The fiat experiment: Stopping time

[johnyj]

So the question arises: under what circumstances would the banks end up spending some or all (well, a significant amount, not necessarily all) of their reserve USD? and what are the odds of that happening?

When they need to buy bitcoin, and it is already started

The strange thing is: Although USD cost almost nothing to make, people are willing to give up their asset in exchange for dollar, just because other peoples also accept dollar as payment medium. So eventually bankers own everything valuable on the planet using their printer, this process is going slowly but steadily

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[EverettMarm]

I don't see any reason for a complete fiat collapse anytime soon (barring complete mismanagement by the central banks or some "unknown unknown"). Though, I'm not exactly sure how nations without monetary sovereignty (Euro nations) will handle their public debt. The U.S.'s debt:GDP ratio has been higher than it is now (after WWII). Ideally, not all the benefits of economic growth go solely to the small, interest accruing class (those who received the investments or loans would have received greater benefit than the interest paid, else they wouldn't have taken the investment/loan). Public debt doesn't have to grow exponentially. It can be paid down, and/or inflated to be insignificant over decades. Debt has just grown exponentially recently because it could be (exponentially expanding economy and population growth). The problem of always needing economic growth to function is a feature (or bug?) of capitalism itself.

[Cryddit]

There must be conditions defined by Basel III under which the banks could actually spend those reserves. After all -- if they were NEVER allowed to spend it, then it wouldn't be a stabilizing force, would it?

Yep.  In a financial meltdown where there is a crisis in the money supply and a widespread run on banks, they will be allowed to spend it to stay afloat.  I think it requires an act of congress or some kind of disaster declaration to authorize.  But once they spend below the new reserve requirement, they have a limited time to get back above the reserve requirement or they lose their license to do financial services work.

[aminorex]

That does not apply to "excess reserves" however.  If they are reserved by anything other than market forces, it is a "gentleman's agreement".

[Milotyc]

It always feels like you're having a luxurious and speedy trip, as you speed along the autobahn at 180kph in your S class, the moment before you collide with the pillar.  That wonderful feeling of progress and comfort should not deter you from looking out the windshield to see what is in front of you.  Most of us can do nothing to influence the driver.  But now with bitcoin, we have been given rocket-powered ejection seats, and our lives are in our own hands once again.

I wish you were my teacher, be it economy or english lessons.

[zachcope]

One of the indicators of divergence might be backwardation in monetary metals.  Certainly this case has been bandied about extensively.  GOFO rates are interesting in this regard.  The failure of Germany's efforts to repatriate its gold is interesting.  The various efforts to bilateralize trade, in RMB and in oil, are interesting.

I remember when the Bear Stearns CFO suddenly quit in 2007.  If you read that event correctly, the subsequent failure of the bank was not a big surprise.  What rats would leave this sinking ship, and on what mooring lines?  Having a good list of these would be almost as good as having a drop-dead date.

I like this post. What other indicators need watching?
I do feel that the end game is imminent though.

[piramida]

I do feel that the end game is imminent though.

I'd watch for some catastrophic event taking millions of lives. It would take something of a planetary caliber to reboot the planet-wide financial ponzi, and I doubt that people responsible would hesitate much.

[notme]

I don't see any reason for a complete fiat collapse anytime soon (barring complete mismanagement by the central banks or some "unknown unknown"). Though, I'm not exactly sure how nations without monetary sovereignty (Euro nations) will handle their public debt. The U.S.'s debt:GDP ratio has been higher than it is now (after WWII). Ideally, not all the benefits of economic growth go solely to the small, interest accruing class (those who received the investments or loans would have received greater benefit than the interest paid, else they wouldn't have taken the investment/loan). Public debt doesn't have to grow exponentially. It can be paid down, and/or inflated to be insignificant over decades. Debt has just grown exponentially recently because it could be (exponentially expanding economy and population growth). The problem of always needing economic growth to function is a feature (or bug?) of capitalism itself.

Do you really think that debt will not grow exponentially if they try to inflate it to be "insignificant"?  Why not take out a loan if the debt will be insignificant in the future?  Also, your assumption that the loan recipient benefits from the loan is certainly not true for all loans.  Businesses go belly up all the time and leave bad debts.  Students loans debt is at an all time high and most of the people I know who only have bachelors degrees are working in retail of food service, making minimum payments that should have their loans paid off about 1 week before they die.  Look at 2008.  How many of those loans were not paid back because the homes they were spent on lost half their value?  And what happened to the interest accruing class in 2008?  They got bailed out by their buddies while they were kicking people out of their houses, only to let the houses sit vacant or be torn down.

Capitalism is private ownership and private responsibility.  We don't have such a system in the US.  We have private ownership of profits and socialized losses.  Until the interest accruing class is forced to take responsibility for their mistakes, our debt problems can only grow.

[aminorex]

Do you really think that debt will not grow exponentially if they try to inflate it to be "insignificant"?  Why not take out a loan if the debt will be insignificant in the future?  

No one will lend to you at that point.  

Until the interest accruing class is forced to take responsibility for their mistakes, our debt problems can only grow.

The purpose of politics, taken on a dollar-weighted basis, is to insure that they do not.  

As an aside:  Reserves do show up in the circulating economy.  The reserves imposed on a bank by external forces free up other capital which would otherwise be held in actual reserve.  That capital is used for flow trading, market making, and speculation, one way or another.

[chriswilmer]

The issue with Basel III is actually very simple.

The Fed issued a godawful amount of $USD which now has to sit in banks, not to trigger inflation or deflation, but in order to stabilize the banks.

The increased reserve requirement is effective in propping up banks, even if the money backing it up is just an illusion.  

I'm going to just use hypothetical numbers here instead of the ones that the Fed actually used, but this is how it works.  

Let's say banks are doddling along with a 20% reserve requirement, cheerfully lending out five times as much money as they actually hold.  And the doctrine is, "you can't suddenly inflate the money supply.  That would lead to hyperinflation.  Imagine every atom of your body, radiating outward at the speed of light!  That would be BAD!

Then something happens (like the financial industry crashing) that makes it utterly clear that 20% is not enough of a reserve requirement.  Banks that actually did hold 20% reserves are struggling to keep from going under as 17%, 18%, and 19% of their loans suddenly go into default.  It's a crisis of Biblical proportions!  And what about this guy over here who caused the crisis?  It's true sir, this man has no dick.

Guys at the Fed decide that it's really only safe for bankers to loan out 3 times as much money as they hold, so the reserve requirement ought to be raised from 20% to 33%.  But if the banks suddenly have to make it up on their current reserves, then we are all DEAD, because they are struggling to survive by spending down a 20% reserve to meet their obligations.  To deal with that you'd have to suddenly and dramatically raise the money supply!  And that would be BAD!  In order to even get back to 20% within some reasonable time, the bankers are having to raise interest rates on mortgage holders by some obscene amount like going from 8% to 23% on long-term mortgages.  If they were trying to get to a 33% target, they'd have to raise their interest rates on mortgage holders to something even more obscene like 50% or 60%, and then we would all be dead.  Panic in the streets, rains of blood, dogs and cats living together,  -- it's the end times!!  

Then someone comes up with a ray of hope in the darkest hour, and says ....  hey, Quantitative Easing!  The new reserve requirement will turn the financial sector of our economy into a "giant sucking noise" that takes a hell of  a lot of money out of the economy, but what if we just give out about that same amount of money?  People will spend it once or twice, then it'll wind up getting sucked into the giant black hole we've just created in our banking sector, and if we add the money to the economy at about the same rate that it gets sucked up by the giant black hole, then we can do it without creating (too much of) a liquidity crisis!  Why, we might not even have a revolution!  But hey, wouldn't that be .... you know, BAD? Well, There's a chance -- a very small chance -- we might survive.  Oh, I love this plan! This is a great idea!!

And so the Fed set out to do this thing.  They've been adding money to the economy at about the same rate that the banks have been required to suck it out of the economy.  Now it's a couple years later, the reserve requirements have been raised and, mostly, met, and the amount of money actually in circulation has stayed roughly the same.  The banks are now holding 33% instead of 20%, they've even managed to recover the reserves that they had to spend down in the crisis, if another 20%-threatening crisis occurs they'll be able to withstand it, and the public has been largely unaffected because money has entered the economy through QE just about as fast as it has gotten sucked out of the economy by banks that would otherwise collapse.

It's -- actually not that bad a plan.  What it comes down to is that in order to raise the amount held in bank reserves from 20% to 33%, the 'actual'  money supply had to increase from 1/5 to 1/3 of the 'circulating' money supply - meaning, from $3 on every circulating $15 to $5 on every circulating $15, so 40% of the 'actual' money supply at the end is 'new' money that didn't exist before.  Throw in another 15% or so to allow the banks to recover from the hole they were in with respect to their 20% margin obligations at the start of the crisis, and you have a picture that looks pretty much like the picture today.

Now comes the next and possibly even more difficult trick.  Now that the goal of stabilizing banks and raising the reserve requirements so they stay a bit more stable is more or less met?  Now they have to ... stop.  If they can manage this one last trick, then hats off to them because, well, frankly there's no other way we could have come through that mess starting from where, through ignorance and incompetence, they started.  If the new reserve requirement is met, then maintained, and they can judge exactly the right moment to stop printing so goddamn much new money, then we won't have hyperinflation because all that new money will stay in the banks and won't enter circulation.

Cryddit... can I give you a bitcoin tip? That was an amazing explanation... thank you so much.

[Cryddit]

The Fed issued a godawful amount of $USD which now has to sit in banks, not to trigger inflation or deflation, but in order to stabilize the banks.

Cryddit... can I give you a bitcoin tip? That was an amazing explanation... thank you so much.

Heh.  Never thought I'd get a tip for making "Ghostbusters" jokes. But sure, I never turn down money!

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Thanks for appreciating it.