Power & Market
The Fed Fights COVID Largesse
While hope springs eternal that bank run troubles and tightening bank credit will make Jerome Powell and company come to their senses and stop the rate hike madness, there is a not so tiny problem the Fed knows and the average Joe and Jane doesn’t. Former Dallas Fed President Robert Kaplan was interviewed by Praxis Financial Publishing and said the inflation fight is being undercut by expansive fiscal policy.
While we’ve all moved on from COVID, the government’s COVID largesse has a long tail. Kaplan’s been talking to mayors from around the country and they tell him “American Rescue Act (ARPA) money must be spent by states and municipalities between now and the end of 2024 or it’s lost. If you live in Las Vegas and wonder why seemingly every street in town is a cone labyrinth with construction to break out any minute, that’s the reason, use it or lose it. Government never likes to lose it when spending it helps one or more of its constituents.
So the Fed is trying to cool demand for goods, services, and labor at the very same time local spending is increasing the demand for goods, services, and labor. Kaplan added, “Also, certain portions of the infrastructure bill and Inflation Reduction Act funds are earmarked for projects that are increasing demand for labor.”
With all of this fiscal spending, as well as higher interest rates, the Congressional Budget Office expects the federal government to run a deficit of almost $2 trillion dollars in fiscal 2024, nearly 10 percent of GDP. As every Keynesian knows, running a deficit of this size now is stimulative to the economy, again, at a time when the Fed is trying to cool the economy.
No wonder the Federal Reserve Bank of St. Louis President James Bullard said he is backing two more rate increases. Even the dovish Neel Kashkari said if the Fed does pause, it should signal tightening isn’t over, reports Bloomberg.
After the personal consumption expenditures price index, the Fed’s preferred inflation gauge, rose a faster-than-expected 0.4% in April, Cleveland Fed President Loretta Mester told CNBC, “When I look at the data and I look at what’s happening with inflation numbers, I do think we’re going to have to tighten a bit more.”
She said, “Everything is on the table in June.”
Everything but market price discovery.
The World According to a Fed Governor
On Wednesday, Federal Reserve Governor Philip N. Jefferson offered insights on the economy and the role of the Fed. The irony is evident as we find that those entrusted with overseeing the economy appear to be continuously involved in a journey of self-discovery, yet their understanding often lacks any connection to the real-world economy.
He begins with an overview of the Federal Reserve's approach to financial stability:
A stable financial system is resilient even in the face of sharp downturns or stress events. It provides households and businesses with the financing they need to participate and thrive in a well-functioning economy. It is difficult to anticipate or prevent shocks, but sound policies can mitigate their impact.
Therefore:
At the Federal Reserve, we work hard to make sure that an initial shock in one area of the financial system does not spill over to other markets or institutions and cause severe or widespread strains.
According to the Fed, when there are “sharp downturns or stress events” in the financial system, it is expected that a central bank will intervene to address and resolve the issues. However, what caused these events in the first place is often left unexplored, and there seems to be a reluctance to even consider the possibility that the Fed itself could be a contributing factor to such occurrences.
It is unlikely that the Fed would openly acknowledge itself as the cause of a financial crisis, as doing so would reveal a truth that those in positions of power would prefer to conceal from the public.
And so, we are often presented with red herrings like the narrative of corporate greed or inept bankers, even if only subtly implied, as the Governor illustrates.
The Federal Reserve, using existing regulatory and supervisory tools, is working to ensure that banks improve and update their liquidity, commercial real estate, and interest rate risk-management practices.
These distractions divert our attention from the underlying systemic issues as they put the fault in poor practices by banks, rather than the market distortions caused by the Fed.
The Governor offered little in the way of explanation for the deceleration in the pace of rate hikes, even in the face of ongoing high levels of (monetary) inflation.
Since late last year, the Federal Open Market Committee has slowed the pace of rate hikes as we have approached a stance of monetary policy that will be sufficiently restrictive to return inflation to 2 percent over time.
Despite the Core Personal Consumption Expenditure reaching 4.7% over the course of a year, as reported by CNBC, it’s perplexing that a more aggressive approach to raise rates until the 2% target is achieved hasn’t been implemented. Instead, there is a growing sense that a rate pause, or cut is on the horizon.
Perhaps this is why he reiterated:
A decision to hold our policy rate constant at a coming meeting should not be interpreted to mean that we have reached the peak rate for this cycle.
This follows the idea of not believing anything until it has been officially denied. However, it is important to recognize that the statements made by the Fed Governors often serve as a form of damage control, quasi-economic propaganda, or a means to alleviate the press burden on Chair Powell. With the upcoming June 14 meeting just two weeks away and the current probability of no rate hike standing at 62% according to the CME FedWatch Tool, it remains to be seen whether the Fed has finally abandoned its pursuit of raising rates to “fight inflation.”
The Most Important Factor in The Economy Is Flashing A Huge Warning Sign
Since money is used in all transactions, including investments in physical goods and financial instruments, the supply of money is extremely important to the economy and financial markets.
Accelerating money supply growth typically leads to stronger economic activity and higher prices, while decelerating money supply growth (or decline) typically leads to weaker economic activity and lower prices.
However, the impact of changes in the money supply are always temporary. For example, if accelerating money supply growth always leads to a “stronger economy”, then why not always accelerate money supply growth? The short answer is because there is no such thing as a free lunch in economics.
As Ludwig von Mises, one of the greatest economists and monetary theorists in history noted about the mythical economic benefits of creating money out of thin air:
“If it were really possible to substitute credit expansion (cheap money) for the accumulation of capital goods by saving, there would not be any poverty in the world.”
And not only does creating money out of thin air not improve living standards, but it actually lowers living standards. This is because it causes the boom and bust business cycle, which wastes scarce resources that were used in failed investment projects undertaken due to artificially low interest rates.
Mises developed this Austrian Business Cycle Theory. As he summarized the problem caused by money creation out of thin air:
“The wavelike movement effecting the economic system, the recurrence of periods of boom which are followed by periods of depression is the unavoidable outcome of the attempts, repeated again and again, to lower the gross market rate of interest by means of credit expansion.”
Money Supply Is Now Falling Rapidly
As a result of the huge rise in interest rates over the past year or so, money supply growth is now falling at one of the fastest rates in history.
The best measure of money, called Austrian Money Supply (“AMS”), was down 9.7% year-over-year in March, the largest decline in over 35 years of available data, as shown below.
The next chart shows M2 money supply is down 4.1% year-over-year, the largest decline since the Great Depression, when M2 fell over 10%. Let me repeat that. M2 money supply is falling at the fastest rate since the GREAT DEPRESSION of the 1930s!
Source: thechartstore.com
With short-term interest rates on Treasury bills and money market funds now much higher than on bank deposits, many people have been pulling their money out of banks and investing it in Treasury bills and money market funds. As a result, bank deposits are now falling 5.4% year-over-year, the fastest decline in nearly five decades, as shown below.
In order to protect their balance sheets and limit their risk in the face of declining deposits and a coming recession, banks have cut way back on lending. The result is bank credit is now only growing 2.3%, the slowest pace in nearly 50 years, outside of the Great Recession, as shown below.
Implications Of Falling Money Supply
Money supply growth is the primary driver of the boom-and-bust business cycle and financial markets. With money supply now declining at one of the fastest rates since the Great Depression and the yield curve the most inverted in over 40 years following the steepest pace of Fed tightening since the early 1980s recessions, I believe there is an extremely high risk of a major recession coming this year, if it hasn’t already started. Forewarned is forearmed.
The Biden Administration Keeps Lying about US Government Defaults
If you have an actual life and important things to do, you probably haven't been paying attention to the latest debt-ceiling theater now going on in Congress. Congress is indeed at it again, however, and the leadership from the GOP and the Democrats are fighting over how federal tax dollars will be spent over the next year. Until an agreement is reached, the GOP leadership is refusing to sign off on any increase to the debt ceiling which permits the federal government to add to its 30-trillion-plus debt and keep the federal government humming using its usual debt-financed tricks.
In an effort to get the debt-ceiling increase sailing through without any opposition, the Biden administration in recent years has repeatedly claimed that the United States government has never ever defaulted. Janet Yellen has made this claim several times. For example, in a 2021 column for the Wall Street Journal, she repeatedly claims the US has never defaulted. “The US has always paid its bills on time,” she insists, and then repeats the claim in the next paragraph: “The US has never defaulted. Not once.”
Biden's handlers are still at it. On Tuesday, the Biden administration tweeted that
America is not a deadbeat nation. ... We have never, ever failed to pay our debt. But MAGA Republicans are engaged in reckless hostage-taking by threatening to force America into default. It’s dangerous and wrong
America is not a deadbeat nation.
— Joe Biden (@JoeBiden) May 3, 2023
We have never, ever failed to pay our debt. But MAGA Republicans are engaged in reckless hostage-taking by threatening to force America into default. It’s dangerous and wrong.
This is a lie, whether Yellen says it or Biden says it. Here at mises.org, we've published several articles on this topic. Here are two of them:
- Link: A Short History of US Credit Defaults by John S. Chamberlain (July 2011)
- link: Yes, the US Government Has Defaulted Before by Ryan McMaken (February 2023)
These articles outline how the US government in the early years of the new federal government, and then again during the US Civil War, when the government refused to make good on its promises to repay its notes in gold. Further defaults followed, with the largest being the 1934 default on liberty bonds. The US had explicitly promised to pay back its debts in gold. It then refused to do so. Fortunately, the word is getting out. Shortly after the Biden administration posted its tweet lying about US defaults, Twitter users used the "community notes" feature to add additional context to the post.
As you can see, the added context contains a link to Chamberlain's article: This has produced tens of thousands of visitors to the article.
Moreover, another one of the articles posted is written by our own Senior Fellow Alex Pollock, and published in The Hill. Pollock adds two additional defaults: the time the US refused to make good on its silver certificates in 1968, and when Nixon closed the gold window in 1971, refusing to make good on its gold obligations under the Bretton Woods agreement.
These are all excellent examples of how the US cheats its creditors, and it's time for agents of the regime to stop pretending that the US government is not a "deadbeat" government.
The Fed's Difficult Position Is Its Own Fault
Fed officials are meeting today to discuss the central bank’s next course of action amidst bank failures and persistent inflation. The financial press is busy pumping out articles lamenting the tough position Fed officials find themselves in as they debate another rate hike. That’s true, it is a tough position. But the blame for that lies squarely on the Fed’s own shoulders.
This often goes unsaid because the way people think about central banking is wrong. Most seem to imagine the national economy as a hot air balloon trying to get from point A to point B. The Fed is like the pilot whose job is to keep the balloon stable and at a safe altitude. When conditions demand it, the pilot can either blow hot air into the balloon (monetary expansion) or vent the hot air out (monetary contraction) to increase or decrease buoyancy. If the Fed does its job well, the economy would be guided gently along with occasional monetary interventions to account for economic fluctuations—just as the balloon pilot gently corrects for changing atmospheric conditions.
The quest for a “soft landing” makes sense in this view. The “balloon” climbed too high (inflation), and venting hot air (rate hikes) has yet to bring the balloon back down to the target altitude (2% inflation). But continuing to vent air risks sending the balloon into an unrecoverable descent to the ground (recession). The analogy seems to work well because we’re inundated with central bank discourse that uses this framing. But the framing is wrong. The Fed is not a gentle guide keeping the economy stable; it’s the culprit behind the inflation and imminent recession we’re now forced to deal with.
Recessions don’t come out of the blue. They have a cause—malinvestment encouraged by central bank credit expansion. Artificially low interest rates send a false signal to investors and producers to start, or continue, producing things that either customers don’t actually want—at least not in the quantity now being produced—and/or are unable to be completed with available resources. At some point, often when rates come back up, the precarious nature of these production lines becomes impossible to ignore, and a painful period of correction takes place. That’s a recession.
So we can see the problem with the typical framing of the Fed’s situation. Besides falsely identifying the Fed as an essential part of the economy, it presents a recession as possible to avoid. Not only is it impossible to avoid, it was the Fed who caused it. They may still have room to delay the correction, but the malinvestment that needs correcting is already here.
A better analogy than the hot air balloon would be a false shortcut. Imagine you’re running on a trail in the woods. Say it’s the second half of a trail marathon. You’re exhausted and desperate to get to the finish line when you round a corner and see a steep hill up ahead that seems to go up forever. You stop, devastated. You don’t feel like you have the energy to get to the top, much less all the way to the finish. Then out pops a Race Official. He says he can tell you’re exhausted and points excitedly to a small trail to the left of the hill. He explains that it’s a shortcut that avoids the hill. You don’t believe him. A shortcut? In a race? That can’t be allowed. But he insists. He is an official, after all. This shortcut isn’t just allowed, he says, it’s encouraged.
He’s persistent, and eventually, you’re convinced. You start down the trail and immediately feel much better. It’s shady and has a slight downhill. Your pace increases, you stand taller, and you feel more energized. But above all, you feel grateful that the Race Official happened to find you at the base of that hill. However, what you don’t know yet but will eventually figure out is that you were fooled. There is no shortcut. You’re running off course. Every step you take brings you further and further from your goal. At some point, you will need to recognize this, turn around, and run all the way back up to the base of the first big hill you were misled into thinking you could skip. And because you’re now running downhill and every mile you run not only doesn’t count towards your race but will need to be re-run just to get back to where you initially went off course, correcting your mistake will be extremely painful. But it’s necessary. And the longer you refuse to face that, the worse the eventual correction will be.
Now imagine you realize your mistake. You turn around and start your painful climb back up to the trail when, again, out jumps the Race Official. He reassures you that you’re on the right path and should continue down this trail. The climb is painful, so you’re inclined to believe him. You keep on down the trail, occasionally turning around when your doubts return, only to have the Race Official again usher you back down his false shortcut.
By now, I hope it’s obvious what this analogy represents. The hill is the economic pain made inevitable by the lockdowns in 2020 and 2021. The Race Official is the Fed, and the false shortcut is the artificial boom and malinvestment caused by the $7 trillion created out of thin air and injected into the credit markets. I hope it’s also clear that the worst thing you, as the runner, could do would be to continue seeing the Race Official as a helpful guide. Correcting for malinvestment is always painful. But ignoring or aggravating it is worse.
We’re running off course. Don’t have pity for the people who got us here. And certainly don’t look to them to get us out.
The Path to Profitability
One of the problems we’re forced to confront when considering the role of the Federal Reserve is whether it’s better for the Fed to take losses and capitalize them as deferred assets, or go back to an era of “Fed profitability” whereby the Fed remitted money to the Treasury on a weekly basis.
The path to profitability is an easy one, consider: Last year the central bank earned $170 billion in interest revenue (paid by government and mortgage holders), then expensed $102 billion to banks, literally 60% of the Fed’s revenue.
What would happen if the Fed simply stopped paying interest to banks?
The chart below shows Reserves held at the Fed since 1959:
The reserves balance held at the Fed didn’t fluctuate for decades and then suddenly banks started keeping a lot more money at the Fed. By 2009 over $1 trillion was held there, and in 2021 over $4 trillion.
This October 6, 2008 announcement solves the mystery:
The Federal Reserve Board on Monday announced that it will begin to pay interest on depository institutions' required and excess reserve balances.
Required and excess reserve balances no longer exist, they’ve been combined into reserve balances, and so, as the Fed’s FAQ shares:
The Federal Reserve Banks pay interest on reserve balances.
Currently at a generous 4.9%.
The interest rate on the Fed’s US Treasuries held are not disclosed in its financial statements, but the interest rate on its nearly $3 trillion Mortgage-Backed Securities is:
Nearly $2 trillion earns the Fed 1.5% to 2.5%, whereas the Fed pays 4.9% on the $3 trillion that banks hold on reserve. And so, it’s probably time to consider putting an end to this nearly two-decade long experiment of transferring wealth from the poor and middle class to the rich and powerful.
The correct answer is that the Fed should be abolished, but this will not happen anytime soon. Realistically, they could revert to the pre-2008 policy and pay no interest, or because too many people won’t like that, then at least lower the rate paid to banks to something smaller, like 1, 2, or 2.5%. It’s all arbitrary, but anything less than 4.9% would be an improvement.
One might fear that in doing so, this $3 trillion reserve would leave the Fed and go back to the banks; however, this is fine as the world functioned a lot longer in the former way rather than the latter.
Also consider how ideas like liquidity crisis, lending crisis, or credit crunch, have been mentioned since the banking crisis of 2007-09. Lending programs like the Paycheck Protection Program, and all the other bank assistance schemes, appear more suspect when we remind ourselves that the banks had trillions of dollars earning interest at the Fed this entire time. Given that we’re living at a time when the risk of bank-runs have become a real threat, it’s almost comical to think banks would lend “too much,” or wouldn’t benefit by increasing their own reserve amounts, so claims to the contrary seem unfounded.
In a truly free market, a bank would have the ability to either lend money or keep it on reserve as there would be no central bank to offer a third choice. A Fed that does not pay interest on reserves would bring us a step closer to such a market.
It doesn’t bode well that stopping interest payment on reserves or at least reducing the 4.9% rate is not being considered as a viable solution. The fact that the Fed has the power to enact this change, literally tomorrow, but continues not to, speaks volumes. Hopefully there’s another way, but if not, the conclusion is clear: If the Fed refuses to cut expenses by reducing interest paid to banks, then the only way for the Fed to make more money is for the Fed to “make more money.”
Three Congressmen Introduce Gold Standard Bill to Stabilize the Dollar's Value
As America faces the twin threats of inflation and bank failures, three U.S. congressmen introduced a pivotal sound money bill that would enable the Federal Reserve note “dollar” to regain stable footing for the first time in more than half a century.
Rep. Alex Mooney (R-WV) - joined by Reps. Andy Biggs (R-AZ) and Paul Gosar (R-AZ) - introduced H.R. 2435, the “Gold Standard Restoration Act,” to facilitate the repegging of the volatile Federal Reserve note to a fixed weight of gold bullion.
Upon passage of H.R. 2435, the U.S. Treasury and the Federal Reserve are given 24 months to publicly disclose all gold holdings and gold transactions, after which time the Federal Reserve note “dollar” would be formally repegged to a fixed weight of gold at its then-market price.
Federal Reserve notes would become fully redeemable for and exchangeable with gold at the new price, with the U.S. Treasury and its gold reserves backstopping Federal Reserve Banks as guarantor.
Monetary experts have noted a return to a gold standard would substantially curtail the economic damage caused by inflation, runaway federal debt, and monetary system instability.
“A gold standard would protect against Washington's irresponsible spending habits and the creation of money out of thin air," said Rep. Mooney in a statement.
"Prices would be shaped by economics rather than the instincts of bureaucrats. No longer would American families, businesses, and the economy as a whole be at the mercy of the Federal Reserve and reckless Washington spenders.”
The Gold Standard Restoration Act also makes several findings as to the harm the Federal Reserve System has inflicted on everyday Americans - particularly since President Richard Nixon “temporarily suspended” gold backing of America's monetary system in 1971.
H.R. 2435 points out: “The Federal Reserve note has lost more than 40 percent of its purchasing power since 2000, and 97 percent of its purchasing power since the passage of the Federal Reserve Act in 1913.”
Historians have observed that the elimination of gold redeemability from the monetary system freed central bankers and federal government officials from accountability when they expand the money supply, fund government deficits though trillion-dollar bond purchases, or otherwise manipulate the economy.
“At times, including 2021 and 2022, Federal Reserve actions helped create inflation rates of 8 percent or higher, increasing the cost of living for many Americans to untenable levels…enrich[ing] the owners of financial assets while… endanger[ing] the jobs, wages, and savings of blue-collar workers,” H.R. 2435 states.
Notably, Rep. Mooney's bill would also require full disclosure of all central bank and U.S. government gold holdings and gold-related financial transactions over the last 6 decades - a seemingly taboo subject surrounded by mystery and deception.
“To enable the market and market participants to arrive at the fixed Federal Reserve note dollar-gold parity in an orderly fashion... the Secretary and the Federal Reserve shall each make publicly available… all holdings of gold, with a report of any purchases, sales, swaps, leases, and any other financial transactions involving gold, since the temporary suspension in August 15th, 1971, of gold redeemability obligations under the Bretton Woods Agreement of 1944.”
In the years leading up to Nixon's panicked “temporary suspension” of gold redeemability, abusive U.S. deficit spending and currency debasement had prompted many foreign central banks to turn in their Federal Reserve notes for gold.
However, this disgorgement of America's gold holdings was largely conducted in secret.
That's why H.R. 2435 also requires the Fed and the Treasury to disclose “all records pertaining to redemptions and transfers of United States gold in the 10 years preceding the temporary suspension in August 15, 1971, of gold redeemability obligations.”
U.S. sound money groups and industry leaders are cheering Mooney's actions.
"Government cannot continue to spend and print on a massive scale without producing existential threats to the currency and our economy," said Lawrence W. Reed, president emeritus of the Foundation for Economic Education.
"The gold standard never failed America, bad ideas and bad politicians did. If we do nothing, disaster awaits us just as it drowned earlier civilizations that spent and inflated their way to ruin," Reed continued.
“Today's debt-based fiat-money system serves primarily to support big government and wealthy financial insiders - while the Federal Reserve's serial policy of currency debasement punishes savers and wage earners,” explained Stefan Gleason, President of the Sound Money Defense League and Money Metals Exchange.
“A return to gold redeemability would arrest the problem of inflation, restrain the growth of wasteful and inefficient government, and kick off an exciting new era of American prosperity,” Gleason concluded.
The full text of Rep. Mooney's gold standard bill can be found here. It was introduced on March 30, 2023, and referred to the House Committee on Financial Services.
The Federal Rorschach
Look at this chart. What do you see?
Now this chart?
And this chart, what type of thoughts come to mind?
The above images show the same thing, the Fed’s balance sheet, the only difference is the time frame (from 2007, 2018, and 2022 until today). Looking at the charts, I see inflation in its historical definition, being the expansion in the supply of money and credit; I also see one of the world’s largest accounts receivable balances, which is unlikely to ever get fully paid off; I see money creation, counterfeiting, and currency debasement.
The balance sheet fully displays the record of the Fed’s monetary injections. For those who can recall, this is typically followed by financial ruin. It is through understanding the nature of central banking and the ebbs and flows of the balance sheet, where one can make a fair prediction as to what the future has in store.
Even if central bankers were moved by altruistic views, the mere fact they possess the ability to determine the national interest rate and manage the money supply makes them superfluous. Therefore, by taking market intervention where none is required, they only make matters worse.
What cannot be easily quantified, but should be considered, is the amount of effort the world spends trying to anticipate the Fed’s actions. If investors and entrepreneurs were able to focus on what the market will do next, instead of what the Fed will do next, the world would be a much better place to live, and resources would be allocated far more efficiently.
In 2010 Dr. Bob Murphy wrote about this problem:
Knowing that the bank had the ability to inject massive doses of new money into the market, investors and businesspeople would have less faith in the long-run purchasing power of the money unit. They would spend time and devote resources to hedging themselves against erratic central banking decisions, rather than focusing exclusively on the "fundamentals."
This is exactly where many have been their entire lives. Way too much time and effort is dedicated to interpreting the latest policy stance, while mainstream economists largely seem incapable of envisioning a world without central banking. As for the masses, they appear to be unaware of the nefarious scheme we call monetary policy.
Despite no one being able to guarantee the size of the balance sheet a year from now, let alone by this Thursday’s data release, each new day brings the potential for a new crisis, and with that the opportunity for a new market intervention. Until the Fed is properly disbanded or at least incapacitated, we must continue to read their tea leaves, interpreting this Federal Rorschach of balance sheet expansion, Fedspeak, and historical failure.
To flourish during a period of dollar depreciation and economic catastrophe, it behooves everyone to at least try to predict the movements of our erratic and certainly compromised central bank. When looking at the balance sheet, everyone might see something different, but if there’s anything it helps reaffirm, it's that in the long run, the balance sheet, money supply, and most prices will only go up. This is all part of some grand design by the Federal Reserve in a financial system where those at the bottom pay dearly for those at the top.
Tennessee Governor Signs Bill to Protect State Funds with Gold and Silver
Tennessee Gov. Bill Lee has signed a measure into law that would empower the State Treasurer to invest state funds in physical gold and silver.
House Bill 1479, introduced by Rep. Bud Hulsey, passed out of the House of Representatives on Monday with a 98-0 vote. A week later, the same bill received a 33-0 vote in the Senate.
In an exclusive comment to the Sound Money Defense League, Rep. Hulsey said, “Gold and silver have been real currency for the past 5000 years. [Passing HB 1479] not only provides a hedge for the State, but gives us varied options while facing a shrinking dollar and the threat of CBDC’s.”
Passing with strong grassroots support and backing from the Sound Money Defense League and Money Metals Exchange, the bill defines “bullion” and “specie” and provides that “subject to appropriation, the state treasurer may purchase and sell gold or precious metal bullion or specie that will be directly owned by the state, and in the custody of the state treasurer.”
Additionally, the twin bills would allow the state treasurer to “make and enter into contracts, trust instruments, agreements, and other instruments with a person to effectuate this section, including, but not limited to, financial institutions, accountants, auditors, attorneys, consultants, and other contractors.”
Lastly, the measure calls for “physical gold and precious metal purchased under these acts to be custodied by the state treasurer in a state depository, and maintained in a vault within the state depository's banking facilities in accordance with accepted industry standards for secure storage, and within the geographical boundaries of Tennessee.”
States that help set up the infrastructure to protect state funds with the monetary metals will help further to bring gold and silver into use as an alternative to the inflationary paper-money system, as well as buttressing state funds, many of which are invested in risky paper assets.
Rep. Hulsey continues to be a powerful voice for sound money in Tennessee, earning him the 2022 Sound Money Legislator of the Year award last year for his tireless work on eliminating Tennessee's state sales tax on gold and silver.
After ending the state sales tax on gold and silver, Tennessee shot up the 2023 Sound Money Index rankings to earn a 9th place finish. Tennessee also recently ended its state income tax on sales of all capital assets, including gold and silver.
Several other states are considering their own sound money bills this month, including Alaska, Idaho, Maine, Missouri, Mississippi, South Carolina, Vermont, Iowa, Kentucky, Oregon, and more.
The Instability of Stablecoins
At the Austrian Economic Research Conference (AERC 2023) event in Auburn, Alabama, behind a wooden podium once used by Ludwig von Mises, I presented my paper: The Instability of Stablecoins.
Whether it’s called a pyramid, ponzi, shell game, or a grand delusion containing fraudulent elements, there’s something peculiar going on in the stablecoin industry; almost too familiar, and it requires explanation...
As of time of writing, CoinMarketCap shows the top three stablecoins by market cap being: Tether (USDT), USD Coin (USDC), and Binance USD (BUSD), valued at $79 billion, $33 billion, and $8 billion respectively.
These stablecoins work as follows:
You have $100 USD. You deposit this money with the Circle company (operator of USD Coin). In exchange, they create 100 USDC coins and give them to you. You are now free to use the coins at your discretion by holding them in a digital wallet, depositing on a crypto exchange, sending to friends, or making purchases online at participating retailers.
“Stability you can trust,” is a heading on USDC’s website, as explained:
Known as a fully-reserved stablecoin, every digital dollar of USDC on the internet is 100% backed by cash and short-dated U.S. treasuries, so that it’s always redeemable 1:1 for U.S. dollars. USDC reserves are held in the custody and management of leading U.S. financial institutions, including BlackRock and BNY Mellon.
They didn’t include Silicon Valley Bank as a leading institution, but more on that in a moment.
Tether and Binance tout similar claims. According to Tether’s main page:
All Tether tokens (USD₮) are pegged at 1-to-1 with a matching fiat currency and are backed 100% by Tether’s reserves.
According to Binance’s main page:
All reserves are held 100% in cash and cash equivalents; hence customer funds are always available for 1:1 redemption.
Sounds promising! The depositors simply exchange US dollars for newly minted stablecoins, supposedly always redeemable, on demand at a rate of 1:1 with US dollars. Hence the term stablecoins.
The natural due diligence to follow is to examine each company’s reserves to see what exactly comprises their asset base. Here’s Tether Holdings Limited Independent Auditor’s Report on the Consolidated Reserves Report, as of December 31, 2022.
Unfortunately no footnotes were provided that elaborate on what comprises Corporate Bonds, Funds & Precious Metals, Other Investments, or Secured Loans. However, readers should see the potential problem, which, Dr. Jonathan Newman recently articulated when referring to the banking sector:
When banks practice this kind of maturity mismatch—potentially immediate-term liabilities (deposits) backed by long-term assets (loans and Treasury securities), it is called “fractional reserve banking.”
The propensity for there to be a “run” on a stablecoin or discounting the price below 1:1 on the US Dollar should be considered an ever-present threat.
During the week of AERC, the banking crisis dominated news headlines. After a tumultuous weekend, on Monday, March 13 CNBC wrote:
Last week Circle said that $3.3 billion of its cash reserve is with SVB. After the bank’s collapse, USDC lost its $1 peg, falling as low as 86 cents on Saturday, according to CoinDesk data.
Despite the Fed not being in the business of bailing out stablecoin operators, USDC coin was saved because the Fed unveiled a multi-billion dollar bailout for collapsing banks. The intervention secured USDC’s cash reserve and the coin went back to par with the US Dollar.
Yet the pyramid is still being built!
As illustrated through BlockFi, a crypto exchange that filed Chapter 11 as of November 28, 2022, who once paid interest on stablecoin deposits just like a checking or savings account, customers could deposit their USDC at BlockFi and earn a rate of interest.
Unfortunately, these weren’t term deposits, as the fine print details:
You may make a request for complete or partial withdrawal of principal from your Crypto Interest Account at any time.
Once again there exists the same maturity mismatch between liabilities (customer’s stablecoins) due on demand against what could only be longer dated assets (e.g., US treasuries) providing interest income to BlockFi… until the scheme imploded.
In a world full of hope and desperation, in which demand deposits have become a risky endeavor, this offers very little confidence; first we must hope the crypto exchange can honor the deposit, then that the stablecoin company can honor the deposit… and in 2023 we must now hope the bank can honor the deposit!
Stablecoins offer valuable insights into how a truly free banking system could look; understanding that in a truly free banking system, there would be no bailouts. While lots can be said about stablecoins, the real systemic threat doesn’t lie within these private companies voluntarily offering services to customers. Rather, the real instability will come from an involuntary, legal tender, forced upon society – stablecoin – known as a Central Bank Digital Currency (CBDC)... Coming soon whether we like it or not.