ECONOMIC PERSPECTIVES 12

PAYING THE PRICE

The only way in which government debt, generated by central banks’ addiction to unrestricted credit expansion, can be paid for, honestly, is with honestly earned wealth in the form of private sector savings. But that knowledge, which every central banker quickly learns to forget, is now a feint memory in the archive of sound monetary governance.

Market forces cannot be indefinitely suppressed by state diktat. As I noted in Economic Perspectives 11, interest rates must inevitably succumb to upward pressure from demoralised savers, and when that happens the treasury will find that it cannot afford to pay interest on its own borrowings.

 

governments always have the option to pay for their folly by imposing new taxes

 

Of course, governments always have the option to pay for their folly by imposing new taxes, but this is hardly practical politics when the community is already straining under the yoke of a full complement of unprincipled levies. Even the Chancellor’s own budget calculations highlight the fact that the proportion of national income taken in taxes is now at an all-time peak.

So, having acquired the habit of recourse to the printing press whenever need dictates, the Treasury will have to issue yet another round of quantitative trickery, just to pay the interest on earlier rounds, let alone any actual debt repayment – which would indeed be a fanciful notion!

Central bankers’ credit escalation on the scale we are now witnessing has only one outcome: a perfect storm, followed by plenty of debris.

Currency destruction in South Africa and Zimbabwe

I have been able to witness this pathetic pantomime at first hand during my month in South Africa, where these two economic essays (EPs 11 & 12) were written. The South African Finance Minister, who evidently has a sound grasp of these matters, is now under threat of dismissal from on high because his latest budget allocations have left several claimants for state handouts with less than they demanded. Such is the unvarnished folly of entitlement culture everywhere: there can never be enough to go round.

 

the rate is 13 rand to the dollar, a drop of over 400 per cent

 

The South African Reserve Bank has, however, picked up a few nasty habits from its central banking peers, and the result is reflected, as ever, in the exchange rate of its currency. In the 1990s, at the time of Nelson Mandela’s release, one US dollar equated to 3 South African rand. Today the rate is 13 rand to the dollar, a drop of over 400 per cent – and it’s worsening every month. The finance minister knows that to extend state largesse to fulfil every welfare expectation, the country would be on a one-way ride to join its Northern neighbour Zimbabwe, where switching currencies is the only game in town!

Currency games in Zimbabwe

The frolic of non-stop money printing, having completely obliterated the Zimbabwe dollar’s purchasing power, its central bank substituted the US dollar as the nation’s currency in 2008 . (The Zimbabwe treasury was clearly unperturbed by switching to a currency already in the grip of a frightening debasement!)

Last year the Zimbabwe Reserve Bank attempted to overcome the indignity of using US dollars by launching yet another new instrument – “Zimbabwe Bonds”, and boasted that these enjoy parity with the US dollar: “One Zimbabwe Bond equals one US dollar”!

But their creditors, with foresight born of bitter hindsight, somehow didn’t believe this fairy tale: on the very first day of its introduction the new Bond was trading at a discount of 25 percent to the US dollar. People clearly lacked all belief in it anyway. In the absence of significant exports, other than citrus juice and tobacco, few new US dollars enter the country. Today the same old limp, faded, raggedy and smelly US dollars, now on the verge of physical disintegration, are still gingerly passed around.

 

many parallels throughout history

 

There have been many parallels throughout history. Although each example has its unique features, their single common thread is the destruction of trust. In Zimbabwe, we see a tragic ruination under the 40-year dictatorship of a tyrant of 92, who has clung to power through scores of rigged elections, threatening violence against his foes, and now, finally at his senile wits’ end, bankrupt of ideas in a bankrupt state.

Parallels abound

In Greece, by contrast, the problem is not the currency, the euro still being trusted. What is not trusted is the Greek National Bank’s perennial promise to repay its sovereign debts. Just as the IMF again agrees to fund this sick economy for a further term, its government spokesman, without a note of irony, nor a hint of shame, declares that his government seeks agreement that there will be (i) “not one euro more” of cuts and (ii) no additional costs for Greek society.

As my friend Patrick Barron puts it, “Greece has consumed its capital and now insists that the rest of the world pay its bills….forever! More ouzo all round!”

 

have no option other than to continue to bail them out endlessly

 

The truly sinister message to be gleaned from this saga is that the Greeks have now cottoned on to the fact that the IMF and European Central Bank really have no option other than to continue to bail them out endlessly rather than face a break-up of the entire EU project, which is exactly what would happen.

If debts originated by the printing press are not honoured in a central bank bailout, and are instead shown up to be what they really are – worthless and irredeemable, the necessary catharsis would follow and the purgation of monetary cleansing would serve to restore a semblance of monetary sanity.

Fractional reserve banking

Central banks are inured to the consequences of this syndrome when the same baseless credit creation is enacted on the home front in the form of fractional reserve banking, effectively destroying public trust in the entire sector. Over the past 10 years one bank after another has been brought down by their boards’ ignorance and myopic avarice.

Instead of standing aside and allowing banks’ capital to adjust to the effects of moronic fiat money lending, secured on worthless sub-prime assets, the knee-jerk preference of the Bank of England and the Treasury has always been in favour of intervention –or, trying to kid us all that, this time, the lessons have been learnt and it will not be allowed to happen again. Voila!

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[March 2017]