The Richter Report

As Others See Us

The reckless expansion of credit and debt has been at the heart of all great depressions throughout history. However, our American politicians and “mainstream” economists believe that debt-spending is the key to economic recovery. That is why the perspective of outside observers can be very helpful.

A recent article published in the China Business News sent yet another warning shot in the direction of the United States. The article would not have seen the light of day had it not been approved for publication by the Chinese government. The author, Xiang Songruo, a professor at Central China University, said that America must “repay its debts” and “lead a more frugal life.” In the event that the United States asked China to buy more of its debts, the professor suggested that China should demand the following conditions:

1) The U.S. should cancel the limits on high-tech exports to China and allow China to acquire advanced technology and high-tech companies from the U.S; 2) The U.S. needs to open its financial system to Chinese financial institutions, allowing all Chinese firms to open branches and develop business in the U.S.; 3) The U.S. should not prevent Europe from cancelling the ban against selling weapons to China; 4) The U.S. should stop selling military weapons to Taiwan; 5) The U.S. should loosen its limits on numbers of Chinese tourists and allow them to travel freely in the U.S.; and, 6) The U.S. should never restrain China’s exports to the U.S. and force renmimbi appreciation in the name of domestic protectionism and employment.

And if we don’t do what China wants us to do? “Then China’s choice is quite simple: rationally adjust the structure of its foreign currency reserve assets and avoid the risk of U.S. national debt according to market rules.” Translation? You people are broke. We are going to make the rules from now on. If you don’t do what we want, we will dump all our US dollar foreign currency reserves and crash your economy even worse than it has already crashed.

Isvestia, a Russian newspaper, recently published an interview with Igor Panarin, a political analyst. He stated that the current financial crisis might cause the United States to cease to exist in its present form. He said,”The dollar isn’t secured by anything. The country’s foreign debt has grown like an avalanche. This is a pyramid, which has to collapse.” He also commented that the American voters are hoping that President Barack Obama can “…work miracles, but when the spring comes, it will be clear that there are no miracles.”

In November, another Russian publication, Komsomolskaya Pravda, published an interview with Mikhail Khazin, a prominent Russian economist. A number of years ago, Mr. Khazin wrote a book entitled, ” Sunset of the Dollar Empire and the End of the Pax Americana.” At the time the book was published in 2003, most mainstream economists and financial writers would have scoffed at the title of the book. These days, it is no longer a laughing matter.

During the 1990s, Mr. Khazin worked in the Presidential Economic Unit of the Boris Yeltsin administration. In 1997, he had predicted in a written report that the Russian economy was going to face an economic collapse at some point in 1998. He recommended that the Yeltsin administration change its policies. His report got him fired. The Russian collapse came in 1998. In his recent interview, Mr. Khazin was quoted as follows:

“After becoming seriously consumed in our studies of the U.S. financial system, we found an unprecedented parallel. Just as our T-bill market had sucked all the juices out of the Russian economy, the U.S. financial market was sucking the resources out of the entire planet. We realized a similar fate awaited the U.S. financial system. Our article was published in the summer of 2000 in the “Ekspert” magazine, titled, “Is the U.S. Digging for an Apocalypse.” We concluded that it was just as impossible to avoid an economic crisis in the U.S. as the financial collapse in Russia.”

Mr. Khazin went on to say that the problem lies in the fact that, since the 1970s, the United States has attempted to issue new currency in an effort to stimulate aggregate demand. In other words, the U.S. has switched on the printing press. Here are more excerpts from Mr. Khazin’s interview:

“In the early 1980s, they [the United States] started to stimulate demand through state support. For example, they launched the “Star Wars” program. As of 1983, they placed an emphasis on the household economies….For an entire quarter century, households received funds as a result of issuing new currency in larger and larger quantities.

The U.S. was able to make the next step in technological progress as a result of this excess demand. They accomplished the collapse of the USSR and numerous other significant fears. But… The boom took place thanks to resources that were supposed to provide for future growth. The country ate its own resources two generations ahead of time. The U.S. built up tremendous debt. This is clearly seen if we compare the growth of debt in U.S. households with the entire U.S. debt and GDP. The economy is growing at an annual rate of 2-3, or at a maximum 4 percent. But debt is increasing at a rate of 8-10 percent.
The U.S. did create a very high standard of living by stimulating consumer demand. Generations lived without having to experience poverty. But it’s impossible to live forever in debt. Household debt has now surpassed the national economy — more than $14 trillion. Now it’s time to pay up. Of course, Wall Street tried to postpone this collapse. I won’t go into detail about derivatives and other such financial assets, but this was just a gasp for air before an inevitable death.

Another problem in the U.S. is that powerful industries were built around this growing demand. Whatever decision Wall Street takes right now, the demand is going to fall. What will happen to these industries? In 2000, we estimated that 25 percent of the U.S. economy would disappear. Today, we think the number is closest to one-third — if not more…But what exactly does this mean — the destruction of one-fourth of the U.S. economy? It means an uncontrollable increase in unemployment, a horrible depression, a sharp increase in the effect of social services on the budget… Now, the U.S. is jumping all over the place doing everything its can to rescue this fraction of the economy. The government is stimulating banks and manufacturing… But regardless, in 2-3 years, the U.S. will face a crisis similar to the Great Depression.”

Sobering words, to be sure. However, there is nothing in Mr. Khazin’s interview which is new to anyone who is remotely familar with the concepts of Austrian economics. Readers of this newsletter know that I have frequently cited the words of Ludwig von Mises, the greatest Austrian economist of the 20th Century:

“There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.” Ludwig von Mises, Human Action (1949, p.572).

The reason why our government’s efforts to get us out of the current mess are doomed to failure is very simple. They are going to use “further credit expansion” as a way of trying to avoid a collapse. Like most bureaucrats and politicians, they do not want the crisis to come “sooner as a result of a voluntary abandonment of further credit expansion.” Therefore, they will promote policies which will ensure that we get the crisis “…later as a final and total catastrophe of the currency system involved.”

That “currency system” is the fiat currency system in which the dollar is, at least for now, the reserve currency. For now, we are in a period of dollar strength. For now, but only temporarily, parking one’s cash in dollar-denominated assets makes a certain amount of sense. Over the long haul, owning gold makes the most amount of sense. We are already seeing people around the entire world rush to acquire gold because it, alone, has stood the test of time as the sovereign world currency. Gold is money.

I will leave you with the words of yet another outside observer, General Charles de Gaulle, a man who understood the role of gold as money. He once gave a speech calling for the world to return to a monetary system backed by gold. The mainstream press mocked him for it. However, his words are just as true today as when he uttered them. I predict that history will mock the mockers.

“What the United States owes to foreign countries it pays – at least in part – with Dollars that it can simply issue if it chooses to…This unilateral facility contributes to the gradual disappearance of the idea that the Dollar is an impartial and international trade medium, whereas it is in fact a credit instrument reserved for one state only….[Gold] does not change in nature. [Gold] can be made either into bars, ingots, or coins…has no nationality [and] is considered, in all places and at all times, the immutable and fiduciary value par excellence.”

Charles de Gaulle, February, 1965.

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