THE FED, THE BITCOIN AND THE DEUS EX MACHINA

By Nico Ignatieff on ALTCOIN MAGAZINE

Nico Ignatieff

Published in

The Capital

15 min readDec 29, 2018

A brief history of the Fed (very brief) and why it matters

A few days ago, I came across a re-tweet of Ron Paul’s post in which he urges that FRS (Federal Reserve System — the Fed) will kill the “dollar” and calls “crypto and gold salvation”. Libertarians are known for their radical believes and nobody politicizes Bitcoin more. I do not share all of Mr. Paul’s views, but I do admire him for having the courage of his own convictions. Yet, his statement warrants the question why FRS?

Is it possible that in attempt to advocate his own opinion of US economy, Mr. Paul, in his support for Bitcoin, had fallen victim to yet another master-move by the Fed to maintain its status quo in today’s global economy?

No, I’m not saying that the Fed created Bitcoin. I do not believe in conspiracy theories. Yet, with USD being number one world reserve currency while US National debt reaching 22 trillion, Bitcoin just might become Deus ex Machina for the Fed.

Deus ex Machina. This Latin phrase originally described an ancient plot device used in Greek and Roman theatre. Many tragedy writers used Deus ex Machina to resolve complicated or even seemingly hopeless situations in the plots of their plays. The phrase is loosely translated as “god from the machine.”

In order to ascertain if Fed can claim BTC as its savior, let’s see how FRS attained and defended USD supremacy throughout the history of world finance. In my opinion, this story has more twists and turns than Game of Thrones.

Prelude — Beginning of the end

Presidents Jefferson, Jackson, Lincoln, Garfield, McKinley were strong opponents of central banking system modeled after British.

1832 — When Congress voted to reauthorize Second Bank of the US (quasi-governmental National Bank), Jackson, as incumbent and candidate in the race, vetoed the bill. He thought it was a threat to the traditional ideals with which America was endowed. Just like Jefferson he thought that the control of the money supply in a centralized entity was a danger for American society.

Sending a clear message to then President Adams and other supporters of Central bank, Andrew Jackson said:

“Gentlemen, I have had men watching you for a long time and I am convinced that you have used the funds of the bank to speculate in the breadstuffs of the country. When you won, you divided the profits amongst you, and when you lost, you charged it to the bank. You tell me that if I take the deposits from the bank and annul its charter, I shall ruin ten thousand families. That may be true, gentlemen, but that is your sin! Should I let you go on, you will ruin fifty thousand families, and that would be my sin! You are a den of vipers and thieves. I have determined to rout you out, and by the Eternal, (bringing his fist down on the table) I will rout you out!”

From the original minutes of the Philadelphia committee of citizens sent to meet with Andrew Jackson (February 1834)

However, we will see this was not the end of private financial influence.

1837–1862 — “Free Banking” Era. In this period, only state-chartered banks existed. They could issue bank notes against gold and silver coins and the states heavily regulated their own reserve requirements, interest rates for loans and deposits, the necessary capital ratio etc. The system was inadequate to manage liquidity problems.
1863 — The National Currency Act — Established the United States dollar as the national currency
1864 and 1865 — National Banking Acts — Established national banks based on a federal charter to provide loans in the Civil War effort of the Union. To finance the war, national banks were required to secure their notes by holding Treasury securities. Circulation of “greenbacks” — non-interest-bearing Demand Notes issued by U.S. Department of Treasure (remains valid and redeemable at full face value)
1873 (Panic of 1873) — economic reversal began in Europe and reached the United States in the fall. The signal event on this side of the Atlantic was the failure of Jay Cooke and Company, the country’s preeminent investment banking concern. Depression begins.

Depression is good news to the lender; but war causes even more debt and dependency than anything else, so if the money changers couldn’t have their Central Bank with a license to print money, a war it would have to be.

If wars were financed today without Central Banks, the tax payers on both sides of the barricades would be required to contribute in cash to the war chest (as it once used to be). I strongly doubt that with the price tag being in billions — we would have so many wars, if any at all. The reason — the war could never become profitable for anyone.

On February 20, 1895, J.P. Morgan & Co. led a bond offering that helped rescue the United States from a severe economic depression.
In the summer of 1907 Knickerbocker Trust in New York City and the Westinghouse Electric Company both failed, touching off a series of events known as the Panic of 1907. The U.S. Treasury pumped millions of dollars into weak banks in the hope of saving them. J.P. Morgan and John D. Rockefeller labored jointly with the government to save the economy (their own fortunes as well) to channel 30 mil of government aid package from the strong institutions to the weaker ones in an effort to keep them afloat. (Doesn’t it sound familiar? Lehman Brothers September 15, 2008, ring a bell?)

The point of no return

1912 — Woodrow Wilson was brought to Democratic Party headquarters by Bernard Baruch (I do urge you to remember this name) To divide the Republican vote and elect relatively unknown Wilson, J.P. Morgan and J.D Rockefeller played both sides of the election battle and poured money into the candidacy of Teddy Roosevelt and his Progressive Party to pave the way for Wilson’s ticket to win.
1913, March 4th — President Wilson defeats William Howard Taft, who had vowed to veto legislation establishing a central bank
1913, December 23rd — President Woodrow Wilson signed the Federal Reserve Act which created the Federal Reserve System (the central banking system of the United States), and which created the authority to issue Federal Reserve Notes (commonly known as the US Dollar) as legal tender. It was chartered to exist only for 20 years.

Post factum (Smart move — smarter branding)

Each of the twelve Federal Reserve Banks which form the Fed are organized into private corporations whose shares are sold to the commercial banks in their districts (more precisely banks are required to buy the Fed shares — pay to play) a Federal Reserve Bank is not a publicly traded corporation and is therefore not required by the Securities and Exchange Commission to publish a list of its major shareholders.” Federal” in Federal Reserve System has nothing to do with “federal” mandate.

In 1913 Britain was still the center of world commerce, with much of it transacted in British pounds. Also, at that time, most of the developed countries pegged their currencies to gold to create stability in currency exchanges

President Wilson knew what he did was wrong. He would later lament in his diary.

The battle begins

Prelude

1914 — World War I — had forced participating countries to abandon the gold standard to be able to pay their military expenses with paper money, which devalued their currencies.
1919 — Britain was finally forced to borrow money for the first time. United States and the Fed became the lender of choice for countries that were willing to buy dollar-denominated U.S. bonds. British abandonment of gold standard decimated the bank accounts of international merchants who traded in pounds. The dollar had replaced the pound as the world’s leading reserve.
1927 — McFadden Act — the Congress re-chartered the Federal Reserve Banks into perpetuity, and so there is currently no “expiration date” or repeal date for the Federal Reserve
1929 — Stock Market crash (Black Tuesday)

JP Morgan, JD Rockefeller and Bernard Baruch (remember him, a close friend of W. Churchill) had already liquidated all their stock positions and invested in US bonds and gold. They did however try to save the day by purchasing falling stock and channel government aid package (just like in 1895 and 1907). The scale of the problem was much bigger — they ”failed”.

W. Churchill and B. Baruch converse in the back seat of a car in front of Baruch’s home.

Notably, W. Churchill lost a fortune in the stock market. He was in US on invitation from Baruch during the crash. Friday the 23rd Churchill’s toast at Baruch’s farewell dinner for New York’s financial élite was to “Friends and former millionaires.” (BTW great read for the holiday season — No More Champagne: Churchill and His Money by David Lough)

Post-factum

12 million people out of work, 12,000 people being made unemployed every day, 20,000 companies had gone bankrupt, 1616 banks had gone bankrupt, 1 farmer in 20 evicted, 23,000 people committed suicide in one year — the highest ever
The great depression
Rugged individualism — “It is not the function of the government to relieve individuals of their responsibilities to their neighbors, or to relieve private institutions of their responsibilities to the public.” President Herbert Hoover.
The rise of Teddy Roosevelt (FDR) whose party was instrumental in splitting Republican vote to elect President Wilson in 1913.

The Dollar’s Ascendancy to the Throne

The great depression was used by the bankers to make abandonly clear that the Fed needed to be more flexible, more fluid to be able to react to such calamities as 1929 stock market crash. Fed’s solution — ‘the dollar could not be constrained by gold”.

1933 — Banking Act. FDR had concluded that strict adherence to the gold standard was no longer in the country’s best interest and that he must pursue a policy of monetary expansion. The gold content of the dollar is reduced by as much as 50 percent; FDR announced his move towards “a managed currency.”
1934 — Gold Reserve Act made the devaluation of the dollar official, fixing the price for buying and selling gold at $35 an ounce (of course, only after all domestic gold which was valued at the current rate of $21 per ounce was called in). Thereafter, the domestic circulation of gold was prohibited, and the Federal Government would sell gold only for foreign payments.
1935 — Banking Act — the President of the United States now appoints the Fed’s seven members of the Board of Governors; they must then be confirmed by the Senate and serve fourteen-year terms. Since President of the United States and the senators are all elected officials (a process which can be managed as history proves), it all but guaranteed Fed’s longevity and prosperity under any circumstances.

The king is dead — long live the king

As it did in World War I, the United States entered World War II well after the fighting had started. Before it entered the war, the United States served as the Allies’ main proprietor of weapons, supplies and other goods. Collecting much of its payment in gold, by the end of the war, the United States (the Fed) owned the vast majority of the world’s gold.

1944 — Bretton Woods Agreement Delegates from 44 Allied countries met in Bretton Wood, New Hampshire where it was decided that the world’s currencies couldn’t be linked to gold, but they could be linked to the U.S. dollar, which was linked to gold. As a result, the U.S dollar was officially crowned the world’s reserve currency, backed by the world’s largest gold reserves. Instead of gold reserves, other countries accumulated reserves of U.S. dollars. Needing a place to store their dollars, countries began buying U.S. Treasury securities, which they considered to be a safe store of money.
The 50s — The Decade of Prosperity. During the Eisenhower era, US achieved a level of prosperity it never known before. The economy overall grew by 37% during the 1950s. While other parts of the world struggled to rebuild from the devastation of World War II, citizens of the United States saw their standard of living surpass what previous generations had only dreamed about. The banks responded to the new born consumerism by funding the “Buy now — pay later” ideology.
1971, August 15 “The Nixon shock” — President Richard M. Nixon announced his New Economic Policy, a program “to create a new prosperity without war.” The initiative marked the beginning of the end for the Bretton Woods system of fixed exchange rates. One could argue that this marks the day when the United States went off the gold standard as the result of unilateral cancellation of the direct international convertibility of the USD to gold. From that day on, USD was alleviated from all obligations and free to rule the world.

Resistance is futile — We are the Fed

The Sixties have started the era of perpetual conventional and hybrid wars; Vietnam, Falklands, Yom Kippur, Gulf (I and II), Afghanistan, Iraq, Syria, the list goes on and on. In conjuncture with frequent Oil and Energy crises and financial crashes of 1987 and 2000 Dotcom there was no consolidated effort to question rationality of the Fed policies until 1982

40th President of USA Ronald Regan in his second year suggests tighter control of Central Bank and raised the question of whether the Federal Reserve Board should be placed under the authority of the Treasury Secretary. His view of the Fed, however, changed further along his tenure. The substantial increase in public debt during his administration was, however, dwarfed by the rise in private debt, made possible by financial deregulation created by Reaganomics. The change in America’s financial rules was Reagan’s biggest legacy. And it’s the gift that keeps on taking. Household debt was only 60 percent of income when Reagan took office, about the same as it was during the Kennedy administration. By 2007 it was up to 119 percent. The damaged sustained by the world economy as a result of Reaganomics was more devastating than WWII.

Greg Mankiw, a conservative Republican economist who served as chairman of the Council of Economic Advisors under President George W. Bush, wrote in 2007:

“I used the phrase “charlatans and cranks” in the first edition of my principles textbook to describe some of the economic advisers to Ronald Reagan…”

Instead of formalizing the gold-price rule, say through a commitment to convertibility (BTW the market price of gold was parked in a tight band which could have made it possible), the Fed got tired of stabilizing the gold and let it loose, aiding it to shoot up in early 2000s. This promptly led to 2000 Dotcom and 2008 housing bubbles and culminated in the Great Recession.

Conclusion

The goal was to avoid the noise of conspiracy theories surrounding the Fed and demonstrate the resilience of the USD to become and remain a number one reserve currency in the world despite the fact that is not guaranteed by gold and is issued by the country with 22 trillion national dept. It seems the Fed’s goal was always to delink USD intrinsic value from the gold. So, why the Fed and the fiat world question BTC intrinsic value, alluding that it is of a zero. In my book, value of zero, in this case, is still better than minus 22 trillion?

To present hypothesis that BTC can become Deus ex Machina for the Fed, we need to show premise to the “seemingly hopeless” situation. Average total debt per family in the US is now at 135,000 USD. The average unfunded liability in the US is now at 938,000 USD per taxpayer. According to projections by the Congressional Budget Office (CBO), America will continue to spend more than it receives in revenues from 2016 to 2026, and perhaps beyond. If the CBO projections are accurate, the federal debt will grow another $9.4 trillion by the end of the 10-year period, with potentially dire consequences. Another factor in the “seemingly hopeless” situation for the Fed is the growing challenge to the dollar’s number one position as word reserve currency by EUR and CNY.

Ron Paul states that “anyone who thinks US debt can be solved with economic growth, new debt or printing more dollars is an idiot…” Even though I agree, this proclamation can be construed as yet another message of “USD doomsday”. However, I must point out that there is no viable economical model in existence (known to me) which can lead to elimination of US national dept. Unless, you subscribe to @realDonaldTrump promise made in 2016 to eliminate federal dept in eight years.

Hence the conclusion — to maintain USD supremacy the Fed will require a Deus ex Machina, and in my opinion BTC could become one. Here is why;

Both assets have inconclusive intrinsic value
Fiat currency is getting more and more expensive to produce and will eventually become cost prohibitive
Due to the built-in “infinite” inflation of fiat money, the demand will continue to grow exponentially and will become impossible to attain
Environmental costs of physical currency is much higher than Bitcoin (despite the contrary)
The only adopted mainstream business with BTC that continues to make real money are exchanges. [Cryptocurrency start-up Coinbase just raised $300 million in a Series E round, bringing its valuation to $8 billion. Oct 30, 2018] They already converted billions of fiat into crypto with KYC (more on this soon). This is a perfect mechanism to replace one asset with another.
Could the next step be a government-backed and the Fed managed cryptocurrency? Would you be surprised to know that Central banks are “experimenting” with their version of crypto?
Hyperbolic growth followed by prolonged plunge created perfect condition for crypto mining consolidation through acquisition.

It is foreseeable that perhaps BTC will not eliminate the fiat, but might simply provide a blueprint for creating crypto which will, thus, fulfilling the role of Deux ex Machina for the Fed.

It is not hard, but very unnerving to imagine the world in which the Fed controls the new world reserve crypto currency which they also mine. Anonymity of any transaction possible today will become unattainable. A single switch can erase and obliterate any wallet anywhere in the word.

If you were the Fed — you would definitely want a system like this.

Afterword

2007 financial crisis started in subprime mortgage market in United States developed into a full-blown international banking crisis with the collapse of the investment bank Lehman Brothers on Sep. 15, 2008. The crisis was followed by a global economic downturn, the Great Recession. Globalization has made it very difficult, if not impossible, to manage the fiat money for the Fed. Yet, despite all the years and tribulation something remained intact — some continued to make money.
2013 JPMorgan Chase has struck a tentative deal to pay $13 billion to settle federal charges that it sold bad mortgage securities to Fannie Mae and Freddie Mac ahead of the crisis. Someone had to be blamed, but guess what, JPMorgan Chase bought Washington Mutual essentially for free, paying $1.9 billion for a bank that had $40 billion in shareholders’ equity just before the deal, and then recording a $2 billion profit on it immediately. For Bear Stearns, JPMorgan ultimately paid $10 a share for a bank that a year earlier was worth $170 a share. It also got the Fed to cover possible losses from about $30 billion in risky Bear Stearns assets. At the time of the deals, JPMorgan estimated that Bear Stearns and Washington Mutual combined would add about $3.5 billion to net income annually. If correct, that would add up to about $16 billion in extra profit by 2013, trumping the $13 billion in fines.
Who owns Federal Reserve banks? — cannot be answered with absolute certainty. But J.P. Morgan Chase & Co. is an American multinational investment bank and financial services company headquartered in New York City. JPMorgan Chase is the largest bank in the United States, and the sixth largest bank in the world by total assets, with the amount of $2.534 trillion. Thus, it is a shareholder of New York Fed bank. It is required to be one by law.

The Federal Reserve System, often referred to as the Federal Reserve or simply “the Fed,” is the central bank of the United States. It was created by the Congress in 1923 to provide the nation with a safer, more flexible, and more stable monetary and financial system [from www.federalreserve.gov]

I do not want to debate the merits of central banking system (if you do, please, read Vera C. Smith; The Rational of Central Banking and the Free Banking Alternative). I do want to point out that the Fed was created to alleviate certain problems one hundred years ago, and it failed on all counts.

As always, a short but important disclaimer: none of what I write here is to be construed as advice to buy or sell any kind of asset. It is merely my personal and not my professional opinion. Any asset can go to zero.

Writing when not building @ www.range.trade