The Bubble

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We were out of commission yesterday…partly because we were traveling…and partly because we were sick…partly because we were giving a speech in New Orleans. We begin today with a few thoughts from Addison Wiggin on the Crescent City; a city whose origins stem from one of the greatest financial bubbles of all time:

“At the height of u2018the bubble,’ just when the wheels started to come off, Mississippi John Law came up with a brilliant plan to save his company and the Banque Royale. The year was 1720. Paris, over the previous three years and by virtue of Law’s financial innovations, had become the largest and richest city in Europe.

“Law’s u2018innovation’ was paper money. Apart from a several-hundred-year stretch in China ending in 910, the world had never seen or used paper money. At the outset of The Mississippi Scheme, Law had demanded, on the pain of death, that his banker’s not print more money than could be redeemed in gold from their own reserves. The strict backing of the currency — what was essentially the world’s first gold standard — gave investors of the day such confidence that the currency actually traded at a premium.

“But there was a problem. Law’s bank existed by virtue of a deal with the Regent of France, the Duc d’Orleans. The finances of the government in France following the reign of Louis XIV, his wars and the building of Versailles, were a mess. Seeing how much value was being placed in the new bank notes of the Banque Royale, the Regent set another precedent modern readers will recognize: he decided to print his way out of debt. He suggested Law issue currency up to 80 times what the bank held in redeemable gold reserves. Law, being rather preoccupied with the power and prestige the scheme had bestowed on him, ignored his previous warnings, and let the printing begin.

“The new notes flooded into the market and for a while held the value they had gained with solid gold backing. So many people got rich, the aristocracy of the time coined a new term to describe them: u2018millionaires.’ Stories of commoners making so much money fired the imaginations of thousands and thousands more investors and the frenzy got out of hand.

“New Orleans, the site of this week’s investment conference, was founded at that time, named after the Regent, and meant to become the Paris of the New World — the jumping off point for those who would mine all the gold and silver soon to be discovered in Mississippi (sic).

“When people started getting wind of the fact that there was nothing backing Law’s currency but rumors of future profits to be reaped in the New World, they started losing confidence in the new currency. Law, trying to keep up appearances just a little longer, rounded up all the beggars, bums and thieves in Paris, furnished them with picks and shovels, and marched them through Paris ostensibly on their way to New Orleans…and the mines of Mississippi. The quiet hiss of air leaking out of the bubble accelerated into a screeching u2018whoosh!’ when the same old dirty faces began appearing in the same old dirty doorways and alleys.

“In 1971, our own currency, the almighty dollar, was the last modern currency to be officially removed from the gold standard. Ironically, or not, the move was precipitated by the French government.

“At the time, de Gaulle realized that the United States had built up immense debts to governments around the world. If the United States wanted to pay the debts back, all we had to do was fire up the printing press, and the world was forced to accept our paper in lieu of these debts. De Gaulle thought he’d redeem his paper for gold…a move that was still legal at the time.

“Nixon thought better of it, said no way, and closed the u2018gold window.’ Since that day, no one — not you, or me or the president of France — can redeem his paper money for gold. And the value of the dollar is largely determined by the confidence investors around the world foresee in future success of the U.S. economy.”

u2022 Addison continues: “Word came this morning, too, that the economist Milton Friedman has died. Friedman often addressed the crowd in New Orleans, in person for years, then later via satellite when his health prohibited travel.

“One thing that is not commonly known about Milton Friedman: It was he — not Ben Bernanke — who was the architect of the strategy Bernanke referred to in his now infamous ‘Helicopter Theory’ speech of November 2002. Bernanke suggested at the time that through a recipe of tax cuts and low interest rates the government could simulate the effect of throwing dollars out of a helicopter and into the waiting bosom of the panting American consumer below. Unfortunately, traders around the globe did not react kindly to the comments: the dollar fell nearly 50% against the euro in the ensuing four months.

“With ideas like these, good ones and bad, Friedman revolutionized American economics. In 1961 he and his wife Anna publicized their view of what went wrong in the Great Depression. He believed that had the Federal Reserve acted more quickly slashing interests rates in response to the crash in ’29, the Great Depression could have been avoided altogether. Today, the most famous student and practitioner of this view is Ben Bernanke. It’s no coincidence that Bernanke was ripped from his chair at Princeton and rapidly gained influence at the Fed following the tech wreck of 2000.”

u2022 At an airport bar in Atlanta…

A man bought a sandwich and sat down at the bar to eat it. He was a youngish fellow, who looked like he might be a representative for IBM or something, dressed in a business suit. It was early in the morning…there were just a few people there, spread out among the wooden tables; no one tending the bar itself. Instead, if you wanted a cup of coffee, you had to go to a counter on the other side of the restaurant.

Along came a big man, unshaven and vaguely uncouth in his attire and comportment. He walked behind the bar.

“You can’t sit here,” said he. “You have to move over to one of those tables.”

“Why not? I’m just eating the sandwich that I just bought here.”

“Sorry, you have to move…it’s the law.”

The man moved.

“When did Americans become so docile?” we wondered — so ready to listen to anyone who pushes them around…and calls it the law?

u2022 Later, on the plane to New Orleans…

We noticed a soldier, dressed in desert fatigues, who had just come back from Baghdad. The on-board team found a place in business class and brought him up.

One of the older stewardesses engaged him in conversation.

“How was it over there?”

“Not too bad, but I’m glad to be home.”

“How long were you there?”

“A year…and I’m just coming home for two weeks. It’s my wife’s birthday, so I’m going to surprise her by coming home for Christmas.”

“Wow…what a surprise that will be!”

Then, as the plane was preparing to land came an announcement.

“Ladies and gentlemen, we have with us a young man who has just come from Baghdad. He’s in the army and is coming home for Thanksgiving. His wife doesn’t know he’s coming. He’s been defending his country in Iraq for a year…and I’m sure he’s anxious to get home to his family. So, I’m sure you’ll all want to do this man a favor and let him off the airplane first.”

When the plane landed, the soldier grabbed his kit, almost a bit embarrassed, and made his way to head of the line…and was off the plane as soon as the door opened.

“That’s touching, isn’t it?” said one stewardess to the other. “Surprising his wife like that?”

“Yeah…I only hope his wife is at home when he gets there.”

Bill Bonner [send him mail] is the author, with Addison Wiggin, of Financial Reckoning Day: Surviving the Soft Depression of The 21st Century and Empire of Debt: The Rise Of An Epic Financial Crisis.

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