Federal Reserve Fan-Fiction

The Day the World Came Crashing Down

#Money

Mon, Feb 11th, 2002 05:00 by Konrad the Bold ARTICLE

I write fan-fiction.

In case you're not familiar with the term, fan-fiction is fiction based on a movie or TV series, written by fans. Forexample, a trekkie may write a story that takes place in the Star Trek universe and involves characters and alienraces from the series.

I'm a big fan of the Federal Reserve's Annual Reports. These modern fairy tales tell the story of how our hero, AlanGreenspan, and his band of sidekicks fight the evil monsters Inflation, Unemployment, Stagnation and the dreadedRecession. As in any good series, the good guys usually win but are never quite able to stop the bad guys from showingup again the next episode.

As a tribute to these great stories I now present to you the world's first Federal Reserve fan-fiction. Set in theyear 2013 it purports to review the developments of the year before and is entitled The Federal Reserve's 99th AnnualReport.

 


 

THE FEDERAL RESERVE'S 99th ANNUAL REPORT

Economic and Financial Developments in 2012

The last year has seen the tail end of the largest financial collapse in the history of the world. In this report I will attempt to reconstruct the causes of The Fall as they are understood today.

The Fall started out as a currency crisis and ended up destroying civilization. Although no accurate census data exist, we believe that at least 80% of the world's population has been wiped out in the last two years. The collapse of all major financial systems led in turn to a collapse of social order and civilization. Industries, governments, nations, all these things no longer exist to any relevant extent.

The lawyers and politicians were the first to go. As soon as supermarkets ran out of food the masses turned on their leaders. Outraged mobs stormed government buildings killed anyone wearing a tie. The few newspapers that were still functional had front-page pictures of politicians strung up on lamp posts or hanging out of office windows, sometimes hanging from their ties, sometimes with their throats slit and their ties pulled up through their throat and out their mouths.

Reconstructing these events has been difficult due to the total anarchy following the collapse of the western world's infrastructure. What few documents were created during that time were mostly destroyed in the fighting and fires. Those people that survived the fighting in the cities burned every shred of paper they could find in a desperate attempt to stay warm in the brutal winter that followed.

I have searched the remains of hundreds of burned-out shells of buildings. Each time I walk up a still escalator I see it as a ruin of our former civilization, like the remains of an ancient Persian palace. In the new world, "escalator" is simply another word for stairs. It takes a concerted effort to remember that these things once moved on their own, in a time that now seems so distant. The records others and myself have found have enabled me to give what I believe is a reasonably accurate portrayal of the events that caused The Fall.

 


 

Most surviving economists agree that the spark that set off The Fall was the withdrawal of Euro bills and coins in 2011. After thousands of years of using physical currency the people of Europe switched to purely electronic financial transactions. All transfers of wealth went directly from bank account to bank account.

It all seemed so simple; it was, after all, simply a logical progression. Early people bartered for goods, but transporting goods was difficult and time-consuming so people began using gold as a currency. Eventually some governments decided that gold was inconvenient because its value had to be measured by weight and purity, so they produced gold-backed currency. In the United States each dollar "represented" some amount of gold that the government kept in reserve. As long as people had faith that they could redeem their dollars for gold, those dollars had value. The problem with gold-backed currency was that the money supply was inflexible. In order to print more money it was necessary to acquire more gold. Eventually the United States abandoned the gold standard and the currency was only backed by faith in the government.

In each of these changes a currency's value moved further from the goods which it was supposed to represent and became more and more illusory, yet it was an illusion that worked. As long people believed that a currency was valuable it was in fact valuable. The farmer accepted dollars as payment for his wheat and used to those same dollars to buy clothes from the shopkeeper who used them to buy bread from the miller who used them to pay the farmer. As long as the farmers, shopkeepers and millers of the world shared in the illusion of the currency's value that value became real. The system worked because people had faith in it.

Sometimes people lost their faith and the system stopped working. In Germany in the 1930s people lost faith in the government. Since their currency was not backed by gold, losing faith in the government meant losing faith in the currency it printed. This lead to hyperinflation and Germany's currency became virtually worthless. Despite such problems, nations world-wide eventually turned to paper currencies without gold backing and these currencies were generally as stable as the government that printed them.

By the 21st century the vast majority of financial transactions were performed electronically. Banks with billions and billions of dollars in assets usually only held several millions in currency. If transfers between accounts meant that one million dollars had gone from accounts in bank A to accounts in bank B while one million and one had gone the other way then only a single dollar bill needed to be physically transported from one bank to the other. The end result was that most transactions were simply done by communicating changes in records to a database rather than a transfer of physical currency.

In 2011, the European Union decided that it was time to take the next logical step: purely electronic currency. The experts said it wasn't a big step at all since most transactions were already electronic. They said most people wouldn't even notice. The majority of consumer spending was done by credit and debit cards and even those sums of money were small compared to the amounts that passed electronically through banks and stock markets every day. They said physical currency had made up only a tiny fraction of the money supply for decades, cash transactions were rare even in tiny rural communities. And so it was decided to withdraw bills and coins from circulation. Currency had now become something completely abstract.

In theory it was a brilliant decision. Counterfeiting became impossible when money was just a record in a computer. Tax fraud became impossible because all necessary taxes were deducted during an electronic transfer. In fact, most fraud became impossible because all money could be traced to its source. Cash can be hidden away, placed in a safety-deposit box under a false name - even destroyed. The police have to investigate fraud involving cash and track down the money. Under the new system there was no need for all that - when all one's liquid wealth is set by a record in a database a court can simply change that record. If someone was found guilty of fraud the proper amount was deducted from their bank account and returned to the victim.

Then something went wrong. That illusion we all took for granted started crumbling. Maybe it was simply a programmer's mistake in the banking software. Maybe it was an intentional attempt by a group of banks to skim money from the millions of accounts they controlled. Maybe it was a very crafty "robbery" attempt by a group of hackers. Whatever caused it, at some point the records held by different banks began showing inconsistencies. The banks couldn't agree on who held what amounts and what transfers had occurred. Such inconsistencies were supposed to be impossible but nevertheless they were there.

Banks started halting payments and transfers. Sometimes transfers could not be made because banks disagreed on what amounts were held where. Emergency meetings were called, different governments drafted different, usually conflicting, legislation on what the banks were to do.

If a physical currency was still in wide circulation it would have been possible to revert to it until the chaos was sorted out. Even catastrophic, sudden drop in the money supply but would have been preferable to what happened next. Desperate governments ordered banks to restitute account-holders and passed laws literally creating money in millions of accounts. Of course, each bank was in favour of some other solution, which would maximize its own holdings. Bank records, already corrupted, became completely disjoint as individual banks simply changed them at will. It was like giving every government and bank in the European Union a license to print money at will; since anybody could simply create money the currency became worthless.

Although the problem started in Europe its effect immediately spread throughout the world. Most first-world nations used so little physical currency that they would have had trouble dealing with a sudden stop in electronic transactions in the best of times. As it was, the world's financial systems and economies were so closely inter-linked that only the most backwards rural areas continued functioning.

Cities became centres of death. An area the size of a city, as a closed system, cannot support its population with the basic necessities of life. To survive, a city must suck in food and fresh water from the countryside at a tremendous rate. When the monetary system collapsed this flow stopped. The planet's urban population, essentially the vast majority of the developed world, was stuck in death-traps. Very large numbers of people fighting for survival over very limited resources lead to predictable results. Only the most ruthless and violent survived. Gangs first pillaged their cities for food, then turned to murder and cannibalism and eventually turned on each other. In a drastic reversal of the demographic trends of the past centuries, more people were left alive in rural areas than in urban ones. The number of survivors among city dwellers is negligible. It is safe to assume that anyone who was in an urban centre once the roads were blocked is now dead.

The countryside didn't fare much better in the long run. It seemed logical at the time that people would simply start planting crops and concentrate on survival. It turned out that the average westerner had no stomach for subsistence farming. Most people did nothing until their food stock ran out - they simply could not believe the chaos could last. Raised in the modern world, they were no more likely to question the certainty of stores stocked with food than a primitive man would question the certainty of the sun rising the next day. Farming was a foreign concept - people just refused to believe they should have to do it. Once the food stocks ran dry the strong would take food by force from those who had it - that concept was much more familiar. Instead of turning into a nation of small-scale farms we turned into a nation of starving communities and murderous gangs that took what they needed by force.

The only groups that showed any semblance of organization were the armed gangs. There was certainly no large-scale organized effort to produce food. The gangs could easily overrun a farming town and steal what they needed, then move on to the next community. It was much harder to guard the farms from other gangs while growing crops. As a result, most farms were simply destroyed. Even the best armed gangs eventually found there was no more food to steal and most ended up starving to death. Communities that were able to survive the winter on subsistence farming still exist in small pockets here and there, usually in the more remote parts of the country. Unless the situation is radically different in the rest of the world, and there is no reason to believe it would be, the most prosperous areas of the world are what was once called the 3rd world. The people of most remote and backward parts of the world have been protected by their isolation.

 


 

In the end the only conclusion we can come to is that people simply lost faith in the illusion of money, wealth, ownership. Bit by bit, these things became abstract and eventually people saw through the illusion. The disappearance of a physical currency was only the spark that set it off. People no longer had a physical manifestation of wealth they could see and feel. A piece of paper is arguably no more valuable than an electronic record but with the paper there is no doubt over who possesses it. That small-added uncertainty suddenly made people see the uncertainty they had been taking for granted all their lives.

During the Great Depression, the people of the United States lost faith in the economy. That fact alone had more impact on the country than any drought, bank failure or stock market collapse. There was no physical reason the economy had to slow down: mines did not run out of coal, oil wells did not run dry, farm animals did not stop breeding. Certainly some economic slowdown was inevitable, but there was no fundamental reason the economy could not recovery from the bump. The real downturn came when people stopped believing in the illusion.

It was people who decided to close down mines, to slow down oil exploration, to foreclose on farms. Those trains and cars and people that depended on the coal and the oil and the animals then had fewer resources. When consumers stopped buying as much, companies could not afford to pay out as much money in salaries and those lower salaries meant fewer purchases. Farmers could not afford the increased price of fuel and tractors and many were forced to sell their land, leading to mass unemployment. The price of food rose along with most prices and some companies such as those that refined oil and built tractors went out of business. This is in turn caused higher fuel and tractor prices for the farmers. The farmers that had no jobs because they lost their farms had been producing food before the crash, but without their farms they were producing nothing.

The same was true for most businesses: the economic downturn led to mass unemployment all over the country. All those unemployed people could have been producing: farming, mining coal, building tractors. If all employers in the country suddenly decided to hire more employees those added employees would boost productivity. Those same employees could get wages and become consumers of the products they turned out. That act would have taken faith in the economy. However the employers had lost that faith. They believed if they produced more goods no one would buy them. Because they believed this they did not hire more, and because they did not hire more there were fewer people with money and thus less demand for goods. What they believed became true by virtue of their belief.

For decades economists wondered why there were no more depressions on the scale of the Great Depression. Now another Great Depression has come, and with what fury. It was caused by no war, no shortage of oil, no natural disaster. This is the price mankind has paid for glimpsing the truth. For a brief moment, we saw through an illusion - only one of many - and it almost destroyed us.

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