Wednesday, December 7, 2011

Euro Crisis

 When you see that in order to produce, you need to obtain permission from men who produce nothing; when you see that money is flowing to those who deal not in goods, but in favors; when you see that men get rich more easily by graft than by work, and your laws no longer protect you against them, but protect them against may know that your society is doomed. - Ayn Rand

Two and a half years ago I told you that contrary to the Democrats exculpatory fantasy that predatory lending ((laughable) and greedy investment bankers were responsible for the financial crisis (they amounted to little more than a footnote so far as the real cause goes), Fannie Mae and Freddie Mac and their political overlords were the real culprits. Now we have a European sovereign debt problem, and the same forces that destroyed our banking are responsible here. For those of you who don't understand what the crisis in Europe is about and why it occurred I will give you a brief explanation.

The first reason is that countries simply spent and borrowed so much money that their debt grew to the point where it exceeded their ability to repay. Still, the first question is even if they defaulted on this debt, what would it be so catastrophic? Other countries defaulted (Argentina) and within a few years bounced back to become vibrant again. Why is Europe different?

Secondly, who is owed the money, and how did they allow these nations to go this far. Japan has a debt problem, and in their case they promoted lending to the government in such a way that most of the money came from domestic savings. That means the people were duped. The United States has a serious problem, but the dollar is a reserve currency (used in many international transactions) which allows a certain flexibility, and the economy is so large that countries doing business with the US (China) have a vested interest in keeping the dollar strong and keeping us solvent, which they have done by lending massive amounts of money to us. We too are on an unsustainable course, but the imminent economic tsunami is farther down the road than Europe.

Europe is in real trouble, and now. If they default on their debt they will bankrupt most of their banks. It is those banks who loaned the governments staggering amounts of the money (Ireland being the exception where the government foolishly kept insolvent banks afloat by borrowing money to "invest" in them.) Why? Didn't anyone recognize the risk the borrowers/ governments presented? Well, here is how one part of the scam worked. The governments passed laws dictating how much in reserves a bank must hold requiring different reserve amounts on different types of loans. Business loans needed a 6% reserve, mortgages needed 4%, and sovereign debt, well that required zero reserves. So for each dollar of depositor money a bank loaned to a business, it needed 6 cents of its own in equity, but a dollar loaned to Portugal, Greece or any European sovereign required nothing. Guess what happened. The banks loaned as much as they could to the various countries. Now, if the governments default, the banks will fail and the institutions and people who funded them will lose massive amounts of money, not to mention the failure of the banking infrastructure needed to conduct normal business transactions. It will be a colossal mess.

Imagine a world where the government simply adjudicated disputes, monitored businesses for truthfulness,  made sure they had the reserves they claimed, earned the amount of money they reported, and generally conducted business in a forthright manner. Depositors would be able to make their own choices. A bank with large reserves would be able to borrow cheaper than a less well endowed institution. If the public were allowed to make informed choices, it wouldn't eliminate bubbles and collapses, but there would be fewer and less severe ones. Instead we have a system controlled by bureaucrats and politicians, and it should come as no surprise that they manipulate things for their own personal gain without regard to the rest of us.

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