The Republicans got their fantasy last week. The tax bill that nobody read passed the Senate, and now it only has to go through reconciliation with the House version to become law. There is no question that Donald Trump will sign it, also without reading it. All along we have heard how this will spur job creation. This is pure fantasy. What this bill will do is damage the insurance marketplace created by Obamacare, thereby raising premiums for everyone, and causing a drop in consumer spending as a result. Before that happens, companies who are already more than able to afford to hire new workers or give raises to existing ones will instead ramp up their efforts to acquire other companies, costing the economy jobs rather than creating them. Wealthy individuals will now have more money to invest in the stock market and more speculative items, and the stock market will also benefit from a rise in stock buybacks by corporations. This will fuel a rise in stock prices, but without a corresponding rise in value that would come from an increase in consumer demand. For a while, top executives will love the rise in the value of their portfolios of company stock, but something will have to give in the end. The prospects for consumer spending get even worse if the Republicans are able to use the sharp increase in the national debt that this bill will cause to justify cuts in social spending.
But let’s focus on that speculative investing I mentioned before. In the wake of the Bush tax cuts, a lot of that money went into mortgage backed securities, and we know how that ended up. As I discussed in a previous post, some will fuel speculation on the price of oil, which will mean that we will pay more at the pump. That will also cut into consumer spending. But it is the possibility of a speculative bubble that concerns me the most. On the one hand, Barack Obama was never able to completely undo the Bush tax cuts. Politically, the only way you can get tax increases through Congress is if you have a total economic collapse. I can make the case that George W Bush was an evil president, but faced with the prospect of a total financial collapse on a scale that would have rivalled the Great Depression, Bush was smart and sane enough to push for emergency measures to prevent that. Today, we are not so lucky. Even if Treasury Secretary Steve Mnuchin told Donald Trump that a new Depression loomed, Trump might simply refuse to believe it until even his real estate empire lay in ruins.
So where could the next financial collapse come from? It won’t be mortgages this time. In the wake of any collapse, measures are put in place to prevent a repeat. That’s why the last collapse wasn’t about internet stocks or savings and loans, to use two recent examples. The most famous collapse in financial history was the brutal end of the Dutch tulip mania, as shown in the chart at the top of this article. Today, the price of a tulip bulb reflects its value as an addition to your garden. There is a premium that allows tulip growers to make a reasonable profit. But during the Dutch mania, tulip prices rose astronomically, as everyone feared missing out on the enormous profits being made by others. People traded away their estates in order to possess a single bulb. By 1637, sanity returned and the prices plummeted, ruining many people financially in the process. But a tulip bulb is a tangible object. You can hold it in your hand. So it is clearly worth something.
We would all like to believe that we are smarter today. After all, the tax cuts for the extremely wealthy are going to those who are rich enough to invest in hedge funds. Hedge funds are lightly regulated because our law considers these wealthy investors “sophisticated.” Mutual funds are available for far lower prices, and are therefore regulated to protect the consumer. Of course, a lot of “sophisticated” investors fell for the Bernie Madoff scam, so you have to wonder. Where then might the next financial collapse come from? Something else might happen first, but let’s talk about bitcoins.
The chart of bitcoin prices above bears an eerie resemblance to the first part of the tulip chart. A bitcoin is different from a tulip bulb, however, because you can not hold a bitcoin in your hand. That means that, unlike a tulip bulb, the value of a bitcoin can drop to zero. If you are just hearing of bitcoins for the first time, they are the most popular of what are called cryptocurrencies. Basically, someone invented them out of thin air, and created an admittedly brilliant software package to monitor and control their exchange. This software is referred to as blockchain technology, and it has practical applications for transactions conducted with traditional currencies. But the bitcoin itself is a fabrication. The key selling point is that bitcoins are not controlled by any government. They are a pirate currency, and sure enough, many early adopters were engaged in illegal activities. But this is also libertarian money. You can conduct business in bitcoins, and pay no taxes because it is difficult to track the profits. Officially, only a limited amount of bitcoins will ever be issued, so prices reflect planned scarcity as well. But already billions of dollars have gone into bitcoins. Now, the CTFC has approved the selling of bitcoin futures, which makes it possible to speculate on the price of a bitcoin without even owning one. That means that the amount of money involved in the bitcoin market is about to explode. But who controls the bitcoin? No one knows. The trading is controlled by a company in the Philippines called Satoshi Citadel. The company has three co-founders and two additional officers, but nothing else is known of these men. They have no history before their involvement with this company. Miguel Cuneta is one of the co-founders, and the chief mouthpiece for the company. He talks a good line, but we have no way of knowing if he might have intentions that are not discussed in his official utterances.
Both the CTFC action and the tax cut bill mean that more money will go into bitcoin speculation. They will become further enmeshed in the global financial system, just as mortgage backed securities did. And then, one day, something will happen, and people will start to demand answers to uncomfortable questions. I hope I am wrong about this. I hope bitcoins really are the next great innovation after the internet itself, as Miguel Cuneta would have us believe. But I am chilled by having seen this show before. And if all of this results in a crisis, I have no faith in Donald Trump to get us through it. The only positive I can see is that it might create the political climate that would make possible the removal of both the Trump and Bush tax cuts. But it would come at a very high price.
If there is a song about the Dutch tulip mania, I do not know of it. However, this one describes a crash pretty well: