Wall Street vs. the Middle Class

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Anyone who
thinks that the super-rich, the rich, and the wanna-be rich who
comprise Wall Street are defenders of prosperity in the name of
the middle class is terminally nave. He is confusing Wall Street
with the free market.

The free market
is the great friend of all classes. Through the division of labor
engendered by private ownership, the free market supplies ever-increasing
quantities of goods and services for all classes, but especially
the middle class. People in the lower classes can legitimately hope
to enter the middle class. A few will become rich.

There is a
price for this upward access to greater wealth: the
possibility of a fall into poverty. This is a greater threat to
the rich than to the middle class. The rich are at the far right
edge of the bell-shaped curve. There are few of them. Their position
is insecure, for good reason. The free market rewards those sellers
who serve consumers efficiently, wasting few scarce resources. Consumers
are a fickle bunch. They keep asking sellers, "What have you
done for us lately?" There are always many competitors trying
to get rich. They are ready to replace today’s rich people. Today’s
rich people know this. They are therefore ready and willing to pull
up the ladder that enabled them to replace yesterday’s rich.

The free market’s
ladder of mobility — upward and downward — is based on these
legal principles: open entry of new buyers and new sellers, the
predictable enforcement of contracts, and the absence of government
favoritism of any special-interest group.

These principles
should also govern the monetary system. They have never done so
perfectly, and ever since 1914, hardly at all. Because of the tremendous
profitability of legalized counterfeiting, fractional reserve banking
has always been based on two principles: (1) keeping out new counterfeiters,
who would debase the currency through price competition — mass paper
money inflation — and thereby end the game of wealth-redistribution
from depositors to bankers; (2) the creation of a central bank that
protects today’s commercial banks from bank runs by depositors.

The fractional
reserve banking system is engaged in a war against depositors and
also a war against people on fixed incomes, who are unable to hedge
their assets against monetary depreciation. The depositors get their
pittance, based on the money they deposited. The bankers then multiply
these small deposits through fractional reserve banking and thereby
enjoy income from many interest-paying borrowers.

The threat
to bankers arises when depositors realize that a bank is insolvent
— lent long and borrowed short — and start demanding their money
back in currency. This is the nightmare scenario for bankers. They
do not want depositors to catch on to the obvious: their money is
being used to create multiple loans, meaning multiple new income
streams for banks. They do not want depositors to kill the goose
that lays the fiat money eggs for bankers. How? By pulling out their
money in currency and not redepositing this currency in another
bank. Bankers know what happened to over 6,000 small, federally
unprotected banks, 1929—32, and they never want to see it again.

Enter the Federal
Reserve and the FDIC, semi-private, profit-seeking protectors of
the little guy! And just how is the little guy protected? By the
full faith and credit of the United States government.

When you think
of "full faith and credit," think of the scene in the
first "Superman" movie. Lois Lane has just fallen from
the top of the Daily Planet’s building. Superman flies upward just
in time and grabs her. "Don’t worry, miss. I’ve got you."
To which she replies, "Who’s got you?"

As in the case
of the cosmic elephant, which is standing on the cosmic turtle,
what is the turtle standing on? It’s turtles all the way down.

With the Federal
government and the FDIC, their full faith and credit stand on two
factors: taxation and the Federal Reserve System. What holds up
the Federal government when it can no longer collect enough taxes
from the coalition of the unwilling to pay the bills? The Federal
Reserve’s fiat money. It’s digits all the way down.

FIAT
MONEY AND STOCK MARKET BOOMS

If you follow
the financial news media, you will notice how much attention is
paid to the Federal Funds rate, which is the overnight bank rate.
This is the rate that the Federal Open Market Committee can control
directly. The media reports concentrate on this issue: the expectation
of another rate cut.

Whenever the
FED is raising this rate, the media never warn the public that this
policy could send the U.S. stock markets into a bear market phase.
The words "bear market" are cited only in sentences that
contain the words "little possibility of." But when there
is even the slightest possibility that the FOMC might lower the
FedFunds rate, market commentators get all twiterpated over the
possibility of another upward move of stocks.

This is what
I call the asymmetric nature of the financial press: "upward
rate move = no problem; downward rate move = boom ahead."

Whenever there
is news of slowing employment, the media start talking about the
possibility of the FOMC’s lowering the FedFunds rate: "That’s
good news for the stock market!" Whenever the employment rate
rises, the media start talking about economic growth: "That’s
good news for the stock market."

What is bad
news for the stock market? Officially speaking, nothing.

Why is the
financial press asymmetrical? First, the middle class reads the
financial press and dreams of getting rich. Second, Wall Street
and its large corporations advertise in the financial press, and
therefore shape the content. Financial editors are careful to exercise
self-censorship. Unlike the non-financial press, which flourishes
on bad news — "If it bleeds, it leads" — the financial
press is dependent on the flow of good news: "Buy your piece
of the American dream," not "buy your piece of the American
nightmare."

For evidence,
watch the networks’ evening news shows. The lead stories are bad
news for someone. Local news shows love a fire. National news shows
love a political scandal. The "bad news leads" format
hooks you in the first seven minutes. Then the ads start coming.
After the ads, you will get a financial report. If it’s anything
significant (Dow up or down over 150 points), NBC’s Brian Williams
will interview either the 40-year-old visibly fading woman from
CNBC or the 30-year-old rising CNBC starlet with the premature bags
under her eyes. He never interviews some grizzled survivor of 40
years of popped bubbles and shattered dreams. They assure the viewers
that "time will tell," which means "tune in to CNBC
tomorrow."

The FED dominates
discussion these days. Will it lower rates? Will it let rates sit?
By "rates," the media mean the FedFunds rate.

If the FED
lowers "rates" by waving its magic wand — sorry, scratch
that — if the FED debases the dollar more rapidly than today, the
broad middle class will receive a lower rate of interest in its
bank savings accounts. This is great for banks, which can now borrow
short at a lower rate, such as 3%, while lending money at 10% to
30% to other members of the middle class and the poor, who are addicted
to credit card debt. The spread between borrowed funds and loaned
funds widens. This is the dream of the financial sector.

Why don’t credit
card rates fall? Because consumers who use credit card debt are
not sophisticated. They do not shop for better rates. Even when
they do, they do not read the fine print of the new contract, which
allows the card company to double or triple the introductory rate
if the borrower falls behind on a payment, even a payment to a company
in no way connected to the credit card.

Conclusion:
a free market society enforces contracts. It does not protect those
people who refuse to read their contracts or cannot understand them.

Lesson: if
you don’t understand the fine print, don’t sign the contract, e.g.,
the credit card application.

Lower rates
produce an economic boom. Businessmen borrow from banks to take
advantage of the expected boom. Banks make more money. But if long-term
rates are not higher than short-term rates, banks don’t make much
money. Today, long rates are barely above short rates.

Meanwhile,
large banks are still losing big money in the subprime mortgage
market. The Bank of America and J. P. Morgan Chase are expected
this month to declare a combined $3 billion write-down because of
subprime mortgages. This brings the total to $20 billion at the
world’s largest banks since this summer. This has only just begun.
MarketWatch has just started a Subprime Today e-letter option. They
see a new trend coming, and they plan to take advantage of it!

Wall Street
flourishes when the central bank creates fiat money to buy assets
— any assets — that can legally be monetized. This does not include
furniture or new cars. It does include the debts of furniture companies
and auto companies. It even includes their market-listed shares.

So, when you
hear about the "good news" that the FED is about to lower
rates, it is not good news if you have money in a bank account or
a money market fund.

Wall Street
does not care about the plight of the middle-class lender who deposits
money at 3% in his bank, only to suffer 2% to 3% price inflation,
after paying 20% or more to various governments on the interest
received.

The middle-class
saver is the loser when Wall Street screams its way into the thinking
of the FOMC. Jim Cramer threw a tantrum. The FOMC responded.

The dependence
of Wall Street on a continuing stream of new fiat money is very
high. If this flow of funds were to cease, Wall Street would go
into withdrawal seizures. The various stock markets would plummet.
This cannot be allowed, say Wall Street’s many spokesmen. This would
"harm America." So, the FED is called on to continue the
flow of counterfeit funds, multiplied through the fractional reserve
process.

The losers
are those people who trust the banking system and deposit their
money. The other losers are those who are on fixed incomes or close
to fixity. They pay higher prices for whatever they buy. The resulting
boom on Wall Street comes out of their lifestyles.

When Wall Street
and its media mouthpieces call for another cut in the FedFunds rate
to "keep the American dream alive," they mean the dream
of corporate insiders whose stock option plans are being threatened
by the readjustment in capital values posed by stable money. They
do not mean the broad mass of Americans, whose savings, if any,
pays 3%, which barely equal their credit card debt, which charges
15%.

MOST
AMERICANS WEAR THREE HATS

Most Americans
wear three hats: their thrift hats, their debt hats, and their wage
hats.

Their thrift
hats are today almost an afterthought. Only 56% of American households
actually saved any money in 2004. They don’t have large retirement
funds. The average American, as of 2004, had a net worth of under
$95,000. That was the median figure: half of Americans above, half
below. Of this value, well over 60% was the value of their residences.
Retirement? Living on Social Security? Those in the 50 to 75 age
range had a median net worth of $171,000. But most of this was the
value of their homes. They will have to pay for space somewhere.
In terms of liquid assets to invest and live off the earnings, they
are in very bad shape. For the data, see the report, "Recent
Changes in U.S. Family Finances: Evidence from the 2001 and 2004
Survey of Consumer Finances
," Federal Reserve Bulletin
(Feb. 2006).

Their debt
hats pressure them monthly. They have to pay the bills. They are
hard-pressed to save. They worry about meeting their monthly expenses.
This gets their attention. If they were to lose their jobs for two
months, they would be in trouble. Rising interest rates threaten
them. So they are with Wall Street’s call for the FED to lower rates.

They wear wage
hats. They are far more worried about losing their jobs than they
are about price inflation under 3%. They don’t understand that the
means for lowering rates — monetary expansion — threatens to raise
prices.

These hats
are all present hats. They take precedence over future hats. Retirement
is way off in the distance. They’ll think about it tomorrow.

Or the day
after tomorrow.

So, when the
Wall Street wizards perceive a looming decline in their stock portfolios,
they call for the FED to intervene and save the various stock markets.
The voters like low interest rates, so they don’t complain.

The wizards
get support from the broad masses, who are threatened by the return
of monetary expansion. The wizards have their futures tied to the
stock market and bond market. They are not interested in the plight
of the average American. The fact that price inflation is a threat
to the average American’s way of life is of no concern to the wizards.

CONCLUSION

We see today
a clash between the long-run interests of the middle class and the
short-run interests of those who make their living in the financial
markets. Because the process of economic cause and effect is not
understood by the media, and because it is not understood by the
average American, the wizards of Wall Street get away with their
endless pleas to the Federal Reserve System to lower interest rates.
Nobody in the mainstream media ever asks: "But how can the
FED lower rates, year after year?" The world really does believe
in magic. They believe that the FOMC committee merely has to issue
a press release promising to lower the FedFunds rate and, wonder
of wonders, the rate is lowered cost-free. Nobody asks: "Why
not just reduce it to zero?"

My
sense of the FED today is that it will not lower the FedFunds rate
again at the end of October. In late August, I was sure the FOMC
would lower the rate by half a point on September 18. It did. I
don’t think they are facing equal pressure from Wall Street today.

For the sake
of the U.S. dollar, let us hope I am correct.

October
10, 2007

Gary
North [send him mail]
is the author of Mises
on Money
. Visit http://www.garynorth.com.
He is also the author of a free 19-volume series, An
Economic Commentary on the Bible
.

Gary
North Archives

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