![And Also Self-Deceiving [courtesy Google Images]](http://m5.paperblog.com/i/140/1403468/confidence-in-debt-repayment-L-BJrLXa.jpeg "Confidence in Debt Repayment")
But Also Self-Deceiving
[courtesy Google Images]
Michael might be right, but I don’t regard Puerto Rico’s plight as big news.
According to Wikipedia, Puerto Rico is over $70 billion in debt. $70 billion’s not chicken feed. But, on the other hand, under Quantitative Easing 3 (QE3), the Federal Reserve was handing out $80 billion per month to stimulate the U.S. economy. Surely, the Fed could cough up enough to solve P.R.s debt problem—right?
I doubt that Puerto Rico’s $70 billion debt is a domino that’s big enough to start a chain reaction that will, eventually, topple the US economy. If I’m wrong, why doesn’t the Fed simply lend Puerto Rico, say, $40 billion, to placate some of its creditors and at least kick the can down the road for another year or two? We could call it “QE4”—a one lump loan of $40 billion to save Puerto Rico.
However, even if Puerto Rico’s debt problem is more noise than news, Puerto Rico’s tactics for dealing with that problem might be illuminating.
Why? Because there are only so many moves on the board. I.e., there are only a limited number of tactics that any insolvent government can use to deal with its excess debt.
By understanding Puerto Rico’s tactics for dealing with its unpayable debts, we can gain a pretty good idea of the tactics available to any other overly-indebted nation (including the U.S.) when it’s finally forced to default.
• U.S. Secretary of the Treasury Jack Lew recently sent a letter to Congress describing Puerto Rico’s debt problem. The following quotes are excerpts from that letter:
“Although there are many ways this crisis could escalate further, it is clear that Puerto Rico is already in the midst of an economic collapse. . . .”
Puerto Rico is in big trouble. It is therefore reacting as follows:
“1. It is shifting funds from one creditor to pay another.
The decision to take funds from creditor A to pay debts owed to creditor B might be based on the idea that creditor A’s debt won’t be due for another year, while creditor B’s debt is due this month. If so, the oldest debtors will be paid now with the newest debtors’ investments. The newest debtors won’t ever be paid. That’s a Ponzi Scheme. That’s illegal.
Government is forced to engage in crime in order to maintain the public confidence that it can (somehow) repay its debts.
“2. Creditors are filing lawsuits.
Ooo–lawsuits!
So what?
The overly-indebted Puerto Rican government will ignore those lawsuits. Even if a judge rules otherwise, what can’t be paid, won’t be paid.
Do Puerto Rico’s creditors really expect to be any more successful at recovering their funds from Puerto Rico than European creditors were at recovering their funds from Greece?
In the end, Puerto Rico’s creditors will “take a haircut” and receive only a relatively small percentage of the debt due.
The first “haircut” given by Greece to its creditors was a 50% “restructuring” of the existing debt. By the time Greece stops handing out “haircuts,” its creditors will have lost 80% or more of whatever funds they loaned. But, on the bright side, Greece won’t have to officially admit it’s bankrupt and can’t pay its debts.
You can bet that something similar will happen in Puerto Rico.
What can’t be paid, won’t be paid. Even so, government won’t admit that its debt can’t be paid.
“3. The [Puerto Rican] Government Development Bank, which provides critical banking and fiscal services to the central government, only avoided depleting its liquidity by halting lending.”
The “Government Development Bank” is Puerto Rico’s rough equivalent to the U.S. Federal Reserve. It’s their “lender of last resort”.
“Depleting its liquidity” means exhausting its entire supply of cash and being forced to admit it’s insolvent.
Figuratively speaking, Puerto Rico’s “lender of last resort” has avoided “depleting” its entire “liquidity” (cash assets)—admitting that it’s broke—by “halting lending” while there was still at least fifty bucks in its vault. Even so, the fact remains that regardless of whether that Bank stopped lending because it is already broke, or because it would be broke if it loaned out its last fifty bucks, you can bet that Bank is effectively broke.
The only thing gained by the Government Development Bank’s refusal to lend more currency was avoidance of the public admission that that Bank is, for all intents and purposes, technically insolvent and therefore unable to pay its debts. It is likely that the Puerto Rican people’s confidence in their government or economy is shored up by the Government Development Bank’s refusal to publicly admitted that it’s broke. But what is a bank that refuses to lend its last “liquidity”? It’s broke.
Even if it’s not broke, it’s decided to “halt lending”. If Puerto Rico’s “lender of last resort” has decided to halt lending, that means that Puerto Rico’s supply of credit is drying up.
A debt-based monetary system (like that of Puerto Rico, the U.S. and the world) runs on debt. Without more debt, the debt-based monetary system fails. But there can’t be more debt, without first being more credit. If Puerto Rico’s “lender of last resort” has “halted lending,” then credit is drying up in Puerto Rico and that territory’s debt-based economy must be on the verge of collapse.
• Incidentally, the Government Development Bank’s refusal to lend more “liquidity” into the Puerto Rican economy reminds me of the Federal Reserve’s decision to halt Quantitative Easing 3 in October of A.D. 2014. The Federal Reserve claimed it stopped QE3 because the US economy was strong enough to survive without additional financial stimulus.
That claim may have been cause for public optimism but, again, what is a bank that refuses to lend money? It’s probably broke—or, nearly so.
Did the Federal Reserve really stop QE3 because the US economy was strong?
Or did it stop because the Fed was (nearly) broke? Like P.R.’s Government Development Bank, did the Federal Reserve stop lending under QE3 in order to “avoid depleting its liquidity”—and thereby avoid having to admit it was broke and destroy public confidence in the monetary system?
I don’t know. But I think the answer may be Yes.
• As I write this article, the U.S. and global stock markets are in significant decline. Some people predict that the Federal Reserve will therefore be forced to start another session of Quantitative Easing (QE4) to save the U.S. markets and the U.S. economy. Those predictions might be right. Janet Yellen could surprise us all by suddenly announcing the onset of a new-and-improved QE4.
Could be, but I have my doubts.
It’s my understanding that the Fed’s “balance sheet” is only 0.3% in the black. In other words, the Fed has only 0.3% more assets than liabilities. I’m not an accountant. I don’t fully understand how “balance sheets” work.
However, I do know that 0.3% of anything isn’t very much.
I also know that if my assets were only 0.3% greater than my liabilities, I’d be worried. I’d know that I was very close to being insolvent, maybe bankrupt, and therefore losing everything I had. I’d understand that if my assets declined just a little or my liabilities increased just a little, I could be financially ruined.
I know that I live in a world that’s much different from the Fed’s. The kind of debt problems that could drive me to drink, might not trouble the Fed in the least.
Still, I can’t help wondering if the Fed’s 0.3% in assets on its balance sheet doesn’t correspond to the Fed’s total “liquidity” (resources). If so, what would’ve happened if the Fed had continued QE3 beyond October of A.D. 2014, “depleted” its remaining “liquidity” and allowed its liabilities to exceed its assets? Would the Fed have become technically insolvent?
Similarly, what will happen if the Fed starts another round of Quantitative Easing (QE4) and is thereby forced to “deplete” it’s remaining 0.3% “liquidity” by lending it out to shore up the U.S. stock markets? How much could the Fed lend under QE4 before its liabilities exceeded its assets? If the Fed’s liabilities exceeded its assets, wouldn’t the Fed be technically insolvent (unable to pay its debts)?
Of course, I understand that the Fed and U.S. government can combine under the guise of various accounting and financing tricks to “spin” more currency out of thin air. I understand that so long as there’s any paper left anywhere on the face of the earth (and a bit of ink to color it), the Fed can issue more currency to supposedly stimulate the economy and/or repay its existing debts. Therefore, the Fed might not be frightened by the threat of technical insolvency.
I also understand that our entire monetary system is based on the American people’s “confidence” in that system. So, I wonder what would happen to public confidence if the Fed loaned out more than the remaining 0.3% of its liquidity? What if the Fed had to publicly admit that its liabilities now exceeded its assets, its “balance sheet” had turned from black to red, and the almighty Fed was “technically bankrupt”?
Oh, sure, the Fed’s wizards could mutter some “E Pluribus Unums” and “ipso factos” and explain that, despite its “technical” insolvency, it wasn’t really bankrupt and circumstances were all under control. Most Americans might buy that explanation.
But, what if they didn’t? What would happen to public confidence (on which the entire debt-based monetary system is founded) if the Fed had to publicly admit it was “technically” unable to pay its debts?
Could it be that, just as Puerto Rico’s Government Development Bank decided to “halt lending” to avoid admitting it’s broke, the Federal Reserve also stopped QE3 before it exhausted the last 0.3% of its remaining “liquidity” in order to avoid publicly admitting it’s (virtually) broke?
Odds are, my concerns are misguided. The Fed is solvent and will forever be so.
But, if the current decline in U.S. and global stocks continues, and if the Fed fails to initiate QE4 by the end of February . . . and, then . . . even by the end of March . . . won’t some folks wonder why? Will some people start doubting that the Fed’s decision to refuse to lend under QE4 was because the economy has recovered and/or the Fed is initiating a new “get tuff”/austerity program to manage the economy. Would folks instead, wonder if maybe the Fed couldn’t dare to deplete its last 0.3% in liquidity since doing so might destroy the public confidence on which the entire debt-based monetary system is based?
• We all acknowledge the importance of “public confidence” in maintaining our debt-based monetary system. But, how many of us know what the “confidence” is in? In Obama being a native-born American? In the Republican Party’s dedication to limited government and fiscal responsibility? In Hillary’s ethics?
Q: For our debt-based monetary system to survive, what, exactly, must we have “confidence” in?
A: Simple. We must have confidence in the belief that all of the existing debts will be repaid.
So long as we have “confidence” that our national, private, and corporate debts will one day all be repaid, we can reasonably continue to invest our wealth in debt-based monetary instruments like bank accounts, government bonds, stocks and pension funds. More importantly, so long as we have “confidence” that all of our debts can and will be repaid, we can continue use debt-based currency (Federal Reserve Notes) as if it was “money”.
However, if Americans ever woke up and realized that most of our total debt can’t and won’t ever be repaid, the whole economy could collapse and the fiat dollar might die. After all, why would anyone want to continue to do business, work as an employee, or invest his savings in a debt-based economy if he didn’t have confidence that all of the debt would (one day) be repaid?
Would any rational man want to invest his wealth in paper, debt-based currency, if he knew that the debt those dollars represented would never be repaid in full or even substantially? Of course not.
Once any rational man realized that the total private, corporate and governmental debt was so huger that it could never be repaid, he’d flee from all paper debt-instruments as if his life depended on it (and it just might). He’d convert his savings, wealth and pensions into assets like gold and silver—rather than debt-instruments made of paper or electronic digits.
• And, therein lies the danger facing the Fed.
Suppose Puerto Rico’s “Government Development Bank” and/or the Federal Reserve were forced to admit that their liabilities exceeded their assets and they were therefore “technically insolvent”. Would the public realize that that Bank and/or the Fed couldn’t pay its debts and therefore lose their “confidence” that the debts can and will be repaid.
Once confidence in debt repayment dies, the entire debt-based monetary system and debt-based economies of Puerto Rico, the U.S. and even the globe dies right along with it.
So, can the Fed dare admit that it’s “technically insolvent” without triggering a national or even global economic collapse? Can the U.S. government dare admit that it can’t repay most of the National Debt? Can the U.S. government even dare to admit that the true size of the National Debt is not a mere $18 trillion but is closer to $100 trillion or even $200 trillion?
No, they can’t.
Why? Because an express admission of such facts would constitute admissions that the total debt is too great to ever be repaid. What can’t be paid, won’t be paid.
I’ve speculated for five years that no more than 20% of the National Debt will ever be repaid—and that the real percentage could be as little as 10%. If I’m right, the day is coming when the purchasing power of the $100 bill in your wallet will suddenly fall from $100 (in today’s dollars) to $20 or even $10. Same thing with your bank accounts, retirement accounts, pension funds, wages and salary. If your wealth is stored in debt-instruments, you’ll lose most or all of your wealth if the government admits the debts can’t be repaid.
The major institutions don’t dare admit that the debt can’t be paid, because once they do, the whole debt-based monetary system and debt-based economy will collapse. The resulting economic and political chaos could rival that of the American Civil War.
I can’t prove it, but I strongly suspect that if:
1) U.S. and global stock market declines seen in the first two weeks of January persist; and
2) The Federal Reserve fails to respond by implementing QE4; then,
3) It will be reasonable to conclude that the Fed’s assets/“liquidity” are so depleted that if must refuse to lend more under the guise of QE4 in order to avoid admitting to the world that it’s “technically insolvent”.
If my suspicions are correct, that means that despite predictions to the contrary, there’ll be no QE4 and no “QE to infinity”.
• Finally, Treasury Secretary Lew wrote that, in order to deal with its debt default, the government of Puerto Rico is:
“4. Sweeping in additional deposits from other Puerto Rico governmental entities.”
Apparently, it’s easier for Puerto Rico’s government to rob the city and county municipal accounts than it is to directly rob the Puerto Rican people (who are prone to rioting and setting fire to government buildings).
However, you can bet that once lesser municipal accounts are exhausted, the Puerto Rican government will start to rob the people’s bank accounts and other bastions of private savings.
• In broad strokes, Puerto Rico’s tactics for dealing with their debt defaults have been:
- Rob its creditors by stopping payment on all of the debts due. There aren’t many creditors so they don’t have much political clout. More, nobody likes ‘em anyway because they’re rich. Therefore, governments can rob rich creditors without causing much political heat.
2. Ignore the creditors’ lawsuits. Since everyone knows lawsuits take years, there won’t be any political heat, so long as creditors are tangled up in court.
3. Rob smaller governmental agencies and entities. Robbing cities, counties and pension funds will precipitate more political heat than robbing rich creditors or ignoring their lawsuits. Nevertheless, governmental entities are generally despised, so the political heat generated by robbing them won’t be unbearable.
4. And, as a last, desperate resort, Puerto Rico will rob its people by imposing “austerity” or seizing their savings accounts—and praying that they don’t riot, don’t burn the island down to the waterline, and don’t hang all government officials.
Implication? Government will first rob rich, private creditors and stall those who complain with lawsuits. Then, government will rob smaller governmental entities. Finally, government will risk overtly robbing the public even though they might riot. Even if people riot, government will rob them rather than admit that the debts can’t be paid.
Once they admit the debts can’t be paid, the whole debt-based system implodes.
To protect the debt-based monetary and economic systems, governments can’t admit that the debts can’t ever be repaid.
• If the pattern seen in Puerto Rico holds true for most government insolvents, there’s a good chance that when the US defaults (as it must since the National Debt can’t be paid in full or even substantially) we’ll go through a very similar set of steps: 1st, government will rob its creditors; 2nd, it’ll rob smaller governmental savings accounts; and finally, 3rd, it’ll rob the American people of their savings. But it will never admit that the debts can’t be paid—at least not until we’re on, or past, the edge of absolute collapse.
In a worst case scenario, the government will steal every dime they can find before they admit that the government debt can’t be paid.
Therefore, if you ever hear the President admit that the debt can’t be paid and must be “restructured” or some such, you can bet that the End Has Come and all Helk is breaking loose.
