Beware the financial repression
Further than the Greek bankruptcy incidents, Europe is facing a gigantic problem: the absorption of public debt, which has attained a level close to that of a war economy. This situation is extremely serious: public debt requires tax raises and fierce savings while recession is setting in.
The lack of growth would have required doing exactly the opposite, i.e. to stimulate savings via vast infrastructural work policies. Moreover, The Keynesian theory teaches to finance expenditures with capital assets during recessional periods, when interest rates are historically low.
Unfortunately, our economies have fallen into an infernal trap; not that of the banking crises but that of progressive debt, which took off discretely in the eighties. Our governments founded a social welfare state model based on loans rather than on productive capital. What is more, the counterparts of public deficit are no longer, and already for a long time, infrastructural investments but running expenditures, i.e. mainly civil service salaries.
Consequently, it is the monetary arm which is henceforth being used and that consists in printing banknotes so as to finance public debt. However, money creation is a desperate solution for the printed money is never recovered. Moreover, this solution in not painless for it irremediably comes with inflationary growth. The latter, linked to monetary flexibility, is the consequence of artificial money injections that do not create productive capital. The monetary standard is progressively losing part of its purchasing power.
But this is not all. Inflation is reflected in higher interest rates, for lenders demand to be protected for losing their purchasing power. Money creation thus destroys itself if the states, refinanced by monetary injections, at the same time have to pay higher interest rates. Moreover, money creation does only really cancel debt when entering in a geometrical spiral that consists in printing money at a higher pace than immediate price adaption. This is what we would call hyperinflation, a prelude to the ruin, such as occurred in 1923 in Germany.
This is the stage when, what economists like Professor Carmen Reinhart call ‘the financial repression’ or, more modestly, macroprudential regulation, intervenes. It concerns public authority decisions destined to orient the investments of captive savings collectors (banks and insurances) towards devices that favour state financing (Basel 3 and Solvency 2 rules). The states stimulate the detention of their own public debt and fiscally antagonise other investment forms.
The states are also trying to cap interest rates. If this approach is successful, they can continue with their auto-financing at cut costs, while at the same time benefitting from money creation. This financial repression thus leads to negative real interest rates; this implies that face interest rates, lowered with inflation rates, are negative. It is thus a transfer (unfair but probably necessary) of private creditor wealth towards public loaners, amongst which the states. The scenario is not new: 1945 and 1980 were already characterised by a financial repression that was not named as such but that was accompanied by public debt absorption, a heritage from the last world conflict.
We can even wonder whether the European states did not make a cynical calculation maximally lowering interest rates by using the rediscounts of their securities at the ECB so as to refinance their debts under abnormal conditions before seeing inflation depreciating these very same debts. Some arguments from the states and central banks are flooding the money economy, hoping to sustain the growth of the real economy the time it needs to get rid of its debts. But will this be sufficient to lower the level of public debt to an acceptable level? This is completely unlikely.
A financial repression can of course only be spread if the state holds a satisfactory control over the savings of its fellow countrymen. But is precisely not the case! The Euro Crisis has made savings migrate towards their countries of origin and public debt detention is becoming national again. It entails a redomestication of public debts.
Should be worry about this financial repression? No, because it is of imperative importance that the states reinforce their ratings through the canalisation of popular savings. What is more, it is indispensable that banks reconstitute their profitability, to which low interest rates contribute. This allows banks to give loans to the real economy and governments under acceptable conditions.
No-one will rebel against this state bank supervision, which some qualify as a collusion. But do not be mistaken: the banks are the natural auxiliaries of money creation and their solvability must absolutely be reinforced so at to allow them, at a moment being, to leave state supervision. Without independent and robust private banks, states will be powerless and will elapse.
To resume, an incredible financial repression is crashing down on Europe. This repression is characterised by large-scale money creation, public debt buy-outs, popular savings domestication, national savings canalisation towards individual state financing and low interest rates. This is a dissimulated form of debt restructuring by inflation without the latter influencing interest rates. As we have been anticipating for three years, the authorities will create inflation but governments will oblige their creditors to absorb it together with real (this is, after inflation subtraction), even negative, interest rates. Debt payment of our economies is only but beginning and recession is installing for a probable duration of 2 to 3 years. Seen from this angle, financial repression is the simple reflection of an ordered adjustment of our economies.
