Is Inflation Again the Route to Fascism?
By Jeff Gates
The Passionate Attachment
December 17, 2012
The 9/11 attacks were not about terrorism; they were about setting conditions similar to post-WWI Germany. Much as the U.S. and the E.U. are mired in debt-induced recessions with no clear path to recovery, the reparations imposed on Germany in 1919 by the Treaty of Versailles threw a proud and industrious people into a humbling hyperinflation and a protracted depression. Out of that toxic financial mix emerged a rabid nationalism that took political form as the National Socialist Workers Party (Nazis). Could that be what we now see emerging in the U.S.?
Since the end of WWII and enactment of the Employment Act of 1946, the U.S. Federal Reserve has operated with a dual mandate: price stability and full employment. With inflation moderate and jobless numbers stuck at record highs, Fed chairman Ben Bernanke announced in September the Fed’s intent to pump liquidity into the U.S. economy until the jobless rate falls to 6.5% while keeping inflation under 2.5%.
The latest terminology for central bank pump priming is “quantitative easing.” Rather than a timeframe target for the third in a series of QEs, the Fed promises interest rates near zero until the target unemployment rate is reached. As with QE1 and QE2, QE3 will operate through the Fed’s purchase of distressed mortgages and the acquisition of U.S. bonds for the Fed’s balance sheet (aka ‘printing money’).
QE1 began November 2008 with the Fed-assisted bailout of banks, investment banks and insurance companies whose financial “creativity” was applauded by Fed Chairman Alan Greenspan as he maintained low interest rates during his 19-year tenure. With Depression-era investor protections repealed during his tenure as Clinton-era Treasury Secretary, Robert Rubin emerged as co-chairman of Citigroup with Sanford Weill to prey on investors worldwide who trusted in the investment grade ratings given portfolios of securitized loans.
Those AAA-rated portfolios (many sold to pension plans) included hundreds of billions of dollars of toxic “junk” mortgages. Those portfolios, in turn, were insured against default by the Hank Greenberg-led American Insurance Group. QE1 began soon after New York Fed chief Tim Geithner was appointed Treasury Secretary.
At What Cost Financial Creativity?
An understudy of Larry Summers who, as Treasury Secretary, led the campaign against restrictions on creative financial derivatives, Geithner-overseen bailouts included $182 billion for AIG to cover credit defaults for which AIG collected fees that boosted its profits and increased its dividend payouts without setting aside sufficient funds to cover the risk.
According to a Congressional oversight panel, Citigroup received $476.2 billion in cash, guarantees and liquidity programs. QE3 will be used to buy these toxic mortgages, removing them from the books of banks rather than requiring that those loans be reappraised at their true value. That candor would push bank stocks lower, reduce bank capital, contract loan availability and lessen the liquidity that Bernanke aims to boost with QE3.
Who benefits from this passionate attachment to saving Wall Street from its financial creativity? Low and middle-income Americans have not seen any real income gains since the 1990s. More than 12 million Americans cannot find jobs; another 8.2 million work at part-time jobs and worker compensation as a share of the economy is at it lowest level since Ben Bernanke was age two (1955). The QEs spread the pain and concentrate the gain. Shared prosperity is not part of the Fed’s legislative mandate.
An acknowledged expert on the Great Depression, Bernanke argues that the threat of inflation can be fought as needed as the Fed extracts liquidity by selling its QE-acquired bonds. The problem: those sales will raise interest rates as liquidity falls, slowing the very recovery that the Fed seeks to catalyze with quantitative easing. Bernanke concedes “the limitations on our policy toolkit.” Any injection of liquidity large enough to avert a depression will fuel inflation.
Akin to pushing on a string, Fed policy can affect lending conditions, it cannot force banks to lend or firms to borrow. Or to hire more people if they borrow. Even with the money supply up more than 16% since January 2010, a recession traceable to a slump in purchasing power cannot be remedied with a monetary toolkit known to most favor those who have long been the most favored.
A Simplistic Tool for a Complex Problem
Over the course of QE2, the Fed purchased $770 billion in Treasury securities (i.e., newly printed money). With more cash flowing through the economy, the S&P 500 added about $2 trillion to household net worth. The bulk of that liquidity-enhanced value flowed to the topmost one-tenth of one percent of households. QE2 also resulted in more inflation, higher commodity prices and a devalued dollar. Risk-averse money began migrating into gold and silver. Meanwhile those using the U.S. dollar for transactions such as oil began their search for alternatives.
Changing the purpose of the QEs does not change the limited scope of the impact when injecting more liquidity into the economy. With a “consensus” economic policy that has long pushed production abroad, those jobs are not likely to return to the U.S. The primary lesson of the QEs: in a debt-induced recession, the Fed’s impact is limited when its only tool is more debt. With access to debt largely pre-allocated—to those with collateral—the distributional effects are well known and fully foreseeable.
When, after WWII, the U.S. emerged as home to more than half the world’s productive might, it was clear that U.S. bonds would become the favored form of debt and U.S. currency the favored form of liquidity to hold in reserve. Both are now endangered yet the Fed’s QE toolkit is poised to make a bad situation worse, possibly far worse.
The danger of inflation is due not just to U.S. monetary policy but also to fiscal and other emerging trends. As faith erodes that we can fix our budget problems, the appeal of U.S. bonds will fall and the risks will rise for those using the U.S. dollar as a reserve currency. Regardless whether interest rates rise beyond the Fed’s 2.5% target, stagflation is assured. Lacking the budget capacity for a fiscal stimulus, the U.S. will slip into its version of Japan’s “lost decade.” Only ours will be more severe as the contagion sweeps through globalized markets, ensuring recession-reinforcing feedback loops.
As 78 million Baby Boomer retirees deploy their voting power to remain financially afloat in an economy struggling with a rising tide of debt, the prospects for political discontent will grow. Meanwhile, the out-year expense of two ill-advised wars will become fiscally apparent. Best estimates put their combined cost in excess of $5 trillion, all of it borrowed, including $1 trillion in interest alone. Much of that war-waging capital was borrowed abroad with China now a $1.2 trillion creditor. In effect, we borrowed back the purchasing power we sent abroad while leaving in China many of our jobs and much of the economic power on which our national security ultimately depends.
The QEs to date may pale in comparison to the pumped-up liquidity required to keep the Baby Boomer demographic bubble afloat while also maintaining payments on $16 trillion in securitized government debt growing at more than $1 trillion per year since 2008 as global bond markets grow weary of our fiscal profligacy.
The domestic situation may tip from concern to outrage if, as the facts suggest, it is proven that the U.S. was induced to take on this debt (and wage those wars) by the same trans-generational network that shaped conditions for the emergence of fascism in the war-weary Germany of the 1920s. The Economics of the Peace (1920) became a famous treatise after British economist John Maynard Keynes departed early from the Paris Peace talks concerned at the impact that post-war reparations debt would have on Germany. He foresaw the financial impact; the social reaction was even worse.
The Fuhrer of that era blamed Jews. Will a similar charismatic leader emerge to blame Muslims? Will a war-weary America succumb to the same crude appeals to hate mongering, nationalism, militarism and a homeland-security state? As the Fed turns to its crude toolkit (a liquidity pump) to address unemployment, economic insecurity and the demands of foreign bondholders, at what point does inflation become the financial escape route from a web of debt—as in Weimar Germany?
In May 1948, the Joint Chiefs cautioned Harry Truman about the “fanatical concepts” of a Jewish-Zionist elite that sought recognition as a state. U.S. military leaders warned that this extremist enclave sought “military and economic hegemony over the entire Middle East.” In December 1948, a distinguished contingent of Jewish scientists and intellectuals advised in The New York Times that those leading the effort to establish a Jewish state bear the unmistakable stamp of a “leader state.” Describing Israel’s founding Zionists as “terrorists” and a “criminal people,” Albert Einstein joined those who urged that we not support this unmistakable form of fascism.
Should Israel induce us into yet another war in the Middle East or North Africa, energy prices will initially spike and then plummet as teetering economies falter and then fail. As the price falls for oil and natural gas, governments in the region will fail as their citizens grasp that promises made in the post-Arab Spring era can no longer be kept. As we (and they) fall deeper into a fiscal morass, those who have long sought hegemony in that region may yet realize their agenda for Greater Israel. Meanwhile, America may well face the existential threat of financial collapse.
A widely acclaimed author, attorney, investment banker, educator and consultant to government, corporate and union leaders worldwide, Jeff Gates’ latest book is Guilt By Association—How Deception and Self-Deceit Took America to War.