So I’m no economist or financial guru, but here’s my take on our global financial system.

Once upon a time, the value of things was tied to something tangible. Whether it was 2 goats for a pig or the gold standard, you knew exactly what your wealth was actually worth. For a variety of reasons, the US and the rest of the world moved off the gold standard and now have Fiat currency; that is, money backed by people’s faith in its value.(!) Mix into this the role of central banks that regulate a country’s money, set inflation rates, and perform other assorted feats of magical financial mumbo jumbo. Add the stock exchange were “shares” in a company are bought and sold (NYSE) which can even be done entirely in the virtual world today (NASDAQ). Finally, add the inherent irrationality of human beings, and, as I see it, we’re heading for an inevitable disaster. But let’s look at each of these briefly in turn.

Fiat Currency:

Most countries have economies based on this sort of money (except for some tribes where yams are still the currency of choice). As long as we believe in it, the bills and coins are worth something. If we stop having faith in the currency (i.e. the government), its worth (i.e. value), plummets. It’s kind of like if we all decided to use Monopoly money—as long as everyone agreed, we could.  Another problem is that with no tangible backing, the central bank (see below) can keep printing more in the face of hyperinflation, as was seen in Zimbabwe in 2008 with an inflation rate of 79,600,000,000%.

Central Banks:

Some people wanted to privatize the control of our country’s money (they were financiers). Others wanted the government to retain control, per the Constitution. Our Federal Reserve System is the result of these competing interests, though its powers have expanded from its inception. (The plan for the creation of the system was drawn up in secret by representatives of such financial titans as JP Morgan at Jekyll Island.  Their hope was to keep the wealth of the US concentrated in the hands of firms, particularly those on Wall Street.  It appears to me that they succeeded).   But the system’s failure to perform one of its purported main functions—the prevention of financial crises or speculative asset bubbles—is rightfully being called into question.

These banks are groups of people who sit around, behind closed doors, to decide the fate of our virtual money.  It’s this “virtual” aspect of our wealth that is the most disturbing to me.  What is more transient that something that doesn’t actual exist?  And the thing with closed doors is that they tend to prevent people from seeing what’s going on or being discussed–and that’s exactly how they want things.

Stock Exchanges:

They're either trading or waiting for mother bird to drop food to them.

In the 12th century, bankers began trading in debts; this quickly led to bankers trading in government securities. Just as quickly, this led to folks spreading rumors intended to lower confidence in the government and hence the prices of its funds (this was soon outlawed of course). One of the first companies to sell shares to raise capital was the Dutch East India Company (1602). Later, this process evolved into the modern market where shares in companies and the value of commodities fluctuate day to day.

In today’s global economy, not only are nations’ fortunes interconnected, but the actual markets themselves are merged (NYSE Euronext). Thus, we are well established in a “we-fall-or-rise-together” type fate. That’s why Greece’s default can send shock waves through the global market.  Imagine what the loss of faith in America’s financial system is going to be? (As of 8/8/2011, the market had already dipped 12% over two trading days, representing trillions of dollars in wealth that just evaporated–because it’s only virtual!)

Further, most trading is done by companies managing funds for individuals (rather than the individuals doing it themselves).  While this might take some of the “newbie” effect out of the market (overly-reactionary sells for example), it leaves us at the tender mercy of brokers in firms who are out for their bottom line.  Right Fab?  We trust our money to money managers which in turn concentrates wealth in a few giant corporations.

Human Irrationality:

Sure, we have the capacity for rational thought and action, but more often than not, it is irrationality that guides our decisions. How do I know? Allow me to present some evidence.

1. The popularity of this guy:

Yeah, he's got a memoir, too.

2. Binge drinking (which results in the inversion of one’s diaphragm or, you know, death).

3. Survivor is on its 23rd season while Firefly was canceled after one.

4. The Mullet:

What could he possibly be taking a picture of?

5. An entrenched two-party system, Gerrymandering, and a lack of campaign finance reform. (Oh, snap!)

It’s this sort of irrational behavior that can also make the markets wildly fluctuate.  For example, rumors of a company not doing well can send its stock plummeting in a self-fulfilling prophetic swirly.  Never mind that the company might be doing o.k., just the thought of it doing otherwise can cause ripple effects.  These effects get larger when countries are involved-because private investors are involved in government securities and thus nations are subject to the same mass-psychological forces! Some argue that the stock market is for people looking to stay in for the long-haul, and those that don’t understand this facilitate dips in the market.  But guess what? If it’s their money, they can do what they want with it–that’s the principal idea behind your free market.  Though the NYSE apparently does have a built-in “circuit breakers” should the market plunge too much in a day.  They just close their doors.  Yep, you can’t do anything with your money or investments if they say so.  So much for that free market.

To conclude (perhaps simplistically): Money used to be tied to something tangible (silver and gold).  Bankers/financiers developed the stock exchange.  Wealth became concentrated in the hands of a few individuals and corporations.  Bank failures and panic occurred.  Bankers develop a plan to create central banks to “prevent” such things from happening (and give bankers more control over financial markets).  Wealth continues to be concentrated on Wall Street in the hands of a few individuals and corporations.  Shady financial dealings of the 1920’s facilitate the stock market crash of 1929.  Oversight is put into place by Congress to prevent such things from happening again.  Nixon moves us off the gold standard to fiat currency.  The central banks thus gain more power (freed from the constraints of a standard, they can do pretty much as they please).  A massive market drop in Hong Kong cascades around the world on Black Monday of 1987, leading to the largest percentage drop in the US market’s history.  Shady financial dealings in the 2000’s facilitate the housing bubble burst of 2008.  Congress bails out Fannie Mae and Mac who are deemed “too big too fail.”  The depressed housing market continues to affect the financial markets around the world.  Wealth continues to be concentrated in the hands of a few individuals and corporations at the expense of 90% of the US population.  And it’s all virtual (fake) money now.

So what the heck can we do about all this?  Honestly, I have no idea.  The gold standard did have its own problems (short-term fluctuations due to monetary and other shocks).  There are too many people for an effective barter system to work.  Maybe the current system is the least of all evils.  But given what I’ve seen, it certainly needs some pretty important reforms.  And I hate having to choose the “least evil” choice because that’s not really a choice at all, and certainly no way to run a financial system (or country for that matter).

Peace out.

Advertisements