There are revolutions, wars, and historical periods that have defined global developments and carry significant weight in shaping up the world economy to this day. There is little if any doubt that France during the Revolutionary Wars, Britain during the Napoleonic Wars, and the Union government during America’s Civil War took drastic economic actions that changed the economic order of that day and set the precedent for today. In all of those instances, the governments issued paper currency, defiled the principles of sound money, and finance their respective economies by flooding them with paper money.

It is not an accident that paper money has almost always been a war time expedient, introduced under extraordinary conditions as a means of financing a war effort. Of course, to the list we would add the wars since the beginning of this century and certainly the war – via unorthodox monetary measures – on the financial crisis since 2007. What a pity then that despite such extraordinary measures since 2007, the causes of the crisis are still around us, since we committed in treating the symptoms and left untouched the undercurrent causes.

In all those cases paper money failed to hold its value against real hard assets (such as gold), but managed to create unprecedented amounts of debts that the governments undertook and passed on to the public. In the beginning of this century you only needed $250 for a troy ounce of gold and nowadays you need over $1200. Moreover, in all those cases (dated back more than 250 years) the governments issued bonds that became a bondage to the general public since taxes had to be raised for those bonds to be paid off (US debt went from about $5 trillion in 2000 to almost $19 trillion today). The financial system misconceived the concept of market lubrication, and created a mechanism that marketed liabilities as assets.

Government borrowing stimulates financial innovations. Prior to the Civil War the United States had neither a national currency nor a national banking system (let alone a central bank). The introduction of the greenback allowed far greater central control than at any time prior to its introduction. The National Currency Act of 1863 pushed the exercise of federal power beyond any precedent in any field.

In England government borrowing gave birth to the idea of a private-held central bank in the late 1600s. It was again unsustainable levels of debt in both Paris and London in the early 18th century that forced the governments to seek conversion of debt into equity and allowed private interests to control money supply and the credit creation mechanism. In the US, it was again the issuance of government debt that provided the platform which launched the careers of those who distinguished themselves as financiers.

The unfortunate thing that we forget is that the American economy became a locomotive of growth and start experiencing rapid growth when a reversal of financial innovation took place in 1875. That was the year that specie payments were resumed. The Resumption Act of January 14, 1875 established a monetary anchor to the madness of money creation and reversed the inflationary pressures in the economy. The growth rate was such that every ten years the size of the economy was doubling.

Nowadays, we may be experiencing another kind of inflation in paper assets, and most if not all kinds of inflations end up badly.

These days we celebrate the lowest level of the fear index and we rely on a smooth transition from glory to glory in paper assets. There are four facts that we would like to mention before closing this commentary: First, the MSCI All-Country Index has been reaching new heights. Second, there seem to be signs of softening not only in the US (e.g. auto sales, and the Economic Surprise Index that turned negative), but also in China. If these two countries start sneezing simultaneously in the next 6-10 months, then trouble might not be far. Third, while economic indicators seem to be healthy (e.g. shipments of durable goods, earnings, and consumer as well as business sentiment), complacency is rising and this is not healthy. Valuations – among developed markets mainly for US stocks – are stretched, especially when the metric is the median price-to-cash flow ratio.

In conclusion, we would say that before we start singing Sic Transit Gloria Mundi, we may need a true financial (r)evolution.