Compounding in Reverse

The essence of capitalism is embodied in the well known phrase, "the magic of compounding" and any economist worth his salt has used it to promote various and sundry financial instruments that have proliferated over the decades. I could give myriad examples of the difference in results over 20 yrs. or 40 yrs. of say cutting mutual fund fees by half a percent, or a mortgage rate by a 1/4 percent or less, which for many people seems insignificant, but can make a dramatic difference over a long enough period of time. This premise was the foundation of the popular, but now severely flawed mantra to "Buy & Hold" put out by Wall St. & Bay St. to keep people invested in their products. As we will learn, there is a darker side.

Suffice it to say that under the capitalist system it indeed made sense to SAVE and put aside money regularly as soon as possible in your working or business career. The more you saved, and the sooner you saved, the greater the compounded result so you are financially prepared for a secure retirement, and it worked for many people for the past few decades.

Given current economic conditions in the world I think it is time we took a long hard look at the opposite side of the equation.

With interest rates at basically ZERO, even below the rate of inflation, the incentive to save has largely been removed, to say nothing of people being enticed to borrow at "teaser interest rates" making instant gratification almost ir-resistable for people wanting all the new toys, big screen televisions, I Pods, I Pads ad infinitum. It is so painless until you over extend yourself as we now see even governments have done. Promise the world to get elected and run deficits to keep at least a few of your promises.

This train of thought was triggered while reading an excellent essay by John Mauldin on the potential for hyper inflation, and while he concludes it will not happen here, I am not as certain as he is. The subject is much in the news these days with the sovereign debt problems in Europe engulfing half a dozen nations to say nothing of the profligate uncontrolled spending creating a fiscal dilemma for the United States that can also have world wide implications. I highly recommend you read Mr Mauldin's article for balance, which you can access at the following URL: from which I Quote: 

"To understand the incomprehensible scope of the German inflation maybe it’s best to start with something basic….like a loaf of bread. (To keep things simple we’ll substitute dollars and cents in place of marks and pfennigs. You’ll get the picture.) In the middle of 1914, just before the war, a one pound loaf of bread cost 13 cents. Two years later it was 19 cents. Two years more and it sold for 22 cents. By 1919 it was 26 cents. [Double in value, or a "mere" 12% compound inflation –JM.] Now the fun begins.



In 1920, a loaf of bread soared to $1.20, and then in 1921 it hit $1.35. By the middle of 1922 it was $3.50. At the start of 1923 it rocketed to $700 a loaf. Five months later a loaf went for $1200. By September it was $2 million. A month later it was $670 million (wide spread rioting broke out). The next month it hit $3 billion. By mid month it was $100 billion. Then it all collapsed [as if a roughly 8 billion times rise in cost wasn't already collapse! Hint of irony here. – JM]  COMMENT: Talk about a snowball rolling down hill!

These statistics are readily available, and have been quoted by many writers, but the interesting thing is that in all the reams of words and debate over the weeks and months about how to SOLVE our current financial problems it all seems to revolve around creating even MORE DEBT, when DEBT is already the problem. 

I have not heard of anyone in positions of power and ability to make constructive changes ask questions about whether "excessive debt" is an indication of a STRUCTURAL PROBLEM with our monetary system? All solutions proposed it seems to me, are attempts to "save the system" while using demonstrably FAILED tactics that do not deal with fundamental flaws in the system. Brings to mind the definition of insanity; "doing the same things and expecting different results" and I could elaborate extensively on that, but wish to stay focussed on my titled thesis.

I submit that the German experience in the 20's is a classic example of "compounding in reverse" the dark side of the fractional reserve, fiat, debt financing system, that lacks "checks and balances" since we went off the gold standard in 1971. WHY are economists not thinking outside the box and asking whether growth has to be financed by debt instead of savings? Has anybody ever suggested government on behalf of the people extend credit for needed infrastructure using our natural resources and available labour, taxing it back interest free over the life of what is created, instead of in-debting people to private bankers and paying DOUBLE? 

They might also ask, WHY do a certain class of people have a monopoly on essentially counterfeiting actual money (gold and silver) with what are in effect debt based I.O.U.'s created out of thin air? There are better ways of structuring our financial system that are simply not being explored because of powerful financial interests that benefit from our debt enslavement.

Now comes the controversial statement establishment trained and educated thinkers will at first have trouble comprehending, and will probably vehemently protest it as preposterous and disparage it as nonsense, but mathematics says otherwise. 


WHY you ask, very simple, because under the fractional reserve system "every bank loan is a new creation of money, and when it is paid back it ceases to exist" testimony of Graham Towers then Governor of the Bank of Canada in 1939 before a Parliamentary Committee under oath. What this means in practical terms is that since ONLY the principal is created when the loan is made, but over the course of a 25 year mortgage at average rates, an EQUAL amount is paid back in interest, as well as the original amount of the loan being cancelled out.

Net result, on average over 25 years TWICE as much currency is taken out of circulation as was originally created out of thin air as DEBT that must be repaid with interest and requires continual and growing indebtedness.

Practically then the only way that uncreated interest can be paid is by an exponential increase in the number and size of loans, in other words the uncreated interest simply accumulates into an ever growing pyramid of debt that ultimately becomes un-payable because eventually you run out of viable collateral against which to make new loans, to say nothing about a lack of bank reserves to do so, because people are unable to save under this very oppressive system, It is not only unconstitutional as Ron Paul consistently points out, but I contend should be outlawed for the Ponzi scheme that it so obviously is, and the perpetrates charged with FRAUD!

I submit based on the evidence of our economic situation today that we have reached if not surpassed that point of no return where the system is no longer viable in its present form. In other words, the "magic of compounding" has now turned against us and what we are compounding is now "DEBT" and that can not continue much longer since we have progressed (sic) from a family living comfortably on one salary, to barely being able to make ends meet when BOTH parents are working, and maybe even some of the children, and that at near zero interest rates.

SCARY when the only solution being offered is additional new layers of debt the politicians and bankers want to saddle the taxpayer with for endless generations. All to try and save a system that has made them rich and turned 95% of the population into debt slaves with an increasing number of people impoverished, if not outright destitute as they lose jobs and homes, to say nothing of the plight of retiree's on fixed incomes.

The architects of this pyramid scheme are running scared because they are beginning to grasp that once the dominoes begin to fall it could quickly be curtains for their nefarious scheme and it could well be triggered by derivatives which famous investor Warren Buffet correctly labels as " weapons of mass financial destruction"!

My conclusion is that: "the magic of compounding " is quickly turning into the nightmare of fiscal collapse.

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