Associated Press reporter, Bernard Condon, wrote an interesting piece this morning. My local paper, the San Ramon Valley Times, headline was “Once-hot profits may be cooling for big business.” The US. News and Word Report picked up the article as, “Corporate profits aren’t what they seem.” The subtitle is the telling point. Growth appears to ebb as firms find less to cut, dollar strengthens.
This is a good article because the author correctly brings to light that the once mighty engine of America’s prosperity is faltering. It is not a great article because the author misses the real cause of the decline in profits, and like most others,misses the point that we critically need to understand in order to rectify the real problem. America’s prosperity engine faltered quite a while ago. We have been living on years of the banks and the Federal Reserve, steadily increasing the amounts of money in circulation with no regard for real value. While many of us feel like we have prospered because we have continued to get more money and buy more stuff, the amount of our “prosperity” has not kept up with our spending and has left us a very large hole to fill. As my brother-in-law, who was a farmer and a waterman, used to say, “It ain’t no good to want them Cadillacs when you can barely afford one of them Ford Pintos.”
As you have seen me report many times before. We have raised the total amount of money in circulation from $500 billion in 1972 to over $16 trillion today with no real and equal corresponding increase in the total asset value of the U.S. As a result, we have drastically increased the perception of constantly rising profits, because we have simply increased the amount of the benchmark item, U.S. Dollars, that we use to measure our worth. Lest we start to think that perhaps we really have increased the relative net worth of all the value of the U.S. in excess of thirty-five times since 1972, let us remember that we have been buying from other countries much more than we have sold to the other countries since 1972 accumulating over $12 trillion in trade deficits. In other words, our collective house spent $12 trillion more than it took in in the same period.
Thank God for the banks, huh? Their ten-to-one fractional-reserve lending system, and the Fed’s ability to just inject whatever amount of cash was necessary into the banks to make everyone feel like they were earning more money and getting richer has really saved the day—don’t you think?. Without the drastic program of printing new money with no governing checks and balances, we would have faulted long ago—right? It’s just a great thing that they could keep printing money with no real tie to tangible values—wasn’t it?
So in case you did not clearly get the sarcasm… NO, it was not good! In fact, our economy did fault long ago. We have been living on dreams, wishes and baseless valuations for at least forty years. Depending on how you consider the issues, the problems that caused our decline could be argued to trace back almost seventy years.
In order to conceptually grasp the issue let us simplify the problem. Let us go back in time to when there were just a few settlements in America. In this hypothetical example I will use a place near and dear to my heart, St. Mary’s, Maryland founded in 1632. In our hypothetical example, the year is now 1636. The colony has grown to 100 people. The money was Maryland dollars that were acceptable in England at an exchange rate set in agreement between the King and Lord Calvert—the founder of the Maryland Colony. (yes, I know this is not historically accurate, none of it is, this is all made up to illustrate a point). There were only a total of $10,000 printed Maryland dollars available to the residents of St. Mary’s, there was no credit, no electronic money, and no barter.
Since they had been living in the area, they had been focused on building out their community. As such, they had harvested resources like trees, clay, iron, etc., and converted those into lumber, bricks and nails to build their structures. They had planted and harvested crops, hunted and raised animals for food and generally eked out a basic existence. While they had been able to make many things, they had had to purchase as many more through Lord Calvert’s Maryland Company to vendors back in England. Items like dishes, glasses and tankards, patent medicines, fine tools, cloth, clothing, and many others had to be ordered and shipped from other countries to the Maryland colonists.
Since they had been completely consumed with building the infrastructure they need for basic survival, they had yet to develop any industry. They had , as yet, had no excess production of any kind and as such they had been sending their money to England to pay for their goods and, had not sold anything to England to bring these dollars back to the colony. Pretty soon, the colony had spent almost the entirety of their $10,000 Maryland dollars in England and there were only a few hundred Maryland dollars left collectively among all the colonists.
The leaders in St. Mary’s called a meeting of the town to discuss what to do about the pending disaster. In the meeting a member of the town council, Mr. John Connally—a pig farmer and great speaker, suggested they use their last $300.00 to buy a printing press. Then they could print more dollars and they would be able to pay for more goods in England and avoid the pending crisis. Since, Mr Connally’s words were so well spoken and the solutions seemed so simple almost all immediately agreed. All, that is, except Mr. Burns—a clerk, who said that he was concerned that this would not work. As he began to explain his concern, the Governor, Mr. Nixon, interrupted him, told him they would proceed with the purchase since the majority had agreed, and that Mr. Burns would now report directly to Mr. Connally with any of his concerns. Mr. Connally would not longer be a pig-farmer, he would now be in charge of all the money.
The printing press was ordered from the Gutenberg company in Germany, it arrived in time and all seemed to be working perfectly. Mr. Connally, no longer a pig farmer was now the chairman of the central bank and was printing money as fast as it was needed. The new money was going to England to buy goods and everything looks just hunky dory. By about the third purchase of goods in England, with about $2,000 in new money printed and sent to England to pay for the purchases, the settlers were informed that the prices of the goods were going up by 25%. No matter, said Mr. Connally, I will print us some more money and again all will be right with the world. A few months later, another $2,000 is put in circulation, more goods are purchased and the price once again increased by 25%. Again, Mr. Connally printed $2,000 more, they bought even more goods and the prices went up another 25%.
Every time, they got to the point that only $300.00 was remaining, Mr. Connally printed another $2000. All the people were happy! They had been able to buy bigger windows, more and better china, flat screen TVs, new sound systems, GPS for their fishing boats and buggies. They were starting to really feel like they had finally arrived. With all the building and purchasing they still had not gotten around to producing much to sell back to England. In fact, they now wanted to get some indentured servants to do the manual labor because working in the fields, on the water, in the brick yards, and the forests, was hard dirty work and the constant tracking of dirt and grime into their new larger and much finer homes was making their new furniture, and clothing dirty, uncomfortable, and it wore out much faster. The women-folk were getting tired of keeping up these bigger homes and their nice clothing really did not lend it self to domestic work. They wanted more time to get together with the other women-folk to discuss new ways to improve their lives even further. It became fait a’ compli that now that they had money, they could simply get some immigrant workers to do all the hard and dirty work. Getting these indentured servants from other countries, who will be glad just to get out of their slums, would free the colonists and their wives to focus on this productivity thing, that they needed to do, and they wouldn’t have their fine homes and goods soiled and and their wives wouldn’t get so worn out. Evey one was much happier!
Sometime in early 1639, Lord Calvert was informed that his company had in their safe $26,700 Maryland Dollars. Lord Calvert was now very concerned because he had no idea where the extra money came from. His deal with the crown was that Maryland could have $10,000 and the King would back that against 10,000 ounces of gold. That meant that each Maryland Dollar was worth one ounce of gold. The King only provided the 10,000 ounces of gold, no more and no less. Calvert was responsible for any other costs. As the Marylander’s demand for goods increased, the vendors in England charged more so he was getting less and spending more dollars, this was a big problem because the difference was coming out of his pocket. His accounts were in effect making up the short fall and he was losing big money. Let’s take a look at his calculations;
Lord Calvert’s Accounting
|Kings Gold in oz.
|Exchange Rate in oz. of Gold
|Demand Price Inflation
|Lord Calvert’s Loss in Gold oz.
So Lord Calvert books the first ship he can find to come visit the good citizens of Maryland and find out what the hell is going on. When he gets there he finds out about the press, the the leaders decisions. He is told by the citizens about how great everything is going. He sees that they have bigger houses, servants, Flat Screens, GPS systems, he is told how all this is helping production. He sees the new servants toiling away and while he initially was pissed, he starts to see that it may all work out. Feeling comfortable, he books passage back to England, and tells his partners and the King don’t worry these guys got it all together. This is going to be just great! You should see all the fine stuff they have, all the people working in the fields and factories. They are going to do just great. We will have so much new stuff to sell back here in England, we will all be rich!
Then the goods start to arrive from Maryland; tobacco, corn, pork bellies, cotton, iron, and many more. Initially, the people of England purchase everything they can get because it is all new and hey, it is from Maryland and everybody knows those guys got it goin’ on! But then it all starts to unravel. First with tobacco. New plantations in other places, like Virginia, start to grow more of it. And their quality is just as good and the cost is much cheaper because they are not paying the laborers as much. Soon no one wants to buy Maryland tobacco. Rapidly the costing problem extends to the other products as well. Fisheries, Lumber, Grain, Steel, Textiles, Oil, and the other core exports from Maryland stop selling because they are too expensive. Even the people in Maryland are importing some of the same goods from the other places because they cant afford to buy the stuff they are producing. And it is all getting paid with the dollars they are freely printing.
The next thing Lord Calvert knows, no one wants Maryland goods nor Maryland dollars. They all want to redeem their Maryland dollars for something that has real value. Now, there are over $934,500 Maryland dollars in circulation around the world and Lord Calvert has to come up with gold, or something just as valuable, to pay everybody back for the now worthless dollars they have. When all is said and done he has to come up with 1,158,124 ounces of gold, plus he has to pay back the King an additional 10,000 ounces of gold plus interest. Lord Calvert feels perfectly and totally screwed!
He agrees to “lend” the Marylanders the gold to pay for the debt. Since he is on the hook anyway he has no real choice. The Marylanders agree to pay taxes to Lord Calvert and to pay all the money back with interest. And where does the money come from?
Mr. Connally prints it—of course!
For this fictional Maryland story, as you can imagine, there is no happy ending!
Since in the last 50 years America has purchased $12 trillion more in goods than we have sold, you need to ask yourself one more question.
“Where did all the reported large profits in recent years actually come from?”
To quote the famous song,
There was a farmer had a dog, And Bingo was his name-o.