Well good morning. Thanks to everyone for coming to what turns out to be an even more timely and appropriate program than we thought.
I want to first of all thank Mr. Ken Garshina of Mason Capital, who's our sponsor for this event, along with an anonymous donor too, but Ken is the man.
and in addition to being one of the two most successful
OSTRO hedge fund managers in this country,
the other one being Steve Berger, who we'll introduce a little bit later.
He was also a student of Walter Blocks.
He got his economics degree under Walter
and went on to great success.
So Ken, we want to thank you very, very much for doing this
and for all your generosity and for the work you do for our ideas in general,
as well as, of course, helping people be successful
in these crazed fed times.
So for our keynote speaker this morning, we're honored to have Mr. David Stockman.
I first knew David back when he was a congressman and I was working for Ron Paul and I can tell you,
as you can imagine, the people who worked for Ron Paul didn't have much respect for the other congressman.
But there was one guy we respected for his intelligence and his principles, and that was David Stockman, and we were thrilled to be able to work with him against the draft.
David, they're bringing that up again now, so you're going to have to get back to work, and other civil liberties issues and financial issues.
He was hired away from Congress by the Reagan administration.
They correctly thought he was the smartest guy on the budget and governmental financial matters.
David found out that they weren't actually interested in cutting anything, they were actually interested in massive deficits and of course we're all shocked to know that the politician was lying, including Ronald Reagan.
David left, he wrote a book called The Triumph of Politics, an extraordinary book, unfortunately out of print, but I think one of the great books ever written about how the government actually works.
He's been a very successful investment banker, many charitable activities.
Right now he's writing his second book called The Great Deformation on how the Fed and the
rest of the government is messing up the economy, destroying the future, and what we can do
about it.
So David's going to talk about that subject this morning, and David, it's an honor to
have you here.
Thank you very much.
Well, thank you very much and good morning. Until yesterday, actually, Lou, I had been
thinking this would be an ideal occasion to deliver a very erudite and philosophical summary
of this book I've been working on now for a couple of years. And then yesterday happened
and the Fed did it again and I ended up thinking this is the final abomination. This has gone
too far. It's street fighting time. This is beyond the pale. I mean it's undiluted lunacy.
It's QEI, quantitative easing forever, which means we're going to print ourselves to death
as an Economy.
And so instead of the erudite philosophical view of how capitalism is being destroyed
by status philosophies of one type or another, I'm going to launch into a full strength tirade
about the Fed, just in case anybody's interested.
And I think you have to start by saying before you get into any of the obvious issues, the
The problem today is the Fed is being run by the single most dangerous man ever to hold
high office in the history of the United States.
And I would say, in fact, he is more dangerous than most of the other well-known culprits
that I can think of put together.
He is more dangerous than Geithner, than Larry Summers, than Alan Greenspan, than Hank Paulson
all put together.
We would have to reach back, throw in a few old timers like William G. Miller and Arthur
Dr. J. Burns, and we still wouldn't be there. In fact, I'd have to go all the way back to
Mariner Eccles to come up with a package that could add up to the damage he's doing. As
a matter of fact, when you think of what's happening today and what this Fed is doing,
you almost wish that Mariner Eccles would come back to life and that we could put him
back in charge of the Fed, because at least, and some of you may know your history, you
You read a lot of this stuff, I know, at least you would know that Mariner Eccles, who was
the first modern chairman of the Fed in 1935, was a Keynesian, no doubt, early for his time,
but he was a fiscal Keynesian who actually believed that money printing was bad, that
it would fuel speculation, and that if the government was going to rob the people, it
should do it the honest way with taxes.
Now that was Mariner Eccles back in 1935 and you know today when you look at what the Fed
is doing, robbing the people in so many different ways, you almost wish that he would come back.
So I want to kind of do an indictment here, I'm going to tick off a few things and I'm
sure I'll miss a few and maybe if there's some Q&A time we can cover them.
First it's obvious that this is the death of capital and money markets, there is no
No Doubt About It. The capital markets do not, in money markets, they don't price
anything anymore, they don't discount any future, they don't allocate capital anymore.
All of this is simply a vast frenzied trading against the last maneuver and the last utterance
of the Fed. After all, if interest rates in the money markets are going to remain zero
through mid-to-15 now. That's six years of zero interest rates. How in the world can
anybody believe that when you have two or three percent inflation as measured officially,
and probably a lot more than that if measured honestly, that six years worth of holding
the interest rate to zero has not completely destroyed and savaged any capacity of interest
rates to signal things and to perform the price function that is essential in capital
markets.
Likewise, how can anyone believe if they're going to be massively intervening in the so-called
middle of the market, buying 40 billion of MBS a month and on top of that continuing
operation twist at about that amount, how can anyone believe any longer that the yield
curve means anything?
The yield curve is supposed to mean something.
That is the heart of the fixed income market.
It is the heart, really, of the capitalist economy of the world.
And now it is being explicitly, you know, abashedly, in a totally acknowledged way,
being manipulated and twisted and torqued and turned in order to meet some fanciful
The federal notion that the Fed Open Market Committee has, the Monetary Politburo, as
I call it, but certainly without a yield curve in the fixed income market, which is tens
of trillions worldwide, the markets obviously can't function.
And the same is true of equity prices.
They don't discount company earnings anymore.
They simply discount the next Fed press release.
When you have interest rates suppressed to this level, the 10-year, the central rate
in the world market, the 10-year U.S. Treasury pushed down to 1.7, 1.6, 1.5, and their goal
is to even lower it more, although it backfired on them yesterday.
When you do that, that interest rate, which is the fundamental pricing mechanism of the
capital markets, is the reciprocal of asset values.
And so by definition, the more you push down the long-term interest rate, the more you're
inflating the value of every asset class that you can think of, both financial assets, real
estate, commodities, and so forth.
And so therefore, the effect of this interest rate repression or financial repression is
to misprice all the asset classes in the world.
And that then is another part of the witch's brew that's emerging out of this.
So when you put all that together and you say the yield curve doesn't mean anything,
interest rates don't mean anything, asset prices are totally, assets are totally mispriced,
the equity market is simply trading the Fed, what it means is that you've completely hollowed
How can you restore capitalist vibrancy and growth and all of the things that you have
And one of the things that even the Romney campaign is talking about, if you've destroyed the capital markets which are at the center, which are at the heart, which are the lifeblood of the capitalist system, I don't think you can and that's why I think that in the long run, the central bank issue is not simply about printing too much money or some hyperinflation down the road or even what I've talked about here, the clear and total distortion of financial markets.
and the price signal. This is really about the destruction of capitalism from the center out.
Because if the central bank destroys the financial markets, capitalism is going to languish,
and then the people will blame the bad outcome on capitalism,
and then legislative action will add even more.
Now, the one way to look at this, in terms of, and all of you are aware of this,
But how addictive, dicted, the capital markets have become to the latest nuance and move and maneuver
and slight change in statement of the Open Market Committee and the Fed
is a study probably some of you have seen, but in this particular morning after yesterday
and the crazy reaction that occurred in the risk asset markets around the world
this is really a good statistic. Somebody went out, went back and sorted the movement
movement in the S&P 500 from early I think mid 1994 when Greenspan finally began to go off the deep end it took him a couple years but he ended up way off the deep end but anyway if you take that point until yesterday the S&P 500 index which is after all the measure of the heartland let's say of risk assets went from 425 value in early
24 to 1460 yesterday. But if you remove from that 18-year history each 24-hour period before
the FOMC met, then the index did not quadruple from 400 roughly to 1460, but it went from
for 25 to 600. In other words, in the whole 18 years, the S&P 500 went up at about 2%
a year, except in the 24-hour segments before the 9 or 10 FOMC meetings a year, all the
rest of the gain. So 85% of the gain occurred in the 24-hour windows before each Fed meeting.
So we have a Fed-run economy.
There is absolutely no doubt about that.
As I say, when the Fed is running the economy, capitalism can't survive.
Second, I think it should be obvious that this also means the death of fiscal governance
if we're not already there already.
I think they're doing a pretty miserable job.
But when you tell the Capitol Hill, and when you tell the congressmen, even some of them
Some that might wish to be marginally responsible.
When you tell them that you can borrow one year at 15 basis points, which you can this
morning, or three years at 35 basis points, or out to five years at 75 basis points, from
Washington's point of view, that's a rounding error.
That's close enough to free not to worry about the carry cost of the debt.
And so they don't.
And so they kick the can.
So they defer the tough issues.
What congressman really of either party, no matter how corrupt he is or maybe brave, wants
to bite the bullet, fall on the sword, disappoint constituencies if you can borrow for another
year and hope things get better on the margin for 40, 50 or 60 basis points, which doesn't
add up really to anything in the scheme of things.
The problem is, this interest rate repression is only deferring the day when the whole thing
explodes.
We are now objectively at the point where we have 20 trillion of debt.
I mean, they say it's 16.3, but there's so much built into the pipeline that you can
say today it can't be stopped even if we had a total miracle and change of mind.
There's 20 trillion.
That means that if interest rates normalize, I'm not talking about some real inflationary
flair-up or some huge collapse in the financial markets, which I think is going to happen.
But if they just normalize, they would go up by 300 basis points because right now the
weighted average cost of the federal debt is 2%.
So if it went up to 5%, it would mean that the carry cost on the debt today is being
understated by $600 billion a year.
In other words, before they even begin to think about any entitlement they might reform,
Whether or not they could possibly see the logic of cutting defense in a world where
we don't have any industrial enemies left, in a world where Romney is waving the bloody
shirt at Russia.
Why?
I mean, Russia is a kleptocracy.
They love to steal from each other.
They don't have time to steal from other people.
So why do we have this enormous defense budget?
So what I'm saying is that even if there was some inclination to begin to grapple with
those issues, as long as you make it so simple as they are today, as the Fed is, to finance
another increment of a hundred billion a month or another trillion a year, this will continue
I think the third thing that came out yesterday is that this is the real class war.
Now you hear about that and you hear about it all the time in the campaign, but the real
class war in America is that the Fed has declared war on savers, the Fed has declared war on
thrift, the Fed has declared war on the fundamental mechanism of a capitalist economy where people
People are rewarded for deferring consumption by saving so that that pool of savings can
go into reinvestment and all the other things that we know about on which a real vibrant
growing thriving capitalist economy is built.
And so we have a determined, explicit acknowledged policy in the Eccles building at the Fed to
punish and essentially destroy savers. I just saw this morning six-month CD, 40 basis points.
That's all you can get. So what are we telling people about the future? What are we doing
to people who have already retired, maybe with a decent nest egg? What we're saying
is that if you expect to get any return on this, as per Bernanke, you can't keep it
in some place that's safe, you have to go way out on the risk spectrum and we're making
granny buy junk bonds so that she has enough income coming in from the nest egg that her
deceased husband left her so she doesn't have to, you know, buy dog food for dinner.
That's what this Fed policy is doing and it is profoundly destructive, I think, in a social
In 1980, we had 5 trillion of debt in this country, public and private, in other words,
The whole credit market debt outstanding, government, financial sector, households, business and so forth, the GDP of 3 trillion.
So the ratio, let's call it the leverage ratio of the economy was about 1.5.
Now the interesting thing is that that leverage ratio had been at 1.5 for 100 years.
You could actually go back to 1870 and the best they can put the statistics together, it was 1.5.
And in between we had war and peace and boom and bust and William Jennings Bryan and Calvin Coolidge
and a lot of other things, and during that entire period, it was very close to that 1.5
times.
It seemed to be the natural leverage ratio for an economy.
Then we took off in 1980 and went to the races.
Today we have 53 trillion of total credit market debt outstanding on the economy.
We have a 15 trillion economy.
We are now leveraged 3.5 times, 3.5 to 1, way off the charts.
You just look at it, it's a straight line in history and then it's a hockey stick straight
up and that is a big number, I understand, but if we had stayed on the beaten path, if
we had stayed on what I call the golden constant, which seems to be been valid historically
and it was consistent with a stable economy and growth, and we were at one and a half times
debt to GDP today, we would have 22 trillion of debt on the US economy, public and private,
53 trillion which means that we're lugging around 30 trillion of excess debt you know in the household sector on the business balance sheets on the financial institutions and more and more on government and if you have that much debt and you're that far off any kind of historic norms why would you have a policy the central bank which is trying to force people to borrow even more and discourage people from saving when obviously we're totally
upside down. Now the next thing that I think is coming out of this is what I
would call the real triumph of crony capitalist corruption because when the
Fed engages in this kind of central planning sense when it is all over the
market all the time giving out signals and manipulating every aspect of pricing
in the capital markets the yield curve and the components and constituents of
and the Yield Curve. Like yesterday the smart guys knew there were certain kinds of MBS
mortgage-backed securities to buy because they were going to rally on the Fed's announcement
that they were going to buy 40 billion a month, but there were also certain kinds of MBS to
sell because these were older MBS with higher interest rates and now that the Fed is driving
and the mortgage rate down even lower, those are going to prepay at a higher rate than
previously assumed.
The negative convexity is going to eat people alive and so yesterday some people shorted
negative convexity and bought the MBS that the Fed is going to be buying, made a killing
and this is supposed to be a capital market.
Now for some reason Goldman Sachs printed the day before exactly what the Fed was going
to do and if they were so bold I might say to print it in a message to their
unwashed clients I can imagine what they were telling the real insiders now my
point is that if you saw what happened yesterday coming and it was well
telegraphed I believe a couple of thousand people made 50 billion dollars
yesterday in 50 minutes as a result of the radical sudden lurching moves that occurred
in the fixed income markets as a result of this announcement.
The Treasury bond actually rallied, or the MBS, the mainstream Fannie Mae 3% coupons rallied
in a few minutes by 1%.
Now when you realize there's about five or six trillion mortgage-backed securities, Fannie,
Freddie, Ginny May and then a couple trillion or so that are left from the private label
issuance, all of those were powerfully and massively affected yesterday by the announcement
of the Fed and the smart traders were positioned, laughed all the way to the bank and captured
the windfall.
Now the reason I think that is important is I don't begrudge some guy who was smart enough
to do that, but I do condemn a policy that creates random windfalls as a result of manipulation
of financial markets for no better reason than some lunatic academic thinks that this
is going to make capitalism better.
And that's exactly what we have today.
Now, how are the people in America ever going to be sold on capitalism when it's so obvious
the system is rigged?
And I don't say that from some kind of conspiracy point of view.
I say that because Wall Street is cheek by jowl with the Fed.
Wall Street demanded this.
Wall Street said it would have a hissy fit if they didn't do it.
Bernanke is weak, and the rest of that crowd around him is even weaker.
I mean, did you see the vote yesterday?
set Bernanke aside as 10 to 1, 10 sheep voted for this abomination on the Open Market Committee.
So given that kind of performance, it is very obvious to me that our system now is simply
riddled with trading windfalls, arbitrage of the next move, the next signal, the next
Slight variation of utterance that's coming out of the Fed.
The next part of my indictment is that they have now taken money printing and bond buying
so far off the deep end I can't even see it anymore.
And after a while we get used to hearing 40 billion buy or QE1 was 1.2, QE2 was 600 billion.
Now this one is 40 billion a month but it's really 80 because they were already buying
to replace the ones that are rolling off.
But let me just give a couple of statistical dimensions of this so that you can see that the Fed is all over this.
It's smothering the capital markets and there may not be anything left very long.
If we can get to 214 when Bernanke's term is expired, there couldn't be anybody worse that anybody could imagine to a point, I don't believe.
The point is, if you just look at the mortgage-backed security buying, and what are they doing in the mortgage market?
We've already wrecked the housing market. We've already wrecked mortgage finance.
We've already created this massive disaster that came in 2005 to 2008, and then in the aftermath, and so forth.
But now they're in there driving down the yield, driving up the price, distorting and contorting further the housing market.
but here's how bad it's going to be these after everything we supposedly learn
from the crisis of 207 and 208 of Freddie Fannie and Ginny May are still alive and
kicking down in Washington they you know they've eaten alive about 180 billion of
taxpayer money so far but they're all still functioning in fact that's the
only part of the housing finance system that's left but the point is they're
are still issuing $140 billion of new mortgage-backed securities a month.
And with the policy announced yesterday, the Fed is going to be buying $30 billion from
before, the so-called roll-off.
Now it's adding $40 billion.
So it's going to be buying 50% of every mortgage-backed security issued by the entire complex of these
These Washington based monsters who are using the taxpayers credit to stamp guaranteed on
these mortgage backed securities, 50% of it now is going to be bought by the Fed.
Another dimension of it is the following, I like this one and I know it's something
that probably a lot of you may be aware of but I think the statistic is remarkable.
The Fed opened for business in November 1914, and it took them 93 years, till September
15, to be exact, 2008, to accumulate a balance sheet of $900 billion.
And you know, that was through two world wars, a lot of unnecessary wars, through the Great
Society, Guns and Butter, through the Reagan deficit disasters that I had some knowledge
and familiarity with and so forth, through the George Bush fiscal catastrophe that we
had in the last eight years.
But through that entire period, it took that long for the Fed to accumulate 900 billion
of Balance Sheet, mostly government securities of one maturity or another.
In seven weeks of sheer panic after Lehman went down and the next day they found an excuse
to bail out AIG when they couldn't find one the day before.
In seven weeks Bernanke doubled the size of the balance sheet of the Fed.
He did in seven weeks another $900 billion that had taken 93 years to generate in the
first instance.
And then in the first 13 weeks after the Lehman event, the balance sheet of the Fed went
to $2.5 trillion, which means it almost tripled in 13 weeks relative to 93 years of history.
So it tells you that something is way out of kilter.
There is some lunatic doctrine.
There are some madmen in charge of the printing press who have no idea that simply printing
money can't possibly cause any good and will most certainly generate a huge amount of bad.
After all, if it were so simple as what this open market committee is saying, there's
PhDs on there, there must be something wrong in the water supply at Princeton, I can't
figure out, if you're there long enough you must get brain damage or something, I can't
figure out where these people are coming from, but if it were so damn easy, why don't we
Why don't we just stop worrying and have the Fed print $8 trillion worth of balance sheet?
Literally drop it out of a helicopter, as Bernanke once advocated, and our job would
be one hour today to pick up enough money to get by and then do the rest of the day.
Because that's where it's leading.
This isn't, you know, it used to be sort of on the margin, well, you know, should you
You have M1 growing at 4.5% or 3%. That was a stupid debate, but at least it was fair.
Now they're printing it with such reckless abandon, with such enormous magnitudes that
if this continues, there will be a $4 trillion Federal Reserve balance sheet by 2014, when
hopefully Bernanke's term will be up.
The point is clear to everyone is that what's happening at the Fed today is Keynesian financial
central planning on steroids and the worst thing is it's done by 12 unelected members
of the Federal Open Market Committee who therefore don't have to answer to anyone and they have
long terms and so it's even worse than the old style fiscal Keynesianism that you got
from Samuelson and all the rest of them, because at least then Lyndon Johnson had to go to
Congress and try to persuade them to run these deficits and they were reluctant to do it.
Back then, even Nixon, who was totally out of control on the fiscal issue, said we're
all Keynesians now, but he even, at one point, had to cut spending and raise taxes because
it took at least some democratic assent.
But today we have 12 people who are self-appointed monetary central planners, who believe they're
in charge of the entire economy, who have no clue that they don't know what the real
growth potential of the U.S. economy is, with 53 trillion worth of debt on top of it, with
a leverage ratio of 3.5 rather than 1.5 after doing a 30-year national LBO.
How do they know what the real growth potential is of the economy anymore until we have a
of a cleansing and a liquidation of all of this malinvestment, all of this massive debt,
all of these distortions that have built up.
They don't know but they're presuming they know and that's why they're printing money
because they're trying to get the economy to be at the potential growth rate that they
decree as possible.
They said yesterday, we're going to give the statement yesterday, and this is why I call
it QEI, is we're going to print money and we're going to never stop until the unemployment
rate comes down to where we want it. Well, how do they know what the full employment
rate is in an economy that has been as damaged, impaired as this one has been? That we all
know the full, the unemployment rate doesn't even measure anything. I mean, it's just like
nonsense coming out of the BLS. Everybody knows that. People are dropping out of the
labor force. The denominator is stagnant. And so therefore, they're using a statistic that
Most sensible people would never use even to manage their own little investment portfolio.
They're trying to run a $15 trillion economy on a number that's that flaky and shaky.
And so therefore, they have done something that I find really outrageous, and that is
yesterday it was almost like, you know, Congress is making us do it, okay?
Yeah, we're printing a hell of a lot of money.
We're sucking up everything inside in terms of the treasury market, the MBS market.
Yeah, we're probably trying to levitate the Russell 2000 and so forth.
But we have to do it because we have a mandate from Congress that says maximum employment
and price stability.
Well, the point is, if you ever read that, it doesn't say you need an 8% unemployment
rate or 4% or 5.8762% unemployment.
There's nothing in there, that's an excuse in order to simply take charge, take control,
become the monetary palette bureau of the US economy.
So this is a worse kind of Keynesianism because there's no check on it whatsoever, it's just
12 people utterly out of control.
And therefore I believe, and this is my last point, that it's leading to a constitutional
Crisis. It is going to be more evident to people with each passing day that you do have
an unelected dozen people running this economy, ruining the capital markets, crushing savers,
allowing Washington to run massive debts without any carry cost, creating windfalls, crony
Many capitalist windfalls for all the smart speculators who have a little inside knowledge
about what's going on.
Turning capitalism because they're creating free money, they're turning the free market
into a doomsday machine.
And I think when that begins to settle in and people realize how out of control this
This is, and hopefully the Republicans will finally wake up after all these years of sleepwalking.
Maybe the issue will come to a head.
I'm not counting on it.
I'm somewhat of a pessimist.
But yesterday was so far off the deep end that maybe it's the wake-up call the country
finally needs.