Why the Current Financial System Will Blow Up, and What You Can Do About It

Once a central banker, always a central banker…

Former Reserve Bank Governor Bernie Fraser reckons the economy and consumer confidence need a boost. The only way to do so, apparently, is via an interest rate cut.

Gee, Bernie, what happened to all the former confidence boosting interest rate cuts? They didn’t work. What makes you think this one will be any different? What about the confidence sapping effect on all the people who rely on income to support themselves?

Seriously, the one-dimensional thinking of these clowns knows no limits. Here’s some more genius from Bernie…or should that be genii…there’s just so much of it? Quoted from arf.com:

‘The bank is going to have to do something over the next few months and I’ve always thought that you get a bit more of an impact on confidence if you get in ahead of the market. When everyone and his dog expects an increase or reduction and it duly comes you lose the impact.’

Errr…the market has rallied for something like nine days straight on the prospect of an interest rate cut today. There is already a fair expectation that it’s on the cards. The surprise would be if it didn’t happen.

By the way, if you didn’t already know, today is interest rate decision day. It’s a pretty big deal in a debt soaked economy built on Ponzi finance. The nations’ savers are but mere chopped liver on the first Tuesday of every month. It’s the debtors, speculators and rent seekers who we cheer for.

If the Reserve Bank of Australia does reduce the official rate this afternoon, there will be a legion of real estate agents furiously thumbing a text of the news to clients, telling them how good this will be for the property market…like we need another increase in the cost of basic shelter.

From an economic perspective, there is no urgent need to deliver an interest rate cut right now. The effect on confidence, if any, would be fleeting. Sorry Bernie.

The big drop in petrol prices and the sharp fall in the dollar have already provided a shot of stimulus to the economy over the past few months.

The RBA would be better off to sit back and keep its powder dry, as the saying goes…because it’s going to need it as the year unfolds.

And it’s not like our relatively high rates are putting upward pressure on the dollar. The Aussie currency has fallen like a stone recently. It’s now trading at just over US$0.78, down from $US0.95 just six months ago.

However, from a market perspective, the interest rate decision is a little more complicated. Financial markets have voted, and they’re betting on a cut today. This is because either the RBA leaked the decision a few weeks ago, or markets are just aggressively positioning for what they know is inevitable.

Either way, it’s a close call. If this were the Fed, a cut would be a forgone conclusion. They are beholden to financial markets and the big banks, and everyone knows it.

But judging from the language used by Glenn Stevens in recent months, a cut is not guaranteed today. Which is why I maintain that rates will remain on hold, if only for a little longer.

If he does cut, he runs the risk of damaging the bank’s credibility and the purpose of their communications policy. That is, Stevens has previously said the language in the statement would change ahead of any rate moves. It would suggest a whiff of panic in the air, something he has expressly argued against fostering.

Whatever happens, the only thing you can be sure of is that savers will continue to suffer at the expense of the debtors and rent seekers. That’s the only path this economy knows.

Interest rates have been on a downward trend for the past few decades in Australia. The terms of trade boom supported a brief counter trend rise in rates throughout most of the 2000s, but as you can see in the chart below, rates (both real and nominal) have been falling since the early 1990s recession.

This secular decline in interest rates has produced record debt levels and record high house prices (that’s not a coincidence), a structurally deformed economy and, now, handwringing about its future.

It should be clear to anyone that lower interest rates are not the answer. Yet it is the answer because that’s the system of finance we’re all trapped in.

This is how it works: Reduce interest rates to increase demand and asset prices (‘wealth’), which after a time results in increased pressure on household finances, the solution to which is lower interest rates. And so it keeps on going.

This is a global problem, not just unique to Australia. And it will result in a global crisis far worse than 2008 because no one wants to do anything about it.

Actually, that’s not true. Greece has had enough. It’s lived the crisis for the past five years. They’re sick of being in a debt-deflationary spiral. They know more debt and more ‘bailout’ funds is not the answer to regaining economic health.

But the problem here is that their creditors don’t care. They are not going to let Greece off the debt hook because it would be ‘politically unacceptable’. Ignore the fact that the bailout funds let the original lenders off the hook and transferred the risk to taxpayers, which is now creating the impasse.

Put simply, the post-Bretton Woods global financial system has reached its use by date. It’s now going off…mould and fungus are starting to gather around the edges.

But that won’t stop the politicians and the central bankers from making you eat from the rotten jar. They know no other system that protects and promotes them so well.

Indeed, this is probably one of the best systems of plutocracy history has ever known. But these systems never last. They are unnatural, and the forces of nature will correct them.

When though? When does this madness end? No one knows the answer to that, but I can give you a clue.

That is, let the market tell you. The late, great investor Barton Biggs wrote a book a few years ago called War, Wealth and Wisdom. Amongst other things, he showed how the British stock market predicted the allied victory in WWII years before it was apparent or assured.

In the same way, if you know where to look, you can let the market tell you what’s coming for our smelly old financial system.

That’s what I try to do each week in the recently revamped version of Sound Money. Sound Investments.  With the help ofQuant Trader and expert chartist Jason McIntosh, I focus on what the market is saying by interpreting price action along with fundamental developments.

It’s less about what I think and more about what the market is saying. In a system this complex, no one person knows what is going on. It’s folly to think that you do.

If you’re prepared to put your personal bias aside and look at a different way of thinking about the markets, you can check it out here.

Greg Canavan,
for The Daily Reckoning Australia

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