The Gibson guitar story in retrospect

Of all the stories of corruption, abuse of power, and serial criminal behavior on the part of the Obama administration, the one about the Gibson Guitar company stands out.  It stands out largely because the facts speak for themselves and are articulated in this article from the Washington Examiner newspaper.  It demonstrates the lengths to which Obama, Holder and the rest are willing to go to in order to intimidate and suppress those with different points of view.  This is the 21st century iteration of the Nazi movement that launched WWII.  Nice.

Gibson Guitar and the Politics of Persecution

The highly publicized 2011 raid by FBI agents of a plant owned by Gibson Guitar is beginning to look more and more like another outgrowth of the Obama administration’s crackdown on citizens considered to be political “enemies.” By now it is well known that the Obama IRS has been persecuting individuals affiliated with the Tea Party and even religious organizations through audits, federal agency investigations and the denial of the right to form non-profit groups. The Obama Justice Department, too, has engaged in unprecedented seizing of communication records of journalists, including Fox News’s James Rosen, whom the administration has threatened with charges of “espionage.” With these details now made public, Gibson Guitar has good reason to believe the shocking raid of its facilities, which cost the company altogether millions of dollars, was also a warning to its Republican-supporting CEO Henry Juszkiewicz.

On August 24, 2011, armed FBI agents in SWAT gear executed a warrant for the seizure of wood at Gibson Guitar facilities. At the time, the raid appeared peculiar because of the excessive forced used over charges of regulatory violations. The premise of the raid was an obscure 100-year-old law known as the Lacey Act. On the basis of this act, the Feds were able to storm the facilities, claiming that Gibson’s had broken foreign (not American) law in its procurement of the wood, even though the government produced no evidence of the crime at the time and no evidence has since emerged that the material was illegally obtained. Juszkiewicz was only told at the time that the Gibson supply chain had a “risk” of including illicit wood. This was in fact the only infraction the company was penalized for after it was forced to settle its case to avoid costly litigation.

Suspicions of political motivations behind the attack were quickly aroused. Gibson Guitars CEO Henry E. Juszkiewicz is a known supporter of conservative causes and political candidates. The Examiner, citing Open Secrets, reports that Juszkiewicz had contributed $2000 to Rep. Marsha Blackburn (R-TN07) last year, as well as $1500 to Sen. Lamar Alexander (R-TN). Juszkiewicz also has donated $10,000 to the Consumer Electronics Association, a PAC that contributed $92.5k to Republican candidates last year, as opposed to $72k to Democrats.

Notably, one of Gibson’s biggest competitors, C.F. Martin & Co., reportedly uses the same type of wood seized from Gibson’s, but did not face any kind of interference from the federal government. The Examiner reports that Chris Martin IV, CEO of C.F. Martin & Co., is a well-known Democratic fundraiser. The Examiner describes Martin as “a long-time Democratic supporter, with $35,400 in contributions to Democratic candidates and the DNC over the past couple of election cycles.” Furthermore, no other companies known to use the wood in question, such as furniture manufacturers, have reported similar prosecution from the federal government, though the wood is distributed widely throughout the world. As Juszkiewicz told radio host Hugh Hewitt, “Virtually every other guitar company uses this wood and this wood is used prominently by furniture and architectural industries, and to my knowledge none of them have been shut down or treated in this fashion.”

Gibson Guitar lost enormous assets as a result of the government’s manhandling. Judge Andrew Napolitano, a Fox News Channel legal analyst, described the harrowing nature of the raid and its incredible cost.

These guys came dressed in SWAT gear with machine guns pointed at people. They took dozens and dozens of people out into the parking lot. They then seized what they said was the illegal wood. They effectively shut down the business for a month. Gibson’s legal bills are about $2.5 million and they haven’t even gotten back the wood that was seized from them.

As with the IRS scandal today, the so-called mainstream media attempted to downplay the significance of the Gibson raid, casting it as a political football for Republicans. Politico reported at the time:

[The] federal raids on the company that makes Gibson electric guitars were a gift to Republicans who have spent years railing about more obscure issues like boiler MACT regulations and particulate emissions standards.

Here, at last, was a controversy the average person could grasp: Overreaching regulators were out to kill rock ‘n’ roll.

Still, House Republicans are having some trouble getting the issue to gain traction on the Hill.

However, with both the Attorney General’s office and the IRS now tied directly to scandals in which there is strong evidence that each of the agencies misused and abused their powers in order to target political enemies of the President, the Gibson Guitar case can hardly be dismissed as regulatory overreach. In hindsight, it was an ominous foreshadowing of the explosion of misdeeds we are witnessing today.

Thanks to the dedication of Congressman Darrell Issa, the investigation into the IRS has been moving forward.  The House Committee on Oversight and Government Reform, which Issa chairs, has scheduled more hearings into the IRS scandal for later in the week. Head of the IRS’s non-profit division, Lois Lerner, whose Fifth Amendment rights have come into question after she chose to emphatically profess her innocence shortly before refusing to testify on the matter, is listed as one of the scheduled speakers. Meanwhile, Attorney General Holder, who has already been cited in contempt of Congress, is being investigated forperjury.

Investor’s Business Daily, which renewed interest in the injustice done to Gibson’s with a recent editorial, keenly observes that all of the Obama administration scandals are connected by a common denominator: abuse of power to persecute political adversaries — even if those on Obama’s “enemies list” are ordinary citizens exercising their constitutional rights.

Juszkiewicz’ claim that his company was “inappropriately targeted” is eerily similar to the claims by Tea Party, conservative, pro-life and religious groups that they were targeted by the IRS for special scrutiny because they sought to exercise their First Amendment rights to band together in vocal opposition to the administration’s policies and the out-of-control growth of government and its power.

The Gibson Guitar raid, the IRS intimidation of Tea Party groups and the fraudulently obtained warrant naming Fox News reporter James Rosen as an “aider, abettor, co-conspirator” in stealing government secrets are but a few examples of the abuse of power by the Obama administration to intimidate those on its enemies list.

So far, the administration has dismissed this growing plethora of scandals, claiming ignorance in each case. That claim, as ludicrous as it is, would be equally troubling, even if it were true. The bottom line is that there is a common thread in each of the scandals that have come out over the last few weeks. In nearly all of these cases, there were examples of parts of the Obama administration using the power afforded to them to punish enemies of the administration and subsequently reward its friends. Gibson Guitar was just the canary in the coal mine.

More from David Stockman

You won't find a more succinct explanation of the forces at work that caused the financial meltdown of "07-08.  Understated in this explanation is the destructive role played by democrat (and a few republican) politicians from Bill Clinton, to Andrew Cuomo to Senator Barak Obama.  Nor should the role of the CBC (Congressional Black Caucus) and the corrupt management of the major GSEs involved (Raines, et al) and their enablers in the Congress.  This is probably the worst scandal in our country's history because it effects will be felt for generations to come.

The New Deal Origins of Fannie Mae and the Government-Housing Complex

Fannie Mae is a classic crony capitalist progeny of the New Deal that began life in 1938, quite innocently, as still another ad hoc New Deal program to boost the depression-weakened housing market. It grew into something quite different: a monster that deeply deformed and corrupted the nation’s entire financial system seventy years later.

The policy aim of Fannie Mae was “forcing water to flow uphill” in the residential mortgage market so that low-rate thirty-year home mortgages became available to wage-earning households of modest means. Such mortgages did not then exist for a good reason: they were not economic. No prudent local bank or thrift would take the underwriting risk.

Fannie Mae would thus override the market’s veto by turning local banks and thrifts into government contractors or agents, rather than mortgage debt underwriters. Accordingly, they would be relieved of their aversion to the risk of default loss by means of a Washington-funded “secondary market.” The latter would purchase these commercially unappealing mortgage loans for cash, enabling local bankers to reloan this cash again and again in a government-supported rinse and repeat cycle.

Meanwhile, the default losses that the market refused to underwrite would be shifted to taxpayers, since Fannie Mae’s funding would implicitly depend on the public credit of the United States. The slowly recovering residential housing sector would thus receive the kind of booster shot much favored by the New Dealers.

What Fannie Mae also did, unfortunately, was to start the home mortgage market down a slippery slope. This included separating the loan origination process from the long-term servicing and ownership of the resulting mortgage, in an alleged financing “innovation” that would give rise to predatory mortgage-broker boiler rooms a few generations down the road.

Likewise, it opened the door to the funding of home loans in the global markets for U.S. sovereign debt, rather than out of the savings deposits of local bank customers. This became possible because Fannie Mae took on quasi-sovereign status, meaning that investors were funding the general credit of the United States, not the specific risk of local mortgage borrowers and separate residential markets.

There were several crucial upgrades in ensuing decades to the original New Deal scheme before it reached its stunning dénouement in Washington’s panicky $6 trillion nationalization and bailout in September 2008. Among these milestones were LBJ’s maneuver to put Fannie “off-budget” in 1968 in order to hide its exploding use of Uncle Sam’s credit card.

LBJ’s so-called privatization plan, in turn, paved the way for Fannie to morph into a hybrid entity called a GSE (government-sponsored enterprise) in which ownership was private but its debt issues were implicitly government guaranteed. Politicians and policy makers who inherited FDR’s “anything that works” mantle were pleased to describe the GSEs as creative “public/private partnerships.”

They were no such thing. The GSEs were actually dangerous and unstable freaks of economic nature, hiding behind the deceptive good-housekeeping seal afforded by their New Deal–sanctioned mission to support middle-class housing. This was especially the case after Fannie’s initial public offering and subsequent ability to tap the public capital markets for virtually limitless funds.

Another crucial step was Wall Street’s perfection of the mortgage securitization model. This “innovation” vastly improved Fannie’s ability to sweep up mortgages originated by local bankers on a massive wholesale basis, and then guarantee and package them for distribution into increasingly broad and liquid national and international capital markets. When this was combined with high speed computerized underwriting in the 1990s, disasters like Countrywide Financial became inevitable.

As time passed, the evolution of the Fannie Mae monster only got more fantastical. Thus, the rise of the worldwide T-bill standard generated a nearly inexhaustible appetite among mercantilist central banks for U.S. government or quasi-government GSE paper. These vast monetary roach motels were not exactly honest “markets” for mortgage loans from Cleveland or Fort Myers, but GSEs went into overdrive supplying the unquenchable thirst of foreign central banks for dollar liabilities, especially when heavy currency pegging began after 1994.

Not surprisingly, when Treasury Secretary Hank Paulson’s fabled bazooka failed and Washington had to nationalize the GSEs, foreign central banks and other state institutions owned more than $2 trillion of American home mortgages, including upward of $1 trillion domiciled at the People’s Printing Press of China.

In short, Fannie Mae’s journey started in 1938 with a Washington, D.C., filing cabinet containing a few thousand mortgage notes which had been gussied up and christened as the nation’s “secondary mortgage market.” Yet the progeny of this innocent filing cabinet ended up eighty years later scattered around the globe in the trust accounts of Norwegian fishing villages and as a trillion-dollar stash in the central bank vault of Red China.

In the interim, massive social costs and economic losses built up inside the housing marketplace and became ripe to explode. As detailed more fully in chapter 20, the whole GSE scheme functioned to underprice mortgages, undermine lending standards, over qualify home buyers, fuel greedy broker predation, and fund a speculative climate.

In the process, the principal assets of the American middle class, family residences, were turned into an ATM machine and became the object of frenzied buying, selling, and serial refinancing. Unfortunately, this ruinous journey was far more inexorable than it was merely accidental.

At each step along the way, powerful special interest groups—mortgage bankers, real estate developers, home builders, building material suppliers, Wall Street underwriters, law and title firms, appraisers, and brokers—drove policy toward their own benefit. These changes, elaborations, enlargements, and aggrandizements had a common purpose: namely, to enable the Fannie Mae (and Freddie Mac) mortgage-financing machine to harvest ever greater volumes, profits and fees.

Indeed, the Fannie Mae saga demonstrates that once crony capitalism captures an arm of the state, its potential for cancerous growth is truly perilous. More importantly, it underscores that the resulting carnage can be vastly disproportionate to the alleged social ill that justified the original policy intervention.

In this case, the housing market had essentially recovered before Fannie Mae opened its doors. After hitting bottom at 125,000 units per year in 1931–1933, the volume of new starts had nearly tripled by the late 1930s. By then, it was by no means evident that the nation’s remaining willing lenders and solvent borrowers were producing the wrong answer with respect to the number of housing starts. So fiddling with an arbitrary goal of higher housing starts, the New Dealers gave birth to what eventually became a crony capitalist monster, and that was all.

Copyright © 2013 David Stockman. Used with the author's permission.

David Stockman was director of the Office of Management and Budget under President Ronald Reagan, serving from 1981 until August 1985. He was the youngest cabinet member in the 20th century. See David Stockman's article archives.

Inflation on the way?

A full and clear explanation of why inflation is just around the corner, per Mises Institute.

Killing the Currency

. . . there is no record in the economic history of the whole world, anywhere or at any time, of a serious and prolonged inflation which has not been accompanied and made possible, if not directly caused, by a large increase in the quantity of money.
— Gottfried Haberler, Inflation, Its Causes and Cures (1960)[1]

The phrase “not worth a continental” may be vaguely familiar to Americans as an old and quirky saying, but to Revolutionary War–era Americans it would have been a harsh reminder of a recent nightmare. In order to finance the war, the Continental Congress authorized the issuance of money without rights of redemption in coin or precious metals (unlike other currencies in circulation). In short order, over $225 million Continentals were issued on top of an existing money supply of only $25 million. Initially traded on a one-for-one ratio with paper dollars backed by coin or precious metals, within a mere five years Continental currency had depreciated to worthlessness.[2] It was America’s first major experiment with a fiat currency, and it cost many newly free Americans their livelihood and savings.

Such expansion of the money supply is not relegated to America’s past. In response to the 2008 economic crisis, by some measurements the Federal Reserve has more than tripled the money supply. With such pronounced expansion, will the U.S. soon experience significant price inflation, and if so, how severe may it be?[3] Answering these questions requires an examination of the money supply.

The Money Supply

The Federal Reserve creates money by three methods:

• Purchasing Assets:For purposes of the effect upon the overall price level, it does not matter which assets are purchased as long as they are bought with newly created money. This action is performed by the Federal Reserve’s “open market operations” which historically has consisted of buying and selling Treasury securities (and now includes a large dose of mortgage-backed securities). Purchasing assets allows the Federal Reserve to instantly increase the supply of money and manipulate both interest rates and the prices of securities through its selection of assets to purchase. After successive rounds of “quantitative easing,” the Federal Reserve announced a self-described “highly accommodative stance of monetary policy” on September 13, 2012 in which it committed to monthly asset purchases of $85 billion.[4] This open-ended policy will result in annual purchases of $1 trillion (especially significant when compared to 2012 U.S. Gross Domestic Product of less than $16 trillion).
• Lending Money to Banks:The discount rate is the interest rate by which commercial banks may borrow additional reserves from the Federal Reserve. It is a rate set by the Federal Reserve. With lower rates, banks are more inclined to borrow money, thus expanding the money supply. Currently, the rate is set at the near-historically low level of 0.75 percent. To emphasize how significantly low this rate is, it was set above 6.00 percent as recently as 2006.
• Lowering Banking Reserve Requirements:While not commonly understood, it can have the most immediate and profound effect upon the money supply and the economy relative to the other monetary creation tools possessed by the Federal Reserve. Commercial banks, by lending out demand deposits, create additional dollars in the system above-and-beyond that of the Federal Reserve’s actions. The word “fractional” in fractional reserve means they hold but a fraction of what can be demanded from them at any given time. Currently, banks only need to have 10 percent of their demand deposits available for withdrawal by depositors.[5] This means that with a reserve requirement of 10 percent, banks can increase the money supply equal to 10 times their demand deposits.

These three methods are simple despite assertions by Treasury officials and bankers that actions such as “quantitative easing” are complex. In fact, “quantitative easing” is quite easy to understand: previously there was X amount of currency, and now there is X plus Y.

The money supply can be measured in a variety of ways depending upon the definition of money. Three measurements of money supply available on a monthly basis since 1959 include: BASE (“Adjusted Monetary Base”), M2, and MZM (“Money Zero Maturity”).[6][7][8]

• BASE. Currency in circulation and deposits held by domestic depository institutions at Federal Reserve Banks.
  
• M2 Currency in circulation, savings deposits, and retail money market mutual fund shares.
  
• MZM. M2 with the addition of institutional money funds.

Given its three tools, how has the Federal Reserve recently increased the money supply relative to its historical actions? The chart below describes, on a percentage basis, increases in each monetary category on a monthly basis relative to its level on January 1, 1959.

Three trends are readily apparent from this graph:

• First, regardless of the definition of money, the money supply has expanded dramatically over time as the increases are measured in thousands of percentage points;

• Second, the overall expansion appears to have begun in earnest in 1971 which is, not coincidentally, when President Nixon severed the last links of the U.S. dollar (and effectively all other major currencies), from gold; and

• Third, the money supply as measured by BASE has exploded since 2008 (up 245 percent from December 1, 2007 to March 1, 2013) while the money supply from the other two measurements has not followed the same degree of increase (although they too have experienced accelerated growth).

Why has M2 and MZM not followed BASE? Note that the definition of BASE includes “deposits held by domestic depository institutions at Federal Reserve Banks” which is not part of the M2 and MZM classifications. Traditionally, to maximize profits, banks hold their “excess reserves” at close to zero. That is, they tend to quickly lend out any reserves they have over-and-above their legally required minimum. So the difference in BASE relative to M2 and MZM reflects the current lack of new lending by commercial banks.[9]

As Austrian economist Mark Thornton has noted, we live in a unique:

economic and financial environment where bankers are afraid to lend, entrepreneurs are afraid to invest, and where everyone is afraid of the currencies with which they are forced to endure.[10]

Unless this difference becomes permanent (which would be unprecedented), M2 and MZM should experience additional significant increases. Importantly, however, the potential for substantial future price inflation does not rest upon M2 and MZM “catching up” to the increase in BASE, for each of these monetary categories has soared in their own right since December 1, 2007 (M2 by 61 percent and MZM by 43 percent).[11]

Price Inflation and the Money Supply

Increases in the supply of money create price inflation, all things being equal. But what is not “equal”? That is, why is the relationship between monetary increases and inflation not on a one-to-one basis? There are several primary reasons.

• First, as the economy experiences real growth, the demand for money increases due to both the larger number of entities holding cash balances (i.e., more firms are created as the economy grows) as well as the general trend for economic actors to increase cash holdings with greater economic opportunities (i.e., goods and services). Increased demand for money raises its value which decreases the prices of all goods and services. The higher demand for money helps mitigate the inflationary effects of monetary increases.

• Second, there are timing issues between the increase in the supply of money and the appearance of price inflation. The time delay is not consistent throughout history, and is influenced by a number of factors.

• Third, the U.S. economy is not a closed system. To the extent dollars circulate outside of the U.S., whether as “petrodollars” or as the de facto national currency of a different state, the diversion of such dollars from the U.S. economy helps alleviate price inflation due to increases in the money supply.

Although the timing of the emergence of price inflation can only be estimated, the correlation with money supply growth is indisputable.[12] Based on money supply growth — by any measure — since 2008, substantial price inflation is likely. And if price inflation mirrors the growth in money as measured by the monetary category BASE, the ensuring price inflation will be unprecedented since the Continental dollar.

It is important to note that regardless of any future curtailment of monetary expansion, the inflationary forces are already within the system. It does not matter if the Federal Reserve ends its “highly accommodative stance of monetary policy.” Itspast actions will have a pronounced future reaction.

Conclusion

In the U.S., the last several years have witnessed an unprecedented expansion of the money supply. Even America’s failed experiment with Continental currency, while incorporating a larger expansion of the money supply, is not truly comparable. For in Revolutionary War-era America, alternative currencies were readily accessible and used in the daily course of business, thus providing a measure of ability to disengage from the failing Continental money. But no such options exist for today’s Americans who must transact their daily business in U.S. dollars. So while the Continental dollar was disastrous, the future situation for today’s dollar may prove far worse.

All written content in this article is for information purposes only. Opinions expressed herein are solely those of WindRock Wealth Management LLC and its editorial staff. Material presented is believed to be from reliable sources; however, we make no representations as to its accuracy or completeness. All information and ideas should be discussed in detail with your individual adviser prior to implementation.

Christopher P. Casey, CFA®, CPA is a Managing Director at WindRock Wealth Management. Send Chris Casey mail. See Chris Casey's article archives.
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Notes

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[1] Haberler, Gottfried. Inflation, Its Causes and Cures (Washington, DC: American Enterprise Association, 1960), p. 16.
[2] Rothbard, Murray. A History of Money and Banking in the United States: The Colonial Era to World War II (Auburn, Alabama: The Ludwig von Mises Institute, 2002), pgs. 59-60.
[3] Austrian economists generally prefer the classic definition of inflation as stated by Ludwig von Mises to be “the increase in the quantity of money and money substitutes” and not “the general rise in commodity prices and wage rates which is the inevitable consequence of inflation.” ( Planning for Freedom, 1952). By utilizing this classic definition, Austrian economists attempt to emphasize the unique role of money in creating price level increases. Due to the current wide acceptance of the definition of “inflation” to be “the general rise in commodity prices and wage rates”, this article uses the term “inflation” synonymously with its current usage.
[4] (Federal Reserve Press Release). 13 September 2012.
[5] Technically, the reserve requirement is tiered, but overall the effective reserve requirement approximates 10%.
[6] The M2 money supply data presented herein is actually the category “M2 less small time deposits”.
[7] Data has been presented since 1959 which is the first year data is available for M2 less small deposits and MZM. BASE data is available from 1918.
[8] Federal Reserve Bank of St. Louis.
[9] For an interesting discussion of data potentially signaling this change, see Murphy, Robert. “On the Brink of Inflationary Disaster”. Ludwig von Mises Institute. 25 August 2011.
[10] Thornton, Mark. “Where Is the Inflation?” Ludwig von Mises Institute. 16 January 2013.
[11] Through March 1, 2013.
[12] As an aside, some may argue that, in addition to the supply of money, inflation can be caused by increases in the velocity (speed of circulation) of money. The reasoning, however, is reversed: the velocity of money is not a cause of inflation but rather a result of people spending quicker in the anticipation of the currency continuing to fall in value.