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Category Archives: Monetary Policy

Is Wealth Being Destroyed? (Economic Myths, Dispelled)

January 26th, 2009

Today’s lesson in Economics is a critical examination of several popular myths surrounding economics and finance.  These myths were recently put forth as truths in The Economist (and elsewhere). The article is a part of a “special report on the future of finance” from January, 2009.

In an earlier post, I discussed an interesting component of this report which blamed (in part) the paradox of economic modeling.

Myth: The failure of the financial system contributes to the problems everywhere else in the economy.

When the financial system fails, everyone suffers. Over the past 22 months the shock has spread from American housing, sector by sector, economy by economy.

The system is engineered to boom, and bust, when it’s “working”, it’s causing problems that have yet to be revealed.  It is utterly without consequence that this sort of suffering is masked by inflation, the so-called “hidden tax”, ravages the value of the standard unit of account, distorts the valuable information otherwise conveyed by the price mechanism, decimates savings and fixed incomes, and generally makes people dependent upon more inflation in the future, in quite the same manner as an addiction to heroin causes the junkie to seek ever more powerful doses of the drug. In short, when the financial system “works”, ordinary people become slaves: to credit, to debt-money, to the system itself.

Myth: Financial markets bring together borrowers and savers in order to best allocate capital in a productive manner.

Financial services are supposed to bring together borrowers and savers. But as lending markets have retreated, borrowers have been stranded without credit and savers have seen their pensions and investments melt away. Financial markets are supposed to be a machine for amassing capital and determining who gets to use it and for what. How could they have been so wrong?

Financial markets are supposed to work like this, yes. They’re supposed to match time preferences and risk preference.  They’ve been “so wrong” because the primary raison d’être of modern financial markets is not to bring together borrowers and savers. The primary purpose of modern financial markets is to concentrate real economic power for the State and its privileged beneficiaries (or if you prefer, its puppet masters, it makes no difference to me). The fiat credit money to which we’re all accustomed does not depend on “savings”, it depends on misdirection, deception, and trickery.

Real wealth doesn’t just disappear. That violates the laws of thermodynamics. Insofar as it appears to have vanished into thin air, it has merely been siphoned away from the productive sectors of the economy, via the financial markets, to the parasite class.

Myth: “Money” is just an agreement worthless paper can be traded for real wealth.

Money itself is just a collective agreement that a piece of paper can always be exchanged for goods or services.

I previously chided The Guardian, another British paper, for propagating the same falsehood. Money proper is accumulated weatlh, it is a tangible store of value or a legitimate claim thereto. Fiat money—printed (or computed) into existence from nothing like the Christian God willed into being the Heavens and the Earth—pieces of ornate paper which one is obliged to accept and remit to his government for the satisfaction of taxes due, are the modern chains of bondage.

We’re painfully relearning the fact that real wealth can’t be willed into existence from thin air, by loose monetary policy. We’re learning that in order to create wealth, nothing is a substitute for honest savings and capital accumulation: sacrificing a little in the present for more in the future. Jobs are being eliminated, payrolls are being reduced because a vast quantity of phantom wealth, upon which these things were created, has evaporated.

Myth: Good businesses are going bankrupt, jobs are being destroyed, wealth is vanishing before our eyes.

Everywhere good businesses are going bankrupt and jobs are being destroyed

Describing the process as “destruction” is not entirely accurate, but it is far more accurate than appealing to the mysticism that jobs have simply and miraculously disappeared without reason. Jobs are not being mysteriously destroyed, they’re being revealed as having been destructive. It is not “good businesses” that are going bankrupt, the “good businesses” never existed in the first place.

We’re not currently witnessing the destruction of industries or of economies. That havoc has already been wrought. What we’re seeing now is evidence that the destruction occurred, as if the piles of the foundation, and steel frame of a giant skyscraper were secretly withdrawn in the middle of the night. The structure may hold precariously on its own, and to the casual observer, nothing appears out of place. But it is only a matter of time before the building “pancakes”, collapsing under its own weight.

None (or practically none) of the “wealth” which drove “growth” in recent years ever existed in the first place: every hour of labor, every ounce of material resources consumed in the preponderance of the growth charade, was economically destructive. What we can see is merely the evidence of the destruction; the actual destruction, wrought unseen, is the resources and labor squandered, the jobs that never existed, the products never created and the services never rendered.

Are the Banks Bankrupt?

January 25th, 2009

Citing an article in The Independent, Mike Shedlock notes that British Banks are “technically insolvent.” Curiously, someone yanked the article from the Independent’s site. Thankfully, Mike reprinted the full text of the article which is (for the time being) available in a cached version.

The article says that British banks are insolvent on a mark-to-market basis, a problem that banksters are quick to dismiss:

The warning does not mean British banks are about to go bust, because the assessment is purely theoretical, and RBS said the position was “not unusual at this stage in the economic cycle”.

It’s just theoretical, you see. Nothing to worry about. Theoretically, the assets they are holding are worth less than their fair market values. So, while the book value of their assets exceeds their liabilities, they’re insolvent theoretically because the market value of these assets is insufficient.

There’s nothing theoretical about this: book values don’t pay the bills, market values do.

Sure, if the banks are able to suspend their obligations, and hold these assets until the market values are in line with book, then they’ll no longer be “insolvent.” But if an individual facing foreclosure was able to suspend the process until his home was market-valued greater than the balance due on his mortgage note, or if he could extract special favors, bailouts and guarantees from his government, he’d only be “technically” or “theoretically” insolvent, too.

The fact of the matter is that this is only part of the problem. Banks are always insolvent.

In any fractional reserve banking system, the banks are guaranteed at all times and without exception to have liabilities/obligations far in excess of their deposits. Since the banks which promise to keep your money “on demand” could never fulfill this promise for all (or even a relatively small minority, depending on the reserve ratio) of their depositors at the same time, they are all strictly speaking, insolvent 100% of the time.

Scrip Currency Can’t Save the Economy

January 22nd, 2009

Matt C. sent me an e-mail a few days ago, referencing a George Monbiot’s recent article in The Guardian, If the state can’t save us, we need a licence to print our own money.

Matt said:

I wanted to pass on an interesting article to you, not sure if
you caught it, from the Guardian in the UK:

VERY interesting to see an argument like this hit a more mainstream
level, though I’m not skilled enough at economics to probe for
weaknesses in his argument — thought I’d get your input.

I did not read the article until Matt asked about it, although I noticed a similar article from The Economist was getting some heavy action on Reddit|Economics.

My first thought is, if the state can’t save us, we shouldn’t need a license! Why should we have to obtain permission to save ourselves?

In the article, Monbiot makes an argument in favor of local scrip currencies. I’ve previously written that scrip currency is a recipe for disaster. I make this claim on several grounds: scrip denies an individual his right to make time preferential decisions regarding consumption, investment, and intertemporal resource allocations, it violates otherwise sound economic theory with regards to the origin of money, it seeks to dilute or destroy the fundamental properties of money and furthermore, arises generally only due to government failures.

On this last note, Monbiot cites favorably a few historic examples of where they worked, notably in places already ravaged by hyperinflation. Hyperinflation is an economic condition that pretty much turns everything upside down. It is the manifestation of a complete collapse of a fraudulent economic status quo: “money” loses its value to inflation so rapidly that no amount of propaganda to the contrary can hide the fact that it no longer functions as a store of value—one of the fundamental properties of money proper. Germans during the interwar period, for example, were known to use Marks as fuel for their fires, since it was less valuable than cords of firewood.

Monbiot also mentions Bernard Lietaer’s book, The Future of Money and suggests that “Money consists only of an agreement within a community to use something as a medium of exchange.” In fairness, Monbiot notes (in as many words) that he really has no idea what he’s talking about, which is nice, since he doesn’t have any idea what he’s talking about. Although money is in fact a medium of exchange, but an item can only become money if it is an economic good. There are a number of other qualities which make some items more or less suited to perform the monetary function (i.e., homogeneity, divisibility, etc.), but it need also be scarce (e.g., finite in supply) and it must be desired.

True money represents accumulated wealth. It is a physical representation of the value one has created. The “agreement” to use something or other as money need not be explicit. One works, produces goods or provides a service to others in exchange for either something he desires (barter or direct exchange), or in exchange for something he believes that others desire (indirect exchange). There is always a certain amount of speculative risk in indirect exchange, but generally the benefits outweigh the risks.

The problem with fiat money is that it all eventually collapses and those left holding the “money” are left with worthless pieces of ornate paper, while all the physical wealth they had previously created has been confiscated. Attempting to remedy this problem with another pseudo-money like local scrip is at best a temporary stop-gap.

For further reading on the origins of money, I suggest Mises’ Regression Theorem.

no third solution

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