Eventually, that might be something that just needs to happen, but I don’t particularly want to live through it. And unfortunately, we very well could be moving close to it. According to MarketWatch.com, China is considering a move away from linking the yuan to the dollar. As the Deputy Governor of the Chinese central bank, Hu Xiaolian, said:

“Compared with pegging to a single currency, the exchange-rate regime with reference to a basket of currencies will help adjust exports and imports, current account, and balance of payment in a more effective manner.”

They still seem to be opposed to a floating exchange rate, but it does appear we’re one step closer to a de-coupling of the yuan and the dollar.

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With 50 experiments going on at once, the federal government should have an excellent source of case data to see what works and what doesn’t. Why, then, does the federal government much more closely resemble the California model then the Texas model?

We know there are distinct differences between the federal and state governments. The feds are to secure the borders and oversee national defense. The feds haven’t secured the borders. Just ask Arizona, which is home to the city with the second highest volume of kidnappings in the world: Phoenix. How does that happen in America? Arizona had to pass state legislation to enforce federal immigration laws already on the book, which apparently is highly controversial. The feds are working to appeal the law before it’s scheduled to take effect July 29th. Said Justice Department lawyers:

“In our constitutional system, the power to regulate immigration is exclusively vested in the federal government. The immigration framework set forth by Congress and administered by federal agencies reflects a careful and considered balance of national law enforcement, foreign relations, and humanitarian concerns — concerns that belong to the nation as a whole, not a single state.”

Except that they haven’t enforced the national laws and Arizona is paying for it. At this point, I’m just bracing for Washington to declare open commerce of drug wars across the border as an “economic stimulus” for the southwest. When it comes to drug wars and kidnappings, this aggression will not stand, dude.

Other differences between the federal and state governments is that the feds have taken it upon themselves to institute and run national social insurance programs like Medicare, Social Security, and FDIC. They control the US dollar, monetary policy, and thus interest rates (the Federal Reserve isn’t technically a government entity, but for all intents and purposes, it is…other then having elected officials and that whole transparency thing). But in essence, the feds are still a government instituting laws on a sovereign land. For some head-scratching reason they aspire toward the California model which is festering in bankruptcy, rooted in high taxes, regulation, and entitlements.

All I’m saying is why not be more like the Lone Star State? So far, Texas has managed to skirt through the financial collapse and recession rather swimmingly. The Texas unemployment rate has been at or below the national rate for 42 consecutive months. In June, unemployment clocked in at 8.2%, compared to California’s rate of 12.3%, and a national rate of 9.5%.

Chief Executive magazine’s 2010 survey of the best places to conduct business called California “the Venezuela of North America”, ranking it last. Guess who came in at number one? Texas.

I think we can all agree that Texas’ performance relative to demographically similar California probably has something to do with friendly tax policy. Texas has no personal state income tax, no personal capital gains tax, and no corporate income tax. California on the other hand, is, well, Venezuela. For the last twenty years, California’s oppressive tax burdens have consistently ranked among the top 10 highest in the country.

Source: newgeography.com

Texans are smart. They understand that inflation parties eventually end and instituted sound lending practices. They didn’t trust Fannie, Freddie, and the Federal Reserve to set long-run interest rates and assume everything would be peachy. Texas proved to have an understanding of bubbles, over-heated markets, risk, herd behavior, contagion, moral hazard, the global financial system, sustainability, fundamentals, and common sense.

Now let’s take a look at unions. In my opinion, unions are generally a negative because they inflate labor costs and make the United States far less competitive. It’s one thing to institute a minimum wage and child labor laws (which in a modern, free, and democratic society like ours, doesn’t make sense in many ways), but it’s entirely another thing to impose the benefit packages, above-market salaries, and legacy costs on companies that unions so often do. The percent of Texas’ labor force represented by unions is only 6.2%. Contrast that to California which has 18.3%.

When it comes to government revenue (receipts and fees), the practice of taxing income can create great fluctuations. In California’s case, they experienced a 20% upswing in annual revenues through fiscal 2000, which quickly turned into a 17% drop in 2002. This volatility makes it much more difficult to balance a budget. This time frame was during the slight contraction of the economy following the dot.com bust and post-9/11. Now that we’re in the worst economic period since the Great Depression, what type of revenue swings will be in store for The Golden State? Texas, on the other hand, get’s the lion’s share of its revenues through taxing sales. This inevitably distorts the economy less and allows for more flexibility. As far as a model for the federal government, this would support a Fair Tax-type movement on a national scale. Other benefits to scrapping the 67,000 page tax code would be getting rid of the many special favors and handouts it creates. This breeds the lobbyist and toxic culture in DC. If we moved to a Fair Tax, not only would each and everyone of us get back hours and days of our lives doing taxes every year (or the accountant’s lives), there would be no more lobbying community in Washington. Thinking about the creative energy lost every year in this country due to becoming compliant with our tax code is astonishing.

Lastly, the Texas economy is very diverse. The government plays a role in this diversity. For one, the University of Texas at Austin is the fifth largest college in the country with enrollment of 51,032. This is a public institution which generates plenty of jobs. Texas benefits from flourishing professional fields such as accountancy, law, security services, and the oil and natural gas industry. The latter has to do with natural resources, but the presence of just about any other industry you can point to has to largely be contributed to Texas’ business-friendly practices. Businesses go to less taxed, less regulated places. The flocking of such businesses creates diversity, which in a recession, cannot be under-appreciated.

The government of Texas has striven to be a responsible steward of the economy. But they let the people manage it. As a result, Texans have a great economy and a balanced budget. They did not sink themselves through pensions and entitlements to the tune of California.

There’s really no question that in a state death match, California does not want to mess with Texas. The federal government should be implementing similar policies as the Texas experiment. That was one of the major advantages to federalism as our Founders saw it.

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Like the financial reform bill, the Affordable Care Act falls short of addressing systemic problems.

Insurance companies are not being greedy and evil. I’ve documented on many occasions that it is rational for insurance companies not to take on people who are likely to drain insurance pools. If insurance premiums are to remain reasonable for all other policy holders in the pool, those with pre-existing conditions can’t necessarily join the party. In addition, I’ve documented that health “insurance”, as we know it, really isn’t insurance at all. An insurance scheme, by definition, can only apply to a rare event. I don’t think a monthly prescription, and multiple trips to the doctor every year necessarily count as rare, unpredictable events. Click on the last link for greater insight into this matter.

Part of the health care reform bill passed in March addressed the issue of pre-existing conditions. The Affordable Care Act will force insurance companies to take on the same applicants they’re denying today, beginning in 2014. While it’s easy to see this as a win for humanity, not so fast. How will bringing in millions of the most expensive people into today’s insurance pools decrease health insurance costs? I thought the buzz word in this bill was affordable. Now, there will be monetary penalties beginning in 2014 for those that remain uninsured. The hope, by both health insurance lobbyists and the government, is that healthy, cheaper people will join the pool and help stabilize costs. Fines for the uninsured don’t ratchet up to meaningful levels until 2016. These menaces to society will pay the greater of $695 (up to $2,085 per household) or 2.5 percent of income. At this point, it will be increasingly more difficult for people to justify not obtaining health insurance.

I’m not suggesting the possession of health insurance is a “bad thing”. But the individual mandate is a paternal solution at the loss of more personal liberties. Beyond this, it may actually be rational for a healthy 25-year-old not to pay out $1,500/year in premiums. The expected value of health insurance may not be greater than the costs of insurance for a young person in tip top health.

The Affordable Care Act did not want to leave the pre-existing crowd hanging until 2014. With underemployment hovering around 18%, and many companies opting to contract work out to freelancers to save on labor costs (benefits, worker’s comp, etc.), more people are an accident away (or hereditary consequence) from bankruptcy. In the bill, a bridge for those with pre-existing conditions was instituted called the Pre-Existing Condition Insurance Plan (PCIP). PCIP is ran through both the state and federal governments. To find out how it works in your neck of the woods, click here, and then click on your state on the map. To qualify you must be a citizen or national of the United States or lawfully present in the U.S., have been uninsured for at least the last six months, and prove you have been denied by an insurance company due to a pre-existing condition.

While I’m happy that both the PCIP bridge and the eventual change in law will allow many to obtain health coverage, I don’t feel the Affordable Care Act meaningfully addresses any of the issues in our health care system. Namely, the multitude of reasons health care is unaffordable. SwiftEconomics.com has identified the problems, and offered many solutions which are littered throughout this column in links. To put it simply, very few market forces determine prices in our health care system. Prices which show up on a patient’s final bill have very little to do with the supply and demand for those supplies and procedures. They also have very little to do with what insurance companies reimburse for those services. One part of health care inflation has to do with arbitrary price setting. Prices of supplies and procedures in hospitals are almost exclusively determined by arbitrary groups. They’re set in a cat-and-mouse game between the hospital and insurance companies, where prices are raised on particular items or services in hopes of maximizing revenue within the structure of a negotiated contract. Then there is a disconnect between the prices of services and the contractually negotiated reimbursement rates between the hospital and insurance company. So you have actual costs of a service to the hospital. Then you have prices on a patients bill, inflated arbitrary figures for the most part which may or may not cover the cost of the service. Then you have prices for the insurance company, previously determined in negotiations.

Now think about what this system does to those that have no health “insurance”? They’re stuck with the arbitrary, inflated prices not driven by market forces. The prices don’t reflect reality. For patients with “insurance”, prices often don’t matter, in the sense that their marginal costs may be fixed. For example, they have a co-pay of $20 for a trip to the doctor, and everything beyond that is covered by insurance. Even if there is a larger fixed deductible, the logic holds. Say, though, there is a co-insurance rate on a patient’s policy. They will pay a percentage of total costs, which means they, too, are affected by the arbitrary prices, but still relatively insulated if their co-insurance rate is only 10-30%. While our “insurance” plans aren’t really insurance plans, costs spiraling out of control have strong-armed us into needing the pay-for-the-lion’s-share model.

Maybe today's youth will dream of becoming fake doctors on TV dramas.

We should take time to understand the variations of costs in our health care system. We have costs of services. These, typically neither the patient nor the hospital doctor shoulder the brunt of. Imagine going to a day spa where you receive a pedicure, manicure, mud bath, face mask, and deep tissue massage. What if your payment for these services only covered a fraction of the costs to provide the service? Well, said day spa would be going out of business in a hurry. Now suppose that you had day spa insurance, your services were priced at $250, and they cost the day spa $200 to provide. You covered a co-pay of $25, and your insurance paid a contractually agreed upon rate of $160 for the package. So you’ve contributed 10% of the total price for the trip to the day spa. This is quite a deal which would encourage you to return over and over again. The day spa collected a total of $185 for services rendered, that cost them $200 to provide, losing $15 for their trouble. Welcome to the reality of many services at a hospital. The facilities survive by making more exorbitant returns on other select services and procedures.

We also have costs of health insurance. Premiums go up as a result of general health care costs rising. More money leaves the pool every year, all else equal. As the country’s population increases and ages, individual health costs go up, increasing premiums. Remember that we’ll be ushering in millions of new people into the insurance pools as a result of the Affordable Health Care Act, presumably increasing costs for these pools beyond the additional rise in new premium income. And finally, health insurance markets must be freed to compete across state lines. By setting up health insurance oligopolies in every state, consumers are limited in their choices. A person living in Santa Barbara, California should be able to purchase insurance from Newport News, Va. Oligopolies aren’t known to lower prices. Real markets with competition and limited barriers to entry do.

So what is the answer to curbing health care costs at the patient bill level? It would be wise to do everything a government can to encourage the practice of medicine. Supply must not only keep up with demand for health care, but it must outpace it for prices to go down. This means any number of things; perhaps added protection for MD’s from lawsuits, less regulation to make it easier to start new clinics, and more freedom for doctors to run a practice how they see fit. For patient advocates, this seems like a scary prospect. But just as the restaurant that gives people food poisoning everyday, the medical practice which egregiously harms its patients on a regular basis will not be patronized. With the Internet, you’re not only relying on word of mouth to relay information but a running digital journal of people’s experiences in these offices, with these doctors.

The prices on patient bills must get closer to reflecting reality. That is, the costs of the supply or service at hand, as well as the overall demand for it. Having an insurance system which looks at a $150,000 patient bill, and reimburses $45,000 simply doesn’t make sense. Medicare and Medicaid set the example for reimbursement methodologies with many private insurance companies (payors). And as long as insurance companies only pay fractions of bills, hospitals will look to increase overall prices as much as contractually possible, or more so, to maximize revenue (further screwing the uninsured). Eventually the hospital will eclipse a price threshold and head to re-negotiate a new contract with the private payor. The process occurs over and over again. Hospitals truly need all the revenue they can get considering many services lose money. Not to mention if a facility wants to expand or open clinics to add beds and services for the increasing population.

Whole Foods CEO John Mackey

“The way it works at Whole Foods is we got rid of our cafeteria plan and we put everybody into one plan. The company pays 100% of the premiums for all full-time team members. They’re automatically enrolled and since that’s 87% of our team member base, that’s just about everybody. We also pay an increasing portion of the family premiums based on how long they have worked for the company, and we set up a high deductible. It’s not as high as it needs to be, but it was as high as we thought was politically possible within our team member base as a starting point, because they didn’t have any money in their PWAs [personal wellness accounts] or their health reimbursement accounts. So, we set it up with $1,000 deductible in medical costs and a $500 deductible for prescription drugs.

We also set a $3,500 maximum out-of-pocket expense, which includes the $1,500 in deductibles, plus another $2,000 that would go toward co-pays once the deductible was exceeded. We set the exact same plan up for our families as we did for individuals. As soon as you got to $3,500, the company would pick up 100% beyond that. And we funded these personal wellness accounts, which we call PWAs. Again, the IRS made that possible with their ruling, although they are technically called health reimbursement accounts (HRAs). The new health savings accounts, which passed in the new Bush Medicare monstrosity along with prescription drugs for seniors, well, the silver lining in that was the HSAs. But those weren’t available when we started our plan.

We give every one of our team members a MasterCard debit card and they can access their funds for the appropriate health and wellness expenses vis à vis that debit card. Their total service hours for the company determine how much money we deposit in their account. Here you can see it according to service hours, and 2,000 service hours represent about one year of employment if you work 40 hours a week. You can see that after two years you’re basically going to get $1,500 which will cover your entire deductible, and at 10,000 hours it goes up to $1,800.”

Plans of this nature force patients to be consumers and shop prices. By patients actually being aware of prices at the doctor’s office, and spending with discretion, doctors would have to compete with other doctors for their patients. Patients would ask if tests are necessary, or if there are cheaper alternatives. Competition is good. Patients shouldering more responsibility for their medical costs is imperative to lowering aggregate health care expenditures as a nation.

Finally, Medicare must be completely reconfigured. Proposals seem to indefinitely be on the table, generally including bumping the minimum age above 65, and reducing benefits over time. Quasi-fiscal conservative Congressman Paul Ryan has laid out one such plan in his “Roadmap” found here. Obviously as life expectancy and population continues to expand, social health insurance needs to be reeled in.

These issues would be a start to reforming health care. Unfortunately, none of them were addressed. Like the Wall Street reform bill passed yesterday which didn’t even mention Fannie Mae and Freddie Mac, government regulation strikes out again.

A few days ago a friend of mine asked me what I would say in an open letter to a group of Independents if they asked me what I thought of the financial reform bill that is currently being considered in Washington. The following is my open letter response to those Independents:

Dear Friend,

Financial reform is needed very badly, but the financial reform bill that is being considered in Washington at the moment is not good. The current financial reform bill as proposed will not fix the financial systems of this country. Never, ever. To fix the financial systems of this country much more drastic changes need to be made than those that are being proposed.

Recently, I had an article published in Business Insider that explains how the Federal Reserve, Fannie Mae, and Freddie Mac mismanaged long-term interest rates for a period that goes all the way back to the early 1980s.

What the Federal Reserve did and what they allowed Fannie Mae and Freddie Mac to do over the past thirty years went against financial theory. What the Fed allowed was a setting of mortgage rates much, much higher than they should have been back in the early 1980s, which then led to a period where the people of the United States were able to live off newly created debt year after year as a result of the sanctioned refinancing, refinancing, and more refinancing of our American homes.

All the time that this was happening, Fannie Mae and Freddie Mac grew “fat” off of our debt. The more debt that Fannie and Freddie could create, the more money Fannie and Freddie made. Don’t fool yourself. Fannie Mae and Freddie Mac were Government Sponsored Enterprises (GSEs) and not true business enterprises. And as such, with the protective shield of the government implied behind them, the executives of those agencies managed to pay themselves grandly while building up the long-term debt of our country. In truth, Fannie Mae and Freddie Mac did not answer to the people of the United States; they answered to their stockholders. And it was solely because of that fact that we are living through the greatest recession since the Great Depression.

Yet, guess what? There is not a single thing in the current financial reform bill dealing with the issue of Fannie Mae, Freddie Mac, or even the Fed (at least in the proper way).

Now it is time to get blunt. The current Federal Reserve Chairman should resign his post, and so should the current Secretary of the Treasury. And along with that as a given, the Democrats and/or the Republicans need to replace both Chris Dodd and Barney Frank from their central positions as it relates to governmental finance. In fact, all the financial leadership positions in Congress need to be reconsidered.

Over the last thirty years the United States financial system failed the people of the United States of America and the world.

Historically speaking, if there is one thing we should never forget: it is that freedom, innovation, and business is what made the United States of America strong, and it will be freedom, innovation, and business in the United States that will continue to make the United States strong in the future.

Related to that philosophy, I was recently asked by another friend to comment on the recent G20 meetings. Now I would like to share with you my own “independent” reading of the world’s (G20) situation. Here is how I responded to my friend:

“Everyone at the G20 seems to want to get their debt spending down. I think that is a noble objective. I even think that our own Fed guys (Bernanke) and Treasury (Geithner) are working towards that same solution themselves. The trouble is: there is no reason for delay. The solution to the problem is already known. It is the establishment of a fixed, steady 4.0% long-term interest rate for the United States. If you did that, all the other currencies of the world would be able to set their debt currencies against that. And do you know what? A 4.0% long-term fixed rate in the United States is just about as low as you can go and still leave room to avoid both “inflationary” or “deflationary” spikes.

I’m beginning to think we have the wrong people going to the G20 meetings. Over time, and especially through this most recent crisis, I have come to realize how business represents the strength of the United States of America. The stronger our businesses are the stronger our country is. I have also come to understand that it’s in our form of freedom-loving government in the United States of America that business best prospers, which then led me to believe that businesses in the United States of America will always have an advantage over businesses coming from other governmental forms.

However, through my analysis, I have also come to realize that part of business as I define business (both in a macro and micro scale) is tied to finance (or economics) in some form or another. And having looked at it in that manner, I have also come to the conclusion that finance (economics) is in place to serve (rather than direct) business and thus the general welfare of the people.

Now considering contemporary times, based upon what the Fed did and allowed Fannie/Freddie to do, all I can say is this–finance did a very, very poor job of helping business and the people of the United States and the world these last thirty years. In fact, finance, by itself, nearly toppled all of the world’s economies and businesses in 2008, and I think we all know what that might have meant.

Change needs to take place! But the current financial reform bill does not change a thing. And for that reason, I believe the current Fed chairman and the current Secretary of the Treasury need to resign their positions. I also believe that both the Republican and Democratic parties need to quickly find new replacements for the likes of Barney Frank and Christopher Dodd.

The United States of America needs a “new world (globalnomic)” economist at the Fed. The United States of America needs a “new world (globalnomic)” economist at the Treasury. Our global community is advancing quickly, and it is important that the “greatest society of all the world’s great societies” grows at least as fast as those who count on us to lead.

Putting that in practical terms–the longer it takes us to make the necessary changes at the top so we can implement “real financial reform”, the longer all of those newly unemployed people we have in the United States are going to stay unemployed. And the longer it is going to take the world to work itself out of our current economic crisis.”

Note from SwiftEconomics.com founder, Ryan Swift:

If any of Jim’s proposals resonate with you, please contact me. Let’s work together to address the problems in our economic system. It is on us to create a sustainable and vibrant US economy. The powers at be have let us down. Based on their “solutions” to health care, mortgage debt/housing, public debt, and the financial system, I wouldn’t expect that to change.

Jim Boswell has an M.B.A. degree from The Wharton School (University of Pennsylvania), an M.P.A. from School of Public and Environmental Affairs (Indiana University), and a B.A. degree from Hanover College. His recently published book, Crush Depth Alert, Fourth Lloyd Productions, explains in detail with supporting exhibits, graphs, and tables the factors that led up to the recent financial crisis while offering solutions on how to move forward. This is a follow-up to an earlier BusinessInsider.com article (June 24, 2010) by Boswell called “How 25 Years of Mismanagement at Fannie and Freddie Caused The Financial Crisis”.

You can purchase Crush Depth Alert here.

The current financial crisis did not happen because investment companies were dealing in derivative products that no one understood (the simplistic general Democratic explanation), nor was it a result of an abnormal growth in homeownership rates in the United States (the simplistic general Republican explanation). The real reason for our current crisis is that our economic leaders allowed Fannie Mae and Freddie Mac to mismanage mortgage rates and thus mismanage a substantial portion of our “debt economy” for more than twenty-five years.

Here are the facts that back up this statement. Exhibit 1 shows a 12-month running average plot of Freddie Mac single family fixed rate mortgages against the 12-month running average of the CPI between 1972 and 2008 (nearly the full period of time mortgage-backed securities had been issued prior to the recent financial crisis).

Exhibit 1

Many readers might recall the periods of high inflation that resulted in the 1970s, which are clearly shown in the first quartile of the Exhibit. Many readers might also recall how Paul Volcker in his role of Fed Chairman raised the Federal Funds and Prime Rates significantly in the early 1980s, which curtailed inflationary rates from a 14% annual rate to a 4% annual rate in a short two-year period between the end of 1981 to the end of 1983. That significant drop in inflation can be seen about a third of the way from the y-axis in Exhibit 1.

What most readers (including most economists) do not know, however, is how long-term mortgage rates rose even higher than short-term rates during the early 1980s, and then how subsequently long-term rates have tracked with inflation over time. Both Exhibit 1 and Exhibit 2 can be used to see how they have tracked, and they have not tracked well. And that mistake of allowing mortgages rates to go to 18.0% in 1983, which was either ignored or conceded to by the Federal Reserve, allowed Fannie Mae and Freddie Mac to have unprecedented control of our economy for more than twenty-five years, which significantly led to our current economic crisis.

Exhibit 2

If there is anything we should learn from the past, it is that long-term rates should not be used to control inflation; unless of course, you believe current inflationary trends are expected to continue for the long-term also. Not only were long-term mortgage rates raised and mishandled in the early 1980s, it is also noteworthy that it took a lot longer than it should have to lower long-term rates. While it took less than two years to go from 14% to 4% inflation, it took more than ten-years to drop mortgages rates a similar ten percentage points from 18% to 8%.

For the last 27-years (almost the full time for a 30-year loan to mature), inflation as measured by the CPI has averaged 2.99%, yet only very recently have long-term rates begun to come into sync with long-term inflation. With mortgage-rates set so far above what they should have been set in 1983, Fannie Mae and Freddie Mac were allowed to establish a policy that slowly lowered mortgage rates year after year, in effect allowing us to enjoy one refinancing cycle after another so that their mortgage portfolios could grow and grow and grow.

Debt through refinancing meant nothing more than income to these Government Sponsored Enterprises. Not only did the GSEs have free reign on setting mortgage rate policy, they used that power to construct derivative (REMIC-type) products than enabled them to further outwit investors.

Hindsight you say? Considering technological productivity gains, the fall of the Berlin Wall, China-India-Brazil’s development, and globalization in general, how long should it have taken our esteemed economists to understand that inflationary trends could be somewhat tame over the long haul? If you look at Exhibit 1 again, you will see that we have been experiencing the benefits of these factors and low inflation ever since the late 1980s.

How did the GSEs get away with their strategy in light of oversight and investor supply and demand issues? There are two fundamental reasons why:

One, the Federal Reserve was asleep at the wheel. Even though we may revere our esteemed Reserve economists; the Federal Reserve never understood mortgage debt, nor did they ever question mortgage rate policy. Instead, the Fed simply received regular reports from Freddie Mac telling them what the current GSE mortgage rate policy was. The Fed either was ignorant or played ignorant while we added nearly $7.5 Trillion in “new mortgage debt” during the fifteen-year period between 1992 and 2007. Talk about Keynesian economics! Any Reserve Chairman of the Great Depression era would have been envious of what Alan Greenspan was allowed to get away with while collecting accolades—and that does not include the stimulus that was being added during his reign from our Government’s deficit spending and growth in our “national debt”.

Two, demand for Mortgage-Backed Securities, was always there. MBSs have always served as one of the best “risk free” hedges against inflation. An 18% MBS when compared against a 3% long-term inflationary perspective is an extremely attractive product, as is a 14% MBS, as is a 10% MBS. Need I go on? Anyway, what could be safer than investing in American housing? The stock market carries risk, does it not, or have we forgotten what happened in 2000-2001?

So for twenty-five years we Americans took advantage of mortgage rate mistakes made by the GSEs going back as far as the early 1980s to live off our houses and build up our debt to unreasonable levels, while the executives at the GSEs gloated over their growing MBS portfolios and their “well-deserved” bonuses. The money-making machines that the GSEs owned were the envy of Wall Street bankers, so they, too, joined into the game. After all, housing prices would never fall—another gross misconception made by our elite financial leaders.

The good news is this. We will recover from all of our blundering in housing finance, and some day real estate will again offer a means to slowly build equity. The bad news is that housing is not the only major financial problem that needs to be solved in the United States. We still have other big financial issues equally important facing us ahead, including fixing our “health care cost” systems (private, Medicare, Medicaid) and our social security systems. Solutions exist, as long as we understand and face up to our problems head-on. The question remains, however—is that something we are willing to do?

Jim Boswell (MBA, MPA, BA) directed the analytical risk monitoring activities of Ginnie Mae’s $500 billion portfolio of mortgage-backed securities for 12 years (1988-2000), including the period of the S&L crisis. His recent book, Crush Depth Alert, published by Fourth Lloyd Productions, explains in detail with supporting exhibits, graphs, and tables the factors that led up to the financial crisis while offering solutions on how to move forward.

You can purchase Crush Depth Alert here.

This article was first published on BusinessInsider.com.

With the yuan now set to appreciate, will US policymakers rue the day?

“Hey look, I know lot’s of folks in China. They think we are the dumbest son of a bitches in the world. They think our representatives don’t know what they’re doing. They laugh at us behind our back. They’re taking money out (of the US economy) and then they loan it to us.”

The Donald advocates a tariff on Chinese imports to raise revenue, decrease the trade deficit, and bring back manufacturing jobs to “places like North Carolina and Alabama”. China is not a free trade country. It is very hit and miss when it comes to American companies having success entering China’s marketplace. This would be an argument for Trump’s tariff. However, China still enjoys a steep absolute advantage in the manufacturing sector. In other words, they can produce more of a good at a lower absolute cost than America. Is this because their labor is inherently more efficient? No, but it is because they work longer, have fewer environmental and safety regulations, and don’t have the health care and pension costs of union-laden American counterparts.

The Chinese are expected to let the yuan rise 2-3%, and made the announcement right before the G20 meeting in Toronto this weekend where they were going to be on the hot seat. This move will minimize the scrutiny and perhaps even garner some praise in Canada. Will a 2-3% rise in the cost of Chinese goods really mean much to America in the way of job creation? It seems like a stretch to me. Your cheap Blu-Ray player from Wal-Mart will go from $89.99 to $92.69. I don’t see that bridging the gap between the real problem in US manufacturing, labor costs, and creating many jobs.

So it’s entirely possible that a higher yuan will create few jobs here (all of which would be very delayed) and in return we all pay more for Chinese goods. Sweet deal. More troubling is that China has kept the yuan pegged to the dollar by purchasing extraordinary amounts of US Treasuries, which finance the US government’s spending sprees. If the yuan ever truly floats, China won’t need to buy our debt in such great quantities. In order to spur demand for our debt we would have to raise interest rates on U.S. Treasuries. This would make it even more difficult to pay off the deficit and increase borrowing costs for credit-seeking Americans and businesses.

A burgeoning yuan on the global stage could eventually make the dollar lose value. This would jack up the price of imports from around the world, including oil.

So let’s all be careful of what we wish for when it comes to the yuan. And let it be known that Tim Geithner, in particular, has been pushing for this since he was the president of the New York Federal Reserve Bank.

Trump says the Chinese have been laughing at us behind our backs. Beyond the fact that’s exactly what it feels like everytime Geithner makes the sojourn East, let’s hope the joke’s not on America when it comes to the yuan.

Peter Schiff’s case centers around the print and spend mentality of the United States, and also Europe as they stave off bankruptcy of member countries. Saving and production, he says, will have to be done by somebody other than China eventually. The Chinese simply cannot prop up America and Europe forever as the chief global lender. Schiff also looks for a 1:1 relationship between the Dow and gold, as was hit in 1980 and 1929. With Europe’s stance of printing as many euros as necessary to prevent default of member nations, he says he may have to up his prediction to $10,000/oz. Either way, Schiff says to look for gold and the Dow to converge.

Another reason to be bullish on gold is that Central Banks are upping their reserves. In 2009, central banks were net buyers of gold for the first time since 1997. As currency (see USD and euro) becomes a less desirable reserve asset, gold looks shinier and shinier. It isn’t tied to government monetary and fiscal policy across the globe, and it has tangible value.

Russia has increased their gold reserves by 26.6 metric tonnes in the first quarter 2010, or about $1.2 billion at today’s price, according to World Gold Council data. Russia added 117.63 tonnes in 2009.

Kazakhstan bought 3.1 tonnes, or $137 million, of the precious metal in the first quarter.

The Philippines acquired 9.6 tonnes, or about $424 million, of gold this year.

India increased its reserves by 55% last November in a purchase from the International Monetary Fund, or 200 tonnes.

And then there’s China. It should come to little surprise that China is a stealth buyer of gold. Like Russia, they purchase the precious metal from their own mines, and don’t always report their reserve levels. The largest producer of the metal reported in April 2009 that it had increased it’s reserves by 76% since 2003, or 454 tonnes. Given their exposure to US Treasuries, this seems like a shrewd move.

The gold rushes by central banks probably signal more than just diversification and emotions. There might be some sound thinking here.

We’ve hit many nominal all-time highs for gold as of late, the most recent being today at $1,258.30/oz, which beat yesterday’s record closing high of $1,248.20. Keep in mind, though, once adjusted for inflation, the all-time high was set January 21, 1980 at $2,163.62/oz, in 2009 dollars. Sure enough, if you do the Peter Schiff math, this was the 1980 1:1 relationship with the Dow he speaks of (in nominal terms). Each converged around $825.00. In other words, we’re hitting nominal highs, but we’re not in unprecedented territory.

Whatever your feeling about gold, it’s performance stacks up favorably next to almost any asset. The following 5-year spot price chart beats stocks, real estate, and seems steadier moving forward given its reactionary logic to government policy.

Source: BullionVault.com

If you had moved your portfolio into gold in March 2008, upon the collapse of Bear Stearns, you would have enjoyed about a 28% gain during this financial crisis, recession, and economic turmoil. I choose this entry point not because it is an ideal price floor, it isn’t. Only because if you were completely clueless about the state of global finance and fiscal and monetary policy up to that point, you could have woken up then, and moved at least a portion of your assets into gold. For the last 5 years, the average annual return on gold is about 37%. As far as buy and holds are concerned, that’s a nice 5-year run.

During the 15-year period between 1992 and 2007 American homeowners increased the total amount of their housing debt from $2.8 trillion to $10.2 trillion, almost a three-fold increase of $7.4 trillion! This increase in housing debt was greater than the increase of the better known National Debt, which went from $4.1 trillion to $9 trillion during the same time period.

The following chart shows a 12-month running average plot of Freddie Mac single family fixed rate mortgages against the 12-month running average of the CPI between 1972 and 2008 (nearly the full period of time mortgage-backed securities had been issued prior to the recent financial crisis).

During the first quartile (1972-1981) shown above, the monthly average difference between the 30-year fixed rate mortgage and the CPI was 1.25%; during the second quartile (1982-1991) the average difference was 7.54%; between the third quartile (1992-2001) the average difference was 5.11%; and for the last quartile (2002-2008) the average monthly difference has been 3.54%.

Who was responsible for setting and controlling mortgage rates during this entire period? Of course, you would think that the Federal Reserve might have had something to say about it. But no, the Federal Reserve conceded its authority to the politically savvy and self-serving executives heading the Government Sponsored Enterprises called Fannie Mae and Freddie Mac, who through their oligopoly-like power and underwriting systems established mortgage rate policy for the United States instead!

Interest rate theory assumes that the Nominal Interest Rate is equal to the Real Interest Rate plus Expected Inflation. Using 18 years of data between short-term U.S. Treasury bills and actual inflation, Eugene Fama somewhat confirmed this theory by showing that the average Real Interest Rate return on supposedly “risk-free” Treasury notes was 0.2% above inflation for the period between 1953 and 1971.

Although the time period for Fama’s analysis may seem ancient history; his findings are still relevant. Essentially, “risk-free” interest rate theory says that interest rates for notes or bonds that are guaranteed by the US Treasury (thus supposedly risk-free) need only be set high enough to cover the general cost of inflation in the U.S. with an additional fudge factor for the potential error in one’s estimate of future inflation, which when based upon averages is assumed to be somewhat nominal itself.

And that leads us to a very important question. What is a mortgaged-backed security that carries with it the full faith and credit guarantee of the United States of America behind it, if it is not a “risk-free” U.S. note — implied or otherwise?

The table to the left provides a 60-year history of inflation in the United States as represented by the Consumer Price Index. Note than in all but two of the 10-year periods in the top part of the Exhibit (including most of the period of Fama’s study) that inflation averaged near or below 3% in the United States. Note also from the bottom part of the Exhibit that for the last 27 years (from 1983-2010) inflation as represented by the CPI has averaged 2.99%.

Based upon the previous exhibits and “risk-free rate” theory, it is long past time that we establish a Federal policy to refinance and guarantee “existing” U.S. homeowner debt for “risk-free borrowers” to 4%! Considering that half the world’s population lives on less than $2.50 a day (World Bank statistics), there are ample opportunities to further globalization and contain “long-term” inflation within the United States at or below 3.0% for a long time moving forward.

Who are these risk-free U.S. borrowers? They are the same people (or heroes) that helped us divert what could have become a Second Great Depression into a manageable recession instead. They own at least 80% of the current $10.9 trillion in mortgage debt and are the people who continued to make their regular monthly principal and interest payments all through the recent crisis despite the fact that their own financial condition was constantly deteriorating. It is time to reward them.

One last refinancing cycle to 4% for 80% of our mortgage debt would: (1) add $100 billion in annual stimulation to our economy without government spending and without taxes; (2) increase homeowner equity to the tune of $1.6 trillion; and (3) actually lead to a reduction of U.S. Mortgage Debt and U.S. National Debt!

Who would buy this debt at 4%? The same people that currently own that debt, which includes the Federal Government, pension funds, foreign concerns, insurance companies, and any other institution that wants to hedge their bets and feel safe about having their money keep up with inflation.

Who should run the program? After abolishing the GSEs and creating a much smaller and financially conservative federal entity that includes the remains of the GSEs, and the Ginnie Mae, FHA, and the VA mortgage programs, the Federal Government should run the program.

Can the government be trusted to run such a program? Yes, and a lot better than the GSEs, who were nothing but “private entities” cloaked in public sector cloth. The only fundamental requirements would be to put a responsible financial leader (and not some political hack) in charge of the new entity and provide him or her with a new state of the art underwriting system with conservative controls.

There are two things we should learn out of this most recent financial crisis. One, the U.S. economy is too important to leave a very important and influencing sector of our economy in the control of Fannie Mae and Freddie Mac (or the leaders of our big banks). Two, it is better to control inflationary spikes with short term rates than long term rates.

Jim Boswell (MBA, MPA, BA) directed the analytical risk monitoring activities of Ginnie Mae’s $500 billion portfolio of mortgage-backed securities for 12 years (1988-2000), including the period of the S&L crisis. His recent book, Crush Depth Alert, published by Fourth Lloyd Productions, explains in detail with supporting exhibits, graphs, and tables the factors that led up to the financial crisis while offering solutions on how to move forward.

You can purchase Crush Depth Alert here.

This article was first published on TheStreet.com.