Archive for September, 2008

UR will return on Thursday, November 6

September 26, 2008

Because it seems vaguely antisocial and just plain rude, like eating a BLT in a mosque, to operate an anti-democracy blog during our nation’s great celebration of freedom and unity.

I urge all UR readers to vote for Senator Obama. I have considered the issue carefully, and concluded that a vote for Obama is a vote for change. And America needs change.

In the “odds and ends” category, the Times profiles a Resartus-like operation, Opposing Views. It’s still pretty lame by my standards, but it’s a long way above “teh badest celebertiy.”

If you are one of the large number of people to whom I owe an email – or two – I will be incommunicado for at least a week, on account of travel. This does not excuse my rudeness, but perhaps it explains it. I swear on a stack of Bibles this high that October will be Email Month.

There is also a code word, which is “Jonathan.”

Maturity transformation considered harmful: an unauthorized biography of the bank crisis

September 26, 2008

[Update: there is a good discussion of this post chez Arnold Kling.]

“You may not be interested in war,” Trotsky once said, “but war is interested in you.” Finance, too.

Perhaps you are under the impression that banking, accounting and economics are perfectly understood by the bankers, accountants and economists. Or did this week cure you of that? If it didn’t, next week might. Generals, too, deserve deference for their understanding of war. But not unlimited deference.

I am not a banker, an accountant, or an economist. I am a computer programmer. My approach to financial engineering is to analyze it from the outside, taking nothing for granted, treating it as I would a new operating system or programming language.

Our financial system is not a new operating system. It is a very old operating system. Worse, there is only one of them: the whole world runs the Anglo-American banking system, more or less as described by Walter Bagehot in Lombard Street (1873). Lombard Street is our Windows. There is no Mac. There is no Linux. Our experts in finance are not experts in finance. They are experts in Lombard Street finance. Asking them to imagine an alternative is like asking a Windows programmer to imagine OS X – except that Windows isn’t 314 years old.

(The closest alternative to Lombard Street finance is a relatively obscure branch of economics called the Austrian School. The basic problem with Austrian economics is that it has never been tried in practice, and it has not advanced much since Ludwig von Mises wrote Theory of Money and Credit in 1912. (A more readable modern text is Murray Rothbard‘s Mystery of Banking.) The discussion below is generally Austrian in method and theory, but simplified and generalized – and my conclusions are very different from, say, Ron Paul’s.)

In any case, if you’re running Windows and you suspect that you might want to “switch,” a Windows expert is the last expert you want to ask. What needs to happen now, I feel, is that a very large number of very smart people who know nothing about finance need to do what I did, and try to figure the issue out from scratch. Hopefully they will not get the same results.

Because my results are… disturbing. If you suspect that they might be right, please try thinking through the problem for yourself. Let’s go straight to the disturbing results, and then we’ll try to justify them.

1. We do not have a free-market financial system.

2. We have never had a free-market financial system.

3. Leaving the financial system to “work things out on its own” will not produce a free-market financial system. It will produce a smoking heap of rubble.

4. Paulson’s bailout is, if anything, far too weak. Our financial system is part of the government. The proper first step is to stop lying about this. This means nationalizing the banks. This is not an expansion of government, but a recognition of its actual size. It is not an expenditure, but a revision of accounting to reflect reality.

5. A free-market financial system would be way cool. More important, it would be extremely stable. But the only way to create one is to build it right from the start. If you have a car and you want a motorcycle, sell your car and buy a motorcycle. Don’t decide to call your car a “four-wheeled motorcycle,” and don’t think unscrewing two of the wheels will solve the problem.

6. Therefore, the government should close down the financial system we have now and replace it with one that doesn’t suck. What is the probability that this will happen? Zero. But at least you know.

These are the results. Now, the explanation.

When we ask: “what caused the bank crisis,” we need to distinguish between proximate and ultimate causes. Our focus today will be on the ultimate cause. But first, let’s get the proximate cause out of the way.

The proximate cause of the bank crisis is the gigantic vote-buying machine we know and love as the “Democratic Party.” This gave us something called the Community Reinvestment Act, which compelled banks to steer over a trillion dollars in flagrantly bogus loans to the Democrats’ electoral base. The scam is described, and its outcome predicted, in this article from 2000. Here is Barack Obama’s lead economic advisor, endorsing it – in 2007. Doh.

If the gigantic protection racket known as the “Republican Party” had obstructed “diversity lending” in any way, that might be a reason to support them. They didn’t, and it isn’t. Indeed, Steve Sailer has uncovered a hilarious, and apparently improvised, W. speech endorsing the program:

All of us here in America should believe, and I think we do, that we should be, as I mentioned, a nation of owners. Owning something is freedom, as far as I’m concerned. It’s part of a free society. And ownership of a home helps bring stability to neighborhoods. You own your home in a neighborhood, you have more interest in how your neighborhood feels, looks, whether it’s safe or not. It brings pride to people, it’s a part of an asset-based to society. It helps people build up their own individual portfolio, provides an opportunity, if need be, for a mom or a dad to leave something to their child. It’s a part of — it’s of being a — it’s a part of — an important part of America.

To open up the doors of homeownership there are some barriers, and I want to talk about four that need to be overcome. First, down payments. A lot of folks can’t make a down payment. They may be qualified. They may desire to buy a home, but they don’t have the money to make a down payment. I think if you were to talk to a lot of families that are desirous to have a home, they would tell you that the down payment is the hurdle that they can’t cross. And one way to address that is to have the federal government participate.

Truer words were never spoken. The federal government is certainly participating now! So, we have our proximate cause: the Dempublicans. Or possibly the Republocrats. Do we care? Does anyone with any brains still believe in any of these swine?

The ultimate cause, however, is a matter of financial engineering. It has nothing at all to do with elections or politicians. Politics explains where the bad mortgages came from. Politics does not explain why they caused our financial system to lock up like a clogged fuel pump, or why no one can price or sell these instruments. Pricing dubious and complicated securities is what a financial system does. So why isn’t it happening? What is the engineering mistake that caused the financial system to be so sensitive to this relatively minor piece of graft?

The engineering mistake is an accounting practice called maturity transformation. In the best CS tradition – I consider it harmful.

Maturity transformation might also be called monetary time travel. It is an accounting structure which permits a financial institution to pretend that it can teleport dinero from the future into the present. High-tech modern finance can do many cool things, but this is not one of them.

The price we pay for this illusion is a fundamental instability in the lending market. To most economists, this instability is a Diamond-Dybvig dual equilibrium. To Austrian economists, it’s the Misesian theory of the business cycle. And in plain English, it’s your common or garden bank run. The present crisis, which is by no means over, has many fascinating and devilish modern characteristics – but old Beelzebub is easily discerned beneath its raiment.

Modern computerized finance is especially susceptible to the bank-run bug, because in the last twenty years it has adopted an awesome array of incredibly beautiful and fragile modeling techniques. Unfortunately, all of these models assume a stable or single-equilibrium pricing environment. They do not allow for a phase change between dual equilibria. Doh!

Why has this mistake gone unrecognized? The basic problem with maturity transformation (MT) is that, while it is a bad accounting practice, it is not a new bad accounting practice. MT is not some horrendous monetary Guantanamo unleashed upon us by the corrupt Bushocracy. Nor is it a form of financial Bolshevism devised by the Mussulman Candidate, Barack Osama. Oh, no.

Maturity transformation is the heart and soul of the Anglo-American model of banking. Our current round of MT dates to the founding of the Bank of England in 1694. Lombard Street (which is still a good read) describes it in a nutshell. MT is inextricably woven into our political system, our accounting system, our profession of economics, even our Wikipedia. Despite the fact that it has been causing booms, busts, and crashes since Pennsylvania Avenue was a swamp.

Or so, at least, I assert. Obviously it’s a somewhat dramatic assertion. But I think it’s possible for you to use your own brain cells to understand why MT is harmful. You don’t need to trust me, or anyone else. The problem is just not that hard to follow.

You may know maturity transformation as “fractional-reserve banking,” which is one common case of the practice. A financial institution practices MT whenever it “borrows short and lends long,” ie, promises to deliver money in the short term based on the fact that it is owed money in the long term. For example, in a classic fractional-reserve bank which takes checking deposits and uses them to fund mortgages, the bank’s promises have a term of zero (your money is available whenever you want it), and its mortgages are repaid across, say, 30 years.

But few of us have operated a bank. I want to explain intuitively why maturity transformation is a basically corrupt practice. And for that, we’ll need a more down-to-earth example.

Suppose you lend a friend of yours from work, Bobby, a thousand dollars. He agrees to give you the money back, plus fifty for interest, next week. The week is the term or maturity of the loan.

Bobby then lends your K to a friend of his, Dwight. Dwight is about to ride up to Humboldt to spend three boring weeks with his loser parents. Which will suck, but which will also enable him to score a pound of weed and hitch back with it. The weed can be moved for $1500 – but the three weeks is non-negotiable.

So the glitch arises when you buttonhole Bobby by the water fountain and mention that it’s Monday. “Yeah, right,” he says. “Man, hey, do you want to go in for another week? I’ll give you another fifty. That’s a good rate, man.” This is, you agree, totally fine. You have just rolled over your loan to Bobby. Next week, you do it again. And the week after that, Dwight gets in. He pays Bobby $1300. And Bobby comes to you with $1150, still smelling faintly of Humboldt.

You have just had a successful customer experience with the Bank of Bobby and Dwight. You profited. Bobby profited. Dwight profited.

But is what Bobby did cool? Is it right? Did it display probity? We’d have to say – no.

At least, we would have to say this intuitively. We have not yet applied our logical faculties to the matter. We have just used the awful Bobby, and the still more horrendous Dwight, as propaganda props. Can we smear the noble art of banking with these dank characters?

The basic problem with this transaction is that when Bobby said he wanted to borrow a grand for a week, he was lying to you. Bobby is a user. He knew he could get away with stretching the loan from one week to three, and he did. If he’d just asked you for a three-week loan, everything would have been fair and square. But you might have said no.

What do you want to know when you lend someone money – whether it’s Bobby, or Citigroup? You want to know that they’ll pay you back. Or at least, that the probability of repayment is high enough to be justified by the interest rate on the loan.

To standardize this decision, our ancestors developed the art of accounting. Bobby, or Citigroup, opens the kimono and shows you two lists. One is the list of promises Bobby, or Citigroup, has made. For instance, Bobby has promised to give you $1050 in a week. This is sometimes known as a liability. The second list is the list of things Bobby, or Citigroup, owns – for instance, Dwight’s promise to deliver $1300 in three weeks. This is an asset.

As a lender, what you want to know about Bobby or Citigroup is that they are solvent. In other words: Bobby has enough money to pay you back. Solvency is computed by subtracting liabilities from assets, the result being equity. For instance, if these are the only transactions on Bobby’s balance sheet, and if we assume (a big if) that Dwight’s promise is actually worth $1300, then Bobby’s equity is positive $250, and he is solvent.

Note that when you consider solvency, you are not asking whether Bobby can pay you back. You are asking whether Bobby can pay all his creditors back. For instance, if Bobby has also borrowed $1000 from your officemate Dave, but lent it to his ex-girlfriend Angelique, who spent it all on meth, his equity is negative $750, and he is insolvent – or bankrupt. He can pay you or he can pay Dave, but he can’t pay both of you.

There are two keys thing to remember about insolvency. One, it is a sort of event horizon; you cannot borrow yourself out of bankruptcy. No one has any good reason to lend to an insolvent party. Two, it is a collective decision: Bobby is either insolvent with respect to both you and Dave, or he is solvent with respect to both. He can either make good on his promises, or he can’t.

But absent Angelique, when we use the solvency test to evaluate Bobby’s business, it looks like a good one. Bobby is solvent. But he also had to lie to you to get the loan. Something is not quite right here.

If Bobby shows his balance sheet to a trusted third party, perhaps an auditor or regulator, the auditor will agree that Bobby is solvent. If you ask Bobby whether he can be trusted, he refers you to the auditor, who tells you that Bobby is solvent. But if you saw his actual balance sheet, you wouldn’t do the deal. Our accounting model is simply not doing its job. Or is it?

Enough with Bobby. Let’s look at an actual bank. FooBank, a classic fractional-reserve bank, has a billion dollars in demand deposits – that is, liabilities of zero maturity, which are continuously rolled over when its depositors fail to withdraw them from the ATM. It has $50 million in the vault, and $1.1 billion in fixed-rate 30-year mortgages, giving it equity of $150 million.

Note that $1.1 billion is not the total amount of money owed on FooBank’s mortgages. It is the current market price of the mortgages. Ie: if FooBank sold the mortgages to some other financial institution, it could get $1.1 billion for them. (Because interest rates are always positive, that means the total payments over 30 years will be much more – let’s say, $1.5 billion.)

So our question is: should you put your money in FooBank? If you give FooBank a demand deposit, can you be sure that it will be there when you demand it at the ATM?

Our first answer is: yes. Whatever your deposit is, it’s a lot less than $50 million.

Our second answer is: no. Because FooBank, like Bobby, is a maturity transformer. It owes $1B, now. It expects to receive $1.5B – over the next thirty years. Dwight is sure taking a long time up in Humboldt! FooBank has only $50 million in the vault to pay its $1B in demand deposits. If more than 5% of its customers demand the payments they are contractually owed, FooBank is screwed. If you are not among the first 5%, you’re screwed too. What’s FooBank going to do? Will the ATM print out a message telling you to go up to Humboldt, and find Dwight?

Remember, back when we were considering Bobby’s solvency, we established what you want to know as a lender: that the borrower (Bobby) will be able to fulfill all his promises, not just yours. There is no such thing as selective default. And there is absolutely no reason to assume that your fellow depositors won’t all show up at the same time.

When you don’t turn up and withdraw your demand deposit, you are effectively rolling over a loan to the bank. And from the bank’s perspective, there is no difference between rolling over a loan and finding a new lender. So FooBank is staking its undefeated record in promise fulfillment, which might be impressive in a Bobby but is pretty much required in a bank, on paying back its old loans by finding new lenders. Um… where have I heard that before?

Our third answer is: yes. Because we’ve forgotten something, which is that FooBank is solvent. It may not have $1 billion in the vault. But it can raise $1 billion – quite easily, by selling its $1.1 billion worth of mortgages.

In a modern digital market, this can be accomplished on the spot. It is a simple matter of software. As customers line up at FooBank’s ATM, red flags go up, mortgages are sold – presumably to FooBank’s competitor, BarBank – and trucks full of cash from BarBank arrive. At the end of the day, FooBank has no deposits, and $150 million in assets. It returns these to its stockholders and closes down. Call it an immaculate bank run.

This is a worst-case scenario. It won’t happen. And the fact that, in this worst-case scenario, everyone gets their money back, is what makes it not happen – because the motivation for a bank run is that, in a bank run, not everyone will get their money back. Problem solved.

Our fourth answer is: no. Because we’ve forgotten something else, which is that maturity transformation doesn’t actually work. At least not in a physical, literal sense. You cannot actually teleport money from the future to the present. FooBank can’t – and BarBank can’t.

To understand the problem here, let’s think a little bit about what makes FooBank’s mortgages “worth” $1.1 billion. We tend to use words like “worth” and “value” as if they represented absolute, objective, physical characteristics. A kilogram of iron will always weigh a kilogram. But what makes a package of mortgages “worth” $1.1 billion? Merely the fact that if you put it on eBay, the high bid will be $1.1 billion.

This, obviously, depends on the bidders. Mortgages, like everything else, are priced by supply and demand. Even if we hold the demand for mortgages constant, pushing $1.1 billion of them onto the market in one day is likely to depress the market price. And why should the demand be constant? We certainly have no basis for this assumption. Let’s poke a little harder on this one.

First, we need to think a little harder about interest rates. We are used to thinking of interest rates from the customer’s perspective, in which they are a return on investment. From a banker’s perspective, however, an interest rate is the price of future money in present money. For example, a 10% annual interest rate means that I can buy $110 of 2009 money for $100 in 2008 money. This is an exchange rate, just like the exchange rate between dollars and euros.

To know the correct price of a future payment – such as the payments on FooBank’s mortgages – we need to know two variables: the probability of default, and the interest rate. Let’s assume (this assumption is not valid in reality, as we’ll see, but breaking it will only make the problem worse) that the bank run has no effect on the probability of default. Let’s assume, also, that FooBank’s mortgages are perfectly good and have a minimal default probability.

But the interest rate for our 30-year mortgages is set by supply and demand. Clearly, because we are in a maturity-transforming banking system, a considerable quantity of that demand comes from maturity transformers such as FooBank. And ultimately from its depositors. Ie: maturity transformation in the mortgage market, by magically transmuting demand for zero-term deposits (money right now) into demand for mortgages (money 30 years from now), has vastly lowered 30-year interest rates.

So when FooBank’s depositors pull their money out, mortgages go on the market and mortgage interest rates go up. This increases 30-year interest rates across the market – lowering the price of mortgages. That $1.1 billion isn’t $1.1 billion anymore.

Worse, we have arbitrarily assumed that the run does not extend to BarBank. In fact, we have assumed that BarBank, in some way, pulls in $1.1 billion of new deposits – because that cash in those trucks needs to come from somewhere. But, since our bank run is not the result of any problem restricted to FooBank (whose mortgages are good), it can only be a systemic run. That is, all depositors everywhere realize that the banks simply do not have the present money to repay them – and their so-called “solvency” is a result of long-term interest rates that do not reflect the actual supply and demand for 30-year money.

Thus, the entire banking system is certain to implode. And implode instantly. The result: a landscape of shattered banks, people who have lost their deposits, and very, very high (but perfectly market-determined) interest rates. Moreover, housing prices will decline – because they, too, are set by supply and demand, and high interest rates mean expensive mortgages.

Another way to think of this is to realize that the Diamond-Dybvig model (see the original paper, here) is not quite right – there is no “good equilibrium.” The so-called equilibrium in which depositors leave their money in the bank is unstable. You can see this by observing that the probability of a bank run is never 0, and the value of a deposited dollar cannot exceed the value of a non-deposited dollar – ie, the exchange rate between a dollar in the bank and a dollar under the mattress cannot exceed 1:1. But since a bank run can occur, a dollar in the bank must be worth slightly less than a dollar under the mattress – to compensate for the probability of a bank run. Eg, if the probability of the run is 0.001, and the bank returns only 50 cents on the dollar after a run, the value of a dollar in the bank is 0.9995 dollars in cash. This disparity creates withdrawal pressure, which is a feedback loop, and the run happens.

If this hurts your head, just think of the maturity-transforming banking system – FooBank, BarBank, MooBank, and all their competitors – as a single bank. This system has, like Bobby, made promises that it cannot physically fulfill, because physically fulfilling them would require actual, physical time travel. There’s simply no way this can be good accounting.

Essentially, what we’re looking at is the collapse of a market-manipulation scheme. The banks have been collaboratively bidding up 30-year money by buying it with 0-year money that belongs to someone else. The situation would be no different if they were bidding up, say, copper, or Honus Wagner baseball cards. They have created an artificial pricing environment, based solely on the carelessness of their depositors in rolling over loans. Once the scheme is exposed, the price of Honus Wagner cards crashes, the banks have spent the depositors’ money on goods whose price has considerably declined, and massive insolvency is revealed.

It helps to understand the use and misuse of the word liquidity in this environment. The proper and original meaning of liquidity is the existence of a market with instant trading and small bid-ask spreads, such as the stock market. For example, a house is not a liquid asset in this sense, because setting up a housing sale is very difficult and expensive.

But liquidity has come to mean something else: the presence of maturity-transformed demand for long-term assets. As we’ve seen, the price of 30-year money in a market where banks can balance 0-year liabilities with 30-year assets is one thing. The price of 30-year money in a market in which all the demand for 30-year mortgages comes from 30-year lenders (for example, a 30-year CD – an instrument which does not even exist at present) is very different.

Thus, when a maturity transformation scheme breaks down, the market is said to be illiquid. In fact it is perfectly liquid in the first, original sense of the word. It is just revealing the actual market price of 30-year money as set by 30-year supply and demand – an interest rate so horrifyingly high it makes any 30-year mortgage at 6% more or less worthless. (Actually, the “fire-sale” market for mortgages today is still well above this price – it is set more by speculation that the MT switch will flip back on, I think.) This phenomenon appears to resemble genuine liquidity, because assets are “hard to sell” – but they are hard to sell only because those who now hold them have them on their books well above the market price, and don’t want to sell for less.

Professor Bernanke’s recent mention of “hold-to-maturity” price reflects this intentional misunderstanding. Economist Willem Buiter clarifies:

The MMLR [lender of last resort] supports market prices when either there is no market price or when there is a large gap between the actual market price of the asset, which is a fire-sale price resulting from a systemic lack of cash in the market, and the fair or fundamental value of the asset – the present discounted value of its future expected cash flows, discounted at the discount rate that would be used by a risk-neutral, non-liquidity-constrained economic agent (e.g. the government).

Ie: the long-term interest rate on Treasuries. Which is still set by maturity-transformed demand (especially, via the central banks of China and the Gulf states, which back their currencies with Treasuries).

Professor Buiter’s definition of this rate as “fair” reflects the institutional assumption of the economics profession that MT is a good, clean, and healthy thing. In reality, it is concealing the most important price signal in the world: the present demand for future money. MT adds present demand for present money into this market, utterly and irrevocably jamming the signal.

The basic problem with the toxic assets that are clogging up the banking system today is that there is no market mechanism that can reveal Professor Buiter’s “fair value.” Any such mechanism needs to solve for two variables at once: it needs to create a market in toxic mortgages in which the players are banks paying with maturity-transformed money. Otherwise, the default risk of the loans cannot be calculated by comparing their price with the price of Treasuries. The risk-free interest rate in a market in which MT has broken down is much higher than the risk-free Treasury rate. This rate is unknowable. And you can calculate default risk from price only if you know it.

Moreover, banks have no incentive to buy these toxic mortgages, turning MT back on in the market – at least not until the price hits its rock-bottom point, at which MT is completely off and 30-year supply is met by 30-year demand. Nor is there any way to see when this point has been hit, because there is no genuine maturity-matched market, and there are plenty of speculators betting on some kind of intervention. And the implied interest rate at this rock bottom is so high that the houses which collateralize the mortgages may be almost worthless.

And our fifth – and final – answer is: yes. Because FooBank, BarBank, and MooBank are all FDIC-insured.

Actually, this is not even quite right. At least according to this story, FDIC is basically empty. It had only $45 billion last time it reported, and it surely has a lot less now. This to “insure” something like $4 trillion in deposits. You might as well defuse a car bomb by wrapping it in toilet paper. FDIC “works” because it is backed by the Treasury, which of course has the Fed’s “technology, called a printing press” – ie, Ben’s helicopters – behind it.

In other words, when you make a bank deposit, you have acquired not one but two securities. One is a promise from FooBank to pay you on demand. The other is a promise from USG to pay you if FooBank doesn’t. Because the promise is denominated in dollars, USG can print dollars, and USG has no reason to welsh on this promise, the dollar on deposit is truly worth $1. Not $0.9997, $1.

Note that we have just discovered the missing dollars from last week’s post – or some of them, anyway. These dollars are contingent – they only come into existence in special cases, such as a bank run – and they are informal. But as informal, contingent dollars, they exist nonetheless. If the Fed prints money to bail out FDIC, it is a bailout – just like Paulson’s bailout, the Fannie and Freddie bailout, the AIG bailout, etc. There is no law requiring bailouts. But they seem to happen anyway.

For that matter, Treasury obligations are risk-free for exactly the same reason. This is how the US can run a $10 trillion risk-free debt in a world with only 825 billion actual dollars. It is simply assumed that well before Treasury would default, the “technology, called a printing press,” would be used to bail it out. There is no formal guarantee of this. There is simply every incentive to do it, and no incentive not to do it.

This whole beast is an incredibly cumbersome and bizarre accounting structure. And it simply cannot be understood without reference to these kinds of informal obligations. In accounting, the word “informal” is essentially equivalent to “criminal.” Simply put: the whole thing stinks.

Moreover, we can construct a formalized equivalent that has the same outcome, uses maturity-matched accounting, and is completely unacceptable from a political standpoint. In fact, it’s more than unacceptable. It’s ridiculous.

Consider FooBank, with its FDIC guarantee in place. The infinite printing press guarantees FooBank’s liabilities to its depositors. This leaves FooBank free to use the depositors’ money to buy 30-year mortgages, while assuring them that they can redeem at any time.

A much simpler approach is for FooBank to simply store the deposits in its vaults, and have FDIC make the mortgage loans – in a quantity equalling FooBank’s deposits. This produces: exactly the same safety for FooBank’s depositors; exactly the same demand for mortgages; and exactly the same risks for FDIC (which is, of course, exposed to the mortgage risk).

And it’s also utterly ridiculous. Basically, it means that mortgages are cheap because Uncle Sam is printing money and lending it. When you want a mortgage, you apply to the government. Moreover, the connection to FooBank’s deposits is utterly unnecessary. There is no reason that FDIC has to restrict its mortgage issuance to FooBank’s deposit base, tying it to the irrelevant convenience question of whether depositors prefer their money in a vault or under the mattress.

What this thought-experiment tells you is that, if you believe in maturity transformation, you believe it’s good public policy for the government to print money and lend it. Homeownership, after all, is important! President Bush says so, so it must be true. This raises the question of why, if it’s good for Uncle Sam to engage in this practice, it’s not good for everyone. Why not license private entities to engage in the essential public service of counterfeit lending? The counterfeit spender drives up prices and is bad for everyone, but the counterfeit lender creates a liability for every dollar emitted… anyway. We are in the realm of absurdity.

We are now in a position to understand the crisis as a whole. What happened is that a shadow banking system appeared, which performed maturity transformation without formal FDIC backing. Participants in this market assumed that large or “too-big-to-fail” institutions, such as Lehman, Bear, AIG, etc, were effectively recipients of an informal Federal guarantee, just like FDIC itself, the traditional banks, Fannie and Freddie, etc. But they had reached the edges of informality and walked off the cliff into delusion.

Furthermore, the financial models that players in the shadow-banking market used simply did not incorporate the possibility of a maturity-transformation crisis. They lived in a world of Lombard Street accounting, in which MT was just normal. The fact that MT only works with a lender of last resort who can print money (or, under the “classical gold standard,” compel market participants to accept paper at par with gold, as the Bank of England did during the Napoleonic wars), did not exactly bring itself to their attention. Nor did the fact that they were treating private corporations as perfectly-insured counterparties.

Essentially, Wall Street (a) thought it was a free market, and (b) assumed that MT in a free market just works. Both of these assumptions were wrong. The financial system was both free and protected, but the part that was free was not protected, and the part that was protected was not free. And the border between the two was completely informal, and was set in an ad-hoc, after-the-fact way by panicked bureaucrats in Washington.

We are now in a position to consider solutions.

Our first solution is a free-market solution. In the free-market solution, Washington renounces all bailouts, guarantees, nationalizations, etc. There is an easy way to do this: break the Fed’s printing press. Pass a constitutional amendment limiting the number of dollars extant to the number of actual dollars in the world: M0, 825 billion. That’s about $2750 for every American – although not all of these dollars, of course, are in America.

Result: the mother of all bank runs. All bank deposits are vaporized. The assets backing them become nearly worthless. Have fun paying off that $300,000 mortgage, with your $2750. Even Treasury obligations trade at pennies on the dollar – have fun paying off that $10T national debt, in a world with only 825 billion dollars.

The good news: hyperdeflation. If you have a dollar, an actual physical greenback, you can eat for a day. If you have $20, you’re set for the month. A benjamin is unimaginable wealth. Gas? Five cents a gallon. Gold? Worthless. Ammo? Priceless. Basically, we’re looking at Mad Max Beyond Thunderdome, with 1915 prices. I’m sure this would make some people very happy. I am not one of them.

Our second solution is the Paulson plan – with its wonderful acronym, TARP. TARP is effectively a new bank with no liabilities, $700 billion of equity (owned by USG), and a mission to buy mortgages.

I am not going to go out on a limb and say the Paulson plan won’t work. But I will be surprised if it works. Basically, its goal is to pump enough money into the market for “troubled” assets – assets in which a bank run has occurred, and MT has broken down – to pull them out of the “troubled” category.

My suspicion is that the result will be just one more bank which holds troubled assets, held on the books above their market price. So what? Why should this price be the “official” price? Add this to the fact that the troubled assets are wildly heterogeneous – every mortgage-backed security is different. Just because TARP overpays for one, doesn’t mean everyone should overpay for any. And they won’t.

And our third solution is Plan Moldbug – nationalize all banks and other maturity transformers, exchanging their shares for cash at the present market price, acquiring their assets and accepting their liabilities. Consolidate the entire financial system onto USG’s balance sheet.

While we’re at it, merge the Fed, Treasury, Social Security and Medicare into one financial entity. Clean up the whole maze of interlocking quasi-corporations. The US Government is one operation. It should have one balance sheet.

And yes, the banking system is part of it. Under the pretext of “regulation,” the banking system is already federally managed. Even its executive pay is apparently about to be set by Congress. But most important, the banking system is part of USG because USG has already chosen to accept its liabilities – by guaranteeing them. When A guarantees B’s liabilities, B needs to be on A’s balance sheet. This is accounting 101, folks.

This unity is even recognized in the conventional nomenclature for money supplies; M0 is the supply of zero-term Fed liabilities (ie, Federal Reserve Notes, ie, dollars); M1 is the supply of zero-term bank liabilities. The exchange rate between an M0 dollar and an M1 dollar is 1:1 and guaranteed to stay that way. So in what way are they different things?

As we discussed last week, FRNs are more like equity than debt – they are not promises to pay anything. And if an FRN is a share, a Treasury bill is a restricted share. Thus, under Plan Moldbug, USG has a single balance sheet with no debt. It can, of course, continue its present practice of diluting its equity (selling Treasuries, printing FRNs, etc) to pay off its operating deficits. But it would be better advised to issue a large pool of shares to itself, to assist it in phasing out this pernicious habit.

Also, Plan Moldbug has a critical fairness advantage: it is portfolio-neutral. The day after this action, everyone’s portfolio statement will show exactly the same number. If (God forbid) you hold bank shares, those shares will be converted to cash, just as if the bank had been acquired by another bank. If you hold mortgage-backed securities – but who holds mortgage-backed securities? Not anyone I know. And if you pay a mortgage, in all probability you are now paying it to the government. Do you care?

This is an important point, because Plan Moldbug involves a gigantic increase in M0. M0 is the sum of Fed liabilities. By consolidating the balance sheet, we are moving bank liabilities – the rest of the M’s, and beyond – into this category. In any naive analysis, this seems “inflationary.” But naive analysis neglects the actual relationship between money supply and prices. Prices increase when people have more money, ceteris paribus, to spend on the same goods. If the change is portfolio-neutral, by definition it cannot affect prices. In reality, all we are doing is recognizing the actual supply of dollars, which is much greater than $2750 per American.

Naturally, the point of any such nationalization is not to have to do it again. Applying to the government for loans is a little Soviet for my taste. Our present system, in which Fannie and Freddie more or less are the government, is already a little Soviet.

The end goal is to phase out this lending-counterfeiter business, and construct a new financial system – the motorcycle – in which lending is really, truly private, and financial intermediaries match their maturities. If Bobby needs money for three weeks, he asks you for a three-week loan. He does not ask you for a one-week loan and then get a surreptitious, covert, informal three-week loan from the Fed’s “technology, called a printing press.”

In any such financial system, we would see the true yield curve, the graph of interest rates at every maturity, uncontaminated by maturity mismatching. My suspicion is that at least at first, long-term rates would be quite high. Which means lower house prices. In the spirit of portfolio neutrality, USG might want to print some more money and kick it back to homeowners, such as, of course, myself…

But at this point we are just fantasizing, because none of this is going to happen. If the American public balks at “King Henry” (I believe one poll showed 7% support for the feeble TARP) – they’ll have none of Emperor Moldbug. If printing a mere $700B turns their stomach (the “cost to the taxpayer” – of course, no one will raise taxes to “pay” for this use of the “technology, called a printing press”), moving a few T from M1, M2 and M3 to M0 is a nonstarter.

What we’re seeing here is a failure of democracy. Americans have a certain picture of their financial system. They believe that a dollar is, in some way, an asset like gold that cannot be printed at will. They believe that banks are free-market corporations, not branded branches of the State. They believe in regulation, but they don’t believe in socialism. And so on.

Any politically realistic policy has to be framed in these terms, which are not realistic. The result: stalemate, ineffectuality, drift, and disaster. In other words: EP1C FA1L. I don’t know what’s going to happen, but I know it’s not going to be good.

Odds and ends

September 25, 2008

Due to strong north winds, this week’s UR has been postponed until tomorrow. In the meantime, some odds and ends.

Deogolwulf, il miglior fabbro, has a wonderful translation of Prince Metternich’s Political Testament – appearing in English for the first time, so far as we can discern, after a century and a half. Since any history of the modern age can be summarized by the observation that Metternich was right, the work is not unimportant. Also, don’t miss the Wulf’s thoughts on democracy.

Martin Regnen has produced a column of condensed moldbuggery for Travelers may find this handy indeed, as one fellow who emailed me recently discovered: he had printed out the entire OL series, which came to 340 pages. Toner isn’t as cheap as it once was.

Conrad Roth is blogging again. If you have a literary bent, it must bend in Conrad’s direction. If it doesn’t, perhaps it’s some other bent you have.

And Carter van Carter is blogging still. Apparently not everyone “gets” ADC. If this description describes you, consider the possibility that you’re just not cool enough. The rest of us will be hanging out in Whitby – we’ll smoke some Ibogaine and hunt the Mande Burung.

A clean-slate accounting of the dollar (part 1)

September 18, 2008

There seems to be a bit of a commotion in the financial markets. As one mugwump put it: “this would be extremely interesting from an analytic perspective, if it wasn’t happening to us.”

And the yellow dog has barked. Woof! The Au/USD ratio or “gold price” rose about 10% on Wednesday. This may not sound like a lot, but it’s basically unprecedented. A Moldenstein moment? Possibly, but I wouldn’t write off the global financial system just quite yet.

Looking at the chart, what seems to have happened is that a little before 10 AM, someone chose to either acquire a fat slice of the yellow dog, or relieve themselves of a negative slice. I suspect the latter. “Actually, Brooke, we used to have our very own place in the Hamptons. But then Daddy decided a massive financial crisis was the perfect time to short precious metals.”

If the details of this matter interest you, see my comments Monday at Macro Man’s. The subject was the decoupling of gold and oil, which moved in sharply opposite directions Monday. Hopefully causing someone to lose a large amount of money. I would like to think that the events of the last year – or at least the last day – convince the wizards of Connecticut, or at least the wizards’ little black boxes, that the marginal market for gold is dominated by its role as a natural currency, and that it does not form reliable correlations with industrial raw materials (“commodities”) or official currencies (the hidden denominator of “the dollar,” as in “the dollar rose today” – meaning, basically, USD/EUR).

(Not that I expect raw material/USD ratios to crater. The basic driver of rising material/USD ratios is the US trade deficit, which ships large numbers of dollars to large numbers of people with a large marginal propensity to demand raw materials and products thereof. Eg, China. Since the basic cause of the trade deficit is underpriced currencies in emerging markets, and since this underpricing is not an accident but a policy, there is no reason to expect this trend to reverse. Of course speculators can overshoot it, but they can also undershoot it.)

You can also read this thread at Brad Setser’s, in which I explain my modified Austrian theory of banking, and the rather extreme crisis medicine it implies, to skeptical but friendly bankers. Here at UR we’re never afraid to go head to head with the heavy hitters.

But all of this is written for those with some pre-existing knowledge of the system. The great thing about being a skeptical generalist is that you trust your own ability to think about X, instead of trusting those with actual knowledge and experience in X. I am certainly no opponent of knowledge or experience, but it should be plain to everyone at this point that our financial system is, in at least one mysterious and incomprehensible way, broken.

So those who know it, know the broken thing. Worse, they believe that the dollar system is exactly what it purports itself to be – money is money, bonds are bonds, banks are banks, etc. And they have built a large superstructure of models on these understandings. Said models do not appear to be in perfect working order.

When we analyze the dollar with no assumptions about economics, finance, or accounting, we may make our own mistakes, but they will be our own mistakes. Think of it as rather like analyzing a Soviet nickel company in 1991. Does the company even exist? Does it even produce nickel? Does it own any mineral rights of any sort? If we buy it, do we really own it? Etc.

So think of our clean-slate dollar analysis as a sort of forensic accounting, on a very special Soviet nickel company: USG, also known as “America.”

First, let’s start by looking at a dollar. You probably have one in your wallet. This exercise may seem pointless. And to some extent it is. But it reminds us of the first rule of accounting: always trust your own eyes.

On the back of my dollar, there are some trippy engravings with Latin text. I don’t know Latin, but the context seems purely decorative and contractually void. Hopefully this is actually so. There is also the phrase “In God We Trust,” which sounds vaguely like a financial obligation. But we know not what liabilities are being ascribed to God, whether He has actually agreed to any such contract, or what will happen if He defaults on it. So we’ll call this one void as well.

On the front, more decoration, but also what seems like actual content. We learn that our dollar is a “Federal Reserve Note,” issued by “The United States of America.” The latter is our Soviet nickel mine – USG. The “Federal Reserve” is apparently some unit or subsidiary thereof. Perhaps it has some relationship to the “Federal Reserve Bank of San Francisco.” Also appearing is the “Department of the Treasury,” apparently some other unit, employing a “Treasurer of the United States” and a “Secretary of the Treasury.” Oddly, these are not the same person. Perhaps the latter is the former’s admin. Their signatures are reproduced – context, unclear. Are the Treasurer and her secretary personally liable for any obligation? If USG tanks, must they step in and make me whole? We’ll take a wild stab and say no.

We do not understand the internal structure of USG. We don’t want to understand it. We will treat it as a single entity with a single balance sheet. Presumably if we decide to do the deal, we’ll bring in our own people and reorg everything. For now, if USG is lending to itself, or whatever, these transactions will cancel out. Simplifying everyone’s life. Life is short. Accounting is boring. Or at least, it should be boring. If it’s not, something is probably up.

There is also what looks like a serial number. Mine is “L68082696L.” This suggests that there is a list of serial numbers somewhere. Probably on a crumbling, makhorka-stained notebook filled out by hand in Cyrillic. But still, this is excellent. It suggests that we may be able to know how many dollars are outstanding. As we’ll see, this is too optimistic, but one can hope.

It also suggests that the Cyrillic notebook might record that I, Mencius Moldbug, am the owner of L68082696L. But this can’t be so – I know that no one knows that I have this note. This is useful information; it means the dollar is some sort of bearer security.

Finally, there is a fascinating phrase. It reads: “this note is legal tender for all debts, public and private.” When we investigate this, we find it refers to a rule in the operating handbook for USG’s internal security forces – 31 USC 5103:

United States coins and currency (including Federal reserve notes and circulating notes of Federal reserve banks and national banks) are legal tender for all debts, public charges, taxes, and dues. Foreign gold or silver coins are not legal tender for debts.

Does this actually mean anything? Or is it purely decorative? As we’ll see, it is decorative. Or more properly, historical. It doesn’t mean anything now, but it once did.

Today, if I sign a contract promising to deliver a hundred dollars, I need to deliver a hundred dollars. If I sign a contract promising to deliver a barrel of oil, or a tenth of an ounce of gold, or five shares of Cisco, I need to deliver a barrel of oil, or a tenth of an ounce of gold, or five shares of Cisco. All of this would be true with or without “31 USC 5103.”

So we have learned the following from our examination: the “dollar” is some sort of bearer security, issued by USG, attractive and portable, conveying no rights whatsoever. Well, it was worth a try.

But we know something else, which is not written on the note but is implicit in its design. We know that every dollar is equivalent. Each dollar is a member of a homogeneous class of goods, each of which confers the same rights as every other. Moreover, bills of higher denominations obey the same rule. A five-dollar bill will always be worth five dollars. It will never trade up to $5.23, or down to $4.65.

This minimal amount of information enables us to classify the dollar as a financial instrument. The dollar is equity.

Compared to your average equity issue – say, a share of Cisco – the dollar is a highly inferior class of stock. It never has paid any dividends and probably never will. It conveys no voting rights. We have no idea how many shares are outstanding. And we’re not at all sure what you’d own, if you owned all of them – but it is definitely not all of USG.

But this is par for the course for your Soviet nickel company. The forensic accountant is trying to make some kind of structured sense out of half a century of Communist nonsense. Is this a problem? It is. Does this mean you shouldn’t buy the company, or its shares? Well, nickel is nickel. Some of the world’s richest men got that way by buying Soviet nickel companies.

Any financial instrument is one of three things: a deed of ownership of some good (a title), a liability to fulfill some obligation, possibly contingent (a debt or option), or none of the above (equity). The dollar is equity because (a) it is definitely not a title or a debt, and (b) every dollar is created equal; whatever benefits USG may choose to shower on the holder of L68082696L, it will provide to the holder of any other dollar. It’s not much, but it’s a start.

Perhaps you think of the dollar as “money” or “currency,” and you are very confused by all this. “Money” and “currency” are nice words, but they have no precise accounting definition. They just refer to a good or security commonly held for the purpose of savings and/or exchange. Historically, we can identify four classes of currency:

(1) Direct goods, such as coins of a standardized weight of precious metal.
(2) Titles or warehouse receipts to (1).
(3) Obligations to pay (1) or (2), or redeemable currency.
(4) Mere equity, or fiat currency.

These are (excluding the common 4-to-1 transition) in order of historical evolution. Explaining the evolution is not of direct assistance in analyzing the dollar, but it helps us get our bearings – and it defines terms which will be useful later on.

Class 1 currency (standardized metal) evolves into class 2 currency (titles) because titles are more portable, secure and convenient. Digital gold is a modern class 2 currency.

Class 2 currency (titles) evolves into class 3 currency (redeemable notes), because the change is generally profitable for the currency issuer, and the marks are too dumb to know the difference. A title or warehouse receipt is a title because the issuer holds goods that match it; otherwise, he is a thief. A redeemable note is a mere debt, and does not default until redemption fails. And even then, the issuer is only bankrupt, not in jail.

Suppose I have 100 ounces of gold, and issue 100 titles against it, each title stating that the bearer owns one ounce of gold. This makes me a respectable issuer of class 2 currency.

Suppose I have 100 ounces of gold, and issue 200 redeemable notes against it, each note stating that I will issue the bearer one ounce of gold on demand. This makes me a scoundrel.

However, it also makes me wealthier than I was before, at least until more than 100 bearers show up to claim their gold at the same time. Will my notes trade at par? Ie: will people accept them as equivalent to the class 2 titles? Well, every time someone starts to get suspicious and tries to redeem one, it works. So I don’t see why they shouldn’t. We have just reinvented the wildcat bank – a staple of early American finance.

There is a cure for wildcat banking: those who accept class 3 notes should ensure that the issuer is solvent. A financial institution is solvent if and only if the sum of all the payments it is obligated to make equals or exceeds the total price of all the assets it holds. So our Scoundrel Bank above is not solvent, because it is obligated to pay 200 ounces and it only has 100 ounces.

One way to see a redeemable note is to see it as a very short-term loan from the noteholder to the bank, which is automatically renewed or “rolled over” when the noteholder does not redeem. If the term of the loan is an hour, a minute or even a second, the effect is redeemability. And note that when making a loan, what you want to know is whether the loan will be paid back. And collectively, what all loanholders want to know is that they all can be paid back. First come, first served, is not solvency.

Scoundrel Bank can redeem for some of its noteholders. But not all of them. Therefore, all unfortunate holders of its notes can agree on a fair – or “equitable” – bankruptcy restructuring: every holder of a Scoundrel ounce note should receive half an ounce of gold. As for the scoundrel himself, trees abound, and perhaps the noteholders can pitch in for a rope.

But there is a tricky intermediate case – call it Questionable Bank – between Respectable Warehouse and Scoundrel Bank. Respectable Warehouse issued 100 one-ounce titles. It has 100 ounces. Verifying the quality of the titles is as easy as verifying these facts. Scoundrel Bank issued 200 one-ounce notes. It does not have 200 ounces. Verifying its insolvency is just as easy.

Questionable Bank also issued 200 ounce notes. It also has only 100 ounces. But it also has 100 old pianos. Each piano, it asserts, is worth an ounce of gold. “Easily. Easily. No sweat, man. These are fine pianos. Here, play this one. Hear that sound? That’s a sweet tone. Check out the action on the keys. Totally smooth. You could move this piano for an ounce fifty, no problem.”)

Suddenly our noteholder, or at least the accountant he hires, is required to be a piano appraiser. Should you trade a Respectable title to one ounce, for a Questionable note paying one ounce? It depends on the quality of the pianos. Obviously, every piano is different. You can’t just play the one up front in Questionable’s office. You need to go into the back room and tinkle away.

Moreover, even if each piano could be sold on the piano market for an ounce or more, it is hard to know that all the pianos could be sold at once. Since price is set by supply and demand, the appearance of a large splodge of pianos, even fine pianos, on the market all at once, is liable to depress the piano price. And “at once,” let’s not forget, is the term of the Questionable notes.

In real life, of course, the good in question is typically not pianos but loans. Usually long-term loans. Pricing a piano is difficult, but it is nothing on pricing a loan. And the result of dropping a glut of loans on the market all at once is even more astonishing and disastrous.

If you are interested in the details of this issue, see the discussion at bsetser’s. But in this case Questionable has an easy solution for its problem. Like most currency issuers, it is sovereign. It is not just a bank. It is also the government. One, nobody can go into its back room and tinkle its pianos. And two, if people don’t want to accept its one-ounce notes as equal to one ounce, it can make them.

This provides an interesting explanation for the mysterious “legal tender” phrase on the front of our dollar. It is easy for a sovereign currency issuer to transition its units from a class 1 or class 2 currency, to a class 3. The class 3 currency is still defined as the same weight of metal. But it is no longer backed by enough metal to redeem the entire currency issue (otherwise, it might as well be class 2, like the old Bank of Amsterdam). Besides metal, the issuer holds pianos, loans, Honus Wagner baseball cards, etc, all of whose total market price exceeds the sum of the notes. Or at least allegedly exceeds them.

It is highly desirable for the class 3 currency to trade “at par,” eg, be exchanged one-to-one for the metal or the title. And for a sovereign issuer, this is no problem. If the subjects arrogantly persist in scorning the King’s honor by discounting his perfectly good notes, the King’s sword will discount their necks. Even the flagrantly insolvent Scoundrel Bank will do just fine as a sovereign issuer. If Jews and speculators try to stop the King’s loyal subjects from paying their debts with the King’s good one-ounce notes, which they maliciously insist are worth only half an ounce, their heads are forfeit.

And it is easy to see that the King’s notes are worth one ounce, because anyone can take them to the Castle and exchange them for an ounce of pure gold. No tricks or shenanigans. Of course, speculators and Jews may assert that King Scoundrel has used his sword to perform what is essentially an act of alchemy, an art of interest to all kings past, present and future. But swords speak louder than words.

However, when King Scoundrel pushes his alchemy too far, the seams begin to show. Foreigners, for example, have a nasty tendency to redeem the notes and skip the country with the gold. This won’t do at all. And it can be repressed in various ways, but it leaks. The domestic price of Scoundrel notes will always be one ounce, but the foreign price might be a bit lower. There is a perennial incentive to redeem notes and smuggle gold. Bad.

This problem can be solved in a very simple way. Cut the Gordian knot. Suspend redemption. Even better, terminate it permanently. Just default on the loan. You’re the King, after all. Who’s going to mess with you? Certainly not the Jews and speculators.

The result is a class 4 currency – equity. Conversion of debt to equity is the normal procedure in bankruptcy. Scoundrel Bank still has plenty of assets, after all, just not enough to keep its pesky subjects from redeeming their notes and selling the gold to speculators and Jews. The class 4 currency is not, by any means, worthless. Holders of notes are treated equitably. In theory they may even collectively own all of Scoundrel Bank, although the King is generous enough to manage it for them.

Is it possible that our present dollar evolved through this process? Today we are practicing accounting, not history. We do not know how the dollar came to be what it is. All we know is that it’s a class 4 currency. This conclusion is produced solely by our own eyes, above.

To regularize this equity structure, to retrieve it from the realm of Soviet nickel and bring it back into the realm of sane accounting, we need to do two things. One: we need to decide how many shares there are. Two: we need to decide what you own, if you own all the shares. For example, in the case of Cisco, the answer to the first question is “5.9 billion,” the answer to the second is “Cisco.” These answers may be slightly blurry around the edges, but only slightly.

Let’s start by declining to answer the second question. Clearly, if you own all the dollars, you do not own USG, including the highly lucrative (and nickel-rich) continent of North America. While it might be great fun to elect a CEO of USG with one vote per dollar, it is not essential to a proper accounting of the instrument. We would also like to avoid restructuring USG as a whole, at least in this blog post.

For the moment, let’s say our goal is to construct and spin off a new entity, DollarCo, whose shareholders are current dollarholders on a 1:1 basis – each dollar will become one share in DollarCo. As for DollarCo’s assets, this is a political question. But just to get in the right ballpark, let’s start by throwing in USG’s gold reserves: 264 million ounces.

The first question is all we have left. How many dollars are there in the world? There is a nice official answer to this question. The figure is known as M0, the monetary base, and its current value is about 825 billion. Thus, DollarCo will have 825 billion shares.

One of the nicest things about modeling a dollar as a DollarCo share is that the process of equity dilution – creating new shares – is extremely well-understood. Whereas the process of creating new dollars is, in classic Soviet nickel-company style, shrouded in deep mystery. Everyone has a sense that there are a lot more dollars around than there used to be, but few are quite sure why.

It is immediately obvious that creating new DollarCo shares cannot add more gold to Fort Knox. But the process of dilution is still useful for various events in the corporate lifecycle. Dilution confiscates a pro rata percentage of each share from all shareholders, collects it all together, and assigns it to whatever party is granted the new shares – presumably in exchange for some consideration which benefits the old shareholders, making the confiscation worthwhile for all. For instance, if DollarCo is to acquire PesoCo, it can issue new shares in exchange for all the shares of PesoCo, according to whatever ratio the dealmakers work out.

What we don’t want to see happening, however, is covert dilution. The party secretary of our Soviet nickel company may well be running off shares on his laser printer, and handing them out to his vodka buddies. This is a no-no. And we are not sure what’s happening in this “Treasury” place – but the number is definitely increasing. For now, we would like to not only ascertain, but also lock, the number of dollars outstanding. PesoCo will have to wait for another day.

It’s important to recognize that DollarCo is a product of the accounting process. It does not exist yet. All we have is USG, which owns Fort Knox among many other things, and has issued some number of dollars. Before we can form DollarCo, converting dollars to DollarCo shares and transferring USG assets to make DollarCo worth something, we need to ascertain and lock the dollar count – first.

A dollar need not be a physical object. It can be an electronic entry, as many dollars are at present. However, we need to know exactly how many dollars are outstanding. A foolproof way to do this is to assign every dollar, electronic or paper, a consecutive serial number – or as we programmers put it, a sequence number. If there are n dollars, the first dollar is sequence number 0 (we can frame this one), and the last is (n – 1). Rocket science this is not. And, most importantly, n is final – it cannot be increased.

But we already know n, right? Isn’t it 825 billion – M0?

Wrong. The problem is that this assignment, n = M0, simply does not make sense. It is not consistent with economic reality. Of course USG can enforce it, as it can enforce anything, but the result will be social and economic disaster. North America will become a burned-out Mad Max wasteland, patrolled by marauding gangs and packs of radioactive mutant wolves.

To think about this, let’s make sure we fully appreciate the ramifications of permanently setting n = M0 by imagining that each dollar is not just a piece of paper, but an alien artifact, roughly the size of a poker chip but made using alien technology which cannot be duplicated. These alien poker chips are a strange, glowing purple color that no Earth technology can imitate. There are 825 billion of them, and no aliens are around to extend the supply.

Everything else about our world, however, remains the same. Including the fact that USG has a national debt of roughly $10 trillion – not counting unfunded entitlements. Moreover, this debt is not even discounted. Quite the contrary: it is considered “risk-free.”

Question: how, exactly, in a world that contains only 825 billion dollars, can a debt of $10 trillion be risk-free?

Moreover, USG runs an annual trade deficit of $750 billion. Even if it started each January 1 with all 825 billion of these dollars in the country, which it most certainly didn’t, its subjects should be feeling pretty impoverished by Christmas. But no. They run the same trade deficit, year after year after year. Perhaps the dollars are being lent back to them – but why?

There can only be one answer: this $825 billion number is just plain wrong.

825 billion is the number of formal dollars outstanding. It is not the droid we are looking for, though. What we need, in order to set up DollarCo and properly account for the dollar, is the number of fully diluted dollars. Somewhere out there in Soviet nickel-company land, there are trillions and trillions of covert, informal, virtual, contingent, or otherwise mysterious dollars.

The goal of any clean-slate accounting must be to (a) describe these virtual dollars, (b) figure out who owns them, (c) understand the process that produces them, (d) shut this process off, and (e) map the virtual dollars to sensible financial instruments, ideally just regular dollars.

Come back next Thursday for part 2 of this exciting series, in which we’ll solve these problems, or at least pretend to. (If you want the solution to actually be implemented, I’m afraid you’ll have to call your Congressman.)

America: vampire of the world (part 2)

September 11, 2008

The title is inflammatory. And do we need that? In retrospect, “US foreign policy unplugged” might have been a better choice. But there is already a part 1, and it’s too late now.

In the last part I described propaganda as a sort of magic trick. Good propaganda, if it depends at all on lies, uses them very sparingly. Lying is crude and inartful. The magician’s art is to make your eyes see one thing, and your brain see another.

A fine example – almost a pons asinorum for 20th-century history – is the case of USG and Israel. In the Arab-Israeli conflict, which side does USG support?

The savvy, experienced UR reader knows this is a trick. But she also knows she’s supposed to say “Israel,” like 99.99% of the educated people in the world. And even like some of the most skeptical and independent commentators – such as Steve Sailer.

As far as most of us are concerned, USG’s support for Israel is simply a fact. Other facts in the same category include water, which flows downhill; Hitler, who is dead; and disco, which sucks. La Wik, which as we all know is nothing but factual, has a fine discussion of our fact. And it is a matter of public record that every year, USG sends billions of dollars in cold, hard cash and bodacious military hardware to Israel. If this isn’t “support,” what is?

The lady, in other words, has been cut in half. Her head is over here. Her legs are over there. Your brain says: they cannot possibly be connected. You saw the chainsaw pass between them. And yet – and yet, when we analyze the video, something puzzling appears.

What do we actually mean by “support”? We mean that USG is on Israel’s side. That it is pro-Israeli. That its actions in the Middle East tend to strengthen Israel’s position, and weaken the position of its enemies.

Logically, therefore, if USG switched from being pro-Israeli to being neutral, Israel’s position in the conflict would be weaker, and the Palestinians’ position would be stronger. Obviously.

Obviously. But what is this word “neutral?” What do we mean by “neutral?” Well, in the last episode, we acquired a very handy and compact definition of “neutral,” courtesy of John Quincy Adams’ Monroe Doctrine:

Our policy, in regard to Europe, which was adopted at an early stage of the wars which have so long agitated that quarter of the globe, nevertheless remains the same, which is, not to interfere in the internal concerns of any of its powers; to consider the government de facto as the legitimate government for us; to cultivate friendly relations with it, and to preserve those relations by a frank, firm, and manly policy; meeting, in all instances, the just claims of every power; submitting to injuries from none.

Compare to Grotius’ definition:

Again, according to what was said in a preceding part of this book, it is the duty of those, who profess neutrality in a war to do nothing towards increasing the strength of a party maintaining an unjust cause, nor to impede the measures of a power engaged in a just and righteous cause. But in doubtful cases, they ought to shew themselves impartial to both sides, and to give no succour to besieged places, but should allow the troops of each to march through the country, and to purchase forage, and other supplies.

Carlyle puts it somewhat more poetically:

And at all times, and even now, there will remain the question to be sincerely put and wisely answered, What essential concern has the British Nation with them and their enterprises? Any concern at all, except that of handsomely keeping apart from them? If so, what are the methods of best managing it?–At present, as was said, while Red Republic but clashes with foul Bureaucracy; and Nations, sunk in blind ignavia, demand a universal-suffrage Parliament to heal their wretchedness; and wild Anarchy and Phallus-Worship struggle with Sham-Kingship and extinct or galvanized Catholicism; and in the Cave of the Winds all manner of rotten waifs and wrecks are hurled against each other,–our English interest in the controversy, however huge said controversy grow, is quite trifling; we have only in a handsome manner to say to it: “Tumble and rage along, ye rotten waifs and wrecks; clash and collide as seems fittest to you; and smite each other into annihilation at your own good pleasure. In that huge conflict, dismal but unavoidable, we, thanks to our heroic ancestors, having got so far ahead of you, have now no interest at all. Our decided notion is, the dead ought to bury their dead in such a case: and so we have the honor to be, with distinguished consideration, your entirely devoted,–FLIMNAP, SEC. FOREIGN DEPARTMENT.”–I really think Flimnap, till truer times come, ought to treat much of his work in this way: cautious to give offence to his neighbors; resolute not to concern himself in any of their self-annihilating operations whatsoever.

So, on the Arab-Israeli conflict, in our imaginary world with its neutral USG, Flimnap, Grotius, and Adams concur. “Our decided notion is, the dead ought to bury the dead in such a case.” I’m not quite sure what this means in the exact literal sense. But surely the poetic gist is clear.

Ie: without USG, the Arabs and Israelis will have to settle the question themselves, using the old-fashioned methods. “Clash and collide as seems fittest to you.” And what would be the result of such a clash? Obviously, by “clash” we mean “war.”

So this question resolves to: which side has the strongest military, the Arab or the Israeli? The question is prejudiced slightly by the American military hardware provided under the aforementioned program, but Israel is certainly capable of producing its own hardware. It is rather difficult to imagine Syria, Egypt, or Iran with any such capabilities, let alone Israel’s immediate opponents: Gazastan and Westbankistan.

Given this disparity in indigenous military capacity, we Flimnaps would expect any disputes between Israel and its neighbors to be settled to the advantage of the former. War is, above all, a practical endeavor. The weak do not cause trouble for the strong. If they do, they demonstrate that they are dangerously irrational, like a rabid poodle, and need to be put down.

At present, however – that is, in the real world, where USG supports Israel – the expectation appears to be that all disputes will be resolved via Israeli concessions. The only dispute appears to be on the magnitude of these concessions. “Land for peace” is a fairly normal way to end a war – for example, France in 1870 accepted the proposition of “land for peace,” ceding Alsace-Lorraine to Germany. On the other hand, France in 1870 had been defeated. Whereas Israel in 1967 was, at least according to all reliable experts, victorious.

So we arrive at a peculiar conclusion. On the one hand, USG supports Israel. On the other hand, if USG ceased to exist, at least for the purposes of the Middle East, Israel’s position seems as if it would become much stronger. A conclusion that would seem to indicate that USG opposes Israel. But then, why would it give Israel billions of dollars and fancy weapons?

We are left to conclude that (a) USG both supports and opposes Israel; (b) the magnitude of the opposition exceeds the magnitude of the support (implying net opposition); and (c) the support is overt and obvious, whereas the opposition is somehow… more subtle.

In other words, we are in the position of an astronomer who sees light being bent away from a large visible object. The astronomer must conclude that unless the laws of gravity are reversed in the vicinity of this object, there is an even larger non-visible object on the other side of the light. The latter can be detected only by inference, but the detection remains unambiguous.

Israel makes a great pons asinorum because in this case, the diplomatic dark matter is not at all hard to find. Perhaps it is best explained by the title of this book, which I saw in a window somewhere. According to the author or at least his title, USG is acting as a “dishonest broker” in the Arab-Israeli conflict.

Ie: “justice” in the conflict favors the Palestinians more than USG’s actions today reflect. Ie: USG is pro-Israel, but not in the sense that USG’s interventions in the Middle East are a net positive for Israel. Actually, they are detrimental to Israel. But if “justice” were served, they would be even more detrimental.

So if I sue you for $100,000 and the judge awards me $20,000, I might say that the judge is biased in favor of you. Because you still have $80,000 that is rightfully mine. On the other hand, it’s difficult to avoid the conclusion that the judge forced you to pay me $20,000. Which is $20,000 you’d have and I wouldn’t, if there was no judge at all. An interesting kind of support.

America, you see, is not really the vampire of the world. The analogy is inexact in two ways. One, a vampire is nourished by the blood of his victims. They grow weak and sickly, while he thrives in ruddy good health. Two, it is always easy to know that a vampire has been eatin’ on you, because there are fang-marks on your neck.

America is more the arsonist of the world. As well as the fireman. Wherever fires break out, Uncle Sam is there to pour gasoline on them. The fireman assures us, of course, that he is only setting a backfire to defeat the main blaze. But why is this always the right strategy? Why was he the first one on the scene? Why do his hoses always seem to get tangled, whereas his gas can never runs dry? And why have there been so many more fires since he came to town? But the TV audience sees none of this. All they see is the fireman, fighting the fires.

To justify this imaginative metaphor, let’s untangle the interesting complex of assumptions behind the “dishonest broker” theory.

First, how did USG become the broker, honest or dishonest, in the Arab-Israeli dispute? It is difficult to remember these days, but USG is still nominally constituted to serve the interests of American citizens, ie, not Arabs or Israelis. If all the Arabs and Israelis need is an indifferent third party, an independent arbitrator, have they considered, for example, Nepal? Although I’m afraid that these days even the Nepalis may have strong feelings about the Middle East.

Second, it’s obvious that Nepal won’t do. Because USG is acting not as an arbitrator with whose rulings the Arabs and Israelis voluntarily agree to comply, but as a judge who both decides and enforces. When A settles the dispute of B and C and enforces the settlement, A is more than a broker. A is a governor.

If you heard a Hitler say: “the swastika is the flag not only of Germany, but of the world,” you would doubtless be a little concerned. You might think, gee, this Mr. Hitler doesn’t mind sounding like he wants to conquer the entire friggin’ planet.

But when you hear that the Stars and Stripes “is the flag not only of America, but of humanity,” you have a slightly different reaction. And not because you’re a gun-totin’, God-lovin’, truck-drivin’ red-state American. Quite the contrary, in fact. Here’s the full quote:

My dream is that as the years go on and the world knows more and more of America it will also drink at these fountains of youth and renewal; that it also will turn to America for those moral inspirations which lie at the basis of all freedom; that the world will never fear America unless it feels that it is engaged in some enterprise which is inconsistent with the rights of humanity; and that America will come into the full light of the day when all shall know that she puts human rights above all other rights and that her flag is the flag not only of America but of humanity.

What other great people has devoted itself to this exalted ideal? To what other nation in the world can all eyes look for an instant sympathy that thrills the whole body politic when men anywhere are fighting for their rights?

Couldn’t this almost be Barack Obama? But, of course, it’s another progressive, Woodrow Wilson – on July 4, 1914. Wilson is expounding the policy that has become known by his name, and which in part 1 we called “foreign policy C.”

Note the particularly charming phrase “unless it feels that it is engaged in…” What Wilson really means is that [no government] will ever fear America unless [America] feels that [that government] is engaged in some enterprise which violates the rights of humanity.

In other words, USG will judge the world. In other words, USG will govern the world. In other words, USG will rule the world. In other words, USG will dominate the world.

The belief that judging is distinct from ruling, that one can “provide global governance” without “grasping world domination,” is not a Wilsonian invention. It is a fundamental part of the American political tradition – the separation of powers. In this case, the separation of executive and judicial authority. One can be an honest broker, without being an imperial overlord.

Rationally – if the term applies – this depends on the concept of “natural law,” ie, a theory of right and wrong which is self-evident to everyone honest. Since USG is always honest, being democratic, it and and any other honest, enterprising government will always agree on whether the latter is “violating the rights of humanity.” And if they don’t, it is. Ergo, USG is always right.

Thus, it is clear that when Serbia wishes to recover a seceded province, it is violating the rights of humanity, whereas when Georgia does the same it is defending them. The former fears America, and rightly so. The latter is helping it support democracy.

So USG, the universal democratic nation, may, indeed must, assert its jurisdiction over all. Which it just happens to have the military and financial power to enforce. And is this in the interest of America or Americans? Heaven forfend! From the same speech:

Our independence is a fact so stupendous that it can be measured only by the size and energy and variety and wealth and power of one of the greatest nations in the world. But it is one thing to be independent and it is another thing to know what to do with your independence. It is one thing to come to your majority and another thing to know what you are going to do with your life and your energies; and one of the most serious questions for sober-minded men to address themselves to in the United States is this: What are we going to do with the influence and power of this great Nation? Are we going to play the old role of using that power for our aggrandizement and material benefit only? You know what that may mean. It may upon occasion mean that we shall use it to make the people of other nations suffer in the way in which we said it was intolerable to suffer when we uttered our Declaration of Independence. The Department of State at Washington is constantly called upon to back up the commercial enterprises and the industrial enterprises of the United States in foreign countries, and it at one time went so far in that direction that all its diplomacy came to be designated as “dollar diplomacy.” It was called upon to support every man who wanted to earn anything anywhere if he was an American. But there ought to be a limit to that.

Wilson, it appears, is not at all a fan of “foreign policy B.” Nor am I, really – although my main concern is that it too often gets mixed up with policy C. For example, as Herbert Croly wrote in his biography of Willard Straight, regarding a railway loan the State Department was trying to place in northern China in 1910, to cement the Open Door Policy:

According to the subsequent critics of “dollar diplomacy” the connection was one which degraded the American government into the accomplice of private banking interests. The facts of the matter were precisely the reverse. It was the State Department which was trying to use a group of American bankers as the accomplice of the American government in China. The majority of these bankers had gone into the Group not because they were seeking Chinese investments but in order to oblige the administration.

This murky mixture is a hallmark of USG’s foreign policy from day one. Vicarious, crusading adventures are presented as sound investments and/or prudent military strategies. And the converse as well – but not nearly so often.

Lest the odor of cynicism become overpowering, let’s pause for a minute, and admit that there is evil in the world. More specifically, there are evil people. And it is a glorious thing, and good for all and sundry, to wrap a rope around their necks and pull the chair away.

The trouble is that if we truly despise evil, we hope to minimize the amount of it in the world. Wilsonism is not inherently evil. A Petri dish is not inherently bacteria-infested. There is such a thing as a sterile Petri dish. But the combination of world domination and profound self-righteousness is a bath of nutrients as nourishing as evil has ever found. And bacteria are not in short supply.

Why would evil not go abroad in the mask of good? Satan has no fear of masks. Wilson, a deeply mystical man, thought of democracy as a sort of antibiotic which ensured that his Petri dish would always remain pristine. It has not, in my opinion, worked out that way.

Wilson, of course, is not the original inventor. We discussed this a good bit last week, but let’s get a quick grasp of the full history of the dysfunctional monstrosity that we now know as the “international community.” (It’s handy to remember, when reading the official press, that these words can always be replaced with “State Department” without loss of information.)

There was certainly no shortage of evil under the pre-Wilsonian Westphalian system of classical international law. Any prince was free to make war with any other prince, for any reason good or bad. And there was a fair bit of that. And war, certainly, is pretty nasty. Evil, even.

But there was also no single point of failure. The Westphalian system did not guarantee good domestic government, or peaceful international behavior. But it was also largely free of incentives for tyranny and devastation. For over 250 years, no European city was sacked, pillaged, or slaughtered in a Westphalian war. Countries that were well-governed prospered, those that were ill-governed declined. If you have been to Europe, you have seen the architectural legacy of Westphalia. You have also seen the architectural legacy of Woodrow Wilson. Which did you take more pictures of?

The Westphalian system was not perfectly stable, however. It is quite possible that its decline into the screaming horror of the “international community” was inevitable. Basically, it started as a multipolar balance-of-power system maintained by consensus, and evolved in the 18th and 19th centuries into a unipolar balance-of-power system in which one power held the balance: England. A single point of failure.

In the 19th century, after the defeat of Napoleon, England started to abuse its responsibility. As we saw in part 1, it decided that it was morally obligated to use its predominance to make the world a better place. While this spirit was not without its good effects – the abolition of the slave trade, for instance – it soon decayed into Canningism: the aggressive, and thoroughly illegal under Westphalian rules, promotion of international liberal revolution, spawning a small galaxy of satellite states with imitation-British political systems.

Walter Millis, in his Road To War: America 1914-1917, picks up the story for us:

The educated leaders of the New Freedom were steeped in British literature more deeply than the old-fashioned politicians. As a student of domestic government, President Wilson throughout his life had been profoundly influenced by English ideas and political institutions; while our rare experts in the elegant fields of foreign policy had modelled themselves for a generation upon the giants of British liberal imperialism. Our own imperialist adventure at the turn of the century had been largely in imitation of those romantic splendors; Mr. Kipling himself had sung us forward to ‘take up the white man’s burden,’ and the statesmen of those years – Roosevelt and Lodge, Root, John Hay, Taft, Leonard Wood – had rejoiced to create an empire almost as glorious and perhaps even more righteous than that of Great Britain.

At the time of the Spanish-American War, Great Britain alone had supported us against what we believed to be a European cabal chiefly instigated by Germany; and as the Anglo-German rivalry developed in the years that followed, our high priests of foreign policy repaid the service by orienting the American attitude in accordance with the British interest. Twenty years before the League of Nations, John Hay, as Secretary of State, had dreamed of bringing the United States onto the international stage to guarantee a world peace based on the existing British predominance. […] Many of our serious thinkers had come to believe with Page and House in an Anglo-American ‘understanding’ as the best basis of universal peace, and Great Britain’s action in 1914 could not in any event have failed to sway profoundly all the most elegant and distinguished leaders of American opinion. But one circumstance gave to Great Britain a tremendous hold on American opinion itself. London was not only the cultural and social capital of our wealthier and more influential classes; so far as European events were concerned it was our newspaper capital as well.

Note that “existing British predominance.” When you read German World War I propaganda, the one event they return to almost obsessively is Lloyd George‘s Mansion House Speech, in 1911:

Personally I am a sincere advocate of all means which would lead to the settlement of international disputes by methods such as those which civilization has so successfully set up for the adjustment of differences between individuals, and I rejoice in my heart at the prospect of a happy issue to Sir Edward Grey’s negotiations with the United States of America for the settlement of disputes which may occur in future between ourselves and our kinsmen across the Atlantic by some more merciful, more rational, and by a more just arbitrament than that of the sword.

But I am also bound to say this–that I believe it is essential in the highest interests, not merely of this country, but of the world, that Britain should at all hazards maintain her place and her prestige amongst the Great Powers of the world. Her potent influence has many a time been in the past, and may yet be in the future, invaluable to the cause of human liberty. It has more than once in the past redeemed Continental nations, who are sometimes too apt to forget that service, from overwhelming disaster and even from national extinction. I would make great sacrifices to preserve peace. I conceive that nothing would justify a disturbance of international good will except questions of the greatest national moment. But if a situation were to be forced upon us in which peace could only be preserved by the surrender of the great and beneficent position Britain has won by centuries of heroism and achievement, by allowing Britain to be treated where her interests were vitally affected as if she were of no account in the Cabinet of nations, then I say emphatically that peace at that price would be a humiliation intolerable for a great country like ours to endure.

In other words: don’t forget that John Bull owns the world.

The German line in World War I was that Germany sought parity with and independence from Great Britain, according to the letter of classical international law. Oddly enough, if you add the US to the equation, this was also the German line in World War II. The idea that this in fact represented a drive for Teutonic world domination certainly follows – as long as you agree with Lloyd George and his thinly-veiled “Highlander” rhetoric. But given that the Anglo-American axis (a) started out on top and (b) came out on top, doesn’t it sound a bit like projection?

So we have our Necker-cube perspective of Wilsonianism. It is either (a) the judgment of angels in Washington, acting as an honest broker and supreme court to enforce peace in a world of free and independent states; or (b) world domination, with a healthy helping of horse manure.

We also have a clearer angle on the connection between Wilsonianism and world peace. World domination and world peace, after all, are practically synonyms. Thus the theory of democratic peace. If all these free, independent democratic countries are in fact better seen as American satellites, why would they fight each other?

Similarly, the puppet states of Hitler’s New Order were remarkably amicable in their relations. Thus we have a matching theory of “fascist peace.” Or Peru could conquer the world, thus producing a “Peruvian peace.” The strange thing about our present era of American peace, however, is that it doesn’t seem all that peaceful. Does this mean world domination isn’t all it’s cracked up to be? Vamos a ver.

Let’s return to today’s illustration, the Arabs and Israelis. The distinction between the Westphalian and Wilsonian interpretations should now be clear.

Under the Westphalian interpretation – classical international law – the Arabs and Israelis have a dispute, viz., both claim the same real estate. Since they are independent and responsible to no higher sovereign, they must settle their dispute by the ultima ratio regum, the last argument of kings: in a word, war. Unless they can work out something better.

Perhaps the most cogent and readable work of classical international law, Vattel‘s The Law of Nations, expresses this beautifully:

Since nations are free, independent, and equal — and since each possesses the the right of judging, according to the dictates of her conscience, what conduct she is to pursue in order to fulfil her duties the effect of the whole is, to produce, at least externally and in the eyes of mankind, a perfect equality of rights between nations in the administration of their affairs and the pursuit of their pretensions, without regard to the intrinsic justice of their conduct, of which others have no right to form a definitive judgment; so that whatever may be done by any one nation may be done by any other; and they ought, in human society, to be considered as possessing equal rights.

Each nation in fact maintains that she has justice on her side in every dispute that happens to arise; and it does not belong to either of the parties interested, or to other nations, to pronounce a judgment on the contested question. The party who is in the wrong is guilty of a crime against her own conscience; but as there exists a possibility that she may perhaps have justice on her side, we cannot accuse her of violating the laws of society.

It is therefore necessary, on many occasions, that nations should suffer certain things to be done, though in their own nature unjust and condemnable, because they cannot oppose them by open force, without violating the liberty of some particular state, and destroying the foundations of their natural society. And since they are bound to cultivate that society, it is of course presumed that all nations have consented to the principle we have just established. The rules that are deduced from it constitute what Monsieur Wolf calls “The voluntary law of nations“; and there is no reason why we should not use the same term, although we thought it necessary to deviate from that great man in our manner of establishing the foundation of that law.

The laws of natural society are of such importance to the safety of all states, that, if the custom once prevailed of trampling them under foot, no nation could flatter herself with the hope of preserving her national existence, and enjoying domestic tranquility, however attentive to pursue every measure dictated by the most consummate prudence, justice, and moderation. Not all men and all states have a perfect right to those things that are necessary for their preservation, since that right corresponds to an indispensable obligation. All nations have therefore a right to resort to forcible means for the purpose of repressing any one particular nation who openly violates the laws of the society which Nature has established between them, or who directly attacks the welfare and safety of that society.

Eg, by shooting rockets at it. The result of the conflict is therefore as follows. Gaza, or Hamas, or at least someone in Gaza – the distinction, under classical international law, being immaterial – shoots rockets at Israel. Israel, having much better hardware, applies whatever “forcible means” are necessary in order to terminate this attack. Perhaps this involves rounding up all the Gazans, shipping them to Egypt, and turning the Strip into an Israeli national park. So long as this is necessary, and nothing less drastic would work, it is permitted. According to Vattel, and all other classical authorities. And the war is over.

Under the Wilsonian interpretation, this right to judge has been removed from Israel and Gaza, and transferred to Washington, our honest – or, depending on your point of view, dishonest – broker. Our single global sovereign.

Result: Arabs persistently refuse any settlement, always involving concessions in their favor, which Israel will accept. As diplomats put it, they will “not take yes for an answer.” Small wonder, as the conflict is essentially their national industry at this point. War continues for sixty years, on and off, and bids fair to go on for the next sixty.

Note that in none of this analysis have we considered the actual merits of the case Palestine v. Israel. We have simply observed that the old international law, generally perceived as brutal and bellicose, results in peace. And the new international law, generally perceived as civilized and humanitarian, results in war. This would not be the first such inversion.

War is, generally, more evil than peace. So our evil detector is going off. But we have only begun to scratch the surface of the evil in this case.

There is actually an English word which refers to the Palestinian case. The word is irredentism. The fit is perfect: “Irredentism is any position advocating annexation of territories administered by another state on the grounds of common ethnicity or prior historical possession, actual or alleged.” The origin of the term is also worth a look. And irredentism can also be considered a special case of revanchism.

But you seldom see these terms used in relation to the Middle East conflict, because both have acquired a distinct odor of… evil. It’s all too easy to understand how irredentism and revanchism are the polar opposite of peace. Peace means accepting the results of history. Irredentism means the Welsh Liberation Front, demanding the return of London from those notorious human-rights violators, the Saxons.

Moreover, one question too seldom asked is why irredentist violence occurs. After all, changes in borders, even mass population transfers, are ubiquitous throughout history. Focusing on our own era for a moment, we have the expulsion of the Germans from Eastern Europe, the expulsion of the Jews from Egypt, and the expulsion of the pieds-noirs from Algeria. In each of these cases, a population of millions was expelled at gunpoint from land they had lived on for generations, an enterprise blatantly inconsistent with “the rights of humanity.” And resulting in a complete absence of irredentist violence, or even political organization. So far as I know, not a single pipe bomb has been detonated by any victim of any of these expulsions.

Why? Perhaps these particular peoples are just genetically docile. A racial characteristic. Or a cultural one, at least. Can these factors be ruled out? Of course not.

But there’s another troubling factor, which is that none of the docile expellees enjoyed the sympathy of the “international community.” For the Germans, this is obvious. The Jews and pieds-noirs were expelled by Arab nationalists – who, as we’ve just seen, did enjoy that sympathy. (Or see, for example, Suez.)

So we see that it’s quite reasonable to say not only that the fireman has been pouring gasoline on the flames for the last sixty years, but that he in fact started the fire. It is not merely that the diplomatic “dark matter” of USG’s intervention keeps the Arab-Israeli conflict alive. It’s that Wilsonian (first British, later American) sponsorship of Arab nationalism essentially informed the Arabs that fighting – as opposed to either (a) accomodating themselves to the newfound diversity of Jewish immigration, or (b) leaving – was an option, and was likely to succeed. (Note that no one has informed white Californians that pogroms are an option for dealing with Mexican immigration, a small blessing we must nonetheless be thankful for.) If you doubt this story, it is set out in great academic detail in Elie Kedourie‘s The Chatham House Version, which is simply an essential work for anyone interested in the problem.

Worse: the Wilsonians lied. Because a substantial, if gradually weakening, faction in Washington does support the Zionists. Thus the billions of dollars, thus the bodacious hardware, and thus the failure in 1948 or since to drive the Jews into the sea. And thus the appalling and continuing suffering of the Palestinian refugees, unlike their German, Egyptian and Algerian counterparts, who have all accepted reality and gone on to have a life.

So, on one side of the battlefield, we have… Washington. Or more precisely, Foggy Bottom. And on the other side of the battlefield, we have… Washington. Or more precisely, Arlington. Cui bono? The Arab-Israeli war is a profession, providing employment for thousands of Americans, not to mention pretty much the entire population of Gaza and the West Bank. If “employment” is a word for parading daily with balaclavas and AK-47s for bags of government cornmeal. Is this healthy, boys and girls? And does it bear any resemblance to Woodrow Wilson’s stoner Christian fantasies? I think he’d be the first to deny it.

The worst thing about Wilsonism, I think, is the relationship of sponsorship and dependency it creates between the “international community” and the “men anywhere fighting for their rights.” The former are the users. The latter are the usees. But as with any dysfunctional relationship, the sickness goes both ways.

For example, the State Department recently declassified its knowledge that in 1973, Yasser Arafat personally ordered the murder of two Foreign Service officers. My father was an FSO, so I know how seriously this is taken. And how close did this come to ending State’s sponsorship of the PLO? If you jump as high as you can, how close to the Moon do you get?

Sponsoring murderous bands of thugs around the world has been, for the last half-century, State’s job. It’s a dangerous job. Everyone knows it. Obviously, they would like the thugs to be as un-murderous as possible. Especially toward their own people. And obviously, they do not see the picture through these glasses. They do not understand that the “men anywhere fighting” fight not because their grievances are unsatisfied, but because State itself has offered them the prospect of satisfaction through violence. State sincerely believes that the gasoline is water.

And the effect on the thugs? Well, I care not for thugs. One, it’s always fun to be a thug, and two, all thugs deserve death. But not all Palestinians are thugs, and I don’t think the last 50 years have been an especially fun time to be a Palestinian.

It could be worse, however. One of the points that Kedourie cleared up for me was the origin of the Armenian genocide. Did you ever wonder why, exactly, the Young Turks decided to murder their Armenians? Did you think it was just because they were evil, or because they were Turkish, or because they didn’t have an electoral college and a bicameral legislature?

Well, all three of these things may be true. But until I read Kedourie, I had only heard two sides of the story – the Turkish side, which is that it didn’t happen, and the Armenian side, which is that it did. History, unfortunately, often comes with far more than two sides:

No means but insurrection: this was clear and it was meant seriously. The leaders of the Armenian nationalist movement had already decided that autonomy was their goal and they thought they had a strategy to achieve it. And these leaders took care that Armenians would not be found to help with the reforms. For it was not in vain that they surveyed the history of Europe from the French Revolution, and not in vain that they meditated on the liberation of Greece, Serbia, Rumania and Bulgaria from the Ottoman yoke. They would make insurrection and they would bring the Armenian Question ‘to the front’. Then the Powers would have to deal with it, and if they failed to deal with it according to the desires of the nationalists, why, there were always other means of keeping the Armenian Question ‘to the front’.
The aim of nationalists is clear. It was to create ‘incidents’, provoke the Turks to excesses, and thereby bring about the intervention of the Powers. The British Blue Books of the period before the massacres are full of reports of attacks by Armenian agents or bands on Turks and Kurds, of the distribution of seditious prints, of the discoveries by Ottoman authorities of caches of bombs and arms, of demonstrations organized by Armenians in Constantinople and the provinces. In most cases, the incidents would have no immediate far-reaching consequences, but some of them, either owing to circumstances or to the ill-will of Ottoman officials, led to serious results. In Sasun in 1894, in Zeitun in 1895, the incidents led to armed risings by the Armenians of these localities which were, of course, bloodily suppressed. An outcry was the result, consular commissions were appointed to investigate, and the Armenian leaders had the consolation of knowing that another blow had been struck in the cause of Armenian independence.

The Blue Books also record another class of incident, quite as large as the first, created by the nationalists, but this much more sinister. It seems that the nationalists had to convince not only the Ottoman government and the Powers of the wisdom of satisfying their desires, they had to convince the generality of the Armenian people as well. This must be the explanation of the attack organized by them on the patriarch as he was officiating in the cathedral of Koum Kapou at Constantinople in July 1890, as a result of which he had to resign his office; of a subsequent attempt to assassinate another patriarch in 1894; of the recurrent reports of Armenians executed for being ‘informers’, for refusing to contribute to nationalist funds, for ‘collaborating’ with the Ottoman government. Nor did the nationalists try to hide or excuse these activities. Here is a passage from a revolutionary placard posted in Sivas in December 1893:

Osmanlis!… The examples are before your eyes. How many hundreds of rascals in Constantinople, Van, Erzerum, Alashkert, Harpout, Cesarea, Marsovan, Amassia and other towns have been killed by the Armenian revolutionaries? What were these rascals? Armenians! And again Armenians! If our aim was against the Mohamedans or Mohamedanism, as the government tries to make you think, why should we kill the Armenians?

The Armenians were forced to be free.

What did the Ottoman government have to say to all this? Its attitude was as clear as that of the nationalists: this agitation would have only one result, to invite Europe to meddle again in the affairs of the Ottoman empire. This was not to be tolerated; the Armenians had to desist or they would take the consequences.
And the incidents continued to be organized. In 1897, just after the massacres of 1895-6, and in 1905, there are records of minor insurrections also leading to massacres. And on the eve of the Young Turk coup d’etat of 1908, there was still the same tension in Ottoman Armenia fed and tended by the revolutionaries. This the American ambassador in a dispatch of 5 August 1907 speaks of ‘a considerable degree of disaffection and revolutionary movement on the part of a portion of the Armenian population in the district of Van. Several cold-blooded murders have been committed even in the streets of that city and a certian feeling of apprehension and unrest appears generally to prevail’; and in another dispatch he reports several more disturbances in Van, revolutionaries killing and wounding seventeen Ottoman soldiers, executing a ‘traitor’, and a considerable store of rifles, cartridges and dynamite seized. Later, when the catastrophe was final, complete, irredeemable, the nationalists were still indignant that their methods had had such untoward consequences. They could not understand why salvation was so recalcitrant in coming, why the easy path which the examples of so many European revolutions had promised should have proved so full of vipers and of nettles. The desolate wind of futility blows through the report the Dashnaks presented to the International Socialist Congress in Hamburg in 1923.

Every time that, through the irresistible force of things, the movement of Armenian emancipation expressed itself in revolutionary action, every time that the party of the Armenian Risorgimento tried, at the head of the conscious elements of the country, to draw the attention of the world, by armed insurrections or peaceful demonstrations, to the intolerable fate of the Armenian people, the Turkish government threw the Armenian masses, peaceful and disarmed, to the mercy of its troops, its bachi-bazouks and of the Turkish and Kurdish mob.

There is a surprised air about the statement.

I’ll bet that when I dragged out the word “evil” you thought it was a bit of an overstatement. Do you still think so? What about the arson metaphor? Does it still strike you as over the top?

How to occupy and govern a foreign country

September 4, 2008

I hate to interrupt a series, but I’m slightly worried that the titles alone of the last two posts may have scared away some of UR’s red-state readers.

Obviously, if you read all the way to the bottom of the screen, let alone the rest of the blog, you realize that I am desperately fond of America, especially its middle or “flyover” section, although this fondness is based on little more than Mrs. Moldbug’s Ohioan relations. And since we can expect Sarah Palin, by simple extrapolation, to be a serious candidate for UN Secretary-General by at least 2017 (perhaps indeed our first actual ruling SecGen, a prospect obviously fantastic but nonetheless enticing), I had better talk no more trash about the lady.

But I still reserve the right to refer to the red-staters, collective, as “Amerikaners.” Like their lexical analogues, the Amerikaners are a cultural group of European stock, but their present-day traditions cannot be easily connected with any group in modern Europe. We cannot say this of the Universalist Eloi of the coasts, whose connection to the English Dissenters and their secular, liberal heirs has been continuous since day one. For example, American traditionalist or “fundamentalist” Christianity, which is nominally Protestant but seems almost Catholic next to the thoroughly Quakerized blue states, has historical roots which are quite obscure and thoroughly American. And besides, I can’t imagine any Amerikaner who wouldn’t dig this.

The future is what it is. No one can predict it. But if we could ask the future questions, and it actually answered back, and we could somehow know that it wasn’t lying, we could become far more confident in our expectations. If I had some such magic 8-ball, my question would be: when will the Amerikaners decide that they’ve had enough?

Sixty (60) percent of American voters call themselves “conservative.” Voting as an organized, disciplined bloc, it should be straightforward for them to defeat and destroy the remaining 40 – let’s say 20% Eloi, 20% Morlock. Moreover, if such a majority demands a comprehensive reconstruction of government, not just a cosmetic change among a few ceremonial officials who have no real executive authority, the Eloi and Morlocks can hardly resist them. Especially since the American military class is, almost by definition, Amerikaner.

In retrospect, any such reconstruction would be accepted by all, of whatever caste. The Eloi will see the light, as they always do. As Osama put it: they like the strong horse. In an Amerikaner republic, Eloi will elbow each other out of the way to eat overpriced American food, wear marked-up knockoffs of American prole clothes, live in actual old American buildings, etc, etc.

Of course the Eloi already do these things. But in our New Albion, they will do them with flags, God and guns. (Possibly even Confederate flags.) And the Morlocks will be forced to deal – as they already are. (Although once the bar is reset, I suspect that less force will be required.)

New Albion will expose and exhume ad nauseam the crimes of the old regime, its predecessor USG. Its satellite states in Britain, Europe, Latin America, Asia and Africa will receive full independence under classical international law. The substance of the change will be obvious. The old progressive history books will be recalled. New reactionary ones will appear. (No burning or banning is necessary. Few Albioners will have the time or energy for 20th-century progressive cant.) And Sarah Palin will put together a small edition of her family’s wise old Alaska sayings, bound in red, white and blue, which fits nicely in the lapel of your blazer.

You may, or may not, be thankful that this is not going to happen. It is not going to happen because the Amerikaners are not organized enough to make it happen. Given infinite time, they will certainly get organized, which is why I say “when” rather than “if.” But time is not on the Amerikaners’ side. Their horse has been weakening for the last century.

The Amerikaners’ problem is that they’re governed by their enemies, the progressives, who have converted democratic politics into a reality show and rule through the extended civil service. The civil service is nominally responsible to the elected arms, but the latter would have to put up a terrible fight to even touch them. And progressives fight the peril of a “populist” democratic reaction with two slow, but inevitably lethal, strangulation tactics: subsidized progressive education, and Morlock voter importation.

The last quasi-successful Amerikaner reaction was the “Return to Normalcy” of the 1920s. Considering the royal ass-whupping the Amerikaners have been taking since then, “normalcy” (which, in classic Amerikaner style, is not even a word) is an awful mild description of the converse. But not even a gentle, Harding-Coolidge style restoration is a real possibility today.

The fatal flaw in the democratic mind of the Amerikaner, or “conservative,” is that he believes that his country’s political system basically works and is the best in the world. It has just gone slightly off the rails in the last few decades. But it can be set right with a minor corrective operation, ie, replacing a few ceremonial officials with good, clean-minded, child-bearing Amerikaners.

This belief system, which has no correlation with reality, is at the heart of “conservatism.” It shows no sign of going away. The fatal allure of insisting that right-wing conservatism is really the true democratic liberalism, the other having strayed, is an irresistible anglerfish lure. (The Rev. Dabney will set you straight.)

Therefore, the Amerikaners are unlikely to organize and act effectively until their electoral position has declined to the point at which a democratic restoration is not only nontrivial, but in fact impossible. At this point, USG will have imported tens if not hundreds of millions of new Third World residents. It will be obvious that military government is the only route to any kind of American restoration. The inevitable alternative is a North America indistinguishable from the rest of the Third World.

Have you been to the Third World? The armed forces will have to act. Let’s hope they can all get it together to be on the same side.

A military restoration may have some advantages over a democratic one. For one, the issue of democracy is settled at the start, or at least should be. A transition from democracy to democracy may have some nontrivial restorative effects, but come on, people. Ideally this needs to be done just once.

Any transition of sovereign responsibility to the military, however temporary, is dangerous. Guns kill people, etc. And just from an aesthetic standpoint, it is much more elegant, and seems much more final, for constitutional democracy to terminate itself democratically and constitutionally. Pass an amendment which transfers sovereignty to the new authorities, and the game is over. The security forces will certainly be enthusiastic in their obedience.

But for Amerikaners, who are already second-class citizens in their own country (it is a testament to the level of morphine in the drip that only 16% of Americans believe that an Obama administration will “favor blacks over whites” – what is he, Ward Connerly on a diet? But not that any other administration would differ…) the problem is pertinent enough that it should probably be pursued in parallel, like the Manhattan Project.

A democratic reaction is the uranium bomb. A military reaction is the plutonium bomb. Two great tastes that go great together. Today, we’ll be working on the plutonium side of the building.

How do you start a military coup? Start twenty years ago. Form informal groups of reactionary cadets in the military academies. Stay in touch with one another. Ally for promotion. And do nothing else until the moment is right; then strike irresistibly and with decisive force. Rocket science it ain’t. Edward Luttwak’s little book is a little dated, but it may still be useful.

Obviously, I can’t do anything to assist (or hinder) this process. Perhaps there are already small Mencist cells forming at West Point. But probably not. Since UR specializes in candid and historically informed discussions of government policy, though, it certainly can’t hurt to discuss a subject which I’d like to think would interest most military men at the moment.

Today, we’ll look at the problem of occupying and governing a foreign country. I think it would be fun to use real countries, circa now, for our case study. Let’s call these countries “Great Britain” and “Iran.” If Britain wished to occupy and govern Iran, let’s say starting in early 2010 (it’s always good to have some time to prepare), how would it go about doing so? Assume, for the purposes of the problem, that Iran cannot build a nuclear weapon by then.

Of course, the conventional wisdom is that it would be completely impossible for Great Britain to occupy and govern Iran. It is even unthinkable for the US military to occupy and govern Iran. The US can’t even really handle Afghanistan, and it is much bigger and tougher than the UK. And when you look at what happened when Britain tried to occupy and govern a single city in Iraq – Basra – we see that the conventional wisdom is, as usual, exactly right.

So let’s say that our occupier is not the present government of the British Isles – ie, Whitehall – but a successor regime, Young Britain. Young Britain has declared independence from the United States, withdrawn from the “international community,” discarded Whitehall and its Hanoverian sham-kings, and restored the Stuart line under Joseph Wenzel, with his father Alois as Prince Regent. Otherwise, its military and financial resources are unchanged.

Prince Alois, for some reason known only to himself, chooses to occupy and govern Iran, starting in the spring of 2010. Being a good Swiss businessman, Prince Alois wishes to not just succeed militarily with the venture, but actually make it turn a profit. Out of the goodness of his good Swiss heart, he will split the take 50-50 with the present citizens of Iran, each of whom will receive a non-voting, but dividend-paying, share in the profits of government. The Royal Armed Forces will rake in 25%, the citizens of Young Britain 15%, and the Prince Regent himself will be satisfied with a humble tenth.

The question is: can he do it? If so, how? Please note that this is a strictly military question. It has nothing to do with the question of whether this project reflects well, or poorly, on Prince Alois and Young Britain from a moral standpoint. Prince Alois is a true (or “absolute”) sovereign, and the ethical burden of the decision rests entirely on him. And needless to say, the obedience of the military is absolute.

The conventional wisdom, of course, is the same inside the military as outside it: any such adventure is entirely impossible, and doomed to end in failure.

This is because government is only possible with the consent of the governed. Ie: success is only possible if the British armed forces can win the hearts and minds of the Iranian people. But since the Iranian people are deeply nationalistic and committed to the liberty of a free and independent Iran, they will never accept recolonization by the hated British, their former imperial overlords.

This is not thinking. It is cant. Anyone can train himself to utter these phrases, and many have. The modern military profession is especially diligent in inculcating this mindset, because its personnel are in an especially good position to see through it. But a lie is a lie. Its lifespan cannot be infinite. Truth seeps in through every crack.

The easiest way to demonstrate the truth is to explain how Young Britain can profitably occupy and govern Iran. (For convenience, let’s call the new polity “New Persia.”)

We all agree that Old Britain is not capable of turning present Iran into New Persia. We will see how Young Britain can. Understanding the tactics which it will use will shed considerable light on the difference between Young and Old Britains, and this will lead us back to the nature and origin of the cant.

Before Prince Alois occupies Iran, of course, he has to invade it. That is: he has to compel its present government to surrender unconditionally and accept the occupation. By military standards, I can’t imagine this process being difficult in the slightest. The British military may not have as many personnel as the Iranian, but its equipment is far superior. The RAF can dominate Iranian airspace, destroy air defenses, and demolish all force concentrations with B-52 strikes from Diego Garcia. Even if an amphibious operation is needed, one British armored division on Iranian soil is victory.

Perhaps it will be slightly more difficult for Britain to invade Iran than it was for the US to invade Iraq. But the invasion of Iraq (as opposed to the subsequent occupation) was, by any fair historical standard, a cakewalk. I don’t think this point is particularly disputed.

This leaves us with occupation and government. Our supposedly unsolvable problems.

While I am not an expert in the subject, my solution has been constructed with the assistance of four – two historians and two practitioners. Our historians are James Anthony Froude and Elie Kedourie. Our practitioners are Lord Cromer and Roger Trinquier. What this posse doesn’t know about colonialism is known only to God.

Specifically, all Young British officers and administrators in New Persia are assigned the following reading list: Froude, The English in Ireland in the Eighteenth Century (Google Books: I, II, III); Cromer, Modern Egypt (Google Books: I, II); Trinquier, Modern Warfare (online); Kedourie, The Chatham House Version (Amazon).

But wait! Colonialism! Well, duh. Occupying and governing a foreign country is pretty much the definition of colonialism. Especially if the goal is not to “restore democracy,” but to permanently institute a stable, responsible, effective and profitable administration. I suspect that New Persia will look a fair bit like Dubai, only bigger, richer, and with a better variety of weather. Dubai is more or less a survivor of the old British Empire. It is not far from Iran, and many Iranians indeed reside there. I suspect most are quite happy with it.

Let’s start off with a passage from Kedourie that more or less tells the story. This is from the essay The Kingdom of Iraq: A Retrospect, describing the Sharifian monarchy of Iraq that was installed by the British in 1921 and overthrown in 1958. Needless to say, next to the present American puppet regime, the Kingdom of Iraq looks like the Prussia of Frederick the Great. But Kedourie’s words still apply, squared:

When we consider the long experience of Britain in the government of eastern countries, and set beside it the miserable polity which she bestowed on the populations of Mesopotamia, we are seized with rueful wonder. It is as though India and Egypt had never existed, as though Lord Cornwallis, Munro and Metcalf, John and Henry Lawrence, Milner and Cromer had attempted in vain to bring order, justice and security to the east, as though Burke and Macaulay, Bentham and James Mill had never addressed their intelligence to the problems and prospects of oriental government. We can never cease to marvel how, in the end, all this was discarded, and Mesopotamia, conquered by British arms, was buffeted to and fro between the fluent salesmanship of Lloyd George, the intermittent, orotund and futile declamations of Lord Curzon, the hysterical mendacity of Colonel [T. E.] Lawrence, the brittle cleverness and sentimental enthusiasms of Miss [Gertrude] Bell, and the resigned acquiescence of Sir Percy Cox. What are we to say when we find a State Paper presented by a secretary of state to Parliament in 1929, declaring without the suspicion of doubt or the shadow of a qualification that ‘it seemed evident… that Iraq, judged by the criteria of internal security, sound public finances, and enlightened administration, would be in every way fit for admission to the League of Nations by 1932’, and fit, therefore, to exercise the unfettered sovereignty which independent states possess? What, save that the style of State Papers, like so much else, suffered during the first world war irremediable degradation?

Lord Cromer, a grown man named “Evelyn,” governed an Arab country much like Iraq for 25 years, at minimal cost and without significant violence, and did such a good job that Egypt became an international boho destination for the likes of Lawrence Durrell, a sort of Edwardian Prague. His memoir is free on the Internet. He may not have been an American, but he wrote in English. And I’ll bet there are fewer than a hundred people in the US military and the State Department combined who have even heard of the man, much less read his book. Those who forget history cannot even hope to repeat it.

Of course, military technology has changed. In our favor. The basic tools of the revolutionary – bombs and assassinations – are timeless. Cromer had no air force, no armor, no helicopters. He had five thousand troops to occupy a country of twenty million. He had no problem at all. Or, to put it another way, his main problem was other Englishmen. For Young Britain, this won’t be an issue.

We have already laid out the pattern of anticolonialist cant. To the anticolonialist, the progressive, the only way to govern a country is to persuade its people to fall in love with its government. They say “hearts and minds,” but what they really mean is “hearts.” Anticolonialists believe that the hearts of the poor are always for sale, a theory leading to the concept we know as “aid.” If this showed any evidence of working, it might be necessary to argue with it.

Young Britain’s occupation of New Persia will be based on a very different metaphor: grasping the nettle. This is an old English metaphor known to all colonialists. As the rhyme goes:

Tender-handed, grasp the nettle, and it stings you for your pains.
Grasp it like a man of mettle, and it soft as silk remains.

(Supposedly the toxin injectors of the stinging nettle are activated by a light brush but deactivated by firm pressure. I have not tested this personally.)

The substance of the nettle metaphor comes from a theory of civil war that is the polar opposite of the “hearts and minds” theory. Under the nettle theory, insurgencies happen because, and only because, the insurgents perceive a chance of winning.

Like all men, they fight for glory, power, and plunder. Any government can prevent and/or terminate all internal violence by making it clear to its opponents that victory is impossible, and the only results of any struggle will be ignominy and imprisonment at best, mutilation and death at worst. To convey this message is to grasp the nettle “like a man of mettle.”

The solution to the problem of colonial government, then, is to govern: to enforce order instantly, completely and without compromise, tolerating no challenge to the occupying authority whether military or political, religious or criminal. Lord Cromer, for instance, would have been simply aghast at the fact that the US occupation authorities tolerated not only native political parties, but parties with armed paramilitary wings. It has taken five years to mostly, sort of, pretty much correct this amazing elementary howler.

The essential tactic in a colonial occupation – it may even provide a good working definition of the word “colonialism” – is the construction of mixed authorities in which foreign officers and administrators exercise executive authority over native troops and civil servants, respectively. Mixed authorities work because they combine the independence and professionalism of foreign leadership with the low cost of native manpower.

It is instructive, in a grimly hilarious way, to note the assiduousness of American “liberations” in avoiding the construction of mixed authorities. Americans are always providing “advice” and “aid” to their free, sovereign and independent little brown brothers. They are never actually managing same. That might actually work, which would be dangerous. Indeed the present state of quasi-success in parts of Iraq has been achieved by putting Iraqi quasi-soldiers on the American payroll, which does not allow management, precisely, but gives a certain leverage.

So. Young Britain invades Iran and suppresses organized military resistance. What next?

New Persia begins with the imposition of martial law, which will persist until complete stability has been attained and there is no threat of violence. No looting is tolerated. A strict curfew is enforced – no one is on the street after dark. British troops may shoot on sight to enforce these directives. These are normal procedures for any initial occupation.

The country is under the unified command of the British general. All remaining civil and military forces of the old Iranian regime are subject to his orders, as is everyone else in the country – native or foreigner. All foreigners need a military pass, revocable at any time, to remain in the country.

Terminating direct military occupation, in which British soldiers are used as policemen, is the first imperative. Soldiers make perfectly good police, but there are not enough of them. To balance the shortage of manpower, they must be free to respond with a level of aggression that is inappropriate in most civilian contexts. This is unavoidable in an early occupation, and in fact necessary to demonstrate dominance. But while it may not invite grievance reprisals as per the “hearts and minds” theory, it hardly projects a sense of overwhelming security.

So a new constabulary, staffed by Persians and administered by Britons (with a layer of bilingual natives in the middle), is the first order of business. As in India, British administrators can and should act as judges. Initial judicial processes should be quick and lawyerless. There is no clear line between insurgency and organized crime: neither can be smashed without smashing both. Other institutions of government can form around this core of fundamental security.

New Persia certainly has no continuing need for the old civil government and military forces of the Islamic Republic. Disbanding them will create a pool of unemployed workers, but idle hands are a resource, not a curse, for any vigorous administration. Many things need to be done. With Persian labor and British supervision, they will be.

Persia’s borders need to be fenced and sealed. Her population needs to be reidentified, with DNA samples and iris scanning for every man, woman and child. Everyone’s residence, occupation, and biographical details must be recorded. All weapons must be confiscated. There can be no dangerous voids between British grasp and Persian nettle. New Persia will be in the farthest possible condition from Mesopotamian anarchy.

All political organization is banned until further notice. Public assemblies, “demonstrations” and other mob phenomena are prohibited Riot Act style. The crowd is ordered to disperse; if it does not, it is fired upon. Preferably with nonlethal weapons, if available, but the unprofitable nature of the activity remains clearly apparent. With effective crowd control, “people power” is not a meaningful force. The Chinese experience in this department is a good guide.

Persians have a fine local example of a modern country without politics: Dubai. If Dubai is a prison, Singapore is a prison, and China is a prison, New Persia will be a prison as well. I suspect that most peace-loving citizens of the present Iran would not mind living in such a prison. And I am confident that all of them would prefer it to the fate of Iraq.

Terrorism – bombs and assassinations – can be and will be tried. With close knowledge of the population, a modern identity system, a Trinquierian intelligence operation, and a complete absence of Fourth Amendment style legalisms, suppressing terrorist networks is not difficult. A crucial power in the suppression of terrorism is the power to involuntarily relocate and rehouse arbitrarily large populations, without punitive intent or criminal investigation.

Scalable secure relocation facilities also defeat “civil disobedience” style campaigns, in which challengers try to defeat the authorities by overwhelming them with small, technical violations of the law. Demonstrating the ability to process, discipline and rehabilitate every member of an illegal party or gang, every participant in an illegal mob, etc, is an important element of grasping the nettle and demonstrating sustainable, unchallengeable political control.

Another way to control a hostile or potentially hostile native population is to fit all persons and vehicles of interest, possibly all in some unsubjugated area, with tamper-resistant GPS trackers. These devices are cheap and getting cheaper, and tracking a person or vehicle does not in any sense count as punishment. It is quite difficult to plant an IED and get away with it when you have a GPS band on your ankle.

Perhaps the most important measure in suppressing political and military challenges, however, is the construction of a government which is designed to be permanent, not a temporary administration designed to “reconstruct” and then “liberate” the foreign country. Insurgencies and political parties under the latter plan will spring eternal, not even because they think they can seize power by driving out the occupying forces, but simply because working against the occupation creates a power base, military or political, which can contend for supremacy in the vacuum of the departure.

This is why Young Britain’s occupation of New Persia is designed to create a new permanent administration. Not that British troops will be permanently required; Persians have no shortage of military skills. At the top civil and military levels, international personnel are probably always desirable, because of their independence from local politics. But New Persia is a neocameralist state which treats Persia – the country, the people, and the petroleum – as its capital, and tries to maximize the value and productivity of that capital. Liberty is a property of individuals, not countries, and New Persia has no reason not to allow its residents as much personal freedom as is consistent with security, customer service, and of course profit.

What we see in the pacification of a hostile country is a gradual transition from a state of war to a state of law. In a true war, the goal is victory and the motto is inter arma silent leges. Civilians are advised to stay out of the way, much as they are advised to avoid stepping in front of a bus. If you step in front of a bus and it hits you, the bus driver is not guilty of a “war crime.”

As the outcome becomes clear and the number of dissenters drops, more costly, more reliable, and less arbitrary methods can be deployed against resistance. It is easy to render a military force ineffective by demanding a full trial before any shot is fired. But once opposition is reduced to sporadic, disorganized and unpredictable criminality, trials, appeals, defense attorneys, and the rest of the circus are not only necessary but indeed desirable. And no one is shot without it, not because no one can be shot without it, but because no one needs to be. Raw power hardens into justice, whose majesty is even more inexorable, and true freedom – freedom within order, not the false freedom of anarchy – is born.

As Prince Metternich, who is worth the whole Enlightenment put together, explained:

To me the word freedom has not the value of a starting-point, but of an actual goal to he striven for. The word order designates the starting-point. It is only on order that freedom can be based. Without order as a foundation the cry for freedom is nothing more than the endeavour of some party or other for an end it has in view.

In summary: the theory that it is impossible, in the 20th century, for an effective modern military to occupy and govern a foreign country is simply not tenable. This illusion has been fostered by a pattern of “tender-handed” occupations, combined with a “hearts and minds” theory of insurgency that prescribes more tenderness as soon as the nettle starts to sting. Unsurprisingly, this prescription does not work. By sustaining the illusion that the quack medicine of “hearts and minds” is effective, military experts sustain the illusion that no other medicine exists and no occupation can be successful.

This is not a novel observation. My point is the same as Professor Luttwak’s: trying to run an occupation without “grasping the nettle” is military malpractice. His piece is certainly worth reading, and he has credentials whereas I do not. I differ with Professor Luttwak, however, in his emphasis of the Nazi analogy and the effectiveness (also noted by Col. Trinquier) of Schrecklichkeit, that is, official terrorism.

Terrorism certainly works. It works just as well for the government as it does for the insurgency. But terrorism is not the most effective demonstration of compelling authority. The need to resort to indiscriminate violence is a demonstration of weakness, not strength. If terrorism has to be fought with terrorism, so be it, but in the 21st century I don’t think it does. It is whacking the nettle, not grasping it.

Rather, the most effective tools for suppressing domestic opposition, political or military, are in what might be called the Orwellian class. Identification, surveillance, intelligence. The Chinese, of course, are the world leaders today. But this only reflects a lack of competition. I am confident that American ingenuity can catch up.

Orwellian population control is simply not needed for a peaceful, civilized society with a stable political system. It is a waste of money and an affront to decent, hard-working citizens. But in any attempt to establish peace where it does not exist, Orwellian control is essential. Most of us, at least most of us who are sane, would rather allow the police to know our exact position every hour, or even every half-hour, or even every minute, and never, ever, ever have to interact with a car bomb. Believe it or not, this form of rationality is if anything more universal in non-Western populations. Especially those who have interacted with car bombs.

Weakening government by preventing it from using Orwellian tools is simply not an effective way to ensure responsible government. If a government is responsible, it will not use Orwellian tools wantonly. It will not do anything else wantonly, either. If a government is not responsible, but rather sadistic and tyrannical, correcting this by restricting its military options – even supposing this could be done, since a sadistic state has little time for restrictions – is hardly a way to make it responsible.

The simple fact of the matter is that insurgency and terrorism is a phenomenon of anarchy, that is, weak government. The cure for weak government is strong government. There is absolutely no rocket science in the matter. It is a military tautology that in a conflict between any two forces, the stronger is likely to win. Classical civil wars involve two forces which both have a plausible case to be called “the government.” But in a struggle between a government and an insurgency, the government should simply win, because it should be stronger. If it’s not, something is very wrong.

(Note that very seldom, when an insurgency defeats a government, does the government retreat to the hills and become an insurgency. Thus the victory of the insurgency demonstrates not that insurgency works, but that something was wrong with your government, ie, it was weak.)

So a Western government that uses its military as an occupying force in a foreign country, without a strong occupation based on the principle of mixed authority, without suppressing competing political and military activity, and with rules of engagement that mimic criminal-justice procedures designed for a civilized Western society, is abusing said military. I find this imprudent. You can kick a poodle. You can own a wolf. But if you own a wolf, don’t kick it.

Worse, while Professor Luttwak’s concept of “military malpractice” is technically accurate, it makes the situation sound like an accident. It is actually much worse than that.

A failed occupation, like that in Afghanistan, or a Pyrrhic half-success such as Iraq or Vietnam, is of considerable political utility to those whose theory of government predicts that military occupation of a hostile population can never succeed. This would be the “democratic,” or “progressive,” or simply “left,” side of your radio dial. Not coincidentally, this is also the side which is vending the “hearts and minds” theory, and doing its best to eradicate the “grasp the nettle” theory from human memory. (No thanks to Google Books!)

And the cycle works. When an occupation fails, it is because it failed to win “hearts and minds.” And the next occupation will be even more tender-handed. It will cower even more abjectly before the delicate flutter of the native heart. It will completely forget the fact that the native has a mind, too, and it is far easier to communicate with a mind than with a heart. It will kill more and more American soldiers, and devastate more and more foreign countries. (And other foreign countries will be devastated not by occupation, but by the lack of it – in the person of a Mugabe, a Saddam, an Idi Amin.)

Moreover, who are the soldiers who are dying in these theatrical exercises? Overwhelmingly, Amerikaners. Whose political fortunes are advanced by the repeated demonstration that “war never solves anything?” Certainly not the Amerikaners.

Thus these sabotaged occupations are revealed in their true nature: they are civil wars by proxy. The goal of war is political power. In a sabotaged occupation, the left gains political power, not in Iran or Iraq or Vietnam, but in America, by using the deaths of thousands of American soldiers to prove to the TV audience that reality and progressive reality are the same thing.

The fact that no one is thinking this consciously – progressives are overwhelmingly sincere – does not change the fact that it works. Nor does it change the extremely coup-worthy nature of the offense. However, the absence of mens rea is an excellent excuse for a general amnesty, which is a common element in all the best coups. (Do make sure your coup is successful first, though.)

And the fiction is unstable. Truth seeps in at every crack. The half-success in Iraq is a bit of truth, but far too small, and accompanied by too much failure, to do any good. One white raven is sufficient to disprove the hypothesis that all ravens are black; one successful occupation on the “grasp the nettle” principle is sufficient to disprove the “hearts and minds” hypothesis. Iraq is a black raven with a couple of gray feathers.

Not all ravens are black. In fact, most of the ravens in the world are white. Deep in their hearts, Amerikaners know this. So they leave the window open, hoping a white raven will fly in. Sometimes they even look out the window, hoping to catch one. Unfortunately, their cell is in an aviary stocked entirely with black ravens. The white raven is a necessity. But the only way to get one is to catch a black raven, hold it while it squawks, and hose it down with bleach.

Sarah Palin: the proletarian candidate

September 1, 2008

UR normally only appears on Thursday mornings. But this one is just too fun.

Earlier in the blog, I offered a five-caste definition of the American social spectrum. But I’ve decided that five is two too many. As St. Exupery said, the machine is complete only when there is nothing left to take away.

Basically, there are three kinds of wonderful people on the wonderful northern continent of our wonderful Western hemisphere. They are called Eloi, Morlocks, and Proles. This list is roughly in order of political power, from absolute dominance to abject submission.

In case it isn’t absolutely glaring, Barack Obama is a third-generation Elo on his mother’s side. Michelle is a first-generation Ela from a Prole background. Burning Man is an all-Eloi event. I don’t feel this is a difficult picture to grasp.

And Sarah! Sarah! Sarah is the Prole to end all Proles. She is practically an Arch-Prole. Look at that hair, girl! Does it say bridge in the front and tunnel in the back, or is it the other way around? I also love the fact that the only scandal they can dig up on her is one involving the fact that her ex-brother-in-law threatened to “put a bullet in” her father. If Governor Palin turns out to be in some way related to Tonya Harding, I shan’t be in the least surprised. Dear!

A progressive (and very dear) friend of Mrs. Moldbug’s, for example, reacts instantly to this potent allergic stimulus. Her first reaction was: “Eye-ran?” To her this just said it all. As indeed it does. If Sarah Palin is not a prole, there is no such thing as a prole.

If nothing else, the fact that Gov. Palin studied “communications” at something called “Idaho State College” would certainly seal the deal. Status in one of our three castes is not exactly inherited, exactly, as if it were a baronetcy or something. But unless you did start out as a baronet, it is pretty much set by “where you went.”

I mean, let’s see: George W. Bush is one of the ten most hated men in history. And why? Because he’s a traitor. He was raised in the minor Connecticut nobility, but (a) can do a Prole accent and (b) much worse, depends on it for his act. GWB could have said, actually, I would rather be an Elo, thank you very much, basically at any time before he became governor of Texas. Possibly even after. You know he is capable of talking like anyone else who went to Yale. And the White House would have been out of reach. On the other hand, you might see him at Sundance.

But he refuses this. Or has. And that, alone, makes him a dangerous man. So which is scarier? The traitor, Bush? Or the would-be usurper, Palin?

You see, the so-called “Democrats” (whom, here at UR, we call the Inner Party) and their purported opposition, the supposed “Republicans” (or Outer Party) have completely different beliefs about the nature, purpose, and function of the office known as the “Presidency,” for which they appear to contend. As usual, the IP is right and the OP is wrong.

To the IP (obviously, also the Eloi-Morlock Party), the so-called “President,” ie, the player whom callers help select in USG’s quadrennial reality show, is hardly a temporal position at all. It is really more of a spiritual office. The Roman pontifex maximus is a fine analogy. I also admire the phrase “bully pulpit,” which I feel could be used a good bit more.

For the IP, for example, the ideal “President” would be Nelson Mandela. But there are obstacles – St. Mandela, for instance, is not an American citizen. At least not in the strict technical sense of the law. Fortunately, our evolving standards of justice may at some point in the future, when we are more spiritually advanced, enable us to overcome this barbarous discrimination. When Archbishop Obama says that “the walls between the countries with the most and the countries with the least cannot stand,” perhaps he actually means it. Who knows, with such a great man? Certainly a good first step would be for a Federal court to realize that Mexicans are actually, in fact, Americans. (It’s not like they were born in Europe, Asia, Africa, Australia or Antarctica.)

But obviously the most sacrilegious possible desecration is one in which an actual, practicing Prole is appointed, by some awful cosmic mistake, to the hallowed post of “President.” It’s basically like having a porn star elected Pope. Even as candidate vice-Pope, it’s way too far. The purpose of the White House is to teach the Proles that it’s wrong to be a Prole, and they need to stop. Now. I mean, duh. Ideally, the LORD would let America know at once of her mistake, and send Hurricane Gustav straight up the Mississippi to demolish the polyester-Americans and their so-called “convention.” (Which, frankly, could be mistaken for a multi-level marketing conference. At least if all you look at is the hair.)

Meanwhile, the OP (or Prole Party) has a completely different view of the “White House.” To the PP, the “President” is the CEO of America.

This illusion can only be sustained by people who either (a) have no idea what Washington is or how it works, or (b) do, but conceal it for their own political benefit. Collectively these individuals are known as “conservatives,” and they make up the right side of your radio dial.

(The radio cannot be adjusted beyond this built-in band. But it can be turned off. Please do not vote for, contribute to, or otherwise support the Outer Party. Outer Party politics is not effective against the Inner Party. Please forward this message to all your Avon subscribers.)

The truth is that the White House changes its entire nature as an organ of government when it changes between Inner and Outer Party control. An Inner Party presidency is simply a different institution from an Outer Party presidency. They are apples and oranges.

When the Inner Party is in, the Presidency is a vestigial organ. It would be a fun experiment to actually abolish the White House for four years. The results would be more or less the same. Every agency in Washington would function not only just as well without the existence of the President, but in fact much better.

For example, my mother was at DOE in the Clinton era. In the renewables area – she did a good bit of work for Joe Romm. Once I asked her what Sched Cs (political appointees) did under Clinton, and she said: “they got a nice office, and they were told to work on whatever they liked.” Indeed the main difference between Inner Party candidates is (a) whether or not they can win, and (b) the set of people among whom they will distribute the Plum Book.

A ceremonial presidency is perfectly consistent with Inner Party values, which stress that “politics” is bad and “public policy” is good, and the two should be stored separately – for more or less the same reason that sewage and wine are not shipped in the same tanker truck. As so often, the IP is exactly right about this. Except for the fact that the word “democracy” occupies the highest possible position on the mental totem pole of the Inner Party mind. If I could explain this, I might still be a believer.

(Moreover, the contradiction itself is a nice bit of misdirection. It points the marks away from inquiring into the nature, ingredients, and origins of the sausage called “policy.” But I digress.)

When an Outer Party man becomes “President,” he soon finds that all his efforts are devoted to solving the essentially unsolvable problem of preventing his name from becoming a historic byword for pure, infamous villainy. Maybe not quite like Hitler or Attila the Hun. But certainly like Mussolini, Richard II, Nixon or Ivan the Terrible.

The basic problem of the Outer Party in the White House is that, with minor exceptions such as the Pentagon, its mission is essentially one of preventing the rest of Washington from doing its job. Or at least what it thinks its job is. The military, of course, is an Outer Party shop, and can always be sent on bloody, expensive and counterproductive ticket-punching adventures. The rest of our permanent government, the civil service proper, is Inner Party to the bone. In fact, perhaps the best way to describe the Inner Party is as the party of the permanent civil service.

Which holds far more power than the White House. The While House can prevail or even contend only in the vast minority of conflicts with the permanent civil service. It is not good for the polls. When an Outer Party presidency’s approval sinks below 40% or so, it is defeated, and the agencies he supposedly “leads” ignore the “President” and all his handlers, cronies and contributors. Since polls are a function of public opinion, public opinion is fabricated by the press, schools and universities, and the latter are perma-pwned by the Inner Party, the resulting barbecue is too inevitable to be really entertaining. It’s best just to play along.

Example: for most of 2008, GWB might as well have been the prime minister of Namibia for all the influence he’s exerted over US foreign policy. Cheney probably wishes he was the prime minister of Namibia.

And how is all of this kept a secret? Easy. Two years before each election, each candidate or potential candidate for the Outer Party nomination must submit to a secret ritual conducted in the license-plate room of the Skull and Bones house. First, trained ferrets relieve them of any remaining fringes of their original manhood. Candidates then receive 250ug Delysid. When the drug begins to takes effect, the candidate is locked in a closet with a DVD player and the complete, 7-disc Yes, Minister series. The course ends with a West Point-style trivia drill on the machinations of the devious Sir Humphrey. Brief waterboarding sessions occur throughout. The full training takes a couple of days, but produces a highly tractable Republican “politician.”

You see, there are all sorts of problems with Governor Palin. She does not fit the profile. She displays no appearance of any awareness that the reality show is rigged. She might even think that the “President” actually is the CEO of America. And I’ll bet no one even told her to show up at Skull and Bones. No, she was out hunting polar bears from her snowmobile, with her Eskimo husband and her weirdly-named offspring. (Track? Trig? Bristol, even? Could these be Eskimo names? Intrepid readers, please advise.)

Depend on it, Eloi: if there is ever a Dominionist restoration in this country, Sarah Palin will be part of it. She’s basically Margaret Atwood’s Commander, with ovaries. All your worst fears are absolutely true. Of course there is no chance of her gaining any actual power – but this is only due to your assiduous pro-government activism. Keep it up, interns. Remember, they may not pay you, but that doesn’t mean you aren’t changing the world.

Personally, I am so done with “change” that I’d be happy to turn the country over to the Alaska National Guard – CEO, Commander Palin. With plenary, perpetual, supralegal powers. She’d be half Pat Robertson, half Augusto Pinochet, half Hints from Heloise. Proletarian government! The Eloi tremble. But so do the Morlocks. Perhaps Orwell was right after all.