A Faith-Based Currency.... the Dollar is younger than Woodstock... the Red Queen always loses (a winning counter-move)... and the inflationary monkey on our back.

Through the Looking Glass.
The Red Queen is a mad character Alice encounters on the other side of the Looking Glass. She explains to Alice that she must run faster and faster just to stay in the same place:

.. said the Queen. `Now, here, you see, it takes all the running you can do, to keep in the same place.  If you want to get somewhere else, you must run at least twice as fast as that!'

During bull markets many adopt Red Queen thinking.  Rare is the pundit who highlights the risks of throwing more and more dollars at the same thing in the hope of achieving outsized returns.  Indeed most window-dressing debate is meant to keep the party going, not temper its excess.

Bubbles are rational reflections of efficient market hypothesis at work [sic]
Ask yourself:  'how many economists predicted the catastrophic effects of a housing collapse on our way of life?', or, even more succinctly, 'how many of them predicted that housing was even in a bubble, arguably the largest bubble in human history?'.

Certainly the heralded "maestro" Sir Alan Greenspan performed admirably as our very own Wizard of Oz:

'American consumers might benefit if lenders provided greater mortgage product alternatives to the traditional fixed-rate mortgage. To the degree that households are driven by fears of payment shocks but are willing to manage their own interest rate risks, the traditional fixed-rate mortgage may be an expensive method of financing a home.'  Alan Greenspan,  Credit Union National Association 2004 Governmental Affairs Conference, Washington, D.C.  February 23, 2004 

Then Alan lobs a real ball-buster, but coming from him the media fawns over each word as if from Moses himself:

“The fact that our economical models at The Fed, the best in the world, have been wrong for fourteen straight quarters, does not mean they will not be right in the fifteenth quarter."

Ex-squeeze me?  A baking powder?  Putting aside for just a moment as to what qualifies as the "best in the world"... remember 14 quarters is like 3 and 1/2 YEARS of being wrong.  That's a hella long trips around the sun and almost as long as it took for me to graduate college.

Fuck in corporate America I'd get fired if my models failed for even a fraction of that time.  You wouldn't last two hours at a Vegas craps table with that streak.

Alan though got knighted by the (English) Queen and Bob Woodward wrote a book on him.  Does anyone see something wrong with this picture?  Were we not groveling at the wrong graven image (Greenspan)... instead of relying upon our innate abilities to detect bullshit?


The US Dollar is not 200 years, nor even 100, years old.  Try 39 years old.
After World War II the first world pegged their respective currencies to the US Dollar at fixed rates.  The US Dollar in turn was fixed to gold, in a daisy-chain agreement known as the Bretton Woods Accord, so named after the New Hampshire town where it was signed.  We were a gold dollar and the rest of the world linked to the dollar, so the world was effectively back on a gold standard.

Flash forward just 25 years.  With US costs escalating from the Vietnam War, a desperate President Nixon eager for an inflationary economic boost to gain re-election, and a sceptical French government which started demanding repayment of US debt obligations in gold instead of paper dollars... all had a momentous consequence.  In 1971 Nixon signed an executive order suspending the convertibility of the Dollar for gold.  This in turn set loose all manner of free-floating currency foreign exchange chaos, catalyzed the foundations of the Euro, made Arab petrol prices fall below production costs (and resulting in the embargo to raise them above new costs), and launched the high inflation era of the 70's.

Before Nixon we were a gold dollar, as mandated by the US Constitution.  After Nixon we were a fiat currency and subject to the government printing press (or ability to add zeros to the debt in server-land).  

Put another way, all the Baby Boomers today are older than our modern free-floating fiat currency, and the Gen-X-Y-Millenials (etc) have known nothing but inflationary fiat dollars. This is how currencies revalue when artifice is used to elevate their values and then the props are kicked out from under them for political gain.


Why the government apparatus now depends upon fiat inflation.
Simple.  Debt we issue today is worth less tomorrow with inflation.  It reduces the obligations of money that must be repaid to those who buy our Treasury bonds. Today's debt becomes cheaper tomorrow.  Great!

Tally the trillions of dollar inked for Medicare & Medicaid, plus the new health care bill, and we've got a big check that our tax base won't cover without cheapening the currency to make it all happen.  I believe all of these programs are necessary, even moral, but that we also have to be honest with people about their costs and safeguarding them from fraud.

The only trick for issuing evermore debt, of course, is that you have to ensure that you'll always have a ready supply of buyers for your debt who don't realize they are being had.  They have to continue to think they're getting a good deal relative to other choices.  It must also be done at a controlled rate or its game over, man, game over.

The Red Queen is the Monkey on our Back.  


Inflation will destroy your paper savings, it is a mathematical guaranty. 
Imagine you have a new child when you hear inflation has been 'contained forever' at 3%.  After one year a saved $100 is now worth $97 in comparable purchasing power.  When li'l junior or miss is ready to go to college, that same $100 initially put into a checking account is now only worth ~$58, for a total real loss of 42%.  And all that assumes you never had to pay any taxes or account fees on the deal (meanwhile college expenses have risen by large amounts year-over-year in the interim).

Say you get interest on that money?  Great!  Subtract your annual tax bracket from that rate of return and recompute.   Just to stay even at a 28% bracket means you need to find a savings rate of around 4.2% just to stay even on an after-tax, after-inflationary basis in this scenario (assuming no account fees, of course).   

We have a faith-based currency. 
Does not the government print "In God We Trust" on the currency itself?

Remember Dollars today are just paper and e-bits on financial servers, backed only by the full faith and credit of our government.  Is there anyone out there who would propose our government acts as responsible stewards of the Republic over their own re-election?


Avoid Red Queen myopia.
The way to advance personal wealth interests is to advantageously switch among asset classes at the height of their valuation cycle before the mathematical underpinnings fail.


The presumption that growth in any one class may double infinitely per unit of time underscores the blind madness of the Red Queen:

1. No investment may compound infinitely without natural corrective forces.
2. Attempts to subvert the first precept invites catastrophic default, as these attempts invariably take on characteristics of bubble psychology.

Think of dollars as a temporary asset which have short-term immediate use as a means to acquire other asset classes that are resilient to dollar destruction.  Land, commodities, metals, oil production, etc are all examples of resilient classes.  Education may be another resilient asset (accredited schools!).  Add these in with sensible stocks with solid dividend track records and little history of reckless stock dilution.

Diversification among sensible asset classes is a relatively good way for you to topple the Red Queen, because even in an inflationary environment staying par with respect to real purchasing power means you win.

Model forecast confirmed!

Well today the National Bureau of Economic Research (NBER) declared the ending date of the Great Recession.  They put the end of the current downturn as June of 2009.  In my charter blog post from March 6th 2010 I placed the end of the downturn as July of 2009, confirming that my approach was sound. 

I think this helps prove my point with respect to how economic data mining can be effectively used:  (1) intuitive but simple approaches that work, or (2) excessively complex models or methods that take months or years to "prove" correct. 

My point with the initial post was to illustrate the practical benefits of the former over the latter.  When one can adequately predict the key points with as few inputs as possible, then it should be deployed as a first-response diagnostic.  The benefits are that policy makers, business leaders, and voters(!) can therefore more quickly react to a new economic reality and mitigate the tendency of a cycle to swing in excessive directions.

Of course in-depth research should be done to better understand how we collectively create messes that are costly and time-consuming to clean up, but these lags in time should not be used (as they are today) as an excuse to befuddle the masses with time-wasting debates. 

As it stands today we have quite enough economic illiterates and short-term thinkers sitting in positions of power across government, the media and business sectors, who make decisions that affect a great many people, so the less time we data mining analysts give them to speculate on whether the earth is round the better off we will all be, on average, over the long term.