Ron Paul’s new book End the Fed exemplifies H.L. Mencken’s dictum: “Explanations exist; they have existed for all time; there is always a well-known solution to every human problem — neat, plausible, and wrong.”
Paul’s explanation for many U.S. economic and political ills — not just the recent crisis but the business cycle overall, and even welfare dependence and foreign wars — is that the Federal Reserve caused or enabled them. His solution is to abolish the Fed, with preliminary steps including (as his current legislation calls for) expanding the Government Accountability Office’s power to audit Fed transactions. He calls for a return to the gold standard, and for private currencies to compete with the federal dollar.
His explanation mixes some legitimate concerns into a stew of exaggeration, misdirection and conspiracy-mongering. His solution combines the counterproductive with the untried, and is offered with an ideologue’s certitude that no adverse consequences or difficult tradeoffs need be considered.
Paul is right to be concerned about the Fed’s capacity to expand the money supply and generate inflation. (Incidentally, he defines inflation not as a general rise in prices but as any expansion of the money supply, a neologism that produces nothing but confusion.) But his audit bill, by making the Fed more susceptible to political manipulation, will only increase such inflationary proclivities. The record is clear that central banks with some insulation from political pressure are better at curtailing inflation.
The financial crisis that blew up in 2008 evidently had many causes, with actions by government as well as by the private sector contributing in various ways. Paul sticks with a mono-causal explanation, blaming it all on the Fed (for keeping interest rates too low and enabling government bailouts; not, of course, for being lax in regulatory oversight). That provides a convenient scapegoat but a simplistic view of a complex situation. Market dynamics (e.g., banks gorging on mortgage-backed securities) and a lack of government activism (e.g., Treasury’s decision not to bail out Lehman Bros.) played a role in the crisis, and it is far from clear what would have happened if the Fed had not pumped up liquidity in response.
Financial crises occurred in America long before the Fed was created in 1913. The 19th century was rife with severe crises, most of which occurred long after the Fed’s precursors, the First and Second Banks of the United States, had been driven out of existence by the anti-financial populists of their day. Paul shrugs off this significant counterevidence to his argument, and seems to have ruled out on a priori grounds the possibility that financial crises can occur without government causing them in some way.
Similarly, he downplays the Panic of 1907, when the financial system came close to collapse and was held together, barely, by J.P. Morgan, Sr., who acted as a de facto central banker in organizing a consortium of banks and deciding where to direct funds to stem the tide of withdrawals and collapses. Paul, who repeatedly complains that the Fed serves the interests of the Wall Street elite, seems unaware that the central bank was created in significant part to avoid leaving systemic responsibility in the hands of a small number of private-sector bankers.
On page 150 of End the Fed, Paul describes the Fed itself as a “private bank,” a false description that is a staple of conspiracy literature. In reality, the Fed’s Board of Governors, which has the final word on policy, is a clear-cut government agency, with members appointed by the President of the United States, and the Fed’s regional banks — though shares in them are held by banks in their districts — are de facto government agencies (the shares cannot be bought or sold, and all profits are remitted to the Treasury).
Extolling the gold standard, Paul argues that it would bolster the dollar’s credibility while restraining government spending on social programs and “unnecessary wars.” Placing the U.S. dollar on a commodity standard (possibly linking it to a basket of commodities, rather than just gold) is not an absurd idea; it would help staunch inflation and depreciation. But any such move will have downsides as well. For one thing, a commodity standard may require high interest rates to maintain, damaging economic growth. It may also be subject to instabilities as the commodity supply fluctuates.
If the commodity standard credibly limits government spending, there may be a crisis involving the ability to pay for outstanding obligations (including wars that may not be so unnecessary). More likely, policymakers will simply dump the standard at times of crisis and war, as most of the combatant nations did with their gold standards in the Napoleonic Wars and World War I. In that case, the standard will have little credibility, which will lead to more financial turmoil. As for Paul’s further hope for a world in which private currencies compete against and possibly supplant government currencies, let’s just say we’re quite a ways off from that, and have very little historical basis for assessing its viability.
Current reform efforts should focus on strengthening, not weakening, the Fed’s ability to constrain inflation. That could mean giving the institution clearer statutory guidance to focus on inflation (it currently is required to focus on employment as well) or mandating a specific range of inflation rates to target. In the longer run, more radical steps, including commodity standards and private currencies, may prove useful. But all that will require an interest in serious reform, not in whipping up paranoid hysteria. Nothing good will come of Ron Paul’s book and his campaign of demonizing the Fed.
132 responses so far
1 joedee1969 // Sep 8, 2009 at 7:02 am
Ron should keep this up on the Fed. Someone has to.I love Ron:
http://americaspeaksink.com/2009/09/obama-boring-disappointing-president/
2 jimbo75 // Sep 8, 2009 at 8:24 am
Andrew Jackson at this point is worth reading, his 6th annual address, ” Events have satisfied my mind and I think the minds of the American people, that the mischiefs and dangers which flow from a national bank far overbalance all it’s advantages. The bold effort the present bank has made to control the Government, the distresses it has wantonly produced, the violence of which it has been the occasion of one of our cities famed for it’s observance of law and order, are but premonitions of fate which awaits the American people should they be deluded into a perpetration of this institution or the establishment of another like it.” Dec. 1 1834.
3 joemarier // Sep 8, 2009 at 8:37 am
Andrew Jackson, economic GENIUS (as long as you ignore http://thehistorybox.com/ny_city/panics/panics_article6a.htm)
4 oldgal // Sep 8, 2009 at 8:54 am
Why are economists such ideologues? Ron Paul is the poster child for ideological economics, however, Keynes, Friedman et. al. are babes in waiting. One problem with ideologies is that they must be rigid – if it is admitted that one element is incorrect then the whole ideology is at risk, and this generally gives rise to an alternate ideology – all incapable of understanding and adapting to change.
Economics is not a science, it is a human contrivance which tries to codify self-organizing activities that are constantly in flux. If we looked at economics from a systems standpoint we would allow for adaptive changes and a greater level of pragmatism. Then, maybe, all the energy being put into defending an ideology could be put into making our economics more adaptive.
5 losername // Sep 8, 2009 at 9:18 am
If the US disbands the FED wouldn’t that put the US at the mercy of the other powerful central banks?…We can’t just take our bats and gloves and go home anymore…There has been a massive failure of leadership in the Wall street world over the last twenty years and it’s just despicable.
6 sinz54 // Sep 8, 2009 at 9:47 am
Near the end of Mr. Silber’s article, he hints at the right answer: Bias the Fed in the right direction for a change.
The Humphrey-Hawkins Full Employment Act of 1978 had biased the entire Federal Government toward full employment, even at the expense of a stable currency. It required the Fed Chairman to report twice a year to Congress, where he could be harangued and pressured toward fighting unemployment by lowering interest rates and expanding the money supply.
This Act never really prevented unemployment, as we’ve seen in 1979-1982, 1991-1992, and 2008-2009. But it sure biased us toward greatly expanded money supply. All this money sloshed into the “dot.com” market, the commodities and oil markets, the real estate market–giving us one bubble after the other.
Repealing the Humphrey-Hawkins Act is impossible, with the Dems controlling everything. But it should be amended to commit the Fed toward the prevention of asset bubbles, something that isn’t mentioned in it now.
The Fed could have easily prevented the dot.com bubble, by raising interest rates, making it more difficult for fly-by-night companies to get financing. But the bias toward lowering unemployment made that politically difficult. Directing the Fed to preventing such bubbles would give the Fed political cover for throwing a wet blanket over what Greenspan called “irrational exuberance.”
7 sinz54 // Sep 8, 2009 at 9:50 am
One more thing. I believe that the Fed is the only central bank among the G-7 nations that is directed to maintain full employment. The central banks of Japan and most of our European trading partners are directly only to maintain a stable currency, which is what central banks are for. (Europe has had disastrous results from hyperinflation and that’s why they care more about avoiding hyperinflation than unemployment.)
Biasing the Fed towards fighting unemployment was the disastrous result of the Humphrey-Hawkins Full Employment Act of 1978.
So the problem isn’t the Fed. It’s what happens when liberals get their hands on the Fed, and force it to do social engineering rather than currency stabilization.
8 djnichol66 // Sep 8, 2009 at 10:41 am
My question about Paul’s ideas is why a gold standard? Because that’s the way we used to do it? Why not some other commodity?
9 sinz54 // Sep 8, 2009 at 12:04 pm
djnichol66:
Gold has advantages over other commodities. It’s relatively rare, which keeps it valuable. It doesn’t tend to rust or wear out. It isn’t burned for fuel. We can say that nearly all the gold that has ever been mined in thousands of years, still exists today. Even gold that has been formed into compounds like gold chloride, can still be recovered by electrolysis.
Those properties, which are shared with platinum and silver, are what made gold a desirable choice for representing money, and backing the supply of paper currency.
10 Defferding // Sep 8, 2009 at 2:09 pm
losername – To answer your question, the Federal Reserve IS the powerful central bank that we are all at the mercy of. They are a private/government hybrid banking cartel that controls the world’s money supply. The problem with this system is the cartel – and the government – thinks inflation and borrowing will solve economic problems, and bailouts of failing banks will stave off economic problems. It doesn’t. It makes it worse. This is what causes credit bubbles which contributed towards the crash of ‘29, the Great Depression, and our current housing crisis (which has not shown any significant signs of recovery to this day). Many people nowadays think inflation is just a rise in prices of goods and services. That’s just the reactionary symptom, what it really is is a decrease in value of money. It happens when excessive borrowing occurs from all parties involved (the federal government being the biggest borrower because of our deficit spending and all the bailouts that add to the deficit), and something called “quantitative easing” occurs where more money is printed to back all the borrowed cash.
The Federal Reserve sets up our economy to be one of borrowing, printing and spending. It enables banks to lend out risky loans and the taxpayer is on the hook if the loans are defaulted, and the banks profit if they do get paid back. It’s a terrible system with little accountability and I’m convinced the only way to make our economy better is to abolish the Federal Reserve and work towards a system that favors a balanced budget and reasonable credit.
11 WillyP // Sep 8, 2009 at 2:44 pm
No, no, and no again, Mr. Silber. Not worth my time to deconstruct this here – one example will serve just as well:
You say, “For one thing, a commodity standard may require high interest rates to maintain, damaging economic growth.”
Look: interest rates are REAL prices reflecting REAL supply and demand. You cannot lower an interest rate anymore than you can lower the price of bread. Interest rates are reflective of savings; to decrease the cost of borrowing – the interest rate – you need to expand saving, just like to decrease the price of bread you need to expand the supply of bread.
With such profound misunderstanding evident, I would recommend anyone interested in economics or banking to ignore this column. Ron Paul was friends with Hans Sennholz, who was a student of the famed Austrian economist Ludwig von Mises. His thinking on these matters is far clearer than Mr. Silber’s will ever be.
12 kensilber // Sep 8, 2009 at 2:59 pm
WillyP, I suggest you study the example of Britain in the 1920s, which returned to the gold standard (after leaving it in the aftermath of WWI) so the pound could “look in the dollar in the face,” as hard-money types put it. As a result, the pound was overvalued, and had to be propped up with high interest rates to prevent capital flight, which sent Britain’s economy from bad to much worse.
13 WillyP // Sep 8, 2009 at 3:14 pm
Yes, in fact Mises (and Hayek, I believe) advised against this. It was because of the massive re-flation and subsequent price shock that the British economy tanked. Remember, before they went back on the gold standard, they first went off it.
Those interested in the feasibility of a return to the gold standard from fiat currency should consult Hazlitt, Mises, and (so I hear) the writings of Carl Menger from the Austrian conference on money from March 1892.
Mr. Sibler, you may have legitimate concerns regarding the transition period from fiat currency to gold, but please do not misrepresent the economic theory. The prudent course to take – that is, the conservative course – would be to slowly unravel the institution that is literally destroying our currency.
14 WillyP // Sep 8, 2009 at 3:52 pm
If I may elaborate a bit more, since you were kind enough to respond:
It is certainly wrong, even a bit absurd, to suggest that a fiat currency alone causes war. It is more accurate to say that it enables war financing. Governments have traditionally left the gold standard to make war, and not the other way around. Whether the war in question is justifiable rests on considerations outside the economic realm. On this, I think you’ll agree.
Rep. Paul’s insistence in defining “inflation” as an increase in the stock of money is not a neologism at all. If anything, it’s reactionary. It also helps clarify cause, i.e., the increase in the money supply, and the effects, i.e., the general rise in prices. This is an important distinction that has been lost on generations of new economists. They are too wrapped up in addressing the symptoms to ever fully diagnose and understand the true nature of the pathology.
Rep. Paul is correct in his assertion that bubbles cannot be generated without inflation (government counterfeiting). The “boom” of the business cycle is facilitated through the disruption of accurate accounting practices: capital accumulation and investment are necessarily undermined by massive counterfeiting. The boom we experience is simply us consuming the capital that enables business to operate efficiently. In other words, it is society eating through our savings.
We know that an individual with large savings can “live it up” for a while; however, we also know that said spendthrift is bound to run out of savings one day. We reached the bust about a year ago. At that point, the Fed decided to continue the illusion of prosperity by artificially reducing interest rates once again. We don’t have nearly the savings we did in 2001. This boom won’t last as long, and the bust will be that much worse.
People are not terribly dull, despite what Paul Krugman tells us repeatedly. At some point in the future, businesses and individuals will recognize that the dollar is losing value rapidly. It is then we will experience the currency crisis that was wholly engineered by the Fed. I’m not sure whether our academic economics departments will emerge in tact. A prediction? They’ll try to blame it on Milton Friedman, exclusively. A shame, really, because on all other matters of economy he was a genius.
I don’t agree with Paul on many of his foreign policy views, but on matters of money he is first rate.
15 WillyP // Sep 8, 2009 at 4:23 pm
oldgal says: “Economics is not a science, it is a human contrivance which tries to codify self-organizing activities that are constantly in flux. If we looked at economics from a systems standpoint we would allow for adaptive changes and a greater level of pragmatism. Then, maybe, all the energy being put into defending an ideology could be put into making our economics more adaptive.”
I am not going to enter into discourse on what defines a “science,” but suffice to say that economics is no more a contrivance than the act of economizing. Sure, you may insist that people do not always economize, but this does not change the fact that our production levels have been raised consistently throughout history. People economize out of desire and necessity. Economics is, after all, the study of human action. The science that defines the laws is self-evident; their exposition requires some thinking and understanding.
It is not a matter of defending an ideology. There are laws that govern rational decision making concerning economy, and any law that criminalizes economy (v.) by definition hurts our national economy. This is how it began – the study of political economy – or, in layman’s terms, what government does to screw up human coordination of production.
16 Defferding // Sep 8, 2009 at 5:09 pm
kensilber – how about we look into what happened with Canada’s return to commodity-based currency during America’s Great Depression?
While America’s banks were failing left and right – a total of around 6,000 banks failed if I’m correct, Canada had absolutely ZERO bank failures and maintained a comparably steady economy while America went further down the toilet only ten years after the Federal Reserve was put in place.
Canada unfortunately left the commodity-backed currency to join America’s easy money and credit system. But look how far that has gone for America by keeping this system. A depleting currency – one that lost its buying power by over 100 percent; we have an overspending government, and foreclosures are still on the rise. It’s time to be pragmatic and sensible and get the government out of automatically guaranteeing mortgages. Yes, this means abolishing the Federal Reserve, abolishing the FDIC and the Credit Union government backing, and slowly move towards a system of private deposit insurance with no government favorites/exceptions. That way we can get our nation back to an economy of savings and investment, not Santa Claus credit.
17 tbconant // Sep 8, 2009 at 6:24 pm
Hello,
I wanted to share some thoughts but they were too big to fit here. For anyone who is interested you can read my review of Silber’s review here: http://thejungleiseverywhere.blogspot.com/2009/09/review-of-kenneth-silbers-review-of-ron.html
Thank you!
18 Tokala // Sep 8, 2009 at 7:15 pm
Please read these quotes, they are not my words; but illustrate a clear, concise, and rational ideology as to why this “Federal Reserve” has been a dog off the leash for way too many years if one wishes well for the majority of the American people. The Federal Reserve is not the “Government” as defined in the constitution and its secrecy FROM our government, and its discomfort with the open truth TO THE Government can be witnessed coming direct from Bernanke’s mouth during a Democrat’s questioning. This video should SHOCK YOU:
http://www.youtube.com/watch?v=lWv9STNNw9c
One-Half Trillion dollars circulated to Foreign Central Banks without even an oversight or review? $9 Billion dollars to the Central Bank of New Zealand alone; the equivalent of $3000 issued to every man, woman, and child living in New Zealand? How does this help and benefit America who foots the bill? Should not someone constitutionally defined as an agency of the government at least be involved in decisions such as these? Should we not at least of full disclosure and the opportunity to ponder the motivations as to how this will benefit America? Should we not examine that even if these deals are “profitable” to America’s bottom line sometime down the line, are there not more pressing and perhaps MORE short term profitable investments that could be undertaken to accelerate recovery HERE?
This video of congressional testimony should also enlighten all that view this:
http://www.youtube.com/watch?v=uMdVYjVU4GI
The quotes below speak for themselves….
Quote 1: “Give me control of a nations money supply, and I care not who makes it’s laws. ”
-Mayer Amschel Rothschild, founder of the Rothschild banking dynasty.
Quote 2: “I care not what puppet is placed on the throne of England to rule the Empire, …
The man that controls Britain’s money supply controls the British Empire.
And I control the money supply.”
-Mayer Amschel Rothschild, founder of the Rothschild banking dynasty.
Quote 3: “The few who can understand the system will be either so interested in its profits, or so dependent on its favours, that there will be no opposition from that class, while, on the other hand, that great body of people, mentally incapable of comprehending the tremendous advantage that Capital derives from the system, will bear its burden without complaint and, perhaps, without even suspecting that the system is inimical to their interests.”
-Letter written from London by the Rothschilds to their New York agents introducing their banking method into America
Quote 4: “I am a most unhappy man. I have unwittingly ruined my country. A great industrial nation is controlled by its system of credit. Our system of credit is concentrated. The growth of the nation, therefore, and all our activities are in the hands of a few men. We have come to be one of the worst ruled, one of the most completely controlled and dominated Governments in the civilized world; no longer a Government by free opinion, no longer a Government by conviction and the vote of the majority, but a Government by the opinion and duress of a small group of dominant men.”
-President Woodrow Wilson, after signing the Federal Reserve into existence.
Quote 5: “The government should create, issue and circulate all the currency. Creating and issuing money is the supreme prerogative of the government and its greatest creative opportunity. Adopting these principles will save the taxpayers immense sums of interest and money will cease to be the master and become the servant of humanity”
-Abraham Lincoln
I doubt Ron Paul lacks the forsythe to simply “Close the Fed” without a prudent transition plan in place. I commend both sides of the aisle for supporting HR1207; and find it encouraging that perhaps finally people are talking and thinking; and are not simply blindly following emotion in support of their political party ties.
19 sinz54 // Sep 8, 2009 at 9:02 pm
I would like to remind folks here that mainstream economists regard the gold standard as a bad thing. For a very good reason:
When a nation is on the gold standard, deflation is just as likely as inflation, as the economy proceeds through the normal business cycle. But economists since Keynes have realized that even moderate deflation can destroy an economy, while moderate inflation cannot.
The reason for this dichotomy lies in the inflation-adjusted interest rate on your savings. The inflation-adjusted interest rate on your savings equals the nominal rate minus the inflation rate. If we’re in a significant deflation (a negative inflation rate), the inflation-adjusted interest rate can be quite positive even if the nominal rate is zero. Since banks cannot lend money out at a nominal rate below zero, it becomes impossible to stimulate the economy by lowering interest rates. This has been dubbed the liquidity trap.
The only remaining tool for stimulating the economy is to increase the money supply. But this is impossible if the currency is pegged to gold, because both citizens and foreigners will insist on being paid in gold instead of inflated dollars. And the nation will soon exhaust its gold reserves, forcing it off the gold standard anyway.
Both Japan in the early 1990s, and the U.S. in 2008, experienced this liquidity trap. Nominal interest rates had been lowered to zero, but the economy remained in decline because with the prices of everything falling, the currency suddenly was intrinsically more valuable, so folks hoarded currency rather than spending it. The Federal Reserve was forced to massively expand the money supply to keep the U.S. from sinking into a depression.
And in the 19th century, the U.S. experienced very deep, painful, and long recessions, as the economy didn’t bottom out until new natural resources or new technologies or new wars sparked new booms.
As a result, mainstream economists would rather see moderate inflation than moderate deflation. And that can only happen if the nation moves off the gold standard–permanently.
20 Surprise! Neocons Dislike ‘End the Fed’ « LewRockwell.com Blog // Sep 8, 2009 at 9:35 pm
[...] for David Frum’s neocon website, NewMajority.com (oh sure), Kenneth Silber is outraged at Ron Paul’s End the Fed. How dare he blame so many ills on this wonderful institution? Sure [...]
21 Alex9876 // Sep 8, 2009 at 9:40 pm
The writer of this hit piece states that Ron Paul “defines inflation not as a general rise in prices but as any expansion of the money supply, a neologism that produces nothing but confusion.”
Actually Mr. Silber, while this term may be new to you, Ron Paul is using the common definition from the field of economics. You are using the term as the government has co-opted it to mean. This is one of the biggest problems with the economic crisis. If one confuses the cause of inflation (the increase of the money supply-which the Fed is doing) with the result (the rise in prices) and only attacks the result, the root cause can continue to exist unopposed.
Your attack against Ron Paul for his usage of the term inflation shows how uninformed you are on the subject. No big deal. Lots of people are uninformed. But, you use your ignorance as a weapon and that is a big deal. The next time you decide to attack a man for not knowing the English language, perhaps you should check the dictionary first. If you don’t even know the meaning of the words in the discipline how can you judge his discussion of economics? Frankly, this is a pretty basic term.
(From the Oxford English Dictionary – inflation – ECONOMICS (undue) increase in the quantity of money circulating, in relation to the goods available for purchase. (in lay use – an inordinate rise in prices) The first use quoted goes back to 1838.)
So, while the layman thinks of inflation as a rise in prices, the economist understands that that rise comes from an increase in the supply of money.
This distinction is very important. If you mistakenly think that the cause of inflation is rising prices, then it is easy to attack the producers of goods as being the ones that cause inflation: after all, they brought the prices of their goods up. But, if you understand that inflation means inflating the money supply, then you can properly be upset with the folks that inflated the money supply.
There are only so many dollars at any one time in a society. If you increase the existence of them overnight, then the cost of everything in society will eventually rise to match the increasee. Otherwise, all you would have to do to make us all rich as Midas is to print a trillion dollars for everyone. But that can’t be done because as you print more dollars, the value of each one goes down. The prices rise because actually the dollar falls. It takes more of these dollars that are now worth less than they were to buy the same stuff.
Since the average consumer is right to be concerned about rising prices it is important that the layman understand the cause. (In our case, the Federal Reserve increases the supply of money)
If it helps you to remember it – inflation means inflating the money supply. To call rising prices “inflation” is to confuse the issue (aka a way for the Fed to prevent people from getting upset with them).
Peace.
22 Alex9876 // Sep 8, 2009 at 9:48 pm
As to the question of whether or not the Fed is a public entity – it is a hybrid. When it suits it, the Fed determines it is a public entity. However, when asked for documents under the Freedom of Information Act (that public entities are subject to) , the Fed immediately cried that they are a private entity and therefore not subject to FOIA requests. See this case in the U.S. First District court http://www.americanbanker.com/bulletins/-1001752-1.html
23 cotf // Sep 8, 2009 at 10:03 pm
Oh, Mr. Silber.
1) You display your ignorance of economics almost immediately; use of the term “inflation” to describe an increase in the supply of money is not a neologism. It is the correct definition. Using it to describe a general increase in price level is the “new-age” corrupted definition, promoted primarily by those attempting to conceal what it is they do, i.e., the FED.
2) Given that you are ignorant of economics, therefore, what can be made of the remainder of your comments? I could go on an on, but, I will concisely state it this way: You didn’t even read the book. Every single argument you make is based on a falsehood which you have invented out of whole cloth.
I can’t give you any more reasons, since, given the stupidity and ignorance of history evidenced in the first few paragraphs of your article, I can’t stop laughing long enough to read the rest.
So sorry.
24 yoctobarryc // Sep 8, 2009 at 10:23 pm
As an economist I would like to correct a few inaccuracies posted in the comments above:
#4 Oldgal: Whilst invariably some economists are little more than political charlatans, the names of Keynes and Friedman are not among them. Both conducted superb economic scientific (mathematical, statistical, fact-based) analysis of the economies and both were dead right about what they had to say.
And economics is most definitely a science (a social science), according to every University in the world.
#7 sinz54: The Fed is the only major central bank in Europe and North America to have its remit focused on jobs, inflation and interest rate stability. The UK central bank and European central bank both focus solely on stabilising inflation. And none of them have ever cared about currencies, these have been separate matters for their treasuries in the past.
And Europe hasn’t had hyperinflation since the second world war.
#11 defferding: The only reason the Fed is such a convoluted mess and not a central bank proper is because the equivalents of Ron Paul back in the 1910s hated the idea of central banking, and only this public-private hybrid was palatable.
And inflation IS “a sustained increase in the general price level”. It is not expansion of the money supply. It is not government printing more money. It is not a budget in deficit. These three can lead to inflation in the right circumstances, but they are not inflation in themselves. And if you think otherwise, I’m sorry, but you don’t know what you’re talking about.
#12 WillyP: You lower raise interest rates like you CAN lower the price of bread. You go “today I’m giving out savings accounts of 5.5% instead of 6%” and you can also say “bread, half price today!”. You don’t need to bake more bread to do this. The fact that this cuts your prices which cuts your profits is why it doesn’t happen all the time.
#13 KenSibler: Can I also add to this that Britain took almost 20 years to get growing (1918-1936), courtesy the gold standard. Also, for more Gold Standard shenangians, take a peek at the Bretton Woods system 1946 to 1971 – a series of fixed exchange rates tied to the price of gold which eventually collapsed under its own weight.
#15 WillyP: In common with comment 11, inflation is and only is “a sustained rise in the general price level” and NOT anything else.
What you also fail to understand is that one dollar in Maine is worth one dollar in Texas. Therefore if the dollar does collapse (so one dollar in Delaware is worth £0.10 in London) it still means it costs one dollar in Kentucky to buy one dollar in Utah. You can’t have a currency crisis inside of a currency union, and neither can you have one with a floating exchange rate between countries! A currency crisis occurs when governments fix exchange rates but they run out of money to fight off market forces!
As for the paragraph about spending and spendthrifts, you also fail the basics of the monetary system. Given a fixed income, you can spend or save (in differing amounts). You can save on a variety of items, bonds, stocks, bets, gambles, whatever. Lowering interest rates reduces the attractiveness of holding your money in your savings account, and encourages you to shift to spending more. You lower interest rate to increase spending when factors like recessions encourage people to save more.
#17 defferding: You portray the depreciation of the dollar as a bad thing. Fine, but it doesn’t match the economic facts. The only real benefit that higher currencies bring is reduced inflation through increased competition from foreign products. A lower currencies creates jobs and economic growth but doesn’t create inflation. Your call, but I’d take the lower currency any time.
#18 tbconant: To say that the Fed is a political institution hellbent on political expediency is not what history says. There is a long line of Fed Chairmen appointed and reappointed by Presidents of the opposite party. And I hardly think that Paul Volker’s policy of high interest rates in the 80s to purge inflationary expectations from the economy by recession qualifies as politically expedient.
Countries with the monetary policy mechanisms in the hands of politicians (executive branch or lawmakers alike) have a tendency to see interest rates collapse before and election, only to suddenly rise back up again once it’s over. Call me cynical or what….
#19 tokala: I’m not a person shocked by many things, and the Federal Reserve opening its wallet to help provide liquidity to foreign banks via their central banks without waiting the 5 weeks it would take Congress to get moving does little to shock me. In fact, I’m yawning. Seriously though, $9bn isn’t very much in the scheme of things – it’s less than 1% of the Fed’s overall spending or the government deficit.
25 Defferding // Sep 8, 2009 at 10:30 pm
sinz54 – It has been evident that using a steady rate of inflation of the last 100 years has been proven to be wrong and disastrous, while not in an immediate way, but bit by bit, and we’re now seeing the end of this stick being whittled away. The steady rate of inflation enables the government to overspend and get bigger. Then it starts a wildfire of over-borrowing. Our dollar is hurting really bad now.
The farmers wanted to avoid deflation during the early 20th century, which would have meant them to eventually lower their prices, so the Federal Reserve allowed the farmers to borrow money when they didn’t have it, and the banks also favored the Federal Reserve for obvious reasons – if they lent out too much money, they could just toss the government the keys and walk away unscathed. It’s no surprise the crash of ‘29 happened. However, if they let deflation occur, supply and demand would have took over. People would buy more of the cheaper goods.
The end result of many many years of inflation is depletion of our money, and the allowance of government overspending (how much are we in debt now?), and the constant punishment of the middle class for the mistakes of the banks and the Federal Reserve/FDIC/US Treasury that enables risky lending.
26 yoctobarryc // Sep 8, 2009 at 10:41 pm
Can I just add to my list:
#22 alex9876: Seriously, read your dictionary entry correctly.
(this also applies to #24 cotf)
Random House Dictionary: “a persistent, substantial rise in the general level of prices”
The American Heritage Dictionary of the English Language: “A persistent increase in the level of consumer prices”
The American Heritage New Dictionary of Cultural Literacy: “A general increase in prices.”
Oxford English Dictionary: “a general increase in prices and fall in the purchasing value of money.”
Inflation is not and never will be an expansion of the money supply. Think about it, what is that percentage they always say on the news? The percentage increase in prices. To find the percentage increase of money supply, you have to do some digging. Why? Because it’s a difficult statistic to measure and use accurately.
Inflation is when prices go up, for whatever reason. I can think of four: expanding money supply, increased costs push up prices, demand exceeds supply, trade unions generate price increases for no apparent reason.
If the money supply increases, there is more money. If there is more money, and demand for money (yes it does exist) stays static, then the ‘value’ of money decreases. Other items, gas, food, cars whatever all have ‘values’ and if their value stays static, but money’s declines, then you need more money to buy the good. Hence, prices rise. That last step is inflation. All the bits before are the transmission mechanism, and the very first bit is the expansion of the money supply.
27 terpgod // Sep 8, 2009 at 10:54 pm
@ yoctobarryc
Strange that an economist would be so wrong when it comes to the discussion of…economics.
“And Europe hasn’t had hyperinflation since the second world war.”
I guess Bosnia-Herzegovina in the 90s doesn’t count?
Bulgaria in the 90s?
Poland in the late 80s?
Romania?
Turkey?
Etc. etc….
History is littered with failed fiat currency experiments, their existence is purely a function of time.
“What you also fail to understand is that one dollar in Maine is worth one dollar in Texas. Therefore if the dollar does collapse (so one dollar in Delaware is worth £0.10 in London) it still means it costs one dollar in Kentucky to buy one dollar in Utah. You can’t have a currency crisis inside of a currency union, and neither can you have one with a floating exchange rate between countries! A currency crisis occurs when governments fix exchange rates but they run out of money to fight off market forces!”
And the ultimate market force is when people refuse to do trade with a currency. That is a currency crisis and is certainly possible in any fiat currency model where the inherent value of a piece of paper is 0. There are so many other mistakes in your post, I’m not sure where to start.
28 yoctobarryc // Sep 8, 2009 at 10:55 pm
Another quick addition:
#26 defferding: This comment is an economics trainwreck.
A steady rate of inflation is a bad thing? Really? So the fact that the real estate developer can build his house, safe in the knowledge that prices aren’t going to double in the 6 months it takes to build the house is a bad thing? The fact that I can put money in my savings account, safe in the knowledge that rampant inflation won’t erode its value is a bad thing? Honestly?
As for borrowing, excessive inflation encourages it, because debts are static, and high inflation rates erode the value of the debt. Stable inflation means your interest payments often exceed the inflation erosion.
And of course Farmers wanted to avoid deflation – everybody should want to avoid deflation. Deflation means that people save instead of spending, because they are waiting for tomorrow for the next bargain deal to come around, since prices are continuously dropping. And then profits at firms fall, which means less growth, less investment, less jobs, more unemployed, more poor people.
You also seem to forget the fact that while inflation does inevitably make things cost more, one of the biggest sources of inflation is the fact that firms have to raise prices because they’re having to pay their workers more in pay rises. Why did these pay rises come about? Because the workers read about inflation in the paper. So whilst prices go up, so do salaries and wages.
29 Defferding // Sep 8, 2009 at 10:58 pm
yoctobarryc – It’s the forced depreciation that’s the big issue which I feel should be changed. Deflation by itself is not a bad thing, as long as it is voluntary. The equivalents of Ron Paul back in the 1910’s had a very good point. Banking should be a more localized thing tied to the local workings of the community, not a large central planning event. Our current system punishes the middle class to cover banking insolvency. I think private deposit insurance should come into play instead. If a bank wants to be fractional reserve, fine, they will just have to pay a fee to the organization/company that will save them if they run out of money.
Banking is a service just like anything else in the economy, they don’t need government or a public/private hybrid system to be functional. If the next thought is “we need more credit to keep our economy growing”, then that is evidence right there that there are probably a slew of other problems with our economy besides banking that perpetuates the banking issue (like taxes, regulation, foreign trade and subsidies).
If our economy is so dependent on borrowing, maybe that means voluntary deflation will help us out in the long run. The price of goods and services will drop and demand will pick back up over time.
30 yoctobarryc // Sep 8, 2009 at 11:02 pm
@terpgod (nice to see twitter protocol’s spread to blog comments!)
You’re absolutely right about hyperinflation in those countries – I was thinking of western europe when I wrote that throwaway line, so good of you to pick me up on that!
I don’t think it’s fair to say that fiat currencies are a failure – they’re used in every country I can think of (there may be some exceptions).
And yes the ultimate currency crisis would be if everybody at once said that “we don’t trust the US Dollar and we won’t trade in it”, in which case we’d be screwed. But I would like to point out that there would be some more important steps than a currency crisis if we got to that stage – World War 3, complete financial meltdown, nuclear armageddon, etc. Up till that point (when the US dollar has an effective price of 0), the free market will adjust the price of the dollar on forex exchanges. But internally in the US, the dollar in Washington will always be the dollar in Arkansas, unless the US government melts down, in which case the dollar will be the least of your concern!
Any other holes, please point them out, I’m interested in discussing the issue.
31 Defferding // Sep 8, 2009 at 11:03 pm
yoctobarryc – Your comment is completely wrong, from top to bottom.
Saving is a GOOD thing. An economy based on savings and investment is a good and steady one. One that is based on borrowing and credit is like Bernie Madoff waiting for the day that it all caves in.
Paying your workers more means nothing if the prices of everything else goes up. Like I said, it just skirts the real, core issue.
32 yoctobarryc // Sep 8, 2009 at 11:15 pm
#30 defferding: There are a few things I’d pick up on here:
I don’t understand your differentiation of voluntary and forced deflation. Are you referring to government price controls?
The mistake I believe the Ron Pauls of 1910 made was that they failed to distinguish central banking, which is mainly a stabilising policy lever, and private banking, which handles savings and loans to firms and people.
Banking is like many other goods and services in that it scales well. The reason you get banking giants is because with more people savings, you can lend out more money, meaning you can make more profit. I agree, it’s nice to have a local bank branch in your local community, and preferably a private bank! I don’t see why the central bank need get involved with the public – its role is confined to to the top of the banking hierarchy, stabilising the big giants and the markets.
I disagree with you in thinking that all borrowing and credit is a bad thing. In fact, it’s a very useful, if not irreplacable part of the economy. Borrowing is what makes people be able to own houses, what allows small businesses to exploit that gap in the market no-one saw, what allows large projects with long life time returns get built (eg stadiums).
Too much borrowing is a bad thing, but so is too little. Too little means we have to save up for too long, instead of investing and growing.
By the way, deflation will not cure itself. If there is deflation, then generally demand is falling, so if demand rises, deflation must have subsided. Why? Because what company in their right mind cuts profits when they have hordes of paying customers at the tills? If there aren’t customers, then they cut the prices. Deflation is a sign the customers aren’t shopping. So cutting interest rates, increasing lending will boost spending and get the economy back on the right track. All of which ends deflation.
33 yoctobarryc // Sep 8, 2009 at 11:25 pm
#32 Defferding: Most of economics and the economy is a balancing act. A balance of supply and demand, balancing inflation, interest rates etc. Most companies will raise their wages to match inflation .
Saving is a good thing. Absolutely. Lending/borrowing is also a good thing. Where the balance lies is important – too much saving and too little borrowing means slow growth, few jobs and vice versa.
I’d like to point out that Bernard Madoff had absolutely nothing to do with borrowing and lending. He simply took people’s SAVINGS and fraudulently embezzled them by pretending to invest them, whilst parking it his SAVINGS account and creaming the profits. That happened because his investors and the regulator were both too incompetent to take their responsibilities seriously.
Developing (South Korea) countries have high (40%) rates of savings, whilst developed (US) countries have low rates of savings. Developed countries have no need to save as much – they have wealthy banks who can give them the money upfront and now, rather than waiting 10 years.
For example, if I opened a restaurant with money I borrowed, I could start using the profits to pay off the loan. If I saved it, I would have to wait 10 years before I could open the restaurant – in other words, 10 years of lost restaurant profits.
34 Bob Roddis // Sep 8, 2009 at 11:30 pm
The initial problem with a central bank is that its primary function is to dilute the currency and create money out of thin air. Those getting the new money first are in effect stealing purchasing power from those holding the old money. For whatever reason, this function is not generally understood, so it allows the government to basically steal from its citizenry for wars and payoffs.
While the free market should be determining interest rates, the central bank instead engages in the business of imposing price controls upon interest rates with all of its attendant horrors. The new fiat money distorts the investment/capital structure leading to an inevitable artificial boom followed by an inevitable bust. The constant monetary dilution also distorts the essential function of market prices in providing economic information. You end up with no one knowing what anything is really worth. In our recent housing bubble, people felt compelled to join in the frenzy because it appeared that housing prices, temporarily bid up by fiat money, would go up in price forever. Further, housing appeared to be a very safe inflation hedge against the constantly diluted dollar of the Fed. Virtually all investment decisions were made based upon avoiding the ravages of the Fed’s dollar dilution. Invariably, such an artificial boom cannot last because there is no correlating real wealth associated with the new diluted dollars and the distorted capital structure must collapse.
The reason gold makes such a perfect monetary fiduciary is because it is scarce and cannot be counterfeited or created out of thin air.
I note that Mr. Silber completely ignores the Austrian Business Cycle Theory, which is par for the course among Fed supporters. Friedrich Hayek won the Nobel Prize in economics for that theory and it is the theory that informs Ron Paul’s position. I submit that the theory is ignored and suppressed because it is so self-evident and obvious that the central bank would be abolished within weeks if the public were ever allowed to understand it. It is nothing more than abject fear of the Austrian School on the part of Silber and Frum that explains their suppression of the theory.
Anyone truly interested in the Austrian Theory should read “Meltdown” by Thomas Woods and the “Politically Incorrect Guide to the New Deal and Great Depression” by Robert P. Murphy.
35 yoctobarryc // Sep 8, 2009 at 11:47 pm
#35 bob-roddis: I think you don’t win many economics points by saying that the primary function of a central bank is “to dilute the currency and create money out of thin air” nor for saying it allows the government to steal from the public.
Central banks exist (they don’t have to) because their presence provides stability in a wild market prone to excess. You could have free market determined interest rates, but what happens is that when you need them to be low to boost the economy, they get driven up, and when you need them to be high, to slow the economy down, they tend to get driven down. Central banks avoid this by taking the contrarian position.
Try as you might, the fact that house prices bubbled was not entirely due to the Fed. To think that all investment decisions were made against the decline in the value of the dollar is ridiculous, because the value of the dollar is only relevant to a business decision if it involves trade outside of the US. Domestic sales, housing, stocks, whatever are all not affected by the change in the dollar’s value.
And the fact that you couldn’t value a house properly was either due to your ignorance of the housing market or the professional you hired was not interested in telling you the truth.
The basic principle of Gold Standards is that you sacrifice growth and employment for lower inflation. I doubt this would be very popular when explained to the everyday American – some rich investor doesn’t have to worry about inflation, but you don’t get a job.
I have learnt to be cautious theories which people can’t explain in simple terms at all without referring to books or articles. One of the main tenets of Austrian Business Cycle Theory is that the Fed has to print money, which it very rarely does, in fact the only instance I can recall since the war of it doing so is in the current crisis.
36 Bob Roddis // Sep 9, 2009 at 12:58 am
To: yoctobarryc
I didn’t use the term “printing press” in my post. Further, Austrian economists only use the term as a euphemism. However, Ben Bernanke sure likes to use the term:
The diluted money invariably goes to some people initially and they can spend it before it has the effect of raising prices. Those not receiving the new money will have lost purchasing power to those first receiving the new money. This is referred to as a Cantillon effect. I call it theft.
The only growth induced by money dilution is malinvestment which must eventially be liquidated in a recession or depression.
I mentioned the Woods and Murphy books only because they are quite interesting, not as authorities for my post.
37 The New Majority not wild for Ron’s Book | Austrian Economics Blog // Sep 9, 2009 at 1:00 am
[...] site called the New Majority doesn’t like Paul’s End the Fed but the reviewer doesn’t seem competent to [...]
38 isaac // Sep 9, 2009 at 1:03 am
Nice try Mr Silber. I bought three copies of End the Fed yesterday, and I’ll be buying more tomorrow in honor of your wonderful little piece.
39 Surprise! Neocons Dislike End the Fed | Austrian Economics Blog // Sep 9, 2009 at 1:06 am
[...] for David Frum’s neocon website, New Majority (oh sure), Kenneth Silber is outraged at Ron Paul’s End the Fed. How dare he blame so many ills on this wonderful institution? Sure [...]
40 Alex9876 // Sep 9, 2009 at 3:24 am
Yocto #27,
There is no reason to be snotty towards me. My post was a reaction to the author thinking that Ron Paul came up with the newer definition of inflation when actually he is using it in the original sense. As far as “my ability to read” the Oxford English Dictionary, I copied it for you. Argue all you want.
Regarding the definition of inflation, I have explained why the Oxford English Dictionary defines it as it does (because for some it may sound unusual given the way the government has co-opted the term) I thought I was very clear. I will try once again.
Inflating the money supply leads to a rise in prices because the value of each individual unit (in this case the dollar) decreases and thus it takes more to purchase each good or service. Of course other things can lead to a rise in prices: increased demand, decreased supply. If you really don’t understand this definition you can try calling the editors of the OED and ask them why they used it thus if you don’t believe me. I have tried to explain it, but you don’t seem to want to grasp it.
As for the reason the government uses the term inflation in statistics to indicate rising prices, it is so it can misdirect the people from the real dangers of increasing the money supply. Statistics never lie, but liars use statistics. This is one of the oldest games in the book – redefine the terms used in a debate and you can avoid the issue. The government and the Fed has redefined the term “inflation” so people won’t examine their actions. If you know that inflation means an increase in the money supply that leads to rising prices, then you know who to blame. If you use the “shortcut” version of the definition and only examine the back half (the rising prices bit) then you blame producers for increasing their prices. Who do you think the government wants you to blame – the Fed or a big corporation?
I really am confused. Do you think I made up the definition? I copied it directly from the New Edition of the Compact Oxford English Dictionary which is a full, but miniaturized, version of the whole twenty volume set of the most complete dictionary of the English language. It contains the etymology (origin) of words and their original uses. You can find that dictionary here: http://www.elearnaid.com/compactoxf.html
I used that dictionary to show that increasing the money supply always was the definition of inflation and it is not a new way to use the term as the author of this article incorrectly (and rather snidely) wrote, but is actually the original way to define the term and has been used that way since the 1800’s.
If you would prefer – the Merriam Webster dictionary, Tenth Edition, 1997 defined inflation as (and I copy verbatim leaving out the definitions that don’t apply such as to inflate a balloon) “An increase in the volume of money and credit relative to available goods and services resulting in a continuing rise in the general price level.”
Of course you are not wrong that some now define inflation as a rise in prices, but THAT is the neologism (or new use for an old word if you don’t feel like looking up “neologism”). I am perfectly aware of the new way “inflation” has been defined, you seem to be unaware of the old way it was defined. Do you find it strange that in your studies this rather important change was never explained to you? Why do you think that is? Who taught you the meaning of the word? Why would they leave you ignorant?
As an economist, it really should bother you that this term has been twisted and and redefined. Think about why that might be the case. Think about WHY this term has been redefined. What are the implications? Why do you think the term has changed from an increase in the money supply that leads to rising prices to just a rise in prices? Who is charge in the former vs. the latter? Take some time to really research the issue.
Peace.
41 The_Deacon // Sep 9, 2009 at 4:22 am
I’ll give you credit for being somewhat positive on private currency, and at least reading/reviewing the book.
42 RE: Surprise! Neocons Dislike End the Fed « LewRockwell.com Blog // Sep 9, 2009 at 7:19 am
[...] love this moronic line from Ken Silber’s essay: “(Incidentally, he defines inflation not as a general rise in prices but as any expansion of [...]
43 WillyP // Sep 9, 2009 at 8:58 am
@yoctobarryc:
you say, “#4 Oldgal: Whilst invariably some economists are little more than political charlatans, the names of Keynes and Friedman are not among them. Both conducted superb economic scientific (mathematical, statistical, fact-based) analysis of the economies and both were dead right about what they had to say.”
So here we are being corrected by someone who claims that BOTH Friedman and Keynes were “dead right” about what they had to say. No matter that they said many, many varied things, often times directly in opposition to each other… The above statement is contradictory. Arguing with faux-economists and monetary cranks grows old quickly.
What can I say? Modern academic economics got us into this mess, and us Austrians are still bothering to correct these people as if they are worthy of some intellectual respect. I don’t see the point. We’ll be confirmed in our correctness come time, and they, meanwhile, should stop demeaning us and pick up a Mises’ tract.
44 yoctobarryc // Sep 9, 2009 at 9:51 am
#37 bob-roddis: The Fed barely ever has picked up the printing press. The only time I can recall it happening is in the current situation. If the Fed were so bananas with its printing press all the time then there would probably be capital flight out of the US and also into different assets – stocks, gold etc.
#41 alex9876: OK, so I looked up the definition of inflation in an etymological dictionary, and yes, in 1838, inflation was an increase in prices caused only by an expansion of the money supply. The difference between that definition and the definition today is 150 years of economic theory and research. So to use inflation in its sense in 1838 is to have a debate on 1838 terms. To say that inflation is only caused by money supply today is silly – as I pointed out in an earlier post, it’s like saying “the bread maker can’t increase his prices due to shortages of grain (ie increased costs), no, prices only increase when the supply of bread increases”. You’re excluding at least three other causes of inflation by saying so. I don’t think there’s anything too mysterious or conspiratorial about my economics textbook saying that there are more causes of inflation than the money supply, and they can happen independently of the money supply.
By the way, you do realise that in the vast majority of cases increases in the money supply are caused not by the government but by banking and reflect normally the growth of the economy than government meddling? I know in the 1980s for a time the UK government considered trying to burn or print money (ie directly influence the money supply) in an attempt to influence the wider economy. It failed mostly because money supply statistics are slow to come in and are normally horribly inaccurate?
And I’m sure you realise that the rate of inflation is unique for everyone. The rate of inflation on the news is just the inflation of the average person. If you spend more on depreciating (ie electronics) goods, then your personal rate of inflation will be lower. The UK statistics website offers an inflation calculator. If you define inflation as the money supply, then you can only have one rate of inflation, which is terribly wrong.
#44 WillyP: If you think that Keynes and Friedman were inevitably at loggerheads over just about everything, then you misunderstand them. While I don’t happen to know about every single economic position ever held by them, I know that they both supported free markets, hated communism, thought the economy need the hand of central banking to stabilise it and agreed that monetary policy is the best way to do this. Keynes’ most famous policy contribution was that in a monetary trap (when interests rates need to go lower than 0%), the government should use fiscal policy to stimulate the economy from its downward spiral. Friedman won his Nobel Prize for showing the Fed screwed up in the 1930s. I am struggling to see here what makes saying Keynes and Friedman were both excellent economists a contradictory statement.
To say that “academic economists got us into this mess” at all is wrong. The recession was not caused by economists meddling somehow from some mysterious secret lair, but by everyday people, such as you and me, buying stocks on the assumption they’d always go up, buying real estate on the same notion, bankers undervaluing the risk on their transactions because everyone else thought it was fine to do so. It was because us as human beings made bad decisions that caused the recession.
45 Bob Roddis // Sep 9, 2009 at 9:57 am
On the use of the word “inflation” to refer to fiat money creation….
On Bill Buckley’s “Firing Line” program in 1977, Friedrich Hayek explained to Buckley that Keynes’ “General Theory” was written to trick British workers in the 1930s into accepting lower wages through central bank monetary inflation. He described the Keynesian program as “Well, we must inflate, in short”.
You can listen to the clip here.
Nevertheless, considering that the general public thinks of inflation as merely a general increase in prices and is resistant to the idea that an increase in the price of gold translates into a lower price for everything else priced in gold backed money, when dealing with the public, I prefer using the term “dilution” to describe what the central bank does . Because, in short, that’s what a central bank does.
But the term “inflation” is technically correct.
46 WillyP // Sep 9, 2009 at 10:46 am
#45 yoctobarryc:
OK, I’m going to spell this out in very simple terms, as briefly as possible, so that perhaps your cranium may be penetrated by irrefutable logic, rather than neoclassical mumbo-jumbo. If this sounds insulting, it’s meant to be, because sometimes you need to insult to get someone’s attention. So focus, be open minded, and allow the light to shine in:
You have a warped understanding of economics, as well as a warped conception of money. It is your misunderstanding of the nature of the science, and the nature of money in particular, that corrupts your ability to comprehend what exactly you’re examining. I don’t know what kind of “economist” you are, whether you have a Doctorate or not, but it does not really matter. You are wrong, and blatantly so.
The field of study known as economics has very little to do with mathematics, statistics, or calculus. Mathematical quantification enters the field only in a secondary manner. Monetization, that is, the expression of value in terms of “money,” occurs only because humans seek to order their economic needs and desires. It is the old paradox: diamonds or water? Well, if I’m in the desert and without drink, I’ll be willing to trade a huge amount of money for a few cups of water. Yet if I’m living in an apartment building with modern plumbing, I pay a relatively small amount for water and on my anniversary expend much on diamonds. You see, there is nothing intrinsic in value – it is subjective. Money and accounting exist in the form they do, fundamentally, because they utilize the incremental nature of mathematical addition to establish the margins on which trade is conducted. So, in essence, if you reject my claims you are rejecting marginal utility. Of course, you are free to do so – in the same manner you are free to draw a rectangular circle.
To me at least, it’s clear you have some academic training in the field, because only such training would imbue the exponent with such gusto in propagating patently false notions. So allow me to suggest that to re-educate yourself in the field, you begin by acquainting yourself with its history. It does not begin with Keynes, or even Smith. The first systematic treatise has rightly been accorded to Richard Cantillon, a Scotsman like Smith, only with a sharper intellect. He recognized that economics was the study of HUMAN ACTION, and was deduced logically after systemizing and verbalizing the nature of human activity. So you define a good, define labor, define a wage, define capital, define investment, etc. Then you systematically work through each question in the science logically – verbally – to arrive at certain truths. If you happen to be studying economic history, you may supplement your study with numerical facts and figures to illustrate the veracity of the theory. But the theory is either right or wrong, not sometimes right and sometimes wrong. So long as truth exists in the propositions, logical induction provides for additional accurate theory.
Keynes was most flagrant offender in rejecting true theory. His pleas for government inflation and deficit spending in times of recession has made him the modern high-priest of government apologia. Whether he intended this or not I cannot say for sure, but it is certainly true. (He was no ardent friend of the market economy either, as further reading should make abundantly clear.) Paul Samuelson, a Keynesian disciple, took the General Theory and extrapolated a number of mathematical equations that lie at the heart of modern economic assumptions. Never mind that there is no such thing as equality in exchange (if two parties were exchanging things of “equal” value, there would be no reason to initiate the trade to begin with). Samuelson, also, shared sympathy with socialist economies.
Friedman only speciously rejected Keynesian doctrine, while only making the Keynesian case more surreptitious. No, he said, we should not deficit spend! We should only lower the interest rate! And how does a central bank lower the interest rate? It inflates the currency through its open market operations. To quote Henry Hazlitt, “Today the method is a little more indirect. Our government sells its bonds or other IOUs to the banks. In payment, the banks create ‘deposits’ on their books against which the government can draw. A bank in turn may sell its government IOUs to a Federal Reserve bank, which pays for them either by creating a deposit credit or having more Federal Reserve notes printed and paying them out. This is how money is manufactured” (The Inflation Crisis and How to Resolve It). So you’re correct in saying Friedman and Keynes differed little in one respect; however, Friedman was a tremendous advocate of laissez-faire capitalism (excepting money), whereas Keynes most decidedly viewed it with suspicion.
You see how this quickly develops into an expansive revision of your whole intellectual edifice (with respect to economics), and so I cannot continue my writing indefinitely. To answer your last point, humans make “errors” in their decisions constantly. However, a market will punish them for poor decisions, whereas a central bank removes the punishment for the most important economic institutions – banks. A central bank consolidates power; a free market keeps power decentralized because it acknowledges the impossibility of collecting sufficient knowledge for centralized decision making. What is decided monopolistically by a central bank, i.e., interest rates, would be decided by competition in the free market. Finding the “correct” interest rates, like all other prices, is hence a discovery process done in the open market.
If you feel that perhaps your education has led you astray, I would recommend mises.org. The most difficult part by far for you is going to be understanding that mathematics and statistics are only ancillary to the study of human economy.
47 P.M.Lawrence // Sep 9, 2009 at 11:40 am
Sinz54 writes “When a nation is on the gold standard, deflation is just as likely as inflation, as the economy proceeds through the normal business cycle. But economists since Keynes have realized that even moderate deflation can destroy an economy, while moderate inflation cannot. The reason for this dichotomy lies in the inflation-adjusted interest rate on your savings. The inflation-adjusted interest rate on your savings equals the nominal rate minus the inflation rate. If we’re in a significant deflation (a negative inflation rate), the inflation-adjusted interest rate can be quite positive even if the nominal rate is zero. Since banks cannot lend money out at a nominal rate below zero, it becomes impossible to stimulate the economy by lowering interest rates. This has been dubbed the liquidity trap. The only remaining tool for stimulating the economy is to increase the money supply…”
Also, Yoctobarryc writes “”Deflation means that people save instead of spending, because they are waiting for tomorrow for the next bargain deal to come around, since prices are continuously dropping…”
The fallacy here is twofold, building in the assumption that some controlling authority can and should do something about the situation, and completely overlooking the existence of such natural stabilisers as Pigou’s Real Balance Effect. In the scenario outlined, people’s cash balances (money stocks) would appreciate, and they would gradually spend more because of their (real) wealth gains as prices fell to match the physical amount in circulation (money flows). It would be unlikely ever to reach the point described, but if some outside factor caused it, the effect would eventually become correspondingly greater until it worked – which would take longer because of the ground to make up, but it would get there. And there are other stabilising factors related to international trade and bullion flows, too.
Yoctobarryc writes “…Europe hasn’t had hyperinflation since the second world war”.
That is forgetting Hungary and Yugoslavia (July, 1946 and January, 1994 respectively; see http://en.wikipedia.org/wiki/Hyperinflation#Worst_Hyperinflations_in_World_History).
There is a fallacy of composition hidden in many of Yoctobarryc’s remarks. For instance, without easy credit, it would not be true that “For example, if I opened a restaurant with money I borrowed, I could start using the profits to pay off the loan. If I saved it, I would have to wait 10 years before I could open the restaurant – in other words, 10 years of lost restaurant profits.”
That is because, without all the other businesses chasing resources with credit, the resources would be that much cheaper and the arrangements for putting businesses and resources together would probably be different too.
His “The basic principle of Gold Standards is that you sacrifice growth and employment for lower inflation. I doubt this would be very popular when explained to the everyday American – some rich investor doesn’t have to worry about inflation, but you don’t get a job.” is false, too. Granted, a bullion standard WITH our other current market imperfections has lower growth and employment, just as someone wounded and losing blood has less available energy than the same person with a burst of adrenaline – but that doesn’t make the adrenaline do anything other than buy time, time that is wasted if that’s all that happens. It’s not a fix.
“One of the main tenets of Austrian Business Cycle Theory is that the Fed has to print money, which it very rarely does, in fact the only instance I can recall since the war of it doing so is in the current crisis”.
Oh? Then where has the cumulative additional US money supply over the decades since then come from?
“If the Fed were so bananas with its printing press all the time then there would probably be capital flight out of the US and also into different assets – stocks, gold etc.”
This ignores the difference between a slow RATE and a large CUMULATIVE EFFECT, and also the fact that other countries etc. are doing the same thing – there is no materially better hole to go to.
48 corymd3470 // Sep 9, 2009 at 11:46 am
sinz54: See Robert P. Murphy’s Mises Daily concerning David Frum’s jihad against the gold standard. (http://mises.org/story/2824)
If you want to understand what inflation is and how it affects markets then watch this video: (http://www.youtube.com/watch?v=M-0AOnGSh-g)
Also check out the links I provided with the video.
Watch Gene Epstein of Barron’s at FreedomFest 2009 explain why we decided to get rid of sound money (gold standard). He references Alan Greenspan’s essay “Gold and Economic Freedom”: http://www.youtube.com/watch?v=5PVk0QOTm3g
Greenspan’s Essay (1966):
(Part 1) http://www.youtube.com/watch?v=d40D5YHEa34
(Part 2) http://www.youtube.com/watch?v=obLMB6wHFbw
yoctobarryc is a real treat. Where did you get your degree? He writes the following:
“economics is most definitely a science.”
LOL! Where are the controlled experiments? Where are any real experiments? I don’t see any serious attempt to isolate variables in a scientific way. Economics is a social “science.” Tom Lehrer gets it right: http://www.youtube.com/watch?v=wX5II-BJ8hI
“a series of fixed exchange rates tied to the price of gold which eventually collapsed under its own weight.”
Wrong. The fact that countries printed currency out of proportion to their gold stocks was not the fault of the gold standard but the fault of economists and politicians who said it was such a great idea to debase the currency.
“You lower raise interest rates like you CAN lower the price of bread. You go “today I’m giving out savings accounts of 5.5% instead of 6%” and you can also say “bread, half price today!”. You don’t need to bake more bread to do this.”
I won’t get into much detail here but you are ignoring the obvious effects of price fixing. In this case you would cause a shortage of bread.
“Domestic sales, housing, stocks, whatever are all not affected by the change in the dollar’s value.”
LOL! This one is really funny. What doesn’t use raw materials or oil which comes from outside of the country these days? Everything that is transported requires oil. Tractors and machinery run on oil. How about steel or other commodities. The fact of the matter is that domestic goods use foreign priced resources more than they do not. When the dollar falls then so does people’s purchasing power. A change in the value of the dollar affects the earnings of domestic companies.
“Most of economics and the economy is a balancing act. A balance of supply and demand, balancing inflation, interest rates etc. Most companies will raise their wages to match inflation.”
Unions might have contracts like that but most wages lag. The economy is a balancing act and is too complicated to have the government deciding prices in the economy. The politburo couldn’t managing the Russian economy. The Fed can’t manage ours.
“Saving is a good thing. Absolutely. Lending/borrowing is also a good thing. Where the balance lies is important – too much saving and too little borrowing means slow growth, few jobs and vice versa.”
OK. You certainly are showing me that you can provide a useless static interpretation of a dynamic economy. First of all, you need real savings to have real investment. Why don’t economists understand capital theory? (http://mises.org/story/3155). Second, the increase in savings reduces interest rates which creates more borrowing and lending.
“The basic principle of Gold Standards is that you sacrifice growth and employment for lower inflation.”
Robert P. Murphy addressed this in the first article I linked to.
“To say that “academic economists got us into this mess” at all is wrong. The recession was not caused by economists meddling somehow from some mysterious secret lair”
Well, the Fed is full of economist PhDs and they were the ones that fixed interest rates at one percent. They didn’t seem to have a clue about what was happening (http://www.youtube.com/watch?v=HQ79Pt2GNJo). The government certainly knows how to fiddle with interest rates by printing money and, as a result, create huge economic bubbles. They forget that teaser rates cannot come about without cheap money distorting important market indicators (like interest rates) and providing a necessary precondition for leverage. That’s right. You can’t have cheap ARMs and a housing bubble (without immediate defaults and risk realization) without government counterfeiting and price fixing. But I digress.
“Austrian School economists claim that fractional-reserve banking, by expanding the money supply, will lower the interest rates compared to a full-reserve banking system. They argue that this will affect the role of the interest rate as the price of investment capital, guiding investment decisions. In their view, the natural (free of government influence) interest rate reflects the actual time preference of lenders and borrowers. Government control of the money supply through central banks and regulations allowing fractional-reserve banking disturbs this equilibrium such that the interest rate no longer reflects the real supply of and demand for investment capital. Austrian School economists conclude that, if the interest rate is artificially low, then the demand for loans will be higher than the actual supply of willing lenders, and if the interest rate is artificially high, the opposite situation will occur. This misinformation leads investors to misallocate capital, borrowing and investing either too much or too little in long-term projects. Periodic recessions, then, are seen as necessary “corrections” following periods of fiat credit expansion, when unprofitable investments are liquidated, freeing capital for new investment.”
49 gabeh73 // Sep 9, 2009 at 12:22 pm
@ WillyP
Pearls before swine. I have just copied your post here Willy. A version is now in my copy and paste file. You jsut saved me from having to type out similar posts in the future. I will make sure that your effort is used for good again in the future.
50 The New Majority’s Fed Failure // Sep 9, 2009 at 12:32 pm
[...] Ron Paul’s New Book: More Exaggeration and Conspiracy-Mongering: [...]
51 yoctobarryc // Sep 9, 2009 at 12:42 pm
#47 WillyP: There seems to be an awful lot of text there, and not a lot of sense…
Keynes saw the need to spend fiscally in times of monetary crisis, and no other times. Keynes also thought the market prone to the madness of crowds, which is what we have just witnessed over the last two years. When virtually everybody is making the same mistake (over-valuing stocks) there is a large correction in the long run, and this volatility is socially unnecessary and unhelpful. It jeopardises investment, growth and jobs.
None of the above is socialism. Socialism is where the government owns and operates the economy. Not when it regulates and corrects the market through stabilisation of market prices.
And free markets hardly decentralise power in all situations. The most profitable industries have always been prone to consolidation and monopolisation – oil, software, soda drinks, groceries, telecoms etc. The government has to trust bust to prevent this.
#48 pmlawrence: Hands up, as I pointed earlier above, I was wrong about the hyperinflation bit, I was referring to Western Europe, and you’re absolutely right about Eastern Europe.
I am unfamiliar with the theory of Pigou’s Real Balance Theory, although I would point out that it was probably written before the Federal Reserve came into existence, let alone the Great Depression.
You are correct in saying that people’s savings would appreciate in real terms in deflationary times, but you are wrong to say that this would boost spending. What incentive is there to spend in deflation, given that it is more profitable to save? In the meanwhile, this collapse of spending and move to saving would mean that firms profits fall, mean people lose jobs – meaning that they lose their incomes, and thus the means of supporting their spending, reinforcing the decline of spending.
In deflationary times, borrowing is discouraged because real interest rates are incredibly high, meaning banks lose profits, but have to keep paying out more to savers (because more are saving), further weakening their positions. People do not invest, because they don’t want to borrow or spend, meaning valuable multiplier effects are lost.
In the very long run, things do even out, because people still need to spend money on food and water, housing rent etc, but these are hardly the drivers of economic growth. The attitude you take means you are happy to see deflation even if it means massive job losses, collapse of economic power, lower trade (less efficiency and variety for consumers) and a weakening of the nation’s prosperity, standards of living and political power.
Your point about the restaurant is wrong: how would the costs of opening a restaurant be cheaper if people weren’t borrowing? That would mean that all credited resources were going to restaurants, and there was a completely fixed supply of restaurants to open, driving up prices. Neither of those two are true!
The basic principle of gold standards IS that you do get lower growth and employment with inflation. It’s a historical fact. Look at the GDP growth of the developed economies on gold standards compared to modern times. The reason is simple – you are diverting resources away from investment, businesses, jobs and devoting it to transaction costs. The bit about adrenaline is completely misleading – economic growth is no more a fix with gold standards as it is with them!
And as I pointed out earlier, the cumulative growth of the money supply comes mostly from banking – you know, the traditional savings and loans stuff. You put savings in, and when you withdraw them (after a few years) you have more money! This increases the money supply. Where does this extra money come from? The interest on the loan – resources such as restaurant food get converted into extra money!
The point about going bananas with the printing press was to illustrate that the Fed and all the other central banks (apart from Zimbabwe) are NOT going ballistic, because otherwise you’d notice it! The USD:GBP exchange rate is the same at the moment as when I was born. The US inflation rate is historically low, not high as you would expect from printing money!
52 yoctobarryc // Sep 9, 2009 at 12:45 pm
Just to correct my last post: The basic principle of gold standards is that you do get lower growth and lower employment with lower inflation. A gold standard just puts a massive dampener on the economy.
53 WillyP // Sep 9, 2009 at 12:47 pm
@yocto,
I have just one question – When, exactly, were you immunized to logic?
54 RE: Surprise! Neocons Dislike End the Fed | Austrian Economics Blog // Sep 9, 2009 at 1:11 pm
[...] love this moronic line from Ken Silber’s essay: “(Incidentally, he defines inflation not as a general rise in prices but as any expansion of [...]
55 sinz54 // Sep 9, 2009 at 1:30 pm
defferding:
I’ll refer you to my first comment:
The Federal Reserve did its job to keep inflation from getting out of control, and the U.S. was prospering–until the Humphrey-Hawkins Full Employment Act was passed in 1978. It committed the Fed to fighting unemployment, which is not the proper job of a central bank. And by doing so, it forced the Fed to subordinate possibly contrary goals like fighting inflation.
That Act was a mistake. It must be modified, if not repealed.
56 sinz54 // Sep 9, 2009 at 1:36 pm
defferding:
By “good and steady,” you really mean STAGNANT, don’t you?
An economy based on savings is not a growing one. Because businesses have fewer customers–everybody is saving instead of spending. And they won’t invest in new plant and equipment if they’re not making big profits today.
That’s only a short-term problem as long as there is no deflation. Because the high rate of savings will force interest rates to go down to the point that savings is no longer profitable, whereas loaning money out to entrepreneurs becomes cheap–and the economy picks up.
But if we have deflation, then NOTHING is more profitable than saving, even if interest rates fall all the way to zero. And with deflation, loaning money to entrepreneurs to start new businesses is a guaranteed loser.
Japan fell into this trap in the 1990s. Year after year, despite interest rates close to zero, the Japanese economy failed to revive.
Deflation destroys the main weapon a central bank has to stimulate an economy–reduce interest rates. Even with zero interest rates, high deflation makes it unprofitable to spend money or invest.
And then you’re stuck, just as Japan was stuck.
The only way out is reflation.
That’s what we did in World War II.
57 corymd3470 // Sep 9, 2009 at 2:00 pm
sinz54: See Robert P. Murphy’s Mises Daily concerning David Frum’s jihad against the gold standard.
http://mises.org/story/2824
If you want to understand what inflation is and how it affects markets then watch this video:
http://www.youtube.com/watch?v=M-0AOnGSh-g
Also check out the links I provided with the video.
Watch Gene Epstein of Barron’s at FreedomFest 2009 explain why we decided to get rid of sound money (gold standard). He references Alan Greenspan’s essay “Gold and Economic Freedom”:
http://www.youtube.com/watch?v=5PVk0QOTm3g
Greenspan’s Essay (1966):
(Part 1) http://www.youtube.com/watch?v=d40D5YHEa34
(Part 2) http://www.youtube.com/watch?v=obLMB6wHFbw
yoctobarryc is a real treat. Where did you get your degree? He writes the following:
“economics is most definitely a science.”
LOL! Where are the controlled experiments? Where are any real experiments? I don’t see any serious attempt to isolate variables in a scientific way. Economics is a social “science.”
Tom Lehrer gets it right: http://www.youtube.com/watch?v=wX5II-BJ8hI
“a series of fixed exchange rates tied to the price of gold which eventually collapsed under its own weight.”
Wrong. The fact that countries printed currency out of proportion to their gold stocks was not the fault of the gold standard but the fault of economists and politicians who said it was such a great idea to debase the currency.
“You lower raise interest rates like you CAN lower the price of bread. You go “today I’m giving out savings accounts of 5.5% instead of 6%” and you can also say “bread, half price today!”. You don’t need to bake more bread to do this.”
I won’t get into much detail here but you are ignoring the obvious effects of price fixing. In this case you would cause a shortage of bread.
“Domestic sales, housing, stocks, whatever are all not affected by the change in the dollar’s value.”
LOL! This one is really funny. What doesn’t use raw materials or oil which comes from outside of the country these days? Everything that is transported requires oil. Tractors and machinery run on oil. How about steel or other commodities. The fact of the matter is that domestic goods use foreign priced resources more than they do not. When the dollar falls then so does people’s purchasing power. A change in the value of the dollar affects the earnings of domestic companies.
“Most of economics and the economy is a balancing act. A balance of supply and demand, balancing inflation, interest rates etc. Most companies will raise their wages to match inflation.”
Unions might have contracts like that but most wages lag. The economy is a balancing act and is too complicated to have the government deciding prices in the economy. The politburo couldn’t managing the Russian economy. The Fed can’t manage ours.
“Saving is a good thing. Absolutely. Lending/borrowing is also a good thing. Where the balance lies is important – too much saving and too little borrowing means slow growth, few jobs and vice versa.”
OK. You certainly are showing me that you can provide a useless static interpretation of a dynamic economy. First of all, you need real savings to have real investment. Why don’t economists understand capital theory?
http://mises.org/story/3155
Second, the increase in savings reduces interest rates which creates more borrowing and lending.
“The basic principle of Gold Standards is that you sacrifice growth and employment for lower inflation.”
Robert P. Murphy addressed this in the first article I linked to.
“To say that “academic economists got us into this mess” at all is wrong. The recession was not caused by economists meddling somehow from some mysterious secret lair”
Well, the Fed is full of economist PhDs and they were the ones that fixed interest rates at one percent. They didn’t seem to have a clue about what was happening:
http://www.youtube.com/watch?v=HQ79Pt2GNJo
The government certainly knows how to fiddle with interest rates by printing money and, as a result, create huge economic bubbles. They forget that teaser rates cannot come about without cheap money distorting important market indicators (like interest rates) and providing a necessary precondition for leverage. That’s right. You can’t have cheap ARMs and a housing bubble (without immediate defaults and risk realization) without government counterfeiting and price fixing. But I digress.
“Austrian School economists claim that fractional-reserve banking, by expanding the money supply, will lower the interest rates compared to a full-reserve banking system. They argue that this will affect the role of the interest rate as the price of investment capital, guiding investment decisions. In their view, the natural (free of government influence) interest rate reflects the actual time preference of lenders and borrowers. Government control of the money supply through central banks and regulations allowing fractional-reserve banking disturbs this equilibrium such that the interest rate no longer reflects the real supply of and demand for investment capital. Austrian School economists conclude that, if the interest rate is artificially low, then the demand for loans will be higher than the actual supply of willing lenders, and if the interest rate is artificially high, the opposite situation will occur. This misinformation leads investors to misallocate capital, borrowing and investing either too much or too little in long-term projects. Periodic recessions, then, are seen as necessary “corrections” following periods of fiat credit expansion, when unprofitable investments are liquidated, freeing capital for new investment.” (see wiki on austrian economics)
58 Alex9876 // Sep 9, 2009 at 2:10 pm
Sigh.
Yocto you really must learn to read carefully. Please reread my post. I did not write that the definition of inflation in 1838 was to increase the money supply leading to an increase in prices. I wrote that SINCE 1838 the definition was to increase the money supply leading to an increase in prices. I even included the definition from a dictionary written as far back as 1997 to show that even those ancient times they still used the definition of an increase the money supply. Given this, the rest of your post makes no sense at all.
But, if you would prefer, how about using the terms monetary inflation and price inflation. You seem very confused about the reason for my post. I am not saying and never have said that price inflation only happens because of monetary inflation. I was not discussing the phenomenon at all. I was ONLY discussing the etymology of the word because the author of this piece attacked Ron Paul’s usage of the term. I was showing how the word inflation is defined. I showed that Ron Paul was correct and this author is the one who was confused as you appear to be. I showed that Ron Paul’s use of the term is not a neologism. It is not a new use for the word, but one that has been used for over a century.
59 WillyP // Sep 9, 2009 at 2:23 pm
sinz, you sound like an idiot.
“But if we have deflation, then NOTHING is more profitable than saving, even if interest rates fall all the way to zero. And with deflation, loaning money to entrepreneurs to start new businesses is a guaranteed loser.”
real interest rates will never go to 0% so long as the lender is seeking profit. it is nonsensical. the easiest way to explain this is to put it in real terms. a 0% interest rate implies that i gain nothing from sacrificing purchasing power now and putting it off until the future. nobody loans out money for no return because a) there is a little something called “risk,” i.e., the uncertainty of getting back your principal b) very few people operate businesses based on the principles of altruism (if they do, they go out of business shortly enough to marginalize their impact).
are we to believe that mild deflation, a condition experienced by the united states for much of the 19th century, creates an environment where business investment is a “guaranteed loser?” who comes up with this stuff? it’s preposterous.
do any of these hacks ever stop and consider that the great depression coincided with the most brazen government interventions in american history? no – they’re thick-headed and ideologically driven. ugh it’s so disheartening that the purportedly conservative movement is bone-headed in this regard.
60 yoctobarryc // Sep 9, 2009 at 3:59 pm
#57 alex9876: I’m happy with the terms monetary and price inflation to distinguish money supply expansion from other causes of inflation. But to define inflation solely as monetary expansion is both confusing and misleading, which is what I think the author was attacking. If you define inflation only as expansion of the money supply, you exclude other price-based mechanisms and can quite easily miss the bigger picture.
#58 WillyP: I think to draw comparisons with the 19th century economy and the 21st century economy is a bad idea. Proper international finance, economic statistics, industrialisation and a strong middle class did not exist back then. The US probably spent most of the 19th century deflating (I am not an expert on the history) and probably had pretty stagnant economic growth. I know the UK spent about 25 years of the 19th century in recession. But it was less of an important issue back then, because fewer people were involved in jobs attached to an economic cycle – eg subsistence farming.
In the 19th century, deflation was probably not a guaranteed loser. Although, that said, many industrial powers (UK especially) lost their lead over others due to severe recessions in the 19th century. But in the 21st century deflation most definitely is a loser.
I think to say that the great depression was caused by government intervention (as you do by saying “the great depression coincided with the most brazen government interventions in american history”) is both absurd in itself and to go against most of what has been said in this column’s comments – not exactly the bastion of big government.
61 FranklinMorris // Sep 9, 2009 at 4:52 pm
@yoctobarryc – So, I am assuming you have not purchased a TV, computer, DVD player or any technology in your lifetime. The reason I assume this is that, because the productivity of the tech industries have improved year after year (probably due to the lack of gov’t interference relative to other industries like healthcare and education), prices of these products have continued to fall even while the technology gets better and better. Since you view falling prices as a bad thing, you are probably waiting for prices to stop falling before you purchase a computer. I hope the computer lab at school doesn’t mind you spending so much time there.
What I find amusing is that you keep writing comments as if no one you are speaking to has read Keynes, Friedman, Samuelson, etc. (I have) but it’s obvious that you haven’t touched anything from the Austrian school. I would suggest you spend a couple hours and read Henry Hazlitt’s “Economics in One Lesson” @ http://jim.com/econ/ . If you have additional time, I would suggest (as Bob did) “Meltdown” by Thomas Woods – http://www.thomasewoods.com/books/meltdown/ – as it addresses much of your nonsense in detail.
As for your thought blaming the depression on gov’t intervention is absurd, why? That is where the evidence points. Have you ignored the evidence or is your economic education really that half-ass? How do explain the differences between the collapse of 1920 and the crash of 1929? http://www.youtube.com/watch?v=czcUmnsprQI
What I do find “absurd” is that in one post you’re describing how Keynes was so mathematical, statisical and fact-based and a couple posts later you’re repeating the Keynesian “Animal Spirits” nonsense (where you claim the “madness of crowds” is what caused the collapse). If you had not spent so much time here I would be sure you doing satire.
I have two questions…
(1) From which of the economic models do you subscribe? Keynesian, Monetarist, Socialist or Fascist (I know it’s not Austrian)?
(2) If you think the idea of a central bank controlling the price of money is a good thing, would you support Hayek’s idea to make competing currency legal? For instance, the Fed would continue to operate as it does but the market would be allowed to introduce competing currencies (like a commodity backed currency for instance) that would allow Americans to decide for themselves which currency to use.
You might also want to check out the video embedded in the following page:
http://www.cnbc.com/id/31204170/site/14081545
62 WillyP // Sep 9, 2009 at 5:03 pm
@yocto:
“The US probably spent most of the 19th century deflating (I am not an expert on the history) and probably had pretty stagnant economic growth.”
Haha you are pathetic. The U.S. had “pretty stagnant” growth for most of the 19th century? Oh, you mean when it rose to global preeminence, creating the largest contiguous economy the world had ever known?
You’ve exposed yourself as an ignoramus. Go back to the books!
63 yoctobarryc // Sep 9, 2009 at 6:40 pm
#60 WillyP: You do realise that the US as the pre-eminent world superpower only really came into being after the second world war? Before then Europe was way ahead of the US!
US Real GDP only overtook UK Real GDP in 1940! (source: measuringworth.com)
I have looked up on measuringworth.com the inflation rates for both the UK and the US over the 19th century, and they’re terrible! Both average 0.4% deflation over the 19th century, although that misses the huge swings the two experience. In one year the US deflates 15% only to inflate by 5% the next. The UK inflates by 30% one year, then deflates by 6%, and then deflates by 22%! It’s not exactly nice price stability as you might have thought from a gold standard.
As for GDP, the US economy grew at a rate of 3.84% 1800-1900, whilst in the period of 1900-2000, it grew at a rate of 6.38%.
So in the 19th century GDP growth was lower and inflation swung from catastrophic lows to depression like highs in the space of a single year. Some fantastic economic performance there.
64 FranklinMorris // Sep 9, 2009 at 6:54 pm
A couple hours ago (prior to WillyP’s) last comment, I had submitted a comment that is still not being displayed. It was typed quickly so I’m sure there are a few typos and/or grammatical errors but nothing that should keep it from being posted (based on earlier comments). I did include a couple of relevant links but others have done that as well. Is there a reason my comment was rejected?
65 WillyP // Sep 9, 2009 at 7:14 pm
yocto, you are very one dimensional. Despite the 2 central banks that existed throughout the century and the mini-crises due to fractional reserve banking, Americans managed to develop and populate a continent, creating the highest living standards in the world. Is this stagnation?
Read a book by any of these professors of economics – Mises, Hayek, Huerta de Soto, Sennholz, Rothbard, Menger, Ballve, Reismann – or any of these authors – Garrett, Hazlitt, Chodorov, Bastiat, Woods – and you’ll understand how profoundly wrong your assertions are. Your argument is tantamount to saying that printing money, or creating bank credit, are the way to wealth. This is absurd and doesn’t take a genius to figure out.
You can educate yourself from now on. I’m tired of this increasingly ridiculous exchange.
66 WillyP // Sep 9, 2009 at 7:26 pm
One more thing: you are stubbornly ignorant. You seem to place a higher value on preserving your own beliefs than on pursuing truth. You will remain unencumbered by facts and evidence because your own petty ideology and, apparently, your own self worth hinges on defending fiat money. There is no use arguing with a person who cannot seem to grasp the fact that they have been corrected. That is why I left you with reference material. I’m frankly frustrated at your inability to grow in thought.
67 yoctobarryc // Sep 9, 2009 at 7:38 pm
#62 franklinmorris: I think you must have hit the wrong button or your browser messed up because there’s absolutely no approval on the comments on this site.
#63 WillyP: So when presented with the facts, you retreat. Good. That’s called winning the argument through reasoned debate, rather than conspiratorial ramblings or obscure references. The only thing ridiculous about the exchange has been your inability to deal with the facts.
Again you suffer from a popular misconception. Americans do not have, and only for a brief period of history, have ever had the highest living standards in the world. The last time Americans topped the table was in 1972, almost 40 years ago.
If you think economic power is insufficient to compare the strength of the US, you should also remember that the British Empire was at its greatest in 1920, when it covered approximately 25% of the world by landmass.
I don’t claim to know all the authors and professors you note although I suspect they have not been in “fashion” amongst mainstream economists since the second world war and the birth of proper economic policy making. Hayek I know has plenty to say on the stupidity of communism (which we can all agree with I think) and the dangers of large governments with which I agree. When it comes to government intervention and stabilisation, I think I would leave his and any of the others’ writings to gather dust on the bookshelf.
68 yoctobarryc // Sep 9, 2009 at 7:42 pm
#64 WillyP: I have robustly defended the use of fiat currency in well over 10 posts on this comment site. I have cited economic theory, cited facts from academic resources and accepted the blame when I was in error.
Internet columns are prone to heated debate, that is the blessing of anonymity. I would say though that the entirety of post #64 could be flipped around with virtually no modification to describe your actions.
I have and will continue to study the works of Hayek, von Mises and Schumpeter (who seems to have been left out from this discussion), although that does not mean to say that are correct in what they have to say.
69 Alex9876 // Sep 9, 2009 at 7:58 pm
Yocto you are completely wrong. I did not write that price inflation is a cause of “inflation”. In fact, that is completely backwards. Inflation (increasing the supply of money) leads to rising prices ceterus paribus. So, if you cannot abide by the dictionary definition of the word, fine, I gave you an alternative to make it easier for you. You can say price inflation to speak of rising prices from any source, and use monetary inflation to refer to increases in the money supply.
You are also wrong about what the author was attacking. He thought he was being oh so clever and showing up Ron Paul for using a new definition of the term. Reread the article at the top and look up the word neologism. (Or you can read the what that word means in my earlier post). Ron Paul used the term in the correct economic sense – and it is definitely not new.
As far as missing the “big picture” as you say. Your definition obfuscates the facts, not mine.
Do you dispute the fact that increasing the money supply brings about a rise in prices ceteris paribus (all things being equal)? Of course, many things affect price. Some bring price up, some bring price down. But an increase in the money supply always brings prices higher than they would have been without the increase in the money supply.
You and I are from being the first ones to debate the definition. Read this:
http://www.thefreemanonline.org/featured/money-and-gold-in-the-1920s-and-1930s-an-austrian-view/
70 corymd3470 // Sep 9, 2009 at 9:43 pm
sinz54: See Robert P. Murphy’s Mises Daily concerning David Frum’s jihad against the gold standard.
http://mises.org/story/2824
If you want to understand what inflation is and how it affects markets then watch this video:
http://www.youtube.com/watch?v=M-0AOnGSh-g
Also check out the links I provided with the video.
Watch Gene Epstein of Barron’s at FreedomFest 2009 explain why we decided to get rid of sound money (gold standard). He references Alan Greenspan’s essay “Gold and Economic Freedom”:
http://www.youtube.com/watch?v=5PVk0QOTm3g
Greenspan’s Essay (1966):
(Part 1) http://www.youtube.com/watch?v=d40D5YHEa34
(Part 2) http://www.youtube.com/watch?v=obLMB6wHFbw
yoctobarryc is a real treat. Where did you get your degree? He writes the following:
“economics is most definitely a science.”
LOL! Where are the controlled experiments? Where are any real experiments? I don’t see any serious attempt to isolate variables in a scientific way. Economics is a social “science.”
Tom Lehrer gets it right: http://www.youtube.com/watch?v=wX5II-BJ8hI
“a series of fixed exchange rates tied to the price of gold which eventually collapsed under its own weight.”
Wrong. The fact that countries printed currency out of proportion to their gold stocks was not the fault of the gold standard but the fault of economists and politicians who said it was such a great idea to debase the currency.
“You lower raise interest rates like you CAN lower the price of bread. You go “today I’m giving out savings accounts of 5.5% instead of 6%” and you can also say “bread, half price today!”. You don’t need to bake more bread to do this.”
I won’t get into much detail here but you are ignoring the obvious effects of price fixing. In this case you would cause a shortage of bread.
“Domestic sales, housing, stocks, whatever are all not affected by the change in the dollar’s value.”
LOL! This one is really funny. What doesn’t use raw materials or oil which comes from outside of the country these days? Everything that is transported requires oil. Tractors and machinery run on oil. How about steel or other commodities. The fact of the matter is that domestic goods use foreign priced resources more than they do not. When the dollar falls then so does people’s purchasing power. A change in the value of the dollar affects the earnings of domestic companies.
“Most of economics and the economy is a balancing act. A balance of supply and demand, balancing inflation, interest rates etc. Most companies will raise their wages to match inflation.”
Unions might have contracts like that but most wages lag. The economy is a balancing act and is too complicated to have the government deciding prices in the economy. The politburo couldn’t managing the Russian economy. The Fed can’t manage ours.
“Saving is a good thing. Absolutely. Lending/borrowing is also a good thing. Where the balance lies is important – too much saving and too little borrowing means slow growth, few jobs and vice versa.”
OK. You certainly are showing me that you can provide a useless static interpretation of a dynamic economy. First of all, you need real savings to have real investment. Why don’t economists understand capital theory?
http://mises.org/story/3155
Second, the increase in savings reduces interest rates which creates more borrowing and lending.
“The basic principle of Gold Standards is that you sacrifice growth and employment for lower inflation.”
Robert P. Murphy addressed this in the first article I linked to.
“To say that “academic economists got us into this mess” at all is wrong. The recession was not caused by economists meddling somehow from some mysterious secret lair”
Well, the Fed is full of economist PhDs and they were the ones that fixed interest rates at one percent. They didn’t seem to have a clue about what was happening:
http://www.youtube.com/watch?v=HQ79Pt2GNJo
The government certainly knows how to fiddle with interest rates by printing money and, as a result, create huge economic bubbles. They forget that teaser rates cannot come about without cheap money distorting important market indicators (like interest rates) and providing a necessary precondition for leverage. That’s right. You can’t have cheap ARMs and a housing bubble (without immediate defaults and risk realization) without government counterfeiting and price fixing. But I digress.
“Austrian School economists claim that fractional-reserve banking, by expanding the money supply, will lower the interest rates compared to a full-reserve banking system. They argue that this will affect the role of the interest rate as the price of investment capital, guiding investment decisions. In their view, the natural (free of government influence) interest rate reflects the actual time preference of lenders and borrowers. Government control of the money supply through central banks and regulations allowing fractional-reserve banking disturbs this equilibrium such that the interest rate no longer reflects the real supply of and demand for investment capital. Austrian School economists conclude that, if the interest rate is artificially low, then the demand for loans will be higher than the actual supply of willing lenders, and if the interest rate is artificially high, the opposite situation will occur. This misinformation leads investors to misallocate capital, borrowing and investing either too much or too little in long-term projects. Periodic recessions, then, are seen as necessary “corrections” following periods of fiat credit expansion, when unprofitable investments are liquidated, freeing capital for new investment.” (see wiki on austrian economics)
71 yoctobarryc // Sep 9, 2009 at 10:50 pm
#67 alex9876: No, I’m sorry, but I am going to have to stop you there.
I have been patient. I have looked up definitions from various source. I quoted 4 separate dictionaries on an earlier post.
But in the 21st century inflation is the increase in prices, and NOT the thing causing it. Inflation is the end result, the effect.
To quote any dictionary (especially ones 150 years out of date) that says anything different is to be quoting (in my humble opinion) a pile of baloney. As your excellent article points out, Richard Timberlake holds it is an outdated and now inappropriate definition of inflation that came about when economic theory was not as advanced as it is now. It is like trying to argue against modern thermodynamics scientific theory equipped with the theory of the phlogiston.
The definition that always rings in my head after being drilled into me by my economics professors one after the other is “inflation is a sustained increase in the general price level”.
To say that “inflation leads to rising prices ceterus paribus” is to confuse cause with effect. It would get you a grade F on any economics exam. Saying “rising prices leads to inflation ceterus paribus” is a correct statement, eg “rising oil prices pushed the rate of inflation to 5.5% today” is a valid statement. Saying “the rate of inflation pushed oil prices to an all time high” is wrong, and obviously so. For some reason you are looking at this backwards.
Or, you could just be trying to have a debate about 19th century policy prescriptions (as I believe Ron Paul’s views are) in the 21st century, but on 19th century terms, in which case, you are effectively shifting the goal posts.
Although you are technically correct in saying that the author is wrong to deem Ron Paul’s definition a neologism. It is actually the opposite – an obsolete definition.
And as I have said before, I don’t dispute the fact that increasing the money supply increases prices causing inflation ceteris paribus. Although I would add that when you remove the caveat of ceteris paribus you often find that expanding the money supply has no visible or extraordinary effect on the rate of inflation.
I am scratching my head as to how I have obfuscated things. I am just trying to inject a centrist, modern, mainstream (maybe even common sense) economic viewpoint amongst some of the less accurate or misleading comments that have been perpetrated. I confess I may not do it with the coolest of tongues, but I try my best regardless.
72 FranklinMorris // Sep 9, 2009 at 10:58 pm
@yoctobarryc – I am back on the computer from where I made the first post and I can see it with bold text underneath that says “Your comment is awaiting moderation”. I think it is because the post contains 4 links. I’m going to try and repost it with the 2 fewer links.
—————————
@yoctobarryc – So, I am assuming you have not purchased a TV, computer, DVD player or any technology in your lifetime. The reason I assume this is that, because the productivity of the tech industries have improved year after year (probably due to the lack of gov’t interference relative to other industries like healthcare and education), prices of these products have continued to fall even while the technology gets better and better. Since you view falling prices as a bad thing, you are probably waiting for prices to stop falling before you purchase a computer. I hope the computer lab at school doesn’t mind you spending so much time there.
What I find amusing is that you keep writing comments as if no one you are speaking to has read Keynes, Friedman, Samuelson, etc. (I have) but it’s obvious that you haven’t touched anything from the Austrian school. I would suggest you spend a couple hours and read Henry Hazlitt’s “Economics in One Lesson” @ http://jim.com/econ/ . If you have additional time, I would suggest (as Bob did) “Meltdown” by Thomas Woods as it addresses much of your nonsense in detail.
As for your thought blaming the depression on gov’t intervention is absurd, why? That is where the evidence points. Have you ignored the evidence or is your economic education really that half-ass? How do explain the differences between the collapse of 1920 and the crash of 1929? http://www.youtube.com/watch?v=czcUmnsprQI
What I do find “absurd” is that in one post you’re describing how Keynes was so mathematical, statisical and fact-based and a couple posts later you’re repeating the Keynesian “Animal Spirits” nonsense (where you claim the “madness of crowds” is what caused the collapse). If you had not spent so much time here I would be sure you doing satire.
I have two questions…
(1) To which of the economic models do you subscribe and forms the basis of your view of the economy? Keynesian, Monetarist, Socialist or Fascist (I know it’s not Austrian)?
(2) If you think the idea of a central bank controlling the price of money is a good thing, would you support Hayek’s idea to legally allow a competing currency? For instance, the Fed would continue to operate as it does but the market would be allowed to introduce competing currencies (like a commodity backed currency for instance) that would allow Americans to decide for themselves which currency to use.
73 yoctobarryc // Sep 10, 2009 at 12:22 am
#69 franklinmorris: I have purchased a computer amongst other technology products, the one I am writing this from is it in fact.
There’s is nothing wrong with technology prices falling, so long as there are sufficient appreciating prices to compensate for them. (I am getting a bit bored of explaining the perils of deflation in this column). And especially with technology, people do wait for the prices to drop. For example, when Sony released the Playstation 3, some people bought it immediately, while others waited the year or two for them to revise their pricing downwards.
I don’t assume people haven’t read the works of Keynes, Friedman et al, but the comments of some people on this post have lead me to believe that they either haven’t read them or understood them.
Keynes’s work extended over some period of time, and it is important to differentiate between his economics, his policies and his politics. All are very different flavours to one another. His work on economic theories (notably monetary economics and unemployment) were important milestones on economic theory, and are highly mathematical.
His “animal spirits” was not an economic theory, just a statement of his political beliefs that markets are to be viewed with healthy scepticism. That’s fine, people don’t have to explain everything in detailled maths all the time, especially when they’re not adding them to the scientific record. Keynes supposed these things but could never prove them. Only in the last 25 years have we started to come round to vindicate him on this – the works of Joe Stiglitz and George Akerlof (who won Nobel Prizes) along with Robert Shiller provide excellent research and scientific theories.
As for madness of the crowds, the markets have shown (and continue to show) irrationality that cannot be explained by traditional rational-optimising economic theory, eg peoples tendencies to panic. Furthermore, markets have undervalued key things like risk and overpriced real estate values. Why? Because everybody was doing it, which in a boom, somehow makes it excusable.
I do not hold Keynes in unqualified regard, however. His theory of secular stagnation is a pile of fresh dung.
To your first question, I don’t view myself as a particularly ideological person, and therefore don’t like to pidgeonhole myself into a particular category, although I think I can rule out Austrian, Socialist and Facist.
I think that 90% of the time the free market is the best possible allocator of resources, but only because of the mechanism of competition. If competition is distorted, then a private monopoly is no better in my eyes than a government monopoly, in fact, possibly worse, although that is debatable.
I would also agree with Keynes and his modern successors that because we are human beings, imperfections in the market (which accumulate into large scale effects) necessitate government regulation or intervention.
Governments are also essential for promoting economic growth in developing economies in ways that markets could not do by themselves.
I also place a greater value on pursuing positive freedom for all rather than upholding negative freedom.
If you asked me to cite a book which is my economic bible, I would point you towards John Kay’s “The Truth About Markets”.
As for a competing currency, although an extremely elegant proposal, I fail to see the benefits outweighing the costs (perhaps you could enlighten me on why you think differently). It would probably introduce unnecessary transaction costs and also be impossible in reality to operate. Surely in the long run one currency would become the most popular, by gaining from increased scale, eventually becoming a monopoly (which is the current situation)? And what about interest rates? How would I save my money in the bank? What would determine the differing interest rates and how would this affect the wider economy – would we see 19th century boom and bust?
The basic problem you are trying to solve with gold standards or competing currencies is that you believe there is too much money in the economy, causing unnecessary inflation, (which has been caused by government meddling). But the tradeoff for all this inflation is that, in a competitive free market economy supplying adequate capacity, you get lots of economic growth and jobs to go with it. (In fact, it’s actually the other way round – all that growth with a reasonable level of employment does create inflation, but let’s not get too sidetracked down macroeconomic relations for now). By dampening inflation, with whatever method, you dampen growth, job creation and prosperity.
That’s a tradeoff that just doesn’t seem worth it.
74 JimBob // Sep 10, 2009 at 6:27 am
A Free-Market Monetary System
http://mises.org/story/3204
75 Brian Macker // Sep 10, 2009 at 6:54 am
joemarier,
You’re thought processes are glaringly shallow. Andrew Jackson gives a speech in 1834 indicating a firm grasp of the actual economic bubble being caused by the central bank, which naturally leads to a bust three years later and you think that he should be mocked? If only Bill Clinton had done the same thing, or George W. Bush before we got in as deep a bubble we had. Obama just reappointed the bubble blowers apprentice, Bernarke, who is now attempting to blow yet another bubble with very bad consequences down the road.
Did you even read the article you pointed to on the six year depression that started in 1937 after Jackson’s term was up? The first sentence is “On October 12, 1837, the issuance of $10,000,000 in Treasury notes is authorized. “ From that sentence it is obvious that the central bank was still in place and that they were following Keynesian style monetary expansion as a solution to the downturn. Which of course only prolongs and intensifies the a problem caused by overexpansion of the money supply. Something that Jackson recognized. Just because Jackson was president doesn’t mean he had the power to control the central bank, or even dissolve it.
Compared to you Paul Krugman is an economic genius. [Note: That was an insult]
Ron Paul was the only major presidential candidate that had even an inkling of understanding of our economic problems. Were he president instead of Clinton, and Bush we wouldn’t be in this mess.
76 Brian Macker // Sep 10, 2009 at 6:55 am
“There’s is nothing wrong with technology prices falling, so long as there are sufficient appreciating prices to compensate for them.”
LOL
77 yoctobarryc // Sep 10, 2009 at 7:40 am
#77 brian-macker: What’s wrong with what I wrote?
The rate of inflation is often made up of prices moving in differing directions, in differing amounts. Eg fuel costs could go up 40% whilst food stays static and technology goes down 20%.
78 Brian Macker // Sep 10, 2009 at 7:43 am
sinz54,
It’s quite clear you don’t know what you are talking about and have never read or understood any criticism of the narrow and incorrect view you picked up from Keynesians.
I could spend all day correcting your mistakes but I’ll use just one example:
“But if we have deflation, then NOTHING is more profitable than saving, even if interest rates fall all the way to zero. “
Any economic activity that has a rate of return that is higher than average rate of return will be more profitable than merely holding money (earning0% interest) during a period of deflation caused by productivity increases. That’s without fractional reserve banking and it’s credit collapses.
With fractional reserve banking any economic activity that returns more than the market rate of interest is for savers is more profitable than saving, even during the bursting of a bubble, an extreme deflation created by a collapse of the leverage.
How do you suppose that savers are paid interest? Obviously, they are paid from profits that are higher than the rate of interest.
What you actually meant to say was that nothing was more profitable that hording money during deflation, since that is the only savings situation that does not entail lending money out to more profitable ventures. That is also false because again and venture that returns more than 0% profit will be more profitable than hording money.
You’ve made many errors here that have lead to your confusion. I will point out one since that’s all I have time for now. 1) You confuse productivity driven deflation with fractional reserve driven inflation. a) The first is a good thing caused by the market adjusting prices to increased quantities of goods. That way the same amount of money can be used to facilitate more purchasing power required by the increased goods. This kind of deflation is slow and in harmony with the increased productivity. b) Fractional reserve deflation is a different beast but also required and a good thing. This kind of deflation is the rapid unwinding of the fractional reserve ponzi scheme that lead to the misallocation of goods and services during the inflationary period of the fractional reserve cycle. It is also required to bring prices in line with the quantity of money. When allowed to occur freely the economy quickly adjusts to the exposure of the fraud. Those who miscalculated the risks involved take their losses and move on. Prices readjust closer to the proper market prices of a balanced economy. An example of this is the depression of 1920 where no attempt was made to prevent the deflation, vs. 1929 when enormous monetary pumping and price controls were used in an attempt to forstall the correction. The term “correction” being precise in it’s semantic implications.
79 WillyP // Sep 10, 2009 at 8:38 am
@yocto #78:
What’s wrong with what you wrote is that is confuses the functioning of the price mechanism with inflation.
80 yoctobarryc // Sep 10, 2009 at 8:51 am
#79 brian-macker:
Sinz54 is absolutely correct to say in deflationary times nothing is better than saving – whether in a savings account or under the mattress in your home. What are the alternatives to saving? Spending or investing? Now, deflation discourages spending, because if you wait just that one day longer, prices will fall and you are rewarded for waiting, which lowers demand for goods. Deflation discourages investing, because to invest (ie building up a business) you need capital, and the cost of capital (even with a 0% interest rate) is prohibitive.
In short there will be few or no ventures with a higher than 0% rate of return.
“Productivity-driven deflation”, ie lower prices from lower unit costs coming from increased scale is a rarity in the real world. Instead the fact that competition is reduced (because there are less companies – how else do you get big enough to deliver such productivity savings??) means the cost savings are turned into profits at firms and not transferred to the consumer.
Productivity-driven deflation is not caused by by increased quantities of goods. It is caused by firms competing to lower prices. And even then, that rarely is on a big enough scale to affect the economy.
“Fractional reserve deflation” as you call it (or a contraction in the money supply), commonly called a credit crunch, is not caused by some sort of ponzi style financial edifice collapsing. It is caused by people panicking and withdrawing funds, investment and liquidity. (which triggers deflation, which further discourages investment, creating a downward spiral)
And history has shown that soon after the panic and crisis of a credit crunch has passed, the money supply soon resumes to where it was. Also, your comparison of 1920 and 1929 is completely misleading – in 1919-1921, real GDP contracted by 4%, in 1929-1934 real GDP contracted 27%.
But that’s not the point – the point is that sinz54 is not confusing productivity-driven deflation with money supply driven deflation. BOTH cause the perils of deflation. To repeat, THERE IS NO SUCH THING AS GOOD OVERALL DEFLATION. Deflation can occur in isolation in industries to no harm, so long as inflation in others compensates for this.
81 Brian Macker // Sep 10, 2009 at 9:11 am
#78 yoctobarryc,
What is wrong? The sentence, ““There’s is nothing wrong with technology prices falling, so long as there are sufficient appreciating prices to compensate for them.”? It’s a normative statement, not a descriptive one. You also ignore the purpose that prices serve in the market to coordinate plans via the signals they carry.
All other things being equal, if we become more productive in one area then prices will fall there because of the increase in the quantity of goods. That will, all other things being equal, tend to cause price increases in other areas. Thus, productivity increases in one area can make other areas more profitable. Not will this NOT be uniform or random, and will coordinate peoples plans appropriately. Prices of inputs to the area with increase productivity will tend to rise, while those in areas where the new cheaply produced good is an input will tend to fall. Prices of substitute goods will also tend to fall.
All those things are good and will happen naturally. There is no need for a central bank to accomplish them. No need to produce “compensating price increases”. Plus the net effect will be deflationary precisely because overall there is a net increase in the ratio of goods to money. Which is also good because it increase the value of poor peoples savings, without them having to trust their money to Wall Street.
Furthermore, all other things may not be equal. There may be productivity increases in other areas of the economy. So if the goal is to prevent the price decreases then one option is to reduce productivity in other areas. One could accomplish this by tying leg irons around the feet of workers in other sectors of the economy. That’s what’s funny. The assumption that one must compensate.
Sure another way to involuntarily accomplish the “price stabilization” is to inject money via either fractional reserve (loosening reserve requirement for example), or via interest rate manipulations, or direct monetary printing. All those however also have distortive effects on prices, and so in fact cause their own kinds of productivity destruction.
As an example, Greenspan made the mistake of trying to compensate for the productivity increases caused by the worldwide Reagan/Thatcher revolution by artificially lowering interest rates even further than was naturally caused by the increased productivity. So instead of US citizens getting the correct price signals we got the wrong ones. We should have seen level prices for assets, and decreasing prices on goods and services. That is the proper price signal for the opening up of vast pools of labor overseas. We would have seen our wages decreasing as prices also decreased. Profit margins of our corporations would have been squeezed, and the value of housing would not have gone into bubble mode. Nor would the newly injected money have tended to overstimulate areas of increased productivity, force people to invest their money in bubbles, etc.
Any new cash injected must be injected somewhere. It cannot be injected uniformly and that is what causes the problem.
You’re statement was funny because it was intrinisitic and normative. It assumes that there is a aggregate price level that is “correct” and also that we ought to try to achieve it. It fails to take into account that market prices are the means by which a free market adjusts the quantity of money to the quantity of goods.
82 WillyP // Sep 10, 2009 at 10:40 am
@brian-macker,
I would not bother continuing with your refutations. Sometimes you have to let experience teach people. In my humble opinion, yocto’s indoctrination is on par with any other dogmatist who is unaffected by reasonable objections.
@Shiller/Akerlof and “Animal Spirits”
I read the book because it was recommended to me by my former manager (at the time I was with a brokerage house). It was incredibly painful to get through and quite dull. It read like an apologetic screed for liberal policy prescriptions. I suppose if I had dumped thousands of dollars into a degree in neoclassical economics, it would be nice to have two institutionally acclaimed economists repeat the tropes and errors of my professors, perhaps even despite the book’s rather poor prose.
@Hayek’s minimizers
He was not just known for disagreeing with communism. He was a first rate social theorist who understood that economics encompassed more than merely the study of numerical figures. An ardent anti-Keynesian, he rebuffed his Cambridge colleague in many articles and books, arguing that interventionism inevitably leads to totalitarianism. A student of Mises’, he developed a similar argument against socialism’s ability to conduct rational economy (i.e., to calculate) by emphasizing the role of dispersed knowledge in society. Incidentally, he was a major resource for Michael Novak, who referenced Hayek often in his work that eventually led to the revision of the Catechism of the Catholic Church.
@ those who insist Keynes was very far from a socialist
They have a superficial understanding of socialism, or an inability to recognize centralized power under their noses. Government control of the money supply and an ability to inflate/deflate on a whim is extremely damaging to the “macro”economy. It severely distorts the price mechanism, in particular for interest rates (hence the bubbles in durable goods) and thus redirects resources into unprofitable channels.
Additional points:
Fractional reserve banking and central bank counterfeiting are identical in consequence. They both undermine the important function of accounting. There is nothing unworkable per se in paper money or a fiat currency, but the ability to counterfeit by governments (enforced by legal tender laws) makes them inadvisable to a people that wish to remain free and protect their private property. Meaningful reform would dually abolish the central bank/legal tender laws, and create a regulatory environment conducive to the establishment of warehouse banking (100% reserve requirement) and investment houses.
There is no optimal quantity of money. Assuming there is sufficient specie for business circulation, any amount will serve perfectly well because it’s value can adjust relative to the goods produced.
Entrenched interests make these discussions nearly impossible with academically trained economists. Our educational system is such that it does not encourage people to think outside what they are taught in matters relating to government. In this sense it is very Hegelian – what exists now is better than what existed before by virtue of the fact that it came later. Notwithstanding the ignorance implicit in this assumption, such an attitude discourages thoughtful reflection on current methods. Understanding the history of a field of study is invaluable to understanding its fundamental questions and research program. While this is of, perhaps, minimal usage in the natural sciences where experiments are repeatable and their results continually demonstrable to pupils, the science of economics is abstract and conceptual and does not permit experimentation; it progresses through the compounding of theory on correct assumptions.
83 sinz54 // Sep 10, 2009 at 12:27 pm
defferding:
That’s impossible.
The organization/company would have to have far more in monetary reserves than any bank (because the bank usually loans out most of its money–fractional banking). In fact, it would have to keep on hand the funds needed to pay off all the depositors of each bank. Otherwise it itself would go bankrupt trying to make all the depositors whole. Who is rich enough to underwrite all the banks of a city like New York?
There’s only one answer: The Government. Because if they don’t have the cash on hand to make everyone whole, they’ll print it.
We just tried your free-market idea with securitized mortgages. Credit Default Swaps (CDSs) were invented as a kind of side insurance policy. $40 trillion of them, from what I heard. But when it came time to call them, the money wasn’t there–and the whole system collapsed.
84 sinz54 // Sep 10, 2009 at 12:36 pm
yoctobarryc: “Productivity-driven deflation”, ie lower prices from lower unit costs coming from increased scale is a rarity in the real world.
pmlawrence:
85 sinz54 // Sep 10, 2009 at 12:36 pm
Sigh, due to lack of a “Preview” button, I made a typo in the HTML code. Let’s try that one again.
pmlawrence:
In the severe deflation that accompanied the Great Depression, people’s cash balances (money stocks) FAILED to appreciate. And in fact, the money supply contracted.
And the reason is obvious.
As consumers started hoarding their dollars rather than spending them, companies went out of business due to lack of customers. And their employees–who ARE the consumers–lost their jobs. Now they were forced to draw down their savings to pay for the necessities of life–food, shelter, health care.
You left out the fact that general deflation will cause high unemployment (20% during the Great Depression)–and the unemployed have no extra cash on hand to save.
And you’re seeing it today. The Consumer Price Index fell last year. But that’s small comfort to the 10% who have no job and have to live off their savings to survive. They’re not saving, they’re drawing down their savings in order to live.
86 sinz54 // Sep 10, 2009 at 12:43 pm
brian-macker:
Suppose Bush and Paulson and Bernanke had done nothing, and we got into a severe deflationary recession. That means high unemployment, the drawing down of savings by the unemployed just to pay for the necessities of life, and rapidly appreciating dollars and bonds despite interest rates close to zero. (We came real close to that scenario as it was.)
What would ever end this deflationary spiral? How would we ever get out of it? What would get us out of it? When would we get out of it?
The track record on such things isn’t encouraging. Look at Japan in the 1990s.
87 sinz54 // Sep 10, 2009 at 12:55 pm
yoctobarryc:
A good example of the perils of productivity-driven deflation was Japan in the 1990s.
Japan had gotten itself into an asset bubble caused not by central bank inflation but by Japan’s technological and economic successes. The Japanese electronics and auto industries had made Japan a wealthy economic superpower running huge trade surpluses, and Japanese policies encouraged Japanese citizens to save and invest rather than consume. Ron Paul and his defenders in this discussion would be pleased with all this; and at the time, free-market defenders in the U.S. did look enviously at the Japanese success. So, the Japanese invested in real estate, and real estate values soared beyond the properties’ real worth (sound familiar?).
Except as always happens with bubbles, eventually you run out of investors, and the whole thing collapses. The Japanese yen started deflating rapidly (the price of gold as denominated in yen collapsed). And Japan entered into a period of long-term economic stagnation.
For those who think that such deflations are self-correcting, notice that the Nikkei 225 Stock Index has been declining since 1990(!!!)–19 years. In fact, it reached a new post-1990 low last October.
http://tinyurl.com/6aoj4r
88 yoctobarryc // Sep 10, 2009 at 1:40 pm
#82 brian-macker:
I am confused when you use the term “more productive”. Do you mean supply of the good increases or we become more productively efficient, ie we harness cost savings from scale?
Of course ceterus paribus increasing supply lowers prices. I’m not contesting that for one moment.
In the real world though cost savings from scale are rarely passed on to the consumer.
Assuming there is a fixed supply/capacity in other industries, the increased supply of our original good will boost demand, causing price appreciation in other industries.
None of this so far I dispute. It’s pretty standard microeconomic theory. But I would like to point out that at least brian-macker agrees with me that inflation can be caused by price appreciation entirely disconnected with the money supply.
You misunderstand me when I say you need appreciating prices to compensate for deflating ones. I do not mean to say the central bank needs to get involved at all in individual price controls.
If in the event, at a macroeconomic level, the general price level falls (ie deflation), this is per se not a bad thing. However, the knock effects of the deflation are. It means job destruction will exceed job creation, raising unemployment. Poor people typically have the lowest savings of any income group, (ie they have the highest marginal propensity to spend). Whilst I suppose theoretically your savings would appreciate by a small amount during deflationary periods, the loss of income from being sacked/fired/laid off will more than offset this small gain.
As I’m sure you know, there are two levers of policy to help stabilise and steer the economy: monetary policy and fiscal policy. I endorse properly set interest rates to help control the rate at which the money supply expands. In times of recession, I endorse tax cuts on indirect taxes such as sales tax or duty. In times when interest rates are at zero percent, I endorse government stimulus spending. I don’t endorse governments setting prices (apart from central interest rates) to control wages or any other cause of inflation. I certainly don’t endorse shackling people’s legs!
So let me be clear, on a microeconomic level, there is no problem with people cutting costs and prices. But on a macroeconomic level, there is. Macroeconomic deflation put the economy into reverse gear.
There is nothing laughable about trying to contain and set a “correct” price level. Most economist believe that a price level that increases by a small amount each year is the “correct” level. I agree with that.
There are many prices that we believe need to be “correct”. Indonesians receive subsidies on food and drink to survive, environmentalists argue for ‘green taxes’ to offset the externalities of human activity.
I don’t dispute the fact that central banks can get it wrong. In the UK, in the late 1980s, bad monetary policy led to the “Lawson Boom” and about two years later a fairly significant recession.
However, you can track the performance of central banks with the free market fairly easily. You can compare the central bank’s short term interest rate with the short-term interbank lending rates. What happened in 2008? As the Bank of England lowered its interest rates to less than 1%, to help provide cheap capital to struggling business threatened by the credit crunch, the London Interbank Rate (LIBOR) was approaching nearly 7%, because banks were excessively risk-averse in terms of lending to one another. 7% would be considered historically high to counter rampant inflation! This is just one of many examples where the free market misallocates resources.
So yes, in the 1980s, Greenspan might have on balance done a bad job (I don’t enough about it to express a firm opinion). But considering the liberalised US stock market plunged 22% in a day in 1987, for reasons still unexplained, you might consider that the free market would have done no better a job necessarily. Especially when liberalised interest rates markets would probably act like a oligopoly, given the few major banks who would print.
89 WillyP // Sep 10, 2009 at 2:25 pm
Inflation and Deflation; Inflationism and Depntionism
The notions of inflation and deflation are not praxeological concepts.
They were not created by economists, but by the mundane speech of the
public and of politicians. They implied the popular fallacy that there is such
a thing as neutral money or money of stable purchasing power and that
sound money should be neutral and stable in purchasing power. From this
point of view the term inflation was applied to signify cash-induced
changes resulting in a drop in purchasing power, and the term deflation to
signify cash-induced changes resulting in a rise in purchasing power.
However, those applying these terms are not aware of the fact that
purchasing power never remains unchanged and that consequently there
is always either inflation or deflation. They ignore these necessarily perpetual
fluctuations as far as they are only small and inconspicuous, and
reserve the use of the terms to big changes in purchasing power. Since the
question as to at what point a change in purchasing power begins to deserve
being called big depends on personal relevance judgments, it becomes
manifest that inflation and deflation are terms lacking the categorial
precision required for praxeological, economic, and catallactic concepts.
Their application is appropriate for history and politics. Catallactics is free
to resort to them only when applying its theorems to the interpretation of
events of economic history and of political programs. Moreover, it is very
expedient even in rigid catallactic disquisitions to make use of these two
terms whenever no misinterpretation can possibly result and pedantic
heaviness of expression can be avoided. But it is necessary never to forget
that all that catallactics says with regard to inflation and deflation-i.e., big
cash-induced changes in purchasing power-% valid also with regard to
small changes, although, of course, the consequences of smaller changes are
less conspicuous than those of big changes.
The terms inflationism and deflationism, inflationist and deflationist,
signify the political programs aiming at inflation and deflation in the sense
of big cash-induced changes in purchasing power.
The semantic revolution which is one of the characteristic features of
our day has also changed the traditional connotation of the terms inflation
and deflation. What many people today call inflation or deflation is no
longer the great increase or decrease in the supply of money, but its inexorable
consequences, the general tendency toward a rise or a fall in commodity
prices and wage rates. This innovation is by no means harmless. It
plays an important role in fomenting the popular tendencies toward inflationism.
First of all there is no longer any term available to signify what inflation
used to signify. It is impossible to fight a policy which you cannot name.
Statesmen and writers no longer have the opportunity of resorting to a terminology
accepted and understood by the public when they want to question
the expediency of issuing huge amounts of additional money. They
must enter into a detailed analysis and description of this policy with full
particulars and minute accounts whenever they want to refer to it, and
they must repeat this bothersome procedure in every sentence in which
they deal with the subject. As this policy has no name, it becomes selfunderstood
and a matter of fact. It goes on luxuriantly.
The second mischief is that those engaged in futile and hopeless attempts
to fight the inevitable consequences of inflation-the rise in prices-are
disguising their endeavors as a fight against inflation. While merely fighting
symptoms, they pretend to fight the root causes of the evil. Because
they do not comprehend the causal relation between the increase in the
quantity of money on the one hand and the rise in prices on the other, they
practically make things worse. The best example was provided by the subsidies
granted on the part of the governments of the United States, Canada,
and Great Britain to farmers. Price ceilings reduce the supply of the commodities
concerned because production involves a loss for the marginal
producers. To prevent this outcome the governments granted subsidies to
the farmers producing at the highest costs. These subsidies were financed
out of additional increases in the quantity of money. If the consumers had
had to pay higher prices for the products concerned, no further inflationary
effects would have emerged. The consumers would have had to use for
such surplus expenditure only money which had already been issued previously.
Thus the confusion of inflation and its consequences in fact can
directly bring about more inflation.
It is obvious that this new-fangled connotation of the terms inflation and
deflation is utterly confusing and misleading and must be unconditionally
rejected.
-Human Action, Mises
90 yoctobarryc // Sep 10, 2009 at 3:21 pm
#90 WillyP: Von Mises is wrong to say that politicians and the public no longer have a ready and accessible term for expansion of the money supply. The pejorative term used by the media and many writers of comments on this column is “printing money”.
Whilst not accurate in describing what is actually happening, nor fair in explaining the impact of expanding the money supply, politicians and pundits have no problem using the phrase “printing money” exactly because it has the emotive power that Von Mises talks about with inflation.
So “statesmen and writers do have the opportunity of resorting to a terminology
accepted and understood by the public when they want to question
the expediency of issuing huge amounts of additional money”, as Von Mises might have written.
Von Mises is absolutely right to condemn the farm subsidies when paid for by printing money. That is the height of monetary irresponsibility. But I hope he would distinguish between then and how subsidies are paid for now, which is out of taxation, which keeps the money supply static.
But he is dead wrong to say something like a switch in the definition of the word inflation could somehow make us more prone to inflationary policies. That’s absurd – people invent new meanings (neologisms even) and new words all the time, and as I hope I demonstrated at the beginning of this comment, we have plenty of substitutes for the old Austrian meaning of inflation.
91 WillyP // Sep 10, 2009 at 3:58 pm
That was written a long time ago. At any rate, as was already pointed out, your suggestion of “printing money” is a euphemism. The general rise in prices is rarely tied back to the underlying cause – expansion of the money supply. As Mises points out, prices rise and fall regularly on the free market because that’s just how the market and its pricing mechanism reflect changes in economic reality.
My main point, however, was to rebuff the rambling sinz, who is throwing around terms and concepts with reckless abandon (whereas you are a typically hapless economist of the neoclassical school whose manifold misconceptions are predictable). I might as well be recruited to diagnose diseases in a doctor’s office, wholly uncredentialed. It reinforces my belief that people with political opinions generally feel they are capable of intelligent economic analysis, despite lacking all fundamental understanding.
92 yoctobarryc // Sep 10, 2009 at 4:21 pm
#92 WillyP: I have been called so far in this discussion a socialist, a keynesian, indoctrinated, dogmatic, hapless and wrong. I wasn’t expecting Neoclassical to get thrown in there though!
I have difficulty understanding your economic position. You follow the conventional Austrian view that central banking is a bad idea (and should be gotten rid of) because it allows monetary irresponsibility (printing money) to occur. I suppose you also support the ideas of gold standards and competing currencies. You also seem to loath the idea of government interfering in the free market, and you are highly alarmed by inflation of any sort.
But if you are criticising me for being neoclassical, full of “manifold misconceptions”, I struggle to see what you’re trying to attack.
So you don’t think people rationally optimise? No, that can’t be the case, because you support individualism.
So you don’t think supply and demand can produce the best situation? No that can’t be right either, because you believe that free markets are superior and wiser to anything else.
Or are you attacking some sort of gross oversimplification? No, that can’t be the case either, because you implicitly supported the Austrian Business Cycle theory, which contains plenty of gross oversimplifications.
So I am confused. A free marketeer who doesn’t support the free market.
93 WillyP // Sep 10, 2009 at 4:44 pm
You’re an interventionist, and that carries with it a number of misconceptions rooted in bad assumptions, which are typically associated with Neoclassical economics. These misconceptions render your policy recommendations and thinking hapless. Not always completely wrong, but often times exactly, polar-ly wrong.
Does that about sum it up?
I don’t even mean to be rude, although I don’t pretend I haven’t been in the past. I just cannot understand the alleged consistency in the neoclassical school, and so have concluded that there is none. The way I see it, this leads to one bad policy after another, attempting to correct errors with yet more errors. Because of its constant need to invent new policies for newly created problems, it has slowly come to incorporate elements of the free market, interventionism, and at times Marxism. The heart and soul of its policy prescription formula appears to be the underlying belief that there is no logic or sense to market behavior, and as a consequence it has taken what it considers a pragmatic approach. I view these “pragmatic” policy solutions as destructive.
I think at the root of its confusion is its (i.e. the neoclassical school’s) poor understanding of human economic life is bad monetary theory, the latest examples being Keynes and Friedman. To go further back, its errors are rooted in a flawed philosophical outlook of the field; in particular, the belief that mathematics helps glean insight to policy prescription. Instead of examining cause and effect, it overlays mathematical concepts and models that are erroneous.
I, on the other hand, am a “Misean,” if you will. I may make one or two exceptions – government funded charity, as a last resort, as was done in the past – but in general I support an unhampered market.
94 Brian Macker // Sep 10, 2009 at 9:25 pm
“Sinz54 is absolutely correct to say in deflationary times nothing is better than saving – whether in a savings account or under the mattress in your home.”
Really? So I guess if there is deflation for several months you guys will just starve to death since it is more profitable to save than to eat.
95 Brian Macker // Sep 10, 2009 at 9:38 pm
sinz54,
“A good example of the perils of productivity-driven deflation was Japan in the 1990s.”
Nonsense, you are just misinterpreting the causes and effects of Japans problems. Your entire post was one long string of errors.
96 Charles Easterly // Sep 11, 2009 at 8:01 am
“WillyP”,
It is clear to me that your words are being wasted on your fellow debator.
For those of us reading these posts who are unsure which one of you is more correct, I suggest we consider who’s economic theory is, and has been, prevelant in our society – and the scale of its failures.
Best regards,
Charles
P. S. Perhaps you can identify the speaker who said this: “Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we did it. We’re very sorry. ”
You may find the answer by using the following link: http://www.federalreserve.gov/BOARDDOCS/SPEECHES/2002/20021108/default.htm
- C
97 sinz54 // Sep 11, 2009 at 10:52 am
brian-macker:
During the early days of the Great Depression of the 1930s, the poor were fed in soup kitchens run by private charities, including religious charities. Because they really had no other way to get three square meals a day. Some large cities, like New York, started their own soup kitchens. But private charity was the main way that the poor got fed in prior depressions and financial panics in the 19th century.
The reason that’s not the way things happen now, is because we have government entitlements, specifically unemployment insurance. If you lose your job due to a deflationary recession, you can get enough money from unemployment insurance to live on. The Social Security Act of 1935, part of FDR’s New Deal, forced every state in the Union to cooperate in taxing workers to contribute to an unemployment insurance fund.
But I suppose that if you’re a total free-market purist, then you must be opposed to government-run unemployment insurance funds too? You’re happy with soup kitchens run by churches and charities?
98 sinz54 // Sep 11, 2009 at 11:01 am
The basic problem is that we need to discuss not just economic theory, but political economy. New Majority is, after all, a politics blog, not an economics blog.
A deflationary depression is still an economy that’s in balance and functioning. Those who have jobs and those companies that are still in business are continuing to produce things, and those who are still gainfully employed are continuing to consume things. The problem is that this economy is balanced at a level that is unacceptably low for the nation. It just leaves out millions of impoverished, unemployed Americans, and great swaths of idled industrial areas, from the reduced economy that remains.
What Ron Paul and his supporters fail to understand is that we conservatives are NOT just defenders of free markets. First and foremost, even before free markets, we are NATIONALISTS. We love America and we want her to be second to none and to be a dynamic, ascending world power.
A “balanced” free economy in depression that dramatically reduces America’s standing in the world is unacceptable to conservatives. It might be acceptable to Ron Paul’s isolationists, who don’t seem to care whether America is dominant in the world or not.
99 sinz54 // Sep 11, 2009 at 11:12 am
toctobarryc:
There I part company with you.
It is widely agreed that the New Deal helped alleviate the Depression, but did not cure it. The economy remained sluggish. Unemployment never dropped below 10%, and the stock market was no higher in 1940 than in 1925.
It took the massive government spending on World War II (40% of GDP) to finally get us totally, completely, out of the Depression. (Beginning in 1942, the Dow Jones Industrial Average started a long-term rise that wasn’t ended till the Vietnam War of the 1960s.) But that much spending would have caused hyperinflation, if it weren’t for FDR’s rationing and wage/price control programs. Also the selling of war bonds helped soak up excess consumer dollars.
Over in Germany, Hitler’s massive rearmament program and war policies would have also caused hyperinflation–if it weren’t for Hitler’s wage/price controls.
The kinds of “reasonable” government spending programs that FDR tried, and that the Japanese tried in the 1990s, have not jump-started these economies out of their sdvere deflationary depressions. It really appears that to do the job once and for all, you need truly HUGE government spending, combined with wage/price controls to prevent hyperinflation.
Only FDR and Hitler understood this intuitively–despite neither of them having had formal training in economics.
100 WillyP // Sep 11, 2009 at 11:23 am
I like my country, too, believe it or not. That is why I seek not to ruin it through destructive interventionist policies. I think this quote by Prof. Rothbard about sums up the attitude that economic illiterates and most pseudo-economists have towards the economy:
“The economy is treated as a potentially workable, but always troublesome and recalcitrant patient, with a continual tendency to hive off into greater inflation or unemployment. The function of the government is to be the wise old manager and physician, ever watchful, ever tinkering to keep the economic patient in good working order. In any case, here the economic patient is clearly supposed to be the subject, and the government as “physician” the master.”
Nanny-statesman.
– “Economic Depressions: Their Cause and Cure” Murray N. Rothbard 1969
101 WillyP // Sep 11, 2009 at 11:34 am
sinz, you are completely 100% wrong. who gave you the confidence to pen such garbage and not even blink? you are at odds with every single tenet of microeconomics. and i find it perversely amusing that you praise the common genius of FDR and Adolf Hitler.
so we spend and inflate massively, and to stop the hyperinflation we use price/wage controls? nobody, i repeat – n-o-b-o-d-y – in their right mind would find this sensible who has taken 3 credit hours of econ. i would wager that yocto too disagrees with everything asserted there, and adamantly.
102 Brian Macker // Sep 11, 2009 at 6:59 pm
sinz54,
“During the early days of the Great Depression of the 1930s, the poor were fed in soup kitchens run by private charities, including religious charities. Because they really had no other way to get three square meals a day.”
How is any of what you wrote responsive to my mopping the floor with you in a single sentence. Your claim now is that if the poor people on those soup kitchen lines had pockets full of cash saving they wouldn’t have bothered to go out an buy a square meal. They weren’t on those lines because they had lots of savings. It wasn’t about savings being the most profitable thing to do.
The reason they were on those lines is because they didn’t have jobs, and the reason they didn’t have jobs is because the government had caused via the central bank and fractional reserve inflationary boom, which popped, and then set wage price controls which acted as price floors always act. Plus the government was paying farmers to destroy crops and livestock in order to try to keep farm prices high.
You need to learn some actual history instead of the old wives tales you sopped up as a child. There was a much more severe downturn in 1920 for which the government did nothing other than reducing spending, it also let the market work and let prices seek their own levels and none of these problems occurred.
103 yoctobarryc // Sep 12, 2009 at 6:06 pm
#95 brian-macker: Well of course people would spend money on food and shelter. Duh. When did I say that deflation would cause the human race to become suicidally malnourished? I was talking about the choices people make in investing their money – do I buy that nice new sofa now or put the money into T-Bills?
#100 sinz54: No, I don’t agree with your analysis. It’s not consistent with the evidence.
I would just like to start off by saying that I would have severe reservations about governments directly attempting to control prices – I believe history has shown these don’t work.
You say that there would have been hyperinflation had it not been for wage/price controls. I have to ask the question – why would there have been hyperinflation in the first place? That would assume that the economy’s capacity could not increase with the government investment. (I’m not saying that there wouldn’t have been any inflation, but hyperinflation is hyperbole)
The historical record shows that inflation was mild from the US’s entry in the war till its exit in 1945. After that, the US did suffer hyperinflation. Now, I am theorising here because I do not command a detailed knowledge of the facts, but I would go far to say that all those wage prices and rationing managed to do was temporarily postpone all that inflation in the system.
I would suggest a far more effective way of controlling this inflation would be by raising central bank interest rates and taking money out of circulation – ie cutting the rate of growth of the money supply or even the absolute level of the money supply.
So, although I can’t believe I’m writing this, WillyP is right to say even I don’t buy it.
Although all the Ron Paul acolytes and apparatchiks have this hatred of central banking. I don’t know why this 19th century viewpoint persists. It really is a contrived, discredited economic viewpoint made to fit a narrow political ideology – a fear/distrust/hatred of government in all its forms.
#103 brian-macker: If you’d actually bothered to read what sinz and I have been saying about deflation, the very reason all those people were at soup kitchens was because they had been made unemployed by deflation’s knock-on effects. People do, in aggregate, in deflationary times, switch from spending to saving. This cuts revenues and profits on firms, meaning they lay people off. This means they become unemployed and cut spending right down to the basic necessities.
A related term worth looking up is the “paradox of thrift”.
104 yoctobarryc // Sep 12, 2009 at 6:11 pm
#103 brian-macker: I can’t actually believe you wrote this:
“You need to learn some actual history instead of the old wives tales you sopped up as a child. There was a much more severe downturn in 1920″ [than in 1929 onwards].
Look it up in an history book. You know, the ACTUAL history ones. Instead of those old wives tales you sopped up as a student from the Indoctrinare’s Club.
Real GDP Contraction 1920: 4%. Real GDP Contraction 1930: 27%. Source: measuringworth.com
That’s facts for you. You’re just talking garbage now.
105 yoctobarryc // Sep 12, 2009 at 6:25 pm
Finally, to round off (or just reinvigorate) this discussion, I would like to offer my critique of the Gold Standard.
1) It introduces unnecessary transaction costs into the economy – meaning that it slows GDP growth and lowers employment.
2) Gold’s revered status as a constant source of stability is a complete fallacy. Gold has a supply and demand like any other item in a free market, and these factors can be entirely different from the rest of the economy. For example, gold is used in dentist’s fillings. If demand for fillings rises, gold prices rise, causing inflation in the economy. Discoveries of gold mines and investors desiring more gold are more commonplace examples of gold prices moving entirely independently of the wider economy, which would cause inflationary/deflationary shocks akin to the oil price spikes of the 1970s.
3) There isn’t enough gold in the world to cover the United States, let alone the rest of the world.
4) The recent historical record of 1971 onwards allows us to compare gold prices with the inflation of the rest of the economy in the US. Gold prices have increased 1000% since 1971, whereas general prices have increased only 250%. That is to say, if we had been on a gold standard, inflation would have been 4 times higher than it has been without a gold standard.
Hopefully this will have allowed some of the less blinkered on the column to see a reasonable criticism of the wisdom of using a gold standard.
106 WillyP // Sep 13, 2009 at 10:54 pm
Mr. Yocto,
I am disinclined to continue this for the following reasons:
1) You have declined to comment on the effects of fractional reserve banking in contributing to the phenomenon known as the business cycle.
2) You have failed to explain the extremely strong correlation between central bank lowering of interest rates (by way of inflating the currency) and the existence of bubbles. Namely, the internet bubble and the housing bubble.
3) You have failed to convince me that a commodity in limited existence is a less stable medium for price establishment that printable papers notes. In particular, your discussion of why gold is as volatile as dollars was utterly unconvincing. First of all, you give us the price of gold in dollars, which we (advocates of the gold standard) claim is inherently unstable. Next, you fail to recognize that in order for their to be massive increases in the supply of gold (“gold inflation” if you will) there would be massive costs of extraction. Otherwise, the mines would be operating 24/7, extracting gold at a break neck rate. In other words, there is an equilibrium in the gold market like any other. Moreover, you fail to recognize that unlike paper notes, gold has alternative uses, which means that if its need as a money is fulfilled sufficiently, it will go to other uses, such as jewelry, electronics creating, etc. Finally, your comment that there is not enough gold to cover the U.S., much less the world, is entirely unintelligible. As has already been established, any quantity of specie is sufficient. If need be, it would be possible to further denominate. The main point of a gold standard is that it makes HONEST money – money that keeps accurate accounting. This goal is not accomplished when central bankers routinely manipulate, capriciously, the money supply in its various forms.
As an aside, perhaps you’d be interested in seeing oil prices in gold (two commodities priced in terms of each other):
http://www.thedailygreen.com/environmental-news/latest/oil-gold-commodities-47041507
For more information on monetary matters in easy to read primers, see:
http://mises.org/books/whathasgovernmentdone.pdf and
http://mises.org/rothbard/100percent.pdf
107 punterfan2 // Sep 14, 2009 at 2:24 am
yoctobarry
I am absolutely gobsmacked that someone could be so unbelievably wrong about everything as you are. And please don’t call it ‘your’ critique. Not that any intelligent person would want to take credit for it but these are nothing more than a rehash of others’ simplistic mistaken views.
1) It does not have to introduce significant transactions costs to the economy. Currently gold mining represents around $50 billion worth. Compare that to the unbelievable costs that our current inflationary policies – in particular the massive expansion of banking and financial services whose main job is to push paper from one desk to the other.
Under a gold standard, most (although not all of course) of the costs of banking and financial services would disappear, whilst there would be a slight increase in the amount of gold that gets mined. Net/net there would be a huge decrease in transaction costs. Look at the experience of gold mining/financial services when we previously had a gold standard to get some idea.
2) There is around 150,000 tonnes of gold that has ever been mined. Virtually all of this is in available above ground stocks. Dentistry and other industry consumes a few dozen tonnes a year. The idea that an increase in dentistry (or any other industrial application) is likely to have a significant impact on the price of gold is so unbelievably idiotic it defies description.
3) I never get tired of hearing this. If there was half the amount of gold the value of gold would increase so that there would be ‘enough’. This is how it works. People would use gold for expensive transactions and silver (and maybe nickel and copper) for less expensive transactions. They would still use debit cards but banks would have to physically move gold (say once a month) to settle their accounts. This would involve a transaction cost (similar to moving cash). It doesn’t matter how much gold there is – the value of gold would simply rise and fall to reflect people’s demand for cash balances.
4) Hahahahahahahahahaha!!!!! I repreat Hahahahahahahaha!!!! What I find amazing about people like you is the passion you have for your views despite never having given them a moment’s thought. Firstly, the price of gold under a fiat money standard cannot be said to signify its purchasing power under a gold standard. Secondly, even if it could, your analysis proves the exact opposite of your conclusion. For gold prices to rise 1000% whilst prices only 250% shows the purchasing power of gold has increased relative to other goods – this means that there would be deflation.
You are the weakest link.
As an aside. You don’t understand what constitutes real savings. I won’t explain it except to say that your belief that it has anything to do with money is misguided. I would direct you to Frank Shostak on mises.org, but I know that would be a waste of time. You have read your Year 9 history books and you know the truth. Nothing will change that.
108 yoctobarryc // Sep 14, 2009 at 12:23 pm
#107 WillyP:
1) The economy will be in macroeconomic equilibrium when Inflows equal Outflows (Saving + Taxes + Imports = Investment + Gvt. Spending + Exports). Fractional Reserve Banking allows us to balance Saving and Investment by taking unused Savings (from bank accounts) and using them to create Investment (Loans), which grow the economy.
2) Fractional Reserve Banking is essential to maintaining the balance and has a crucial part in explaining the causes of business cycles – too much saving causes insufficient demand (causing Japan-style slow growth), too much investment causes booms (technology stocks, housing bubbles) which then crash in market corrections.
The Central Bank’s job (of others) is to balance Savings and Investment. If there is too much Saving, then lower interest rates (or even printing money) must be used to either get banks to increase the money supply (by lending more, creating more money) or by the government physically or electronically creating more. Excessive Savings + Printed Money does not equal hyperinflation (or even massive inflation). Likewise, excess Investment (ie lending/borrowing) creates so-called ‘easy credit’ which must be stamped upon with tighter interest rates from the central bank, or in extreme circumstances, policies to actively remove (ie burn) money.
3) You are correct to say that there is an equilibrium in the Gold market, like any other.
However, Gold is a commodity. That is not to say it is an easy to come by item, rather it is a natural resource. Commodities are unlike other products, goods or services because they have the unusual characteristic of having both price inelastic demand and price inelastic supply. People who want coffee, gold, oil, generally don’t have alternatives to look to and are willing to pay up the higher price. Coffee, grain etc takes a whole year to grow, and so there is a substantial time lag (up to 12 months) before supply can shift to meet demand. In gold, it is even more extreme – supply barely ever increases at all.
The net consequence of this is even the tiniest shift in the demand for gold will cause the price to rise greatly, and vice versa.
————————————————————–
You added a small appendix to your rebuttal, (although due to the length of the mises.org articles I haven’t read them yet) and I would like to make the following observations.
a) Your graph showing the price of oil in dollars and euros spiking massively, whilst gold holds oil well proves nothing. If you compare the price of gold in dollars to the price of oil in dollars, you will find that the two increase almost perfectly in tandem – in fact, this is why the price of oil in gold stays almost perfectly flat.
The reason for this was because of a wider commodity price spike in 2006-2008, which was the main contributor to the highest inflation rates in 20 years in many countries, shortly before the economic crisis.
I am sure that if you compared the price of gold with non-commodity and food products, you would find a very different picture.
b) Your belief that a gold standard would end the perils of fractional reserve banking is mistaken. This is shown in the history of the development of money.
Originally, coins were made out of gold, and stamped by the government to prove their worth. However, this intrinsic value played havoc with the money supply, as counterfeiters and governments alike devalued gold causing inflation or contracted the money supply causing deflation.
Over time, it became clear that a safer way of keeping your gold money (than holding it all yourself) was to deposit it at a goldsmith, who because of their line of work, had secure safes. When you deposited, you got a receipt which would promise to reimburse you the value of your deposited gold. If you needed to make a large purchase, you would then withdraw your gold.
However, this cumbersome, expensive and potentially risky withdrawal of money became unnecessary. So long as you and the person you were buying from had confidence in that goldsmith, you would accept the receipt rather than the actual gold. The receipt was still convertible into gold.
Soon goldsmiths realised that actually, they didn’t need to hold sufficient gold to back all their paper receipts. They could lend out the money on profitable loans, which boosted businesses. Because relatively few people wanted gold, they could do this. However, this fractional reserve banking required careful and prudent management. The 18th, 19th and even the 20th centuries are littered with examples of banks being forced out of business by panics, where too many people demanded their gold back for the bank to give back, turning their receipts into worthless bits of paper.
After a while, governments started to take state control. The convertibility of gold would soon only lie with the central, and not the private bank. This eliminated the problems of panics, because the central bank could give out emergency loans as the lender of last resort, preventing banking collapses. Nothing, however, was stopping central banks fractionally reserving its money (within a limit), giving it a reasonable hand in controlling the money supply.
Finally, central banks dumped their gold standards to take up fiat currencies, because it was far more practical not to have them.
———————————————————————————–
So to conclude, Gold Standards are logically and historically incapable of price stability.
Fractional Reserve banking, if mishandled, can cause deflation or boom/bust business cycles. Whether there is a Gold Standard behind it is irrelevant.
Spikes or falls in the price of gold (caused by anybody wanting more or less gold) will cause massive contractions or expansions of the money supply under a gold standard (independent of the business cycle) that no central banker would ever dream of implementing.
All of this is reflected in the historical inflation of the UK/US – massive swoops from 25% inflation one year to 8% deflation the next.
109 yoctobarryc // Sep 14, 2009 at 1:09 pm
#108 punterfan2:
1) Of course it would increase transaction costs! How else do you propose to pay for secure store and transportation of your gold? By magic??
“Under a gold standard, most (although not all of course) of the costs of banking and financial services would disappear”
What justification/reason for this would you provide? Less trees need to be felled to make banknotes?
2) As I outlined to WillyP above, the supply of gold is virtually fixed. 150,000 tonnes is a tiny amount of Gold for over 400 years of mining: every year, the world produces 160,000,000 tonnes of sulphuric acid.
This means that the only determinant of gold prices is demand. The point about dentist’s fillings was not to illustrate that it has a sizeable impact, but that the weirdest things contribute to gold demand. These have absolutely nothing to do with the business cycle, which means gold is useless at being a stable arbiter of the money supply.
3) The quantity of gold available is essential if you want to back the entire US currency in gold. With only 150,000,000,000 (150 billion – I suspect there is a lot less than this) grams available in world stocks, this would mean that one gram of gold would have to be worth $51.30. Nothing wrong so far, except that this would mean that one troy ounce of gold would be worth $2400. (More than twice its current price). If the whole world jumped in, to maintain a 100% gold standard would require a gold price of $10500 per troy ounce – more than 10 times current prices.
To back its current Currency into Gold 100% would cost at current prices (never mind the inflated ones I calculated above) roughly $380 billion. Now, the government can’t print $400 bn to compensate (that defeats the point), so this means that everybody has to pay an additional $3,000 in taxes to switch the US over. I re-emphasise that the real cost could be as much as 10 times (or more) of this price.
4) Hands up, I made a mistake. I got the relationship backwards. Prices would have deflated by 400%, not inflated by that much.
Now, let’s see – it’s been 38 years since 1971, so that’s an average of what, almost 10% deflation annually? I can’t even begin to conceive what fall in output would have come with that.
Hardly a paradigm of price stability.
110 WillyP // Sep 14, 2009 at 1:44 pm
I know/understand the history of fractional reserve banking, and the booms it causes. Clearly you do as well, but you do not acknowledge the inevitable busts.
How you go from encouraging relatively minor fraud to fraud writ large (that is, fractional reserve banking under a more prudent gold standard to government protected fractional reserve, central banking with fiat money) baffles me. The logical approach to dealing with the boom/bust/bank run created by fractional reserve banking is simply dividing the functions of investment and savings between two sets of institutions: warehouse, 100% reserve ration banking, and investment houses.
The point of a gold standard is to keep everybody honest, government included. Taking this further, it is possible to decentralize all monetary administration and simply have banks issue gold-backed currency. They would be subject to audit, like any other firm.
It amuses me to a certain extent that you continually fret about the “stagnant” growth allegedly endemic to gold backed banking and 100% reserve ratios. It is true, of course, there would no longer be booms; consequently, however, there would no longer be busts. As someone who values the economic way of thinking, I believe the liquidations, layoffs, and bankruptcies that necessarily emerge from the bust period more than counter the positive (and illusory) effects of the boom. The boom, after all, is just consumption of savings.
Yet none of this seems to matter to you and your interventionist prescriptions. You’d have us further debase the currency, further eat through savings, further malign the capital structure. This will lead to less wealth and more unemployment. Every interventionist measures begets an additional intervention. Price “corrections” lead to naked price controls. Increasingly desperate populations demand action, and history has shown that often times that means electing a strong man. Until we reverse course we’re walking down the road to serfdom, and academic economists are largely trumpeting our arrival.
111 yoctobarryc // Sep 14, 2009 at 5:15 pm
#111 WillyP:
1) “I know/understand the history of fractional reserve banking, and the booms it causes. Clearly you do as well, but you do not acknowledge the inevitable busts.”
Of course I acknowledge the inevitable bust that happens after a boom. That’s the free market for you. The Sub-Prime Housing bust was (in part) caused by excessively lax m0netary policy, as was the technology stock boom of 1997-2000. But there were other causes to these booms, not just loose monetary policy.
2) For Fractional Reserve Banking with Fiat Currencies and Fractional Reserve Banking with Gold Standards, I see no practical difference – apart from that gold standard versions of fractional reserve banking are more likely to be ravaged by banking panics, as you can’t get gold around the country in emergencies like you can paper money.
3) For 100% (ie non-fractional reserve) gold standards, first and foremost is the massive government intervention required to establish and then operate them.
It is more profitable in a free market for banks to fractionally reserve than to not fractionally reserve. In fact, without fractional reserve banking, the bank might even charge interest on savings accounts (to cover the costs of gold storage). To prevent banks from fractionally reserving completely is an unwarranted intervention in the machinations of the free market.
When you have a 100% gold standard, the price of gold becomes influential in the control of the money supply and the price level. As I have demonstrated in earlier posts, a gold standard (even in its 100% form) does not bring stability. It therefore stands to reason that governments would want to control the price of gold – in fact according to one of your mises.org papers, this is exactly what happened. This is like a fixed exchange rate – governments buy and sell gold (like currency) to maintain a pegged price.
This is a second aberration on the workings of the free market – as the government directly intervenes to control prices, through market manipulation.
4) I do value the economic way of thinking (and I am enjoying this less heated, more rational debate). But I believe you are mistaken to view the business cycle in such black and white terms.
During a boom, savings are being eaten away in spending, but at the same time savings are being topped up from incomes. The Net effect is that savings decrease overall. At the same time, job creation and job destruction occur simultaneously, but the Net effect in a boom is that jobs are created.
In a bust, jobs are still being created (despite what newspapers tell you) and jobs are still being destroyed, in the same way that savings are still being spent and topped up. However, the Net effect is that jobs decrease, but oddly enough, savings don’t increase. This is “the paradox of thrift” and is a very interesting idea.
To repeat, the purging of the rot that you seem to think only occurs during busts actually happens during all the time. I can think of many businesses that failed not because of the economic cycle but because they were terrible. But I don’t see how the economic success of the US or any other country can be built upon bankruptcies or liquidations or layoffs. You couldn’t possibly achieve a prosperous society on those foundations.
5) You attack me for my apparently “interventionist prescriptions”, which I think amount to proper use of central bank interest rates, the money supply and the occasional bit of fiscal stimulus. But you advocate a $3000 dollar tax on every American, direct government control of gold prices and extreme regulation of the financial services sector.
You say: “You’d have us further debase the currency, further eat through savings, further malign the capital structure. This will lead to less wealth and more unemployment.”
But surely the Austrian policy of embracing the apparently “creative destruction” of the bust is exactly what you describe? It would debase the currency (through weaker investor confidence in the US economy), it would eat through savings (assuming no unemployment benefits, unemployed people [from all those bankruptcies and layoffs] would have to use their bank account savings to pay for food and shelter) and would further malign the capital structure (as output and investment fall).
You say: “Every interventionist measures begets an additional intervention. Price “corrections” lead to naked price controls.”
This is exactly what a gold standard is, or would practically amount to. Interventions to stabilise the gold price would only lead to more interventions. Efforts to stabilise the gold price (yes, they really would be necessary) would only lead to naked price controls.
It seems to me every rhetorical argument you use against me is more than adequately describing yourself.
112 WillyP // Sep 14, 2009 at 6:01 pm
#112
“Of course I acknowledge the inevitable bust that happens after a boom. That’s the free market for you. The Sub-Prime Housing bust was (in part) caused by excessively lax m0netary policy, as was the technology stock boom of 1997-2000. But there were other causes to these booms, not just loose monetary policy.”
Yes there were other causes – but the fact remains that it is only conceivable, only possible with the creation of fake money/fake credit. This is essential. If you do not understand this point, I suggest you think about it a lot more. This is the whole reason for abolishing the central bank and creating laws that distinguish between warehousing and investing (i.e., eliminating fractional reserve banking).
“It is more profitable in a free market for banks to fractionally reserve than to not fractionally reserve. In fact, without fractional reserve banking, the bank might even charge interest on savings accounts (to cover the costs of gold storage). To prevent banks from fractionally reserving completely is an unwarranted intervention in the machinations of the free market.”
Yes it would be more profitable for any business if they could legally steal from their customers. The only thing that paper money does is allow for inflation when otherwise there would be a bank run. It is a form of socialism – public assumption of risk emanating from lax bank lending practices. You see, the Austrian view requires a significantly different thinking than the conventional neoclassical view. We don’t mind having to pay for warehousing our money if it is appreciating – in other words, if there is deflation. In fact, most Austrians would acknowledge that mild deflation is the natural way a commodity money tends. A money experiencing mild deflation will not stop lending, it will simply be reflected in higher interest rates. But as economics is, in one sense, the study of trade-offs, higher interest rates would not mean no lending. On the contrary, it would mean lending what “should” be lent according to the market. Not according to what bankers (or central bankers) see fit.
“This is like a fixed exchange rate – governments buy and sell gold (like currency) to maintain a pegged price.”
The “exchange rate” under gold would be based on weights – 1:1. That governments would seek to manipulate the currency is simply a characteristic of government in general, present currently (and more rampantly) under fiat money.
“To repeat, the purging of the rot that you seem to think only occurs during busts actually happens during all the time. I can think of many businesses that failed not because of the economic cycle but because they were terrible. But I don’t see how the economic success of the US or any other country can be built upon bankruptcies or liquidations or layoffs. You couldn’t possibly achieve a prosperous society on those foundations.”
Of course. I would be a complete fool if I did not realize this point. My point is that you do not experience massive clusters of errors when there is a proper monetary system. The market is a human entity, and thus it evolves as we evolve (evolve in the sense of pass through time with our changing environment and work alter it to meet our needs). Businesses go under all the time because they no longer provide value, or do so only at too high a cost; I encourage this. Conversely, it is you who is against the necessary purging, not me. Why else prop up all these dead banks?
“This is exactly what a gold standard is, or would practically amount to. Interventions to stabilise the gold price would only lead to more interventions. Efforts to stabilise the gold price (yes, they really would be necessary) would only lead to naked price controls.”
Please don’t get me wrong – there are challenging technicals involved in transitioning back to gold, and I’m not the one to think them out. But once it’s done, there is no “tax” on Americans. An American dollar would refer to a certain weight in gold, and would need no stabilizing. This is a fairly basic point that I cannot elucidate on (and hopefully do not need to). We would have a system by which our economic activity is coordinated in a sensible fashion, reflecting market needs, not subject to special privileges by banks or politicians.
“It seems to me every rhetorical argument you use against me is more than adequately describing yourself.”
Not sure what to say to that, other than maybe you can never be corrected if it’s true. If indeed this is the case, well, I suggest you observe how well the interventionist policies we’ve put in place work over the next 2 years. My guess? Eh, if not, then close to financial ruin for the American people.
113 yoctobarryc // Sep 14, 2009 at 6:39 pm
#113 WillyP:
“Yes there were other causes – but the fact remains that it is only conceivable, only possible with the creation of fake money/fake credit.”
This point is incorrect. Could we not have booms and then busts in barter economies, where there is no money at all?
“Yes it would be more profitable for any business if they could legally steal from their customers.”
Fractional Reserve Banking is not stealing. So long as they are patient, customers get their money back, and with interest for waiting. Of course, money is created out of thin air, but this balances because the loans out are then repaid. I’m sure somewhere someone has used this same argument against taxation (equally wrong).
“It is a form of socialism – public assumption of risk emanating from lax bank lending practices.”
“Conversely, it is you who is against the necessary purging, not me. Why else prop up all these dead banks?”
An interesting point, with plenty of moral hazard arguments we could go down into. But I don’t think Joe American would take too kindly to being told that he had lost his life savings because he didn’t do due diligence on his bank’s financial dealings.
“You see, the Austrian view requires a significantly different thinking than the conventional neoclassical view. We don’t mind having to pay for warehousing our money if it is appreciating – in other words, if there is deflation.”
Do these Austrians have jobs?
“The “exchange rate” under gold would be based on weights – 1:1.”
“An American dollar would refer to a certain weight in gold, and would need no stabilizing.”
So a fixed exchange rate nonetheless. As for stabilizing, free market forces could cause problems – ie demand attempting to force prices up or down, which would still create havoc for the money supply. Either the government manipulates the price or the free market simply bypasses the government.
“Please don’t get me wrong – there are challenging technicals involved in transitioning back to gold, and I’m not the one to think them out.”
And you don’t think that these ‘technicals’ could be the greatest challenge to a gold standard yet?
“We would have a system by which our economic activity is coordinated in a sensible fashion, reflecting market needs, not subject to special privileges by banks or politicians.”
I take it then you don’t feel the free market of private banks is up to the job of efficiently and sensibly allocating capital resources?
114 WillyP // Sep 15, 2009 at 9:56 am
yocto:
“This point is incorrect. Could we not have booms and then busts in barter economies, where there is no money at all?”
No, we could not. How would such a boom develop? There could not be a bubble if there was nothing to inflate it with.
“Fractional Reserve Banking is not stealing. So long as they are patient, customers get their money back, and with interest for waiting. Of course, money is created out of thin air, but this balances because the loans out are then repaid. I’m sure somewhere someone has used this same argument against taxation (equally wrong).”
Until they don’t, which is why there were bank runs. You are making excuses for banks, that they should be allowed to 1) Pay their customers back their own money LATE 2) Pay them back in debased (lower valued) currency. I can’t see how this is popular, much less just. Add to that the fact that it causes the business cycle, booms and busts, and I cannot think of one possible objection to ending the legality of these practices.
“An interesting point, with plenty of moral hazard arguments we could go down into. But I don’t think Joe American would take too kindly to being told that he had lost his life savings because he didn’t do due diligence on his bank’s financial dealings.”
There are a few ways to approach this, the first being the objection that Joe American does not typically have all his savings in Wall St. banks. The second is the argument that putting innocent taxpayers on the hook is unjust and immoral. The third is the most practical and most appealing objection: do you think Joe American is going to like the massive inflation that will result from these bank bailouts? Do you think Joe American is going to appreciate the bursting of the second bubble? Do you think Joe American would rather see a sharp downturn followed by a robust recovery or a false recovery followed by a deeper recession? In other words, doing nothing would be the best for Joe American in all scenarios except the very short term (1-2 years).
“Do these Austrians have jobs?”
Being that we value industriousness, I would presume so!
“So a fixed exchange rate nonetheless. ”
No, not a “fixed exchange rate.” Does a USD have a “fixed exchange rate” to other USD? No. Gold exchange is not “fixed” in the same sense as the Chinese Yuan. Changing into different currencies on a gold standard would be like exchanging 4 quarters for $1. Strictly speaking, it is a rate of exchange, but it wouldn’t float. Essentially, gold becomes the world currency.
“I take it then you don’t feel the free market of private banks is up to the job of efficiently and sensibly allocating capital resources?”
To say that I do not favor a free market of private banks is completely untrue. I have been making the argument for a truly free banking system since this thread began. I favor a free system of private banks.
It is the system we have now, where the Federal Reserve acts as a government sanctioned cartelization device, that is most certainly not free. As has been shown time and time again by eminent professors and thinkers, our monetary system resembles socialism far more so than it does laissez-faire. What possible incentive do bankers have to clean up their acts when the government bails them out of catastrophic debacles? And further, what choice do banks have but to loan out debased funds when that’s what they’re given to lend in? In other words, bad decisions are foist upon them by legal tender laws.
In truth, however, it is government and banking interests (because they fund government through purchase of their treasury bonds… even if only to be reimbursed by the Fed) that win at the expense of all citizens.
115 yoctobarryc // Sep 15, 2009 at 2:03 pm
#115 WillyP:
I said: “Could we not have booms and then busts in barter economies, where there is no money at all?”
I will explain why we could. Suppose there is a barter economy of two goods, Diamonds and Bananas, and ignore inputs of production. To buy bananas requires a certain number of Diamonds, the ratio of which fluctuates all the time due to supply and demand. Suppose that one day, a new product, snake oil, is invented, which is sold by some duplicitous characters at extortionate ratios of bananas or diamonds. Due to hype, speculation and a feeling that this is the “next big thing”, it becomes increasingly more expensive to get hold of snake oil, requiring you to trade more and more diamonds or bananas for snake oil.
Suddenly, for no apparent reason, snake oil is exposed as a massive fraud: the populace panics and rapidly divests snake oil for bananas and diamonds, making snake oil’s value a tiny fraction of what it once was. This means that people who hold snake oil have next to nothing. This large segment of the population has nothing to trade of worth, and cannot purchase any diamonds or bananas any more. Because of this, many banana farmers and diamond miners cut back on production (because demand for their products is less than before) causing workers who were employed in the boom period to lose their jobs, meaning many families are deprived of their banana or diamond wages. Overall, economic output (of bananas and diamonds (and snake oil too)) falls.
Is this not a boom, followed by a bust, devoid of any money or standard unit of exchange?
“You are making excuses for banks, that they should be allowed to 1) Pay their customers back their own money LATE 2) Pay them back in debased (lower valued) currency. I can’t see how this is popular, much less just.”
But people enter into banking arrangements knowing the full terms of the agreement. They sign a contract when they set up the bank. Are we to outlaw the innovation of the free market with (to paraphrase your remarks) socialist legislation?
“Joe American does not typically have all his savings in Wall St. banks”
I take it Bank of America (which bought out Merril Lynch), Wells Fargo and JPMorgan Chase don’t qualify as Wall St. Banks then.
“The second is the argument that putting innocent taxpayers on the hook is unjust and immoral”
Surely they’ll pay anyway – either with the bank failure (and the loss of their savings) or the bank bailout (which they might have to pay for in increased taxes, although this depends on the fiscal health of the nation).
“Do you think Joe American is going to like the massive inflation that will result from these bank bailouts?”
Your main argument I am guessing here is that the bailout will be paid for by printed money which will expand the money supply to gargantuan levels.
Yes, the money supply will increase. But this will be met by the increase in money demand. The depreciation of the value of money that money supply expansion causes will be met by the appreciation of increased money demand.
What will cause or has caused this increase in the money demand?
1) Decreased interest rates, which shifts assets out of bonds and into money.
2) Lower customer confidence and higher liquidity preference, causing assets like stocks and real estate to be converted into money.
3) More people holding more money (under the mattress metaphorically), which also causes the money supply to fall.
These are all responses to the recession, the banking crisis, and the reaction of monetary policy since then.
“Gold exchange is not “fixed” in the same sense as the Chinese Yuan”
“Strictly speaking, it is a rate of exchange, but it wouldn’t float.”
“Does a USD have a “fixed exchange rate” to other USD”
If the gold price isn’t floating, ceteris paribus, it is fixed. No other way around that. That’s suppression of market forces.
And as I have explained earlier, one USD in Maine = one USD in California, likewise one Euro in France = one Euro in Germany. These are notionally fixed exchange rates.
Traditionally, the price stability a gold standard (100% or not) gets is entirely down to the stability of the gold price. Unstable gold prices mean unstable inflation/deflation.
Are you proposing something even more radical, which is a world currency where everyone pays in units of gold? If so, this already exists (on an extremely small scale).
“I favor a free system of private banks.”
But not sufficiently free enough to allow them to fractionally reserve, then?
116 WillyP // Sep 15, 2009 at 3:18 pm
#116 yocto:
Re: your barter bubble
Your example fails for a number of reasons. What possible relation does this have to reality? What item does one barter for that has no apparent value? Even the talisman obtained from the charlatan has some value to its purchaser. You would ask me to believe that thinking, acting people would exchange the majority of their bananas and diamonds for something with no use to them? It doesn’t make sense. If you are going to try relate this to subprime loans, well, I’ll address that when you do. Suffice to say that it’s a completely different scenario because it involves indirect exchange, facilitated through money!
The reason that bubbles occur are because of accounting errors resulting from the creation of fake money/credit. There would be no accounting errors in a barter economy. Direct exchange, I would think, implies actually receiving what you purchase. So I buy 2 units of snake oil, and give you 5 diamonds. You’d have me believe that the snake oil would magically become worthless/disappear. Hmm, the simplest way to debunk such nonsense is to point to a tourist trinket shop and ask you why we don’t regularly have trinket bubbles.
Yet even if I were to grant you the hypothetical possibility of your example, there would still be no bubble. Everything is price in terms of another, and the ratios would simply readjust. There is no disappearance of paper money – it’s barter, remember. And yet you’d have me believe that it would be necessary to provide some diamonds and bananas for the dupes who get stuck with the worthless snake oil so that demand wouldn’t collapse for good. To do that, I’d have to collect diamonds and bananas in taxes from the un-duped, and redistribute them.
No, no, no! What would need to happen in that case is that the disenfranchised former snake oil holders would have to work for those who can pay them in diamonds and bananas. They are not entitled anything that is not their property!
Bubbles are a fiat money/fractional reserve phenomenon, plain and simple. You should read this fantastic article that demonstrates economic laws in an unusual setting. It also demonstrates rudimentary forms of inflation (in an economy that uses commodity money). Note the lack of bubbles:
http://www.albany.edu/~mirer/eco110/pow.html
Now, consider that they are quite literally impossible with 100% reserve requirements and sound money.
“But people enter into banking arrangements knowing the full terms of the agreement. They sign a contract when they set up the bank. Are we to outlaw the innovation of the free market with (to paraphrase your remarks) socialist legislation?”
That’s true (they enter into those contracts). Although I am in favor of changing the laws. Any alteration of law does not imply socialism. Socialism is centralization of power. The legislative changes I propose merely split functions and outlaw fractional reserve banking, which is a form of fraud. It in no way centralizes power. It goes without saying that the Fed would have to be abolished, too.
Re: the coming inflation and economic stagnation and your denial
Again, I believe you suffer from deeply flawed thinking in monetary matters. It is typical of the neoclassical school, and I’ve tried to explain as best I can several times how there is no such thing as an “optimal quantity” of money.
I might as well cover your persistently wrong notions on gold further. I don’t care whether you call an oz. for an oz. of gold a “fixed exchange rate” or purple rain boots or whatever. It’s not subject to the colloquial “exchange rate,” that signifies floating currencies. Yes, it could be (and was) a world currency, based on WEIGHTS. That’s why it’s called commodity money. It is not radical. If it’s anything, it’s reactionary.
Your conception of a monetary price is so muddled by fiat thinking that you cannot conceive the stability afforded by a gold standard. I would recommend reading the link below:
http://bastiat.org/en/what_is_money.html
Yes, it’s somewhat long, but if you consider yourself an economist you should enjoy it. It is an explanation of sound money in the form of a Socratic dialogue. It is written in (translated) plain English and meant to be understood by non-economic thinkers, and thus it builds the theory progressively through easily relatable examples. It is a cure for the common monetarist.
“Why, don’t you see that it was only the whim of an economist? I cry out against money, just because everybody confounds it, as you did just now, with riches, and that this confusion is the cause of errors and calamities without number. I cry out against it because its function in society is not understood, and very difficult to explain. I cry out against it because it jumbles all ideas, causes the means to be taken for the end, the obstacle for the cause, the alpha for the omega; because its presence in the world, though in itself beneficial, has, nevertheless, introduced a fatal notion, a perversion of principles, a contradictory theory, which, in a multitude of forms, has impoverished mankind and deluged the earth with blood. I cry out against it, because I feel that I am incapable of contending against the error to which it has given birth, otherwise than by a long and fastidious dissertation to which no one would listen. Oh! if I could only find a patient and benevolent listener!”
–Bastiat
Ironically:
“…there is no subtler, no surer means of overturning the existing basis of Society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction and does it in a manner which not one man in a million is able to diagnose. ” – Lord Keynes, 1919
“But not sufficiently free enough to allow them to fractionally reserve, then?”
No, not free enough to allow what amounts to counterfeiting.
117 WillyP // Sep 15, 2009 at 4:22 pm
I actually have a question here, something I’m curious about-
Do you have a degree in economics? BA? MA? PhD?
118 yoctobarryc // Sep 16, 2009 at 7:54 pm
#118 WillyP: At the moment, I don’t have any degree (although I will have a BA in the near future, when I finish my studies and pass my exams!)
#117:
I think the discussion of Fractional Reserve Banking can go no further. It has been exhausted and distilled down to an ideological difference – you see it as tantamount to stealing, I see it as a legitimate form of business. We are immune to each other’s logic at this point.
As for your Keynes quote, Keynes (in my humble opinion) was wrong to say that. The Press, Opposition Politicians and Polemics all rally against government “printing money”. Trade Unions (in my country at least) always start making noises about strikes if their worker’s wage increases don’t match the CPI rate. Unlike in the time of Keynes, the education of society’s institutions on inflation has increased. Keynes suggested that employers could deflate worker’s wages in real terms if they increased in nominal terms. Now that is an impossibility, as everyone compares their earnings increases with inflation.
Going back to the barter economy, would you not agree with the following definition of a boom/bust cycle: Massive inflation of one specific item (ie bubble), followed by massive deflation of said item, followed by collapse in consumer confidence and demand and then a contraction in economic output?
If so, we can see that this cycle is what happens with Subprime Mortgages, CDOs, Russian bonds, ENRON shares, whatever. This all happens independent of money.
Demand for snake oil (our special item) rises due to a reason (say press hype or word of mouth). Information failures prevent consumers immediately realising what a load of worthless junk it is, and since everyone else seems to be buying it, or want to buy it, people feel confident in the value of snake oil.
Because the producers of snake oil have a monopoly or there is a fixed/limited supply, this increase in demand causes its price to rise.
In a barter economy, this means originally 1 litre of snake oil cost 1 kilo of bananas. (This is the equivalent of an exchange rate for currencies today) But now, due to the demand spike, 1 litre of snake oil costs 10 kilos of bananas.
Say now that an undercover journalist does an exposé on the complete worthlessness of snake oil. Snake Oil demand drops off a cliff. Now, 1 litre of snake oil is worth 0.001 kilos of bananas. If you had previously traded expecting snake oil to hold its worth, or were speculating in the hope that it would appreciate in price, you have now lost all your items of value – your purchasing power is 1/10,000th of what it was.
You therefore cut back on what you spend (because you don’t have enough purchasing power to buy other stuff). This causes demand to fall in the wider economy, causing a slump/recession/depression.
This is a boom/bust independent of money. Now, to answer some of your criticisms of this thought experiment:
“What possible relation does this have to reality?”
-It’s not meant to be realistic, it’s hardly a realistic model of the economy. It’s just meant to show the mechanism damage is dealt to the economy by unwise financial investments, in a way that does not involve an intermediate unit of exchange (ie money).
“You would ask me to believe that thinking, acting people would exchange the majority of their bananas and diamonds for something with no use to them?”
-There are numerous items in history of people buying items of no use to them for speculative gain, and losing all their money in the process, causing economic mishaps (to put it mildly): the Tulip Bubble, the South Sea Bubble are older examples, WorldCom/Enron Shares a more modern one.
“Everything is price in terms of another, and the ratios would simply readjust. There is no disappearance of paper money”
-Of course there’s no disappearance of paper money, there wasn’t any to begin with in the world of diamonds and snake oil! And yes, the ratios do readjust. But the rapid depreciation (readjustment of ratios) of snake oil causes financial losses and economic recession, believe it or not. It’s exactly the same thing as when people lose money on their car every day (through depreciation).
“There would be no accounting errors in a barter economy”.
-Correct, but that was not the driver of the snake oil boom/bust. The driver of that was information failure – the inability of consumers to perceive the inherent worthlessness of snake oil and correctly value it at the time of purchase.
“And yet you’d have me believe that it would be necessary to provide some diamonds and bananas for the dupes who get stuck with the worthless snake oil so that demand wouldn’t collapse for good.”
-This is not my point. My point was to demonstrate that your belief in money as the sole driver of the business cycle is misplaced. The equivalent of fiscal policy would be for the government to restore demand by trading its reserves of diamonds or bananas, which it had accumulated by taxation. The equivalent of monetary policy would be slashing the cost of borrowing bananas/diamonds from banks to allow you to restore your purchasing power (recapitalising the family almost).
“I believe you suffer from deeply flawed thinking in monetary matters”.
“I’ve tried to explain as best I can several times how there is no such thing as an “optimal quantity” of money.”
I have never advocated an optimal quantity of money, perhaps an ideal rate of inflation maybe. Either way, your case against such an optimum has not been made clear to me.
As for flawed thinking in monetary matters, your failure to recognise that most basic of market forces, demand, as in demand for money, and its effects on inflation, qualifies in my mind as deeply flawed monetary thinking.
I will read your articles later.
119 rodcarlson // Sep 16, 2009 at 10:41 pm
WillyP..
Your beliefs along with Ron Paul’s and others like you are making the world sane again. Keep up the message. I won’t pretend to be an economics professor, what I do understand is engineering and science (in particular electrical which is a very controllable science). And the biggest fallacy of the uneducated is that you get something for nothing (first law thermodynamics) or even that (second law). I would say anyone who genuinely believes that giving everyone more money would make the world better off, ignores that its the average Joe who has to work to make the goodies and not the economist who debases a currency that is making Joe richer. Are the economist who stand in the way of free market reward (by price fixing/controlling Fed), nothing more than parasites? Seems to me the person who has first rights to the newly minted currency, will have the most purchasing power (before its debased). Then as that money completes the debasement, the secondary holders will be fooled into accepting its wrong value and incur the real losses with less purchasing power. How could any free market advocate or fair person even argue this? Is it moral to debase a currency from a hard working individual to someone else that doesn’t deserve it, but got in the fed gravy train line first? And how could this not create distortions in real values? My conversion to Austrian beliefs has been slow, but is nearly complete with minor doubts. I can tell you from my own studies that not everyone can be converted to reality and that is really their own choice, a lot of foolish people think electricity is magic and that is a pity.
Here is where I diverge (educate me if I am wrong here) in classical Austrian theory. First I believe that the most basic free market is barter, and its the only market without macro losses. Sure there are micro bubbles a person can buy snake oil, sure he can lose his father’s personal fortune buying a bubble of waste. But, in a barter market no currency is being debased, hence unwilling participants having to pay for the dumbsided snake oil buyer(s) is impossible. Now isn’t that fair? You take the risk, you take the losses or gains? Now the beauty of the barter market is there is no “legal tender”, sure you can buy gold or something else that is rare but it doesn’t prohibit trader A and trader B from interchanging wheat for corn because they lack gold. So in my opinion one of the greatest frauds to free market, is prohibiting all commodities from being used as tender. Gold was actually misused by the bankers and was the first legal tender, thus attrocity commited on the free market of “free choice”. Hence in my viewpoint the neoeconomist logic has a beef with cornered legal tender, which he is actually a proponent. Which is like saying hey farmer A can’t trade with farmer B, because he doesn’t have the farmer C’s gold because its supply is being hoarded. And we can all say of course A and B could trade, but we all know government D requires a minimum capital gains be taxed and payed with C’s gold so if A and B don’t have legal tender to pay the taxes they are not free to trade. And of course that is why those lover’s of the Fed believe we need liquidity or prevention of the legal tender being hoarded. Now in a true free market (barter) the government would have to tax in all commodities (or hopefully not at all) and this would not create a bubble (distortion) in its own right on the free choices of individuals. Minus the fact that the tax itself probably isn’t a free choice,sigh.
Another result of using gold is that you can not extract citizen interest at a national level being paid with gold. For example, if I say at the national level I expect 10% more gold than the world has in reserves that would be illogical. But that is exactly what bankers (past) did with gold in the previous centuries, to defraud depositors/debtors out of their possessions. Because gold is nearly finite and asking say 5% return on the principal to be paid with gold is not possible if its expected without losses everywhere. If everyone goes and deposits all their gold and expect 5% to be paid with gold, well someone is going to missing some principal to pay the other person’s interest (in gold) and someone is going to lose in terms of getting interest/principal payed back with gold. Law of conservation, exponential growth exist only when you can obtain matter from another source, ie mass of gold is fairly finite. Quite frankly, this is not a complaint against gold but rather the concept of a monopolized legal tender commodity, in my opinion. Then add on a fallacious belief that interest and principal must be insured at a national level, and the only way to avoid national bank failures is to have an ever expanding legal tender. In an informed market the borrower would most likely opt for payment of his debts in a commodity he felt assured in being able to produce (maybe wheat, etc), but with a monopolized currency (contrived by bankers) he as a borrower is at the whim once again of a substance’s availability which his productivity may have no control over. Though he does have choices (not to take the loan or otherwise), that is he doesn’t have all the freedom to choose alternative payments and he must at mininum use this converged approved currency to eat. Certainly it is not free market when a legal tender monopolizer profits off other commodity pricing because he hold the only legal stocked commodity which to exchange. In my opinion however, this doesn’t give credibility to the Fed program. But of course the Fed lover’s take it from here as their responsibility to liberally decide how much of the legal stocked commodity (usually paper) should be held, created, or destroyed. They do that through all kinds of binding slavery and contrivances, one of the worst is by debt payment through more debt. The endless cycle is that the only way the principal and interest can be payed off is with new participants assuming ever larger and increasing debts. This doesn’t make the market any more free, as now the individual isn’t at the whim of the legal tender being a natural substances availability (and its hoarding) such as a gold, but rather a bureaucracy and sometimes a bigger sucker to take out an ever increasing loan in accounting numbers. The Fed at a whim can redistribute wealth from one individual to another based upon its expansion and contraction, and who gets the moneys first or has to pay back first. And how could that be free market of individuals? Its basically a steal to the individuals who gain access to the newly created money first, and theft for others. Still the original sin remains, how to stop hoarding (and now overspending) of a monopolized legal tender being gold or fiat currency which prohibits/artifically expands free trading between individuals outside of that tender. Feds and the blank headed want an ever expanding currency and debtors. They sure as heck don’t want gold with a protected enshrined FDIC that promises an every increasing money supply no matter what. It doesn’t matter that you can buy half as much as long as we give you back the same number of paper when you ask for it. Quite frankly all these evils stem from one problem, a monopoly on the source of money.
Can anyone really seriously and with a straight face defend any banking system? I think that too many economist argue about frivoulous systems like socialism, fascism, capitalism and fail to acknowledge the bigger problem which is the banking system. Do the numbers really add up, and how does this help Joe who has to work to feed the fat ass academic philosophizing about central economics. In short all Joe wants is for you to stay out of the way, and for you to stop imposing B.S. theft on and control over him. But of course thats too much to ask by the united bankers front. I’m not an economics professor but I can see foul 10 miles away. And in my opinion most economist miss the whole number game fallacy of interest, insurance, legal tender. Even the bible and religious scoundrels new about the abuse of usury, and yet the economic elites never even think whether or not the current banking system would be fair, just or even free. And when you are stuck in a fallacy that doesn’t fit reality of physics there are going to be problems. In short Ron Paul and followers admit that gold has its issues (mostly from the banking scum of past imposing fractional reserve but also insuring interest when we know life of investing is risky). Yeah gold has its problems, tapped to the same demon as the source. But at least using gold does address the basis of reality, and leads one to question what these ever increasing numbers mean. Like does it matter if I get my 200,000 dollars back with FDIC if they are worthless? And the only reason that the gold standard was not kept by bankers, because bank runs were unavoidable using their fractional ripoff schemes and guaranteed returns I’ll explain my view on that myth next.
We wonder why the national and personal debt increase simultaneously debasement continues to grow. They are the same side of the same coin and any fool can see it. Principal = debt, interest = more debt; would someone please please help me pay off my debt and take out a larger loan to repay my principal plus interest. Any takers? Please?
Add fractional reserve and you see the level of complicity of theft continues to get larger. With a finite commodity like gold its bad enough to expect all depositors to see their principal gold increase with interest (defies logic and physics and conservation of gold mass) at a national scale. But add on fractional reserve where a bank can take a depositors gold create 10x as much principal debtor(s) as gold and ask each of the debtors to then return 10% in gold or the notes each and you spell out losers for the debtors no matter how many miracles they perform. They all might win Nobel prizes for humanity, but someone won’t be able to pay back their notes or gold, unless of course we pray to God someone else takes on their new debt load plus interest next year. So lets see a bank has 1oz of gold it loans out as if it has 10oz by telling 10 debtors that they can turn in their 1oz notes for exchange of gold anytime, but we expect say 10% be returned next year either in notes or gold. This is the scam of fractional reserve on the national scale and why the gold system always led to bank runs in the past. Any fool can see if all the banks do such irresponsibility that at a macroscale there will be bank runs. But of course our present foolishness is to keep the scheme going by constantly making more notes (diluted down to actual gold which stays finite) and hence finding more debtors to assume the ever increasing interest (in general accounting numbers). The alternative of course under the present system is for everyone to default and the banks to assume ownership of all commodities and goods ever in existence even though mathematically one cannot pay outside of legal tender for the debt and hence there would still be a debt (always) even after repossesion of everything, but that doesn’t bother the economic minded bankers at all. And I wonder why? It sounds like a win win game. Since they control the newly minted money, they can gain off the debasement first. But, if they contract the money supply they know that the black hole would permit them to take real wealth away from the rightful hard working owners a redistribution of all commodities/properties in existence. Personally I take offense to legal tender monopoly then a group of people who get to wage price wars and then erect excises that can never be paid without their consent because they control the monopoly and abuse of legal tender. And any American who believed in economic free market would also have the same disdain, history has been a banking and now economist scam. With only a few rising to the occasion to protect the innocent, the hard working, the righteous.
120 WillyP // Sep 16, 2009 at 11:22 pm
I’m going to quote myself for once:
“What possible relation does this have to reality? What item does one barter for that has no apparent value? Even the talisman obtained from the charlatan has some value to its purchaser. You would ask me to believe that thinking, acting people would exchange the majority of their bananas and diamonds for something with no use to them? It doesn’t make sense.”
What I said was correct. The important point I’d like to stress is “What item does one barter for that has no apparent value?… It doesn’t make sense.”
Now imagine it rewritten as such:
“What item does one barter for that they know is consistently and significantly overpriced? It doesn’t make sense, yet it happens perpetually if the item is fiat currency undergoing (very typical) inflation.”
This about sums up the argument of the Austrian Business cycle theory’s core: information regarding prices is severely distorted, and hence people are literally unable to make rational decisions. It infects the accounting books, undermines capital accumulations. The dearth in capital accumulation results in a lending “glut.” Interests rates are bid down below natural, that is to say market, prices. Longer term projects that require funding at specific interest rates are forecast incorrectly: they attain a high or neutral net present value, whereas they would have a negative NPV if they were calculated using real – market – interest rates.
Your examples of Enron and Worldcom only support my claim. These were accounting scandals, not bubbles.
I think here it is important to go back to what Mises says:
“The notions of inflation and deflation are not praxeological concepts.”
What this is saying is that under a commodity (i.e., sound) money, this phenomenon would not occur. There would be no inflation, or even deflation so to speak. Prices merely re-adjust to reflect market demands, and any “inflation” associated with commodity money is a real market signal for high demand.
To tie this all in, and reiterate – inflation undermines accounting, and is technically impossible (or alternatively, anything similar in effect extremely, extremely rare) under commodity money.
I think you’re essentially right at this point regarding ideology. I am quite simply for repealing legal tender laws and ending the Fed. The practice of fractional reserve banking would then be eliminated by the market, excepting outright fraud (which is a criminal activity). You are comfortable with the system we have because apparently you think it works well… to that I’d say, hey, look around.
rodcarlson, I’ll get around to responding eventually!
121 rodcarlson // Sep 16, 2009 at 11:31 pm
I was a little fallacious in alluding that the private banks through debt could take all wealth. As there would always be a few who would be debt free/or positive with holdings in the present system at any time. Nevertheless, only a few in our society could pay their liabilities under our present banking elite unless debasement continues (increasing debt in numbers) or defaulting occurs. All of this presents a very notable issue no matter how infected a person is with the FED. Sure the dollar could retain most its value or even be kept constant even while the money supply increased. Assuming the CPI was accurate one could increase the money supply to match the increase of production, so that the dollar held its value in purchasing on average. But against something finite and scarce such as gold, the value of that commodity would increase looking like a return against the currency. Yeah crops may increase exponentially and keep up with the ever increasing supply of cash making a person feel opulent that his money had the same buying power despite monetary expansions, but why hold cash when you could hold something finite that would stay scarce while the money supply exploded? And that shows why legal tender (present banks) is really a banker flight of removing free choice (ie not free market), because without legal tender monopoly nobody would hold something when another substance gave better return. Even if the tender maintained overall purchasing power. If you believe in free market and aren’t a socialist you’d have to believe that a person should have free reign at holding/selling even money against other items. But this banking causality cannot exist with competition so the socialist banking elite remove freedom of choice by requiring taxes and debt be payed only in their contrived commodity. At times the P.O.S reserve even removed peoples right to hold their own gold, and took it by f. For the very same reasons, so no I don’t think a person can be a believer in the Federal Reserve, and simultaneously believe in free market (capitalism). These two concepts are arch enemies, one based on choices of collectivism/fascist economist bankers and another based on choices of individualism.
Another point I’d like to make is that I find CPI a feedback device of the Federal Reserve offensive. One can see easily that trade deficits would be unimaginable without a fiat currency. For sure a nation that continued to spend more real money (gold or finite commodity) would go dry of money and hence would re-establish a net zero trade deficit. Of course this never happens as long as the money supply continues to grow (fiat) and therefore it becomes much easier to sacrifice your domestic production for importation. All this of course depends on other countries accepting that the currency has value. Yet every day our deficits continue to increase while our nations (U.S.) production declines. If the federal reserve mission were to balance production and consumption at a domestic level it would long ago restricted the money supply. Yet as Ron Paul correctly states, we continue to lose our industriousness because its easier to print money (increase the supply) then to work for it back. Yes the trade deficit represent real capital leaving our nation, and the printing crony-ism does nothing but establish that our job is to consume in the world economy. You’ll hear it all the time by the economic elite that U.S. economy is based on consumption. Yeah right. Any fool that continues to eat all his seeds (bread) instead of replanting and then his neighbours. Is going to find that he’s going hungry in the future and not having many neighbours as friends. But hey there is no capital leaving this country despite that the Chinese have the biggest reserves just happening to sit in their vaults, and all the jobs on top of it. Not to mention that if they ever get spooked they could literally wipe out the dollars spending by buying our limited production items from ourselves. We’ve gotten so good at exporting inflation, printing more debt because there is none (low inflation CPI), that we forget we have a dam of stored inflation (other nations vaults) that could explode at any moment and reverse the nature. But of course the lame say no capital is leaving mass exodus the nation, so the bank notes have to be holding there ground. Despite all the bank bailouts and people without jobs, have to be a cracker to believe this.
122 WillyP // Sep 16, 2009 at 11:37 pm
Earnestly, I’ll press on:
“If so, we can see that this cycle is what happens with Subprime Mortgages, CDOs, Russian bonds, ENRON shares, whatever. This all happens independent of money.”
The subprime mortgages were a whole cluster of bad legislation, but the fuel for the bubble was inarguably inflation by the Fed. Throw in two GSAs and the Community Reinvestment Act, and you have a certain, catastrophic market mis-valuation in the mix. Prices readjusted in that market, and the waves reverberated strongly through the entire banking system. Other markets underwent and are trying to undergo significant corrections. These are necessary, and anything the Fed does to harm prices will, undoubtedly, extend that recession. Very likely their actions have already created the right mix for a full blown depression. That’s my guess anyway, although being that this is the first severe financial panic I’ve lived through and am able to analyze extensively, I can’t say from any experience. We saw what $2 trillion of money printing can do. Well, we just printed a whole lot more to “correct” our mistake. It frankly doesn’t look too sunny for portfolios or savings accounts.
CDOs were designed to protect against the securitized mortgages that many probably realized were composed significantly of bad paper. They were a form, nearly, of an insurance contract.
I am not familiar with the Russian bonds…
Like I said, Enron/Worldcom, were accounting scandals.
123 rodcarlson // Sep 17, 2009 at 1:57 am
WillyP…
Would you agree that with the gold standard, that FDIC would have to become past tense? Since all banks and depositors expect +% returns on their principle, that with gold backed fixed ounces in reserve one would have to be a net zero increase in money supply (real gold). Hence the unanimous increase of interest on everyone’s principle, and even protection of everyone’s principal could not be achieved on a gold based legal tender? For example, if G=gold in ounces in all reserve this year, from a national scale I cannot have Gnextyear=G*(1+.05) assuming 5% is the average interest bearing expected by all gold depositors. Gnextyear will probably equal G even if everyone expects 1.05*G return+principle? So much for federal insurance with gold based economies?
Second here is something that I have thought about recently. Not sure if I got this right, so I’m ok if I’m told I’m wrong. Under the fractional system we currently have. I have heard that if I deposit 10 dollars in my local bank. That they can make loans for 90 dollars against my 10 dollars. Assuming this is correct if they pay me 2% on my 10 dollars, but charge a borrower(s) 5% for a fictitious remaining 90 dollars. They are not making 3% on my money but rather 9*5%-2%=43%? I get the 9 times multiplication from the multiplication factor of 90/10=9 (1/10 fraction reserve required) or multiplication of fractional misuse of money? Basically 90*.05-10*.02=4.3 dollars return which is 43% of my original 10 dollars. And if this is not a misunderstanding on my part, would someone please explain why the bank gets 43% return on my money while advocating such poor returns to a depositor? Also who could defend such a fallacy as being good for the economy? A banker gets 43% for doing nothing, except taking my money and giving out to someone else while I get a measly 3%. And then the poor saps borrowing has to find that many more suckers to relive them of their debt? I hope I’m wrong on this, because I feel I’ve cast my money in front of swine and thieves (bankers). Why should bankers get 43% while its the savers and borrowers that make up the real gains in production/consumption in the economy have do to so much slavery to make minimal returns? And if this is true then how would a diversion of 43% profit be anything but bad for the economy in terms of rewarding crooks?
Further as I see it fractional reserve would have to be a thing of the past with gold backed currency. For if its wrong to expect insuring a % increase in a money supply that remains constant on a national scale, limited finite supply of gold. It would be even worse to expect that with 9x 5% fractional system that the gold would increase by Gnextyear=G*(1+9*5%)=G*(1.45) which again Gnextyear is probably going to be G this year.
To me this explains bank runs and losses to a absolute science when they used Gold backed currencies. But the problem is that it would be hard to go back with a brain dead society that expected no bank runs, deposit insurance, and a banking elite that loves fractional ripoff schemes all the while using gold. Given all the pundits that want all the impossible like national insurance on investing. I’m not sure why insurance idea would exist in the real world as a farmer who plants seeds has no guarantee of a good crop, hence the investment could return nothing. But we certainly could not promise people everything we do now without a debasement of the currency.
124 rodcarlson // Sep 17, 2009 at 2:30 am
Never mind my nonesense on 43% return. I got to thinking about it and 10% reserve would mean the banks would have to hold $1 and could loan out the remaining $9. This would not make 43% return but a return in par with the depositor. Its late and my mind is running a little wild I suppose, but I believe alot of my previous thoughts and criticism would apply. I’m open to logical corrections as I’m not debating as much as seeing how well others can counter or explain my issues better.
125 rodcarlson // Sep 17, 2009 at 4:24 am
Second thought I believe my original assertion was correct although its not any one of the central banks that get to make multiples of my deposit (central bank money) but rather a string of banks as they get to reprocess and re-loan out the unreserved portion. Basically the total amount of the mutliplier extra loans created for every central bank money is M=(1-reserveratio)/reserveratio. For a 10% reserve the multiplier is (1-.1)/.1=9 or for a 20% reserve the multiplier would be (1-.2)/.2=4. So basically if I have 10 bucks in my pocket and I go deposit in my local bank, that money could be re-loaned out 9 times across various banks with a 10% reserve requirement. Example, my 10 dollar my bank would keep $1 reserves and create loan(s) valued at $9. Of that $9 loan which would be spend and saved by another individual would re-deposit the spent money from a spent loan. Of that $9 his bank would be required to reserve .9 dollars and could loan out $8.1, and so on and so on. If a person were to add up all the recurring loans minus the reserves, you would come up with loans in excess of 9 times value of the central bank money I deposited (across multiple banks). However where I went wrong is suppose all the participating banks pay 3% interest to the depositor and ask 5% from all the borrower, then the banks would make (5%-3%)*9=18% interest off my original deposit. And that is appalling, but I suppose that one could say that yeah but each bank only makes 2% of each deposit across each bank. Still the action is reciprocal and the money is just as likely to be spent and saved back into the same bank. So the multiplier isn’t happening over all banks, its happening through reciprocity to every bank who initially receives my deposited central bank money. If anyone contests my figures feel free to tell me where I went wrong and I’d be happy to try to refute it. Otherwise how can anyone say banks deserve 18% interest while only paying 3% to a depositor? Not to mention that the fractional reserve only perpetuates and make the bank runs we were talking about earlier that much more likely.
126 Brian Macker // Sep 17, 2009 at 8:04 am
#103 brian-macker: I can’t actually believe you wrote this: “You need to learn some actual history instead of the old wives tales you sopped up as a child. There was a much more severe downturn in 1920″ [than in 1929 onwards].
Yoctobarryc: “Look it up in an history book. You know, the ACTUAL history ones. Instead of those old wives tales you sopped up as a student from the Indoctrinare’s Club.
Real GDP Contraction 1920: 4%. Real GDP Contraction 1930: 27%. Source: measuringworth.com”
I’ve decided you are intellectually dishonest fool. Why? Because you trimmed my sentence without putting in elipses and then tried to make my statement about something it wasn’t. Here’s the full sentence:
“There was a much more severe downturn in 1920 for which the government did nothing other than reducing spending, it also let the market work and let prices seek their own levels and none of these problems occurred.”
One of those problems I was claiming didn’t occur in the last part of the sentence was GDP contraction. Both production and unemployment fell much faster and deeper during the first year of 1920-21 collapse. The government did not go on a crazy spending spree and things corrected just fine. None of this crazy belief that the deflation would cause people to save forever.
Here is a video by historian Thomas Woods. Watch it and learn something, you ignoramus.
Why You’ve Never Heard of the Great Depression of 1920:
http://www.youtube.com/watch?v=czcUmnsprQI
You just don’t understand the economics involved. You’ve been taught this crazy Keynesian economics where the belief is that throwing money out of helicopters is the way to properly fix a downturn. Well it isn’t. Didn’t “work” when Greenspan did it in 2002 and it isn’t going to work now either. It’s going to generate FALSE economic signals which will compound the problems. Just like the false signals that lead to overbuilding in housing.
127 WillyP // Sep 17, 2009 at 11:50 am
rodcarlson:
I admit I haven’t read through all of your posts fully… I would recommend, for ease of reading, employing more paragraphs. Haha, but that’s besides the point.
I don’t claim to be a professor or even a professional (professional economist, that is), just someone who has dedicated a significant amount of time to understanding and digesting the fundamentals of human economic activity. Once the fundamentals are in place – a dedicated student can probably come to understand them in a few months – analysis becomes much clearer and the fallacious reasoning of neoclassical economics becomes readily apparent. Having said that, I’ll give credit to yoctobarryc, who is clearly willing to engage in the debate. My hope is that he’ll slowly emerge from his neoclassical shell, and see how microeconomic tenets can be applied to the “macro” case as well. the difficulty inherent in such a breakthrough in thought is that it has obvious political implications as well, and people can be awfully stubborn when it comes to politics.
While I did not major in economics, I did have to take several courses, and I now find myself at odds with several (supposedly) eminent economists/former professors. It is disconcerting to realize that an entire academic discipline is essentially in the dark, mired in seemingly endless permutations of reasoning emanating from erroneous mathematical applications. I personally do not believe that the academy can survive this downturn when their prescriptions fail utterly, though I never doubt the ability of desperate and clever people to rationalize failure and of governments to promote governmental interests.
Your mathematical examples re: fractional reserve banking are probably correct as far as they go. I admit I did not check your math. However, banks earning money off depositors is not what I’m against, per se. What I am against is the creation of credit out of thin air; what is called “checkbook money.” This undermines accounting and the effects of this reverberate across the economy. Under a gold standard, this inevitably leads to bank runs. Under the Federal Reserve system of fiat money, what it leads to is back door socialism in monetary affairs. And simply put, the monetary system is at the heart of capitalism’s ability to coordinate valuable activity. If you “thin out” the money supply, so to speak, you seize the engine. See my article here:
http://www.americantusk.com/engines-lubricant-thins-out.html
Austrian economics faces one enormous challenge to overcome: positivism. It is inconceivable to most academics that something can be true and not be “proven” empirically on-demand. Modern professors of economics are nearly schizophrenic, in that they apply classical economic theory which is deduced through verbal logic, yet at the same time repudiate themselves through empirical “tests.” It is bad thinking. Furthermore, they suffer from a fatally flawed conception of money, which infects their thought on interest. These are not trifling issues. Proper revisionism in academia on money and interest could very well end the periodic economic mayhem experienced by industrialized nations.
What I would recommend for anyone serious about learning economics is to remove yourself from all textbooks (modern ones anyway) and look around you. Observe business, observe your own spending habits, think about how you obtain money and what happens to it after you spend it. Next, study history. Learn how societies were organized in the past – guilds, fiefdoms, aristocracies, cartels. Think about how legislation enforces certain organizational structures to emerge that impinge on individual freedom of association. Think long and hard about how law can be used to preserve special interests. I guess it should be apparent that I think law is indispensable when learning economics, so I’d also recommend reading this:
http://bastiat.org/en/the_law.html
I think it’s abundantly clear to anyone who would read this thread that Ken Silber is completely wrong in his review. It is also clear that it’s not a coincidence; as yoctobarryc’s arguments show us, it is the academic discipline that is corrupted to the core.
128 WillyP // Sep 17, 2009 at 12:01 pm
yocto,
I am going to stop replying directly to one-offs, because it is impossible to deal with these question if you separate them from a coherent, holistic approach to the subject. If this is going to continue (I’ll continue with it if you do, because as I see it, the more converts the better), I’m going to start responding with fuller responses that deal with the ideas as they relate to the theoretical whole of Austrian economics. This is the only way I can think to respond meaningfully.
129 WillyP // Sep 17, 2009 at 2:21 pm
yocto, just caught this now… (sorry I don’t always read very closely). You say “my country.” I’ve noticed your British spelling habits. Is this country Britain, or Canada? or?
130 WillyP // Sep 18, 2009 at 9:34 am
http://mises.org/story/3718
131 yoctobarryc // Sep 18, 2009 at 11:35 am
#127 brian-macker: The definition of an ellipsis is “The omission of a word or phrase necessary for a complete syntactical construction but not necessary for understanding.”
You can’t even use your own word right! You brazenly assert – no less than 3 times so far – that there was a bigger economic collapse in 1920 than in 1929 onwards. This is in complete contradiction to the historical facts, something you fail to come to terms with.
With or without government intervention, there is a substantial (6 times) difference between the two, and your comparison between the two is therefore flawed from the start. Not to mention the fact that you completely confuse cause and effect – government ‘treatment’ always happens after the crisis, not before.
#129 WillyP: I have no idea what “one-offs” you refer to. And yes, I am British. Not that should make any difference to the credibility of my ideas, mind.
1) I was reading today “The Black Swan” by Nassim Taleb, and he made a very interesting point. Both the “Post-Keynesians” like Minsky, Shiller, Akerlof etc all share very similar analysis to the Austrian School – monetary matters aside. Both schools agree on a broad business cycle, which comes about through bad business practices, and is corrected by a sharp downturn.
Where the schools differ is on their prescriptions to the business cycle: the Keynesians recommend some sort of stabilising influence, be it regulation, monetary/fiscal stimulus etc. Austrians take the complete opposite view, saying that government bureaucrats would be worse than the market, and we should let ‘nature’ take its course. It strikes me as to how much political belief and moral values underpin these two differing viewpoints.
2) Going back to previous comments, there seems to me to be a logical contradiction in your views: you strongly dislike the idea of centralised institutions, but centralised regulation seems quite pallatable to you – you endorse banning Fractional Reserve Banking, for instance.
3) You refer in your previous comment to how “the fallacious reasoning of neoclassical economics becomes readily apparent” and that “microeconomic tenets can be applied to the “macro” case as well”. You also bemoan the fact that “an entire academic discipline is essentially in the dark, mired in seemingly endless permutations of reasoning emanating from erroneous mathematical applications”.
The problem with your comments here are that you haven’t cited much evidence. If there are examples of neoclassical fallacies, please give them. Likewise, if there are erroneous mathematical applications, explain them. Otherwise I find it hard to engage with them.
4) The problem I have with Austrian Economics – although well reasoned and often written eloquently – is that I have not seen any logical or empirical proof of its theories. Now, if someone has a statistical study showing, on average, countries without central banks did better than those without them, I would be intrigued. If someone produced a study showing that, when the country was on the gold standard, macroeconomic perfomance was in general better, I would sit up and pay attention. But just hearing the same arguments over and over again (although again well argued and eloquently spoken) is not conducive to advancing the Austrian cause.
You seem to bemoan the use of mathematics in economic study. I would say that excessive use of maths is a bad thing, and is no replacement for a clear precise use of worded summary. But maths can bring some useful properties to rigorous academic study:
a) It allows quantification. You could say “gold standards improve economic performance” or “reduce inflation” or “cut the money supply” but the challenge here is saying by how much these effects would happen.
b) Maths allows you to integrate different theories together with ease. You can literally bolt together the model of gold standards on the money supply with a standard economic model of the economy.
c) It forces you to distil your ideas down into a simple formula – devoid of rhetoric or wordy rambling.
5) The POW economy article you found was a fascinating insight into what Hayek’s idea of “spontaneous order”. Amazing to think that from some simple food parcels, and people with lots of time on their hands, a whole microcosm of an economy could spring from nowhere.
I think it backs up the importance of a stable currency though – when in August 1944, the supply of cigarettes collapsed, I think the author was clear that a re-emergence of the cigarettes would have been universally beneficial. What was regulating the money supply equivalent? The whims of food parcels. If the food parcels (or even the Germans) had been giving out cigarettes at a more constant rate, the camp economy would have benefited.
132 WillyP // Sep 18, 2009 at 1:34 pm
By one-offs I mean very specific objections to what I’ve written. I don’t have a problem responding because I’m incapable, but because it make seeing the forest in the trees very difficult. So, excuse a one-off response or two here, but in general I’m going to stick to theory and the “big picture.” First, a quote.
“It is important to recognize that the additions to, or subtractions from, a cash balance are all voluntary acts on the part of the individuals concerned. In each period, some individuals
decide to add to their cash balances, and others decide to reduce them, and each makes that decision which he believes will benefit him most. For centuries, however, fallacious popular
usage has asserted that one whose income is greater than expenditures (exports greater than imports) has a “favorable balance of trade,” while one whose expenditures have been greater than
income for a period (imports greater than exports) has suffered an “unfavorable balance of trade.” Such a view implies that the active, important part of the balance of payments is the “trade”
part, the exports and imports, and that the changes in the individual’s cash balance are simply passive “balancing factors,” serving to keep the total payments always in balance. In other
words, it assumes that the individual spends as much as he wants to on goods and services and that the addition or subtraction from his cash balance appears as an afterthought. On the contrary,
changes in cash balance are actively decided upon by each individual in the course of his market actions. Thus, Brown decided to increase his cash balance by two ounces and sold his
labor services to obtain the money, forgoing purchases of consumers’ goods to the extent of two ounces. Conversely, in the later example, when he spent three ounces more than he earned
in the month, he decided that his cash balance had been excessive and that he would rather spend some of it on consumers’ goods and services. There is therefore never a need for anyone to
worry about anyone else’s balance of payments. A person’s “unfavorable” balance of trade will continue so long as the individual wishes to reduce his cash balance (and others are willing to purchase
his money for goods). His maximum limit is, of course, the point when his cash balance is reduced to zero. Most likely, however, he will stop reducing his cash balance long before this point.”
-Murray N. Rothbard, Man, Economy, and State
I quote this because it is critical to understand. Central banking activities and fractional reserve banking both undermine accounting. They create fake units of account. I don’t think you realize how absolutely crucial honest bookkeeping is to society, but you must have some idea after citing Enron and Worldcom. The automatic, self-correcting system of lending and saving that is fostered by double-entry accounting is undermined in a deadly way by counterfeiting. Economics is the overarching science behind two sub disciplines, accounting and finance. You would agree that both of these practical areas that utilize monetary units of account are extremely important to economic growth and coordination. Yet at the same time you’d undermine their methods by clipping the coins, so to speak – i.e., debasing the currency through the Fed and fractional reserve banking.
Mises often quoted Goethe:
“Double-entry bookkeeping is one of the most beautiful discoveries of the human spirit… It came from the same spirit which produced the systems of Galileo and Newton and the subject matter of modern physics and chemistry. By the same means, it organizes perceptions into a system, and one can characterize it as the first Cosmos constructed purely on the basis of mechanistic thought… Without too much difficulty, we can recognize in double-entry bookkeeping the idea of gravitation, or the circulation of the blood and of the conservation of matter.”
I know you aren’t one for old authors, but does this give you any pause? Especially when taken in conjunction with the quote above from Keynes? Further, when considered in context of historical examples of the effects of rampant inflation? You should ask a professor what he thinks of the process of undermining accounting.
“Going back to previous comments, there seems to me to be a logical contradiction in your views: you strongly dislike the idea of centralised institutions, but centralised regulation seems quite pallatable to you – you endorse banning Fractional Reserve Banking, for instance.”
To be fair, I may have advocated banning this practice. However, it is more accurate to say that I believe that people would abandon the practice if there was a repeal of legal tender laws. Then very few people would choose to put their money in an unscrupulous bank. We now run into problems of methodology and what Hayek called the “Pretense of Knowledge.”
Your objection to the Austrian school is understandable in the context of poor theoretical reasoning; a problem that afflicts the academy at large in economics’ departments. Austrian economists are not opposed to mathematics in the least. It’s just that they recognize that it is not the proper way to advance the science. Instead, we use verbal descriptions of human action and consequence to arrive at certain truths. The method used to advance the science past the individual and to broader society is called methodological individualism. We don’t claim to make predictions with great specificity. Instead, we look to describe the laws of nature, and through that make broad predictions. Again, if you require proof that your school’s approach has failed, just look around. It isn’t Austrians sitting around and running the Fed, the IMF, and the ECB.
For example: if the Fed cuts rates dramatically, a bubble will form and then pop. We know that it is impossible to consume a loaf that is not yet in existence, so how does the seeming magic of the boom materialize? It comes at the expense of future savings and investment in capital! Let’s say as a businessman I reinvest $500/week into my business for future production/expansion. If this $500 is worth substantially less a year after a rate drop from the Fed and I don’t know, I go on continuing to reinvest $500, when it’s now only worth $400. This extra $100 is invested somewhere else at below market rates. In a few years, the errors are exposed and two things occur: 1) The unprofitable businesses started on the presumption of low interest rates must be liquidated 2) I have under saved, and am under capitalized, so I must save more going forward. So, a dramatic reduction in interest rates amounts to a giant loan for the country. It fuels uneconomic and unprofitable ventures, and distorts the capital structure of an economy. It is worth emphasizing: once the boom has been initiated, there is no avoiding the bust. It is absolutely 100% inevitable, no question about it.
“If someone produced a study showing that, when the country was on the gold standard, macroeconomic perfomance was in general better, I would sit up and pay attention.”
Bluntly, this is sloppy thinking. How can a social science produce a controlled experiment? It cannot. We advance social sciences by improving on theory. However, if you insist on historical examples, the Great Depression offers an example of how disastrous widespread government intervention into an economy can be. We’re talking a decade of poverty for a modern, industrialized nation because some paper money disappeared – followed by the importation of fascism by FDR as a solution to America’s economic woes. How’d that work out? And, to top it off, the Fed caused the damn thing to begin with! Please don’t tell me that America was on a gold standard. Yes, it was technically, but it was also recently slapped with a central bank that began manipulating its interest rates.
The Neoclassical school, it seems to me, views the economy like a car with a dead battery. It just needs a jump-start, a jolt from without, to kick back into gear. To me this sounds like a rather simplistic notion unless we’re talking cars. Nonetheless, humans are the dead batteries. “Hey, those silly underlings stopped spending money because somehow they were all duped into buying overpriced houses ha ha! No matter, flood the economy with money and they’ll spend more. This in turn will spur production, and create more demand. And then we’ll have ‘fixed’ it! Oh, those miserly, stupid peasants who live under our jurisdiction. How blessed they are to have us to tell them noble lies and save them from their shortsighted selves!” For me, that about sums up the neoclassical economic attitude.
I’ll keep repeating it: you do not understand money. It too is subject to marginal utility. Read the Bastiat piece.
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