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In The Fed We TRUST – Part 2: What is Money?

Part one of this article can be found HERE.

President Trump recently nominated Judy Shelton to fill an open seat on the Federal Reserve Board. She was recently quoted by the Washington Post as follows: “(I) would lower rates as fast, as efficiently, and as expeditiously as possible.” From a political perspective there is no doubting that Shelton is conservative.

Janet Yellen, a Ph.D. economist from Brooklyn, New York, appointed by President Barack Obama, was the most liberal Fed Chairman in the last thirty years.

Despite what appears to be polar opposite political views, Mrs. Shelton and Mrs. Yellen have nearly identical approaches regarding their philosophy in prescribing monetary policy. Simply put, they are uber-liberal when it comes to monetary policy, making them consistent with past chairmen such as Ben Bernanke and Alan Greenspan and current chairman Jay Powell.

In fact, it was Fed Chairman Paul Volcker (1979 to 1987), a Democrat appointed by President Jimmy Carter, who last demonstrated a conservative approach towards monetary policy. During his term, Volcker defied presidential “advice” on multiple occasions and raised interest rates aggressively to choke off inflation. In the short-term, he harmed the markets and cooled economic activity. In the long run, his actions arrested double-digit inflation that was crippling the nation and laid the foundation for a 20-year economic expansion.

Today, there are no conservative monetary policy makers at the Fed. Since Volcker, the Fed has been run by self-described liberals and conservatives preaching easy money from the same pulpit. Their extraordinary policies of the last 20 years are based almost entirely on creating more debt to support the debt of yesteryear as well as economic and market activity today. These economic leaders show little to no regard for tomorrow and the consequences that arise from their policies. They are clearly focused on political expediency.

Different Roads but the Same Path –Government

Bernie Sanders, Alexandria Ocasio-Cortez, Elizabeth Warren, and a host of others from the left-wing of the Democrat party are pushing for more social spending. To support their platform they promote an economic policy called Modern Monetary Theory (MMT). Read HERE and HERE for our thoughts on MMT. 

In general, MMT would authorize the Fed to print money to support government spending with the intention of boosting economic activity. The idealized outcome of this scheme is greater prosperity for all U.S. citizens. The critical part of MMT is that it would enable the government to spend well beyond tax revenue yet not owe a dime.   

President Trump blamed the Fed for employing conservative monetary policy and limiting economic growth when he opined, “Frankly, if we didn’t have somebody that would raise interest rates and do quantitative tightening (Powell), we would have been at over 4 instead of a 3.1.” 

Since President Trump took office, U.S government debt has risen by approximately $1 trillion per year. The remainder of the post-financial crisis period saw increases in U.S. government debt outstanding of less than half that amount. Despite what appears to be polar opposite views on just about everything, under both Republican and Democratic leadership, Congress has not done anything to slow spending or even consider the unsustainable fiscal path we are on. The last time the government ran such exorbitant deficits while the economy was at full employment and growing was during the Lyndon B. Johnson administration. The inflationary mess it created were those that Fed Chairman Volcker was charged with cleaning up.

From the top down, the U.S. government is and has been stacked with fiscal policymakers who, despite their political leanings, are far too undisciplined on the fiscal front.

We frequently assume that a candidate of a certain political party has views corresponding with those traditionally associated with their party. However, in the realm of fiscal and monetary policy, any such distinctions have long since been abandoned.


Now consider the current stance of Democratic and Republican fiscal and monetary policy within the TRUST framework. Government leaders are pushing for unprecedented doses of economic stimulus. Their secondary goal is to maximize growth via debt-driven spending. Such policies are fully supported by the Fed who keeps interest rates well below what would be considered normal. The primary goal of these policies is to retain power.

To keep interest rates lower than a healthy market would prescribe, the Fed prints money. When policy consistently leans toward lower than normal rates, as has been the case, the money supply rises. In the wake of the described Fed-Government partnership lies a currency declining in value. As discussed in prior articles, inflation, which damages the value of a currency, is always the result of monetary policy decisions.

If the value of a currency rests on its limited supply, are we now entering a phase where the value of the dollar will begin to get questioned? We don’t have a definitive answer but we know with 100% certainty that the damage is already done and the damage proposed by both political parties increases the odds that the almighty dollar will lose value, and with that, TRUST will erode. Recall the graph of the dollar’s declining purchasing power that we showed in Part 1.

Data Courtesy St. Louis Federal Reserve

Got Money? 

If the value of the dollar and other fiat currencies are under liberal monetary and fiscal policy assault and at risk of losing the valued TRUST on which they are 100% dependent, we must consider protective measures for our hard-earned wealth.

With an underlying appreciation of the TRUST supporting our dollars, the definition of terms becomes critically important. What, precisely, is the difference between currency and money? 

Gold is defined as natural element number 79 on the periodic table, but what interests us is not its definition but its use. Although gold is and has been used for many things, its chief purpose throughout the 5,000-year history of civilization has been as money.

In testimony to Congress on December 18, 1912, J.P. Morgan stated: “Money is gold, and nothing else.” Notably, what he intentionally did not say was money is the dollar or the pound sterling. What his statement reveals, which has long since been forgotten, is that people are paid for their labor through a process that is the backbone of our capitalist society. “Money,” properly defined, is a store of labor and only gold is money.

In the same way that cut glass or cubic zirconium may be made to look like diamonds and offer the appearance of wealth, they are not diamonds and are not valued as such. What we commonly confuse for money today – dollars, yen, euro, pounds – are money-substitutes. Under an evolution of legal tender laws since 1933, global fiat currencies have displaced the use of gold as currency. Banker-generated currencies like the dollar and euro are not based on expended labor; they are based on credit. In other words, they do not rely on labor and time to produce anything. Unlike the efforts required to mine gold from the ground, currencies are nearly costless to produce and are purely backed by a promise to deliver value in exchange for labor.

Merchants and workers are willing to accept paper currency in exchange for their goods and services in part because they are required by law to do so. We must TRUST that we are being compensated in a paper currency that will be equally TRUSTed by others, domestically, and internationally. But, unlike money, credit includes the uncertainty of “value” and repayment.

Currency is a bank liability which explains why failing banks with large loan losses are not able to fully redeem the savings of those who have their currency deposited there. Gold does not have that risk as there is no intermediary between it and value (i.e., the U.S. government or the Japanese government). Gold is money and harbors none of these risks, while currency is credit. Said again for emphasis, only gold is money, currency is credit.

There is a reason gold has been the money of choice for the entirety of civilization. The last 90 years is the exception and not the rule.

Despite their actions and words, the value of gold, and disTRUST of the dollar is not lost on Central Bankers. Since 2013, global central banks have bought $140 billion of gold and sold $130 billion of U.S. Treasury bonds. Might we say they are trading TRUST for surety?


To repeat, currency, whether dollars, pounds, or wampum, are based on nothing more than TRUST. Gold and its 5000 year history as money represents a dependable store of labor and real value; TRUST is not required to hold gold. No currency in the history of humankind, the almighty U.S. dollar included, can boast of the same track record.

TRUST hinges on decision makers who are people of character and integrity and willingness to do what is best for the nation, not the few. Currently, both political parties are taking actions that destroy TRUST to gain votes. While political party narratives are worlds apart, their actions are similar. Deficits do matter because as they accumulate, TRUST withers.

This article is not a call to action to trade all of your currency for gold, but we TRUST this article provokes you to think more about what money is.

Post Election Growth Analysis

With the mid-term elections now behind us, we can begin to better assess market dynamics using a known outcome. The Democratic party has regained control of the House of Representatives while at the same time Republicans extended their majority in the Senate. Nevertheless, the power shift in the House will certainly change the political dynamics and increase the level of acrimony on Capitol Hill. The pent-up frustrations of Democrats and their disdain for everything “Trump” seems certain to apply brakes to the agenda of the current administration.

Over the past two years, that agenda has demonstrated itself to be decidedly pro-growth by any means necessary. Of chief concern to us is that growth and prosperity are two very different things. Temporary growth by means of further expanding the country’s debt obligations, as has been the case since the financial crisis, will do nothing for long-term prosperity. Indeed, as the populist movement here and abroad demonstrates, we are already well down the path of sacrificing prosperity for growth.

This matters more so today than in prior years because of the problems we are beginning to see in capital markets as interest rates rise. The advancement of pro-growth strategies fueled by debt and non-productive expenditures by policy-makers has assured a widening of wealth inequality and the populist revolt (if there were another way for us to emphasize that statement, we would). Just to ensure readers do not think us partisan, this is the same strategy advanced to varying degrees by every President and Fed since Franklin Roosevelt in 1933. It certainly does not hold any promise of advancing prosperity to her citizens. Like the socialization of losses in the financial crisis, only a few benefit while the vast majority of the population bears the ultimate and eventual burden.

With Republicans now forced to share power and having less influence in pursuing the Trump plan, it raises an important question: What difference will the congressional split and resulting gridlock make for the economy?

The Signals

Even before the results of this election were known, the bond market was sending confounding signals about the direction of the economy. It can best be described by looking at short-term interest rates (Fed Funds, Eurodollars and 2-Year note Treasuries) on the one hand and longer-term interest rates (10-year notes and 30-year Treasury bonds) on the other. Traditionally, when economic growth picks up steam as an expansion advances, interest rates begin to rise to anticipate that growth may cause rising inflation. Investors’, concerned about the rate of inflation, demand a higher return. Historically, the Federal Reserve (Fed) would follow the markets lead by raising the Fed Funds rate. As higher interest rates begin to cause businesses to be more discriminating in their use of capital for projects, economic activity slows. Responding to that dynamic, long-term interest rates would stop rising and eventually begin to fall well before the Fed lowers short-term interest rates. This causes the yield curve to flatten (or invert).

Data Courtesy St. Louis Federal Reserve

What we see today, in a time when markets have become accustomed to the Fed leading the markets as opposed to following them, is an unusual contrast between the short-end and the long-end of the yield curve. Using the Eurodollar and Fed Funds futures complex as market-based indicators of short-term interest rates, investors imply that the Fed will hike interest rates two times (0.25% each) in 2019 and stop. Meanwhile, the Federal Reserve is telling us through their projection of rate hikes (the dot plot) that they intend to hike rates at least three times in 2019 and possibly more in 2020.

The long end of the yield curve, which is less responsive to Fed Funds expectations and more sensitive to fundamental economic activity like growth and inflation, has recently been steepening. That is to say, although short rates have continued to move higher, the longer end of the yield curve is also moving higher and by a greater magnitude. The 10-year and 30-year Treasury yields are either telling us that economic activity is durably robust and therefore threatens a rise in inflation and/or the longer maturity Treasuries are worried about the amount of issuance required to fund the coming trillion dollar deficits. But if that were the case, it seems the short end would also be mutually expressing those concerns.

Graph courtesy Bloomberg

The conflicting message is that while on the one hand, the market in short rates is underestimating what the Fed is telegraphing regarding rate hikes (2 versus 3), the long end is expressing a concern that the Fed is going to need to be more aggressive.


Like the tax cuts and budget deal passed a few months ago, incremental federal spending going forward can only be funded by expanding the deficit even further. The optics of more fiscal stimulus (i.e., infrastructure spending and tax cuts) will boost near-term estimates of economic growth and likely impose on the Fed to extend plans for rate hikes further. At the same time, larger deficits mean even more Treasury supply at a time when foreign interest is declining which also implies higher interest rates. For an economy so sodden with debt, higher interest rates are problematic which appears to be the outcome no matter what.

Democrats’ control of the House likely puts an end to any such plans as they seem determined to railroad any further stimulus efforts put forth by Trump. That may relieve bond markets from worrying about the risk of even more deficit spending, but it does not atone for past sins and the anvil of debt burdens now hanging around the country’s neck.

For anyone who is unclear about the idea that growth does not equal prosperity, we would argue that you are about to get a first-hand lesson in that difference. If you think Donald Trump and Bernie Sanders were outsiders in the 2016 campaign, the tone in Washington here forward is likely to fuel populist momentum. The only thing we are willing to predict is that of even bigger surprises heading into 2020.



Election Night Cheat Sheet

Historically, the last two years of a president’s term have been great for stock investors as shown below. We can blindly follow history and hope that this is once again the case, or we can examine the facts in front of us and decide if there is reason to be suspect.

Public policy matters to markets and the economy and as a result a significant determinant of the next two years depends on what happens tonight. While the pollsters from both sides of the aisle are claiming victory, the fact of the matter is no one knows what this election may bring. Trump proved the pollsters wrong two years ago and we have little reason to believe they have it right this time. The results depend heavily on the much anticipated “Blue Wave” and whether Democratic turnout can offset the successes, economic and otherwise, of the Trump administration’s first two years.

The question of whether or not the Republicans can keep control of the House and Senate has vast implications for the economy and markets. The following Cheat Sheet provides our latest thoughts on three election result scenarios and what each might mean for the stock and bond markets as well as Federal Reserve policy, the U.S. dollar and economic activity. Please click on the picture to enlarge it.