as it is not up to date). If this hot money were to be converted all at once into foreign credits, the currency would crash as it would constitute a dollar exposure and not a dollar turnover as the 4 trillion that turns over on the foreign exchange market each day. The only reserves the United States has against this potential run on the dollar is about 300 billion plus of gold at market and currencies at market. This is far too small to tackle the problem and if the gold were sold on the spot it would crash its price causing it to yield much less an amount than the nominal reserve value.
If truth be told, if any of the Arabian Gulf States were to try to remove overnight many trillions of their foreign investment from the United States, it would be regarded as an act of war and the assets frozen. The issue of turnover against exposure discussed above can be easily explained by the following comparison. If you have a billion dollars to trade with which is hypothetically all my net worth, and I buy and sell bonds all day to the tune of 300 billion dollars, then it would be foolhardy to say that what is my billion of reserves against my trading prowess of 300 billion dollars a day in bonds. But the exposure I have is a billion, and against that exposure the turnover means nothing except as to whether I lose or gain money each day. If I lose two billion dollars, I am broke, and minus one billion dollars. That demonstrates that when the president of the New York Federal Reserve, William McDonough, told me at a gathering what is 11.7 trillion (it was less then but I am using the current figure to avoid confusion) in hot money exposure when less than half that amount trades each day, either he did not know himself or he was purposely trying to mislead me as to the significance of this exposure that can be ruinous. The three trillion exposure to China (now early four trillion) due to their surpluses is therefore potentially very dangerous for the United States and other deficit countries as if they converted these dollar credits into Yuan credits as the Middle Eastern countries could, the dollar credit system would also collapse on the foreign exchange markets. It is not likely to lead to a short-term catastrophe as China is not prepared to cease exporting to us and others, and nor would benefit from a world depression as it would deter their march into becoming the dominant world power. In any event, China’s dollar credits would also be frozen if the effort were initiated as those of the Gulf States of Arabia.
Martin Feldstein thinks that China has adopted a two prong effort to eliminate these surpluses by vigorously encouraging the reduction of savings by a massive increase in domestic consumption and a gradual but significant rise in the Yuan. But in the event Feldstein is wrong, nationalist forces are growing in the deficit countries who are watching their internal industries being destroyed, and while we don’t see convulsions in the near future due to these misalignments of currency, we do see it in the more distant future.
Another example of exposure versus turnover is the high frequency turnover in the stock and Forex markets. The average holding or turnover of stock in the United States is twenty seconds. In the Forex markets, which is 70% electronically based on preset algorithmic trading, the roundtrip trades or turnover are completed in under a second on average, and the Big Five players are in and out in under 1/10 of a second. This is truly an unproductive use of capital as it produces nothing of value to the society, as well as most of the quadrillion of derivatives. The Tobin transactional tax to discourage this wasteful expenditure of national resources is one way to redirect bank credit.
As John D. Rockefeller laid out for his Standard Oil combine that is best reflected in one of its former components, EXXON, whose Rockefeller principles they still follow, derivatives for decreasing risk are an authentic business purpose but not to gain speculative profit. As John D. wrote in his “Random Reminiscences”, “Standard Oil is not concerned in speculative interests as the oil business itself is speculative enough, and its successful administration requires a firm hand and a cool head.” And this principle was carried forward in a recent Annual Report of EXXON that stipulated that derivatives are only used to protect investment but not speculation. An example would be farmers selling their futures in corn to Kellogg to pay for seed, and supplies, so that Kellogg can be able to plan on a stable price for their corn flakes but not otherwise for the purpose of gambling using bank credit. Or in the case of EXXON, their selling in the future their refinery production of products to be sure they reaped the money necessary to pay for the building of the refinery while it gives the buyer an assured supply of product at a fixed price they can plan on.
There is a misconception that the creation of bank credit, or the M-3 money supply, is solely the concern of the banks and should remain within the confines of the free market. But the creation of money out of nothing in our fractionally reserved banking system is essentially a conversion of the wealth of one part of the population to another, and at the very least should be guided by the government as Dr. Hjalmar Horace Greely Schacht did as Reichbank President in 1933 where no bank credit was allowed to be used for unproductive purposes such as speculation and where he turned around the catastrophic unemployment situation relatively quickly which should be an inspiration to our Euro friends. John Maynard Keynes in his introduction to the 1938 German edition of his “General Theory of Employment, Interest and Money” declared that Dr. Schacht was the greatest exemplar of this theories. (This approach was replicated after World War Two by the Schacht Reichbank protege, Dr. Wilhelm Vocke, who created the German postwar economic miracle, and my friend, George Champion, who was then head of Chase Manhattan Bank, invited him over in the 1950s to explain this to the American Banking Association).
It was Schacht in 1923 who stopped the German hyperinflation by ceasing to supply credit to the currency speculators who were shorting the Mark, and this created a surge in the Mark ending the hyperinflation. The speculators could no longer go to the central bank for credit to cover their short but had to buy it in on the open market. Similarly, the Chinese authorities blocked the speculators and insulated their economy from the so-called Asian currency contagion of 1997 by buying both the Hang Sang Index and their own currency which the speculators had shorted thereby creating a bloodbath among the speculators–who promptly called in Milton Friedman to call foul as government intervention against manipulation was not regarded by him a part of the functioning of a free market. Creation of money was always historically under the rule of the sovereign whether it was a monarchy or Congress and not to be held in private hands for their use according to their sole discretion. This does not even cover the lender of last resort role. Even Goldman Sachs had to flee to for cover in the Lehman debacle under the Federal Reserve tent despite almost all of their positions being in the right direction, as well as General Electric, who could not turn over their commercial paper liabilities created under the so-called genius of management, Jack Welsh, to save interest expenses against the higher interest expenses for the more conservative long-term bond issuances, which is another reason for the right of the government to exercise control over this sector that they have to bail out or face the destruction of their economy. The thought of this Jack Welsh must cause the great Thomas Edison to turn over in his grave.
We can look at total central bank gold reserves of 30,562.5 tons or 977,984,000 ounces, and divide these ounces into the world M-3 estimated to be 60 trillion, and come out $63,000.00 per ounce. This relates to the earlier value of the dollar as $20.00 an ounce in 1920. This expansion validates Aristotle’s contention in Politica 1:3:23 that the interest rate system is contrary to nature in that the gold, paper or credit cannot produce its own children, or the liquidity to cover the interest without either hypothecating the gold or issuing more paper money or credit. What this means in ordinary lingo is that if I own a house, and it is worth ten million dollars, and I sell ten five million first mortgages on it, then I have hypothecated the asset gaining fifty million in credit on a ten million dollar asset. Doesn’t that sound familiar in the various alphabet soup derivatives involved in the last Lehman crisis? So when England in 1900 had a 3% gold base against its Pound credits, it had hypothecated its gold over 33 times with similar Pound issuances. It was an untenable gold interest rate system as the dwindling ratio of gold ounces could not sustain a run on the central bank because of the inverse credit pyramid, and the Pound failed in 1931 with the English going off the gold standard. That spelled the death knell of British power.
There is the question of whether gold is in sufficient quantities to allow for expansion of an economy but the liquidity for the economy can be achieved by the gold rising in value if there is a proliferation of other commodities far in excess of the gold base, and in that sense gold should float as a money in the form of a commodity against other commodities. Therefore, in a system under Sharia law gold savings would be rewarded as the production of the system expanded, and it would create a much more valuable gold and a certainly honest currency. The rising value of gold in such a situation would also furnish the additional liquidity for the financing of the growth of the economy. Even a currency separated from gold, whose value constitutes a form of secular transubstantiation, follows the same laws of the interest rate system as it must continuously create the credit or liquidity to pay the interest until it starts to disintegrate in currency crises based on the aggregates becoming unmanageable. This is why historically all currencies so divorced from a metallic metal, and based on the interest rate system, die. The British economist Alfred Marshall was the last one to struggle with this paradox and could not solve it. He could not figure out how to circumvent the fact that the interest rate system cannot create its own liquidity except through diluting the currency, credit or gold until it expires.
Lord Byron addressed the same issues as Johann Wolfgang von Goethe in his “Don Juan”, but spent more time on the issue of the fiat credit and paper system with interest as a control mechanism as the quote below indicates:
“Who hold the balance of the world?
Who reign O’er congress, whether royalist or liberal?
Who rouse the shirtless patriots of Spain?
(that make old Europe’s journals squeak and gibber all).
Who keep the world, both old and new, in pain or pleasure?
Who makes politics run glibber all?
The shade of Bonaparte”s noble daring?