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More Wisdom from Peter Schiff

Obama Puts the Economic Cart before the Horse

By: Peter Schiff, Euro Pacific Capital, Inc.

-- Posted Friday, 27 February 2009 | Digg This Article | Source: GoldSeek.com

In his first televised speech before Congress, President Obama asserted that prosperity will return once the government restores the flow of credit in the economy. It may come as a surprise to him, but an economy cannot run on consumer loans. Furthermore, credit stopped flowing in the U.S. for a very good reason: there was no more savings left to loan. Government efforts to simply make credit available, without rebuilding productive capacity or increasing savings, are doomed to destroy what's left of our economy.

The central tenets of Obamanomics appear to be that access to credit will enable people to borrow money to buy stuff, the spending will spur production and employment, and thus the economy will grow. It's a neat and simple picture, but it has nothing whatsoever to do with how an economy works. The President does not understand that consumption is made possible by production and that credit is made possible by savings. The size and complexity of modern economies has obscured these simple concepts, but reducing the picture to a small scale can help clear away the fog.

Suppose there is a very small barter-based economy consisting of only three individuals, a butcher, a baker, and a candlestick maker. If the candlestick maker wants bread or steak, he makes candles and trades. The candlestick maker always wants food, but his demand can only be satisfied if he makes candles, without which he goes hungry. The mere fact that he desires bread and steak is meaningless.

Enter the magic wand of credit, which many now assume can take the place of production. Suppose the butcher has managed to produce an excess amount of steak and has more than he needs on a daily basis. Knowing this, the candlestick maker asks to borrow a steak from the butcher to trade to the baker for bread. For this transaction to take place the butcher must first have produced steaks which he did not consume (savings). He then loans his savings to the candlestick maker, who issues the butcher a note promising to repay his debt in candlesticks.

In this instance, it was the butcher's production of steak that enabled the candlestick maker to buy bread, which also had to be produced. The fact that the candlestick maker had access to credit did not increase demand or bolster the economy. In fact, by using credit to buy instead of candles, the economy now has fewer candles, and the butcher now has fewer steaks with which to buy bread himself. What has happened is that through savings, the butcher has loaned his purchasing power, created by his production, to the candlestick maker, who used it to buy bread.

Similarly, the candlestick maker could have offered “IOU candlesticks” directly to the baker. Again, the transaction could only be successful if the baker actually baked bread that he did not consume himself and was therefore able to loan his savings to the candlestick maker. Since he loaned his bread to the candlestick maker, he no longer has that bread himself to trade for steak.

The existence of credit in no way increases aggregate consumption within this community, it merely temporarily alters the way consumption is distributed. The only way for aggregate consumption to increase is for the production of candlesticks, steak, and bread to increase.

One way credit could be used to grow this economy would be for the candlestick maker to borrow bread and steak for sustenance while he improves the productive capacity of his candlestick-making equipment. If successful, he could repay his loans with interest out of his increased production, and all would benefit from greater productivity. In this case the under-consumption of the butcher and baker led to the accumulation of savings, which were then loaned to the candlestick maker to finance capital investments. Had the butcher and baker consumed all their production, no savings would have been accumulated, and no credit would have been available to the candlestick maker, depriving society of the increased productivity that would have followed.

On the other hand, had the candlestick maker merely borrowed bread and steak to sustain himself while taking a vacation from candlestick making, society would gain nothing, and there would be a good chance the candlestick maker would default on the loan. In this case, the extension of consumer credit squanders savings which are now no longer available to finance other capital investments.

What would happen if a natural disaster destroyed all the equipment used to make candlesticks, bread and steak? Confronted with dangerous shortages of food and lighting, Barack Obama would offer to stimulate the economy by handing out pieces of paper called money and guaranteeing loans to whomever wants to consume. What good would the money do? Would these pieces of paper or loans make goods magically appear?

The mere introduction of paper money into this economy only increases the ability of the butcher, baker, and candlestick maker to bid up prices (measured in money, not trade goods) once goods are actually produced again. The only way to restore actual prosperity is to repair the destroyed equipment and start producing again.

The sad truth is that the productive capacity of the American economy is now largely in tatters. Our industrial economy has been replaced by a reliance on health care, financial services and government spending. Introducing freer flowing credit and more printed money into such a system will do nothing except spark inflation. We need to get back to the basics of production. It won't be easy, but it will work.

President Obama would have us believe that we can all spend the day relaxing in a tub while his printing press does all the work for us. The problem comes when you get out of the tub to go to dinner and the only thing on your plate is an IOU for steak.

For a more in depth analysis of our financial problems and the inherent dangers they pose for the U.S. economy and U.S. dollar, read my just released book "The Little Book of Bull Moves in Bear Markets." Click here to order your copy now.

For a look back at how I predicted our current problems read my 2007 bestseller "Crash Proof: How to Profit from the Coming Economic Collapse." Click here to order a copy today.

More importantly, don't wait for reality to set in. Protect your wealth and preserve your purchasing power before it's too late. Discover the best way to buy gold at www.goldyoucanfold.com. Download my free Special Report, "The Powerful Case for Investing in Foreign Securities" at www.researchreportone.com. Subscribe to my free, on-line investment newsletter, "The Global Investor" at http://www.europac.net/newsletter/newsletter.asp.

-- Posted Friday, 27 February 2009 | Digg This Article | Source: GoldSeek.com

- Peter Schiff C.E.O. and Chief Global Strategist
Euro Pacific Capital, Inc.

FDIC Friday - 2 more banks fail

Security Savings Bank of Nevada and Heritage Community Bank of Illinois failed today and were taken over by the FDIC.

http://www.fdic.gov/bank/individual/failed/banklist.html
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Ponzi Scheme in Gold

Moral of the story: Take possession of your gold

This time, a 'golden' opportunity
Commentary: The gold world's Bernie Madoff promised 45% annual returns
By David Weidner, MarketWatch

Last update: 9:38 a.m. EST Feb. 26, 2009

NEW YORK (MarketWatch) -- Gold bugs enjoy a special place here on Wall Street.
They're our bizarre-o twins in the world of investing. When our market is up, theirs is down. We trade securities used to assign a value to companies, industries and commodities. They trade a useless piece of rock that people dig up.

We don't understand one another, so we eye each other warily. Sure, some of us may own a little gold, but we only hold it as a hedge -- or as jewelry. The gold bugs may hold some stock, but their hearts aren't in it. And they can't wear it.

Full Story...

FDIC Friday - Silver Falls Bank fails

Oregon bank is 14th failure of 2009
By MarketWatch
Last update: 9:35 p.m. EST Feb. 20, 2009

SAN FRANCISCO (MarketWatch) -- Silver Falls Bank, of Silverton, Ore., was closed Friday by state regulators and the Federal Deposit Insurance Corporation.

It was the 14th bank to fail so far this year and the 39th since the beginning of the current credit crisis.

Citizens Bank, of Corvallis, Ore. will assume all of the deposits of Silver Falls Bank, the FDIC said. Silver Falls Bank had three branches, all of which will reopen Monday as branches of Citizens Bank.

As of Feb. 9, the bank had total assets of approximately $131.4 million and total deposits of $116.3 million. Citizens Bank did not pay a premium to acquire the deposits of Silver Falls Bank, according to the FDIC.

In addition to acquiring all of the failed banks deposits, including those from brokers, Citizens Bank agreed to purchase approximately $13 million in assets comprised of cash, cash equivalents, securities, overdraft loans, and deposit secured loans. The FDIC will retain any remaining assets for later disposition.

The FDIC estimates that the cost to the Deposit Insurance Fund will be $50 million.

What a tangled web they weave...

I can't blame these investors. They bought these mortgages under certain terms and now the government is changing those terms. Why would anyone want to lend if the government is going to come in and change the terms!?!? No wonder there is a credit crunch! The market must self-correct without government intervention.

True capitalism is based upon the protection of private property and private contracts. When government destroys property rights, capital flees. This is why gold is zooming - it is a vote of "no confidence" and "no trust" in government and it's worthless dollar. If you have an interest in understanding the real cause of the economic crisis I suggest listening to the Austrian Economic Theory audio courses and reading the following two books: An Introduction to Austrian Economics and Understanding the Dollar Crisis.

Mortgage investors may sue on modified loans
However, a bill under consideration on Capitol Hill might take away that right
By Ronald D. Orol, MarketWatch
Last update: 3:39 p.m. EST Feb. 20, 2009

WASHINGTON (MarketWatch) -- The White House plan announced Wednesday to help as many as 9 million homeowners avoid foreclosure was greeted with generally positive reaction by homeowners and mortgage servicers that are responsible for collecting monthly loan payments.
But many private mortgage investors, owners of trillions of dollars worth of mortgage-backed securities considered to be at the center of the financial crisis, are less impressed. Many are preparing to file lawsuits against the banks and other financial institutions that service mortgages.

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And the Dominoes continue to fall...

Latvia's government collapses amid economic crisis
By Polya Lesova, MarketWatch
Last update: 2:27 p.m. EST Feb. 20, 2009

NEW YORK (MarketWatch) -- Latvia's coalition government collapsed Friday, plunging the Baltic country into political turbulence at a time when its economy is mired in a severe crisis and investors are increasingly concerned about the situation in Eastern Europe.

President Valdis Zatlers said he has accepted the resignations of Prime Minister Ivars Godmanis and his administration, according to media reports.

Godmanis said his position had become untenable after his two main coalition partners failed to support him earlier Friday, the BBC reported. The capital Riga was rocked by protests over economic policy in January, and Godmanis subsequently survived a Feb. 3 parliamentary vote of confidence, according to the report.

The government collapse in Latvia comes only weeks after Iceland's government resigned over the devastating crisis that has wrecked the island nation's economy. In Ukraine, the finance minister quit last week over economic policy disagreements with the prime minister.

Full Story...