Friday, 28 August 2015

Friday Morning Ramble, 28.08.15

Bureaucracies aren’t good parents. Lesson learned?
Playgrounds may go due to safety bill – RADIO NZ

Bureaucracies aren’t good parents. Lesson learned? 
Kids probably no better off in state care – RADIO NZ

“Socialism is compassionate, caring, and helps children everywhere.”
Children with cancer go without chemo for weeks in Venezuela due to medicine shortage – LATINO.FOXNEWS.COM

“This latest from the Commissioner, and then Paula Rebstock's panel to "transform" CYF are just part and parcel of the ongoing drama that is chasing the tail of  inter-generational social malaise driven by paying people to have babies.”
The latest CYF instalment – LINDSAY MITCHELL

“So, the ‘system’ often fails to meet the needs of Maori children? First and foremost their parents and families failed to meet their needs… So the Maori population is double the Asian yet has 46 times more children in state care.  New Zealand, instead of overtly or covertly disapproving of Asians, should be looking at what they do that keeps their children safe and protected.”
Only 64 Asian children in state care – LINDSAY MITCHELL

“It appears we are creating a generation of New Zealanders whose sole  experience of entrepreneurship is writing a great application for government  funding.”
Jumping on the taxpayer bandwagon – Max Christofferson, STUFF

Chris Trotter labours under the illusion we are living in capitalism.
Reply to Chris Trotter: The West is Not Capitalist. – Mark Hubbard, LIFE BEHIND THE IRON DRAPE

“When it comes to decreasing housing prices, there are two solutions: decrease demand or increase supply.”
Taking Control of Rent Control – Adam Millsap, MERCATUS CENTER

“Waste” in bureaucracies. Let’s just pass a law.

“Donald Trump dropped his long-awaited immigration position paper this week. To no one’s surprise, it is a long list of restrictionist clich├ęs about immigrants taking jobs, abusing welfare, and lowering wages for Americans. Here are the five biggest inaccuracies.”
5 Charts that Show Trump's Immigration Paper Is Nonsense: Foreigners are not a threat to the US economy – David Bier, F.E.E.
Why There’s No Such Thing as “Stealing American Jobs” – Michael Hurd, DR HURD.COM

“Donald Trump and Bernie Sanders have both fallen for the oldest fallacy in economics.”
The Oldest Fallacy in Economics – Donald J. Boudreaux, F.E.E.
Trumponomics is Notonomics – Donald J. Boudreaux, CAFE HAYEK

“In economics, there is lots of room for difference of opinion, and although Donald Trump is entitled to his own opinion, he is not entitled to his own facts.”
Trump Gets His Facts Wrong On China – Charles Calomiris, FORBES

Investors watched in dismay as global markets spiraled into chaos Monday, sending the Dow plummeting 1,000 points within several minutes of the opening bell. But for some 2016 presidential candidates, the massive selloff was nothing short of a political opportunity.”
It’s the Economy, Stupid: Version 2016 – Michael Hurd, DR HURD.COM

“Do not fret, however. Beijing has called in the Red Cavalry—otherwise known as the People’s Bank of China.”
Here Comes The Red Cavalry——Goldman Says Back-Up The Trucks, Again! – David Stockman, CONTRA CORNER

“Turn those presses back on!”
Market talk suddenly turns to specter of QE4 – CNBC

How central banks make you eat your seed corn.
Who the Heck Consumes His Capital?!Keith Weiner, CAPITALISM MAGAZINE

Why ‘Grievance Feminism’ is a threat to serious feminist and humanitarian issues.
While women overseas face true oppression, Western feminists dream up petty hashtags – Dr Christina Hoff Sommers, DAILY TELEGRAPH

Eat them, skin them, save them.
Property rights can be used to protect endangered species – Lauran Huggins, LIBERTARIANISM.ORG

“I think of it as the single most important economic issue of our time, because if we don’t finally work it out that Keynes got it completely wrong, we are going to create for ourselves a permanently lower standard of living and a widening underclass of the unemployed and under-employed.”
Tom Woods on Say’s Law – Steve Kates, LAW OF MARKETS

“Economics is dead, and economists killed it.”
Economics Is Dead, and It Is Being Killed Again – Per Bylund, MISES DAILY

“The boundaries between industries are starting to blur, as disruptive innovators like APPLE, GOOGLE & AMAZON deal death blows to industry after industry.”
Commerce Commission understands neither creative destruction nor the scourge of lower prices on WordPress. – Jim Rose, UTOPIA – YOU ARE STANDING IN IT

“Markets will bend around the constraints until they die. It's almost as if it had been obvious. Oh wait - it was.”
How Minimum Wages Discourage Entrepreneurship – Donald J. Boudreaux, F.E.E.
As Minimum Wages Rise, Restaurants Say No to Tips, Yes to Higher Prices – N.Y. TIMES

“In the wake of a stronger than expected U.S. GDP report (see Second Quarter GDP Revised Up, as Expected, Led by Autos, Housing), some are questioning the stated growth.”
GDP by Other Measures; Will the "Real" GDP Please Stand Up? – MISH’S GLOBALE CONOMIC TREND ANALYSIS

Even Pablo Picasso is not immune to a downturn.
Art Collectors Pawn Masterpieces To Meet Market Rout Margin Calls – ZERO HEDGE

“The Keynesian response to the current stock market crisis in China, and the overall downturn in the economy, would be to open the floodgates and print money Bernanke style.
”This, of course, has major long term negative consequences and there are some indications China's central bank, the People's Bank of China, is not going to respond in Keynesian fashion.”
Is China in the Process of Ditching Keynesian Economics? – ECONOMIC POLICY JOURNAL

“The fallacy of mixed economy at centre of China's troubles.”
We all win if Beijing bows to market forces – Jonathan Fenby, THE AGE

“Among a people generally corrupt,
liberty cannot long exist.”

- Edmund Burke

“The energy industry is the industry that powers every other to improve human life. The more affordable, plentiful, and reliable energy we can produce, the more (and better) food, clothing, shelter, transportation, medical care, sanitation, clean water, technology, and everything else we can have.
    “Unfortunately, because of backwards energy and environmental policies that are anti-development, not anti-pollution, we are squandering the opportunity of a generation, through blind opposition to our three most potent sources of power: hydrocarbon energy (coal, oil, and gas), nuclear energy, and hydroelectric energy.
    “It’s time to replace today’s energy deprivation policies with energy liberation policies.”
The Energy Liberation Plan – Alex Epstein, FORBES

“Big-government advocates will say that as society grows more complex, laws must multiply to keep up. The opposite is true. It is precisely because society is unfathomably complex that laws must be kept simple.”
Complex Societies Need Simple Laws – John Stossel, CAPITALISM MAGAZINE

“The former head of the Australian Productivity Commission laments that we have run out of the ability to use monetary and fiscal policy to generate higher levels of economic activity … It is so depressing to read such stuff.”
Five years too late – Steve Kates, CATALLAXY FILES

“People try to live within their income so they can afford to
pay taxes to a government that can't live within its income.”

- Robert Half

“Central bankers built a Brave New World where central bank money printing would boost stock prices and the wealth created would trickle down to workers and cause a booming economy. If you doubted that, you are now seeing proof that maybe this world was a little bit of Lewis Carroll’s Alice in Wonderland along with the Aldous Huxley.”
If You Doubted The Central Bankers’ Brave New World, You Were Right – Lee Adler

“But most important in terms of the depression was the new statism that the Republicans, following on the Wilson administration, brought to the vital but arcane field of money and banking. How many Americans know or care anything about banking? Yet it was in this neglected but crucial area that the seeds of 1929 were sown and cultivated by the American government.”
1929 And Its Aftermath——A Contra-Keynesian View Of What Really Happened – Murray Rothbard, MISES.ORG

“Government is the great fiction, through which everybody
endeavours to live at the expense of everybody else.”

- Frederic Bastiat

“The patent system is not a tool for entrenched interests to stifle competition as ivory-tower academics would have us believe. Patents allow independent inventors and small companies to compete against better funded rivals, who would otherwise simply take away their inventions.”
Looking Down on the Patent System from the Ivory Tower – Joseph Allen, I.P. WATCHDOG

“Patents are commercial assets, not litigation tools. Unfortunately, far too much time and writing is spent talking about litigation and not studying how patents function in the creation and distribution of new values in the marketplace.”
The Top 10 Reasons Why Your Startup Needs Patents – David Pridham & Brad Sheafe, FORBES

"The creative community has been buzzing this past week in response to the NY Times Sunday Magazine piece by Stephen Johnson, 'The Creative Apocalypse That Wasn’t.' Not surprisingly, feedback in the Times comments section was decidedly negative. As the week’s progressed we’ve also seen a number of thoughtful responses in commentaries published across the web.
    “No, actually everything’s not hunky-dory in the creative universe.”
Counterpoints to Steven Johnson’s NY Times Magazine piece — “The Creative Apocalypse That Wasn’t” – Ellen Seidler, VOX INDIE

“In what can only be characterized as a bizarre, rambling, and intellectually dishonest article, The Economist has inexplicably taken the position that patents are not necessary for innovation. This anti-patent hit piece is full of inaccuracies and outright falsehoods, masquerading as thoughtful commentary on an issue where the authors are quite clearly ignorant.”
What ‘The Economist’ Doesn’t Get About Patents – Gene Quinn, I.P. WATCHDOG
The Economist bites the hand that feeds it: patents - Gene Quinn & Steve Brachmann, I.P. WATCHDOG

“…no empirical support for the theory that ‘patent hold up’ is a problem in the high-tech industries that rely on patented tech standards (such as WiFi).”
An Empirical Examination of Patent Holdup – OXFORD JOURNALS

Inalienable Rights: What's Up With That?
Ayn Rand’s Theory of Rights: The Moral Foundation of a Free Society – OBJECTIVE STANDARD
Getting property rights right: Mixing my labour? – NOT PC

“As fall semesters in the U.S. gear up across the country, freshman and returning students enter a university culture filled increasingly with social justice warriors and party-obsessed drifters.”
On Cloud Nine or Crying Their Eyes Out: How Emotionalism is Destroying Student Culture – Thomas Duke, THEUNDERCURRENT
The contagious madness of the new PC – Mary Wakefield, SPECTATOR

“Ladies, gentlemen, people of indeterminate gender…”
Political correctness is killing freedom of speech – BRENDAN O’NEILL.CO.UK

Science experiments are supposed to be reproducible. If they can’t be reproduced, their results are not science. “Psychologists have completed a major review of the findings of 100 psychology studies. Less than half could be reproduced.”
Massive study reports challenges in reproducing published psychology findings – SCIENCE DAILY
Yes, many psychology findings may be “too good to be true” – now what? – RETRACTION WATCH

“What recent research says about fraud, errors, and other dismaying academic problems.”
A Scientific Look at Bad Science – THE ATLANTIC

Now this is how to do a death notice.  (From the NZ Herald, this morning.)

Embedded image permalink

[Hat tips Suzuki Samurai, Adam Mossoff, Center for the Protection of Intellectual Property, Geek Press, Michael Field, Mikayla Novak, Ezra Klein, Jane, spiked, Manhattan Institute, Rothbardian, Mark Hubbard, Louise Lamontagne, Stuart Hayashi, Daniel Stratton, Laissez Faire Capitalism, Michael Brown, Jim Matzger, The Centre for Independent Studies, Jim Rose]

Thanks for reading.
Have a great weekend!
PC

Thursday, 27 August 2015

“Good Riddance, Bryce Williams”

No, I haven’t and won’t watch the murder video from Virginia that is disgustingly being passed around, and undoubtedly shown on high rotation on news channels.

There’s only one things to say about it really: Good riddance to the murderer.

Mercy to the guilty is injustice to the innocent.

The acoustics inside the tunnel are great!

So why wouldn’t you?

Some frightening alcohol statistics

In the debate that ended in passing David Seymour’s bill allowing you to watch rugby in a bar (yes, people, that’s the kind of place we live in; where a law must be passed so you can watch sport with a drink in your hand), National’s Chris Bishop presented some frightening statistics about New Zealand drinking.

New Zealand ranks only 96th in the world for our rate of alcohol consumption.

Our binge drinking rate is only half that of Australia’s, and only one-sixth that of Britain’s.

That is appalling.

What is even worse is is that young people are drinking much less.

There are one-quarter fewer young drinkers now than five years ago, and one-third fewer than the turn of the century-and regular young drinkers – the best of that bunch – are dropping like flies, only half the number it was just fifteen years ago.

What’s more, the number of young drinkers who said they went binge drinking in the last month has dropped by18 percent since 2007!

Something is not right.

Clearly, we are raising a nation of wowsers.

Worse, an MP is raising these figures in parliament as a kind of apology for drinking, as a sop to the wowsers who might object to people having some fun with a drink in their hand.

Bugger them. We need to defend the right to enjoy ourselves, and not apologise for it.

Good on David Seymour and those MPs who did vote for his bill for moving a tiny bit in that direction.

Today’s random medical scare-story …

[Hat tip Shaun Holt]

Quote of the Day: On NZ’s modern-day entrepreneurship

“It appears we are creating a generation of New Zealanders whose sole experience
of entrepreneurship is writing a great application for government  funding.”
~ Max Christofferson, ‘Jumping on the taxpayer bandwagon

Wednesday, 26 August 2015

Quote of the Afternoon: There’s no ‘I’ in team?

“He understands that there is no ‘I’ in ‘team.’
Like Wendell Sailor however, he is also keenly
aware that there are five in ‘individual brilliance’.”

~ Peter Flynn on the brilliance of Geelong’s Stevie J.

Quotes of the Morning: Before & after the 1929 crash

One of Colin Seymour’s hobbies is collecting nonsense.

There are few more nonsensical prognostications than folk either side of the event that’s on everyone’s mind this week: the Great Wall St Crash that began in earnest on October 24, 1929.  Here’s what some numb-nuts had to say, with the times they said them indicated on Colin’s chart above. They offer a great example of hubris when humility would be far more appropriate.  Because these people had much to be humble about …

1. "We will not have any more crashes in our time."
    - John Maynard Keynes, leading British economist, in 1927

2. "I cannot help but raise a dissenting voice to statements that we are living in a fool's paradise, and that prosperity in this country must necessarily diminish and recede in the near future."
    - E. H. H. Simmons, President, New York Stock Exchange, January 12, 1928

  "There will be no interruption of our permanent prosperity."
    - Myron E. Forbes, President, Pierce Arrow Motor Car Co., January 12, 1928

3. "No Congress of the United States ever assembled, on surveying the state of the Union, has met with a
    more pleasing prospect than that which appears at the present time. In the domestic field there is tranquillity
    and contentment...and the highest record of years of prosperity. In the foreign field there is peace, the goodwill  
    which comes from mutual understanding."
    - US President Calvin Coolidge December 4, 1928

4, "There may be a recession in stock prices, but not anything in the nature of a crash."
    - Irving Fisher, leading U.S. economist, New York Times, Sept. 5, 1929

5. "Stock prices have reached what looks like a permanently high plateau. I do not feel there will be soon if ever a
    50 or 60 point break from present levels, such as (bears) have predicted. I expect to see the stock market a
    good deal higher within a few months."
    - Irving Fisher, Ph.D. in economics, Oct. 17, 1929

    "This crash is not going to have much effect on business."
    - Arthur Reynolds, Chairman of Continental Illinois Bank of Chicago, October 24, 1929

    "There will be no repetition of the break of yesterday... I have no fear of another comparable decline."
    - Arthur W. Loasby (President of the Equitable Trust Company), quoted in The New York Times, Friday, October 25, 1929

    "We feel that fundamentally Wall Street is sound, and that for people who can afford to pay for them outright,
    good stocks are cheap at these prices."
    - Goodbody and Company market-letter quoted in The New York Times, Friday, October 25, 1929

Those last few comments were just the day or so after the first big crash – in other words, about the same stage in the exact same stage in the cycle as we are now.

And as you’ll probably be aware, those two “leading economists” are still leading us—Keynes and his remedies being well known; Fisher’s doctrine of price stability having helped to cause both this crash and that one. (Fisher lost his shirt in that crash, but unfortunately not his reputation.)

Keynes’s “remedies that weren’t” didn’t take hold until later in the thirties. But it was Fisher who had claimed during the 20s that his “scientific” approach to so-called price stability” had established a “New era of prosperity during the 1920s.” (Ludwig Von Mises published a book in 1928 that critiqued Fisher's approach and predicted that it would lead to an economic crisis and collapse. Mises passed the "market test" while Fisher lost his personal fortune during an economic crisis that his economics help create.)

But the post-crash crystal ball gazing as the numb-nuts followed it all down was no better—some trying to convince themselves, some trying to convince themselves—starting with words that are already sounding very familiar.

6. "This is the time to buy stocks. This is the time to recall the words of the late J. P. Morgan... that any man
    who is bearish on America will go broke. Within a few days there is likely to be a bear panic rather than a
    bull panic. Many of the low prices as a result of this hysterical selling are not likely to be reached again in
    many years."
    - R. W. McNeal, market analyst, as quoted in the New York Herald Tribune, October 30, 1929

    "Buying of sound, seasoned issues now will not be regretted"
    - E. A. Pearce market letter quoted in the New York Herald Tribune, October 30, 1929

    "Some pretty intelligent people are now buying stocks... Unless we are to have a panic -- which no one
    seriously believes, stocks have hit bottom."
    - R. W. McNeal, financial analyst in October 1929

7. "The decline is in paper values, not in tangible goods and services...America is now in the eighth year of
    prosperity as commercially defined. The former great periods of prosperity in America averaged eleven years.
    On this basis we now have three more years to go before the tailspin."
   - Stuart Chase (American economist and author), NY Herald Tribune, November 1, 1929

    "Hysteria has now disappeared from Wall Street."
    - The Times of London, November 2, 1929

    "The Wall Street crash doesn't mean that there will be any general or serious business depression... For six
    years American business has been diverting a substantial part of its attention, its energies and its resources
    on the speculative game... Now that irrelevant, alien and hazardous adventure is over. Business has come
    home again, back to its job, providentially unscathed, sound in wind and limb, financially stronger than ever before."
    - Business Week, November 2, 1929

    "...despite its severity, we believe that the slump in stock prices will prove an intermediate movement and not
    the precursor of a business depression such as would entail prolonged further liquidation..."
    - Harvard Economic Society (HES), November 2, 1929

8. "... a serious depression seems improbable; [we expect] recovery of business next spring, with further
    improvement in the fall."
   - Harvard Economic Society, November 10, 1929

    "The end of the decline of the Stock Market will probably not be long, only a few more days at most."
    - Irving Fisher, Professor of Economics at Yale University, November 14, 1929

    "In most of the cities and towns of this country, this Wall Street panic will have no effect."
    - Paul Block (President of the Block newspaper chain), editorial, November 15, 1929

    "Financial storm definitely passed."
    - Bernard Baruch, cablegram to British Chancellor Winston Churchill, November 15, 1929

9. "I see nothing in the present situation that is either menacing or warrants pessimism... I have every confidence
    that there will be a revival of activity in the spring, and that during this coming year the country will make
    steady progress."
    - Andrew W. Mellon, U.S. Secretary of the Treasury December 31, 1929

    "I am convinced that through these measures [public spending, minimum-wage laws] we have
    re-established confidence."
   - U.S. President Herbert Hoover, December 1929

    "[1930 will be] a splendid employment year."
   - U.S. Dept. of Labor, New Year's Forecast, December 1929

10. "For the immediate future, at least, the outlook (stocks) is bright."
    - Irving Fisher, leading economist, in early 1930

11. "...there are indications that the severest phase of the recession is over..."
    - Harvard Economic Society (HES) Jan 18, 1930

12. "There is nothing in the situation to be disturbed about."
    - Secretary of the Treasury Andrew Mellon, Feb 1930

13. "The spring of 1930 marks the end of a period of grave concern...American business is steadily coming back
    to a normal level of prosperity."
    - Julius Barnes, head of Hoover's National Business Survey Conference, Mar 16, 1930

14. "... the outlook continues favourable..."
    - Harvard Economic Society, Mar 29, 1930

    "... the outlook is favourable..."
    - Harvard Economic Society, Apr 19, 1930

15. "While the crash only took place six months ago, I am convinced we have now passed through the worst --
    and with continued unity of effort we shall rapidly recover. There has been no significant bank or industrial failure. 
    That danger, too, is safely behind us."
    - Herbert Hoover, President of the United States, May 1, 1930

    "...by May or June the spring recovery forecast in our letters of last December and November should clearly
    be apparent..."
    - Harvard Economic Society, May 17, 1930

    "Gentleman, you have come sixty days too late. The depression is over."
    - Herbert Hoover, responding to a delegation requesting a public works program to help speed the recovery,
      June 1930

16. "... irregular and conflicting movements of business should soon give way to a sustained recovery..."
     - Harvard Economic Society, June 28, 1930

17. "... the present depression has about spent its force..."
   - Harvard Economic Society, Aug 30, 1930

18. "We are now near the end of the declining phase of the depression."
    - Harvard Economic Society, Nov 15, 1930

19. "Stabilization at [present] levels is clearly possible."
    - Harvard Economic Society, Oct 31, 1931

20. "All safe deposit boxes in banks or financial institutions have been sealed... and may only be opened in
    the presence of an agent of the I.R.S."
    - President F.D. Roosevelt, confiscating gold in 1933


A version of this post appeared at the Gold-Eagle.

Tuesday, 25 August 2015

How the Stock Market and Economy Really Work

A timely guest post by Kel Kelly

[An MP3 audio file of this article, narrated by Keith Hocker, is available for download.]

"A growing economy consists of prices falling, not rising."

The stock market does not work the way most people think. A commonly-held belief — on Main Street as well as on Wall Street — is that a stock-market boom is the reflection of a progressing economy: as the economy improves, companies make more money, and their stock value rises in accordance with the increase in their intrinsic value. A major assumption underlying this belief is that consumer confidence and consequent consumer spending are drivers of economic growth.

A stock-market bust, on the other hand, is held to result from a drop in consumer and business confidence and spending — due to either inflation, rising oil prices, or high interest rates, etc., or for no real reason at all — that leads to declining business profits and rising unemployment. Whatever the supposed cause, in the common view a weakening economy results in falling company revenues and lower-than-expected future earnings, resulting in falling intrinsic values and falling stock prices.

This understanding of bull and bear markets, while held by academics, investment professionals, and individual investors alike, is technically correct if viewed superficially but because it is based on faulty finance and economic theory, it is substantially misconceived .

imageIn fact, the only real force that ultimately makes the stock market or any market rise (and, to a large extent, fall) over the longer term is simply changes in the quantity of money and the volume of spending in the economy. Stocks rise when there is inflation of the money supply (i.e., more money in the economy and in the markets). This truth has many consequences that should be considered.

Since stock markets can fall — and fall often — to various degrees for numerous reasons (including a decline in the quantity of money and spending), our focus here will be only on why they are able to rise in a sustained fashion over the longer term.

The Fundamental Source of All Rising Prices

For perspective, let's put stock prices aside for a moment and make sure first to understand how aggregate consumer prices rise. In short, overall prices can rise only if the quantity of money in the economy increases faster than the quantity of goods and services. (In economically retrogressing countries, prices can rise when the supply of goods diminishes while the supply of money remains the same, or even rises.)

When the supply of goods and services rises faster than the supply of money — as happened during most of the 1800s — the unit price of each good or service falls, since a given supply of money has to buy, or "cover," an increasing supply of goods or services.

image
Fig 1: NZ & British Price Level, 1860-1910

George Reisman derives the critical formula for the formation of economy-wide prices:1 In this formula, price (P) is determined by monetary demand (D) divided by supply of goods and services (S):

P=D/S

The formula shows us that it is mathematically impossible for aggregate prices to rise by any means other than (1) increasing demand, or (2) decreasing supply; i.e., by either more money being spent to buy goods, or fewer goods being sold in the economy.

In our developed economy, the supply of goods is not decreasing, or at least not at enough of a pace to raise prices at the usual rate of 3–4 percent per year; instead prices are rising due to more money entering the marketplace.

The same price formula noted above can equally be applied to asset prices — stocks, bonds, commodities, houses, oil, fine art, etc. It also pertains to corporate revenues and profits, for as Fritz Machlup states:

It is impossible for the profits of all or of the majority of enterprises to rise without an increase in the effective monetary circulation (through the creation of new credit or dishoarding).2

To return to our focus on the stock market in particular, it should be seen now that the market cannot continually rise on a sustained basis without an increase in money — specifically bank credit — flowing into it.

imageThere are other ways the market could go higher, but their effects are temporary.

For example, an increase in net savings involving less money spent on consumer goods and more invested in the stock market (resulting in lower prices of consumer goods) could send stock prices higher, but only by the specific extent of the new savings, assuming all of it is redirected to the stock market.

The same applies to reduced tax rates. These would be temporary effects resulting in a finite and terminal increase in stock prices. Money coming off the "sidelines" could also lift the market, but once all sideline money was inserted into the market, there would be no more funds with which to bid prices higher. The only source of ongoing fuel that could propel the market — any asset market — higher is new and additional bank credit. As Machlup writes,

If it were not for the elasticity of bank credit … [then] a boom in security values could not last for any length of time. In the absence of inflationary credit, the funds available for lending to the public for security purchases would soon be exhausted, since even a large supply is ultimately limited. The supply of funds derived solely from current new savings and current amortisation allowances is fairly inelastic.… Only if the credit organisation of the banks (by means of inflationary credit), or large-scale dishoarding by the public make the supply of loanable funds highly elastic, can a lasting boom develop.… A rise on the securities market cannot last any length of time unless the public is both willing and able to make increased purchases.3 (Emphasis added.)

The last line in the quote helps to reveal that neither population growth nor consumer sentiment alone can drive stock prices higher. Whatever the population, it is using a finite quantity of money; whatever the sentiment, it must be accompanied by the public's ability to add additional funds to the market in order to drive it higher.4

Understanding that the flow of recently created money is the driving force of rising asset markets has numerous implications. The rest of this article addresses some of these implications.

The Link between the Economy and the Stock Market

The primary link between the stock market and the economy — in the aggregate — is that an increase in money and credit pushes up both GDP and the stock market simultaneously.

A progressing economy is one in which more goods are being produced over time. It is real "stuff," not money per se, which represents real wealth. The more cars, refrigerators, food, clothes, medicines, and hammocks we have, the better off our lives. We saw above that if more goods are produced at a faster rate than money then prices will fall. With a constant supply of money, wages would remain the same in money terms while prices fell, because the supply of goods would increase while the supply of workers would not—meaning higher real wages. But even when prices rise due to money being created faster than goods, prices still fall in real terms, because wages rise faster than prices. In either scenario,

This is what rising prosperity looks like.

Obviously, then, a growing economy consists of prices falling, not rising. No matter how many goods are produced, if the quantity of money remains constant then the only money that can be spent in an economy is the particular amount of money existing in it (and velocity, or the number of times each dollar is spent, could not change very much if the money supply remained unchanged).

imageThis alone reveals that GDP does not necessarily tell us much about the number of actual goods and services being produced; it only tells us that if (even real) GDP is rising, the money supply must be increasing, since a rise in GDP is mathematically possible only if the money price of individual goods produced is increasing to some degree.5 Otherwise, with a constant supply of money and spending, the total amount of money companies earn — the total selling prices of all goods produced — and thus GDP itself would all necessarily remain constant year after year.

"Consider that if our rate of inflation were high enough, used cars would rise in price just like new cars, only at a slower rate."

The same concept would apply to the stock market: if there were a constant amount of money in the economy, the sum total of all shares of all stocks taken together (or a stock index) could not increase. Plus, if company profits, in the aggregate, were not increasing, there would be no aggregate increase in earnings per share to be imputed into stock prices.

imageIn an economy where the quantity of money was static, the levels of stock indexes, year by year, would stay approximately even, or even drift slightly lower6 — depending on the rate of increase in the number of new shares issued. And, overall, businesses (in the aggregate) would be selling a greater volume of goods at lower prices, and total revenues would remain the same. In the same way, businesses, overall, would purchase more goods at lower prices each year, keeping the spread between costs and revenues about the same, which would keep aggregate profits about the same.

Under these circumstances, ‘capital gains’ from speculation (the profiting from the buying low and selling high of assets) could be made only by stock picking — by investing in companies that are expanding market share, bringing to market new products, etc., thus truly gaining proportionately more revenues and profits at the expense of those companies that are less innovative and efficient.

The stock prices of the gaining companies would rise while others fell. Since the average stock would not actually increase in value, most of the gains made by investors from stocks would be in the form of dividend payments. By contrast, in our world today, most stocks — good and bad ones — rise during inflationary bull markets and decline during bear markets. The good companies simply rise faster than the bad.

Similarly, housing prices under static money would actually fall slowly — unless their value was significantly increased by renovations and remodelling. Older houses would sell for much less than newer houses. To put this in perspective, consider that if our rate of inflation were high enough, used cars would rise in price just like new cars, only at a slower rate — but just about everything would increase in price, as it does in countries with hyperinflation. The amount by which a home "increases in value" over 30 years really just represents the amount of purchasing power that the dollars we hold have lost: while the dollars lost purchasing power, the house — and other assets more limited in supply growth — kept its purchasing power.

Since we have seen that neither the stock market nor GDP can rise on a sustained basis without more money pushing them higher, we can now clearly understand that an improving economy neither consists of an increasing GDP nor does it cause the overall stock market to rise.

This is not to say that a link does not exist between the money that particular companies earn and their value on the stock exchange in our inflationary world today, but that the parameters of that link — valuation relationships such as earnings ratios and stock-market capitalization as a percent of GDP — are rather flexible, and as we will see below, change over time. Money sometimes flows more into stocks and at other times more into the underlying companies, changing the balance of the valuation relationships.

Forced Investing

As we have seen, the whole concept of rising asset prices and stock investments constantly increasing in value is an economic illusion. What we are really seeing is our currency being devalued by the addition of new currency issued by the central bank. The prices of stocks, houses, gold, etc., do not really rise; they merely do better at keeping their value than do paper bills and digital checking accounts, since their supply is not increasing as fast as are paper bills and digital checking accounts.

"An improving economy neither consists of an increasing GDP nor does it cause the imageoverall stock market to rise."

The fact that we have to save so much for the future is, in fact, an outrage. Were no money printed by the government and the banks, things would get cheaper through time, and we would not need much money for retirement, because it would cost much less to live each day then than it does now. But we are forced to invest in today's government-manipulated inflation-creation world in order to try to keep our purchasing power constant.

imageTo the extent that some of us even come close to succeeding, we are still pushed further behind by having our "gains" taxed.

The whole system of inflation is solely for the purpose of theft and wealth redistribution. In a world absent of government printing presses and wealth taxes, the armies of investment advisors, pension-fund administrators, estate planners, lawyers, and accountants associated with helping us plan for the future would mostly not exist. These people would instead be employed in other industries producing goods and services that would truly increase our standards of living.

The Fundamentals are Not the Fundamentals

If it is, then, primarily newly-printed money flowing into and pushing up the prices of stocks and other assets, what real importance do the so-called fundamentals — revenues, earnings, cash flow, etc. — have? In the case of the fundamentals, too, it is newly printed money from the central bank, for the most part, that impacts these variables in the aggregate: the financial fundamentals are determined to a large degree by economic changes.

For example, revenues and, particularly, profits, rise and fall with the ebb and flow of money and spending that arises from central-bank credit creation. When the government creates new money and inserts it into the economy, the new money increases sales revenues of companies before it increases their costs; when sales revenues rise faster than costs, profit margins increase.

Specifically, how this comes about is that new money, created electronically by the government and loaned out through banks, is spent by borrowing companies.7 Their expenditures show up as new and additional sales revenues for businesses. But much of the corresponding costs associated with the new revenues lags behind in time because of technical accounting procedures, such as the spreading of asset costs across the useful life of the asset (depreciation) and the postponing of recognition of inventory costs until the product is sold (cost of goods sold). These practices delay the recognition of costs on the profit-and-loss statements (i.e., income statements).

imageSince these costs are recognised on companies' income statements months or years after they are actually incurred, their monetary value is diminished by inflation by the time they are recognized. For example, if a company recognizes $1 million in costs for equipment purchased in 1999, that $1 million is worth less today than in 1999; but on the income statement the corresponding revenues recognized today are in today's purchasing power. Therefore, there is an equivalently greater amount of revenues spent today for the same items than there was ten years ago (since it takes more money to buy the same good, due to the devaluation of the currency).

"With more money being created through time, the amount of revenues is always greater than the amount of costs, since most costs are incurred when there is less money existing."

Another way of looking at it is that, with more money being created through time, the amount of revenues is always greater than the amount of costs, since most costs are incurred when there is less money existing. Thus, because of inflation, the total monetary value of business costs in a given time frame is smaller than the total monetary value of the corresponding business revenues. Were there no inflation, costs would more closely equal revenues, even if their recognition were delayed.

In summary, credit expansion increases the spreads between revenue and costs, increasing profit margins. The tremendous amount of money created in 2008 and 2009 is what is responsible for the fantastic profits companies are currently reporting (even though the amount of money loaned out was small, relative to the increase in the monetary base).

imageSince business sales revenues increase before business costs, with every round of new money printed, business profit margins stay widened; they also increase in line with an increased rate of inflation. This is one reason why countries with high rates of inflation have such high rates of profit.8 During bad economic times, when the government has quit printing money at a high rate, profits shrink, and during times of deflation, sales revenues fall faster than do costs.

imageIt is also new money flowing into industry from the central bank that is the primary cause behind positive changes in leading economic indicators such as industrial production, consumer durables spending, and retail sales. As new money is created, these variables rise based on the new monetary demand, not because of resumed real economic growth.

A final example of money affecting the fundamentals is interest rates. It is said that when interest rates fall, the common method of discounting future expected cash flows with market interest rates means that the stock market should rise, since future earnings should be valued more highly. This is true both logically and mathematically. But, in the aggregate, if there is no more money with which to bid up stock prices, it is difficult for prices to rise, unless the interest rate declined due to an increase in savings rates.

In reality, the help needed to lift the market comes from the fact that when interest rates are lowered, it is by way of the central bank creating new money that hits the loanable-funds markets. This increases the supply of loanable funds and thus lowers rates. It is this new money being inserted into the market that then helps propel it higher.

(I would personally argue that most of the discounting of future values [PV calculations] demonstrated in finance textbooks and undertaken on Wall Street are misconceived as well. In a world of a constant money supply and falling prices, the future monetary value of the income of the average company would be about the same as the present value. Future values would hardly need to be discounted for time preference [and mathematically, it would not make sense], since lower consumer prices in the future would address this. Though investment analysts believe they should discount future values, I believe that they should not. What they should instead be discounting is earnings inflation and asset inflation, each of which grows at different paces.)9

Asset Inflation versus Consumer Price Inflation

Newly-printed money can affect asset prices more than consumer prices. Most people think that the Federal Reserve and other central banks have done a good job of preventing inflation over the last twenty-plus years. The reality is that it has created a tremendous amount of money, but that the money has disproportionately flowed into financial markets instead of into the real economy, where it would have otherwise created drastically more price inflation.

imageThere are two main reasons for this channelling of money into financial assets. The first is changes in the financial system in the mid and late 1980s, when an explosive growth of domestic credit channels outside of traditional bank lending opened up in the financial markets. The second is changes in the US trade deficit in the late 1980s, wherein it became larger, and export receipts received by foreigners were increasingly recycled by foreign central banks into US asset markets.10 As financial economist Peter Warburton states,

a diversification of the credit process has shifted the centre of gravity away from conventional bank lending. The ascendancy of financial markets and the proliferation of domestic credit channels outside the [traditional] monetary system have greatly diminished the linkages between … credit expansion and price inflation in the large western economies. The impressive reduction of inflation is a dangerous illusion; it has been obtained largely by substituting one set of serious problems for another.11

And, as bond-fund guru Bill Gross said,

what now appears to be confirmed as a housing bubble, was substantially inflated by nearly $1 trillion of annual reserve flowing back into US Treasury and mortgage markets at subsidised yields.… This foreign repatriation produced artificially low yields.… There is likely near unanimity that it is now responsible for pumping nearly $800 billion of cash flow into our bond and equity markets annually.12

This insight into the explanation for a lack of price inflation in recent decades should also show that the massive amount of reserves the Fed created in 2008 and 2009 — in response to the recession — might not lead to quite the wild consumer-price inflation everyone expects when it eventually leaves the banking system but instead to wild asset price inflation.

imageOne effect of the new money flowing disproportionately into asset prices is that the Fed cannot "grow the economy" as much as it used to, since more of the new money created in the banking system flows into asset prices rather than into GDP. Since it is commonly thought that creating money is necessary for a growing economy, and since it is believed that the Fed creates real demand (instead of only monetary demand), the Fed pumps more and more money into the economy in order to "grow it."

That also means that more money — relative to the size of the economy — "leaks" out into asset prices than used to be the case. The result is not only exploding asset prices in the United States, such as the NASDAQ and housing-market bubbles but also in other countries throughout the world, as new money makes its way into asset markets of foreign countries.13

A second effect of more new money being channelled into asset prices is, as hinted above, that it results in the traditional range of stock valuations moving to a higher level. For example, the ratio of stock prices to stock earnings (P/E ratio) now averages about 20, whereas it used to average 10–15. It now bottoms out at a level of 12–16 instead of the historical 5. A similar elevated state applies to Tobin's Q, a measure of the market value of a company's stock relative to its book value. But the change in relative flow of new money to asset prices in recent years is perhaps best seen in the chart below, which shows the stunning increase in total stock-market capitalisation as a percentage of GDP (figure 1).

Figure 2: The Size of the Stock Market Relative to GDP
Source: Thechartstore.com

The changes in these valuation indicators I have shown above reveal that the fundamental links between company earnings and their stock-market valuation can be altered merely by money flows originating from the central bank.

Can Government Spending Revive the Stock Market and the Economy?

So, can government spending revive the stock market and the economy then? The answer is yes and no. Government spending does not restore any real demand, only nominal monetary demand. Monetary demand is completely unrelated to the real economy, i.e., to real production, the creation of goods and services, the rise in real wages, and the ability to consume real things — as opposed to a calculated GDP number.

Government spending harms the economy and forestalls its healing. The thought that stimulus spending, i.e., taking money from the productive sector (a de-accumulation of capital) and using it to consume existing consumer goods or using it to direct capital goods toward unprofitable uses (consuming existing capital), could in turn create new net real wealth — real goods and services — is preposterous.

imageWhat is most needed during recessions is for the economy to be allowed to get worse — for it to flush out the excesses and reset itself on firm footing. Recession is a process of recovery from earlier gross misallocations. Broken economies suffer from a misallocation of resources consequent upon prior government interventions, and can therefore be healed only by allowing the economy's natural balance to be restored. Falling prices and lack of government and consumer spending are part of this process.

Given that government spending cannot help the real economy, can it help the specific indicator called GDP? Yes it can. Since GDP is mostly a measure of inflation, if banks are willing to lend and borrowers are willing to borrow, then the newly created money that the government is spending will make its way through the economy. As banks lend the new money once they receive it, the money multiplier will kick in and the money supply will increase, which will raise GDP.

"What is most needed during recessions is for the economy to be allowed to get worse — for it to flush out the excesses and reset itself on firm footing."

As for the idea that government spending helps the stock market, the analysis is a bit more complicated. Government spending per se cannot help the stock market, since little, if any, of the money spent will find its way into financial markets. But the creation of money that occurs when the central bank (indirectly) purchases new government debt can certainly raise the stock market. If new money created by the central bank is loaned out through banks, much of it will end up in the stock market and other financial markets, pushing prices higher.

Summary

The most important economic and financial indicator in today's inflationary world is money supply. Trying to anticipate stock-market and GDP movements by analysing traditional economic and financial indicators can lead to incorrect forecasts. To rely on these "fundamentals" is to largely ignore the specific economic forces that most significantly affect those same fundamentals — most notably the changes in the money supply. Therefore, following monetary indicators would be the best insight into future stock prices and GDP growth.


Kel Kelly has spent over 15 years as a Wall Street trader, a corporate finance analyst, and a research director for a Fortune 500 management consulting firm. Results of his financial analyses have been presented on CNBC Europe and in the online editions of CNN,Forbes, BusinessWeek, and the Wall Street Journal. He is the author of The Case for Legalizing Capitalism. Kel holds a degree in economics from the University of Tennessee, an MBA from the University of Hartford, and an MS in economics from Florida State University. He lives in Atlanta.
A version of this 2010 article first appeared at the Mises Daily

NOTES
1.See G. Reisman, Capitalism: A Treatise on Economics (1996), p.897, for a fuller demonstration. Most of the insights in this paper are derived from the high-level principles laid out by Reisman. For additional related insights on this topic, see Reisman, "The Stock Market, Profits, and Credit Expansion," "The Anatomy of Deflation," and "Monetary Reform."
2.F. Machlup, The Stock Market, Credit, and Capital Formation (1940), p. 90.
3.Ibid., pp. 92, 78.
4.For a holistic view in simple mathematical terms of how the price of all items in an economy may or may not rise, depending on the quantity of money, see K. Kelly, The Case for Legalizing Capitalism (2010), pp 132–133.
5.Price increases are supposedly adjusted for, but "deflators" don't fully deflate. Proof of this is the very fact that even though rising prices have allegedly been accounted for by a price deflator, prices still rise (real GDP still increases). Without an increase in the quantity of money, such a rise would be mathematically impossible.
6.To gain an understanding of earning interest (dividends in this case) while prices fall, see Thorsten Polleit's "Free Money Against 'Inflation Bias'."
7.Most funds are borrowed from banks for the purpose of business investment; only a small amount is borrowed for the purpose of consumption. Even borrowing for long-term consumer consumption, such as for housing or automobiles, is a minority of total borrowing from banks.
8.The other main reason for this, if the country is poor, is the fact that there is a lack of capital: the more capital, the lower the rate of profit will be, and vice versa (though it can never go to zero).
9.Any reader who is interested in exploring and poking holes in this theory with me should feel free to contact me to discuss.
10.This recycling is what Mises's friend, the French economist Jacques Reuff, called "a childish game in which, after each round, winners return their marbles to the losers" (as cited by Richard Duncan, The Dollar Crisis (2003), p. 23).
11.P. Warburton, Debt and Delusion: Central Bank Follies that Threaten Economic Disaster (2005), p. 35.
12.[12] William H. Gross, "100 Bottles of Beer on the Wall."
13.It's not actually American dollars (both paper bills and bank accounts) that make their way around the world, as most dollars must remain in the United States. But for most dollars received by foreign exporters, foreign central banks create additional local currency in order to maintain exchange rates. This new foreign currency — along with more whose creation stems from "coordinated" monetary policies between countries — pushes up asset prices in foreign countries in unison with domestic asset prices.

Crash: “What Hath Central Bank Policy Wrought?” [updated]

image

  • So will there be another global financial crisis?
    The short answer is yes.
    The Fall Guy is in Place for the Next Financial Crisis – Vinny Kolhatkar, THESAVVY STREET
  • With the U.S. and global markets having their worst month in years, here is a breakdown on how bad the damage has been since the declines started last week…
    How the world's major stocks markets have done this month – NZ HERALD
    What to Do When Markets Crash (Like They Did Today) – CASEY RESEARCH
  • What Hath Central Bank Policy Wrought?
    imageAfter futile attempts to prop up its stock market bubble, China stood back and did what it should have done in the first place: Let gravity take over…. 
        When China pledged to support the stock market, prices stabilized for a while, and traders ploughed back into margin. 
        But [yesterday], Chinese central planners finally figured out they could not stop gravity. The ensuing plunge was not orderly to say the least.
        The root of the problem in China is loosey-goosey central bank monetary policy that blew a massive property bubble followed by stock market bubble that had millions of high-schoolers opening up margin accounts to speculate.
        The same intervention problems exists in the US, Europe, and elsewhere.
    Central bank efforts to "stabilise" everything, led to the [volatility] earlier today in VIX "Too Disjointed to Calculate a Value"; Panic Grips Emerging Markets; Biggest VIX Jump on Record
        Gravity has finally taken over. It should have long ago.
    imageFew See Bubbles Until They Pop
        I don't know when this will stabilise, nor does anyone else, but if stock fall to normal valuations, it's a long, long way down from here.
    image    Central bankers will not see themselves as the problem even though they are to blame for the Dotcom mania, the housing bubble, current equity/junk bond bubble, and the income inequality problem that Janet Yellen rails about.
        Most fail to see the current bubbles in US equities and junk bonds for one reason only: The US markets have not crashed .... yet. 
        If there is a genuine crash, as opposed to a slow drip in the stock market for years as happened in Japan, cries will accumulate for the Fed to "do something".
        Here's reality: The Fed "already did something". The Fed created this bubble. The only beneficiaries were those with first access to money: The banks, Wall Street, and  the already wealthy.
        The middle class was brutally punished once again. Instead of protesting for higher wages at McDonald's people should instead protest Fed policies that steal from the middle class.
    Lessons in Gravity and Intervention; Do Something!  - MISH’S GLOBAL ECONOMIC TREND ANALYSIS
  • Plenty amongst you will be talking about economic cycles, and opportunities, and debate how to ‘play’ the crash, but all this is useless if and when a market doesn’t function. And just about all markets in the richer part of the world stopped functioning when central banks started buying assets. That’s when you stopped being investors. And when market strategies stopped making sense. 
        Central banks will come up with more, much more, ‘stimulus’, but what China teaches us today is that we’re woefully close to the moment when central banks will lose the faith and trust of everyone. After injecting tens of billions of dollars in markets, which thereby ceased to function, the global economy is in a bigger mess then it was prior to QE.
        The whole thing is one big bubble now, and we know what invariably happens to those. More QE is not an answer. And there is no other answer imageleft either. Those tens of trillions will need to vanish from the global economy before any market can be returned to a functioning one, and by that time of course asset prices will be fraction of what they are now…
    image    The entire west has become so addicted to China’s debt, and the illusion of prosperity and economic recovery it has brought, that all prices everywhere must come down, as noted above, until the tens of trillions of dollars in stimulus measures have vanished into the thin air they were fabricated in. Until value becomes real value again, not this virtual zombie Ponzi pricing.
        Today may be just a warning sign, and it may take a while longer before the deluge, but it will come. And since China has nothing left to fall back on but even higher private and public debt levels, make that sooner rather than later. 
        The main advice we’ve always given with regards to debt deleveraging stands: get out of debt.
        Meanwhile, the western financial press, which has been reporting on non-functioning markets for years as if they actually were still functioning, is worrying about a potential Fed rate hike, telling its readers and listeners that the US central bank ‘looks set to make a dangerous mistake’. But the real ‘mistake’ was made a long time ago.
    Stock Market Black Monday Crash, The BIG ONE? It Doesn’t Matter – Ralu Meijer, MARKET ORACLE
  • Let me be clear: I belong to the camp that has long argued for the Fed to raise short-term interest rates. The more the Fed held rates down, the more economic distortions its policy created. Rock-bottom interest rates stimulate investments in long-lived assets, which may be unsustainable once interest rates increase. The global bull market in commercial real estate comes to mind, as does the government bond market. Artificially low rates cause investors to chase yields and take on more risk. That was a goal of the Fed’s extraordinary monetary policy (though it was stated more euphemistically). And near-zero rates harm savers and those living on retirement income, so the policy is inherently and perversely redistributional. 
        All of these considerations, and others, argued for an earlier end to the near-zero policy. The question is why now, after seven years? …
        Low interest rates were thought to be stimulative. But we have learned that financial intermediaries struggle with spreads in a low-interest-rate environment. Hardest hit must surely be the money-market mutual-fund industry. Absent a dangerous lunge for risky returns, how much longer can that industry cope with the current interest-rate policy?
        One suspects that some combination of these motivations, reflecting a concern for financial stability, is behind the call for higher interest rates. To one degree or another, the concern is appropriate—but that has been the case for many years. Now it appears that the FOMC is at last poised to do the right thing, but with bad timing.
    The Fed Flirts With the Right Move at the Wrong Time – Gerald O’Driscoll, WALL STREET JOURNAL
  • [There is] one essential monetary idea [in this world]. That idea is that central banks can and should manipulate – override – the price mechanism… I think this idea is a worldwide idea, but it had its genesis in the United States. Ben Bernanke was an early proponent of it. The idea is that you put the cart of asset values before the horse of enterprise. By raising up asset values, you mobilize spending by people who have assets… It was otherwise known as trickle-down economics before the enlightenment, then it became something much fancier in economic lingo. But that’s essentially the idea. So what you have seen is an artificial structure of prices worldwide.
    image    The prices themselves are the cosmetic evidence of underlying difficulty. So if you misprice something, it’s not just the price that’s wrong. It’s the thing itself that has been financed by the price. So you have perhaps too many oil derricks, too many semi-conductor fabs. We have too much of something, which is financed by an excess of credit or debt. That, to me, is the essential backstory to this morning’s difficulties. It’s the mispricing of asset values, led by central banks who think that by inflating or lifting up stocks, bonds, real estate, they will thereby engender prosperity…
        In capitalism there is meant to be failure. It’s like the forest floor. There is life, there is regeneration, there is death. Without that, what you find is a bunch of dead ferns. What we have in America, it seems to me, is more and more evidence of ‘ferninisation.’ Radio Shack was an example of a business that was improbably surviving on the sales of extension cords in the digital age, and it had been financed with very leniently priced junk debt. What this does is to slow the metabolism of capitalism. So people say, ‘The Fed! These geniuses have succeeded in saving us from the abyss imageof 2000 and’ – Well, maybe. I doubt that. What they have given us is a system of enterprise that is much slower to change… 
        The Fed wanted to stimulate so-called aggregate demand. So it prints money. It suppresses interest rates. It wants to have a lot of financial activity. But in so doing, it reciprocally stimulates aggregate supply. So there’s a lot more of everything – a lot of big cap ex, a lot of big production, a lot of oil. And the lot-of-everything weighs on price indices and the Fed’s like, ‘Oh, we’re not meeting inflation targets. What shall we do? We shall print more money, suppress interest rates…’ and for [how long?]’ 
        Mispricing of debt does two things. It pulls demand forward, and it pushes failure out. So the junk bond default rate over the past 12 months has been the lowest in the 40-odd years in which the data has been collected – 2.3%, versus an average of something like 4%. So on its face, that’s a good thing. We don’t want people failing, because they might be your neighbour. And yet without that, without the dynamism that's success and failure introduced to enterprise, what you’re looking at is like in Europe.
    All Global Prices Are Artificial Thanks to Central Banks (Video) – Jim Grant, via SCHIFF GOLD
  • Fasten your seat belts, this ride is getting interesting…
        As I have been saying for years, the US Federal Reserve has always known that the fragile economy created through stimulus might prove unable to survive even the most marginal of rate increases. But in order to instil confidence in the markets, it has pretended that it could. Wall Street has largely played along in the charade, insisting that rate increases were justified by an apparently strengthening economy and needed to restore normalcy to the financial markets. 
        But the recovery Wall Street had anticipated never arrived, and traders who had earlier demanded that the Fed get on with the show, have now panicked that the rate hikes are about to occur in the face of a weakening economy. As a result, we are seeing a redux of the 2013 "taper tantrum" when stocks sold off when the Fed announced that it would be winding down its QE purchases of bonds.
        The question now is how much further the markets will have to fall before the Fed comes to the rescue by calling off any threatened rate increase? What else could pull the markets out of the current nose dive? 
        Think about where we are. Stock valuations are extremely high and earnings are falling and the economy is clearly decelerating. The steady march upward in stock prices has been enabled by a wave of cheap financing and share buybacks. There are very few reasons to currently suspect that earnings, profits, and share prices will suddenly improve organically. This market is just about the Fed. After one of the longest uninterrupted bull runs in history, bearish investors have learned the hard way that they can't fight the Fed. So why should they now expect to win when the Fed is posturing that its about to embark on a tightening cycle?  
    image    If the Fed were to do what it pretends it wants to do (embark on a tightening campaign that brings rates to about 2.0% in 18 months), and in the process ignore the carnage on Wall Street, I believe we would see a consistent sell off in which most of the gains made since 2009 would be surrendered. After all, how much of those gains came from bona fide improvements in the economy? It was all about the twin props of Quantitative Easing and zero percent interest rates. The Fed has already removed one of the props, and it's no accident that the markets have gained no ground whatsoever in the eight months since the QE program was officially wound down. 
        As the market considers a world without the second prop, a free fall could ensue. Now that we have broken through the October 2014 lows, there is very little technical support that should come in to play. A free fall in stocks could be an existential threat to an already weak economy.  It should be clear the Janet Yellen-controlled Fed would not want to risk such a scenario. This is why I believe that if the sharp sell off in stocks continues, we will get a clear signal that rate hikes are off the table.
        Of course, even if it does throw us that bone, the Fed will pretend that the weakness was unexpected and that it does not come from within (but is caused by external forces coming from China and Europe). Using that excuse, it will attempt to prolong the bluff that its delay is just temporary. For now at least Wall Street is happy to play along with the blame China game. This ignores the fact that China has had much bigger sell offs in recent weeks that did not lead to follow-on losses on Wall Street. I think the problems in China are the same problems confronting other emerging economies, namely the fear of a Fed tightening cycle that would weaken U.S. demand, depress commodity prices while simultaneously sucking investment capital into the United States, and away from the emerging markets, as a result of higher domestic interest rates and the strengthening dollar…
        Some still cling to the belief that the Fed will deliver one or two token 25 basis point rate increase before year end. But this could expose the Fed to a bigger catastrophe than doing nothing at all. If it actually raises rates, and the crisis on Wall Street intensifies, further weakening an already slowing economy, the Fed would have to quickly reverse course and cut back to zero. This would put the Fed's cluelessness and impotency into very sharp focus. From its perspective anything is better than that. If it does nothing, and the economy continues to slow, ultimately "requiring" additional stimulus, it will at least appear that its caution was justified.
        Unfortunately for the Fed, it won't be able to get away with doing nothing for too much longer. Events may soon force it to show its hand. Then perhaps some may notice that the Fed is holding absolutely nothing and has been bluffing the entire time.
    The Fed Is Spooking the Markets Not China – Peter Schiff, EURO PACIFIC CAPITAL