Snuck in the bailout bill: the tool for hyperinflation

First, let's start by looking at the text of the proposed bailout at this handy-dandy link provided by SkepticOverlord.

The relevant section I'm speaking of is:

SEC. 127. ACCELERATION OF EFFECTIVE DATE.
Section 203 of the Financial Services Regulatory Relief Act of 2006 (12 U.S.C. 461 note) is amended by striking "October 1, 2011" and inserting "‘October 1, 2008".

So something from another piece of legislation is being pushed forward, in simple English.
That legislation in full can be found at this link.

The specific section amended is as follows:

SEC. 202. INCREASED FLEXIBILITY FOR THE FEDERAL RESERVE
BOARD TO ESTABLISH RESERVE REQUIREMENTS.
Section 19(b)(2)(A) of the Federal Reserve Act (12 U.S.C.
461(b)(2)(A)) is amended—
(1) in clause (i), by striking ‘‘the ratio of 3 per centum’’
and inserting ‘‘a ratio of not greater than 3 percent (and which
may be zero)’’; and
(2) in clause (ii), by striking ‘‘and not less than 8 per
centum,’’ and inserting ‘‘(and which may be zero),’’.
SEC. 203. EFFECTIVE DATE.
The amendments made by this title shall take effect October
1, 2011.

So whatever this mumbo jumbo is authorizing, it's going to go into effect in Oct 2008 instead of October 2011. But what does it mean?

Right now, a bank does not hold every dollar you deposit with them in some big vault. If you deposit $1000, they are only required to physically keep a percentage of that in cash available for withdrawal. The remainder of the deposit is loaned out to other customers - credit cards, mortgages, etc. This is called fractional reserve banking. The banks only keep a FRACTION of what you deposit into your account in RESERVE on hand for withdrawals.

This works because, in normal times, the demand for withdrawals rarely exceeds what a bank holds in reserve. If a bank has, let's say, $1million in deposits, it may only keep $200k in cash on hand. If, over the course of a year, withdrawal requests only average $150k in cash, then the bank is operating normally and keeping up with customer demand. In abnormal times, such as the current environment, the demand for withdrawals can and will start outpacing what a bank holds in reserve. People get nervous and take their money out of the bank - also known as a "bank run." If that happens, the bank physically does not have the cash to meet its depositors' demand. They may be able to raise cash by taking a loan from another bank or selling assets, which keeps the bank afloat...but if they can't do this, then we see an IndyMac situation.

But what does this have to do with the text in the bailout bill?
Well, that ratio of about $.80 loaned out for every $1 in reserve not only protects the bank (somewhat) in normal economic times, but it also prevents an excess of credit money (or commercial money) being created. Let's say a bank loans out $800k of its $1million in deposits. It has effectively released an extra $800k into the market via credit.

This tends to balance out as loans are paid back....but what happens when loans aren't paid back? The bank can seize assets (foreclose on a house) and try to resell them to recoup their depositors' money. What happens if they can't resell the asset (a foreclosed house, for example)? The bank now has lost its depositors' money and must find another way to honor withdrawal requests. Again, in normal times this tends to balance out as banks make profit in other ways, but when huge numbers of loans are in default, we start to see banks collapse.

Now. The root of this massive issue comes down to that ratio. There's a cap on how much a bank can lend out, based on how much it holds in deposits (reserves).

What this amendment in the bailout bill does is allow for a bank to hold zero in reserve. It removes that cap. If a bank holds $1million in deposits and this bill passes, as of October 1st the bank can loan out all $1million of those deposits. It can loan out more than that.

It allows a bank to create money by loaning out more money than it physically can back!

What happens when money is created at an explosive rate with nothing to back it? We're seeing it happen in Zimbabwe right now. It's called hyperinflation - only this money isn't being created by the Fed. As things stand, it will be created by the banks by removing any controls they previously had on issuing credit.

THIS is how they want to save the economy???

Quote from link on hyperinflation

How do hyperinflations end? The standard answer is that governments have to make a credible commitment to halting the rapid growth in the stock of money. Proponents of this view consider the end of the German hyperinflation to be a case in point. In late 1923, Germany undertook a monetary reform creating a new unit of currency called the rentenmark. The German government promised that the new currency could be converted on demand into a bond having a certain value in gold. Proponents of the standard answer argue that the guarantee of convertibility is properly viewed as a promise to cease the rapid issue of money.

problem reaction solution. Whether its the Amero or some other currency...the end of the dollar is at hand.

reply to post by anachryon


Thank you for making all this understandable. It read as a thriller and I was hoping you were going to tell me that the Banks were capped in what they could lend out, but no. It is more terrible than I thought.

But again, great post!

This is just insanity. How is it that we are responding to a financial crisis by creating a larger crisis? There is no way that this isn't manufactured and intentional. We have just been fleeced for 700bn and sadly the worst is yet to come.

Much Being Hidden from Public - Treasury Conference Call

The tap dancing is because they don't want it to get out that they'll be giving a sweetheart deal. The public won't be following each individual transaction to see exactly what price is being paid. So ridiculously overpriced asset sales can be hidden in the details, and by the time some reporter (or blogger :-) combs through and analyzes the transactions, the deed will have been done. But if Paulson makes a statement that assets will be bought at par before the bailout's even begun, that will be reported and might kill the deal.

www.nakedcapitalism.com...

www.filesavr.com...

Another point to keep in mind, and this is very important....

Going forward, if this bill passes and if banks move to 0 reserve on hand (as described above),
we'll have no way of knowing if a bank is insolvent. A bank is considered insolvent when they cannot pay their debts (creditors' deposits) when they come due.

If banks move to 0 reserve, we're going to see the dollar value fall. Other countries aren't stupid. They'll hold no confidence in the American dollar and at this point it's really only everyone else's confidence in our dollar's strength that keeps us from spiraling into hyperinflation. You can see confidence changes when you watch the dollar exchange rates fluctuate; when you hear news that "the dollar has fallen against the (Yen/Euro/other currency), that means our dollar is no longer worth as much to other countries.

If our banks are given such free reign to essentially create money - and that's what they're doing; even if the money is issued in credit, it becomes monetized when it's used to pay for a good or service - we'll be pumping more paper into the market that's only as good as others view it as. The more money flooding the market, the less intrinsic value it has.

It won't happen in a week or a month or even a year, but if this really and truly happens, if banks are given carte blanche to loan without keeping anything in the coffers to back it, we're going to spiral into inflation/hyperinflation.

And we won't know if our bank is on the verge of going bust, either, until it actually happens. We have warnings about Wachovia, we had warnings about WaMu - but we won't have the convenience of a warning in this situation.

Just a reminder to all - with the bill's passage today and it subsequently being signed into law, banks are no longer required to keep ANY cash on hand for withdrawals as of 10/1/08.

Originally posted by Karlhungis
This is just insanity. How is it that we are responding to a financial crisis by creating a larger crisis? There is no way that this isn't manufactured and intentional. We have just been fleeced for 700bn and sadly the worst is yet to come.

Actually it is Trillions of dollars and a blank open checkbook for Fannie Mae and Freddy Mac.

Listen to this Financial Historian he we extremely accurate

www.abovetopsecret.com...

I was just telling someone the other day that I think this whole thing is a way for them to work the Amero into the US. If they do it this way (crash of the dollar) they can use that as a reason to convert our currency. They couldn't just do it, they needed something behind it.. Just like 9-11 IMO. Awesome thread OP. Star and flag to you. Thanks for breaking that down!

Many thanks for your clear and concise post. S&F!

Got a legal-type query but as I'm not a lawyer I wonder if you or someone here can clear it up. According to the US Constitution in Article I, sect 9 it says:

No Bill of Attainder or ex post facto Law shall be passed.

(Bolding mine.)

This amendment you've given us the heads-up on changes the date it comes into force from 1 Oct 2011 to 1 Oct 2008. Now, seeing as how the law wasn't passed through Congress until 3 Oct 2008, wouldn't that make it an "ex post facto Law"? If so, wouldn't that make it unconstitutional and therefore able to be challenged?

Okay, I know that this particular amendment probably could not have been acted upon prior to the bill passing Congress, but in theory anyone who knew what was in that bill and who saw a way to make use of that amendment to their advantage could have taken some action before it was even voted on -- that is, action that was at the time illegal but which later would be hard to prosecute because the law "backdates" to an effective date prior to the one on which it was voted. In other words, how do we know that some people didn't find a way to advantage themselves, and without fear of prosecution?

The Constitution's language is pretty plain. That quote I gave is complete and doesn't seem to allow for any exceptions. It doesn't say that they can't propose or vote on an ex post facto bill, only that no such law "shall be passed".

So is this new set of regulations legal? I mean, what if a few banks' leaders quietly let all the others drain down their cash reserves and so on, while holding their own at the previously legal levels, then moved in for quick kill by bringing a legal challenge that the amendment is unconstitutional? In that way they'd create havoc in the "other" banks and doubtless strengthen their own position when they come out and say "we have enough cash, even if these others have none..."

Far-fetched, for sure. But hey, we're talking about many billions of dollars.

I beg fellow members not to be too harsh in response. I'm just asking and surmising and not claiming to be an expert by any means.

Mike

Originally posted by JustMike
Got a legal-type query but as I'm not a lawyer I wonder if you or someone here can clear it up. According to the US Constitution in Article I, sect 9 it says:

No Bill of Attainder or ex post facto Law shall be passed.

(Bolding mine.)

This amendment you've given us the heads-up on changes the date it comes into force from 1 Oct 2011 to 1 Oct 2008. Now, seeing as how the law wasn't passed through Congress until 3 Oct 2008, wouldn't that make it an "ex post facto Law"? If so, wouldn't that make it unconstitutional and therefore able to be challenged?

No harsh response from me! That very subject is currently in debate in some corners of the 'net.

I'm not a lawyer or any sort of legal professional, but based on Calder v. Bull I believe ex post facto is interpreted only to apply to criminal law. As much as nearly everyone on this planet believes that the current administration is criminal, I can't be sure it would apply in this case.

Originally posted by anachryon
I'm not a lawyer or any sort of legal professional, but based on Calder v. Bull I believe ex post facto is interpreted only to apply to criminal law. As much as nearly everyone on this planet believes that the current administration is criminal, I can't be sure it would apply in this case.

Thanks for your response. Well, assuming that the present Supreme Court would uphold the decisions made in 1798 in Calder V Bull, it knocks my idea on the head. Pity about that. Looked like a nice little conspiracy theory shaping up. In any case it still seems to me that an opportunity was presented for some people in banking/financial circles to "free up" a great amount of cash in the couple of days before the law even passed -- and that could have had some advantages for them. Two days is a long time in the financial world.

Whatever... Constitutional or not, if the projections I've read around the boards by some pretty smart people are anywhere near the mark, this new amendment looks like a recipe for economic disaster.

[edit on 4/10/08 by JustMike]

I've seen this particluar part of the bill mentioned in at least one other place. If I'm not mistaken there are two parts to it. Congress had already agreed to allow the Fed to pay interest on reserves held by member banks beginning in Oct 2011. Moving that date foward to today isn't that big of a deal IMHO, and might even be a good idea. Many FCBs, I believe, already do that.

The part that disturbs me about that part of it is the same as what the OP is saying. It seems to me, that it would allow banks to keep zero reserves. Isn't excessive leverage one of the roots of the current crisis? And with 0% reserves wouldn't that pretty much leave the abillity for these institutions to have infinite leverage?