Thursday, June 13, 2013

#37 The Compound Interest Paradox – A Conversation

When doing the research for the piece on Compound Interest, I came across this article written by FSK and posted on his blog on Wednesday, May 21, 2008. FSK referred to himself as follows,

I want to do useful work and get paid, without having to report it for taxation, confiscation, and regulation.”

This is a VERY widespread attitude, especially among the young. On his newer website, REALFREEMARKET.ORG, FSK further has this to say,

I blog Anonymously, under the pseudonym “FSK”. I am very critical of financial industry corruption. I also work writing financial software. I blog Anonymously, because I don’t want potential employers refusing to hire me based on my blog. I live in NYC. I am currently unemployed.

(They may have decided to do so anyway as they have ways of knowing things)  This article will appear in blue, my comments in black, per usual.

The Compound Interest Paradox - a Simpler Explanation

A lot of people have asked for a short and simple explanation of the Compound Interest Paradox. I'm planning an updated version my Compound Interest Paradox post, scheduled to be posted in a few weeks. (Now that Blogger offers "scheduled posting", I'm queuing up posts ahead of time. I have 3 months' worth of nearly finished drafts queued up, and I schedule posts a week in advance now.)

I didn't see this, so this article will be the basis for our discussion.

There's a fundamental structural flaw in debt-based money. Money is only created when someone takes out a loan. However, only the principal is created and not the interest payments. For example, suppose a bank borrows \$1B from the Federal Reserve at 5% interest for 1 year, either directly at the Discount Rate or via the Federal Reserve "monetizing the debt". In a year, the bank must repay \$1.05B. The \$50M required interest was never created or put into circulation. Therefore, there's a permanent money supply shortfall. Everyone is enslaved under a crushing debt burden.

You see, others are noticing the essential mathematical flaw underlying usury and debt based currencies.  [2/5/15: Correction: After reviewing Arthur Kitson's work, beginning here we are convinced that all money represents debt so the idea that any money can be said to be free of debt is an illusion. The “gold bugs” will immediate jump to the conclusion that their “money” (gold or silver coins) is debt free, which is also an illusion, since, unless one is of the opinion that gold is just wealth in terms of mere “stuff”; commodities and not our stricter definition which says that true wealth is only that capable of earning a living, then one buys gold (or silver) with the intention of eventually spending it as money for what one really wants or needs. If they are gold or silver hoarders, then that's another trap. See what you have in purchasing power after the “masters of the universe” in far away cities reduce your hoards to next to nothing through speculation, and we haven't even considered that fake commodity out there, bitcoin. Basically, if it's money, it's purchasing power and it's all debt, representing unsettled transactions for things that can only settle transactions in terms of barter; real useful goods and services. So money is not a matter of debt per se, because all of it represents debt, but debt to whom.]  Our solution of course is that money can only be issued by the poor who have none and all others must trade for it with whatever they have to offer.  [2/5/15: Correction: This too is modified by the insertion of Labour Contracts into the proposal. Labour is a way of issuing money into the system.]  In a very short time this would bring to an end all collectivist or state socialist solutions to dealing with “the masses” and their poverty, which of course the rich tend to blame on the poor, as if being poor was their own fault. If you have some of their debt based money and wish to get Value Units, you will have to trade that money for gold or silver bullion first, since no Independent Exchange within the VEN will want to hold either these currencies or anything valued in them. [2/5/15: Correction: All IE's will take care of this for any who want to buy with currencies, but not through swipe cards which leave a trail which we cannot be part of.]   Your exchange will be determined by how the brokers have manipulated the prices of gold and silver and more importantly what the real bid price for physical possession of gold or silver bullion would be compared with these prices at the inception of the Value Unit on 2 November, 2011, an easy to remember date.

The key step in the money creation process is when banks borrow from the Federal Reserve to create new reserves. Only the Federal Reserve can create new money, and all the money it creates has debt strings are attached. For each \$1 the Federal Reserve creates, the financial industry can create \$9 more via fractional reserve banking.

They create far more than this so they don't even follow the norms of their own fraudulent business model.

This new money is recycled. The interest payments on the extra \$9 are recycled as bank profits and expenses. Banks always are "loaned up" to the full reserve ratio allowed by law. Surplus bank reserves are loaned to other banks, or (rarely) back to the Federal Reserve via reverse repurchase agreements. However, the interest payments on the \$1 created by the Federal Reserve are *PERMANENTLY* destroyed as the loan is repaid. Total debt is always greater than total money.

I hope you all got this. If not, take your time and read it over again. There are some out there in thrall to the Austrians who still believe, erroneously, that scarcity of money is a good thing in that it counteracts the inflation caused by government spending. Elsewhere we've shown this “school” of economics to be liars, clever at it, but liars just the same. Please do not allow yourself to be hooked on either horn of the bankster's dilemma. To them, their dialectic consists of the either of Keynesian economics and the or of Austrian economics. They do not want you to think outside their box.

When the Federal Reserve creates new money, the Compound Interest Paradox operates with the full force of law. The general public does not have the financial industry's money-printing power, and their access to money is always limited by the Compound Interest Paradox. Banks don't need to collude to cause economic booms and busts, because Fed Funds Rate changes force them to collude. Before the Federal Reserve was created, large banks colluded to create economic booms and busts. The usual "Problem! Reaction! Solution!" scam led to the creation of the Federal Reserve. It was State regulation of banking in the first place that allowed large banks to collude to cause economic cycles, which then allowed them to lobby for the creation of the Federal Reserve.

State regulation of ANYTHING is direct evidence of collusion and corruption by special interests pleading with the government to protect their monopolies and privileges against the onslaught of competition. Those who foolishly assume that the government should or must regulate business affairs, or anything else for that matter, are either in sympathy with the fascist corporatist oligarchy (the technical definition of the political order under which most of us now live) or they are just plain stupid for trusting those who have long proved they are unworthy of such trust.

Consider a quantum mechanics analogy. In quantum mechanics, a proton and anti-proton can be simultaneously created. They later collide and are destroyed, for no net effect. Similarly, dollars and anti-dollars (debt) are always created in matching pairs. However, the anti-dollars multiply via interest, whereas the dollars do not. Therefore, when the dollars and anti-dollars collide and cancel, there always are surplus anti-dollars left over.

This is a good analogy.

In the USA, monopolies are openly discussed as immoral.

We're supposed to laugh cynically, because this is plainly not how TPTB operate.

The Federal Reserve is the biggest monopoly of all. The Federal Reserve's monetary monopoly is more valuable than the monopoly of the State itself. By delegating its money-printing power to the Federal Reserve, the State has delegated most of its power to the Federal Reserve.

This too is correct, but perhaps FSK has never heard that allowing ANY government the right to issue money can never result in anything good, because unlike the rest of us, the government has nothing to offer anyone that anyone would willingly want to buy with which to extinguish the money it issues. True, it has the power to tax, to take by FORCE what it wants to preserve the illusion that a balance between spending and taxation can eliminate inflation, but this is a round about and expensive means to run either a government (that should at least live within its own basic charter, in the case of the US that means the original Constitution) or a diverse economy.

There are a lot of consequences of the Compound Interest Paradox.

Boom/bust cycles are not an economic law of nature. They are a consequence of an unfair monetary system. The people who control large corporations love this arrangement, because their smaller competitors are bankrupted during the bust phase; large corporations can withstand the cycle.

Correct. The VEN will officially and forever forbid absentee ownership (stocks) and limited liability, the chief features of corporate capitalism as presently experienced. If a business can make it and remain profitable it will without the government's help and if it can't it will fold, without the government's interference because somebody involved was “special,” etc.

Boom / bust cycles encourage consolidation of industries. Large corporations are the most common business, because they can most effectively withstand boom/bust cycles and lobby the State for favours.

Keep this point in mind because there is something else FSK mentions later that is also part of the problem.

Real interest rates must be negative, to ensure any money is in circulation at all. Negative real interest rates provide a massive subsidy to the financial industry and large corporations, paid by everyone else as inflation. Banks and hedge funds can borrow the cheapest, followed by large corporations. Individuals cannot borrow on favourable terms, or cannot borrow at all.

This is the other point; corporations who have members of the bank on their boards of directors, etc. are favoured customers of these banks because of their size, which means that the interest paid back to banks on loans of tremendous amounts of money, sometimes over periods as short as a day, are worth the bankers' time and expense. They do not care at all about you. They want more control over you, like the control they claim over their clients. They imagine they'll get it through their control of governments as their perpetual debtors. They do not need or want independent “black operators” out there doing great things in their local communities or smaller countries. A “black operator” in VEN parlance is a member that runs in the black, free of debt, etc. [2/5/15: Correction: A "black operator" would be someone who accepted payment in Valuns and had no additional Valuns awaiting him from Credit Contracts within the VEN.  People who sell items for money and expect a no return policy are "black operators" as operating in a "black" market where all sales are final.]

Without a gold standard (sound money), individual savings are stolen by inflation.

Ah, I see FSK has been listening to the Austrians. Heads up FSK: gold and silver prices are manipulated by brokers in far away cities who are part of the bankers' dialectic. These people also control all the mines. In the past they were manned by slaves acquired through war. The argument that “sound money” is based on gold or silver bullion is a flat out LIE! Our solution is much better in that it relegates precious metals to function as a means of exchange between our money and theirs. This does NOT mean that when you trade your dollars for gold (or silver) and then trade your gold for Value Units, that these new pieces of paper and coins (which we may officially call weights instead) are receipts for precious metals that are still your property that you may redeem for them at some future point in time. NO, you would be buying a real international standard for value measurement, which would stand alone as unaffected by that which gave it original meaning; an ounce of gold at the chosen bid price on 2 November, 2011. An individual's savings in Value Units will be assured not to loose its ability to measure value because their issuance will not be affected by government spending or the Compound Interest Paradox. This is real “sound money.”  [2/5/15: Correction: This was written a while ago and since then, we accept that laws regarding such things prohibit any coins and only those paper instances of money that bear more purchasing power than a dollar.  Some individual states have laws prohibiting any other than the national currencies from being used.  Also, all money represents unsettled transactions, so are instances of debt.  That is not the issue, but rather it is to whom the debt is rendered.  When Riegel and others regarded money as the means to split barter, they did not imply that barter itself was ever cancelled.  Money is the go between, the substitute, but barter still rules all exchange transactions.]

Income taxes and regulations prevent people from boycotting the Federal Reserve and using sound money instead.

We sincerely hope FSK gives our proposal a good look as it represents the only solution to having sound money. The Austrians and “gold bugs” are inherently misled or outright liars. Fiat currencies always fail, and the present ones out there are no exception, because they are all government issued, period! That they are issued by fiat has nothing to do with it. It's a deliberate misrepresentation to get you to keep to their dialectic.

If you develop an on-the-books alternate monetary system based on real money (gold or silver), the taxes and regulations make it impractical. Whenever someone works, Federal Reserve Points must be paid as taxes/tribute.

Well, more people will try because trade is like life itself, it will find a way.

Negative real interest rates mean that the cheapest way to finance a business is via the financial industry/State. With fair market-determined rates, growing a business via reinvested earnings is comparable/preferable to borrowing. This places individuals on an equal footing with large corporations.

We think he means that where interest rates are set by a central banking authority rather than determined by free competition, they can be set low enough to favour the biggest partners (owners) of the central bank. But the issue is a little more complicated than that because most banks will no longer lend to individuals wanting to start up or even maintain their own businesses, because there is no money in it for them; they'd rather deal with the corporations, where they have a share in the oversight if not the management.

Individuals cannot easily accumulate capital to form their own businesses. Their savings are eroded by inflation. The stock market doesn't earn a positive inflation-adjusted return. Politically connected insiders can start businesses, because their connections allow them to get funding from the financial industry. In a communist society like the USA, connections are more important than talent.

We are in agreement with this; communism and capitalism are both creations of the same people to be used as a socio-economic dialectic against everyone else. Free enterprise is NOT capitalism. I'll repeat: free enterprise is NOT capitalism. Anyone not with the fascist corporatist oligarchic programme (both capitalist and communist) are JEERED off the stage. Here's a good place to reiterate something about JEERING.

When someone doesn't value you, they jeer you, jeer your ideas, jeer anything about you, to destroy your public reputation, absolutely anything at all to move the crowd of sheeple away from paying any attention to you. Their first attempt might be a mildly condescending apology for you not knowing what they presume to know, etc. Your first defence is to recognize the jeer for what it is and identify it to those jeering you in plain and clear language. Do not try to reason with them or win them over.  You're usually wasting your time.  Try to remain cool and calm and do not raise your voice. Since their next move, if you don't get the hint, is violence, you prepare yourself for their next move. Eventually, nature will take its course. We caution however against anyone instigating violence against anyone. Let them make the first move. Try and establish yourself somewhere else if you can get away from their jeers. But power does not accommodate to any criticism, it is by its very nature conceited. We are suggesting that the seeds of their destruction are associated with their conceits. Walk away from them if you can. If you can't then you may jolly well have to fight. Always bear in mind though that they do not deserve your respect, allegiance, support or business.

Individuals cannot profitably loan each other money. If you loan money to your friends at 6%, that isn't keeping up with inflation. If you make a gold-denominated loan, that has an implied interest rate of 20%-30%; it would be cheaper to borrow from a bank.

Well, FSK is making some suppositions here because nobody really knows how anything would work outside their system. A free market rather than an artificially free one might see interest rates soar, especially if we revert to a “gold standard.” Think things are bad now?  At the bottom of the Great Depression we were on a gold standard and supposedly had "honest" money.  As I said elsewhere, since gold and silver are commodities, people tend to hold them when they think their market value (purchasing power) is going up and they unload them if they think their market value is on the way down, as many people seem to think right now.

We see it this way; buy gold and silver whenever you can and right now is as good a time as any, because you will have to get off this merry-go-round economy sooner or later, including dealing in any of its public currencies, or you may be one of the unlucky ones who find themselves without a chair in the musical chairs economy they have been running for centuries. Yes, the music does occasionally stop and they plan it that way. People tend to look backward in time and nostalgically wish we could get back to what they believe to be a better world. But those times had their own problems which led inexorably to these times. Why don't we learn from our past rather than stupidly repeating it? But without inflation, individual people could lend to each other and the terms could be reasonable.

Individuals don't have the magic money-printing power that banks have. This means that they will always be slaves of the bankers.

That is their intention.

The financial industry has a unique perk. They get to print the money that everyone else uses to trade. This guarantees that the financial industry will *ALWAYS* be about 10% of the economy.

In most developed countries their financial industry make up far more of the business than would be normative since making money with money has nothing to do with productivity or adding anything of value to the marketplace of values.  Much of it is in fact destructive of value or deliberately structured to steal value from others.

Large banks become "too big to fail". If one is forced into bankruptcy, then a bailout is *NECESSARY*, because otherwise the financial system starts to unravel. In a free market, one business' bankruptcy does not threaten the stability of its competitors, if they are prudently managed. There is no need for financial industry insiders to be concerned about negative consequences of bad decisions; there will *ALWAYS* be a Federal Reserve bailout, either directly as was the case with JP Morgan Chase and Bear Stearns, or indirectly in the form of a Fed Funds Rate cut.

Both astute and correct. This proves that insiders do control more and more of everything.

With the ability to (literally) print money, the financial industry can lobby the State for perks.

After the Supreme Court said corporations were people, they can buy government perks.

They can guarantee that reform will never occur. The insiders bought out all the TV stations and newspapers, guaranteeing their abuses will never be exposed. (The Internet is changing the equation somewhat. I predict that the Internet will enable an agorist revolution.)

Agorism, from agora

The financial industry insiders bought control of schools and universities, guaranteeing that only fake economics (Keynesian economics) and fake politics ("Taxation is not theft.") will be taught in schools. The financial industry insiders arranged for everyone else to be educated / brainwashed as slaves ("good citizens / consumers"). (Most politics courses don't even ask the question "Are taxes different from stealing?" It's an undiscussed axiom that taxes are morally acceptable.)

To FSK and any others who are just trying to find their way out of the matrix, ANY economics that allows fractional reserve banking, central banking, and especially state issuance of money is fake economics. The Keynesians and the Austrians are two sides of the same dialectic. They do not want anyone to question their religion which they pump up with all kinds of fraud concealing mathematics, snowing the public with figures, believing rightly that most people are so gullible that they believe numbers don't lie. A corollary is that if someone answers a simple question with a roundabout confusing or complicated answer, that they must really know something or are smart. Alan Greenspan was particularly good at this.

With negative real interest rates [FSK already explained how debt and issuance naturally create this, but add to that near zero official interest rates and a decline in GDP making it worse], the incentive is for banks and hedge funds to maximize their use of leverage, because this maximizes their profits. Only politically connected insiders can start a hedge fund. There is no true "free market" for hedge fund managers; they are merely a group of people highly skilled at lobbying the State for favours.

Uses of financial leverage should make everyone nervous because whenever they are used it implies someone is stealing from someone else. There wont be any of this allowed in the VEN and anyone attempting it will be tossed out for at least 5 years. I remind you all that this is to be a private organization and it will set its own rules for membership no matter what anyone else says, period!

When inflation occurs, wealth is stolen from one group of people and transferred to another group of people, the people who print the new money and spend it first.

Well of course if they don't actually print the money there are other things they can concoct to steal real assets from people. Things like mortgage backed securities and credit default swaps come immediately to mind. The first thing they do is sell them as quickly as they can because they know they will decrease in value soon enough as the fraud they enclose is discovered. Over the past several years they have even been discovered to have deliberately placed bets to take advantage of the fall in value of these “creations” that were sold to their customers. Talk about people who no longer deserve any trust!

Most new money is created by the financial industry, rather than by Federal deficit spending.

Maybe. But when an economy turns south, the government may spend money like mad to keep it afloat just a while more. When all else fails, the bankers attempt to deflect public attention away from themselves by starting a war.  Government spending as a percentage of GDP goes up as an economy dies.

Therefore, the primary beneficiary of money supply inflation is the financial industry insiders and not the government.

It may ultimately bring the government down entirely. Maybe this is their intention.

If this explanation is still too complicated, let me know. Once you understand the Compound Interest Paradox, a lot of economic problems are easier to understand. The Compound Interest Paradox is a key concept, and I agree that it should be my #1 most popular post by a wide margin.

I try to answer any serious reader questions. Pro-State trolls get annoying after awhile. Fortunately, most pro-State trolls get disgusted and leave. I'm continuing my policy of pointing out and ridiculing pro-State trolls.

A jeering contest is NOT an advisable course of action. Were I ever to run into a pro-State troll, I haven't yet except in reference to other non-financial matters, my response is to clearly state my objections and thereafter ignore them, turn your back on them, as it is your right.

David Burton