Australian columnist: maybe our housing bubble is not a good thing.

From the National Times:

WHEN house prices soar, you can hear the silent cheering all around you. Most of us own homes, so rising prices increase our notional wealth. They mean someone else will have to pay us more in future to buy our homes.

Market analysts and the media bombard us with data on what are the ”best-performing suburbs” – meaning the suburbs where prices rose most. They see it as self-evident that rising prices are a good thing – and the higher, the better for us.

Well, sorry, but they’re wrong. Rising prices may be good for those of us who own homes – but far less than we assume. And they are not good for ”us” as a society.

Let’s be blunt. No social change in recent times has done more to make younger Australians worse off than the waves of house price rises since late 1987, when Labor restored the tax break for negative gearing.

Since September 1987, the Bureau of Statistics tells us, average house prices in capital cities have risen by 433 per cent. In other words, a typical house that was an affordable $100,000 in September 1987 cost $533,000 by December 2009.

But haven’t incomes risen too? Yes, they have: but by only 195 per cent. So if a typical household had a disposable income of $30,000 in September 1987, it has risen to $88,500 now. (There are no figures for median household disposable incomes, but these are in the right ball park). The cost of a typical home, in this example, used to be 3.33 years’ disposable income. But now it costs six years’ income…

…Rising prices are inflation. We don’t think higher petrol prices or higher fruit prices are a good idea, although they certainly make someone better off. Why do we think inflation is such a good thing when it applies to owning a home?

This is one area of policy where government intervention has made things worse for the group they say they want to help: aspiring home owners. That is clear from the sharp fall in home ownership among younger age groups (indeed, among all age groups under 55). (cont…)

The author makes some good points, such as calling asset prices inflation (they are indeed a symptom of inflation, an expansion of money and credit), but he doesn’t seem to get that prices can form bubbles and crash without any changes to the tax code or the traditional supply/demand curve. What matters is cheap credit made available by the moral hazard extended to banks by the existence of a central bank and its ability and willingness to print gobs of money and bail them out.

Break up the cartel and allow a free banking system, and bubbles would be localized and contained by bank runs and the mere risk of bank runs. Bankers need the “fear of God” as on old-time chairman New York’s Chemical Bank put it when asked how he managed to redeem his notes in gold and silver through panics that sank so many others.

Rap battle: Keynes vs. Hayek

Watch for Tim and Ben as the bartenders.


Hit tip to Kevin Duffy.

Lyrics (from

We’ve been going back and forth for a century
[Keynes] I want to steer markets,
[Hayek] I want them set free
There’s a boom and bust cycle and good reason to fear it
[Hayek] Blame low interest rates.
[Keynes] No… it’s the animal spirits

[Keynes Sings:]

John Maynard Keynes, wrote the book on modern macro
The man you need when the economy’s off track, [whoa]
Depression, recession now your question’s in session
Have a seat and I’ll school you in one simple lesson

BOOM, 1929 the big crash
We didn’t bounce back—economy’s in the trash
Persistent unemployment, the result of sticky wages
Waiting for recovery? Seriously? That’s outrageous!

I had a real plan any fool can understand
The advice, real simple—boost aggregate demand!
C, I, G, all together gets to Y
Make sure the total’s growing, watch the economy fly

We’ve been going back and forth for a century
[Keynes] I want to steer markets,
[Hayek] I want them set free
There’s a boom and bust cycle and good reason to fear it
[Hayek] Blame low interest rates.
[Keynes] No… it’s the animal spirits

You see it’s all about spending, hear the register cha-ching
Circular flow, the dough is everything
So if that flow is getting low, doesn’t matter the reason
We need more government spending, now it’s stimulus season

So forget about saving, get it straight out of your head
Like I said, in the long run—we’re all dead
Savings is destruction, that’s the paradox of thrift
Don’t keep money in your pocket, or that growth will never lift…


Business is driven by the animal spirits
The bull and the bear, and there’s reason to fear its
Effects on capital investment, income and growth
That’s why the state should fill the gap with stimulus both…

The monetary and the fiscal, they’re equally correct
Public works, digging ditches, war has the same effect
Even a broken window helps the glass man have some wealth
The multiplier driving higher the economy’s health

And if the Central Bank’s interest rate policy tanks
A liquidity trap, that new money’s stuck in the banks!
Deficits could be the cure, you been looking for
Let the spending soar, now that you know the score

My General Theory’s made quite an impression
[a revolution] I transformed the econ profession
You know me, modesty, still I’m taking a bow
Say it loud, say it proud, we’re all Keynesians now

We’ve been goin’ back n forth for a century
[Keynes] I want to steer markets,
[Hayek] I want them set free
There’s a boom and bust cycle and good reason to fear it
[Keynes] I made my case, Freddie H
Listen up , Can you hear it?

Hayek sings:

I’ll begin in broad strokes, just like my friend Keynes
His theory conceals the mechanics of change,
That simple equation, too much aggregation
Ignores human action and motivation

And yet it continues as a justification
For bailouts and payoffs by pols with machinations
You provide them with cover to sell us a free lunch
Then all that we’re left with is debt, and a bunch

If you’re living high on that cheap credit hog
Don’t look for cure from the hair of the dog
Real savings come first if you want to invest
The market coordinates time with interest

Your focus on spending is pushing on thread
In the long run, my friend, it’s your theory that’s dead
So sorry there, buddy, if that sounds like invective
Prepared to get schooled in my Austrian perspective

We’ve been going back and forth for a century
[Keynes] I want to steer markets,
[Hayek] I want them set free
There’s a boom and bust cycle and good reason to fear it
[Hayek] Blame low interest rates.
[Keynes] No… it’s the animal spirits

The place you should study isn’t the bust
It’s the boom that should make you feel leery, that’s the thrust
Of my theory, the capital structure is key.
Malinvestments wreck the economy

The boom gets started with an expansion of credit
The Fed sets rates low, are you starting to get it?
That new money is confused for real loanable funds
But it’s just inflation that’s driving the ones

Who invest in new projects like housing construction
The boom plants the seeds for its future destruction
The savings aren’t real, consumption’s up too
And the grasping for resources reveals there’s too few

So the boom turns to bust as the interest rates rise
With the costs of production, price signals were lies
The boom was a binge that’s a matter of fact
Now its devalued capital that makes up the slack.

Whether it’s the late twenties or two thousand and five
Booming bad investments, seems like they’d thrive
You must save to invest, don’t use the printing press
Or a bust will surely follow, an economy depressed

Your so-called “stimulus” will make things even worse
It’s just more of the same, more incentives perversed
And that credit crunch ain’t a liquidity trap
Just a broke banking system, I’m done, that’s a wrap.

We’ve been goin’ back n forth for a century
[Keynes] I want to steer markets,
[Hayek] I want them set free
There’s a boom and bust cycle and good reason to fear it
[Hayek] Blame low interest rates.
[Keynes] No it’s the animal spirits

A true liberal education includes Ludwig von Mises













(Via This new Mises biography gets high praise from Bob Higgs, himself a talented and hard-hitting classical liberal (or libertarian, minarchist, anarcho-capitalist, etc):

Jörg Guido Hülsmann, Mises: The Last Knight of Liberalism (Auburn, Ala.: Ludwig von Mises Institute, 2007). If I said I don’t love this book, I’d be lying. Not only do I wish I had written it; I wish that I had the talents and intelligence to have written it. Alas, I can only recommend this beautifully written volume to everybody as one of the very best books I’ve ever read: the product of deep and wide scholarship, it presents a fascinating account of the life, times, and intellectual activity of the twentieth century’s greatest economist. You can also learn a great deal from the book besides what it teaches you about Mises himself.

Congratulations to Mish Shedlock, star deflationist and gold bug

I want to offer a little praise here for Mish Shedlock, an investment advisor for Sitka Pacific and proprietor of the hugely successful blog, I owe Mish a debt of gratitude as one of the writers who helped me understand our credit money system and anticipate the events of the last couple of years. He was a deflationist back when CPI was ticking in at 12% annualized (June/July ’08), and he has made a series of very prescient market calls.

Robert Prechter of course is the original deflationist who has seen this depression coming since the late 1970s (when he was a lone “bearma bull” and anticipated a great bull market followed by a giant crash and long secular bear market — his mistake was that failed to anticipate just how manic and levered-up society would get in the 1990s and 2000s — he called for a bubble, but not the greatest bubble of all time), but Mish’s writing has been on par with Prechter’s and he has lately bested him when it comes to gold.

I believe Mish has only been following the markets intently since the early 2000s, when he lost his job as a programmer. He used his free time and the internet to educate himself on economics and markets, and thanks to an intelligence uncluttered by a formal economics education or Wall Street voodoo, came to understand that we were experiencing a credit bubble — a business overexpansion and misallocation of resources due to easy access to debt. Debt was cheap because under our fiat money central banking system, bankers had created a cartel for themselves and a safety net. They had a license to blow enormously profitable bubbles and a get out of jail free card in the Federal Reserve, which of course is their own creation. Politicians love this system because it allows them to grow the government at a pace far in excess of the economy, since the Fed can just print money to buy T-bonds.

With his excellent understanding of debt, Mish came up with what I consider to be the best definition of inflation and deflation: inflation is an expansion of money and credit, where credit is marked to market; deflation is a contraction thereof. Rather than looking only at various money measures (M1, monetary base, M2, etc), Mish’s definition is most useful in our system since credit acts like money and dwarfs actual cash.

As Professor Steve Keen has shown, credit expansion precedes monetary expansion. In a fractional reserve world were credit can be created out of thin air with practically no restraints on reserve ratios, commercial banks and other “shadow banking” institutions are in the driver’s seat, not central banking committees. Even as the Fed’s balance sheet (like those of other central banks) has grown from $850 billion in early 2008 to nearly $2.5 trillion today, this increase in cash has been dwarfed by the contraction in private credit (which started out at $50 trillion for the US and is surely much smaller today). This is why cash has been king on Main Street, the recent stock and commodity rally notwithstanding.

Back to the story of the bubble, so long as debt got cheaper and easier, people could afford to take on more, which they did because it allowed them to keep up with their neighbors and feel good about themselves. Also, when credit is expanding, levering up is a fast way to get rich — asset prices soar, since you don’t actually need cash to buy things. A bubble mentality forms: when the only reason to buy a class of asset is because you can sell it to someone else for more (there is no reasonable prospect of sustainable cash-flow), you have a bubble. The bubble bursts when marginal buyers fail to show up and relieve the last round of speculators at a profit, since everyone is already stuffed to the gills with debt and debt-financed assets. When there is nobody left to buy and prices stall, that class of asset becomes a burden (taxes, maintenance, interest), and a crash is imminent. That was 2006 (a clear warning then was the inversion in the yield curve, as demand for credit started to abate and savvy Treasury traders bid up long-dated bonds in anticipation of a drop in short-term rates).

Anyway we all know the story now, but thanks to Mish and others of the Austrian school of economics (Ron Paul, Peter Schiff, Prechter, Marc Faber, Jim Rogers), a large segment of the internet-using public was forewarned. I single out Mish here for praise because he has arguably the best record of anyone for calling the shots since 2007.  Of course he was bearish on stocks going into the crash, but as a deflationist he was also bearish on commodities and foreign stocks and currencies, as was Prechter. Like Prechter, Mish called for a turn in the stock market early in 2009, though Prechter has been more prescient in anticipating its duration and magnitude. Mish was bullish on long-term Treasuries in 2008, when Prechter’s EWI was not, and I was glad to be on his side there.

Where Mish has really stood out has been in his understanding of gold. He has always said that gold is money, and he correctly anticipated its strength during deflation. I understand that this may have come from reading or reading about Professor Roy Jastram’s “The Golden Constant,” a study of 400 years of gold’s purchasing power during periods of inflation and deflation under both gold standards and fiat regimes. Jastram’s conclusion is that gold decreases in real value during inflations and increases in value during deflations — in effect, it acts like money. Now, Prechter has always said that gold is money, and he has always recommended holding gold and silver for the depression, since it is likely that the fiat system breaks down in the advanced stages, but he has failed to anticipate that the precious metals bull market would power through these first years of deflation (though he did anticipate the latest manic phase this fall after gold broke upwards in September).

Now solidly over $1200 per ounce, to my eye the gold market looks like a full-blown mania. DSI bullishness has been over 90% for a month now, and has been over 70% for much of the last six months. There have been no significant corrections. Every commercial break on cable TV seems to have an ad from one bullion dealer or another, and former Nixon plumber G. Gordon Liddy is touting it. That said, even if this parabolic rise is followed by a crash of $300 or $500, gold will likely still be leagues ahead of every other asset class since 2007 or 2000 (if gold hits $700, I bet the S&P will be 700 and oil will be $35 again). It truly is acting like money, high-powered, robust money, and it should continue to increase in relative terms even faster if credit strains worsen, as I think they will in 2010 and 2011. And as the US and other governments proceed in the following years to destroy their currencies through continued war and Keynesianism/Socialism, it will truly be a life-saver.

In addition to his excellent market analysis, Mish deserves our thanks for his consistent efforts to fight the bailouts and other thievery and stupidity in Congress. He has also no-doubt played a strong role in advancing Ron Paul’s bill to mandate an audit of the Federal Reserve and to defend it from those who would water it down.

Mish’s success goes to show the power of a geek with broadband connection. Since the formal education system and old news media have become propaganda outfits for the political and corporate parasite classes, if there is any hope for capitalism and a free and prosperous future, it lies with independent nerds.

Doug Casey and Tom Woods on government

Video link from

Here’s an excerpt from The Law, by Frederic Bastiat, a French classical liberal (today we would say libertarian) economist:

A Fatal Tendency of Mankind

Self-preservation and self-development are common aspirations among all people. And if everyone enjoyed the unrestricted use of his faculties and the free disposition of the fruits of his labor, social progress would be ceaseless, uninterrupted, and unfailing.

But there is also another tendency that is common among people. When they can, they wish to live and prosper at the expense of others. This is no rash accusation. Nor does it come from a gloomy and uncharitable spirit. The annals of history bear witness to the truth of it: the incessant wars, mass migrations, religious persecutions, universal slavery, dishonesty in commerce, and monopolies. This fatal desire has its origin in the very nature of man — in that primitive, universal, and insuppressible instinct that impels him to satisfy his desires with the least possible pain.

Two contemporary libertarian greats talk about the crisis.

Mises Foundation founder Lew Rockwell interviewed blogger Mike “Mish” Shedlock on his podcast series:

Link here.

Topics include bailouts, ‘stimulus’ plans, the benefits of deflation, and Mish’s campaigns to end bailouts and abolish the Fed.

Mish is really pushing hard politically. I’m 100% behind him, but I worry a bit about how the gangsters might respond to him now that he is getting so popular.

Also check out Lew Rockwell’s podcast archives and look for Jim Rogers’ interview yesterday.

PS — Sorry again for the lack of posts. I’ve been a bit unsettled of late, having been in the middle of a transoceanic move.

Lending won’t stop if banks go under.

The Journal has a story about a venture-funded alternative lender called On Deck Capital that extends credit to small businesses, many of whom don’t qualify for bank loans at the moment. Interest is high, at 18+ percent, but that sounds about right considering the risks of lending to small companies in this environment.

This business model reminds me of person-to-person loan companies such as Prosper Marketplace, Inc., where savers are matched with lenders through an auction process.

No fractional reserve lending.

The beauty of these lenders is that they can’t create money out of thin air like the banking cartel. Every penny they lend out was earned and saved by someone, either the investors in the venture fund that backed On Deck or the very individuals who find borrowers on These companies do not create fake credit like banks, but simply fulfill the proper role of intermediaries.

No moral hazard.

The president of Chemical Bank, George Gilbert Williams, credited “the fear of God” for the bank’s continued ability to satisfy withdrawals with gold coin through the panic of 1857*. Without the FDIC or Fed to bail anyone out, lenders have to be very careful about each loan. In such a free-market system, lenders’ fear of losing their own money prevents bubbles from being blown. Without the explicit or implicit promise of bailouts, there is no need for them.

Market rates.

If all the fractional reserve banks in the world were to fail tomorrow, and the Fed and FDIC were abolished, all kinds of new lenders would crop up, offering everything from high-yield consumer credit to asset-backed trade loans to mortgages. The interest rates would be set by market forces, which is to say that they would be high at the moment to reflect risks. Only very strong borrowers could secure loans, and the weak would have to de-lever or fold.

Savings encouraged.

Without the fear of inflation, but with strong deflation, savings would be encouraged. More and more of those savings would be lent out as the bust ran its course and risks were better balanced against rewards, in no small part because asset prices would be much lower.

Unfortunately, nobody seems to understand such simple logic these days, and Bernanke’s models say that inflating away savings to prop up the insolvent is the way to prosperity. We’ll see who is right.


*Page 112, Money of the Mind, by James Grant.

Real credit vs. fake credit.

The essence of why bailouts will only deepen our problems is that real credit cannot be created out of thin air. This counterfeit operation is what caused the bubble to begin with, and by trying to put out a fire with gasoline, Bernanke, Congress and Obama are going to burn down the whole city.

Frank Shostak, the Chief Economist at M.F. Global, knows a thing or two about economics, which is not something you can say about many of today’s economists. The Mises Institute website publishes this essay of his on credit, which illustrates the critical identity between savings and investment, and the proper role of banks in an honest system.

Central-bank policy makers have said that the key for economic growth is a smooth flow of credit. For them (in particular, for Bernanke) it is credit that provides the foundation for economic growth and raises individuals’ living standards. From this perspective, it makes a lot of sense for the central bank to make sure that credit flows again.

Following the teachings of Friedman and Keynes, it is an almost-unanimous view among experts that if lenders are unwilling to lend, then it is the duty of the government and the central bank to keep the flow of lending going. …

It is true that credit is the key for economic growth. However, one must make a distinction between good credit and bad credit. It is good credit that makes real economic growth possible and thus improves people’s lives and well-being. False credit, however, is an agent of economic destruction and leads to economic impoverishment.

Good Credit versus Bad Credit

There are two kinds of credit: that which would be offered in a market economy with sound money and banking (good credit); and that which is made possible only through a system of central banking, artificially low interest rates, and fractional reserves (bad credit).

Banks cannot expand good credit as such. All that they can do in reality is to facilitate the transfer of a given pool of savings from savers (lenders) to borrowers. To understand why, we must first understand how good credit comes to be and the function it serves.

Consider the case of a baker who bakes ten loaves of bread. Out of his stock of real wealth (ten loaves of bread), the baker consumes two loaves and saves eight. He lends his eight remaining loaves to the shoemaker in return for a pair of shoes in one week’s time. Note that credit here is the transfer of “real stuff,” i.e., eight saved loaves of bread from the baker to the shoemaker in exchange for a future pair of shoes.

Also, observe that the amount of real savings determines the amount of available credit. If the baker had saved only four loaves of bread, the amount of credit would have only been four loaves instead of eight.

Note that the saved loaves of bread provide support to the shoemaker, i.e., they sustain him while he is busy making shoes. This means that credit, by sustaining the shoemaker, gives rise to the production of shoes and therefore to the formation of more real wealth. This is a path to real economic growth.

Money and Credit

The introduction of money does not alter the essence of what credit is. Instead of lending his eight loaves of bread to the shoemaker, the baker can now exchange his saved eight loaves of bread for eight dollars and then lend those dollars to the shoemaker. With eight dollars, the shoemaker can secure either eight loaves of bread (or other goods) to support him while he is engaged in the making of shoes. The baker is supplying the shoemaker with the facility to access the pool of real savings, which among other things includes eight loaves of bread that the baker has produced. Note that without real savings, the lending of money is an exercise in futility. …

The existence of banks does not alter the essence of credit. Instead of the baker lending his money directly to the shoemaker, the baker lends his money to the bank, which in turn lends it to the shoemaker. …

Despite the apparent complexity that the banking system introduces, the act of credit remains the transfer of saved real stuff from lender to borrower. Without the increase in the pool of real savings, banks cannot create more credit. At the heart of the expansion of good credit by the banking system is an expansion of real savings.

Now, when the baker lends his eight dollars, we must remember that he has exchanged for these dollars eight saved loaves of bread. In other words, he has exchanged something for eight dollars. So when a bank lends those eight dollars to the shoemaker, the bank lends fully “backed-up” dollars so to speak.

False Credit Is an Agent of Economic Destruction

Trouble emerges however if, instead of lending fully backed-up money, a bank engages in fractional-reserve banking, the issuing of empty money, backed up by nothing.

When unbacked money is created, it masquerades as genuine money that is supposedly supported by real stuff. In reality, however, nothing has been saved. So when such money is issued, it cannot help the shoemaker, since the pieces of empty paper cannot support him in producing shoes — what he needs instead is bread. But, since the printed money masquerades as proper money, it can be used to “steal” bread from some other activities and thereby weaken those activities.

This is what the diversion of real wealth by means of money “out of thin air” is all about. If the extra eight loaves of bread aren’t produced and saved, it is not possible to have more shoes without hurting some other activities — activities that are much higher on the priority lists of consumers as far as life and well-being are concerned. This in turn also means that unbacked credit cannot be an agent of economic growth.

Rather than facilitating the transfer of savings across the economy to wealth-generating activities, when banks issue unbacked credit they are in fact setting in motion a weakening of the process of wealth formation. It has to be realized that banks cannot relentlessly pursue unbacked lending without the existence of the central bank, which, by means of monetary pumping, makes sure that the expansion of unbacked credit doesn’t cause banks to bankrupt each other.

We can thus conclude that, as long as the increase in lending is fully backed up by real savings, it must be regarded as good news, since it promotes the formation of real wealth. False credit, which is generated “out of thin air,” is bad news: credit which is unbacked by real savings is an agent of economic destruction.

Fed and Treasury Actions Only Make Things Worse

Neither the Fed nor the Treasury is a wealth generator: they cannot generate real savings. This in turn means that all the pumping that the Fed has been doing recently cannot increase lending unless the pool of real savings is expanding. On the contrary, the more money the Fed and other central banks are pushing, the more they are diluting the pool of real savings. …

If the pool of real savings is still growing, then doing nothing (and allowing the interest rate to reflect reality) will allow the recession to be short lived and economic recovery to emerge as fast as possible. (At a higher interest rate, various bubble activities will go belly up. As a result, more real savings will become available to wealth generators. This in turn will work towards the lowering of interest rates.)

We suggest that decades of reckless monetary policies by the Fed have severely depleted the pool of real savings. More of these same loose policies cannot make the current situation better. On the contrary, such policies only further delay the economic recovery.

By impoverishing wealth generators, the current policies of the government and the Fed run the risk of converting a short recession into a prolonged and severe slump.

If Princeton and the rest weren’t run by fools and knaves, this is the kind of thing they would be teaching, not Bernanke’s brand of institutionalized theft.

I recommend reading Shostak’s whole essay. Click around the Mises site while you’re there. It is a wonderful resource for real economics, the kind that can make you money. The Rothhbard and Mises files would be good places to start.

Listen to the people who predicted this: No bailouts, no New Deal, no serfdom.

Here is a list of popular personages who predicted this credit implosion and depression while the bubble was still being blown:

  • Robert Prechter. In 2002, he published Conquer the Crash, How to survive and prosper in a deflationary depression. So far right on the money except gold hasn’t fallen hard (yet).
  • Jim Rogers. The man has good timing when it counts. He bought a NYC townhouse for 107k in 1977 and sold it for 16 million last year and got the heck out of Dodge. He moved his family, business and money to Singapore and shorted the US market. Missed the turn in commodities, though, and refused to sell China out of some kind of principle.
  • Peter Schiff. Published Crash Proof in 2006, which has been pretty accurate other than Schiff’s missing the deflation stage and holding commodities and foreign stocks too long. The results of the New Deal and bailouts are likely end with the currency failure he predicts.
  • Mish Shedlock. Publisher of a popular blog, Mish has been warning of a deflationary depression since 2005 or 2006, and now has the best record of predicting its course (deflation, bailouts, gold and the dollar doing well).
  • David Tice. Manager of the Prudent Bear Fund, BEARX, which is performing spectacularly.
  • Doug Casey, the original international speculator, and publisher of the Casey Research newsletters. Missed the deflation part, also burned by commodities, but spot on about fascism.

There are countless others who saw this coming, including Congressman Ron Paul, who’s own studies of monetary policy inspired him to first run for office.

What do all of these men have in common that allowed them to see around the corner? They understand money and the credit cycle. How did they learn it? Not in college, that’s for sure, because colleges teach perverse Keynesian claptrap. They have all read the Austrian economists, in particular Ludwig von Mises and his American pupil Murray Rothbard. Their explanation of the business cycle as the credit cycle is both elegant and extremely powerful.

And what do all of these followers of the Austrian School think we (meaning our governments) should do, now that their worst fears are coming true? In a word, to a man, nothing.

Don’t fear the crash. Fear fascism.

You see, the very worst fear of Austrians is not a crash or a depression, which is actually the healthy restoration of sanity after a credit-fueled mania, but the expansion of government that seems to follow these events like day follows night. Frederic Hayek laid out these fears in The Road to Serfdom, and that is exactly where we are going: utter economic collapse. The government is going to hamstring the markets and drain our resources for its pet projects and wars, all for our own good. Their aim is to stave off a proper accounting of the losses that have already taken place, and to preserve the power of those who inflated our way into this mess.

The damage from the bubble is already done. Government adds new damage.

What not one person in 10,000 understands is that the losses have already taken place. The losses were the waste of resources and labor for doomed endeavors that never made sense: think McMansions in the desert, and the roads, power plants and strip malls that served them. The price declines that we are now experiencing are necessary to restore valuations that reflect true values, because proper pricing clears markets — it allows people to accurately assess the worth of certain items against that of others.

A 5000 sqaure foot house on a dry hillside 20 miles outside of Phoenix is a money pit, not a million dollars. It was never properly valued in terms of the labor and raw materials that went into it. But because bankers, backed up by the Fed and various government programs and guarantees, would lend $1 million to buy it, those resources were drawn out into the desert instead of to sustainable productive uses.

An honest, gold-backed monetary system and a free-market banking system with no government support would never have allowed bankers to misprice assets so greatly. Any that did would face severe difficulties inducing the public to trust them with deposits. But with FDIC, who cares what your bank does with your money? And bankers say, “with the Fed to bail me out, who cares if all my loans blow up?”

What will happen if government doesn’t lift a finger?

The owners of McMansions will lose them to the banks or other mortgage holders, and those mortgage holders, if they bought the paper with loans of their own, will lose them to others, and so on. Almost every bank in the world will fail. They have all come to depend on deposit insurance and central banks to cover for the fact that they have been reckless and insolvent from nearly day one. There will be no bank lending at all.

What will happen to the depositors? Well, almost all of their money will be lost.

So, that is what we are looking at: every bank failing, zero bank lending, almost all the money in the world going to heaven. How is that not the end of the world? Simple: It is a reverse split. In 2006, let’s say, there was a million dollars in total bank deposits. Then in 2008 all the banks go under. All that is left is the cold cash in people’s pockets, let’s say $100,000 in all.

That remaining cash becomes extremely valuable. It has to work where one million did before. If you had $10 in your pocket and $90 in the bank, you now treat each dollar as if it were ten. The key is that so does everyone else. The world still has its unit of account and medium of exchange, we have just moved the decimal point over on all prices. (Note: gold and silver would rapidly re-enter circulation and quickly become the preferred money, as they always do until government outlaws them).

Of course, deflation on this scale makes debts unpayable, so essentially all debt is defaulted upon, but of course most creditors are bankrupt too. Contracts have to be renegotiated or annulled. No big deal, really. The assets are all still there, just the same as before. Nothing has burned down. A car bought on credit still gets the same mileage as before its loan went bad, a house keeps you just as dry.

Trust the prudent and smart, not bankers and politicians.

Such an event brings about a massive transfer of wealth from the reckless to the prudent and farsighted, who are exactly the people you want making the decisions about what to do with money and assets after the crash. They are statistically and philosophically the best equipped to decide what will generate the highest returns with the lowest risk. Life goes on. There is nothing to rebuild because nothing was destroyed. It is all just reordered in a more sensible fashion. The house in the desert is scrapped for materials. The Lehman mortgage traders find something productive to do, like drive cabs.

But that outcome is so quaint, so 1800s, so gold standard. We’re more scientific today. Bernanke is a wise economist. Congress is benevolent. War is peace, and lies are truth.