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Central Banks and Financial Armageddon

Local economies are complex, beyond the ability of man to fully understand. National and global economies are infinitely more so. In this modern world of trade, commerce and finance, we are connected and interconnected in ways that no one fully comprehends. Simple events in one area produce complex reactions in other areas. The metaphor of a butterfly flapping its wings in Asia affecting commerce in the US might be a bit of an exaggeration but it is illustrative of complex dependencies across national borders.

Interconnectedness is illustrated by the following proverb found on Acting Man:

For want of a nail the shoe was lost.
For want of a shoe the horse was lost.
For want of a horse the rider was lost.
For want of a rider the battle was lost.
For want of a battle the kingdom was lost.
And all for the want of a horseshoe nail.

(popular proverb illustrating chaos theory)

This metaphor is more applicable than the butterfly one.

An innumerable number of events could trigger a massive reaction. Some of these follow:

  • What if Greece fails or leaves the EU? Or another of the PIIGS?
  • Suppose China clamps down too hard on its inflation?
  • What might trigger a derivatives crisis in a market estimated at $600 Trillion?
  • What if an oil embargo occurs when we have used half our strategic reserve oil in an attempt to boost Obama’s waning re-election chances?
  • What if China or Japan or Britain decides it needs to liquidate US reserves and Treasuries?

There are dozens of others that could be added to the list, some of which are listed here. Those above are beyond the horseshoe nail, probably somewhere at the stage of the rider being lost. Most are known and of concern to astute analysts.

Additionally there are  multiple dozens if not thousands more events like the horseshoe nail that we don’t even see yet. They are thought to be unimportant, but like the horseshoe nail they can start a chain reaction that ends in disaster.

Chaos theory can be illustrated in terms of a pile of sand composed of billions of grains. The pile is ostensibly stable.  Yet there is always a risk of instability arising from some individual grain. At some point, the equivalent of an avalanche occurs. No single grain can cause the damage, yet every avalanche starts with a single grain that begins a process. Which grain may trigger the process is unknowable. All are candidates. The analogy is an apt one for the interconnectedness of the world.

The world has never been more at risk than today. The world’s financial system is on the brink. It has been made so by central banks, fractional reserve banking and governments who refuse to face reality. As expressed by the Daily Bell:

The system of central banking has created perhaps the most monumental bubble ever seen.

Central banks have created super interdependencies that never existed before. They have done so via enormous leverage in their fractional banking systems, making individual banks and individual banking systems unstable and at risk. Interbank lending creates further dependencies within borders. Cross-border lending intertwines the fates of all banking systems.

The leverage encouraged by central banks has been driven by the need to finance government spending that cannot be covered via taxes. As a result of massive deficits and government debt around the world, the financial system is highly unstable. It is an accident waiting to happen.

Instead of taking sand off the pile, governments and their agents continue to add it. That is the only way that the current system can continue, for awhile. It is a certain tragedy in the future. Adding to the piles of sand only increases the probability of a landslide. By refusing to face reality today, governments only create bigger future problems tomorrow.

The piles of sand are now so high and so interconnected that a grain stirring in one will eventually trigger a worldwide financial Armageddon.

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