The Federal Reserve has had QE1, QE2, and QE3.  The Federal Funds Rate has been below 0.5% for the longest time.  So where is the inflation?  If that token currency is not bidding up commodity prices, where did all of that money go?

To be fair, some of it has been bidding up stocks and real estate in certain high-profile markets (San Francisco, New York).  Those are bubbles.  But they are minor ones.  When those bubbles deflate, some people are gonna lose some money, but these bubbles will not unleash a full-blown crisis of overproduction.  We are not there yet.  (More on that below…)

So, other than stock and real estate bubbles, where did all of the money go?

Right here:


Why are banks holding onto this money?  Notice the change around September of 2008.  Why the sudden increase in excess reserves?  Because in October of 2008 the Federal Reserve started running a charity for money capitalists, paying 0.25% now 0.5% interest on this idle cash! That beats any other investment opportunity right now for this money (such has been the sad state of the profitability of commodity production ever since the start of the Great Recession), so there it stays.

And if the Federal Reserve keeps increasing this payout rate on excess reserves, as it did in December 2015 when it increased the rate from 0.25% to 0.50%, then it will be quite a long while before this money ever gets out of the bank vaults to bid up the prices of commodities in the “real” economy.

Let’s run a thought experiment and imagine that the payout rate on these excess reserves got up to some ridiculous number such as 5%.  What would this mean?

This would mean that bank reserves would be doubling every 15 years just from sitting in bank vaults.

Imagine if this payout rate on excess reserves ever came down or disappeared altogether after that.  Then all of this increased hoard of token dollar money (now twice as big!) would suddenly have no other outlet, no other use, no other way of accruing a return, aside from being invested in commodities and commodity production, which in turn would require commodities as inputs, thus bidding up the prices of commodities, increasing paper profits on real production, and igniting an inflationary boom.

So we can start to see from this thought experiment what function this payment of interest on excess reserves has served, and will serve.  It has held back inflation in the short run by encouraging that dollar money to stay in bank vaults.  But it is priming the economy for much worse inflation in the long run, IF the Federal Reserve should ever unwind its rate of payout on excess reserves.

Very well, then.  Who says that the Federal Reserve EVER needs to unwind its rate of payout on excess reserves?  Why couldn’t the Federal Reserve just continue to ratchet up this rate of payout up to infinity?

Think about it.  What will happen if the payment on excess reserves gets up to 30%?  All incentive to invest money in real production would vanish.  You would earn much better profits by hoarding your dollars in a vault and getting the Federal Reserve to pay you 30% interest on it.  This disappearance of real production would be identified by bourgeois economists as a “supply-side shock.”  In other words, the supply of commodities would vanish, sending their prices upwards through the roof.  Inflation.  (But it would be inflation that only the working class would be suffering from.  The money capitalists would be sitting just fine, earning 30% interest.  More on this below….)

So we see that, whichever way the Federal Reserve goes, it has already primed the economy for inflation in the long run, even if in the short run (the next year) there might be flirtation with deflation as even more money gets coaxed out of the “real” economy of commodities and into bank vaults to earn that new-and-improved 0.50% rate (or higher).  If the Federal Reserve keeps increasing the payout on excess reserves over the next several years, as it has insinuated that it will, then there will continue to be borderline-deflation for the time being, as more money rushes into the bank vaults to get those higher, risk-free rates.

But all the while, more and more guaranteed long-term (>5 year) inflation will be getting baked into the economy, should the Federal Reserve EVER unwind this payout on excess reserves (and it HAS TO at some point, lest we return to 1970s inflation).

What the working class and money capitalists used to have in common

It used to be (in the 1970s) that, if the Federal Reserve wanted to juice the economy with extra printed dollar token currency to boost commodity prices, erode real wages, boost the rate of surplus value, and please the industrial capitalists, BOTH workers AND money capitalists had to feel the ravages of inflation. Each would revolt in their own way—workers by going on strike for higher wages and automatic cost-of-living adjustments, and money capitalists by fleeing into gold and demanding higher interest rates before they would lend out money again.

Of course, capitalism being what it was, the money capitalists always had an easier time getting their way.  Workers’ strikes were mostly defeated.  Their standard of living faltered, and has never since surpassed the levels of the 1970s, in fact.  But the money capitalists were far more successful in their revolt against inflation.  They WHIPPED the Federal Reserve into submission.  Under Paul Volcker, the Federal Reserve finally abandoned the industrial capitalists and capitulated to the money capitalists, drawing dollars out of the economy until businesses and government were offering 15% to 20% for the money capitalists’ scarce money.  That’s the sort of power that the working class could only dream of.

Nevertheless, despite the differing outcomes, in times like those Austrian economists had an easier time making some pretense that wage workers and money capitalists were in the same boat together—pitching the idea that both types of earnings were being eroded by inflation, engineered at the behest of the evil industrial capitalists.  Both shared in the pain of inflation.  There was some comraderie in that—traces of which you still glimpse sometimes at websites like, where investors criticize the Federal Reserve’s “easy money” policies and how they will inevitably cause inflation that will ruin both the fixed-interest rate (money capitalist) investors and “the honest, thrifty working man.”

Well, now that comraderie, that shared predicament, is no more!  The Federal Reserve’s payment of interest on excess reserves is a way to CREATE INFLATION THAT WILL ONLY FALL UPON THE WORKING CLASS.  With this sort of inflation, money capitalists will at least have something to show for it—the payment of interest on excess reserves.  What a nice arrangement!

The fact that the money capitalists had been harmed at all in the 1970s was an unfortunate side-effect according to the logic of capitalism.  What the Federal Reserve had been trying to do by juicing the economy with printed money and inflation was lower real wages of workers and boost the rate of surplus value.  Unfortunately, the inflation could not help but cause some collateral damage against money capitalists’ earnings.  So the inflation had to go.

Now, with the payment of interest on excess reserves, the Federal Reserve has discovered a way to create inflation that will not spook money capitalists, that will not cause them to hoard their wealth as gold.  If inflation threatens to increase, well, just increase the rate of interest on excess reserves!  That will coax that money out of the world of gold hoarding and commodity production and right back into bank vaults!  This time, BOTH the industrial capitalists AND the money capitalists will be happy.  The industrial capitalists will get ultra-low interest rates, which will boost the profit of enterprise.  And the money capitalists will get free interest payments, so there will be no need or incentive to stampede into non-interest-bearing gold (so we assume….)

Surely, this payment of interest on excess reserves is a magical elixir for capitalism, then! Surely we will never have another recession…right?

The ugly side of all of this is, the Federal Reserve is baking in more and more inflation, should the Federal Reserve ever stop paying as much interest on excess reserves and encourage that (now increased) money to exit the bank vaults and go chasing returns in the real economy. So perhaps the Federal Reserve will NEVER drop the rate of interest on excess reserves.  It doesn’t matter.  Sooner or later, as the idle money accumulates with interest in those bank vaults, some of it will start to go chasing returns in the real economy.   Inflation will start to creep up, and it will seem more imperative than ever to keep that idle capital securely in those bank vaults by whatever means necessary in order to prevent even worse inflation.  More and more, the Federal Reserve will find that it has painted itself into a corner.  It will be hesitant to unwind that interest on excess reserves, lest it unleash that money upon the real economy and cause even worse inflation…and yet, some sober heads might start to realize that the longer this interest on excess reserves goes on, the more inflation it is baking into the long-term economy.

If the Federal Reserve continues the interest on excess reserves, workers will pay the price of inflation with nothing to show for it (whereas at least money capitalists will have their interest on excess reserves to show for it).  If the Federal Reserve discontinues the interest on excess reserves, the inflation will be even worse.  Either way, workers will be screwed.

The Deflationary Headfake – We are NOT at the top of the business cycle!

As long as the Federal Reserve wants to keep raising the rate of interest on excess reserves, it can keep that money in bank vaults and keep up the semblance of low inflation (or even borderline deflation).  It can disguise the long-term inflation that it is baking into the economy for probably a few more years if it wants to.

The fact that the dollar token money has not left the banks yet has thrown the entire bourgeois press, and even some of the Marxist press (such as Michael Roberts) a huge deflationary headfake.  Everyone is talking about how we are at the cusp of a new recession.  Not so fast.

You cannot have a crisis of overproduction when credit has not expanded to its limit, when things are still de-leveraged, when there is still excess idle CASH MONEY (not just credit money) ready to enter production, when the velocity of money is still rock-bottom, when gold production has not yet been steadily falling, and when commodities are still deflated below their values.  Anyone who has paid close attention to Sam Williams’ blog, Critique of Crisis Theory, and his analysis of capitalist business cycles should realize this. We are not at the peak of this cycle.  We have yet to really enter the boom phase proper.  We are nowhere near the peak.

That said, this doesn’t rule out crises of disproportionality.  Those sorts of crises can happen to greater or lesser degrees at any time.  For example:  too many pants are produced, and not enough zippers.  Or too many zippers are produced, and not enough pants.  Profits might be abnormally low in one sector, and abnormally high in the other. Some sectors that have been relatively overproduced might suffer very badly in such crises.  But there will always be just as many sectors where things are relatively underproduced, where there will be greater than average profits to be made.  Such crises of disporportionality are very different things compared to crises of overproduction, where ALL commodities other than the money commodity have been overproduced relative to the money commodity due to the growth of credit that causes the prices of commodities (other than the money commodity) to artificially inflate, and thus the profits on their production to artificially inflate, encouraging a period of overproduction that must then be corrected through brutal devaluation of those commodities.

For example, what we are seeing in oil right now is a crisis of disproportionality.  Oil production has been relatively overproduced.  Its prices, and profits, are crashing.  This will re-adjust oil production, sooner or later, downwards until it is no longer overproduced.  Nothing to see here, folks.

People have been panicking about China lately.  Yeah, Chinese steel is overproduced. Chinese residential construction is overproduced.  Chinese shipping is overproduced.  So what?  As badly overproduced as they are right now, I predict that they will become even more overproduced before a real crisis of overproduction breaks out.  You ain’t seen nothin’ yet.  In the next few years, China will show you what REAL overproduction looks like.

Why do I say this?  Because LOOK AT THE GRAPH I JUST POSTED ABOVE.  That is $2.3 trillion in excess capital, sitting idle, earning a measly 0.50% interest, ready to spring into action in the real economy.  People say that China’s debt is maxed out.  Au contraire. All that a Chinese company, or the Chinese government for that matter, needs to do is promise a 0.75% interest rate denominated in dollars, or a slightly higher rate denominated in Chinese Renmibi to compensate for the added risk of devaluation of their currency, in order to coax all that potential loan money out of U.S. bank vaults and into the Chinese economy.

Or, the Federal Reserve could decide to stop paying 0.50% interest on those excess reserves…or it could even impose negative interest penalties on those excess reserves, and then you will see that money flood out of the bank vaults and into Chinese (over)production so fast, it’ll make your head spin!

If China is the low-cost producer of all of this stuff, it only makes sense within the logic of capital to double-down, to overproduce this stuff even more, until they drive ALL of their competitors out of business and use up ALL of the excess idle capital in the world economy…until steel, housing, and shipping are so overproduced that the next deflationary crisis of overproduction will make the Great Depression look like a walk in the park.

This is what the boom phase of the business cycle is all about.  That’s capitalism.  Ride the snake.

Here’s where I see our present position in the industrial cycle.


I think we are just at the beginning of the upswing.  It would be much more readily-apparent if the Federal Reserve were not keeping idle cash in bank vaults by paying interest on it.  Ordinarily that money would be out chasing commodities, igniting inflation, increasing paper profits, and launching a typical-looking boom.

Could we see a 1937-style 2nd Roosevelt recession before the boom really takes off?  I suppose, if the Federal Reserve increases the payment of interest on excess reserves too much, and if China chickens out and does not double-down on its incipient overproduction with more debt-fueled overproduction, then yes.

In a way, this would be the smart move for world capitalism—have another milder recession now, rather than let the boom, inflation, and overproduction really get momentum and trigger an even worse crisis of overproduction later on.

But I just don’t see it.  Already there is too much pressure from industrial capitalists for looser monetary policy. They are baying like hound-dogs for even negative interest rates, if need be, to get industrial production rolling.  The influence of Market Monetarists is on the rise.  I can see it on the blogs.  Their arguments will win the day for the next year or two.  They will find a way to get that money out of those bank vaults to increase NGDP (even at the cost of more inflation, which they won’t see coming, but which they will try to dismiss as an irrelevant footnote), and in about two years everyone will be patting each other on the back about how we skillfully avoided another recession—not realizing that they are setting up a much worse crisis of overproduction shortly on down the line….

If you want my financial advice for 2016 and beyond (and this is NOT professional financial advice, so don’t sue me if this makes you go broke!), here it is:

2016 is probably the last chance to embrace mortgages and other fixed-rate debts before rates go up and before real estate gets too overvalued (it is already over-valued in some trendy markets.  Don’t go near Silicon Valley or New York).

Falling excess reserves of capital and falling gold production will be the signals that credit is beginning to expand (so that commodities will soon follow) and that commodities have bottomed out.  At that point, they will only be going up, so consider buying commodities futures (such as oil) and stock in commodities-producing companies. Everyone else is scared to death of deflation and recession (not having the Marxist sense to realize where we really are in the business cycle), so you should be able to pick up those commodity stocks pretty cheap at that point.  Wait until credit is inflated again (stretched to the breaking point, with NO excess reserves and high interest rates, and after gold production has been falling for at least a year or two), and then sell any commodities and stocks and buy gold as close before the next credit / overproduction crisis as you can.

When you see a combination of credit stretched thin with no excess reserves, AND rising inventory to sales ratios, THEN you will know that the peak is near.  Note that, even though the inventory to sales ratios have been rising lately….

…we are NOT near the peak just yet.  The reason is, as you can see in the first graph of this post, there are still plenty of excess reserves that could enter the economy to pump up employment and demand.  Only when ALL of the excess reserves of cash money have been used up and cash financing has been substituted by credit financing many times over can a crisis of generalized overproduction of commodities relative to the money commodity truly occur.  THAT is the point where you will want to sell commodities (including real estate) and commodity-production stocks and buy gold and gold-mining stocks.