Mr. Brunser has been identified as a very senior CIA official and someone with great knowledge of the inner working of the thoroughly corrupt Bush Administration. His column has become very popular with our many readers. It has obviously become equally unpopular with not only Porter Goss’ band of  Trained Dwarves but the White House as well. Many enemies, much honor.

Your Money And You: Everything “They” Didn’t Want You to Know.

Dear Reader,

A large majority of Americans are intellectually lazy. It comes from once upon a time being the world’s richest country, (no longer – we still pretend we are, but we are now living high on borrowed money.) We became used to having everything provided for us, spelled out for us, and letting others do the thinking for us. In other words, we got fat and lazy. The only problem with that lifestyle is that those to whom we delegate responsibility for our life processes may not really have our best interests at heart. (Imagine that! What a surprise!) There is a vast amount of information available, which pertains directly to our own lives, but we are just too lazy to think about it – we would prefer instead to complain about how unfairly life has treated us, when things go badly for us as a result. It is as if you should warn someone, “Hey, there’s a guy behind you with his hand in your pocket!” and he replies, “Gee, which team do you think will win the ball game this Saturday? And do you think Bud Light is tastier than Miller Light?”

Well, indeed, not only is there someone with his hand in your wallet, but he is only the latest of many, and there is a long line of his buddies waiting their turn behind him. By all means, ignore what I am about to reveal to you if you please – these are things which your banker, your government, and the rich people who control money (YOUR money) do not want you to know - but don’t complain later when you find yourself living in a tent in the woods keeping warm over a cookstove, or, if you are a city person, sleeping on a subway ventilation grating to keep warm in the winter.

There is a delightful 1989 movie called “Rosalie Goes Shopping,” which tells the fictional story of Rosalie Greenspace, German-born wife of an American serviceman, living in Arkansas with their seven children. Rosalie becomes addicted to the American lifestyle, and runs up balances on her 37 credit cards and several bank accounts, always juggling money to stay one step ahead of the creditors. Eventually, after conning the banks into lending her the money for a yacht, a private plane, a mansion, limousines, and all the trappings of gross American excess, the banks get wise to her, but by then, she is into them for so much money they do not dare call her loans, or they would all go bust along with Rosalie and her family. Rosalie, a staunch Catholic, confesses her sins to her priest, but in the end is consoled by reasoning that she is a great boon to the American economy, by providing jobs and stimulating productivity. (In fact, she is right.)

That is pretty much where America is today. For the last 25 years, we all have been living in a movie entitled “America Goes Shopping.” We have provided jobs to Chinese, Guatemalans, Koreans, and Malays, buying the output of their labor with money lent to us by their governments and the world’s banks. We have all been hearing predictions of doom for about a year now, but it still has not happened, and nobody knows why. Today, we will find out why.

First, let us look at what money is, and where it comes from. Then we will look at where we are now. Finally, armed with all this knowledge, we will try to figure out what happens next.

Money: Where does it come from?

The origins of money

Suppose that several thousand years ago, you, in Damascus, owned 50 camels, and through a friend in the CIA heard that King Ashurbanipal in Baghdad was secretly planning a war, and had a great need for war camels. Moreover, camels are abundant and cheap in Damascus.

So you take your camels to Baghdad and exchange them with the king’s vizier for 5 tons of sheep’s wool, which you know you can take back home and exchange, in Damascus, for 100 camels, which you can bring back to Baghdad and exchange for 10 tons of wool, then go back to Damascus and exchange them for 200 camels, and so on. Until the news gets out and everyone gets into the act, you have a sweet deal, except for one problem: How do you get your 15 tons of wool back to Damascus, having gotten rid of all your camels in Baghdad? The Chinese were the first to come up with the solution: Money – scarce metal formed into ingots or coins.

If you can find a commodity which is portable, very scarce, very desirable, and in great demand, hence very valuable, so that a small amount of it can be exchanged for a large quantity of other commodities, you can exchange your camels for that item, carry it back to Damascus and exchange it for more camels. That magic commodity was metal: gold, or silver, or bronze, in decreasing order of scarcity and thus of value. Instead of 5 tons of wool, you could carry 5 pounds of gold with ease, in your saddlebag. To facilitate such trade, the King or the Government, as the richest people in the land, issued metal coins or ingots of a determined weight and value.

Problem: Thieves

However, a problem immediately arose. While it was difficult for a thief to abscond and disappear into the night with 15 tons of wool or 100 camels, 5 or 10 pounds of gold was easily carried away and concealed. Most merchants kept a strong box and a guard to watch over their money, if they had enough of it to justify the expense. Even so, carrying their money back from Baghdad to Damascus, or from Antwerp to Rome, or from Granada to Augsburg, was a risky business – thieves and highway robbers preyed constantly on travelers. Strongboxes and armed guards were the best solution anyone could come up with, until the Jewish Diaspora into Europe in the Middle Ages.

Solution: Moishe van Antwerpen, Aaron di Roma, Jacob de Granada, and Isaac von Augsburg

The Jews of Europe were the first bankers. You, as a merchant, could deposit your gold and silver with a Jew, and know that it was safe – whatever happened, he would honor his obligation to return it to you on demand. This honor among the Jews, which did not exist among Christians – you could never rely on the word of a Christian, as the Native Americans discovered to their cost – was what made the Jewish banking business profitable. His word was his word – your contract with him was a contract – every letter and clause of the contract was binding and absolute. Of course, there was a fee for safekeeping of your money – insurance against the inevitable losses and pogroms, which would happen from time to time to the Jews too.

The Jews, being an extremely smart race, then figured out two more ways to make your money make even more money for them. The first method: The Jews discovered that while many people had entrusted their money to them, other people had need of that money. So they could lend your money out to someone else, and charge interest for it – a fee against the risk that the debtor would not repay the loan, and the banker would have to make good on your deposit when demanded, plus of course a profit for the banker. They discovered that if, say, 100 people had deposited a total of 100,000 ducats with them, they could lend out 90,000 of that at interest, and still have enough to satisfy those depositors who stopped by the shop asking for their money. Of course, after lending out 90,000 ducats of other people’s money, those loans would have to be repaid to the Jew in the amount of 135,000 ducats – 90,000 for the depositors and 45,000 for the Jew, minus anything he had to spend to make up for those debtors who did not pay back their loans.

The second method was this: If you had 10 tons of wool to sell for 1,000 guilders in Antwerp, and wanted then to go buy 500 gallons of olive oil in Rome and bring it back to Antwerp, you could sell your wool, give the 1,000 guilders to Moishe van Antwerpen, and he would give you a letter to his cousin four times removed, Aaron di Roma, asking Aaron to pay you 1,000 ducats in Rome, less a fee of course, of perhaps 100 ducats. You no longer had to risk carrying your 1,000 golden guilders over the roads from Antwerp to Rome, which were infested with armed robbers and thieves. The person from whom you bought your oil for 900 ducats in Rome, who wanted to buy wool in Antwerp and bring it back to Rome, would give his 900 ducats to Aaron, who would write a letter to Moishe, and when your friend got to Antwerp, Moishe would hand over to him 800 golden guilders to buy his wool. Bad news for the highway robbers. Good business for the incorruptible Jewish bankers. This is how the Rothschilds became the richest family in Europe.

The Plot Thickens: Money becomes Lighter and Lighter

Enter another Chinese invention: Paper money. This was basically the same as the letters of credit from one Jewish banker in one city to another in a distant city. The king and the government belatedly got wise to the sweet deal the Jews had invented, and instead of issuing gold and silver coins, they kept those in the Treasury, and instead issued paper money, which was supposedly exchangeable on demand at the Treasury for gold or silver. Since paper was lighter and easier to carry around, most people trusted the government’s pledge, and were happy to use paper money instead of metal coins. The government found that it could issue 10 times as much paper money as it had gold in the Treasury to exchange the paper for, since only about 1 in 10 people at any moment would come in and ask to actually exchange their paper money for gold or silver. Eventually, the government, having printed hundreds of times more paper money than it had metals to back it up, reneged on its promises, (Surprise, surprise!) and made paper money totally non-convertible into precious metals. However, by that point the public had become used to the spendability of paper money, was satisfied that the government would never run short of money and go bankrupt, and was happy to go along with this arrangement – plain paper exchangeable for tangible and valuable assets.

Finally: Money Vanishes Altogether

Now, finally, we arrive at the present day. The Government is the only entity authorized to issue paper money and coins. The Treasury is the Government’s private bank, which prints the paper money and mints the coins in circulation. When the government agency, the IRS, taxes financial transactions of the citizenry to raise money for the government’s operations, those taxes go into the Treasury, which then prints and distributes paper money to the public, and disburses Treasury checks to the public to pay for services the Government receives, such as from defense contractors, or to pay for its legal obligations, such as Social Security. By law, the Treasury must balance its income and its outlay – if the Government wishes to spend more money than the taxes it has collected, the Treasury must issue, and sell in the open market, an IOU – a Treasury Bill, by which legal document the Government borrows the necessary money in the open market to cover its spending, and promises to repay it later to the bearer.

The Federal Reserve Bank is another governmental entity, whose main purposes are to clear transactions between banks and to regulate the money supply. In the next section, we will find out how it does this. Let us suppose for simplicity that there is only one commercial bank, Chase, plus the Treasury, the Government’s own bank. We will call the Chase bank “The Banking System,” and let it represent all the thousands of banks out there.

Now, let us suppose that the Government’s budget runs a $1 million deficit, and thus the Treasury borrows that money from China, in exchange for a T-bill, in order to pay out checks of $1 million to a defense contractor over and above the amount of taxes it has collected. Let us say that defense contractor banks with Chase (The Banking System) and that is where they deposit their checks. Let us say you, Joe Public, also bank with Chase. You want to buy a new car. You go to Chase, which has just received this Treasury check on deposit and thus has a balance in the Federal Reserve of $1 million, drawn on the Treasury, which owes that money to Chase. Having this hard cash in hand, guaranteed by the Government, Chase then agrees to lend you the money, so you go out and write an overdraft check to the car dealer, who deposits your check back into Chase. Voila – the banking system – Chase – has loaned you money, but it has been redeposited, and they have the same total amount on deposit as before, plus a loan to you on which you are paying them interest. Your neighbor wants to build a house, so he does the same thing – Chase agrees to let him write overdraft checks to the builder, who then redeposits them back into Chase. Again, the money in the bank has not decreased, even after they have lent it out twice. So they lend it out a third time. And a fourth time. And a fifth. Every time Chase lends out money, someone writes an overdraft check, and the money comes right back into Chase again as a deposit.

Obviously, there has to be a catch. Here it is: Chase has loaned out money which has been redeposited, so it has debtors who owe it money, plus creditors who have their money on deposit. At any time, those depositors can come in the door and ask for their money in cash – greenbacks printed by the Treasury, the only entity authorized to print legal tender money. In order to pay them their cash, the bank has that $1 million from the Treasury (remember?) on deposit with the Federal Reserve. Now, at any one time, from experience, the bank has discovered that in normal times only about 5% of its depositors will come in the door and ask for their money in cash, so the bank is able to lend out $20 million, and have $20 million come back in again as deposits, and keep all those phantom balls up in the air with that $1 million cash it is holding at the Fed - enough to pay back all the depositors who come in and ask for their money.

The Scary Truth: The Vaults are Empty

So here is the truth which 99% of the public does not understand: For every $1 million of budget deficits which the Government incurs, the banking system creates out of thin air about $20 million in new money, which does not really exist – there are no greenbacks to back it up, there is nothing – if everyone all at once went down and asked the bank to pay back their money on deposit, the bank would not have it – they would point to the street and say, “See those cars? There’s your money. See that building across the street? There’s your money. There is NO money in the bank. Your “deposits” do not exist – they have all been loaned out again, all except for about 5% of them, which is kept in cash at the Federal Reserve to pay back people who come in asking for their money under normal circumstances.”

When your bank sends you a statement which says you have money on deposit, it is a lie – there is no money on deposit – in fact, thanks to the bank, you have become part owner twice removed in all the tangible assets and businesses to which the bank has loaned the “money” which it created out of thin air, and which your boss borrowed from the bank to run his business and pay you your paycheck which you “deposited.” None of “your money” really exists. It is all just bits and bytes in the computers of the banking industry.

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Money and Debt: The Fairy-Tale World

We now come to the really interesting part. Everyone has always told you debt is bad, liquidity is good, right? Well, not exactly. Here is Chapter Ten of the book: The Creature from Jekyll Island : A Second Look at the Federal Reserve, by G. Edward Griffin, which may be read on this website: http://members.aol.com/_ht_a/tma68/griffin.htm

The Creature From Jekyll Island: Chapter Ten

THE MANDRAKE MECHANISM

The Method by which the Federal Reserve creates money out of nothing; the concept of usury as the payment of interest on pretended loans; the true cause of the hidden tax called inflation; the way in which the Fed creates boom-bust cycles.

In the 1940s, there was a comic strip character called Mandrake the Magician. His specialty was creating things out of nothing and, when appropriate, to make them disappear back into that same void. It is fitting, therefore, that the process to be described in this section should be named in his honor.

In the previous chapters, we examined the technique developed by the political and monetary scientists to create money out of nothing for the purpose of lending. This is not an entirely accurate description because it implies that money is created first and then waits for someone to borrow it. On the other hand, textbooks on banking often state that money is created out of debt. This also is misleading because it implies that debt exists first and then is converted into money. In truth, money is not created until the instant it is borrowed. It is the act of borrowing which causes it to spring into existence. And, incidentally, it is the act of paying off the debt that causes it to vanish.¹  There is no short phrase that perfectly describes that process. So, until one is invented along the way, we shall continue using the phrase "create money out of nothing" and occasionally add "for the purpose of lending" where necessary to further clarify the meaning.

So, let us now...see just how far this money/debt-creation process has been carried -- and how it works.

The first fact that needs to be considered is that our money today has no gold or silver behind it whatsoever. The fraction is not 54% nor 15%. It is 0%. It has traveled the path of all previous fractional money in history and already has degenerated into pure fiat money. The fact that most of it is in the form of checkbook balances rather than paper currency is a mere technicality; and the fact that bankers speak about "reserve ratios" is eye wash. The so-called reserves to which they refer are, in fact, Treasury bonds and other certificates of debt. Our money is pure fiat through and through.

The second fact that needs to be clearly understood is that, in spite of the technical jargon and seemingly complicated procedures, the actual mechanism by which the Federal Reserve creates money is quite simple. They do it exactly the same way the goldsmiths of old did except, of course, the goldsmiths were limited by the need to hold some precious metals in reserve, whereas the Fed has no such restriction.

the federal reserve is candid

The Federal Reserve itself is amazingly frank about this process. A booklet published by the Federal Reserve Bank of New York tells us: "Currency cannot be redeemed, or exchanged, for Treasury gold or any other asset used as backing. The question of just what assets 'back' Federal Reserve notes has little but bookkeeping significance."²

Elsewhere in the same publication we are told: "Banks are creating money based on a borrower's promise to pay (the IOU)...Banks create money by 'monetizing' the private debts of businesses and individuals."³

In a booklet entitled Modern Money Mechanics, http://landru.i-link-2.net/monques/mmm2.html  the Federal Reserve Bank of Chicago says, in their own words:

What Makes Money Valuable?

In the United States neither paper currency nor deposits have value as commodities. Intrinsically, a dollar bill is just a piece of paper, deposits merely book entries. Coins do have some intrinsic value as metal, but generally far less than their face value.

What, then, makes these instruments - checks, paper money, and coins - acceptable at face value in payment of all debts and for other monetary uses? Mainly, it is the confidence people have that they will be able to exchange such money for other financial assets and for real goods and services whenever they choose to do so.

Money, like anything else, derives its value from its scarcity in relation to its usefulness. Commodities or services are more or less valuable because there are more or less of them relative to the amounts people want. Money's usefulness is its unique ability to command other goods and services and to permit a holder to be constantly ready to do so. How much money is demanded depends on several factors, such as the total volume of transactions in the economy at any given time, the payments habits of the society, the amount of money that individuals and businesses want to keep on hand to take care of unexpected transactions, and the forgone earnings of holding financial assets in the form of money rather than some other asset.

Control of the quantity of money is essential if its value is to be kept stable. Money's real value can be measured only in terms of what it will buy. Therefore, its value varies inversely with the general level of prices. Assuming a constant rate of use, if the volume of money grows more rapidly than the rate at which the output of real goods and services increases, prices will rise. This will happen because there will be more money than there will be goods and services to spend it on at prevailing prices. But if, on the other hand, growth in the supply of money does not keep pace with the economy's current production, then prices will fall, the nations's labor force, factories, and other production facilities will not be fully employed, or both.

Just how large the stock of money needs to be in order to handle the transactions of the economy without exerting undue influence on the price level depends on how intensively money is being used. Every transaction deposit balance and every dollar bill is part of somebody's spendable funds at any given time, ready to move to other owners as transactions take place. Some holders spend money quickly after they get it, making these funds available for other uses. Others, however, hold money for longer periods. Obviously, when some money remains idle, a larger total is needed to accomplish any given volume of transactions.

Who Creates Money?

Changes in the quantity of money may originate with actions of the Federal Reserve System (the central bank), depository institutions (principally commercial banks), or the public. The major control, however, rests with the central bank.

The actual process of money creation takes place primarily in banks.(1) As noted earlier, checkable liabilities of banks are money. These liabilities are customers' accounts. They increase when customers deposit currency and checks and when the proceeds of loans made by the banks are credited to borrowers' accounts.

In the absence of legal reserve requirements, banks can build up deposits by increasing loans and investments so long as they keep enough currency on hand to redeem whatever amounts the holders of deposits want to convert into currency. This unique attribute of the banking business was discovered many centuries ago.

It started with goldsmiths. As early bankers, they initially provided safekeeping services, making a profit from vault storage fees for gold and coins deposited with them. People would redeem their "deposit receipts" whenever they needed gold or coins to purchase something, and physically take the gold or coins to the seller who, in turn, would deposit them for safekeeping, often with the same banker. Everyone soon found that it was a lot easier simply to use the deposit receipts directly as a means of payment. These receipts, which became known as notes, were acceptable as money since whoever held them could go to the banker and exchange them for metallic money.

Then, bankers discovered that they could make loans merely by giving their promises to pay, or bank notes, to borrowers. In this way, banks began to create money. More notes could be issued than the gold and coin on hand because only a portion of the notes outstanding would be presented for payment at any one time. Enough metallic money had to be kept on hand, of course, to redeem whatever volume of notes was presented for payment.

Transaction deposits are the modern counterpart of bank notes. It was a small step from printing notes to making book entries crediting deposits of borrowers, which the borrowers in turn could "spend" by writing checks, thereby "printing" their own money.

What Limits the Amount of Money Banks Can Create?

If deposit money can be created so easily, what is to prevent banks from making too much - more than sufficient to keep the nation's productive resources fully employed without price inflation? Like its predecessor, the modern bank must keep available, to make payment on demand, a considerable amount of currency and funds on deposit with the central bank. The bank must be prepared to convert deposit money into currency for those depositors who request currency. It must make remittance on checks written by depositors and presented for payment by other banks (settle adverse clearings). Finally, it must maintain legally required reserves, in the form of vault cash and/or balances at its Federal Reserve Bank, equal to a prescribed percentage of its deposits.⁴

In the fine print of a footnote in a bulletin of the Federal Reserve Bank of St. Louis, we find this surprisingly candid explanation:

Modern monetary systems have a fiat base -- literally money by decree -- with depository institutions, acting as fiduciaries, creating obligations against themselves with the fiat base acting in part as reserves. The decree appears on the currency notes: "This note is legal tender for all debts, public and private." While no individual could refuse to accept such money for debt repayment, exchange contracts could easily be composed to thwart its use in everyday commerce. However, a forceful explanation as to why money is accepted is that the federal government requires it as payment for tax liabilities. Anticipation of the need to clear this debt creates a demand for the pure fiat dollars.⁵

money would vanish without debt

It is difficult for Americans to come to grips with the fact that their total money supply is backed by nothing but debt, and it is even more mind boggling to visualize that, if everyone paid back all that was borrowed, there would be no money left in existence. That's right, there would not be one penny in circulation -- all coins and all paper currency would be returned to bank vaults -- and there would be not one dollar in any one's checking account. In short, all money would disappear.

Marriner Eccles was the Governor of the Federal Reserve System in 1941. On September 30 of that year, Eccles was asked to give testimony before the House Committee on Banking and Currency. The purpose of the hearing was to obtain information regarding the role of the Federal Reserve in creating conditions that led to the depression of the 1930s. Congressman Wright Patman, who was Chairman of that committee, asked how the Fed got the money to purchase two billion dollars worth of government bonds in 1933. This is the exchange that followed.

ECCLES: We created it.

PATMAN: Out of what?

ECCLES: Out of the right to issue credit money.

PATMAN: And there is nothing behind it, is there, except our government's credit?

ECCLES: That is what our money system is. If there were no debts in our money system, there wouldn't be any money.

It must be realized that, while money may represent an asset to selected individuals, when it is considered as an aggregate of the total money supply, it is not an asset at all. A man who borrows $1,000 may think that he has increased his financial position by that amount but he has not. His $1,000 cash asset is offset by his $1,000 loan liability, and his net position is zero. Bank accounts are exactly the same on a larger scale. Add up all the bank accounts in the nation, and it would be easy to assume that all that money represents a gigantic pool of assets which support the economy. Yet, every bit of this money is owed by someone. Some will owe nothing. Others will owe many times what they possess. All added together, the national balance is zero. What we think is money is but a grand illusion. The reality is debt.

Robert Hemphill was the Credit Manager of the Federal Reserve Bank in Atlanta. In the foreword to a book by Irving Fisher, entitled 100% Money, Hemphill said this:

If all the bank loans were paid, no one could have a bank deposit, and there would not be a dollar of coin or currency in circulation. This is a staggering thought. We are completely dependent on the commercial banks. Someone has to borrow every dollar we have in circulation, cash, or credit. If the banks create ample synthetic money we are prosperous; if not, we starve. We are absolutely without a permanent money system. When one gets a complete grasp of the picture, the tragic absurdity of our hopeless situation is almost incredible -- but there it is.⁶

With the knowledge that money in America is based on debt, it should not come as a surprise to learn that the Federal Reserve System is not the least interested in seeing a reduction in debt in this country, regardless of public utterances to the contrary. Here is the bottom line from the System's own publications. The Federal Reserve Bank of Philadelphia says: "A large and growing number of analysts, on the other hand, now regard the national debt as something useful, if not an actual blessing....[They believe] the national debt need not be reduced at all."⁷

The Federal Reserve Bank of Chicago adds: "Debt -- public and private -- is here to stay. It plays an essential role in economic processes.... What is required is not the abolition of debt, but its prudent use and intelligent management."⁸

what's wrong with a little debt?

There is a kind of fascinating appeal to this theory. It gives those who expound it an aura of intellectualism, the appearance of being able to grasp a complex economic principle that is beyond the comprehension of mere mortals. And, for the less academically minded, it offers the comfort of at least sounding moderate. After all, what's wrong with a little debt, prudently used and intelligently managed? The answer is nothing, provided the debt is based on an honest transaction. There is plenty wrong with it if it is based upon fraud.

An honest transaction is one in which a borrower pays an agreed upon sum in return for the temporary use of a lender's asset. That asset could be anything of tangible value. If it were an automobile, for example, then the borrower would pay "rent." If it is money, then the rent is called "interest." Either way, the concept is the same.

When we go to a lender -- either a bank or a private party -- and receive a loan of money, we are willing to pay interest on the loan in recognition of the fact that the money we are borrowing is an asset which we want to use. It seems only fair to pay a rental fee for that asset to the person who owns it. It is not easy to acquire an automobile, and it is not easy to acquire money -- real money, that is. If the money we are borrowing was earned by someone's labor and talent, they are fully entitled to receive interest on it. But what are we to think of money that is created by the mere stroke of a pen or the click of a computer key? Why should anyone collect a rental fee on that?

When banks place credits into your checking account, they are merely pretending to lend you money. In reality, they have nothing to lend. Even the money that non-indebted depositors have placed with them was originally created out of nothing in response to someone else's loan. So what entitles the banks to collect rent on nothing? It is immaterial that men everywhere are forced by law to accept these nothing certificates in exchange for real goods and services. We are talking here, not about what is legal, but what is moral. As Thomas Jefferson observed at the time of his protracted battle against central banking in the United States, "No one has a natural right to the trade of money lender, but he who has money to lend."⁹

third reason to abolish the system

Centuries ago, usury was defined as any interest charged for a loan. Modern usage has redefined it as excessive interest. Certainly, any amount of interest charged for a pretended loan is excessive. The dictionary, therefore, needs a new definition. Usury: The charging of any interest on a loan of fiat money.

Let us, therefore, look at debt and interest in this light. Thomas Edison summed up the immorality of the system when he said:

People who will not turn a shovel of dirt on the project nor contribute a pound of materials will collect more money...than will the people who will supply all the materials and do all the work.¹⁰

Is that an exaggeration? Let us consider the purchase of a $100,000 home in which $30,000 represents the cost of the land, architect's fee, sales commissions, building permits, and that sort of thing and $70,000 is the cost of labor and building materials. If the home buyer puts up $30,000 as a down payment, then $70,000 must be borrowed. If the loan is issued at 11% over a 30-year period, the amount of interest paid will be $167,806. That means the amount paid to those who loan the money is about 2 1/2 times greater than paid to those who provide all the labor and all the materials. It is true that this figure represents the time-value of that money over thirty years and easily could be justified on the basis that a lender deserves to be compensated for surrendering the use of his capital for half a lifetime. But that assumes the lender actually had something to surrender, that he had earned the capital, saved it, and then loaned it for construction of someone else's house. What are we to think, however, about a lender who did nothing to earn the money, had not saved it, and, in fact, simply created it out of thin air? What is the time-value of nothing?

As we have already shown, every dollar that exists today, either in the form of currency, checkbook money, or even credit card money -- in other words, our entire money supply -- exists only because it was borrowed by someone; perhaps not you, but someone. That means all the American dollars in the entire world are earning daily and compounding interest for the banks which created them. A portion of every business venture, every investment, every profit, every transaction which involves money -- and that even includes losses and the payment of taxes -- a portion of all that is earmarked as payment to a bank. And what did the banks do to earn this perpetually flowing river of wealth? Did they lend out their own capital obtained through investment of stockholders? Did they lend out the hard-earned savings of their depositors? No, neither of these were their major source of income. They simply waved the magic wand called fiat money.

The flow of such unearned wealth under the guise of interest can only be viewed as usury of the highest magnitude. Even if there were no other reasons to abolish the Fed, the fact that it is the supreme instrument of usury would be more than sufficient by itself.

who creates the money to pay the interest?

One of the most perplexing questions associated with this process is "Where does the money come from to pay the interest?" If you borrow $10,000 from a bank at 9%, you owe $10,900. But the bank only manufactures $10,000 for the loan. It would seem, therefore, that there is no way that you -- and all others with similar loans -- can possibly pay off your indebtedness. The amount of money put into circulation just isn't enough to cover the total debt, including interest. This has led some to the conclusion that it is necessary for you to borrow the $900 for interest, and that, in turn, leads to still more interest. The assumption is that, the more we borrow, the more we have to borrow, and that debt based on fiat money is a neverending spiral leading inexorably to more and more debt.

This is a partial truth. It is true that there is not enough money created to include the interest, but it is a fallacy that the only way to pay it back is to borrow still more. The assumption fails to take into account the exchange value of labor. Let us assume that you pay back your $10,000 loan at the rate of approximately $900 per month and that about $80 of that represents interest. You realize you are hard pressed to make your payments so you decide to take on a part-time job. The bank, on the other hand, is now making $80 profit each month on your loan. Since this amount is classified as "interest," it is not extinguished as is the larger portion which is a return of the loan itself. So this remains as spendable money in the account of the bank. The decision then is made to have the bank's floors waxed once a week. You respond to the ad in the paper and are hired at $80 per month to do the job. The result is that you earn the money to pay the interest on your loan, and -- this is the point -- the money you receive is the same money which you previously had paid. As long as you perform labor for the bank each month, the same dollars go into the bank as interest, then out of the revolving door as your wages, and then back into the bank as loan repayment.

It is not necessary that you work directly for the bank. No matter where you earn the money, its origin was a bank and its ultimate destination is a bank. The loop through which it travels can be large or small, but the fact remains all interest is paid eventually by human effort. And the significance of that fact is even more startling than the assumption that not enough money is created to pay back the interest. It is that the total of this human effort ultimately is for the benefit of those who create fiat money. It is a form of modern serfdom in which the great mass of society works as indentured servants to a ruling class of financial nobility.

understanding the illusion

That's really all one needs to know about the operation of the banking cartel under the protection of the Federal Reserve. But it would be a shame to stop here without taking a look at the actual cogs, mirrors, and pulleys that make the magical mechanism work. It is a truly fascinating engine of mystery and deception. Let us, therefore, turn our attention to the actual process by which the magicians create the illusion of modern money. First we shall stand back for a general view to see the overall action. Then we shall move in closer and examine each component in detail.

the mandrake mechanism: an overview

The entire function of this machine is to convert debt into money. It's just that simple. First, the Fed takes all the government bonds which the public does not buy and writes a check to Congress in exchange for them. (It acquires other debt obligations as well, but government bonds comprise most of its inventory.) There is no money to back up this check. These fiat dollars are created on the spot for that purpose. By calling those bonds "reserves," the Fed then uses them as the base for creating 9 additional dollars for every dollar created for the bonds themselves. The money created for the bonds is spent by the government, whereas the money created on top of those bonds is the source of all the bank loans made to the nation's businesses and individuals. The result of this process is the same as creating money on a printing press, but the illusion is based on an accounting trick rather than a printing trick. The bottom line is that Congress and the banking cartel have entered into a partnership in which the cartel has the privilege of collecting interest on money which it creates out of nothing, a perpetual override on every American dollar that exists in the world. Congress, on the other hand, has access to unlimited funding without having to tell the voters their taxes are being raised through the process of inflation. If you understand this paragraph, you understand the Federal Reserve System.

Now for a more detailed view. There are three general ways in which the Federal Reserve creates fiat money out of debt. One is by making loans to the member banks through what is called the Discount Window. The second is by purchasing Treasury bonds and other certificates of debt through what is called the Open Market Committee. The third is by changing the so-called reserve ratio that member banks are required to hold. Each method is merely a different path to the same objective: taking IOUs and converting them into spendable money.

THE DISCOUNT WINDOW

The Discount Window is merely bankers' language for the loan window. When banks run short of money, the Federal Reserve stands ready as the "bankers' bank" to lend it. There are many reasons for them to need loans. Since they hold "reserves" of only about one or two per cent of their deposits in vault cash and eight or nine per cent in securities, their operating margin is extremely thin. It is common for them to experience temporary negative balances caused by unusual customer demand for cash or unusually large clusters of checks all clearing through other banks at the same time. Sometimes they make bad loans and, when these former "assets" are removed from their books, their "reserves" are also decreased and may, in fact, become negative. Finally, there is the profit motive. When banks borrow from the Federal Reserve at one interest rate and lend it out at a higher rate, there is an obvious advantage. But that is merely the beginning. When a bank borrows a dollar from the Fed, it becomes a one-dollar reserve. Since the banks are required to keep reserves of only about ten per cent, they actually can loan up to nine dollars for each dollar borrowed.¹¹

Let's take a look at the math. Assume the bank receives $1 million from the Fed at a rate of 8%. The total annual cost, therefore, is $80,000 (.08 X $1,000,000). The bank treats the loan as a cash deposit, which means it becomes the basis for manufacturing an additional $9 million to be lent to its customers. If we assume that it lends that money at 11% interest, its gross return would be $990,000 (.11 X $9,000,000). Subtract from this the bank's cost of $80,000 plus an appropriate share of its overhead, and we have a net return of about $900,000. In other words, the bank borrows a million and can almost double it in one year.¹²  That's leverage! But don't forget the source of that leverage: the manufacture of another $9 million which is added to the nation's money supply.

THE OPEN MARKET OPERATION

The most important method used by the Federal Reserve for the creation of fiat money is the purchase and sale of securities on the open market. But, before jumping into this, a word of warning. Don't expect what follows to make any sense. Just be prepared to know that this is how they do it.

The trick lies in the use of words and phrases which have technical meanings quite different from what they imply to the average citizen. So keep your eye on the words. They are not meant to explain but to deceive. In spite of first appearances, the process is not complicated. It is just absurd.

THE MANDRAKE MECHANISM: A DETAILED VIEW: Start with...

GOVERNMENT DEBT

The federal government adds ink to a piece of paper, creates impressive designs around the edges, and calls it a bond or Treasury note. It is merely a promise to pay a specified sum at a specified interest on a specified date. As we shall see in the following steps, this debt eventually becomes the foundation for almost the entire nation's money supply.¹³  In reality, the government has created cash, but it doesn't yet look like cash. To convert these IOUs into paper bills and checkbook money is the function of the Federal Reserve System. To bring about that transformation, the bond is given to the Fed where it is then classified as a...

SECURITIES ASSET

An instrument of government debt is considered an asset because it is assumed the government will keep its promise to pay. This is based upon its ability to obtain whatever money it needs through taxation. Thus, the strength of this asset is the power to take back that which it gives. So the Federal Reserve now has an "asset" which can be used to offset a liability. It then creates this liability by adding ink to yet another piece of paper and exchanging that with the government in return for the asset. That second piece of paper is a...

FEDERAL RESERVE CHECK

There is no money in any account to cover this check. Anyone else doing that would be sent to prison. It is legal for the Fed, however, because Congress wants the money, and this is the easiest way to get it. (To raise taxes would be political suicide; to depend on the public to buy all the bonds would not be realistic, especially if interest rates are set artificially low; and to print very large quantities of currency would be obvious and controversial.) This way, the process is mysteriously wrapped up in the banking system. The end result, however, is the same as turning on government printing presses and simply manufacturing fiat money (money created by the order of government with nothing of tangible value backing it) to pay government expenses. Yet, in accounting terms, the books are said to be "balanced" because the liability of the money is offset by the "asset" of the IOU. The Federal Reserve check received by the government then is endorsed and sent back to one of the Federal Reserve banks where it now becomes a...

GOVERNMENT DEPOSIT

Once the Federal Reserve check has been deposited into the government's account, it is used to pay government expenses and, thus, is transformed into many...

GOVERNMENT CHECKS

These checks become the means by which the first wave of fiat money floods into the economy. Recipients now deposit them into their own bank accounts where they become...

COMMERCIAL BANK DEPOSITS

Commercial bank deposits immediately take on a split personality. On the one hand, they are liabilities to the bank because they are owed back to the depositors. But, as long as they remain in the bank, they also are considered as assets because they are on hand. Once again, the books are balanced: the assets offset the liabilities. But the process does not stop there. Through the magic of fractional-reserve banking, the deposits are made to serve an additional and more lucrative purpose. To accomplish this, the on-hand deposits now become reclassified in the books and called...

BANK RESERVES

Reserves for what? Are these for paying off depositors should they want to close out of their accounts? No. That's the lowly function they served when they were classified as mere assets. Now that they have been given the name of "reserves," they become the magic wand to materialize even larger amounts of fiat money. This is where the real action is: at the level of the commercial banks. Here's how it works. The banks are permitted by the Fed to hold as little as 10% of their deposits in "reserve." That means, if they receive deposits of $1 million from the first wave of fiat money created by the Fed, they have $900,000 more than they are required to keep on hand ($1 million less 10% reserve). In bankers' language, that $900,000 is called...

EXCESS RESERVES

The word "excess" is a tipoff that these so-called reserves have a special destiny. Now that they have been transmuted into an excess, they are considered as available for lending. And so in due course these excess reserves are converted into...

BANK LOANS

But wait a minute. How can this money be loaned out when it is owned by the original depositors who are still free to write checks and spend it any time they wish? The answer is that, when the new loans are made, they are not made with the same money at all. They are made with brand new money created out of thin air for that purpose. The nation's money supply simply increases by ninety per cent of the bank's deposits. Furthermore, this new money is far more interesting to the banks than the old. The old money, which they received from depositors, requires them to pay out interest or perform services for the privilege of using it. But, with the new money, the banks collect interest, instead, which is not too bad considering it cost them nothing to make. Nor is that the end of the process. When this second wave of fiat money moves into the economy, it comes right back into the banking system, just as the first wave did, in the form of...

MORE COMMERCIAL BANK DEPOSITS

The process now repeats but with slightly smaller numbers each time around. What was a "loan" on Friday comes back into the bank as a "deposit" on Monday. The deposit then is reclassified as a "reserve" and ninety per cent of that becomes an "excess" reserve which, once again, is available for a new "loan." Thus, the $1 million of first wave fiat money gives birth to $900,000 in the second wave, and that gives birth to $810,000 in the third wave ($900,000 less 10% reserve). It takes about twenty-eight times through the revolving door of deposits becoming loans becoming deposits becoming more loans until the process plays itself out to the maximum effect, which is...

BANK FIAT MONEY = UP TO 9 TIMES GOVERNMENT

The amount of fiat money created by the banking cartel is approximately nine times the amount of the original government debt which made the entire process possible.¹⁴  When the original debt itself is added to that figure, we finally have...

TOTAL FIAT MONEY = UP TO 10 TIMES GOVERNMENT

The total amount of fiat money created by the Federal Reserve and the commercial banks together is approximately ten times the amount of the underlying government debt. To the degree that this newly created money floods into the economy in excess of goods and services, it causes the purchasing power of all money, both old and new, to decline. Prices go up because the relative value of the money has gone down. The result is the same as if that purchasing power had been taken from us in taxes. The reality of this process, therefore, is that it is a...

HIDDEN TAX = UP TO 10 TIMES THE NATIONAL DEBT

Without realizing it, Americans have paid over the years, in addition to their federal income taxes and excise taxes, a completely hidden tax equal to many times the national debt! And that still is not the end of the process. Since our money supply is purely an arbitrary entity with nothing behind it except debt, its quantity can go down as well as up. When people are going deeper into debt, the nation's money supply expands and prices go up, but when they pay off their debts and refuse to renew, the money supply contracts and prices tumble. That is exactly what happens in times of economic or political uncertainty. This alternation between period of expansion and contraction of the money supply is the underlying cause of...

BOOMS, BUSTS, AND DEPRESSIONS

Who benefits from all of this? Certainly not the average citizen. The only beneficiaries are the political scientists in Congress who enjoy the effect of unlimited revenue to perpetuate their power, and the monetary scientists within the banking cartel called the Federal Reserve System who have been able to harness the American people, without their knowing it, to the yoke of modern feudalism.

Reserve Ratios

The previous figures are based on a "reserve" ratio of 10% (a money-expansion ratio of 10-to-1). It must be remembered, however, that this is purely arbitrary. Since the money is fiat with no previous-metal backing, there is no real limitation except what the politicians and money managers decide is expedient for the moment. Altering this ratio is the third way in which the Federal Reserve can influence the nation's supply of money. The numbers, therefore, must be considered as transient. At any time there is a "need" for more money, the ratio can be increased to 20-to-1 or 50-to-1, or the pretense of a reserve can be dropped altogether. There is virtually no limit to the amount of fiat money that can be manufactured under the present system.

NATIONAL DEBT NOT NECESSARY FOR INFLATION

Because the Federal Reserve can be counted on to "monetize" (convert into money) virtually any amount of government debt, and because this process of expanding the money supply is the primary cause of inflation, it is tempting to jump to the conclusion that federal debt and inflation are but two aspects of the same phenomenon. This, however, is not necessarily true. It is quite possible to have either one without the other.

The banking cartel holds a monopoly in the manufacture of money. Consequently, money is created only when IOUs are "monetized" by the Fed or by commercial banks. When private individuals, corporations, or institutions purchase government bonds, they must use money they have previously earned and saved. In other words, no new money is created, because they are using funds that are already in existence. Therefore, the sale of government bonds to the banking system is inflationary, but when sold to the private sector, it is not. That is the primary reason the United States avoided massive inflation during the 1980s when the federal government was going into debt at a greater rate than ever before in its history. By keeping interest rates high, these bonds became attractive to private investors, including those in other countries.¹⁵  Very little new money was created, because most of the bonds were purchased with American dollars already in existence. This, of course, was a temporary fix at best. Today, those bonds are continually maturing and are being replaced by still more bonds to include the original debt plus accumulated interest. Eventually this process must come to an end and, when it does, the Fed will have no choice but to literally buy back all the debt of the '80s -- that is, to replace all of the formerly invested private money with newly manufactured fiat money -- plus a great deal more to cover the interest. Then we will understand the meaning of inflation.

On the other side of the coin, the Federal Reserve has the option of manufacturing money even if the federal government does not go deeper into debt. For example, the huge expansion of the money supply leading up to the stock market crash in 1929 occurred at a time when the national debt was being paid off. In every year from 1920 through 1930, federal revenue exceeded expenses, and there were relatively few government bonds being offered. The massive inflation of the money supply was made possible by converting commercial bank loans into "reserves" at the Fed's discount window and by the Fed's purchase of banker's acceptances, which are commercial contracts for the purchase of goods.

Now the options are even greater. The Monetary Control Act of 1980 has made it possible for the Creature to monetize virtually any debt instrument, including IOUs from foreign governments. The apparent purpose of this legislation is to make it possible to bail out those governments which are having trouble paying the interest on their loans from American banks. When the Fed creates fiat American dollars to give foreign governments in exchange for their worthless bonds, the money path is slightly longer and more twisted, but the effect is similar to the purchase of U.S. Treasury Bonds. The newly created dollars go to the foreign governments, then to the American banks where they become cash reserves. Finally, they flow back into the U.S money pool (multiplied by nine) in the form of additional loans. The cost of the operation once again is born by the American citizen through the loss of purchasing power. Expansion of the money supply, therefore, and the inflation that follows, no longer even require federal deficits. As long as someone is willing to borrow American dollars, the cartel will have the option of creating those dollars specifically to purchase their bonds and, by so doing, continue to expand the money supply.

We must not forget, however, that one of the reasons the Fed was created in the first place was to make it possible for Congress to spend without the public knowing it was being taxed. Americans have shown an amazing indifference to this fleecing, explained undoubtedly by their lack of understanding of how the Mandrake Mechanism works. Consequently, at the present time, this cozy contract between the banking cartel and the politicians is in little danger of being altered. As a practical matter, therefore, even though the Fed may also create fiat money in exchange for commercial debt and for bonds of foreign governments, its major concern likely will be to continue supplying Congress.

The implications of this fact are mind boggling. Since our money supply, at present at least, is tied to the national debt, to pay off that debt would cause money to disappear. Even to seriously reduce it would cripple the economy.¹⁶  Therefore, as long as the Federal Reserve exists, America will be, must be, in debt.

The purchase of bonds from other governments is accelerating in the present political climate of internationalism. Our own money supply increasingly is based upon their debt as well as ours, and they, too, will not be allowed to pay it off even if they are able.

EXPANSION LEADS TO CONTRACTION

While it is true that the Mandrake Mechanism is responsible for the expansion of the money supply, the process also works in reverse. Just as money is created when the Federal Reserve purchases bonds or other debt instruments, it is extinguished by the sale of those same items. When they are sold, the money is given back to the System and disappears into the inkwell or computer chip from which it came. Then, the same secondary ripple effect that created money through the commercial banking system causes it to be withdrawn from the economy. Furthermore, even if the Federal Reserve does not deliberately contract the money supply, the same result can and often does occur when the public decides to resist the availability of credit and reduce its debt. A man can only be tempted to borrow, he cannot be forced to do so.

There are many psychological factors involved in a decision to go into debt that can offset the easy availability of money and a low interest rate: A downturn in the economy, the threat of civil disorder, the fear of pending war, an uncertain political climate, to name just a few. Even though the Fed may try to pump money into the economy by making it abundantly available, the public can thwart that move simply by saying no, thank you. When this happens, the olds debts that are being paid off are not replaced by new ones to take their place, and the entire amount of consumer and business debt will shrink. That means the money supply also will shrink, because, in modern America, debt is money. And it is this very expansion and contraction of the monetary pool -- a phenomenon that could not occur if based upon the laws of supply and demand -- that is at the very core of practically every boom and bust that has plagued mankind throughout history.

In conclusion, it can be said that modern money is a grand illusion conjured by the magicians of finance in politics. We are living in an age of fiat money, and it is sobering to realize that every previous nation in history that has adopted such money eventually was economically destroyed by it. Furthermore, there is nothing in our present monetary structure that offers any assurances that we may be exempted from that morbid roll call.

Correction. There is one. It is still within the power of Congress to abolish the Federal Reserve System.

Summary

The American dollar has no intrinsic value. It is a classic example of fiat money with no limit to the quantity that can be produced. Its primary value lies in the willingness of people to accept it and, to that end, legal tender laws require them to do so. It is true that our money is created out of nothing, but it is more accurate to say that it is based upon debt. In one sense, therefore, our money is created out of less than nothing. The entire money supply would vanish into the bank vaults and computer chips if all debts were repaid. Under the present System, therefore, our leaders cannot allow a serious reduction in either the national or consumer debt. Charging interest on pretended loans is usury, and that has become institutionalized under the Federal Reserve System. The Mandrake Mechanism by which the Fed converts debt into money may seem complicated at first, but it is simple if one remembers that the process is not intended to be logical but to confuse and deceive. The end product of the Mechanism is artificial expansion of the money supply, which is the root cause of the hidden tax called inflation. This expansion then leads to contraction and, together, they produce the destructive boom-bust cycle that has plagued mankind throughout history wherever fiat money has existed.

1.                    Printed Federal Reserve Notes that sit in the Treasury's vault do not become money until they are released into circulation in exchange for checkbook money that was created by a bank loan. As long as the bills are in the vault with no debt-based money to replace them, they technically are just paper, not money.  [Return]

2.                    I Bet You Thought, Federal Reserve Bank of New York, p. 11  [Return]

3.                    Ibid., p. 19  [Return]

4.                    Modern Money Mechanics, Federal Reserve Bank of Chicago, revised October 1982, p. 3.  [Return]

5.                    "Money, Credit and Velocity," Review, May, 1982, Vol. 64, No. 5, Federal Reserve Bank of St. Louis, p. 25.  [Return]

6.                    Irving Fisher, 100% Money (New York: Adelphi, 1936), p. xxii.  [Return]

7.                    The National Debt, Federal Reserve Bank of Philadelphia, pp. 2, 11.  [Return]

8.                    Two Faces of Debt, Federal Reserve Bank of Chicago, p. 33.  [Return]

9.                    The Writings of Thomas Jefferson, Library Edition (Washington: Jefferson Memorial Association, 1903), Vol XIII, p. 277-78.  [Return]

10.                 As quoted by Brian L. Bex, The Hidden Hand (Spencer, Indiana: Owen Litho, 1975), p. 161.  [Return]

11.                 This 10% figure (ten-to-one ratio) is based on averages. The Federal Reserve requires a minimum reserve of 10% on deposits over $46.8 million but only 3% on deposits up to that amount. Deposits in Eurodollars and nonpersonal time deposits require no reserves at all. Reserves consist of vault cash and deposits at the Federal Reserve. See Regulation D; Reserve Requirements of Depository Institutions, Federal Reserve document 12 CFR 204; as amended effective December 22, 1992, p. 23.  [Return]

12.                 The banks must cover these loans with bonds or other interest-bearing assets which it possesses, but that does not diminish the money-multiplier effect of the new deposit.  [Return]

13.                 Debt obligations from the private sector and from other governments also are used in the same way, but government bonds are the primary instruments.  [Return]

14.                 That is a theoretical maximum. In actual practice, the banks can seldom loan out all of the money they are allowed to create, and the numbers fall short of the maximum.  [Return]

15.                 Only about 11 to 15 per cent of the federal debt at that time was held by the Federal Reserve System.  [Return]

16.                 With the Fed holding only 7% of the national debt, the effect would still be devastating. Since the money supply is pyramided ten times on top of the underlying government bonds, each $1 eliminated from the federal debt would cause the money supply to shrink by 70 cents (1.00 X .07 X 10 = .70).  [Return]

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AND SO, DEAR READER, we see that things are not as we thought they were. The world has just shifted beneath our feet, and by now your head is probably spinning. Hang on to your seat, because there is more to come. The most excellent website I have found for general analyses of money, with a superb archive of articles, all of them freely available, is http://www.financialsense.com/

On that site there is the following article, detailing the state of debt in the USA and between the USA and the world, which is excerpted in part below:

http://www.financialsense.com/editorials/hodges/2005/0313.html

America's Total Debt Report - Update 2005
$40 Trillion - and Soaring
~ household, business, financial and economic reports ~
by Michael W. Hodges, Author
Grandfather Economic Report
March 13, 2005

America has become more a debt 'junkie' than ever before with total debt of $40 trillion, or $136,479 per man, woman and child. 66% ($27 trillion) of this debt was created since 1990, a period primarily driven by debt instead of by productive activity

In 1957 there was $1.86 in debt for each dollar of  net national income, but in 2004 there was $4.37 of debt for each dollar of national income. It also means this extra $2.51 of debt produces zilch national income.

·                     Since 1990, 80% of today's domestic financial sector debt was created, as it increased 2.5 times faster than growth of the economy; household debt increased 50% faster. During the same period the federal government siphoned off $2.2 trillion of trust fund surpluses, creating new un-funded IOUs (the total IOUs now stand at $3.1 Trillion, with no budgeted pay-off).

·                     2004 was a new, all-time record high in debt ratios of the household, business, and domestic financial sectors - also record debt ratios owed to trust funds.

·                     In the past year the debt record was even more scary: household debt increased 2 times faster than the economy - - and the federal government's bite out of trust funds set another record high.

·                     In 2003, the average credit-card debt of US households with at least one card was $9,205, up from $2,966 in 1990, according to the research firm CardWeb.com - - that's 310% higher.

·                     Even students are learning how to go into debt up to their necks. The federal General Accounting Office, according to AP's Martha Irvin in January 2002, says college students are graduating with an average of $19,400 in student loans. Additionally, average student credit card debt rose 46% from 1998 to 2000, according to the student loan agency Nellie Mae. Meanwhile, universities promote credit cards issued by agencies who kick-back to them.

·                     Since 1990 it is clear the economy was 'driven' almost entirely by the biggest injection of new debt in history, which produced a much diminished lower return in national income per dollar. Just as one hooked on drugs needs ever increasing amounts of drugs to 'survive', it appears America needs ever increasing amounts of new debt to eke out diminishing amounts of growth - - even with 2 wage earners per family.

·                     America's total private and government debt is at least 100% higher compared to debt ratios of the recent past.

·                     AND - America's debt position is such that foreign interests now own more and more of America - - as of 2003 about "$8 trillion of U.S. financial assets, including 13% of all stocks and 24% of corporate bonds", according to Bridgewater Associates. According to the Federal Government Debt Report, foreign investors & central banks also own 43% ($1.9 trillion) of U.S. government Treasury bonds & notes and 14% of U.S. government agency debt (such as household mortgages financed by Fannie Mae) up from 5% in 1995. The largest supplier of mortgage funds is Fannie Mae which borrows the money on the open market - - and,. according to Bloomberg Sept. 2002, "about a third of the Fannie Mae's benchmark debt is sold outside the U.S." - - (dangerous with a falling dollar exchange rate). Additionally, foreign interests own real estate and factories - - and, some would be surprised to learn that the well-known and respected California-based Pimco, the world's largest bond fund, that many believe is an American firm is in fact a unit of Allianz.AG, a German firm.

·                     We should not be mad at foreign interests. We are the ones consuming beyond our own production and savings by borrowing from others, creating unprecedented debts and trade deficits PLUS excessive government spending. Where America's debt used to be owed domestically, increasingly huge portions are now controlled by foreign interests. America, therefore, is less and less independently in control of its economy.

Debt in the past decade increased faster than ever in relation to national income and debt intensity last year increased even faster!

While facing this accelerating internal debt Challenge:

·                     America, already the world's largest international debtor with $5 trillion in cumulative trade deficits in goods since 1985, explodes international trade deficits to new records as it depends more and more on the production and savings of others than on itself (see International Trade Report); and,

·                     with citizens carrying on their backs more state & local government employees because the number again increased faster than population growth; and,

·                     personal savings plunged to record lows; and,

·                     real median family incomes (Family Income Report) ceased their solid increases after the period when debt ratios took off.

·                     with household debt at the highest ratios in history,

·                     whereas in previous times one bread winner per family was sufficient to provide for the family, build savings and reduce get-started debt loads - - the family now allocates the 2nd bread winner plus more debt with less savings and less time for the children - - to do the same.

·                     and - in previous times students graduated from college debt-free to themselves and their parents, because many worked their way via part-time jobs while minimizing consumptive spending. No longer

·                     The above debt ratio chart also adds evidence about the period of what some call the "financialization" of the economy by debt, including increasing domination by the nation's financial sector of the total capitalization based weight of the S&P index - - a topic discussed as a part of naming debt causes - - in page 2 of the full debt report (from link below).

·                     More families than ever before, with every possible adult in the work force, try to make-up the mounting pressure by turning to more debt with less savings - - while more business debt is accumulated despite paying out fewer dividends to shareholders, as well as a much smaller manufacturing base.

AND - a few hard questions > With the lowest personal savings rate on record, with the federal government relying more and more on foreign. entities to lend it funds to operate and prop up its currency, and with run-away trade deficits, where will this debt monster lead? Does America simply borrow savings of non-Americans until either they stop lending or until America has mortgaged or sold-off all its assets to others?   How can this direction be changed - - or am I the only one who does not believe individuals and a nation can, forever, borrow the way to prosperity and security?

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CONCLUSION: Armageddon or the Rapture?

NOW, DEAR READER, let us put all of this together. All your life, you and I have exchanged the sweat of our brow and the labor of our hands for a commodity which is totally imaginary, which has been conjured out of thin air by the banking industry and the Government, and which can just as easily vanish again into thin air. Some of this commodity we have exchanged for a car, a house, and other toys to bring us comfort, but for most of us, those large-ticket items are not ours – we still “owe” a great deal of this imaginary “commodity” before we can call those things “ours.” We have also put aside a quantity of this imaginary stuff, which we hope to be able to “spend” when we retire – when we are no longer able to work and “earn” more of this thing called “money.” What happens if it all goes “POOF!” one day, and simply vanishes back into the thin air from whence it came?

Alan Greenspan, the Federal Reserve, the Banking Cartel and the Government/Treasury, have, deliberately or otherwise, worked together over the past 25 years to set up you, me, and the entire world with the most stupendous Ponzi scheme, and we MAY be about to see the greatest, the most breathtaking, the most unimaginable “transfer of wealth,” (known to mere everyday unimaginative criminals as a “heist,”) in the history of the world. Here are some facts and figures: Every single day, six days a week, (when it is Sunday here, it is already Monday across the International Date Line, when it is Saturday there, it is still Friday here,) banks around the world transfer $200-$300 billion across international borders to pay for the world flow of commerce and trade, PLUS an additional $2,500 billion ($2.5 trillion) of pure liquid cash money looking for a higher rate of return. The world is awash in money. But wait – there’s more. The US total debt is on the order of $40 trillion, up from only $12 trillion in 1980. (So from 1776 to 1980, 204 years, it rose from nothing to $12 trillion, and in the next 25 years, it has almost quadrupled.) The total world holdings of derivatives – options, futures contracts, bracket schemes, interest rate hedges, and so on, is on the order of $270-$300 trillion. Almost all of these financial instruments are denominated in United States dollars. All commodities, from cocoa and copper to gold and oil, are priced in United States dollars. Unfulfilled contracts to buy and sell those commodities – the container ships loaded with cars and televisions on the ocean heading our way, next Christmas’ contracts for goods to fill the stores of America - are denominated in dollars. The enormous national debts of third world countries – Uruguay, Paraguay, Zimbabwe, Iraq, and Chad, plus a hundred others, being held by banks in America, Europe and Asia, are denominated in dollars.

What would happen in the world if any central bank – say China, in reaction to a US defense of Taiwan, or Russia, in reaction to a US attack on Iran - began dumping its dollar holdings in a determined manner? The value of the dollar would fall hard and fast. But what does that mean? It means that suddenly, a large chunk of world debt and world money supply would drastically lose value, relative to the whole, and disappear into thin air. When money supply shrinks, the price of money – interest rates – increases, and asset prices – such as the house you live in - fall, most especially in terms of currencies other than the dollar, but probably in dollar terms also, after the initial disruption settles down, just as happened in the Great Depression. You may be left holding an adjustable-rate mortgage, at 35%, say, on a mortgage of $400,000 on a house, which suddenly has become worth only $75,000. It is now time to go back and live with Mom and Dad, or, if they don’t own their house outright, it may be time to buy a tent and head for the woods. At first, when you go to replace your television which has just gone dead, you will find it costs $15,000 to do so, but after it becomes clear that nobody in the world can afford a TV any longer, the prices will fall back to $1,500, or, in other words, 500 Euros, about what they cost in Europe now. Don’t count on cashing in your IRA or 401(K) – the Dow, based on the likely bottom value of the dollar, and the interest rate hikes that will ensue, should find its bottom around 3,000 – if you can find anyone with the cash to buy your investments. Don’t feel so bad – all other stock markets around the world will also tank in a major way. People holding dollar or non-dollar cash will have the greatest opportunity in history to buy up the world at a discount, or to lock in astronomical rates of return for many years, and people or nations owing international debt in dollars will find their debts reduced to a fraction of their former burden. People holding assets in the USA will find themselves unable to sell them at any price – nobody will have the cash to buy, or be able to afford the interest rates to borrow in order to buy. People holding dollar cash will have a buying opportunity in stocks, real estate and other assets, but people holding other currencies will be even better off. Warren Buffett has been preparing himself for the past year – his personal fortune is now almost entirely outside the USA and is mostly in cash - $38 billion of it.

Now you understand why the dollar collapse has not already happened – nobody in the whole wide world, governments, banks, institutions, and the rich, knows what to do about the fact that they are holding so much dollar debt, and everyone is terrified of the consequences if, in this crowded theater, anyone should be the first to shout “Fire!”

Let us end with another somewhat technical article from the Financial Sense website: http://www.financialsense.com/fsu/editorials/2005/0309.html

THOUGHTS ON A SECOND GREAT DEPRESSION

by M.A. Nystrom, M.B.A.

Man on the Street in (the Republic of) China

March 9, 2005

1. Introduction to the Second Great Depression

The idea of a second great depression first occurred to me in the summer of 1998, at an empty bookstore in a shiny, modern, deserted mall in Bangkok. It was a year after the Asian financial crisis had devastated the economies of many newly emerging Asian nations, casting a pall over the fantasy of uninterrupted economic growth. Bangkok still bustled, but the city was dotted with brand new malls such as this one, immaculate temples to capitalism, everything 50% off but with no buyers in sight. Some of the older malls were already abandoned, escalators stopped and gathering trash, their upper floors darkened while the lower floors became home to spontaneous traditional markets selling vegetables and household goods from makeshift stalls.

It was in this context that I first picked up Robert Prechter's book "At the Crest of the Tidal Wave," in that deserted bookstore. I devoured the book and all of its charts over the next few days and began to see Bangkok in a different context. It was a glimpse of the future of America: Deserted malls, innumerable cardboard and tin shanties built along the railroad tracks by people without homes of their own, and others -- the sick, the injured, the lame, the living dead -- sleeping in the shadows of gleaming new skyscrapers, the monuments to modern finance capitalism.

This began a long journey into understanding the nature and causes of economic depressions that has turned into something of a scavenger hunt for me, one clue leading to the next in an ever-expanding search for truth.

2. Cycles, Cycles, Cycles

The idea of cycles of prosperity and suffering is nothing new. The Bible tells the story of Pharoah's dream, which Joseph interpreted as a prediction of seven years of feast, followed by seven years of even greater famine. (The Bible is full of symbols, and seven is not a literal number, but the number of God, symbolizing a divinely ordained period of time.)

Modern man is far removed from his natural roots, and is no longer ruled by mysticism or religion, but it is still possible to see that everything in nature moves in cycles. The earth spins round once a day, and travels around the sun once a year. Because of this we have seasons that determine when many plants and animals are born and grow, and when they die. Other cycles govern the growth and decline of markets, societies and civilizations.

2.1 Elliott Waves

My search for the second great depression began with Prechter and his theory of Elliott Waves, which are clearly identifiable patterns that describe how groups of people behave. They reveal that mass psychology swings from pessimism to optimism and back in a natural sequence. The waves are most clearly seen and measured in financial markets. The patterns are fractals, occurring at all levels of scale, from minutes all the way to years, decades and centuries, rising and falling according to natural rules. From Prechter's analysis, we are just completing a pattern of Grand Supercycle degree, which in short means that after decades of prosperity, we are on the brink of an economic setback that will be larger than the Great Depression (which was a pullback of only Supercycle degree).

Prechter's first forecast for the great market top came in 1995, then again in 2000. Markets did peak in 2000, but the onset of the ensuing depression has been like waiting for a slow train coming.

2.2 Technology Long Waves

From an economic standpoint, Soviet economist Kondratieff identified a long wave cycle in capitalist economies of about 60 years that got him banished to Siberia for claiming that capitalism was cyclical, moving through periods of growth, booms and busts but inevitable regeneration. Further study on long waves by Western researchers identified that the process behind long waves is an interaction between 1) new technology, 2) business opportunities that the new technology creates, and 3) an eventual overbuilding of capital after the technology ages. The stages are:

1.        Discoveries in science create a phenomenal base for technological innovation

2.        Radical and basic technological innovations create new products

3.        These products create new markets and new industries

4.        The new industries continue product and process innovation, expanding markets

5.        As technology matures, new competitors enter, creating excess capacity

6.        Excess capacity decreases profitability and increases business failures and unemployment

7.        Subsequent economic turmoil in financial markets leads to depressions

8.        New science and new technology provides the basis for new economic expansions. (From Managing Technology, by Frederick Betz, National Science Foundation, 1987)

Up to #6, this sounds very much like the internet boom and bust of the 1990's, but as of yet, it has not led to a second great depression.

2.3 Concentration of Wealth

Ravi Batra's book "The Great Depression of 1990" has excellent discussions on a number of different cycles that lead to depressions, including social cycles, cycles of monetary growth, government regulation, as well as concentration of wealth. The book is well worth the read, in spite of its title (and very cheap at used book stores because of it). Batra points out that there is a large body of economic literature upholding the theory that recessions are caused by unequal distribution of incomes and concentration of wealth.

It works like this: As savings rise, consumption falls. Since the rich save more money than the poor, the concentration of wealth in fewer hands increases savings and decreases consumption. As demand drops, and economic growth fails to keep pace with growth in the labor force, unemployment rises. Classically, this is a self-correcting process; labor costs eventually adjust, excesses are flushed out of the system, and growth begins anew. But in a depression, the above process is accompanied by a collapse of the financial system. A recession is a normal, necessary part of the business cycle and will not, in itself, cause a healthy financial system to collapse. However, as wealth becomes concentrated, it has a detrimental effect on the financial system. As Batra goes on to explain, in a sound financial system, banks make loans only to credit-worthy customers who are unlikely to default on their loans. But when wealth becomes concentrated, the number of less affluent people increases, as well as their borrowing needs. These less affluent people, who now make up the majority, have fewer assets and are thus less credit worthy. Even in such an environment, banks cannot afford to be choosy -- they must make loans in order to stay "competitive" with their peers and simply to stay in business. Thus, as the concentration of wealth rises, the number of unhealthy banks with shaky loans also rises in a dangerous spiral, increasing the possibility of systemic failure.

A perverse side effect of the growing wealth disparity is the rise in speculative investments. As a person becomes wealthy, his aversion to risk declines, so the number of risky investments by the rich also increases. Money doesn't mean so much to the rich, so they're willing to take a wild chance on a flyer, if it will double, triple or quadruple their money. As Charles Kindleberger puts it:

The object of speculation may vary from one mania or bubble to the next. It may involve primary products, or goods manufactured for export to distant markets, domestic and foreign securities of various kinds, contracts to buy or sell goods or securities, land in the city or country, houses, office buildings, shopping centers, condominiums, foreign exchange. At a late stage, speculation tends to detach itself from really valuable objects and turn to delusive ones. A larger and larger group of people seeks to become rich without a real understanding of the process involved. Not surprisingly, swindlers and catchpenny schemes flourish.

Sound familiar? We've seen bubbles in each of the securities he mentioned over the last two decades, and the last few years have shown us that even huge, multinational companies such as Enron and WorldCon can also be swindlers and catchpenny artists. Everyone wants to be rich quick and with the minimal amount of effort. In spite of these signs of the times, it has yet to lead to a second great depression.

3. Not if, When

There are so many factors pointing to a breakdown of the current dollar-based financial system that I have simply lost count. The rich get richer and the poor get poorer and the divide between them grows wider each day. The US government is in more debt than it can ever repay. Personal bankruptcies are at an all time high. Home "ownership" is also at an all time high, but much of it is due to risky loans made by audacious banks to unqualified buyers. It is the banks that own the homes, not the people. In fact, banks own just about everything, since most everything these days is purchased on credit. Personal debt is at an all time high. Americans work longer and harder, but wages have stagnated. The number of Americans who are homeless and in jail is at an all time high. These problems are not going away, and they're not getting better. People are falling out of the system at an increasing rate, and it is only a matter of time before that trickle becomes a deluge.

My point is not to convince you of the inevitability of a financial collapse. One need only look at history to understand that the tide of prosperity rises and falls with time. In my mind a second great depression is a foregone conclusion, a fait accompli. The storm clouds are gathering and growing darker. We have already felt the first drops of rain. It is not a matter of if, but when.

But depressions do not affect everyone equally. Even during the Great Depression, which left 25% of workers unemployed, it also left 75% with jobs. The amount of work did not fall -- there is always work to be done and needs to fulfill -- but there was no money to pay the workers. Times of change also produce great opportunities for enterprising individuals. For example, the wildly popular board game Monopoly was born during the depths of the Great Depression, allowing people to fantasize about better times and also learn the skills of capitalism.

Studying the causes and effects of past collapses can help you become psychologically prepared, mitigate personal damage, preserve wealth, and then you can begin taking steps toward building a better, more just and robust system for the future. In the coming environment, will you be one of the 75% with a job, or the 25% or more without? Will you be an entrepreneur, on the lookout for new opportunities for betterment, or will you be waiting for a government handout and a government solution? Will you be caught at the top, holding speculative investments that will eventually become worthless, or will you be picking up bargains at the bottom of the cycle? Will you blame the system or look for ways to help create a better system?

4. Purpose of a Second Great Depression

Since first picking up Prechter's book, my reading over the past several years has covered a wide range of topics beyond just financial markets, and I've come to see that the looming depression is actually a symptom of deeper problems, not a root cause. Unbridled capitalism under a fiat currency system leads to ever greater consumption fueled by debt spending. But if every country (notably the emerging BRIC countries) wants to achieve the American way of life, humanity will suck the earth dry of her resources and pollute the environment with the refuse of our disposable lives. It is already happening, and this also plays a role in the coming depression.

Just as the Great Depression came as the final break in the transformation of the US from an agricultural to an industrial economy, the second great depression can bee seen as the line of demarcation between the industrial age and the age of a knowledge based economy. From this perspective, the looming depression should be seen as an opportunity, not a disaster. Humanity must transform and change its course of development away from the path of inevitable destruction through consumption, and seek new ways of living and interacting with each other and its environment. The American economy doesn't manufacture as much as it used to (that seems to be China's job now), but American ideas still power the world, from the automobile to computers to the internet. The world still looks to America for the most innovative ideas. To make our way out of the depression, we're going to have to think our way out. (This is why I encourage you to turn off the TV and think!)

Our current monetary system is a relic of the past that is not equipped to handle current or future needs for humanity. The old saying that money makes the world go around is quite true: Without money, we would never do lots of things that now keep many of us occupied for our entire lives! At its root, our monetary system is flawed, causing us to make fatal choices. Part of the reason for this is that The Federal Reserve has been given the power to create money from nothing. Another part of the reason is the role that interest plays in systematically transferring wealth from the poor to the rich.

The wealthiest people and organizations own most of the interest bearing assets. They receive an uninterrupted flow of interest from whoever needs to borrow money. This chart shows the impact of the transfer of wealth via interest from one social group to another, based on a study performed in Germany in 1982. Germans were grouped into ten income categories of equal size, and during that year, a total of 270 billion DM in interest was paid and received. The graph clearly shows the systemic transfer of wealth from the bottom 80% of the population to the top. This transfer of wealth is due exclusively to the monetary system, and is completely independent of the degree of cleverness or industriousness of the participants -- the classic argument to justify large differences in income. As a result of schemes such as these, the top 1% of Americans now have more personal wealth than the bottom 92% combined! (From The Future of Money, by Bernard Lietaer, Random House UK 2001) In these modern times, money has lost all connection with value, work and productivity, making a collapse of the system inevitable. Part of the purpose of a second great depression will be to flush away arbitrary, unfair systems such as these.

Under a sound monetary system, the value of a currency is tied to a fixed asset such as gold, so banks and governments can't create money out of thin air, as they do today. This will help to limit the power of government. Other types of fairer monetary systems exist and these can also be created, and I will discuss these in the future. These systems will be instrumental in the rebuilding process after the depression, since fiat currencies will be seen for what they truly are -- worthless paper.

5. Conclusion

Like a slow train coming, another great depression is on its way. No one knows exactly when that train will arrive, so now is the time to prepare for your safety and do what you can to preserve the wealth you've built. Then you can begin to scan the horizon for opportunities that will inevitably arise, and think about ways you can help people less fortunate than yourself.

Pessimism, cynicism and negativity are for better times; for times like the ones we are approaching, we can't afford them.

I believe the looming second great depression with be a cathartic period of transformation giving us (meaning all of us, collectively) the opportunity to reengineer society into something more just, free and appropriate for the future world that we are living into. Just as we no longer need to spend 16 hours per day slaving on the farm to meet our subsistence needs, in the future we won't need to spend 10 hours per day slaving at the office in order to simply consume more.

The digital information communications revolution is changing the world as much as the industrial revolution did, but in the midst of the current dislocations and confusion, it is difficult to recognize. But since most work -- from farming to manufacturing to many routine services -- can be automated, the question then becomes what will people do with their time? How will people live and interact? The answers to these questions will be decided during the pain, confusion, reflection and search for answers that the second great depression will inevitably bring.

© 2005 M.A. Nystrom

Editorial Archive
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M.A. Nystrom
Taipei, Taiwan
www.bullnotbull.com  l  Email

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AND THERE, Dear Reader, you have it. Greed, which has caused a vast upward flow of wealth from the poor to the middle class, and from them up to the rich, over the last 50 years, and Politics, which has poured ever more and more imaginary “money” into the economy during that time, has left us  - all of us, Americans and also the rest of the world too – standing on the brink of a cliff, with the soil crumbling beneath our toes. When the cliff gives, some lucky folks will land in a tree, most of us will land on the rocks. I hope this has been an enlightening study for you, and that you are now a bit wiser than you were an hour ago. Thank you for your interest in your own future, and that of your family, and the nation, and the world.

Harry Brunser

Virginia, USA

No Longer the "Lone" Superpower: Coming to Terms with China

March 15, 2005

by Chalmers Johnson

Such a development promotes hostility between China and Japan, the two superpowers of East Asia, sabotages possible peaceful solutions in those two problem areas, Taiwan and North Korea, left over from the Chinese and Korean civil wars, and lays the foundation for a possible future Sino-American conflict that the United States would almost surely lose. It is unclear whether the ideologues and war lovers of Washington understand what they are unleashing -- a possible confrontation between the world's fastest growing industrial economy, China, and the world's second most productive, albeit declining, economy, Japan; a confrontation which the United States would have both caused and in which it might well be consumed.

Let me make clear that in East Asia we are not talking about a little regime-change war of the sort that Bush and Cheney advocate. After all, the most salient characteristic of international relations during the last century was the inability of the rich, established powers -- Great Britain and the United States -- to adjust peacefully to the emergence of new centers of power in Germany, Japan, and Russia. The result was two exceedingly bloody world wars, a forty-five-year-long Cold War between Russia and the "West," and innumerable wars of national liberation (such as the quarter-century long one in Vietnam) against the arrogance and racism of European, American, and Japanese imperialism and colonialism.

The major question for the twenty-first century is whether this fateful inability to adjust to changes in the global power-structure can be overcome. Thus far the signs are negative. Can the United States and Japan, today's versions of rich, established powers, adjust to the reemergence of China -- the world's oldest, continuously extant civilization -- this time as a modern superpower? Or is China's ascendancy to be marked by yet another world war, when the pretensions of European civilization in its U.S. and Japanese projections are finally put to rest? That is what is at stake.

Alice-in-Wonderland Policies and the Mother of All Financial Crises

China, Japan, and the United States are the three most productive economies on Earth, but China is the fastest growing (at an average rate of 9.5% per annum for over two decades), whereas both the U.S. and Japan are saddled with huge and mounting debts and, in the case of Japan, stagnant growth rates. China is today the world's sixth most productive economy (the U.S. and Japan being first and second) and our third largest trading partner after Canada and Mexico. According to CIA statisticians in their Factbook 2003, China is actually already the second-largest economy on Earth measured on a purchasing power parity basis -- that is, in terms of what China actually produces rather than prices and exchange rates. The CIA calculates the United States' gross domestic product (GDP) -- the total value of all goods and services produced within a country -- for 2003 as $10.4 trillion and China's $5.7 trillion. This gives China's 1.3 billion people a per capita GDP of $5,000.

Between 1992 and 2003, Japan was China's largest trading partner, but in 2004 Japan fell to third place, behind the European Union (EU) and the United States. China's trade volume for 2004 was $1.2 trillion, third in the world after the U.S. and Germany, and well ahead of Japan's $1.07 trillion. China's trade with the U.S. grew some 34% in 2004 and has turned Los Angeles, Long Beach, and Oakland into the three busiest seaports in America.

The truly significant trade development of 2004 was the EU's emergence as China's biggest economic partner, suggesting the possibility of a Sino-European cooperative bloc confronting a less vital Japanese-American one. As Britain's Financial Times observed, "Three years after its entry into the World Trade Organization [in 2001], China's influence in global commerce is no longer merely significant. It is crucial." For example, most Dell Computers sold in the U.S. are made in China, as are the DVD players of Japan's Funai Electric Company. Funai annually exports some 10 million DVD players and television sets from China to the United States, where they are sold primarily in Wal-Mart stores. China's trade with Europe in 2004 was worth $177.2 billion, with the United States $169.6 billion, and with Japan $167.8 billion.

China's growing economic weight in the world is widely recognized and applauded, but it is China's growth rates and their effect on the future global balance of power that the U.S. and Japan, rightly or wrongly, fear. The CIA's National Intelligence Council forecasts that China's GDP will equal Britain's in 2005, Germany's in 2009, Japan's in 2017, and the U.S.'s in 2042. But Shahid Javed Burki, former vice president of the World Bank's China Department and a former finance minister of Pakistan, predicts that by 2025 China will probably have a GDP of $25 trillion in terms of purchasing power parity and will have become the world's largest economy followed by the United States at $20 trillion and India at about $13 trillion -- and Burki's analysis is based on a conservative prediction of a 6% Chinese growth rate sustained over the next two decades. He foresees Japan's inevitable decline because its population will begin to shrink drastically after about 2010. Japan's Ministry of Internal Affairs reports that the number of men in Japan already declined by 0.01% in 2004; and some demographers, it notes, anticipate that by the end of the century the country's population could shrink by nearly two-thirds, from 127.7 million today to 45 million, the same population it had in 1910.

By contrast China's population is showing signs of stabilizing at approximately 1.4 billion people, and is heavily weighted toward males. (The government-imposed one-child-per-family policy and the availability of sonograms have resulted in a ratio of 129 boys born for every 100 girls; 147 boys for every 100 girls for couples seeking second or third children.) Chinese domestic economic growth is expected to continue for decades, reflecting the pent-up demand of its huge population, relatively low levels of personal debt, and a dynamic underground economy not recorded in official statistics. Most important, China's external debt is relatively small and easily covered by its reserves; whereas both the U.S. and Japan are approximately $7 trillion in the red, which is worse for Japan with less than half the U.S. population and economic clout.

Ironically, part of Japan's debt is a product of its efforts to help prop up America's global imperial stance. For example, in the period since the end of the Cold War, Japan has subsidized America's military bases in Japan to the staggering tune of approximately $70 billion. Refusing to pay for its profligate consumption patterns and military expenditures through taxes on its own citizens, the United States is financing these outlays by going into debt to Japan, China, Taiwan, South Korea, Hong Kong, and India. This situation has become increasingly unstable as the U.S. requires capital imports of at least $2 billion per day to pay for its governmental expenditures. Any decision by East Asian central banks to move significant parts of their foreign exchange reserves out of the dollar and into the euro or other currencies in order to protect themselves from dollar depreciation would produce the mother of all financial crises.

Japan still possesses the world's largest foreign exchange reserves, which at the end of January 2005 stood at around $841 billion. But China sits on a $609.9 billion pile of dollars (as of the end of 2004), earned from its trade surpluses with us. Meanwhile, the American government and Japanese followers of George W. Bush insult China in every way they can, particularly over the status of China's breakaway province, the island of Taiwan. The distinguished economic analyst William Greider recently noted, "Any profligate debtor who insults his banker is unwise, to put it mildly. . . . American leadership has . . . become increasingly delusional -- I mean that literally -- and blind to the adverse balance of power accumulating against it."

The Bush administration is unwisely threatening China by urging Japan to rearm and by promising Taiwan that, should China use force to prevent a Taiwanese declaration of independence, the U.S. will go to war on its behalf. It is hard to imagine more shortsighted, irresponsible policies, but in light of the Bush administration's Alice-in-Wonderland war in Iraq, the acute anti-Americanism it has generated globally, and the politicization of America's intelligence services, it seems possible that the U.S. and Japan might actually precipitate a war with China over Taiwan.

Japan Rearms

Since the end of World War II, and particularly since gaining its independence in 1952, Japan has subscribed to a pacifist foreign policy. It has resolutely refused to maintain offensive military forces or to become part of America's global military system. Japan did not, for example, participate in the 1991 war against Iraq, nor has it joined collective security agreements in which it would have to match the military contributions of its partners. Since the signing in 1952 of the Japan-United States Security Treaty, the country has officially been defended from so-called external threats by U.S. forces located on some 91 bases on the Japanese mainland and the island of Okinawa. The U.S. Seventh Fleet even has its home port at the old Japanese naval base of Yokosuka. Japan not only subsidizes these bases but subscribes to the public fiction that the American forces are present only for its defense. In fact, Japan has no control over how and where the U.S. employs its land, sea, and air forces based on Japanese territory, and the Japanese and American governments have until quite recently finessed the issue simply by never discussing it.

Since the end of the Cold War in 1991, the United States has repeatedly pressured Japan to revise article nine of its Constitution (renouncing the use of force except as a matter of self-defense) and become what American officials call a "normal nation." For example, on August 13, 2004, Secretary of State Colin Powell stated baldly in Tokyo that if Japan ever hoped to become a permanent member of the U.N. Security Council it would first have to get rid of its pacifist Constitution. Japan's claim to a Security Council seat is based on the fact that, although its share of global GDP is only 14%, it pays 20% of the total U.N. budget. Powell's remark was blatant interference in Japan's internal affairs, but it merely echoed many messages delivered by former Deputy Secretary of State Richard Armitage, the leader of a reactionary clique in Washington that has worked for years to remilitarize Japan and so enlarge a major new market for American arms. Its members include Torkel Patterson, Robin Sakoda, David Asher, and James Kelly at State; Michael Green on the National Security Council's staff; and numerous uniformed military officers at the Pentagon and at the headquarters of the Pacific Command at Pearl Harbor, Hawaii.

America's intention is to turn Japan into what Washington neo-conservatives like to call the "Britain of the Far East" -- and then use it as a proxy in checkmating North Korea and balancing China. On October 11, 2000, Michael Green, then a member of Armitage Associates, wrote, "We see the special relationship between the United States and Great Britain as a model for the [U.S.-Japan] alliance." Japan has so far not resisted this American pressure since it complements a renewed nationalism among Japanese voters and a fear that a burgeoning capitalist China threatens Japan's established position as the leading economic power in East Asia. Japanese officials also claim that the country feels threatened by North Korea's developing nuclear and missile programs, although they know that the North Korean stand-off could be resolved virtually overnight -- if the Bush administration would cease trying to overthrow the Pyongyang regime and instead deliver on American trade promises (in return for North Korea's agreement to give up its nuclear weapons program). Instead, on February 25, 2005, the State Department announced that "the U.S. will refuse North Korean leader Kim Jong-il's demand for a guarantee of ‘no hostile intent' to get Pyongyang back into negotiations over its nuclear weapons programs." And on March 7, Bush nominated John Bolton to be American ambassador to the United Nations even though North Korea has refused to negotiate with him because of his insulting remarks about the country.

Japan's remilitarization worries a segment of the Japanese public and is opposed throughout East Asia by all the nations Japan victimized during World War II, including China, both Koreas, and even Australia. As a result, the Japanese government has launched a stealth program of incremental rearmament. Since 1992, it has enacted 21 major pieces of security-related legislation, 9 in 2004 alone. These began with the International Peace Cooperation Law of 1992, which for the first time authorized Japan to send troops to participate in U.N. peacekeeping operations.

Remilitarization has since taken many forms, including expanding military budgets, legitimizing and legalizing the sending of military forces abroad, a commitment to join the American missile defense ("Star Wars") program -- something the Canadians refused to do in February 2005 -- and a growing acceptance of military solutions to international problems. This gradual process was greatly accelerated in 2001 by the simultaneous coming to power of President George Bush and Prime Minister Junichiro Koizumi. Koizumi made his first visit to the United States in July of that year and, in May of 2003, received the ultimate imprimatur, an invitation to Bush's "ranch" in Crawford, Texas. Shortly thereafter, Koizumi agreed to send a contingent of 550 troops to Iraq for a year, extended their stay for another year in 2004, and on October 14, 2004, personally endorsed George Bush's reelection.

A New Nuclear Giant in the Making?

Koizumi has appointed to his various cabinets hard-line anti-Chinese, pro-Taiwanese politicians. Phil Deans, director of the Contemporary China Institute in the School of Oriental and African Studies, University of London, observes, "There has been a remarkable growth of pro-Taiwan sentiment in Japan. There is not one pro-China figure in the Koizumi Cabinet." Members of the latest Koizumi Cabinet include the Defense Agency chief Yoshinori Ono, and the foreign minister Nobutaka Machimura, both ardent militarists; while Foreign Minister Machimura is a member of the right-wing faction of former Prime Minister Yoshiro Mori, which supports an independent Taiwan and maintains extensive covert ties with Taiwanese leaders and businessmen.

Taiwan, it should be remembered, was a Japanese colony from 1895 to 1945. Unlike the harsh Japanese military rule over Korea from 1910 to 1945, it experienced relatively benign governance by a civilian Japanese administration. The island, while bombed by the Allies, was not a battleground during World War II although it was harshly occupied by the Chinese Nationalists (Chiang Kai-shek's Guomindang) immediately after the war. Today, as a result, many Taiwanese speak Japanese and have a favorable view of Japan. Taiwan is virtually the only place in East Asia where Japanese are fully welcomed and liked.

Bush and Koizumi have developed elaborate plans for military cooperation between their two countries. Crucial to such plans is the scrapping of the Japanese Constitution of 1947. If nothing gets in the way, Koizumi's ruling Liberal Democratic Party (LDP) intends to introduce a new constitution on the occasion of the party's fiftieth anniversary in November 2005. This has been deemed appropriate because the LDP's founding charter of 1955 set as a basic party goal the "establishment of Japan's own Constitution" -- a reference to the fact that General Douglas MacArthur's post-World War II occupation headquarters actually drafted the current Constitution. The original LDP policy statement also called for "the eventual removal of U.S. troops from Japanese territory," which may be one of the hidden purposes behind Japan's urge to rearm.

A major goal of the Americans is to gain Japan's active participation in their massively expensive missile defense program. The Bush administration is seeking, among other things, an end to Japan's ban on the export of military technology, since it wants Japanese engineers to help solve some of the technical problems of its so far failing Star Wars system. The United States has also been actively negotiating with Japan to relocate the Army's 1st Corps from Fort Lewis, Washington, to Camp Zama, southwest of Tokyo in the densely populated prefecture of Kanagawa, whose capital is Yokohama. These U.S. forces in Japan would then be placed under the command of a four-star general, who would be on a par with regional commanders like Centcom commander John Abizaid, who lords it over Iraq and South Asia. The new command would be in charge of all Army "force projection" operations beyond East Asia and would inevitably implicate Japan in the daily military operations of the American empire. Garrisoning even a small headquarters, much less the whole 1st Corps made up of an estimated 40,000 soldiers, in a sophisticated and centrally located prefecture like Kanagawa is also guaranteed to generate intense public opposition as well as rapes, fights, car accidents and other incidents similar to the ones that occur daily in Okinawa.

Meanwhile, Japan intends to upgrade its Defense Agency (Boeicho) into a ministry and possibly develop its own nuclear weapons capability. Goading the Japanese government to assert itself militarily may well cause the country to go nuclear in order to "deter" China and North Korea, while freeing Japan from its dependency on the American "nuclear umbrella." The military analyst Richard Tanter notes that Japan already has "the undoubted capacity to satisfy all three core requirements for a usable nuclear weapon: a military nuclear device, a sufficiently accurate targeting system, and at least one adequate delivery system." Japan's combination of fully functioning fission and breeder reactors plus nuclear fuel reprocessing facilities gives it the ability to build advanced thermonuclear weapons; its H-II and H-IIA rockets, in-flight refueling capacity for fighter bombers, and military-grade surveillance satellites assure that it could deliver its weapons accurately to regional targets. What it currently lacks are the platforms (such as submarines) for a secure retaliatory force in order to dissuade a nuclear adversary from launching a pre-emptive first-strike.

The Taiwanese Knot

Japan may talk a lot about the dangers of North Korea, but the real objective of its rearmament is China. This has become clear from the ways in which Japan has recently injected itself into the single most delicate and dangerous issue of East Asian international relations -- the problem of Taiwan. Japan invaded China in 1931 and was its wartime tormentor thereafter as well as Taiwan's colonial overlord. Even then, however, Taiwan was viewed as a part of China, as the United States has long recognized. What remains to be resolved are the terms and timing of Taiwan's reintegration with the Chinese mainland. This process was deeply complicated by the fact that in 1987 Chiang Kai-shek's Nationalists, who had retreated to Taiwan in 1949 at the end of the Chinese civil war (and were protected there by the American Seventh Fleet ever after), finally ended martial law on the island. Taiwan has since matured into a vibrant democracy and the Taiwanese are now starting to display their own mixed opinions about their future.

In 2000, the Taiwanese people ended a long monopoly of power by the Nationalists and gave the Democratic Progressive Party, headed by President Chen Shui-bian, an electoral victory. A native Taiwanese (as distinct from the large contingent of mainlanders who came to Taiwan in the baggage train of Chiang's defeated armies), Chen stands for an independent Taiwan, as does his party. By contrast, the Nationalists, together with a powerful mainlander splinter party, the People First Party headed by James Soong (Song Chuyu), hope to see an eventual peaceful unification of Taiwan with China. On March 7, 2005, the Bush administration complicated these delicate relations by nominating John Bolton to be the American ambassador to the United Nations. He is an avowed advocate of Taiwanese independence and was once a paid consultant to the Taiwanese government.

In May 2004, in a very close and contested election, Chen Shui-bian was reelected, and on May 20, the notorious right-wing Japanese politician Shintaro Ishihara attended his inauguration in Taipei. (Ishihara believes that Japan's 1937 Rape of Nanking was "a lie made up by the Chinese.") Though Chen won with only 50.1% of the vote, this was still a sizeable increase over his 33.9% in 2000, when the opposition was divided. The Taiwan Ministry of Foreign Affairs immediately appointed Koh Se-kai as its informal ambassador to Japan. Koh has lived in Japan for some 33 years and maintains extensive ties to senior political and academic figures there. China responded that it would "completely annihilate" any moves toward Taiwanese independence -- even if it meant scuttling the 2008 Beijing Olympics and good relations with the United States.

Contrary to the machinations of American neo-cons and Japanese rightists, however, the Taiwanese people have revealed themselves to be open to negotiating with China over the timing and terms of reintegration. On August 23, 2004, the Legislative Yuan (Taiwan's parliament) enacted changes in its voting rules to prevent Chen from amending the Constitution to favor independence, as he had promised to do in his reelection campaign. This action drastically lowered the risk of conflict with China. Probably influencing the Legislative Yuan was the warning issued on August 22 by Singapore's new prime minister, Lee Hsien-loong: "If Taiwan goes for independence, Singapore will not recognize it. In fact, no Asian country will recognize it. China will fight. Win or lose, Taiwan will be devastated."

The next important development was parliamentary elections on December 11, 2004. President Chen called his campaign a referendum on his pro-independence policy and asked for a mandate to carry out his reforms. Instead he lost decisively. The opposition Nationalists and the People First Party won 114 seats in the 225-seat parliament, while Chen's DPP and its allies took only 101. (Ten seats went to independents.) The Nationalist leader, Lien Chan, whose party won 79 seats to the DPP's 89, said, "Today we saw extremely clearly that all the people want stability in this country."

Chen's failure to capture control of parliament also meant that a proposed purchase of $19.6 billion worth of arms from the United States was doomed. The deal included guided-missile destroyers, P-3 anti-submarine aircraft, diesel submarines, and advanced Patriot PAC-3 anti-missile systems. The Nationalists and James Soong's supporters regard the price as too high and mostly a financial sop to the Bush administration, which has been pushing the sale since 2001. They also believe the weapons would not improve Taiwan's security.

On December 27, 2004, mainland China issued its fifth Defense White Paper on the goals of the country's national defense efforts. As one long-time observer, Robert Bedeski, notes, "At first glance, the Defense White Paper is a hard-line statement on territorial sovereignty and emphasizes China's determination not to tolerate any moves at secession, independence, or separation. However, the next paragraph . . . indicates a willingness to reduce tensions in the Taiwan Strait: so long as the Taiwan authorities accept the one China principle and stop their separatist activities aimed at ‘Taiwan independence,' cross-strait talks can be held at any time on officially ending the state of hostility between the two sides."

It appears that this is also the way the Taiwanese read the message. On February 24, 2005, President Chen Shui-bian met for the first time since October 2000 with Chairman James Soong of the People First Party. The two leaders, holding diametrically opposed views on relations with the mainland, nonetheless signed a joint statement outlining ten points of consensus. They pledged to try to open full transport and commercial links across the Taiwan Strait, increase trade, and ease the ban on investments in China by many Taiwanese business sectors. The mainland reacted favorably at once. Astonishingly, this led Chen Shui-bian to say that he "would not rule out Taiwan's eventual reunion with China, provided Taiwan's 23 million people accepted it."

If the United States and Japan left China and Taiwan to their own devices, it seems possible that they would work out a modus vivendi. Taiwan has already invested some $150 billion in the mainland, and the two economies are becoming more closely integrated every day. There also seems to be a growing recognition in Taiwan that it would be very difficult to live as an independent Chinese-speaking nation alongside a country with 1.3 billion people, 3.7 million square miles of territory, a rapidly growing $1.4 trillion economy, and aspirations to regional leadership in East Asia. Rather than declaring its independence, Taiwan may try to seek a status somewhat like that of French Canada -- a kind of looser version of a Chinese Quebec under nominal central government control but maintaining separate institutions, laws, and customs.

The mainland would be so relieved by this solution it would probably accept it, particularly if it could be achieved before the 2008 Beijing Olympics. China fears that Taiwanese radicals want to declare independence a month or two before those Olympics, betting that China would not attack then because of its huge investment in the forthcoming games. Most observers believe, however, that China would have no choice but to go to war because failure to do so would invite a domestic revolution against the Chinese Communist Party for violating the national integrity of China.

Sino-American and Sino-Japanese Relations Spiral Downward

It has long been an article of neo-con faith that the U.S. must do everything in its power to prevent the development of rival power centers, whether friendly or hostile. After the collapse of the Soviet Union, this meant they turned their attention to China as one of our probable next enemies. In 2001, having come to power, the neo-conservatives shifted much of our nuclear targeting from Russia to China. They also began regular high-level military talks with Taiwan over defense of the island, ordered a shift of Army personnel and supplies to the Asia-Pacific region, and worked strenuously to promote the remilitarization of Japan.

On April 1, 2001, a U.S. navy EP-3E Aries II electronic spy plane collided with a Chinese jet fighter off the south China coast. The American aircraft was on a mission to provoke Chinese radar defenses and then record the transmissions and procedures the Chinese used in sending up interceptors. The Chinese jet went down and the pilot lost his life, while the American plane landed safely on Hainan Island and its crew of twenty-four spies was well treated by the Chinese authorities.

It soon became clear that China was not interested in a confrontation, since many of its most important investors have their headquarters in the United States. But it could not instantly return the crew of the spy plane without risking powerful domestic criticism for obsequiousness in the face of provocation. It therefore delayed eleven days until it received a pro forma American apology for causing the death of a Chinese pilot on the edge of the country's territorial air space and for making an unauthorized landing at a Chinese military airfield. Meanwhile, our media had labeled the crew as "hostages," encouraged their relatives to tie yellow ribbons around neighborhood trees, hailed the President for doing "a first-rate job" to free them, and endlessly criticized China for its "state-controlled media." They carefully avoided mentioning that the United States enforces around our country a 200-mile aircraft-intercept zone that stretches far beyond territorial waters.

On April 25, 2001, during an interview on national television, President Bush was asked whether he would ever use "the full force of the American military" against China for the sake of Taiwan. He responded, "Whatever it takes to help Taiwan defend herself." This was American policy until 9/11, when China enthusiastically joined the "war on terrorism" and the President and his neo-cons became preoccupied with their "axis of evil" and making war on Iraq. The United States and China were also enjoying extremely close economic relations, which the big- business wing of the Republican Party did not want to jeopardize.

The Middle East thus trumped the neo-cons' Asia policy. While the Americans were distracted, China went about its economic business for almost four years, emerging as a powerhouse of Asia and a potential organizing node for Asian economies. Rapidly industrializing China also developed a voracious appetite for petroleum and other raw materials, which brought it into direct competition with the world's largest importers, the U.S. and Japan.

By the summer of 2004, Bush strategists, distracted as they were by Iraq, again became alarmed over China's growing power and its potential to challenge American hegemony in East Asia. The Republican Party platform unveiled at its convention in New York in August proclaimed that "America will help Taiwan defend itself." During that summer, the Navy also carried out exercises it dubbed "Operation Summer Pulse ‘04," which involved the simultaneous deployment at sea of seven of our twelve carrier strike groups. An American carrier strike group includes an aircraft carrier (usually with 9 or 10 squadrons of planes, a total of about 85 aircraft in all), a guided missile cruiser, two guided missile destroyers, an attack submarine, and a combination ammunition-oiler-supply ship. Deploying seven such armadas at the same time was unprecedented -- and very expensive. Even though only three of the carrier strike groups were sent to the Pacific and no more than one was patrolling off Taiwan at a time, the Chinese became deeply alarmed that this marked the beginning of an attempted rerun of 19th century gunboat diplomacy aimed at them.

This American show of force and Chen Shui-bian's polemics preceding the December elections also seemed to overstimulate the Taiwanese. On October 26 in Beijing, Secretary of State Colin Powell tried to calm things down by declaring to the press, "Taiwan is not independent. It does not enjoy sovereignty as a nation, and that remains our policy, our firm policy… We want to see both sides not take unilateral action that would prejudice an eventual outcome, a reunification that all parties are seeking."

Powell's statement seemed unequivocal enough, but significant doubts persisted about whether he had much influence within the Bush administration or whether he could speak for Vice President Cheney and Secretary of Defense Donald Rumsfeld. Early in 2005, Porter Goss, the new director of the CIA, Defense Secretary Rumsfeld, and Admiral Lowell Jacoby, head of the Defense Intelligence Agency, all told Congress that China's military modernization was going ahead much faster than previously believed. They warned that the 2005 Quadrennial Defense Review, the every four-year formal assessment of U.S. military policy, would take a much harsher view of the threat posed by China than the 2001 overview.

In this context, the Bush administration, perhaps influenced by the election of November 2 and the transition from Colin Powell's to Condi Rice's State Department, played its most dangerous card. On February 19, 2005 in Washington, it signed a new military agreement with Japan. For the first time, Japan joined the administration in identifying security in the Taiwan Strait as a "common strategic objective." Nothing could have been more alarming to China's leaders than the revelation that Japan had decisively ended six decades of official pacifism by claiming a right to intervene in the Taiwan Strait.

It is possible that, in the years to come, Taiwan itself may recede in importance to be replaced by even more direct Sino-Japanese confrontations. This would be an ominous development indeed, one that the United States would be responsible for having abetted but would certainly be unable to control. The kindling for a Sino-Japanese explosion has long been in place. After all, during World War II the Japanese killed approximately 23 million Chinese throughout East Asia -- higher casualties than the staggering ones suffered by Russia at the hands of the Nazis -- and yet Japan refuses to atone for or even acknowledge its historical war crimes. Quite the opposite, it continues to rewrite history, portraying itself as the liberator of Asia and a victim of European and American imperialism.

In -- for the Chinese -- a painful act of symbolism, after becoming Japanese prime minister in 2001, Junichiro Koizumi made his first official visit to Yasukuni Shrine in Tokyo, a practice that he has repeated every year since. Koizumi likes to say to foreigners that he is merely honoring Japan's war dead. Yasukuni, however, is anything but a military cemetery or a war memorial. It was established in 1869 by Emperor Meiji as a Shinto shrine (though with its torii archways made of steel rather than the traditional red-painted wood) to commemorate the lives lost in campaigns to return direct imperial rule to Japan. During World War II, Japanese militarists took over the shrine and used it to promote patriotic and nationalistic sentiments. Today, Yasukuni is said to be dedicated to the spirits of approximately 2.4 million Japanese who have died in the country's wars, both civil and foreign, since 1853.

In 1978, for reasons that have never been made clear, General Hideki Tojo and six other wartime leaders who had been hanged by the Allied Powers as war criminals were collectively enshrined at Yasukuni. The current chief priest of the shrine denies that they were war criminals, saying, "The winner passed judgment on the loser." In a museum on the shrine's grounds, there is a fully restored Mitsubishi Zero Type 52 fighter aircraft that a placard says made its combat debut in 1940 over Chongqing, then the wartime capital of the Republic of China. It was undoubtedly not an accident that, in Chongqing during the 2004 Asian Cup soccer finals, Chinese spectators booed the playing of the Japanese national anthem. Yasukuni's leaders have always claimed close ties to the imperial household, but the late Emperor Hirohito last visited the shrine in 1975 and Emperor Akihito has never been there.

The Chinese regard Yasukuni visits by the Japanese prime minister as insulting, somewhat comparable perhaps to Britain's Prince Harry dressing up as a Nazi for a costume party. Nonetheless, Beijing has tried in recent years to appease Tokyo. Chinese President Hu Jintao rolled out the red carpet for Yohei Kono, speaker of the Japanese Diet's House of Representatives, when he visited China in September 2004; he appointed Wang Yi, a senior moderate in the Chinese foreign service, as ambassador to Japan; and he proposed joint Sino-Japanese exploration of possible oil resources in the offshore seas that both sides claim. All such gestures were ignored by Koizumi who insists that he intends to go on visiting Yasukuni.

Matters came to a head in November 2004 at two important summit meetings: an Asia-Pacific Economic Cooperation (APEC) gathering in Santiago, Chile, followed immediately by an Association of Southeast Asian Nations (ASEAN) meeting with the leaders of China, Japan, and South Korea that took place in Vientiane, Laos. In Santiago, Hu Jintao directly asked Koizumi to cease his Yasukuni visits for the sake of Sino-Japanese friendship. Seemingly as a reply, Koizumi went out of his way to insult Chinese Premier Wen Jiabao in Vientiane. He said to Premier Wen, "It's about time for [China's] graduation [as a recipient of Japanese foreign aid payments]," implying that Japan intended unilaterally to end its 25-year-old financial aid program. The word "graduation" also conveyed the insulting implication that Japan saw itself as a teacher guiding China, the student.

Koizumi next gave a little speech about the history of Japanese efforts to normalize relations with China, to which Premier Wen replied, "Do you know how many Chinese people died in the Sino-Japanese war?" Wen went on to suggest that China had always regarded Japan's foreign aid, which he said China did not need, as payments in lieu of compensation for damage done by Japan in China during the war. He pointed out that China had never asked for reparations from Japan and that Japan's payments amounted to about $30 billion over 25 years, a fraction of the $80 billion Germany has paid to the victims of Nazi atrocities even though Japan is the more populous and richer country.

On November 10, 2004, the Japanese Navy discovered a Chinese nuclear submarine in Japanese territorial waters near Okinawa. Although the Chinese apologized and called the sub's intrusion a "mistake," Defense Agency Director Ono gave it wide publicity, further inflaming Japanese public opinion against China. From that point on, relations between Beijing and Tokyo have gone steadily downhill, culminating in the Japanese-American announcement that Taiwan was of special military concern to both of them, which China denounced as an "abomination."

Over time this downward spiral in relations will probably prove damaging to the interests of both the United States and Japan, but particularly to those of Japan. China is unlikely to retaliate directly but is even less likely to forget what has happened -- and it has a great deal of leverage over Japan. After all, Japanese prosperity increasingly depends on its ties to China. The reverse is not true. Contrary to what one might expect, Japanese exports to China jumped 70% between 2001 and 2004, providing the main impetus for a sputtering Japanese economic recovery. Some 18,000 Japanese companies have operations in China. In 2003, Japan passed the United States as the top destination for Chinese students going abroad for a university education. Nearly 70,000 Chinese students now study at Japanese universities compared to 65,000 at American academic institutions. These close and lucrative relations are at risk if the U.S. and Japan pursue their militarization of the region.

A Multipolar World

Tony Karon of Time magazine has observed, "All over the world, new bonds of trade and strategic cooperation are being forged around the U.S. China has not only begun to displace the U.S. as the dominant player in the Asia Pacific Economic Cooperation organization (APEC), it is fast emerging as the major trading partner to some of Latin America's largest economies. . . . French foreign policy think tanks have long promoted the goal of ‘multipolarity' in a post-Cold War world, i.e., the preference for many different, competing power centers rather than the ‘unipolarity' of the U.S. as a single hyper-power. Multipolarity is no longer simply a strategic goal. It is an emerging reality."

Evidence is easily found of multipolarity and China's prominent role in promoting it. Just note China's expanding relations with Iran, the European Union, Latin America, and the Association of Southeast Asian Nations. Iran is the second largest OPEC oil producer after Saudi Arabia and has long had friendly relations with Japan, which is its leading trading partner. (Ninety-eight percent of Japan's imports from Iran are oil.) On February 18, 2004, a consortium of Japanese companies and the Iranian government signed a memorandum of agreement to develop jointly Iran's Azadegan oil field, one of the world's largest, in a project worth $2.8 billion. The U.S. has opposed Japan's support for Iran, causing Congressman Brad Sherman (D-CA) to charge that Bush had been bribed into accepting the Japanese-Iranian deal by Koizumi's dispatch of 550 Japanese troops to Iraq, adding a veneer of international support for the American war there.

But the long-standing Iranian-Japanese alignment began to change in late 2004. On October 28, China's oil major, the Sinopec Group, signed an agreement with Iran worth between $70 and $100 billion to develop the giant Yadavaran natural gas field. China agreed to buy 250 million tons of liquefied natural gas (LNG) from Iran over 25 years. It is the largest deal Iran has signed with a foreign country since 1996 and will include several other benefits, including China's assistance in building numerous ships to deliver the LNG to Chinese ports. Iran also committed itself to exporting 150,000 barrels of crude oil per day to China for 25 years at market prices.

Iran's oil minister, Bijan Zanganeh, on a visit to Beijing noted that Iran is China's biggest foreign oil supplier and said that his country wants to be China's long-term business partner. He told China Business Weekly that Tehran would like to replace Japan with China as the biggest customer for its oil and gas. The reason is obvious: American pressure on Iran to give up its nuclear power development program and the Bush administration's declared intention to take Iran to the U.N. Security Council for the imposition of sanctions (which a Chinese vote could veto). On November 6, 2004, Chinese Foreign Minister Li Zhaoxing paid a rare visit to Tehran. In meetings with Iranian President Mohammad Khatami, Li said that Beijing would indeed consider vetoing any American effort to sanction Iran at the Security Council. The U.S. has also charged China with selling nuclear and missile technology to Iran.

China and Iran already did a record $4 billion worth of two-way business in 2003. Projects included China's building of the first stage of Tehran's Metro and a contract to build a second link worth $836 million. China will be the top contender to build four other planned lines, including a 19 mile track to the airport. In February 2003, Chery Automobile Company, the eighth largest automaker in China, opened its first overseas production plant in Iran. Today, it manufactures 30,000 Chery cars annually in northeastern Iran. Beijing is also negotiating to construct a 240 mile pipeline from Iran to the northern Caspian Sea to connect with the long-distance Kazakhstan to Xinjiang pipeline that it began building in October 2004. The Kazakh pipeline has a capacity to deliver 10 million tons of oil to China per year. Despite American bluster and belligerence, Iran is anything but isolated in today's world.

The EU is China's largest trading partner and China is the EU's second largest trading partner (after the United States). Back in 1989, to protest the suppression of pro-democracy demonstrators in Beijing's Tiananmen Square, the EU imposed a ban on military sales to China. The only other countries so treated are true international pariahs like Burma, Sudan, and Zimbabwe. Even North Korea is not subject to a formal European arms embargo. Given that the Chinese leadership has changed several times since 1989 and as a gesture of goodwill, the EU has announced its intention to lift the embargo. Jacques Chirac, the French president, is one of the strongest proponents of the idea of replacing American hegemony with a "multipolar world." On a visit to Beijing in October 2004, he said that China and France share "a common vision of the world" and that lifting the embargo will "mark a significant milestone: a moment when Europe had to make a choice between the strategic interests of America and China -- and chose China."

In his trip to Western Europe in February 2005, Bush repeatedly said, "There is deep concern in our country that a transfer of weapons would be a transfer of technology to China, which would change the balance of relations between China and Taiwan." In early February, the House of Representatives voted 411 to 3 in favor of a resolution condemning the potential EU move. The Europeans and Chinese contend that the Bush administration has vastly overstated its case, that no weapons capable of changing the balance of power are involved, and that the EU is not aiming to win massive new defense contracts from China but to strengthen mutual economic relations in general. Immediately following Bush's tour of Europe, the EU Trade Commissioner, Peter Mandelson, arrived in Beijing for his first official visit. The purpose of his trip, he said, was to stress the need to create a new strategic partnership between China and Europe.

Washington has buttressed its hard-line stance with the release of many new intelligence estimates depicting China as a formidable military threat. Whether this intelligence is politicized or not, it argues that China's military modernization is aimed precisely at countering the Navy's carrier strike groups, which would assumedly be used in the Taiwan Strait in case of war. China is certainly building a large fleet of nuclear submarines and is an active participant in the EU's Galileo Project to produce a satellite navigation system not controlled by the American military. The Defense Department worries that Beijing might adapt the Galileo technology to anti-satellite purposes. American military analysts are also impressed by China's launch, on October 15, 2003, of a spacecraft containing a single astronaut who was successfully returned to Earth the following day. Only the former USSR and the United States had previously sent humans into outer space.

China already has 500 to 550 short-range ballistic missiles deployed opposite Taiwan and has 24 CSS-4 ICBMs with a range of 13,000 km to deter an American missile attack on the Chinese mainland. According to Richard Fisher, a researcher at the U.S.-based Center for Security Policy, "The forces that China is putting in place right now will probably be more than sufficient to deal with a single American aircraft carrier battle group." Arthur Lauder, a professor of international relations at the University of Pennsylvania, concurs. He says that the Chinese military "is the only one being developed anywhere in the world today that is specifically configured to fight the United States of America."

The U.S. obviously cannot wish away this capability, but it has no evidence that China is doing anything more than countering the threats coming from the Bush administration. It seeks to avoid war with Taiwan and the U.S. by deterring them from separating Taiwan from China. For this reason, in March 2005, China's pro-forma legislature, the National People's Congress, passed a law making secession from China illegal and authorizing the use of force in case a territory tried to leave the country.

The Japanese government, of course, backs the American position that China constitutes a military threat to the entire region. Interestingly enough, however, the Australian government of John Howard, a loyal American ally when it comes to Iraq, has decided to defy Bush on the issue of lifting the European arms embargo. Australia places a high premium on good relations with China and is hoping to negotiate a free trade agreement between the two countries. Canberra has therefore decided to support the EU in lifting the 15-year-old embargo. Chirac and German Chancellor Gerhard Schröder both say, "It will happen."

The United States has long proclaimed that Latin America is part of its "sphere of influence," and because of that most foreign countries have tread carefully in doing business there. However, in the search for fuel and minerals for its booming economy, China is openly courting many Latin American countries regardless of what Washington thinks. On November 15, 2004, President Hu Jintao ended a five day visit to Brazil during which he signed more than a dozen accords aimed at expanding Brazil's sales to China and Chinese investment in Brazil. Under one agreement Brazil will export to China as much as $800 million annually in beef and poultry. In turn, China agreed with Brazil's state-controlled oil company to finance a $1.3 billion gas pipeline between Rio de Janeiro and Bahia once technical studies are completed. China and Brazil also entered into a "strategic partnership" with the objective of raising the value of bilateral trade from $10 billion in 2004 to $20 billion by 2007. President Hu said that this partnership symbolized "a new international political order that favored developing countries."

In the weeks that followed, China signed important investment and trade agreements with Argentina, Venezuela, Bolivia, Chile, and Cuba. Of particular interest, in December 2004, President Hugo Chavez of Venezuela visited China and agreed to give it wide-ranging access to his country's oil reserves. Venezuela is the world's fifth largest oil exporter and normally sells about 60% of its output to the United States, but under the new agreements China will be allowed to operate 15 mature oil fields in eastern Venezuela. China will invest around $350 million to extract oil and another $60 million in natural gas wells.

China is also working to integrate East Asia's smaller countries into some form of new economic and political community. Such an alignment, if it comes into being, will certainly erode American and Japanese influence in the area. In November 2004, the ten nations that make up ASEAN or the Association of Southeast Asian Nations (Brunei, Burma, Cambodia, Indonesia, Laos, Malaysia, the Philippines, Singapore, Thailand, and Vietnam), met in the Laotian capital of Vientiane, joined by the leaders of China, Japan, and South Korea. The United States was not invited and the Japanese officials seemed uncomfortable being there. The purpose was to plan for an East Asian summit meeting to be held in November 2005 to begin creating an "East Asia Community." In December 2004, the ASEAN countries and China also agreed to create a free-trade zone among themselves by 2010.

According to Edward Cody of the Washington Post, "Trade between China and the 10 ASEAN countries has increased about 20% a year since 1990, and the pace has picked up in the last several years." This trade hit $78.2 billion in 2003 and was reported to be about $100 billion by the end of 2004. As the senior Japanese political commentator Yoichi Funabashi observes, "The ratio of intra-regional trade [in East Asia] to worldwide trade was nearly 52% in 2002. Though this figure is lower than the 62% in the EU, it tops the 46% of NAFTA [the North American Free Trade Agreement]. East Asia is thus becoming less dependent on the U.S. in terms of trade."

China is the primary moving force behind these efforts. According to Funabashi China's leadership plans to use the country's explosive economic growth and its ever more powerful links to regional trading partners to marginalize the United States and isolate Japan in East Asia. He argues that the United States underestimated how deeply distrusted it had become in the region thanks to its narrow-minded and ideological response to the East Asian financial crisis of 1997, which it largely caused. On November 30, 2004, Michael Reiss, the director of policy planning in the State Department, said in Tokyo, "The U.S., as a power in the Western Pacific, has an interest in East Asia. We would be unhappy about any plans to exclude the U.S. from the framework of dialogue and cooperation in this region." But it is probably already too late for the Bush administration to do much more than delay the arrival of a China-dominated East Asian community, particularly because of declining American economic and financial strength.

For Japan, the choices are more difficult still. Sino-Japanese enmity has had a long history in East Asia, always with disastrous outcomes. Before World War II, one of Japan's most influential writers on Chinese affairs, Hotsumi Ozaki, prophetically warned that Japan, by refusing to adjust to the Chinese revolution and instead making war on it, would only radicalize the Chinese people and contribute to the coming to power of the Chinese Communist Party. He spent his life working on the question "Why should the success of the Chinese revolution be to Japan's disadvantage?" In 1944, the Japanese government hanged Ozaki as a traitor, but his question remains as relevant today as it was in the late 1930s.

Why should China's emergence as a rich, successful country be to the disadvantage of either Japan or the United States? History teaches us that the least intelligent response to this development would be to try to stop it through military force. As a Hong Kong wisecrack has it, China has just had a couple of bad centuries and now it's back. The world needs to adjust peacefully to its legitimate claims -- one of which is for other nations to stop militarizing the Taiwan problem -- while checking unreasonable Chinese efforts to impose its will on the region. Unfortunately, the trend of events in East Asia suggests we may yet see a repetition of the last Sino-Japanese conflict, only this time the U.S. is unlikely to be on the winning side.

Chalmers Johnson is president of the Japan Policy Research Institute. The first two books in his Blowback Trilogy -- Blowback: The Costs and Consequences of American Empire, and The Sorrows of Empire: Militarism, Secrecy, and the End of the Republic -- are now available in paperback. The third volume is being written