A piece by Null Hypothesis of The Oil Drum – http://www.theoildrum.com/node/10095#comment-971372
If you walk around outside you’ll see birds chirping, trees whispering, kids laughing, people driving around pretty much like normal. It looks just like it did in the 1960’s, except we have computers and nicer looking cars and TV’s now, and the smog is better. What’s so different about today that provokes Chicken Littles like me to scream that the world is about to end?
The answer to this is that our entire financial system, and its history going back at least 100 years, has been predicated on, and driven by, perpetual economic growth. That is what provides value to money. Money is literally created out of future debt, going out all the way to the 30 year Treasury Bond. People historically bought those bonds because they were reasonably confident that the economy would grow at a rate roughly equal to the bond coupon, FOR THE NEXT 30 YEARS. This growth would allow the governments and corporations that people (and other countries) bought the bonds from to be able to pay up for the next 30 years. This is what greased the wheels of the economy and provided investment incentives for all of the industries and parts of the economy providing jobs for workers. In the 1960’s, money worked, because the economy could grow.
But in 1970 the US hit Peak Oil. As a result, its economy should have begun declining because it couldn’t grow anymore. But it didn’t decline, at least to the degree one would have expected. Why not? Because there was a fundamental change to the monetary system. In 1971, the US defaulted on its gold convertibility and the dollar became a fully debt backed fiat currency. Those systems are dependent on perpetual exponential growth and they invariably, 100% of the time, blow up in hyperinflation. How did the US avoid that catastrophe? It (militarily) enforced the dollar as the world’s reserve currency, that’s how, which extended the US empire around the world and forced other countries to sell their resources (oil and manufactured gizmos) to the US in exchange for pieces of paper. That was a fundamental system change in 1971.
This only worked for a while, until what happens with all debt backed fiat currencies happened – runaway inflation. In order to keep the bond vigilantes at bay and prevent a runaway monetary collapse, in 1982 the Fed increased interest rates to about 20%. This “destroyed” the economy, but the alternative was hyperinflation which would have destroyed it as well. Back then, the economy could weather those high interest rates without completely collapsing because it wasn’t over-leveraged. And more importantly, the US still retained the world’s reserve currency, so it could run a perpetual trade deficit and CONTINUE GROWING – using other countries’ resources, who hadn’t yet hit Peak.
This 1982 shift in interest rates was another fundamental system change. Since then we have had no system change; we’ve had 30 years of the same ol’. Over this period, interest rates have gradually and steadily declined to basically nothing today as the hollowing-out US economy increasingly depended on credit money and consumerism, and its overseas military enforcing the trade deficit, to maintain GDP growth. Along with this, systemic leverage has increased – they all go hand in hand.
Now, the whole world is at Peak Oil (coal and gas may have a couple more decades), and it can no longer grow. Correspondingly, the monetary system is ceasing to function. We are now looking at another imminent system change. Interest rates cannot go any lower, government debt is spiralling out of control even at these low rates, and the financial system is beyond insolvent. Over the last few years, real buyers of US Treasuries have been declining to the point that the Federal Reserve is now openly buying about 75% of them I believe – this is direct monetization of debt, and it’s increasing exponentially. Why would anyone buy a 10 year bond returning 2% when the increase in money supply from Fed debt monetization results in a real inflation rate several times that? The monetary base has quadrupled since 2008.
There is now no “productive” monetary asset left that can provide a positive real rate of return, absent central bank manipulation of select markets, at the expense of others. Not stocks, bonds, or even cash, because deflation is being held at bay by Quantitative Easing. Because the economy can’t grow anymore! We’re at Peak Oil. Duh! How can anyone seriously expect a consistent rate of return on their investments when the real world upon which those investments are valued isn’t growing?
There is absolutely no way interest rates could rise to 5-7% without totally destroying the current financial and monetary systems; there is just too much astronomical debt in the system and hundreds of trillions of $ of interest rate derivatives. The only way we could return to a 7% interest rate environment would be if the current monetary system collapsed and we got a new one flushed clean of debt – in other words, all the savers out there would lose their savings, because on the other end of every dollar or bond saved is a debt that cannot be honoured. To all the baby-boomer nest-eggers out there expecting to retire on their stocks and bonds – I’m sorry to report to you that it will not happen. You have been duped into participating in yet more ponzi scheme RRSP’s (in Canada) or 401K’s (in the US). You are going to lose your life savings. Any residential real estate you own will get clobbered, because we all know what happens to real estate when rates rise… The economy cannot possibly grow to provide value to your (debt-based) investments that you believe represent real wealth.
Anyone who casually looks out the window and concludes that what is going in society now resembles anything close to historical norms is in for a big surprise. Look what’s happening to the gold market – the privately-owned Federal Reserve seems to be about finished selling off the American citizens’ sovereign gold, as China, India, and pretty much every other country besides N America and Europe is voraciously buying it up at these ridiculously low manipulated prices designed to provide one last desperate gasp for the US dollar. Once the gold is gone, the dollar will be rejected in international settlements, the US will no longer be able to import almost ½ the oil it consumes, rates will rise, and it will descend into darkness. We can only hope that Bernanke and the banksters still have a shred of decency left in them and have kept a small hoard of gold with which to back a new currency with – but I doubt it.
The system WILL end, and it will not end with a whimper. No statistics will be needed to determine when that transition happens. All this talk about whether total global oil production is up or down a smidgeon based on how such and such entity interprets density or energy content differences between NGL’s and crude, etc. etc — it’s all just statistical noise. It’s good for showing how we are approaching PO and why the global economy cannot continue to grow, but it isn’t PO. When PO happens, there will be no doubt in anyone’s mind that it is here.
While it’s easy for those who understand how the system works to identify that we’re near the peak of the greatest ponzi scheme in the history of the world, it’s much more difficult to predict when it will crash. We are up against VERY powerful forces who will do whatever it takes to preserve BAU… until they can’t anymore. It will not end until the world ends, at least “the end of the world” as we know it. Those in control will lose control when this happens, and the central banks are pulling one rabbit after another out of their hats to delay it. But they cannot violate the laws of physics and they are running out of rabbits, and all this is doing is further inflating the ponzi scheme which will make the inevitable collapse even worse, because every year that this continues, we are consuming more and more resources away at unsustainable rates, using artificially inflated dollars – resources that could otherwise be put towards developing renewable energy, and WOULD otherwise be left in the ground and extracted at slower rates in a normal interest rate environment – in other words, we’d be clearly beyond PO right now if it weren’t for central bank manipulation of the monetary system.
And the whole time up until the system crashes, those predicting this outcome will get ridiculed by those who don’t understand how the system works, who don’t see the fundamentals which undeniably point to an imminent “end of the world”. But when it does happen, those deniers will lose their shirts (like in 2008), and those who correctly position themselves will make a killing (like those shorting the stock markets in 2008).
And while it might be tempting for the Chicken Littles to do some “told ya so” ing afterwards, it will provide little satisfaction because it will be too late – the world will be on its downward spiral. And the naysayers taunting the doomers will mysteriously vanish into the woodwork, just like they always do after every ponzi scheme crashes.
The doomers WILL be vindicated, and I would hazard a guess that it will be happening fairly soon. But I am not a central banker, so I cannot predict exactly when. I hope this post goes into TOD’s archives as one of the last summaries wrapping the whole theme together, an attempt to bring the financial and energy systems together, something I wish TOD had spent more time focussing on when it was still alive. It’s given up having covered only half the story. -