Not Only A Lost Decade, But A False Decade

The Nobel Prize-winning economist Milton Friedman once observed that “Underlying most arguments against the free market is a lack of belief in freedom itself.” A great many notable economists from Ludwig von Mises and Friederich Hayak to the progressive (and frequently pandering) Paul Krugman have commented at length on the intersection of economics and politics, and of the correlation between a free society and a free marketplace, culminating in the Friedman quote just cited.

If we are to have a free society, we must have free markets. If we are to have free markets, we must have a free society.

Thus it is when the Federal Reserve's policy statements and forward guidances on interest rates are treated with scorn by financial markets, we should pay attention. When central banks around the world pursue interest rate policies that are demonstrably harmful to the world's banking systems, we should pay attention. When the Federal Reserve appears to talk out of both sides of its institutional mouth, we should pay attention.

We should ask questions. We should seek answers.

What we should not do is trust the media. As has become all too apparent, the media is less interested in informing than it is in entertaining. Narrative has displaced even a biased presentation of facts, and many of the media narratives have been shown to be demonstrably false.

Thus, when I witness the nonsensical statements that have been made by officials of the Federal Reserve, such as Fed Chairman Jay Powell's disingenuous statement recently that the economy "is in a good place" even as the Fed mounted emergency "repo" operations to inject liquidity into financial markets--emergency actions are not my notion of a "good place"--or Atlanta Federal Reserve Bank President Raphael Bostic proclamation the US economy is not headed into a recession, glossing over the aforementioned "emergency" actions by the Fed, the desire to research and answer the question "what the heck is going on here?" becomes overpowering.

In an essay I posted on LinkedIn last year, I argued that the essential question in any analytical framework is "does this make sense?" Any explanation for anything has to make sense or it is of no value. The logic has to be consistent, it has to be complete, and it has to be comprehensible; when it is neither consistent, nor complete, nor comprehensible, the one conclusion we must draw is that more research is needed.

Accordingly, after reading on ZeroHedge and other sites various criticisms of Federal Reserve monetary policy--all of which had compelling arguments behind them--it had become clear that a greater familiarity with the actual data underpinning reports of that policy was needed. While I am no professional economist, I do believe in doing my own research on important matters, and so I set out to perform a bit of research and analysis on my own, using only raw data, independent of any other analysis or report.  This post is the results of that research.

The data sets I used were the historical M1 money supply data downloaded from the Federal Reserve, going back to January 1 1997, the historical monthly CPI numbers from the Bureau of Labor Statistics going back to the same date, and the historical Dow Jones Industrial Average and S&P 500 stock indices, reported monthly and also going back to January 1, 1997.

Those wishing to review my source data may download a file with the data sets gathered together in either Excel format or in CSV format.

The questions in my mind were as follows:

• How did the Federal Reserve find itself confronted with a crisis of liquidity during the month of September, 2019?
• How is it that, after more than a decade of near zero interest rates and "quantitative easing" by the Federal Reserve, inflation has not ever materialized in the US economy (or anywhere else in the world, for that matter)?

I began by focusing on the reported size of the money supply from the Fed, looking at both the M1 and M2 numbers. The M1 money stock figure is that amount of money readily available for spending--physical currency and deposits in various on-demand bank accounts--whereas the M2 figure includes "near money" accounts such as various money market accounts and time deposit instruments. There had been a third figure, the M3, which included an even broader array of money equivalents, but reporting of that figure was discontinued by the Federal Reserve in 2006.

The M1 and M2 charts are fairly mundane and even predictable.

One point that is fascinating about the M2 curve was that there was no dramatic spike up beginning in 2008/2009, when the Federal Reserve instituted quantitative easing policies in response to the 2008 financial crisis. "Quantitative Easing" is broadly defined as an expansion of a central bank's open market operations, which are specifically intended to increase the money supply. There is an upward trend in the the M1 figure, but in moving from the M1 measure to the M2, the increase in money effectively disappears.

In part, this is almost certainly due to more rapid expansion of the M2 money stock vs the M1. Going back to at least 1997, the differential between the two figures is steadily increasing.

If we look at just the M1 in isolation, we do see a significant upward trend beginning in 2009, which is exactly what quantitative easing would produce.

But here is also the first surprise. The official Fed pronouncements on quantitative easing declared the quantitative easing programs to be fully ended on October 29, 2014. Yet the pace of money creation did not show any signs of diminishing until 2017. There is at most a brief pause in 2014-2015, after which the pace of money creation resumed.  This presumably was during a time of gradual tightening by the Federal Reserve. Either the Federal Reserve is greatly misinformed about the impacts of its various operations, or it was greatly deceptive in describing the same.

The initial rationale for quantitative easing was easy enough to understand: with stock markets plummeting and financial markets seizing up, the Federal Reserve wanted to avoid a repeat of the mistakes in an earlier era, when the Federal Reserve allowed the money supply to shrink dramatically following the 1929 stock market crash, producing the deflationary downward spiral known as the Great Depression. Based on that rationale, and based on the behavior of the stock market indices in the wake of the Fed QE policy, quantitative easing certainly appears to have been a success, in that it prevented complete stock market collapse. This, at least is what the performance of the S&P 500 stock index shows.

After giving up all of the gains made between 1997 and 2008, the S&P began climbing steadily starting in 2008, and has largely kept on climbing.

Another curious aspect of the Fed's quantitative easing program was that it failed to produce significant inflation.  As this chart from Trading Economics shows, inflation during the past ten years has only rarely been above 2%, and only briefly below 0% (deflation) during 2008/2009.

source: tradingeconomics.com

The Consumer Price Index--the change in which is the primary benchmark for inflation--shows the same lack of inflation.

In monetarist economic theory--the primary developer of which was Milton Friedman--expanding the money supply ultimately produces inflation, as too many dollars end up chasing too few goods and services. The lack of inflation after 2008 would appear to discredit much of this.

Or did it?

(If you have hung with me this long, I promise this is where we get to the point of this entire post).

If we set the money supply, the CPI, and various stock market indices to a baseline value of 100, thereby eliminating differences in scale and units of measure, we can look at all of the values together. When we do, something interesting and unexpected shows up.

Prior to 2008, CPI and the M1 track very closely together, with only minor and transient deviations. The stock market indices, however, show absolutely no correlation to changes in the money supply.  The stock bubbles of 2000 and 2008 occurred without any dramatic expansion in the M1 money supply.

After 2008, however, the exact opposite is true.  The stock indices move along roughly the same upward slope as the M1 money supply, and the CPI continues on its same roughly linear trajectory completely divorced from the money supply. Only in 2017 do the stock indices show any sign of breaking free from the M1 trajectory.

What do we make of this? How do we explain this?

To my layman's eye, what this is showing is the reason why the Fed's quantitative easing strategies did not produce measurable inflation--the increase in the money stock never filtered out into the broader economy, but was completely soaked up by financial markets. Within financial markets, we see exactly the sort of inflation we would expect to see when the money supply expands.

There is something else that this chart suggests, something which is fairly disturbing. It suggests that much, if not all, of the economic growth posted during Barack Obama's Presidency was merely inflation--that there was no real growth at all. 

This is further suggested if we reset the baseline to January 1 2008:

The deflationary sag in 2008 is of course the consequence of the financial crisis in that year and the onset of the "Great Recession". Yet the deflationary "sag" never really disappears, as both the CPI and the stock indices run below the M1 growth level, and to an increasing degree over time. The influx of dollars into the economy did not produce a corresponding level of inflation even within financial markets. Moreover, if we were to flatten out the M1 chart (i.e., express the money supply in terms of constant dollars), we would see the stock indices as well as the CPI declining.  This would be especially true after the formal end of quantitative easing, where we see the M1 trend line essentially unchanged but the S&P 500 and DJIA lines appear to flatten out for a time

In other words, quantitative easing only served to mask deflation that was triggered by the 2008 financial crisis.

Only in recent years do we see this trend change.  Resetting the baseline to 2016, we see the stock indices finally running above the M1 curve, showing a rise in asset prices in real term, and not just due to the inflationary effects of growth in the money supply.

Real economic growth did not occur in the United States, it seems, until around 2016-2017. The policy of monetary stimulus begun in 2008 almost completely failed to stimulate, in large part because the money created by the Fed never trickled out into the general economy. Rather, it remained bottled up in the financial markets, which is to say it was parked on the balance sheets of the nation's banks--nominally there, but completely idle.

Thus we have a preliminary answer to the questions posed at the beginning. The Federal Reserve found itself facing a liquidity crisis over the past few weeks because the financial markets have been fundamentally illiquid since 2008, with banks essentially sitting on all the new money created. By the same token, quantitative easing never produced core inflation because the money created never made it into the general economy.

This also means that quantitative easing could not have had any material impact on the general economy, and only a muted impact on financial markets. The monetary stimulus of quantitative easing fundamentally failed to stimulate.

Having arrived at that conclusion, the next step was to test the conclusion using an independent metric.  For this I downloaded the reported Real GDP data from the St Louis Federal Reserve for the same time period, January 1, 1997 to the present, and charted it against money supply growth, again using a baseline of January 1, 1997.

Two things at once leap out. First, prior to 2008 there was rough correlation between money supply, inflation, and GDP growth. Second, beginning in 2008, the money supply decoupled from GDP growth. There is no comparison to be made between the two measures after 2008.  Drilling into the GDP and CPI numbers, however, is insightful.  Notice what happens when we set a baseline of January 1, 2008 for both metrics:

For most of the decade since Janaury 1, 2008, the CPI inflation curve is above the real GDP curve. Thus, even while the economy was technically growing, inflation was growing faster, and the economy overall was losing ground to inflation.  Only when we reset the baseline to January 1, 2016, do we see the real GDP curve rising above the CPI.

From January, 2008, until approximately July, 2017, the CPI curve lies above the GDP curve, yielding the same conclusion that a comparison of the money supply and stock indices produces--that there was little to no actual economic expansion under Barack Obama, and it is only during the past two years that the economy has expanded in real terms at all.  All previous GDP "growth" from 2008 onward can be ascribed almost entirely to inflation.

A further note on Real GDP and inflation: the Real GDP data is "real" because it has already been adjusted to account for inflation, using "deflator" factors calculated by the Bureau of Economic Analysis (these deflator factors are similar in concept to CPI but differ in computation). The Real GDP data currently available from the St Louis Fed reports Real GDP in "chained 2012 dollars". 

Yet if Real GDP is already adjusted for inflation, there should be no correlation between Real GDP and the CPI (the benchmark measure for inflation). Real GDP is supposed to reflect economic growth independent of inflation, and independence precludes correlation. We should no more see Real GDP and CPI following similar trend lines from a common base year than we should see stock market indices and the money supply following similar trend lines. Yet we see both. 

These graphs show that, since 2008, there is a strong and persistent correlation between Real GDP and inflation via the CPI. Only very recently do the graphs deviate from each other. If Real GDP fully accounted for inflation, we should see significant variations between the trend lines, and we do not. We see this lack of correlation between 1997 and 2008, but the trend lines converge in 2008.

As the earlier graphs show, when we start from 2008 and 2016, Real GDP and CPI lie on very similar lines, and only in 2017/2018 do we begin to see any significant variation.

Thus, the conclusion from above is confirmed: The monetary stimulus of quantitative easing fundamentally failed to stimulate. It certainly did not stimulate the general economy. Looking at the trend line in GDP growth, very little if anything has had a stimulative effect on the economy. Stimulus would show as fluctuations in the trend line, appearing as the stock market bubbles did in the early 2000's, rising above the money supply only to drop back down again when the bubbles burst. The trend lines on GDP growth have been almost linear since the Great Recession.

Again quoting Milton Friedman, "One of the great mistakes is to judge policies and programs by their intentions rather than their results." The policies of the Federal Reserve might have been well intentioned, but, looking at the data those policies produced, looking at the results, can we truly say those policies have been appropriate, effective, and successful?

No, we cannot.

These data sets tell a story vastly different from what the legacy media has reported, and continues to report. The legacy media argues that, after the "Great Recession", economic growth resumed and has continued on largely the same trajectory under President Trump as under President Obama. However, that assertion ignores the fact that inflation overcame almost all of the economic growth of the Obama years. While CNN crowed that Barack Obama had been one of the "best" Presidents for the stock market, most if not all stock market gains appear to have been the result of the Federal Reserve printing money during his term of office.

Much like Russian Collusion, the Obama Recovery appears to have been a long, drawn-out hoax foisted upon the American people by a corrupted and co-opted legacy media, pushing a particular narrative without regard for what the objective facts themselves indicate. Not only has the United States gone through a demonstrable "lost decade" of economic stagnation from which it has only recently and still briefly emerged, but it has endured a "false decade" of media denials that such stagnation was even occurring. While the legacy media paints a picture of the US economy being rescued from collapse by the bold efforts of then Fed Chairman Benjamin Bernanke and President Obama, the real story is considerably less flattering: given that Ben Bernanke arguably triggered the 2008 financial crisis with a series of interest rate hikes in 2006, his program of "quantitative easing" failed to clean up the economic mess he helped cause, while the best that can be said of Barack Obama is that he did not make things measurably worse.

The real story is that, in many regards, financial markets have truly not recovered from the 2008 financial crisis, and we are seeing the after-effects of that massive correction reverberate more than a decade on. We are seeing financial markets dependent upon constant streams of new liquidity just to function normally day to day.  We are seeing banks still failing "stress tests" that examine how their loan portfolios respond under "worst case" assumptions. We see large banks such as JP Morgan pulling cash out of their balance on deposit with the Fed in response to the Fed taking steps to trim its own very large balance sheet (the more the Fed sheds its portfolio of bonds acquired in the aftermath of 2008, the more cash banks pull out of the reserves on deposit with the Fed), thus triggering the September liquidity crunch.

The real story is that the Federal Reserve, and perhaps all of the world's central banks, have lost what little control over money supplies, interest rates, and financial markets they ever had. 

The real story is that even as the legacy media covers the real story, it continues to bury the lede, and assure the world that all is well.

The real story is that central banks are locked into a perpetual cycle of money creation, and woe betide the currency whose central bank opts to stop the printing presses. 

The real story is that the great unanswered question even now, more than a decade after the 2008 financial crisis, central banks still do not have an answer to the question "what happens when the music stops....again?"

Is the US headed for a repeat of 2008? It is quite possible--and there is no way to know for certain. The financial crisis of 2008 had its origins in the US, but first boiled over in Europe. Perhaps that history will repeat itself. Europe certainly has its share of banking and economic challenges, with the ECB arguably intentionally poisoning European banking systems with negative interest rates, even as Europe slides into recession and a chaotic Brexit looming on the horizon. It hardly requires a degree in economics or finance to envision a global banking crisis originating in Europe and spreading to the rest of the world.

What is certain is that central bank money printing cannot continue indefinitely. There is a limit, beyond which people lose faith in fiat money, where the printing presses simply will not suffice.

What is also certain is that the "too big to fail" big banks are inextricably tied to the Fed's current liquidity problems just as they were tied to the 2008 financial crisis.

And what is also certain is that this story, as with so many other relevant stories, has been and will continue to be underreported and misreported by the legacy media. There will be no crisis acknowledged until the crisis is too big to be avoided.

The Federal Reserve's Christmas Gift: A Bear Market

Wall Street has little to celebrate this Christmas holiday, courtesy of a recklessly stubborn Federal Reserve. During the previous week, from 17 December to 21 December of 2018, the Dow Jones Industrial Average shed 6.8 percent of its total--the worst such performance since the 2008 "Great Recession." Such has been the turmoil among the major stock exchanges that Treasury Secretary Steve Mnuchin caught many observers by surprise when he called the major US banks on 23 December to address concerns of financial stability and the general availability of credit.

Yet is any of this really so surprising?

Consider a few basic facts:

• The Federal Reserve voted on 19 December to raise interest rates in the face of steep stock market decline. It is the fourth such rate hike in 2018. In response to the rate hike, banks raised their prime lending rates. This is the expected reaction to a rate hike by the Federal Reserve.
• The Dow Jones index began declining on 4 October, one week after the third interest rate hike on 27 September. Major investment firms such as J.P. Morgan attribute the decline to the rate hike, as well as Federal Reserve Chairman Jerome Powell's public remarks surrounding it.
• In 2006, the Federal Reserve hiked interest rates 4 times during the first six months of the year. The markets responded then with a major sell-off, sparking concerns that the June, 2006 rate hike was one increase too many. By 2007, the US housing market bubble had burst, and by 2008 resulting crisis in mortgage default had metastasized into a general financial crisis.

A reasonable question to ask at this juncture is why would interest rate hikes precipitate stock market declines? The immediate answer is simply this: money.

The total supply of money in any economy varies inversely with interest rates. Lowering interest rates expands the money supply, and raising interest rates shrinks the money supply. The Federal Reserve's tweaking of interest rates is quite intentionally an effort to manage the total money supply in the United States. During 2018, Fed Chairman Powell opted four times to shrink the money supply.

When the money supply shrinks, prices are inevitably pushed downward, for when there are fewer dollars in circulation, each dollar has greater purchasing power, all else being equal. Stock markets, where prices fluctuate by the second, display this phenomenon faster than other portions of the economy, where prices are slower to change.

When the money supply shrinks, there are also fewer dollars available to lend--a reduction in the money supply is a reduction in the availability of credit.

Given that Powell's past two interest rate hikes have precipitated a deep and persistent stock market decline, and given that interest rate hikes are by definition a reduction in the availability of credit, is it really so outrageous that Secretary Mnuchin would be concerned about financial stability and credit availability? Is it not more outrageous that Jerome Powell is not concerned about these things? 

Certainly, Powell has a duty to be concerned, because the primary stated mission of the Federal Reserve is to conduct "...the nation’s monetary policy to promote maximum employment, stable prices, and moderate long-term interest rates in the U.S. economy." A price drop among stocks of 6.8 percent in a single week is not exactly what one would call price stability.

Yet Powell has been amazingly "tone deaf" to the consequences of Federal Reserve rate hikes. Within the mission of maintaining stable prices, the time to raise interest rates is during periods of significant inflation--something that has been conspicuously absent from the US economy. When there is no inflation, raising interest rates is an action calculated to destabilize prices--by causing them to drop.  Powell has even acknowledged this by his assertion that the economy is "strong enough" to absorb the rate hikes and corresponding money supply and credit reductions. The stock market decline was what he wanted--he unilaterally decided that stocks were "overvalued" and so elected, on his own initiative, to erase a few trillion of market capitalization.

No wonder President Trump would like to fire him--Trump has been clamoring against the rate hikes, correctly predicting that the money supply shrinkage would precipitate a stock market collapse. Market turmoil and declining share prices are not the way to "...promote maximum employment, stable prices, and moderate long-term interest rates in the U.S. economy." By all appearances, Jerome Powell has been seriously derelict in his duty as Federal Reserve Chairman. If he were the Controller or CFO of any major US company, he would have been fired by now.

Sadly, this bit of financial Kabuki has been played out time and again throughout America's history--dereliction is rather the norm at the Federal Reserve.  Pushing interest rates too high too fast catalyzed bursting the 2006 housing bubble, and thus the subsequent 2008 financial crisis--the metastasis of which was itself the product of both government mistake and lax execution of established government regulatory responsibilities.  

Similar errors occurred in 1999 and 2000, when the Federal Reserve raised interest rates in the face of stock market declines, precipitating a recession beginning in March of 2001.

Even the calamitous stock market crash of 1929, widely viewed as the onset of the Great Depression, was triggered by an abrupt change in monetary policy by the New York Federal Reserve Bank, which raised interest rates to 6 percent.

That interest rate hikes catalyze stock market declines and crashes is absolutely established by the constant correlations between them.  One can view this correlation in one of two ways: The Federal Reserve erred by letting the money supply grow too much, causing the stock market to overinflate into a bubble, forcing a correction to be taken, or the Federal Reserve erred by deflating stock prices in the absence of any signs of price inflation in the broader economy.  One theme, however, is consistent--that the stock market declines and subsequent recessions are the consequence of Federal Reserve error.

Which begs the question of why we continue to empower the Federal Reserve to manipulate interest rates and the money supply in this fashion. Invariably, they get it wrong, and because they get it wrong there has there has not been a single decade of American history since the creation of the Federal Reserve in 1913 when there has not been major stock market and economic turmoil. Too much or too little, but never just enough is the basic pattern of Federal Reserve regard for interest rates.

One could even argue that the Federal Reserve's mission is impossible to complete.  Every interest rate adjustment by the Federal Reserve is an intrusion into the marketplace. Every interest rate adjustment is therefore a disequilibrium of the marketplace--and stable prices require equilibrium. The very thing the Federal Reserve does to carry out its assigned task is the very thing that causes it to fail at its assigned task. At the very least, expecting the Federal Reserve to ward off financial crisis by intruding into the markets is quintessentially insane behavior--repeatedly doing the same thing expecting different results.

Instead of constantly fiddling with interest rates and triggering economic upheavals, perhaps the Federal Reserve should adopt a novel approach to maximizing stability--do nothing.

Or is that expecting too much common sense from government bankers?

Evil Taking Root in Europe -- The Next Day

How will the eurozone survive crushing debt?

Yesterday's announcement of a €750 Billion bailout of eurozone sovereign debt was cause for some celebration in the world's bond markets.  That celebration appears to have been short lived, as by the end of the trading day today bank swaps and the LIBOR inter-bank interest rates showed pessimism over the viability of the bailout, while the Japanese yen rose against the euro.

The market place assessment of the bailout has been simply this: "That's fine for today, now what about tomorrow and the day after next year?"  The bailout may have arrested the free-fall of eurozone sovereign debt in the marketplace, but it does nothing to eliminate the burden that debt places on the economies of Europe.

“Markets realized quickly that this crisis won’t be cured by adding liquidity, no matter how big it is,” said Toshihiko Sakai, head of trading for currencies and financial products at Mitsubishi UFJ Trust & Banking Corp. in Tokyo. “The structural problems of the euro zone will persist. I’m not surprised at all the euro is losing strength again.”

Still unanswered are the lingering questions about how successful efforts to trim deficit spending in the eurozone will be--even fiscally prudent Germany's deficit will be in excess of 5% this year, well in excess of the 3% allowed under euro rules.  Nations such as Greece and even the UK are faced with the daunting challenge of growing their economies while drastically slashing government spending, a task that yesterday's bailout mechanism does not even begin to address.

The eurozone is spending the equivalent of $1 Trillion, not to solve their sovereign debt crisis, but to buy (on credit) a little time before they must resolve their sovereign debt crisis.  That does not seem a wise use of increasingly scarce financial resources.  €750 Billion of new debt will not make the existing debt any less troublesome; it will most likely make that debt more troublesome.

The evil taking root in Europe is simply this: to defend a particular bit of money--the euro currency--Europe is prepared to lay waste to its nations' finances and economies.  The marketplace realizes this, and so the euro's downward spiral against other currencies continues despite Europe's spending their very last euro to reverse that course.

Evil Taking Root in Europe

The Euro is under duress from a slew of unforced errors.

Recently, I speculated on the practical wisdom contained in the Bible verse "For the love of money is a root of all kinds of evil....." Since then, events in Europe have illuminated the Biblical warnings about an inordinate focus upon money, as the $146 Billion bailout of Greece announced on 3 May 2010 failed to soothe global bond markets, resulting in a pan-European debt crisis:

Yields on German two-year debt reached a record low, falling to 0.71pc on safe-haven demand in echoes of credit stress at the height of the financial crisis. This is below the European Central Bank's short-term rate of 1pc. "This is very unusual and indicates concern about systemic risk from sovereign debt," said Stephen Lewis from Monument Securities.

The response of European finance ministers has been to blame the bond markets themselves, laying the need for a fresh bailout of the Euro currency itself squarely on the bond markets:

“In the night, when the markets are opening, we cannot afford a disappointment,” said Finance Minister Anders Borg of Sweden, one of 11 EU nations not in the euro. “We now see herd behavior in the markets that are really pack behavior, wolfpack behavior.”

The solution to the Euro crisis?  Pile on still more money--this time on a scale to rival the US Treasury's TARP program in 2008:

European policy makers unveiled an unprecedented loan package worth nearly $1 trillion and a program of securities purchases as they spearheaded a drive to stop a sovereign-debt crisis that threatened to shatter confidence in the euro.  Jolted into action by last week’s slide in the currency to a 14-month low and soaring bond yields in Portugal and Spain, governments of the 16 euro nations agreed to make loans of as much as 750 billion euros ($962 billion) available to countries under attack from speculators.

Is that really a solution, when every nation in Europe has external debt in excess of one hundred percent of GDP?

• Greece' external debt is 170% of GDP
• Italy's external debt is 147% of GDP
• Germany's external debt is 182% of GDP

European nations are all highly leveraged--far more so than the United States is (external debt is 96% of GDP)--which begs the question of from where do the EU countries presume to get these billions of euros?

Further, how does the creation of still more debt by nations already drowning in debt lend strength and credibility to the euro?  This latest rescue package is still little more than a series of preferential loans to distressed nations--cheaper than what those nations could borrow on the open market, but borrowing nevertheless.  This past week's currency crisis is a debt crisis on steroids, and the European Union's solution is to just borrow more, albeit at more "friendly" rates.  Given that the debt crisis is predicated upon the grave doubt that Greece and other nations will be able to pay off their external debts, further borrowing does not deliver any new assurance that the new debt will be easier to repay than the old debt.

Finally, the bailout mechanism is laden with its own potential instabilities, for it empowers the European Union to reach deeper into the governance of member states than any ratified treaty envisions:

"It is an absolute general mobilization: we have decided to give the eurozone a veritable economic government," said French president Nicolas Sarkozy, once again basking as Europe's action man. "Today we have an attack on the whole of the eurozone. This is a systemic crisis: the response must be systemic. When the markets open on Monday morning we will be ready to defend the euro." 

In the space of a weekend, the EU has determined to arrogate to itself powers well in excess of those contained within the Lisbon Treaty:

But if the early reports are near true, the accord profoundly alters the character of the European Union. The walls of fiscal and economic sovereignty are being breached. The creation of an EU rescue mechanism with powers to issue bonds with Europe's AAA rating to help eurozone states in trouble -- apparently €60bn, with a separate facility that may be able to lever up to €600bn -- is to go far beyond the Lisbon Treaty. This new agency is an EU Treasury in all but name, managing an EU fiscal union where liabilities become shared. A European state is being created before our eyes.

Perhaps this is an inevitable evolution, but it is worth noting that the United States Constitution was hammered out over a summer in 1787, and that the Constitutional Convention was only called after some years of ineffective central government under the Articles of Confederation; similarly, the Treaty of Lisbon--analogous in many ways to the US Constitution--took the better part of a year to craft.  Is zealous defense of a particular currency sufficient impetus to accomplish in a weekend what otherwise would (and, arguably, should) take far longer?

Very likely, the answer will turn out to be "No."  Already, there are consequences to the bailout strategy which reach beyond Athens and Brussels, and even Berlin.  Regional elections in Germany have produced a rejection of German Chancellor Angela Merkel's acceptance of a Euro-centric response to the ongoing financial crisis and with it her control of the Bundesrat, the upper house of the German parliament.

According to a poll on Saturday, 21 % of voters said their decision would be influenced by the bailout.

And the next day they voted the regional coalition of Mrs Merkel's Christian-Democrats (CDU) and their liberal Free Democrat allies (FDP) out of office.

Such are the "sorrows" generated by making currency--money--the center of everyone's attention.  Such are the "sorrows" cautioned against by the Apostle Paul in his letter to Timothy.

The nations of Europe have lived beyond their means for many years--Greece in particular although not exclusively.  For years they have consoled themselves with a conceit that a common currency meant money would always be in abundance.  For years they have ignored the fundamental economic nature of money:

It's time to get back to basic economics. Money--both the paper and electronic varieties--is, in and of itself, worth nothing; it has no intrinsic value. It is a means--and a profoundly important one--of enabling people to more easily conduct transactions without having to go through the clumsy and utterly inefficient barter process.

What the governments of Europe refuse to acknowledge is that the current debt crisis within the Eurozone is not "wolfpack behavior" but a vote of no-confidence by bond markets in those governments' fiscal policies.  There is no denying that is the fiscal policies of European nations that have brought them to this point--the decision to run a deficit is a fiscal decision, after all--and therefore it will be within the realm of fiscal policy that ultimate resolution to the debt crisis will be found.  

This, of course, is the crux of the problem, for no nation wants to take on the hard choices necessary to bring their debts under control.  As Bill Fleckenstein observed in his "Contrarian Chronicles" column:

The ending is not clear, but here's something that is: There's virtually no chance that the Greeks (who have defaulted on debt often in the past) will be willing to adhere to austerity measures just so they can use a colored piece of paper -- the euro. Especially since government workers, the folks who would probably have to give up the most, are the most entrenched.

 Nor is a nation such as Great Britain any more amenable to such policies:

Mervyn King is warning that the victor in next week's election will be forced into austerity measures that will keep the party out of power for a generation, according to the US economist David Hale.

Instead of tackling these issues head-on, the nations of Europe have opted to merely shovel more money on top of the pile, digging themselves deeper into a financial hole, in hope that stabilizing the euro will make all these distasteful duties disappear.

When at last the money runs out, Europe may find itself so deep in a financial hole that not a single one of the institutions it has built up since WWII will survive intact.  Such is the destruction that comes when the evil that is a love of money and currency takes root on a national scale.

The Love Of Money -- Thoughts On Finance and Financial Reform

For the love of money is a root of all kinds of evil: which some reaching after have been led astray from the faith, and have pierced themselves through with many sorrows. -- 1 Timothy 6:10

Greece is being pierced with many sorrows at the moment, facing the prospect of years of deflation induced by drastic cuts in government spending, imposed as a condition of the $146 Billion the EU and the IMF have jointly agreed to lend Greece.

What sort of sorrows?  Essentially, Greeks will be working more for less--and will do so for the foreseeable future.  Among the new government spending cuts imposed by the bailout package:

• Scrapping bonus 13th and 14th month wages for public sector workers as well as for retired people from both the public and private sectors.
• Raising the retirement age for women from 60 to 65, bringing it in line with that for men;
• Raising the sales tax from 21pc to 23pc this year.

Politically, the sorrows include a passing of a measure of sovereignty from Athens to Berlin, as Germany's pivotal role in assembling the bailout package empowers them to dictate many of the conditions:

Berlin was Europe's capital last week, basking in summer heat of 26 degrees. The heads of the European Central Bank and the International Monetary Fund (IMF) – both French, oddly – arrived as supplicants, pleading with Chancellor Angela Merkel and a stern finance committee of the Bundestag to save monetary union. Nowhere else mattered. The markets have stopped listening to Paris or Brussels.

On the other side of the globe, China is struggling to avert the sorrows of a bubble economy,  raising bank reserve ratios and employing other mechanisms to stave off inflation but with no immediate impact:

China’s third increase of bank reserve ratios this year left benchmark interest rates and the yuan’s peg to the dollar unchanged, risking the need for more concerted effort to contain property prices and inflation in coming months.

The common thread in both financial events is a subordination of policy and basic economic activity to a quest for currency.  Greece's bailout is driven by their accumulation of so much sovereign debt that they are effectively excluded from capital markets, while China's manipulations are calculated to curtail a growth of the money supply without curtailing the economic expansion behind the money supply:

The latest move adds to a government crackdown on property speculation after record price increases in March and came on a holiday weekend, with Chinese markets shut today. Within an hour of the central bank announcement, Finance Minister Xie Xuren said that officials remained committed to expansionary policies to cement the nation’s recovery. 

These events make it worth reminding oneself of the fundamental nature of money, and its relevance to economics at any level.  As Steve Forbes notes:

It's time to get back to basic economics. Money--both the paper and electronic varieties--is, in and of itself, worth nothing; it has no intrinsic value. It is a means--and a profoundly important one--of enabling people to more easily conduct transactions without having to go through the clumsy and utterly inefficient barter process.

Money is important only in that it makes transactions by which we convert other resources into the things and services we desire for whatever reason--and utterly irrelevant in all other aspects.  Money is a measure of value only.

As the above quotation from Timothy points out, a focus on money invariably leads to trouble.  Artificial manipulations of various money metrics, such as interest rates, serves mainly to distort the value statements implicit in the prices of goods and services.  Artificially pushing prices down (as China seeks to do) implicitly declares things to be somehow less valuable, even as the desire and demand for those things is otherwise unchanged. Constant borrowing, the particular fiscal sin of Greece (and, indeed, of a great many nations including the United States), explicitly involves paying for those things without surrendering other resources--in essence curtailing one-half of every transaction.

Perhaps nowhere is the irrationality of a focus on money itself more apparent than in the contradictory efforts in Washington to "reform" America's finance industry.  While on the one hand the SEC is pursuing a fraud case against one of the largest of the Wall Street banks, Goldman Sachs, Congress is pursuing "reform" legislation that would encourage Goldman to engage in still more of the behavior for which the SEC is seeking redress:

Recall that during the financial implosion of late 2008, Goldman was not bailed out directly by taxpayers, but instead received tax dollars as a creditor of AIG. Goldman received $12.9 billion in the “backdoor bailout” of AIG because of the credit default swaps it owned that AIG had insured. Goldman and other of AIG’s counterparties were paid by the government 100 cents on the dollar in this bailout, whereas creditors in bankruptcy court often get less than 50 cents on the dollar.

Bear in mind that Goldman Sachs was, ostensibly, an "investment bank" until 21 September 2008, when Goldman and Morgan Stanley, the other major investment bank in the United States at that time, opted to become "bank holding companies" and submit themselves to regulation via the Federal Reserve. Bear in mind also the presumed purpose of an "investment bank" is to assist "...corporations and governments in raising capital by underwriting and acting as the agent in the issuance of securities."

There is no denying the value to business of intermediaries such as a Goldman Sachs in gathering together the necessary funds to build a new factory or bring a new product to market. There is also no denying that the buying and selling of derivatives that has fascinated Wall Street in recent years has little to do with the actual raising of capital. Indeed, the financial crisis of 2008 did much to prove Warren Buffet's prescient 2003 description of derivatives as "financial weapons of mass destruction"; indeed, much of Greece's present financial dilemma appears to stem from their use--and apparent mis-use--of derivatives to sustain years of deficit spending.

A love of money, it seems, has the capacity to wipe out the economies of entire nations.

Perhaps, then, the Biblical caution offers some guidance for how to reform both financial markets and public finances.  If we are to focus less on money itself, one way to do that is to focus more on the actual value of things.  If we can remember that, in the act of purchase, we are merely converting one resource into another--e.g., turning a day's labor into food for the table--and that money is never a resource but merely the medium, perhaps we can see how to order our affairs--both public and private--so as to avoid the sorrows an inordinate focus upon money brings.  If governments can absorb the grim reminder of Greece that even sovereign debts must in time be repaid, they can muster the institutional will and discipline to not borrow beyond their capacity to repay.  If banks can acknowledge their contribution to value lies solely in their capacity to facilitate non-financial business activity, perhaps they can be dissuaded from the reckless and risky gambles that derivatives transactions have proven themselves to be.

From a practical policy perspective, the Biblical caution invites governments to restrain their spending to such revenues as may reasonably be raised--that while there can and should be debates over how much government should tax, and what government should tax, there should be little debate that government should not borrow except in extraordinary circumstance.  Similarly, the Biblical caution suggests that investment banking should return to its original focus--helping businesses raise capital--and should not "invest" in synthetic means with derivative pseudo-securities whose connection to tangible assets is increasingly nebulous, and that proper government regulation of financial markets would be to maintain clear relationships between investment securities and underlying tangible assets, and that money supplies be allowed to grow--or shrink--as a rational response to the expansion or contraction of an economy's asset base--not manipulated to gain transitory advantage over other currencies in other markets.

So long as governments and financial markets focus inordinately on money, and not at all on the actual values of things, the sovereign debt crisis of Greece and the private debt crises of Wall Street are dramas that will be replayed again and again.  Any effort to "reform" financial markets should begin with moving market focus away from money itself.