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Sunday, October 25, 2009

Today's Financial Crisis Was Predicted Almost 50 Years Ago, But Few Believed Or Understood

There's a real problem with mutual funds and the investment industry that promotes them. Understanding how the mutual fund industry is hurting your future isn't hard, but the solution is even simpler.

In this article, I'm going to introduce you to the source of problems in today's mutual fund industry. The place I'll start is someplace that you may not think is connected, but it is. I'm referring to a speech that was given on January 17, 1961. President Dwight D. Eisenhower had been running our country, and this was his farewell address to the country. This was a pretty dramatic moment. He had nothing to lose, no political office or fundraising to worry about. It was a moment of truth. Here, almost 50 years later, his speech is still remembered. It was really striking at the time.

He was warning us of a rising problem that he called the "military industrial complex." As a former general of the US Army, he really had a front row seat to the workings of the military. And then, of course, he was not a general but also Commander-in-Chief for eight years. From his front-row seat, he watched the massive buildup this country was undergoing in regards to the industrial complex. He talked about how this sector was intrinsically prone to moral hazard.

If you don't know what "moral hazard" means, it's when someone is protected from the risk or downside of his or her own actions. In other words, there is no negative consequence to their self-serving actions. As you might imagine, this can lead to very risky practices. This is true not only in the military or industrial military world, but also in the financial world.

Given Eisenhower's background, many people were stunned that he specifically used that term, "moral hazard," or even talked about this as a problem at all. He also described about how the military-industrial complex was prone to what is called "principal agent" problems. That's when the person you hire to help or protect you is more aligned with his or her own self-interests than yours. It's also a nice way of saying crooked. All this sounds familiar when you consider what has been going on at Wall Street and the financial world.

The third term he used was "rent seeking." That's when you hire someone who then makes money unfairly by manipulating the system he is operating in. This amounts to lying so skillfully that almost everyone buys it. Even the liar may come to believe it. Even so, it's still a lie.

President Eisenhower saw this happening in the 1950's, and he was quite concerned about it. This is also a very good description of what's been going on in the U.S. since the 1980's.

Now, in general terms, Eisenhower was talking about defense contractors when he talked about the military- industrial complex. But in a broader sense, he was also talking about the Pentagon, the Congress and the Executive branch. It's very similar to what's going on today, a kind of "industrial-investment complex." In the 1950's, 1960's, and 1970's, the industrial-military complex was putting the US at risk of collapse. And in the 1980's, 1990's, and 2000's, it's the industrial-investment complex that is more dangerous to the stability and safety of this country. The industrial-investment complex is not only Wall Street, but also credit card companies, banking companies, insurance companies, Congress and the Executive branch. They're all in on it. The SEC, the Commodities Futures Trading Commission, the Treasury and the Fed are all involved here. No one wants to admit it, but they're all systematically part of the problem.

If you are serious about making your money grow, then you have to understand how this complex works against you. It's not so much a conspiracy as a powerful force that moves against your wealth.

How the problems we heard about from Eisenhower were repeated is another topic, but we didn't learn from them. So we continued the pattern of greed and deception, and that laid the groundwork for where we are today. The conventional methods, ideas, and approach to wealth are crumbling. The status quo is rapidly changing. You have to ask yourself which side of the bursting bubble you want to be on, because there are always two sides.

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