Schiff on Avoiding the Brick Wall
by George F. Smith: Lunch
With Ron Paul
who was famously
ridiculed for calling the crisis of 2008, steps up as a prognosticator
again in his new book, The
Real Crash: Americaís Coming Bankruptcy Ė How to Save Yourself and
Your Country. We had way too much government and cheap credit
leading up to 2008, he says, and even more government and cheap
credit since then, which is why the next crisis will be the real
His book is
divided into two main sections. Part I addresses the problems, while
part II, which is by far the lionís share of his discussion, presents
solutions. In a nutshell, the problem is government, and the solution
is to take an ax to it Ė again and again. Since this view is currently
unacceptable to policymakers and the public at large, we can only
hope reality will win out before calamity hits.
Crash is encyclopedic in its coverage and highly readable in
its presentation. Is there a government agency that truly serves
the interests of all Americans? He finds few. What about services
people actually want, such as K-12 education: Could they be done
better at the state or local levels? Or better still by the free
market? In most cases the answer is a profound "Yes!"
stem from a love of bubbles and the flawed economic theory that
Greenspanís reign at the federal reserve we had a savings and loan
bubble, followed by a tech bubble, followed by a housing bubble.
Now with Ben Bernanke at the Fed, we have a government bubble, meaning
the Fed is creating money that the banks are then lending to the
Treasury to expand government. "If you keep replacing one bubble
with another, you eventually run out of suds. The government bubble
is the final bubble."
When the dot-com
and housing bubbles burst we at least had something to show for
them Ė "a few good Internet companies and some pretty nice
McMansions, [but] no such benefits will remain when the government
The Fed, Schiff
says, should let interest rates rise so people can start saving
again. The Fedís low rates discourage savings, which are
the key to
economic growth, as it finances capital investment, which leads
to job creation and increased output of goods and services. A
society that does not save cannot grow. It can fake it for a while,
living off foreign savings and a printing press, but such "growth"
is unsustainable Ė as we are only now in the process of finding
But for politicians
and central bankers, rising interest rates are an abomination. The
cost to service the national debt would go through the roof, while
the economic contraction that would likely result would raise the
deficit. The federal government would have to spend less, and many
of the countryís biggest companies depend on government spending,
through contracting, subsidies, or consumption.
rates and the terrible pain it would cause is the good news; the
bad news, if the Fed continues to hold rates low, is the economy
will eventually go into hyperinflation. "Rising interest rates
will be productive pain Ė like medicine," he writes, "while
hyperinflation will be destructive pain." If we stay the course
and pretend everything will somehow work out, we could be facing
a crisis worse than the Great Depression.
on the Great Depression
of course, is well-known as an "expert" on the Great Depression,
and many people are betting the farm that he and his Keynesian staff
have the skills to steer us back to sunny beaches and bikinis. Bernankeís
approach is to keep asset values from falling by any and all means.
One of the reasons the depression of the 1930s became great, he
believes, is because the Fed allowed the money supply to fall following
the Crash. With less money in the economy, prices nosedived. People
didnít consume as much, consequently businesses didnít profit as
much, therefore employees got fired, and the economy headed south
in a self-perpetuating spiral.
deflation can be highly destructive to a modern economy and should
be strongly resisted," Bernanke said in a 2002 speech
that inspired his nickname. And by deflation, he means "falling
whatís wrong with this analysis.
100 years prior to the 1929 Crash, bank deposits actually gained
value each year. In other words, we had a century of deflation,
that much-feared condition that Bernanke has vowed to avoid at all
mid-1921 to mid-1929, the Fed increased the money supply by 55 percent,
giving rise to a real estate and stock bubble. Most
but not all economists missed the bubble and its inevitable
consequences because rising productivity kept consumer prices fairly
stable. Even as stock prices were falling only days before the Crash,
Irving Fisher said stocks had reached a "permanently high plateau,"
and he expected to see "the stock market a good deal higher
than it is today within a few months." In 1928, Ludwig von
Mises had published a full critique of Fisherís monetary theory,
claiming that Fisherís reliance on price indexes would bring about
the Great Depression. Nonetheless, Fisherís stable price theory
carried the day, and when the sky fell the Fed, along with Hoover,
"did something," as Schiff explains:
Fed actually boosted the money supply by 10 percent in the two
weeks following the 1929 crash. Repeatedly throughout Hooverís
term, the Fed created more money. But the money supply fell because
people began hoarding cash, and banks stopped lending out their
went down by 30 percent, but most of that was due to people pulling
their money out.
words, the money supply shrank despite the Fedís interventions,
not because of its inactions.
Did a falling
money supply promote massive unemployment?
Not by itself.
Hoover insisted on keeping wages high, and during his re-election
bid in 1932 boasted that the wages of U.S. workers were "now
the highest real wages in the world." They probably were, and
by not allowing wages to fall along with other prices, unemployment
simply allowed the free market to function, the recovery would
have been so strong that he likely would have been elected to
a second term, and Teddy would have been the last Roosevelt to
occupy the White House. Instead he handed the Keynesian baton
to Franklin Delano Roosevelt . . .
None of this,
as we know, is even close to the standard view of the Depression.
Instead, weíre told
needs to play a bigger role in battling downturns, and the Fed
needs to pump in cash to jump-start the economy. This bad lesson
stays with us today, and beginning in the early 1990s, this way
of thinking started the cycle of bubbles that put us where we
Keep the Fed
The one puzzling
part of Peter Schiffís masterpiece is his view that the federal
reserve, as originally conceived, was a good idea. He describes
the Fed as "reckless," the "biggest culprit in discouraging
savings," and insists "we never should have trusted the
Fed to respect its boundaries." But he also says:
intention of the Fed was something I might have supported had
I been around back then. In theory, it was an agent of stability
that could also promote economic growth. . . .
The Fed would
increase the money supply as the economy expanded, and then reduce
the money supply as the economy contracted. . . .
the Fed was a good idea. Itís just that in practice it did not
work, because politicians quickly abused it.
He argues that
before 1913, banks were issuing their own currencies backed "by
assets, such as gold, and by the banksí loan portfolios." If
"you traveled to California, your bank note from Connecticut
might not be honored by other merchants or the California banks."
Thus, he concludes,
it was natural "for bankers to hatch an idea of a "banksí
bank. Banks could deposit some of their assets Ė commercial paper
or gold Ė with the Fed, and the Fed in return would issue its own
bank notes to the individual bank."
may sound plausible, questions arise as to (1) why the "banksí
bank" needed "guns and badges" (i.e., government
cartelization) to make it work; (2) why loan portfolios or commercial
paper can be assumed to be an acceptable substitute for gold coin;
(3) why a central bank is needed to expand and contract the money
supply Ė in other words, why assume the supply/demand relation of
the free market fails when the good in question is commodity money;
(4) why the historical record of central banks acting as an agent
of stability and sustainable economic growth is short on examples;
and (5) why did the Fed, at its creation, possess
a massive inflationary structure if it was sold as a means to
I believe central
banking, by its nature, is a means of institutionalizing, centralizing,
and cartelizing moral hazard. It is my view that the Fed was never
a good idea, but one of the absolute worst ever brought to fruition.
notwithstanding, his critique of the Fed as it currently exists
is emphatically on the money. Though he doesnít support its abolition
he does say, "In an ideal world, there would be no Fed, and
I think the nation would be better off if the Fed had never been
How we can
his book donít have to be swept up in the impending disaster. Unlike
the crash of 2008 when investors flocked to the dollar as a safe
haven, he believes the dollar and U.S. bonds will collapse before
the U.S. economy goes under. He devotes a chapter to crisis investing
based on the observation that since Americans have been living beyond
their means, many others have been living beneath their means.
in the world there are more creditors than debtors, and there
is pent-up demand and excess production. In the future, these
economies will see a surge in demand, while ours will see demand
fall. . . .
purchasing power is shifting. You should try to invest in companies
that will benefit from this shift. These will primarily be foreign
companies. Of course, many foreign companies sell to the United
States. These arenít the businesses Iím talking about.
his investment strategy as
a stool with
three solid legs: (1) quality dividend-paying foreign stocks in
the right sectors; (2) liquidity, and less volatile investments,
such as cash and foreign bonds; and (3) gold and gold mining stocks.
interest to this reader was his section on the poor manís investment
strategy. If consumer prices head for the moon the government will
likely impose price controls, thereby creating shortages. Solution:
buy in bulk now and stock up. One advantage is that
are tax free. For example, if you buy a box of cornflakes today
and eat it two years from now when the price of a new box is 40
percent higher, thatís a 40 percent tax-free return.
is full of fresh and sometimes bold insights on long-standing issues.
Readers will find his discussions on drug prohibition, marriage,
abortion, guns, health care, and prostitution especially engaging,
I believe. His detailed historical and legal discussion of the income
tax is the best Iíve ever read, nor does he pull punches in describing
to imagine a tax more destructive of productivity, more destructive
of entrepreneurship, more destructive of our lives, more difficult
and costly to comply with, more subject to gaming, or more absurd
in its logical consequences. Congress should immediately, fully,
and permanently abolish the income tax, and the Internal Revenue
Service (IRS) along with it.
He would replace
the tax with a revenue-raising tariff on imports.
suck. But they suck less than income tax. In fact, they might
be preferable to a national sales tax.
has written a riveting guide on what to do about our snowballing
social, financial, and economic problems. Inasmuch as he recommends
freeing people from government, his solutions are far from pain-free
and consequently will not be popular with the political class or
their dependents. Well, itís time they got over it. As Schiff writes
in his introduction, itís as if weíre headed down an icy hill with
politicians in the driverís seat accelerating toward the bottom.
We need a
grown-up to grab the wheel and steer us into the ditch on the
side of the road. That wonít be pretty, but itís better to go
into the ditch at 80 miles an hour than crash into a brick wall
at the bottom of the hill at 120.
Crash is a must-read.
with permission from Barbarous
June 9, 2012
F. Smith [send him mail] is
the author of The
Jolly Roger Dollar: An Introduction to Monetary Piracy, Eyes
of Fire: Thomas Paine and the American Revolution, and
Flight of the Barbarous Relic, a novel about a renegade Fed
chairman. Visit his website
and his blog.
© 2012 George F. Smith