House Prices Start Drifting Down

Written 1/18/2006

What the end of this housing boom may mean to you

This housing boom in America looks as if it is ending.

The probability is that governmental agencies will act correctly and as this housing bubble bursts, like the stock market did on October 19, 1987, it will not affect our economy too adversely.

But then there is always the remote possibility that this might be the straw that breaks the camel's back.

To understand what I mean you must understand our "fractional reserve banking system". Look it up on Google. It is called this because banks lend out most of their depositor's money; banks keep only a fraction of that money in reserve in case people want to remove some or all of their bank deposits.

This is a fine banking system as long as the economy keeps expanding as the English economy did all during Shakespeare's life. But it is a horrible system once things slow down appreciably. It's like the three brush generator charging system on the old Model A Ford: when the battery was low it didn't charge much but when the battery was fully charged then it charged the most. Now we have voltage regulators that reverse this: They charge the battery correctly by charging the battery a lot when it is low and not charging it at all when it is fully charged. The problem is that no one has invented the voltage regulator for this "fractional reserve banking system" that charges up our economic system even more when it's at full capacity than the system in the old Model A Ford.

Banking of this type probably existed in early China with the concept of debt and the issuance of paper money.

The written evidence from China's dim and distant past is sketchy but we do know that they had paper money for quite a while and that paper money was later banned and the death penalty was imposed on all those issuing paper money.

So we know something very bad happened.

We also know that the Byzantine Empire had silver mines. Instead of having paper money, they minted their own silver monetary coins and had absolutely no booms or busts and no inflation whatever for hundreds of years but this is highly unusual in the history of human affairs. It takes special people running the show, and perhaps a lot of luck too, to produce something like that.

In Europe, quite the reverse happened, as paper money started with goldsmiths issuing receipts for gold. Since these receipts were easier to carry around than gold, these receipts were carried and traded. Every person knew he could take one of these notes to the goldsmith and get gold for it.

But then over the years the goldsmiths realized that 100% of these receipts never actually came back to them. So they saw they could issue a certain percentage of fake receipts into the marketplace and obtain goods for these from the merchants. Not only did they cheat with this paper but they also made coins with more copper and less real gold in them as well.

This culminated in one of the English kings inviting all the goldsmiths to a grand banquet after which he cut off a joint of one of their fingers saying to them "You have deformed the currency so I have deformed you."

With the conversion of both Russia and China, this entire world now runs on what is called the "fractional reserve banking system"

Both governments and banks do regularly what the goldsmiths got their fingers chopped for. Governments and banks both issue more of this worthless paper day after day and year after year.

This is why the loaf of bread that I remember selling for 5 cents a loaf, before the Second World War, costs more than a dollar now.

But as Harry Truman said, "A slight inflation is the oil that greases the machinery of prosperity." While this may be true the real worry is that our debt, expressed as a percentage of what our nation produces, keeps growing. This is definitely the route to go for instability and final breakdown.

This slow watering of the currency does put more people to work faster than any other device tried by any type of government. This is the big advantage of the "fractional reserve banking system" Its disadvantage is that whenever the economy is sufficiently slowed down then the entire economic system collapses.

Complete economic collapse examples of the "fractional reserve banking system" are: the Tulip Mania in Holland that ended abruptly in the spring of 1637; that of John Law's Bank in France in 1720 when the Mississippi Bubble burst, collapsing the entire French Economy; The South Sea Bubble, of the same period, in England, almost brought down the Bank of England. Even the great Isaac Newton lost almost all his savings when his South Sea Company stock became worthless.

Most feel the storming of the Bastille in 1789 began the French revolution but whereas the tulip mania in Holland and the South Sea Bubble in England both ended with less wealth in the hands of the rich. The Mississippi Bubble in France did not. So the French revolution was France's eventual solution of the wealth disparity between the rich and poor which even Thomas Jefferson warned France about a good four years before the fall of the Bastille.

Predictions about the future, especially economic predictions, have to be taken with a grain of salt. This is a warning about specific happenings you must watch; it should not be taken as a prediction. But nevertheless one must heed Eric Hoffer's warning that you have revolution when the middle class finds its standard of living substantially reduced. And you also must heed the words of Harvard's George Santayana who said, "Those who do not heed the errors of the past are condemned to repeat them."

A strong central bank, in the hands of a qualified person or group, can even prevent these extreme booms and busts that are inherent in our goldsmith type "fractional reserve banking system".

After the Second World War, America's Federal Reserve Bank was the strong central bank steering this world economy but now Asia's banks are going their own separate ways and no one central bank is really at the helm anymore.

In the U.S. today we have about 5% unemployment. It got to 10.8% about 1981-82 and to 25.2% in 1933 all because of our "fractional reserve banking system".

The Hoover administration folks were slow to realize that massive government spending was necessary right after the stock market crash of 1929. Now all economists know better. So an unemployment rate of 25.2% should probably never be seen again here in America. But this is a high probability. It is not a certainty. Because with humans running things anything is possible.

A full half of the world's buying and selling is done right here in the United States. So America's economic engine is the largest in the world.

But year after year our deficit spending is getting worse and worse as we behave more and more like the early English goldsmiths.

We are buying all these products from Asia. On balance the Asians do save. Asians are accepting our printed goldsmith's receipts and are saving them. They are giving us products and we, in turn like the early goldsmiths, are giving them paper. China has most of this paper right now and is still accepting more of it.

China's number one priority is getting her country built up and this method seems to be doing exactly that for them. In the past year, half of the cement used in this world was poured in China. China is not buying from us though. China is selling us 200 billion more than we sell China every year. So China is simply accepting over 200 billion of our debt paper every year now and we continue to pay China a tremendous amount of interest on all this accumulated debt paper.

I'll be 73 in a few days and I hope China keeps accepting our paper while I'm still here. I can well afford to buy this cheap Chinese stuff in Wal-Mart on my retirement income.

But what I have learned, while getting my economic degrees, tells me this situation cannot possibly continue indefinitely.

When you buy hi-tech manufactured products from another country then you are also exporting hi-tech manufacturing jobs to that country and importing unemployment into your own country. It's as simple as that. As for me, since I'm retired, I could care less. A large portion of our society are retired like me. These retired people want more Wal-Marts and more cheap Chinese products.

But what is going to happen in the future?

No one can tell us that exactly.

Beware of a sufficient slowdown in our economy that causes us to curtail these massive purchases from China. China may then decide not to accept more of this American paper. Then it will be a race away from paper money and into the precious metals by people all over the world.

I believe I'll be gone by that time. But some of you reading this will still be here so you need to think about this.

Probably the intelligent minds in China and here in America will get together to suitably work out all these problems. There is always a possibility, however, that they won't.

Rich Asians, who have saved the dollars that we have sent there to buy things produced there, have placed many of these dollars into American banks. These banks, awash in this Asian money, are busy lending it out to almost anyone who wants to buy a house these days using mortgages that would make conservative bankers turn over in their graves.

Remember, you cannot have booms and busts without a "fractional reserve banking system".

This is the real reason for this present housing boom. But this is essentially the same thing that drove up the price of tulips in Holland in the early 1600s and this massive bank lending was also the cause of the rise of the Missisippi Company stock in France and the South Sea Company stock in England just prior to 1720.

Could the end of this housing boom be the straw that breaks the camel's back and slows down our economy enough to bring on the downfall of the American Dollar and our robust economy?

Maybe, but maybe not. However, something like this, which slows down our economy enough, can do it.

The goldsmiths in England kept their fingers intact until things slowed down too much. The slowdown was exacerbated when the people found out the gold wasn't there to back up all those paper receipts. And they found the gold wasn't in the coins either.

I think the Prime Minister of Canada's assessment of President Bush's intellect was on the mark. I listened to Bush's speech from the oval office on 12-18-2005; he has, at least, learned to speak in the past five years but this is still an administration where the tail wags the dog. I'm sure Cheney's advisors saw the oncoming recession that Cheney did not want to become a depression on Bush's watch so the option was made for this Iraq war in which they thought they would also profit from Iraq's oil. Cheney was probably advised that Congress would always spend for a war when they would probably not spend to end a recession.

So we got out of that recession via the Iraq war spending.

Some amount of that Iraq war spending went to the rich who placed it in the "fractional reserve banking system" where it is available to continue the housing bubble started by many Asian dollars coming back here.

An enormous amount of money is lost as each of these speculative cycles ends.

How much money will be lost when this housing boom cycle ends?

Is our economic system robust enough to take this in stride?

Maybe.

The people of this world haven't learned all about debt and the dollar's role in this "fractional reserve banking system" yet.

But sooner or later they eventually will when one of these speculative cycles get too overwhelming.

What will happen then?

What will happen to you then?

Have a nice day.

Daniel P. Fitzpatrick Jr.

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