THE CLAIRE FOSS JOURNAL

The Death of Rational Knowledge
and the
Creation of a New Paradigm

In its aspiration for a new and perfect world, the New Age Movement believes that there will have to be a "paradigm shift", which will change the conventional way of thinking. Rational thinking, which proceeds analytically and critically and which formed the basis of scientific method, is to give way to synthetic thinking and intuitive knowledge based on non-rational experience.

Nowhere is this "paradigm shift" more pronounced and ingrained than with those that seek to provide an understanding of financial and economic events.

The creation of our economic systems is political. Our present banking system, the power given to those that create and control money, is a result of political decisions. Our present economic system is not a natural system: it is a system that was created to serve those that created it. The lifeline of our financial system is money, and money is now only found within our banking system. Therefore, to understand our economy, we must first understand our banking system; and we must understand how our banking system is allowed to influence economies.

Whenever a new loan is given, new money is created, the result is offsetting paper entries on a banks financial statement. Both deposits and loans increase by equal amounts. Similarly, money is destroyed whenever loans are repaid. Deposits and loans decreasing by an equal amount. In theory, there is no limit to the amount of money that can be created or destroyed. When money is allowed to be created through the banking system, it has various significant consequences. It must be recognized that deposits and loans only represent bookkeeping entries. As such, when a bank charges interest on a new loan, it is receiving income on a bookkeeping entry that it created out of nothing. Thus over time, it oversees the transfer of wealth to the bankers of the world. Of special significance, are bank loans to the governments. Money is whatever governments define it to be, and when governments desire to spend more than they receive, the shortfall could be covered by printing notes or by borrowing from the banks. Both methods involve creating money out of nothing. However, borrowing money through the banks makes the governments dependant on the bankers while over time transferring wealth from the taxpayers to the bankers to pay the interest on these loans that were created out of nothing. Today, this interest represents a large percentage of all taxes collected, with most tax departments now representing a collection agency for world bankers. In this regard, it must be noted that while we can use mathematics and logical reasoning to show the errors of Keynesian economic theory, it is Keynesian theory that provided the theoretical and moral justification for the massive increase in government debts this century. This has allowed bankers to exert significant influence over governments, while transferring trillions of dollars from taxpayers to bankers to pay the interest on these loans. Has all of this happened because of an innocent error? Or was a false theory deliberately created to bring about the ends that we now see?

The ability of bankers to create money out of nothing has assisted them in concentrating a large portion of the world's wealth in their possession. This is accomplished first, by the charging of interest on loans created out of nothing, but perhaps more importantly, it allows them to create both economic bubbles as well as economic contractions through the very nature of our financial system. Money is the life-blood of our financial system. When it is created, we see an increase in economic activity. When it is destroyed, we see economic contraction. Simply put, when loans are created, spending increases, increasing GDP. When loans are repaid, spending must decrease, thus decreasing GDP. There is also a momentum effect to this, with increased spending often leading to increased employment, profits and government tax revenues, all of which tend to further increase GDP. Similarly, decreases in spending will lead to decreased employment, profits, and government tax revenues which will tend to decrease GDP even further. Thus upward or downward spirals tend to be created.

It is against this theoretical background that we must view the events currently unfolding in the economies of the world. In particular, we must concentrate on the "bubble" that has been created in the United States, a bubble that is without comparison in it's all-encompassing scope and severity. The term "bubble" may be difficult to quantify, but suffice it to say that it refers to events that cause economy's to move away from a position of solid fundamentals, that is, conditions that are sustainable in the long run.

At the heart of today's bubble is a massive credit expansion within America. As noted, increasing loans increases spending which increases incomes, profits, and government tax revenues, all of which have a positive effect on GDP. However, with a creation of such a bubble, there are forces that tend to counterbalance this bubble. In a consumer driven economic bubble such as we find in America, increases in consumer demand will lead to an increase in imports. This in turn leads to a decrease in the exchange rate, which in turn leads to higher inflation. Generally speaking, this increase in inflation in an economy experiencing a credit expansion will lead to higher interest rates which will tend to decrease demand and counterbalance the expansion. Should central banks attempt to keep interest rates low, thus creating an environment of low or negative real interest rates, capital will begin to flow out of the economy, again limiting the credit expansion. Thus, in order for the bubble to intensify, measures must be developed to counter the effects of an increasing trade imbalance. This has been accomplished through what is called the "Yen Carry Trade". The "yen carry trade" is a series of paper financial transactions within the Japanese banking system that has not only allowed the American financial bubble to be created, but has added greatly to it's rise. Within the Japanese banks, offsetting bookkeeping entrys have created vast amounts of new loans and new Yen. This new Yen is then sold for U.S. dollars in sufficient quantity to not only offset the effects of a trade imbalance, but significantly increase the value of the U.S. dollar. This Japanese created liquidity has had a significant effect on America, providing funds not only to finance the trade imbalance, but also funds for the purchase of U.S. government bonds (thus holding down long term interest rates) and investments in the U.S. stock markets (thus helping to fuel the speculative fever). The combination of a rising U.S. dollar, and higher investment returns in America have allowed investors in the Yen carry trade to show significant paper profits. It must be stressed that the creation of such a large financial bubble in America would not be possible without the "Yen Carry Trade". It truly attests to the power given to bankers to manipulate the world economy through the creation of money from nothing, even to the point of creating money in one country to control the economy of another.

This U.S. bubble is all encompassing, and involves the stock markets, bond markets, U.S. dollar, and the very economy. In fact, there is such interdependency on all four areas that each individual bubble tends to feed the other bubbles. Indeed, the extremes developing within certain areas should be highlighted. The value of a company is now based on its share price, with the future trend of this price determined by it's historical trend. In the historical time frame of most investors, this trend has always been upwards, thus predicting a continuation of this trend in the future. Such concepts as estimating future cash flows and using these to determine a " Net Present Value" are part of the "old paradigm". As such, company's such as Amazon with no or limited net assets that loose tens of millions of dollars annually are valued at 10's of billions of dollars.

However, to make matters even worse, what profits are shown are likely to be significantly higher than would be possible without the massive credit expansion or creative bookkeeping. Specifically, in that the credit expansion within America and Japan (financing the Yen Carry Trade) has lead to an increase in American economic activity, this has been supportive of American profitability. Secondly, with a rising stock market, the defined pension plans of many companies have risen in value to such an extent that no company contributions are now required, inflating company profits by the savings of pension contributions. Thirdly, an era of share buy-backs has been used to increase earnings per share. For the most part, these buy-backs are financed through loans, and not profits. For example, since 1995, IBM has reduced the number of shares outstanding by 22%, while it's debt has increased from $22.6 billion to $30 billion. According to the Federal Reserves flow of funds data, for non-financial corporations, in 1994 a net $44.9 billion in stocks were retired while corporate borrowings showed a net increase of $51.3 billion. In 1998, a net $262.8 billion in stocks was retired while net borrowings increased by $342.9 billion. We must ask why U.S. companies are buying back their stocks on credit, which not only leverages their earnings, but also further fuels an overvalued stock market. Fourthly, the use of stock options, particularly by technology firms, has significantly understated compensation paid to employees, and thus significantly overstated profits. For example, Microsoft, with a market value approaching trillion dollars is valued at over 20 times sales. By some estimates, if the value of stock options given were shown as an employment expense, the company would not be profitable.

Some extremes developing in the economy have real significance, but they are all but ignored by the " new paradigm". In June of 1998, the U.S, savings rate had fallen to a then low of 3.8%. By May of 1999, it had fallen a further 5% down to 1.2%. This is attributed to the "wealth effect"; the gains in the value of the stock market offsetting any need to save. This decrease in the savings rate has allowed for a further expansion in consumer spending, and is a major reason for the GDP growth during the last year.

In the absence of any new loans, consumption is limited to income less loan payments. With consumption now exceeding incomes, consumers must be increasing debt by the amount of their loan payments plus the excess of consumption over income. Due to the compounding of interest, ever increasing levels of debt must be created just to maintain present GDP. The idea of a self-sustaining system is now non-existent. Should consumers reduce consumption sufficient to meet loan payments from income, the resulting fall in demand would send the economy into a death spiral, with falling incomes, profits and government tax revenues feeding the collapse. The present option of increasing levels of unpayable debt will one day do the same through a credit collapse.

We must continually remind ourselves that ideas do have consequences, and that violent ideas will produce violent leaders, who, inspired by such ideas will strive to implement false philosophies of life by violently imposing them on society. Just as the creation of vast amounts of money and debt have consequences on our present financial structure, so to will the destruction of money and debt have consequences. Credit expansion, with bumps along the road, often occurs over a period of decades, making it difficult to distinguish between cause and effect. Moreover, with no theoretical limit as to the amount of debt that can be created, it is impossible to point to a future time when a credit contraction will bring in a sea of consequences substantially different from those of a credit expansion. As extreme as the DOW above 11,000, or a savings rate of 1.2% are, it is possible that the DOW could reach 15,000 or higher, or the savings rate fall to 5% or lower.

What we are witnessing is a decline of man's confidence in the powers of human reason to attain reality and truth. We base our expectations on our past experience, and fail to understand the forces that are creating our reality. The creation of a loan is only half of a transaction. This transaction is only completed when the loan is repaid. If our economic reality based on our experience is that only loans are created, what happens to our world when forces act to cause the repayment of these loans?

Let me begin by saying that I do not know what event will start to trigger an economic contraction. It may be a non-financial event such as a Y2K crisis to further confuse cause and effect, or it may be a financial event triggered by the bankers of the world. For the purpose of this article, I will discuss the events that will occur, should the loans involved in the "Yen Carry Trade" be repaid. This will first involve a major sell off on the U.S. bond and stock markets to convert to U.S. dollars. Then, this massive sale of U.S. dollars at a time when the trade deficit is about $250 billion/year will create a major decline in the value of the U.S. dollar. This will add greatly to future inflation expectations, further accelerating the sell-off of the bond and stock markets. Consumers, seeing the value of their savings fall, will further accelerate the fall as they sell to meet margin calls or salvage their savings before further falls. More importantly, there will be a major reduction in consumption due to rising interest rates, a falling dollar and stock market, all creating a negative wealth effect. This will put the economy into a major downward spiral with falling employment, profits, and government tax revenue further diminishing demand. It is important to note that a major source of government tax revenue is due to capital gains income, and that once taxpayers start claiming capital losses, the change in tax revenue will be severe. The banks will now be re-evaluating how new loans are given, paying greater attention to the ability of the consumer to repay loans from income. Due to the fall off of income and the major credit expansion over the last few years, very few new loans will be given. In addition, it will be much more difficult to use stock margin accounts to fund consumer purchases. Without new loans to help repay old ones and finance consumption, consumers will now face a major decline in consumption. For example, if loan payments equal 25% of current income, in the absence of new loans, consumption will decrease by over 25%(with a negative savings rate). Corporations, facing rising interest costs and collapsing demand, will see profits greatly diminished. This will be another factor driving down the stock market. Layoffs and insolvencies will be common place as corporations attempt to deal with falling demand, tightening profit margins (as over capacity leads to more competitive pricing), and rising interest costs.

Without elaborating further on events occurring in such a nightmare scenario, it must be understood that when a credit contraction does occur, based on logical reasoning, the above events will happen. It must be also be understood, that the solution to the financial Armageddon described above lies first in understanding how our present financial structure operates, and finding the political will to alter this structure.

To stop financial Armageddon, the negative effects of present loans must be neutralized, and bankers must be prevented from creating money from nothing. Neutralization would come from replacing all bank loans with government notes. For example, the government bonds held by the banks would be replaced with government notes. This would be non-inflationary, as no "new" money would be created. The only effect would be to replace government bonds with government notes as bank assets. Should depositors wish their money, the bank would have the notes to go with them.

The only difference is that while government bonds pay interest and have to be repaid, government notes do not. Thus, the taxes collected to pay the interest and principle on the bonds could be eliminated. In a similar manner, all bank loans could be replaced with bank notes. This could destroy the ability of banks to collect vast sums of money as well as manipulate the economy. It must be emphasized that banks have already created vast sums of money. What must not be allowed to happen is for this money to be destroyed, either through repayment or default, as this will have a major negative effect on world economies. As a special case, all debts to the third world country's can be eliminated at no cost to Western governments and taxpayers, while improving the financial soundness of the worlds financial system. Most Third World debts are structured as follows.

Debts are owed to commercial banks, or to organizations like the IMF and World Bank which obtain much of their funds from loans from commercial banks (often with a government guarantee), or to Western governments which again obtain their funds from commercial banks.

For debts owed directly to commercial banks, Western governments would print up bank notes totaling the loans outstanding. These would be deposited with the commercial banks as repayment for the Third World debt held. Essentially, the balance sheets of the commercial banks would be strengthened, for instead of having loans that could not be repaid as assets, these would be replaced with government notes. Depositors will be more confident in their financial system, knowing that if they wish the return of their money, that the banks will have government notes to give them, and not have their money invested in bad loans to Third World countries.

For Third World loans to organizations like the IMF and World Bank, governments would print up government notes as repayment for the Third World Debts. The IMF and World Bank could then deposit these notes in commercial banks in repayment of their loans with commercial banks.

For Third World loans directly to Western governments, Western governments would cancel these loans while printing up an equal amount of government notes. These notes would then be deposited in the commercial banks as repayment of government loans (the purchase of government bonds held by commercial banks).

Thus, for the cost of printing government notes, the entire debt burden of the Third World would be eliminated while improving the financial soundness of the worlds financial system. It is important to note that this printing of government notes is not inflationary and will not increase the money supply. No new money is created with no one having any additional " money ". All that has happened is that banks have substituted assets, replacing loans with government notes. Commercial banks, and their international organizations, the IMF and World Bank, would no longer be able to steal from the poor, and would no longer be able to control and manipulate these people.

It should be noted that we are not talking here about a return to a gold standard. In today's financial system, money can be created through the banking system through the creation of new loans, or it can be created through the printing of government notes. With government notes representing about 1% of bank assets, it is clear that almost all money is created within the banking system. It is the creation of money by the banks that must be stopped, and even a return to some type of gold standard that does not prevent banks from creating money will not solve the flaws of our financial system. Indeed, if we view "money" as being for the common good of all mankind, there should not be a problem with a government creating new government notes as long as it is done in a responsible manner. It is only if governments act in an irresponsible manner, should we consider linking money to a commodity such as gold.

Moreover, it must be recognized that the manipulation of the gold markets through the gold lending activities of the central banks has allowed the ownership of both gold and gold companies to be concentrated in a few powerful hands. Furthermore, the creation of a gold standard would give these people tremendous power and wealth. It must be stressed that the central banks have manipulated the gold price downward, not by selling their gold, but by lending it. Had they sold their gold, their future influence on the price of gold would be greatly reduced. However, by lending their gold, they are able to cause a substantial future increase simply by having these gold loans repaid (called in).

In recent years large quantities of leased gold have been absorbed by the market, indicating that demand for gold is much greater than generally acknowledged. When bankers ask for the repayment of their gold loans, and the short sellers that have been supplying the market also become buyers to cover short positions, we will see a substantial price increase. As it is not apparent where the supply of gold will come from to meet both the normal demand for gold, as well as to cover repayment of gold loans, this rise could be very substantial. Should these events occur at a time of severe stock and bond market weakness, we could see other investors move into the gold market, further fueling the price rise.

As mentioned, the solution to our future financial problems lies in understanding how our present financial structure operates, and then finding the political will to alter this structure. However, it must be recognized that the analysis that I have briefly presented will not be found in any universities, nor will economists or bankers present it. These people only spread false ideas, false theories, as they prostitute themselves to the gods of money.

There is an obvious conflict between the well being of the many and the goals of the few that have created and control our present financial system. We must also recognize that we are entering into a period of even greater control of our economies by the world bankers. Through the use of bankcards, direct deposits, and cheques, banks handle virtually all financial transactions as we enter a cashless society. The creation of the Euro, which is a cashless digital currency, has further concentrated financial power. Through their control of governments and media, it will be a most difficult task to change the political structure of our financial system. This article has provided a solution to our economic problems, as well as describing the consequences should these solutions not be implemented. As such, it provides a blueprint of our destiny.


John Kutyn
10 July 1999