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XMFSinchiruna (26.52)

Federal Reserve sets stage for Weimar-style Hyperinflation



December 15, 2008 – Comments (20)

Just passing this along to my fellow Fools. :) For your consideration ...

About F. William Engdahl

Federal Reserve sets stage for Weimar-style Hyperinflation

F. William Engdahl
Dec 15, 2008

The Federal Reserve has bluntly refused a request by a major US financial news service to disclose the recipients of more than $2 trillion of emergency loans from US taxpayers and to reveal the assets the central bank is accepting as collateral. Their lawyers resorted to the bizarre argument that they did so to protect 'trade secrets.' Is the secret that the US financial system is de facto bankrupt? The latest Fed move is further indication of the degree of panic and lack of clear strategy within the highest ranks of the US financial institutions. Unprecedented Federal Reserve expansion of the Monetary Base in recent weeks sets the stage for a future Weimar-style hyperinflation perhaps before 2010.

On November 7 Bloomberg filed suit under the US Freedom of Information Act (FOIA) requesting details about the terms of eleven new Federal Reserve lending programs created during the deepening financial crisis.

The Fed responded on December 8 claiming it's allowed to withhold internal memos as well as information about 'trade secrets' and 'commercial information.' The central bank did confirm that a records search found 231 pages of documents pertaining to the requests.

The Bernanke Fed in recent weeks has stepped in to take a role that was the original purpose of the Treasury's $700 billion Troubled Asset Relief Program (TARP). The difference between a Fed bailout of troubled financial institutions and a Treasury bailout is that central bank loans do not have the oversight safeguards that Congress imposed upon the TARP. Perhaps those are the 'trade secrets the hapless Fed Chairman, Ben Bernanke, is so jealously guarding from the public.

Coming hyperinflation?

The total of such emergency Fed lending exceeded $2 trillion on Nov. 6. It had risen by an astonishing 138 percent, or $1.23 trillion, in the 12 weeks since Sept. 14, when central bank governors relaxed collateral standards to accept securities that weren't rated AAA. They did so knowing that on the following day a dramatic shock to the financial system would occur because they, in concert with the Bush Administration, had decided to let it occur.

On September 15 Bernanke, New York Federal Reserve President, Tim Geithner, the new Obama Treasury Secretary-designate, along with the Bush Administration, agreed to let the fourth largest investment bank, Lehman Brothers, go bankrupt, defaulting on untold billions worth of derivatives and other obligations held by investors around the world. That event, as is now widely accepted, triggered a global systemic financial panic as it was no longer clear to anyone what standards the US Government was using to decide which institutions were 'too big to fail' and which were not. Since then the US Treasury Secretary has reversed his policies on bank bailouts repeatedly leading many to believe Henry Paulson and the Washington Administration along with the Fed have lost control.

In response to the deepening crisis, the Bernanke Fed has decided to expand what is technically called the Monetary Base, defined as total bank reserves plus cash in circulation, the basis for potential further high-powered bank lending into the economy. Since the Lehman Bros. default, this money expansion rose dramatically by end October at a year-year rate of growth of 38%, has been without precedent in the 95 year history of the Federal Reserve since its creation in 1913. The previous high growth rate, according to US Federal Reserve data, was 28% in September 1939, as the US was building up industry for the evolving war in Europe.

By the first week of December, that expansion of the monetary base had jumped to a staggering 76% rate in just 3 months. It has gone from $836 billion in December 2007 when the crisis appeared contained, to $1,479 billion in December 2008, an explosion of 76% year-on-year. Moreover, until September 2008, the month of the Lehman Brothers collapse, the Federal Reserve had held the expansion of the Monetary Base virtually flat. The 76% expansion has almost entirely taken place within the past three months, which implies an annualized expansion rate of more than 300%.

Despite this, banks do not lend further, meaning the US economy is in a depression free-fall of a scale not seen since the 1930's. Banks do not lend in large part because under Basle BIS lending rules, they must set aside 8% of their capital against the value of any new commercial loans. Yet the banks have no idea how much of the mortgage and other troubled securities they own are likely to default in the coming months, forcing them to raise huge new sums of capital to remain solvent. It's far 'safer' as they reason to pass on their toxic waste assets to the Fed in return for earning interest on the acquired Treasury paper they now hold. Bank lending is risky in a depression.

Hence the banks exchange $2 trillion of presumed toxic waste securities consisting of Asset-Backed Securities in sub-prime mortgages, stocks and other high-risk credits in exchange for Federal Reserve cash and US Treasury bonds or other Government securities rated (still) AAA, i.e. risk-free. The result is that the Federal Reserve is holding some $2 trillion in largely junk paper from the financial system. Borrowers include Lehman Brothers, Citigroup and JPMorgan Chase, the US's largest bank by assets. Banks oppose any release of information because that might signal 'weakness' and spur short-selling or a run by depositors.

Making the situation even more drastic is the banking model used first by US banks beginning in the late 1970's for raising deposits, namely the acquiring of 'wholesale deposits' by borrowing from other banks on the overnight interbank market. The collapse in confidence since the Lehman Bros. default is so extreme that no bank anywhere, dares trust any other bank enough to borrow. That leaves only traditional retail deposits from private and corporate savings or checking accounts.

To replace wholesale deposits with retail deposits is a process that in the best of times will take years, not weeks. Understandably, the Federal Reserve does not want to discuss this. That is clearly also behind their blunt refusal to reveal the nature of their $2 trillion assets acquired from member banks and other financial institutions. Simply put, were the Fed to reveal to the public precisely what 'collateral' they held from the banks, the public would know the potential losses that the government may take.

Congress is demanding more transparency from the Federal Reserve and US Treasury on its bailout lending. On December 10 in Congressional hearings by the House Financial Services Committee, Representative David Scott, a Georgia Democrat, said Americans had 'been bamboozled,' slang for defrauded.

Hiccups and Hurricanes

Fed Chairman Ben S. Bernanke and Treasury Secretary Henry Paulson said in September they would meet congressional demands for transparency in a $700 billion bailout of the banking system. The Freedom of Information Act obliges federal agencies to make government documents available to the press and public.

In early December the Congress oversight agency, GAO, issued its first mandated review of the lending of the US Treasury's $700 billion TARP program (Troubled Asset Relief Program). The review noted that in 30 days since the program began, Henry Paulson's office had handed out $150 billion of taxpayer money to financial institutions with no effective accountability of how the money is being used. It seems Henry Paulson's Treasury has indeed thrown a giant 'tarp' over the entire taxpayer bailout.

Further adding to the troubles in the world's former financial Mecca, the US Congress, acting on largely ideological grounds, shocked the financial system when it refused to give even a meager $14 billion emergency loan to the Big Three automakers - General Motors, Chrysler and Ford.

While it is likely that the Treasury will extend emergency credit to the companies until January 20 or until the newly elected Congress can consider a new plan, the prospect of a chain-reaction bankruptcy collapse of the three giant companies is very near. What is being left out of the debate is that those three companies account for a combined 25% of all US corporate bonds outstanding. They are held by private pension funds, mutual funds, banks and others. If the auto parts suppliers of the Big Three are included, an estimated $1 trillion of corporate bonds are now at risk of chain-reaction default. Such a bankruptcy failure could trigger a financial catastrophe which would make what has happened since Lehman Bros. appear as a mere hiccup in a hurricane.

As well, the Federal Reserve's panic actions since September, by their explosive expansion of the monetary base, has set the stage for a Zimbabwe-style hyperinflation. The new money is not being 'sterilized' by offsetting actions by the Fed, a highly unusual move indicating their desperation. Prior to September the Fed's infusions of money were sterilized, making the potential inflation effect 'neutral.'

Defining a Very Great Depression

That means once banks begin finally to lend again, perhaps in a year or so, that will flood the US economy with liquidity in the midst of a deflationary depression. At that point or perhaps well before, the dollar will collapse as foreign holders of US Treasury bonds and other assets run. That will not be pleasant as the result would be a sharp appreciation in the Euro and a crippling effect on exports in Germany and elsewhere should the nations of the EU and other non-dollar countries such as Russia, OPEC members and, above all, China not have arranged a new zone of stabilization apart from the dollar.

The world faces the greatest financial and economic challenges in history in coming months. The incoming Obama Administration faces a choice of literally nationalizing the credit system to insure a flow of credit to the real economy over the next 5 to 10 years, or face an economic Armageddon that will make the 1930's appear a mild recession by comparison.

Leaving aside what appears to have been blatant political manipulation by the present US Administration of key economic data prior to the November election in a vain attempt to downplay the scale of the economic crisis in progress, the figures are unprecedented. For the week ended December 6 initial jobless claims rose to the highest level since November 1982. More than four million workers remained on unemployment, also the most since 1982 and in November US companies cut jobs at the fastest rate in 34 years. Some 1,900,000 US jobs have vanished so far in 2008.

As a matter of relevance, 1982, for those with long memories, was the depth of what was then called the Volcker Recession. Paul Volcker, a Chase Manhattan appendage of the Rockefeller family, had been brought down from New York to apply his interest rate 'shock therapy' to the US economy in order as he put it, 'to squeeze inflation out of the economy.' He squeezed far more as the economy went into severe recession, and his high interest rate policy detonated what came to be called the Third World Debt Crisis. The same Paul Volcker has just been named by Barack Obama as chairman-designate of the newly formed President's Economic Recovery Advisory Board, hardly grounds for cheer.

The present economic collapse across the United States is driven by the collapse of the $3 trillion market for high-risk sub-prime and Alt-A home mortgages. Fed Chairman Bernanke is on record stating that the worst should be over by end of December. Nothing could be farther from the truth, as he well knows. The same Bernanke stated in October 2005 that there was 'no housing bubble to go bust.' So much for the predictive quality of that Princeton economist. The widely-used S&P Schiller-Case US National Home Price Index showed a 17% year-year drop in the third Quarter, trend rising. By some estimates it will take another five to seven years to see US home prices reach bottom. In 2009 as interest rate resets on some $1 trillion worth of Alt-A US home mortgages begin to kick in, the rate of home abandonments and foreclosures will explode. Little in any of the so-called mortgage amelioration programs offered to date reach the vast majority affected. That process in turn will accelerate as millions of Americans lose their jobs in the coming months.

John Williams of the widely-respected Shadow Government Statistics report, recently published a definition of Depression, a term that was deliberately dropped after World War II from the economic lexicon as an event not repeatable. Since then all downturns have been termed 'recessions.' Williams explained to me that some years ago he went to great lengths interviewing the respective US economic authorities at the Commerce Department's Bureau of Economic Analysis and at the National Bureau of Economic Research (NBER), as well as numerous private sector economists, to come up with a more precise definition of 'recession,' 'depression' and 'great depression.' His is pretty much the only attempt to give a more precise definition to these terms.

What he came up with was first the official NBER definition of recession: Two or more consecutive quarters of contracting real GDP, or measures of payroll employment and industrial production. A depression is a recession in which the peak-to-bottom growth contraction is greater than 10% of the GDP. A Great Depression is one in which the peak-to-bottom contraction, according to Williams, exceeds 25% of GDP.

In the period from August 1929 until he left office President Herbert Hoover oversaw a 43-month long contraction of the US economy of 33%. Barack Obama looks set to break that record, to preside over what historians could likely call the Very Great Depression of 2008-2014, unless he finds a new cast of financial advisers before Inauguration Day, January 20. Required are not recycled New York Fed presidents, Paul Volckers or Larry Summers types. Needed is a radically new strategy to put virtually the entire United States economy into some form of an emergency 'Chapter 11' bankruptcy reorganization where banks take write-offs of up to 90% on their toxic assets, that, in order to save the real economy for the American population and the rest of the world. Paper money can be shredded easily. Not human lives. In the process it might be time for Congress to consider retaking the Federal Reserve into the Federal Government as the Constitution originally specified, and make the entire process easier for all. If this sounds extreme, perhaps revisit this article in six months again.


15 December, 2008
F. William Engdahl

20 Comments – Post Your Own

#1) On December 15, 2008 at 6:47 PM, alstry (< 20) wrote:

Needed is a radically new strategy to put virtually the entire United States economy into some form of an emergency 'Chapter 11' bankruptcy reorganization where banks take write-offs of up to 90% on their toxic assets, that, in order to save the real economy for the American population and the rest of the world.

It's nice to see that there are some others that are actually thinking.  Now let's hope the right people are listening.

Pretty amazing.  We are giving the banks trillions of our tax dollars and paying them interest to boot.  Then they are turning around and foreclosing on our citizens.  Makes want want to say Hmmmmmmmmmmmmmmmmm.

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#2) On December 15, 2008 at 6:53 PM, Option1307 (30.80) wrote:

Interesting article to say the least...Thanks for the post.

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#3) On December 15, 2008 at 8:15 PM, abitare (29.72) wrote:

Pretty amazing really, I bought more physical gold and hard assets last week.

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#4) On December 15, 2008 at 9:01 PM, GNUBEE (< 20) wrote:

Thanks Sinchi, I was actually having a pretty good day up until reading this. Seems that the ominous "live in interesting times" proverb may become a very vivid reality

So what's the average Joe to do?

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#5) On December 15, 2008 at 9:49 PM, binv271828 (< 20) wrote:

As always, good post :)

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#6) On December 15, 2008 at 10:35 PM, SirMikhail (< 20) wrote:

Well, there are some logical problems here. During hyperinflation, if it ever happens, real estate prices will go sharply up in nominal dollars. It is impossible for housing prices to continue to drop and to have hyperinflation at the same time. Hyperinflation can quickly create a cup of coffee for $200,000 or for $20,000,000 (just look at German hyperinflation history). Then, it would be impossible for housing prices to be low. Nobody, in healthy mind, will sell a house for the price of a cup of coffee. Real estate is probably one of the best hedges during hyperinflation.

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#7) On December 15, 2008 at 10:45 PM, kwl1763 (70.06) wrote:

Mostly agree but I do think this all this stimulus while causing massive inflation later (we totally agree on that)  will help us avoid this very great depression.  It's undeniable whether you think this is a short recession, long recession, depression or big depression this printing press that is attempting to stem the issues will cause inflation and a dramatic weakening of the USD.  It's a matter of when not if.  Personally I'm long Yen and will most likely stay there for a while.  I have also begin to begin buying rental property again (I had been out of it for 3 years) as I think these will be excellent hedges against the massive inflation we'll see in 2-5 years!

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#8) On December 16, 2008 at 12:05 AM, semper77 (< 20) wrote:

I agree with SirMikhail. While I appreciate the post and found it enlightening in certain regards (particularly the fact that 25% of all corporate bonds are issued by the Big 3- I didn't know that), I think this article falters when it presents all the impending horrible events awaiting the U.S. without even pausing to suggest some of its counterbalancing economic implications.

In addition to the real estate point mentioned by SirMikhail above, the article completely disregards the fact that the devaluation of the U.S. currency would eventually work to make U.S. workers more cost competitive with their overseas counterparts. This would have the affect of bringing jobs and industry back to the U.S.

Regarding Volcker, the article dwells on his inflation fighting of the 1980s like what he did was a bad thing. Never once does it mention the fact that it was Volcker's slaying of the inflation beast that laid the groundwork for the 18 subsequent years of economic growth.

And to assume that Volcker's presence on the Obama team suggests the same anti-inflationary stance that he had in 1982 is ridiculously myopic. The problem of the moment isn't inflation, its DEFLATION (which is a MUCH greater threat). I'm sure Volcker is very aware of this.

All of this is to underscore a very basic point - yes, things are bad right now, we get that. And yes, the Armageddon scenario is a very fashionable one to advocate. But when presenting a purported "glimpse into future," paint us the whole picture - the whole cause-effect scenario. In the absence of this, I can't take the article's conclusion seriously.

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#9) On December 16, 2008 at 1:18 AM, QualityPicks (69.19) wrote:

The US is now paying less in interests even though it owes more money, thanks to deflation that is lowering interest rates. Savers, who hold cash have been punished for many years for being responsible, as their money loses value, will benefit from deflation. Once home prices become cheap, new home buyers will benefit by being able to buy a house and still have money left to save for retirement.

Deflation could be just what the doctor ordered for the US economy. A tough medicine at first, but good eventually. Hyperinflation would occur if the banks get healthy and are able to start lending again. That doesn't seem likely to me at the moment.

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#10) On December 16, 2008 at 9:11 AM, engstocker (45.06) wrote:

Quality Picks

 AMEN, bring on the deflation. It's about time to reward the people who save and make the people who have been living beyond their means reap what they have sewn.

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#11) On December 16, 2008 at 9:44 AM, XMFSinchiruna (26.52) wrote:


Excellent comments .. I agree about Volcker, and I concede that as complex as these issues are, anyone presenting a treatise of sorts must build the case in full.


Sorry for the downer. :)  

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#12) On December 16, 2008 at 1:10 PM, XMFSinchiruna (26.52) wrote:

Another blogger's view on the Inflation / Deflation question

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#13) On December 16, 2008 at 1:25 PM, oiltrader55 (< 20) wrote:

Very good piece. Kathy Lien also had a good piece about what to expect from the Fed today and the impact on the USD.


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#14) On December 16, 2008 at 1:33 PM, engstocker (45.06) wrote:

I copied this directly from the blog TMFSinchiruna referenced because I have also thought the same thing. WWII undoubtedly got us out of the great depression by huge deficit spending.  I'd like to hear any comments on why this did not lead to mass or hyperinflation.  Jake Peachey said...

It seems theoretical intellectualism is the comforting process of taking real-world complexity to a simplified and reduced size; --allowing quicker and easier comprehension -- even though these theories are most likely to be wrong because theory cannot account for all real world complexity (The "sciences" of humanities including theories of economics and finance) 
We acquire a certain base theoretical framework externally --- that big picture outline--- for organizing the details into a seemingly coherent whole. After personal modification suitable to our temperament and aptitudes, we love the edifice of our theoretical creation --- never mind if facts contradict.
Now, try to see if these solid historical facts can be explained within the theoretical framework that guides your perspective.
In spite of all the circumlocution and commotion by President Roosevelt, the 1930s President never came close to ending the depression economy. The massive deficit spending of World War II did end the depression economy and set it upon the road to postwar prosperity. 
Consider World War II from an economic viewpoint. It was a huge public works operation financed by unprecedented deficit spending. It commandeered the productive capacity of this country and then destroyed this production in the battlefield. Why didn't this bankrupt the country? Theoretically, an operation like that should have bankrupted the country like a "closed system" business operation would have been bankrupted. (Fortunately, free-market capitalism at the macroeconomic level is "open system")
One can only imagine the derision and criticism had anyone of stature, in the 30s, proposed such a program to end the depression economy. But there's no denying that World War II deficit spending did do it. Until one has a theoretical framework that can satisfactorily explain why World War II, not only did not bankrupt the country, but was the key factor in economic recovery --- all one can do is bewail the problem without offering any solutions that will work.
"Open system" perspective:

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#15) On December 16, 2008 at 3:20 PM, outoffocus (22.96) wrote:

I would like to present a theory as to why WWII did not bankrupt the country. There are a few main factors that existed in WWII times that do not exist today. 

1.A strong middle class:  I often say that the US can not have a healthy economy without the middle class. The middle class is the backbone of this country.  They produce and consume. They work various jobs and own many small businesses. They hire people and care about their well being. Back then the middle class generally had 1 working parent, a house with a reasonable mortgage (or no mortgage at all), and enough for the basics. The middle class had savings. Back then we depended on the middle class to build this country.

2. A manufacturing base.  Back in WWII America actually produced items that were sold outside of this country.  We didnt just sell weapons, we sold food, clothing, cars, capital assets, so on and so forth.  Therefore we were recieving capital inflows from other countries.  We weren't exporting jobs, we were exporting products.

Today instead of building the country, we want the middle class to spend its way out of America's problems.  The flaw with that theory is the middle class has no more money to spend. We are all leveraged to the hilt.  Throwing more debt at us will not save our balance sheets.  Also, the middle class is not producing anything tangible. We are all working some cubicle job with our overpriced college degrees shoving paper around  hoping for a promotion (or in many cases, waiting for a pink slip).

The middle class has been shrinking for years and no one is making a fuss of it.  Unless the money is in the hands of the people (in the form of real wealth, not debt) we are heading for mass hyper inflation.  The good news is, like a previous poster stated, it will make labor in this country cheap again and bring more jobs back in the US.  But the bad news, the part that will hurt us all, is that Americans will face a huge adjustment downward on their standard of living.  Its going to get ugly folks....

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#16) On December 16, 2008 at 3:21 PM, abitare (29.72) wrote:

FYI- Tehran News? I report you decide.


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#17) On January 11, 2009 at 10:57 PM, trytothink1st (< 20) wrote:

I would like to present a theory as to why WWII did not bankrupt the country. There are a few main factors that existed in WWII times that do not exist today.

#1.) Europe was blown to bits... Germany was blown to bits... Russia was blown to bits... Japan was blown to bits... China didn't matter...

 The US was able to manufacture and export to the ROW...(Rest of World) (Fruits of Our Labor)

 The WWII cost/GDP was absorbed by this fact... only... we collected the victor's spoils...

 Hmmmmm....???? (Arsenio)  Will there be a WWIII if we (the US) needs it to dig out of this... or a worse mess?




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#18) On July 13, 2009 at 9:09 AM, Tudd (< 20) wrote:

It's nice to see that there are some others that are actually thinking.  Now let's hope the right people are listening.Best online marketing tips with high speed internet phone service.

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#19) On October 07, 2009 at 6:18 AM, biladam (< 20) wrote:

His research is authenticated and now lets see what will be affect of this article. I was looking for a website design completed related to tis industry related so that i can compile a book on this topic fo rmy research work. I would to share his introduction

"F. William Engdahl is author of A Century of War: Anglo-American Oil Politics and the New World Order (Pluto Press) and Seeds of Destruction: The Hidden Agenda of Genetic Manipulation ( His newest book, Full Spectrum Dominance: Totalitarian Democracy in the New World Order (Third Millennium Press) is due out early in 2009."

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#20) On September 02, 2010 at 11:52 AM, davidgarso (< 20) wrote:

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