Tag: economics

The first shots are fired

However, at the moment, it’s not violence, merely very loud political protest:

Rifle shots were fired early Monday into the Athens offices of Greece’s conservative party, which leads the fragile coalition government, causing no injuries but intensifying a wave of political violence in the debt-wracked country. 

Remember, the US is actually worse off than Greece, by some financial measures.  The only significant difference is that Greece can’t print money because the ECB won’t permit it, while the US can’t print money because the Fed won’t permit it.

I suspect these are the first shots to be fired in the great wave of political dissolution that is about to sweep over the world.

Irony and the Marxian trade cycle

Karl Popper summarizes an amended Marxian theory of the trade cycle in The Open Society and Its Enemies:

“The amended theory of surplus population and of the trade cycle may be outlined as follows. The accumulation of capital means that the capitalist spends part of his profits on new machinery; this may also be expressed by saying that only a part of his real profits consists in goods for consumption, while part of it consists in machines. These machines, in turn, may be intended either for the expansion of industry, for new factories, etc., or they may be intended for intensifying production by increasing the productivity of labour in the existing industries. The former kind of machinery makes possible an increase of employment, the latter kind has the effect of making workers superfluous, of ‘setting the workers at liberty’ as this process was called in Marx’s day. (Nowadays it is sometimes called ‘technological unemployment’.)

Now the mechanism of capitalist production, as envisaged by the amended Marxist theory of the trade cycle, works roughly like this. If we assume, to start with, that for some reason or other there is a general expansion of industry, then a part of the industrial reserve army will be absorbed, the pressure upon the labour market will be relieved, and wages will show a tendency to rise. A period of prosperity begins. But the moment wages rise, certain mechanical improvements which intensify production and which were previously unprofitable because of the low wages may become profitable (even though the cost of such machinery will begin to rise). Thus more machinery will be produced of the kind that ‘sets the workers at liberty’.

As long as these machines are only in the process of being produced, prosperity continues, or increases. But once the new machines are themselves beginning to produce, the picture changes. Workers will be ‘set at liberty’, i.e. condemned to starvation. But the disappearance of many consumers must lead to a collapse of the home market. In consequence, great numbers of machines in the expanded factories become idle (the less efficient machinery first), and this leads to a further increase of unemployment and a further collapse of the market.

The fact that much machinery now lies idle means that much capital has become worthless, that many capitalists cannot fulfill their obligations; thus a financial crisis develops, leading to complete stagnation in the production of capital goods, etc. But while the depression (or, as Marx calls it, the ‘crisis’) takes its course, the conditions are ripening for a recovery. These conditions mainly consist in the growth of the industrial reserve army and the consequent readiness of the workers to accept starvation wages.

At very low wages production becomes profitable even at the low prices of a depressed market; and once production starts, the capitalist begins again to accumulate, to buy machinery. Since wages are very low, he will find that it is not yet profitable to use new machinery (perhaps invented in the meanwhile) of the type which sets the workers at liberty. At first he will rather buy machinery with the plan of extending production. This leads slowly to an extension of employment and to a recovery of the home market. Prosperity is coming once again. Thus we are back at our starting point. The cycle is closed, and the process can start once more.

This is the amended Marxist theory of unemployment and of the trade cycle. As I have promised, I am not going to criticize it. The theory of trade cycles is a very difficult affair, and we certainly do not yet know enough about it (at least I don’t). It is very likely that the theory outlined is incomplete, and, especially, that such aspects as the existence of a monetary system based partly upon credit creation, and the effects of hoarding, are not sufficiently taken into account. But however this may be, the trade cycle is a fact which cannot easily be argued away, and it is one of the greatest of Marx’s merits to have emphasized its significance as a social problem.”

What particularly struck me in reading the section leading up to this passage was a) the way that immigration is now utilized to supply the ranks of “the industrial reserve army” and b) the fact that even back in 1962, despite his apparent unfamiliarity with the Austrian School, Karl Popper was aware that “a monetary system based partly upon credit creation” was likely to have some significance on unemployment and the trade cycle.

The Marxian system is incomplete and outdated.  As Popper shows, some of its basic assumptions were incorrect and logically flawed from the start.  But the structural similarities between the domestic industrial exploitations of the 19th century and the international financial exploitations of the 21st century become increasingly apparent when one considers them from the perspective of both Marxian and Misean theories.

It is not clear to me that these apparent polar opposites can genuinely be synthesized in any useful manner; the Hegelian irony of an attempt to do so is not lost on me.  And yet, I suspect there may be something there.

Krugman the revisionist

Paul Krugman seems to think that if he keeps rewriting economic history, he’ll somehow retroactively change what actually took place:

It’s that time again: the annual meeting of the American Economic Association and affiliates, a sort of medieval fair that serves as a marketplace for bodies (newly minted Ph.D.’s in search of jobs), books and ideas. And this year, as in past meetings, there is one theme dominating discussion: the ongoing economic crisis.

This isn’t how things were supposed to be. If you had polled the economists attending this meeting three years ago, most of them would surely have predicted that by now we’d be talking about how the great slump ended, not why it still continues.

So what went wrong? The answer, mainly, is the triumph of bad ideas.

It’s tempting to argue that the economic failures of recent years prove that economists don’t have the answers. But the truth is actually worse: in reality, standard economics offered good answers, but political leaders — and all too many economists — chose to forget or ignore what they should have known.

Three years ago.  That would have been 2010… which was several months after I published The Return of the Great Depression, which explained that the issue was credit inflation, not insufficient demand.  Unlike all those economists, I also declared that we would be in the middle of an economic depression now, which is the case, even though few seem to consciously be aware of it due to the various statistical shenanigans.

And three years later, after Obama passed a BIGGER stimulus plan than the one for which Paul Krugman himself called for, Krugman is still trying to claim that the mainstream economists were not incorrect, while repeating his previous and incorrect diagnosis.

They will not pay

Karl Denninger exhorts today’s youth and tomorrow’s debt-holders:

You have committed no crime.  You thus cannot be compelled to either slavery or involuntary servitude.  And until your 18th birthday, you cannot lawfully consent to servitude.  It is only upon your 18th birthday that you can consent.

So I say to you today, that it is your right to stand as American Citizens, irrespective of your age who have not yet consented, and say in a loud, clear voice:

I WILL NOT PAY

You should and indeed must say it to your parents.  You should and indeed must say it in your schools.  You should and indeed must pass this letter around to your friends and others in your class and those who you associate and hang out with.  And you must say this every day, in a louder and more-cohesive voice — today, tomorrow, the next day and every day thereafter, until we the “old geezers”, realize that you’re serious.

We, the “old geezers”, never had the right to try to force you to pay $180,000 of your money that you would earn tomorrow, an amount that has almost tripled in the last ten years and will triple again if you don’t put your foot down and demand it stop.

There is only one way to make sure it stops, and that is to make very clear to everyone the following:

YOU WILL NOT PAY

You must say it, and you must mean it.  You must convince all those around you, especially the adults around you, that you mean it. 

You must do it now, because if you don’t, or worse you take any act that confirms that you’re ok with that $180,000 in debt that was forced upon you then you will be forced to pay not only that but the hundreds of thousands more that will be added over the next decades. 

Of course, it doesn’t actually matter whether they warn their parents and grandparents or not.  They will not pay.  They will not pay because they will not be able to pay.

A diatribe of dismalities

Paul Krugman somehow forgets to take $44 trillion into account:

Menzie Chinn is having a dialogue, or something, with the Heritage Foundation. He pointed out that their arguments against stimulus, aside from being primitive and wrong, would also imply that the fiscal cliff is harmless. They respond in part by claiming that all they’re worried about is the incentive effects — yeah, right — and also by claiming that famous economists made the same arguments.

The latter claim, unfortunately, is completely true. But it doesn’t absolve Heritage; all it shows is that much of macroeconomics, especially but not only at Chicago, has retrogressed intellectually, to such an extent that famous economists repeat 1930-vintage fallacies in perfect ignorance of the hard intellectual work that showed, three generations ago, that they are indeed fallacies.

By the way, Heritage — after totally misrepresenting Keynesian economics (Keynesians never think about investment? Really?) — asks,

    When the government borrows a trillion dollars on global financial markets for a stimulus package, does Chinn believe that zero dollars of that is diverted from investment?

I don’t know for sure what Menzie’s answer would be, but mine is, no, I don’t believe that zero dollars are diverted; under current conditions, negative dollars are diverted. That is, stimulus spending would lead to more, not less, private investment. Why? Because we are in a liquidity trap — interest rates won’t rise — and higher sales would induce businesses to invest more, not less.

Oh, and if you go back to what Heritage analysts were writing back in 2009, they were predicting that government borrowing would lead to soaring interest rates. How’s that going, guys?

There is a very easy explanation for why increased goverment borrowing has not led to soaring interest rates.  Like every good Neo-Keynesian, Krugman gets himself in trouble by completely ignoring the credit market, which is a little ironic considering that he’s talking about the price of credit.

Government borrowing has soared since 2009.  It has exploded from $6.8 trillion to $11.3 trillion.  So, with that obvious increase in the demand for credit, why hasn’t the price increased?  Because government borrowing was only 12.9 percent of the total credit market back in 2009.  It is now 20.4 percent of the market.  The price of credit hasn’t gone up because the OVERALL demand for it has slumped, as I pointed out last week.

This is like asking why the Warcraft servers aren’t being overloaded because you’re playing twice as much now, even though two other players who used to play a lot more than you did are playing quite a bit less than before.

The Heritage analysts assumed, improperly, that the Household and Finance sectors would continue to expand at their 60-year rates of increase.  Instead, both sectors have shrunk, by $1 trillion and $3.3 trillion respectively.  Debt disinflation is why interest rates are not soaring.

This is why you’re stressed

A few months ago, I noticed that people seemed to be getting increasingly short-tempered and uncharacteristically nasty.  Not just here on the blog, not just in either Europe or the USA, but literally everywhere I went, virtually or in real life.  Normally patient people were snapping at others.  The habitually grumpy were either going entirely silent or biting people’s heads off at the slightest provocation. I am reliably informed that my own tendency to brood and think dark thoughts was beginning to rival Guy de Maupassant’s; I’d put it down to being on the home stretch of the novel, but now that I’m coming up for air, that doesn’t appear to have been the cause.  It has gradually become apparent that this increasingly negative social mood has come about because very nearly everyone has either been laid off, missed out on a job opportunity, knows someone who has been laid off, or has family members who are unemployed.

Those who are freelancers have been finding fewer jobs dropping in their laps, and the work that they find is less lucrative than it used to be.  I went to a good-sized tire store this week to pay for some tires that were changed after hours when I didn’t have my wallet with me – I stopped to make an appointment on the way home and the guy offered to change them then – and learned that everyone had been laid off and the operation would be shutting down at the end of the year.  And this was, to all appearances, a large and profitable operation with little competition nearby.

And yet, none of this is particularly new.  Unemployment is supposedly lower than it has been and even if we assume the usual statistical shenanigans by the BLS, job losses haven’t significantly increased since last year.  So why is the social mood so awful?  How can it be so negative when the Dow is higher than it was two years ago?  It can’t be the election; even if Republicans are deservedly in the dumps, shouldn’t the Obama-voting majority be happy with things going their way?

I suggest the reason can be seen here, in the chart to the right, which shows two lines.  The two lines match very closely from 2005 through the end of 2007; the point of maximum divergence is only 0.6 percent in Q4 2005.  They start to part company in Q1 2008, when Z1 falls $358 billion short of the expected Zn.  In the most recent quarter, Q3 2012, Z1 is $22.6 trillion lower than Zn, a 40.8 percent divergence.

Z1 represents total credit market debt outstanding, as reported by the Federal Reserve.  This, in combination with M2, is the effective money supply.  It is the “credit money spent” of which Mises and other Austrians write.  Zn, on the other hand, is what Z1 would be if it had continued growing at its historical rate of 2.36 percent per quarter from Q4 2004.  What is shows is not credit deflation; Z1 is now $2.4 trillion higher than its previous peak in Q1 2009.  It merely shows the lack of credit inflation that the U.S. economy requires to continue providing its illusion of increasing wealth and economic growth.  It is why we have seen neither the predicted inflation or deflation, this is observably what can be best described as “debt-disinflation”.

The U.S. economy’s dependence upon a rapid rate of credit growth is not a recent phenomenon.  While the 9.8 percent growth from 2005 to 2007 does exceed the 60-year average of 8.6 percent from 1948 through 2007, the 2008-2012 average of 2.0 percent is less than one quarter of the lower figure.  The current rate of credit money growth is also less than half that of the previous four-year average lows, 5.1 percent in 1948-1951 and 5.7 percent in 1991-1994.

As Karl Denninger and I have both independently demonstrated, the US economy has not actually grown in real macroeconomic terms since the early 1980s when not only M2 inflation, but Z1 inflation as well, is taken into account.  However, the illusion of growth was preserved by the quarterly credit inflation of 2.36 percent.  Once that inflation stopped, however, the illusion began to fail.  GDP growth has continued by virtue of the federal government’s massive attempt to single-handedly prop up credit growth; if Z1 had kept pace with the federal sector’s rate of growth, Zg would be $112,021 trillion and we would finally have the massive inflation that the inflationistas have been expecting.

That $22.6 trillion gap is the real demand gap that Paul Krugman and the other Neo-Keynesians have been attempting to solve for the last four years.  Since they don’t understand the significance of credit, they don’t understand the scale of the problem.  Because the Zn-Z1 credit money gap is now larger than the $16 trillion GDP, the futility of attempting to make it vanish by raising taxes or increasing spending should be readily apparent.

And the more the veil thins, the more economic stress people feel. Like those who lived through the Great Depression, they no longer believe the constant assurances that recovery is right around the corner.  Just the other day, I was surprised to hear a man in the UK who has hitherto exhibited no interest in economics refer sarcastically to “green shoots”.  When Ben Bernanke’s old catchphrase from 2009 is being openly mocked by people living on different continents who probably still don’t know who he is, it should be clear that the illusion is on the verge of complete failure.

So, if you’re feeling more stress than usual this Christmas season, understand that it isn’t all you or your lunatic relatives that are to blame and attempt to cut yourself and everyone else some slack.  It may well be the illusion of nonexistent wealth fading away that is contributing to an increasingly corrosive social mood.  I don’t have any advice or answers, (although perhaps some inexpensive escapist literature wouldn’t hurt), but sometimes it just helps to realize that you’re not imagining things and the problems you’re perceiving are material rather than figments of your imagination.

The wrong side of the curve

The UK discovers the Laffer Curve matters:

In the 2009-10 tax year, more than 16,000 people declared an annual income of
more than £1 million to HM Revenue and Customs. This number fell to just 6,000 after Gordon Brown introduced the new 50p top
rate of income tax shortly before the last general election. The figures have been seized upon by the Conservatives to claim that
increasing the highest rate of tax actually led to a loss in revenues for
the Government. It is believed that rich Britons moved abroad or took steps to avoid paying
the new levy by reducing their taxable incomes.

Anyone who believes in the myth of human progress has to have their faith shaken by the total inability of governments to grasp the concept of cause and effect despite literally thousands of years of historical evidence upon which to draw.

Financial innovations?

Or maybe those rising stock prices are the result of all that additional productivity now made possible by 3G/4G, Android, and iPad:

Lauren is correct.  Look at the TNX compared to when QE was instituted in all cases and then what happened when it ended.  When The Fed intervenes it says it is trying to depress interest rates but in fact the opposite happens.

Why?  Because interest rates are the time-value of money including the expected devaluation.  When you raise that figure rates go up.

In addition credit and currency are fungible.

Peter has long argued for “coming hyperinflation.”  He’s been dead wrong.  He’s wrong because the inflation already happened through the issuance of bogus credit.

Doubt me?  What do you call stock prices going up by a factor of 14 over the last 30 years?

Some of you will recall I tried to explain that credit was money to Mr. Schiff, but to no avail.  It’s not that M2 doesn’t matter, it’s just that Z1 matters more.  What I don’t understand is why those individuals who say that debt doesn’t matter always insist on increasing taxes.  If debt doesn’t matter, then why tax anyone?  We’re already borrowing and spending more money than we used to tax-and-spend, so obviously, there is no need to fund the government through taxation.

End this depression II

In Chapter Two, Depression Economics, Krugman resorts to his favorite analogy, the babysitting coop, whose travails were chronicled by a 1977 article in the Journal of Money, Credit and Banking.  This is at least the third book in which he has resorted to the analogy, this time to demonstrate that overall lack of demand can’t hurt the economy and that “your spending is my income and my spending is your income.”  But this time, he also cites the 150 babysitting couples as an example of his proposed cure for the global economy

“That’s where we come to the third lesson from the babysitting co-op: big economic problems can sometimes have simple, easy solutions. The co-op got out of its mess simply by printing up more coupons.

This raises the key question: Could we cure the global slump the same way?  Would printing more babysitting coupons, aka increasing the money supply, be all that it takes to get Americans back to work?

Well, the truth is that printing more babysitting coupons is the way we normally get out of recessions. For the last fifty years the business of ending recessions has basically been the job of the Federal Reserve, which (loosely speaking) controls the quantity of money circulating in the economy; when the economy turns down, the Fed cranks up the printing presses. And until now this has always worked. It worked spectacularly after the severe recession of 1981–82, which the Fed was able to turn within a few months into a rapid economic recovery—“morning in America.” It worked, albeit more slowly and more hesitantly, after the 1990–91 and 2001 recessions.

But it didn’t work this time around. I just said that the Fed “loosely speaking” controls the money supply; what it actually controls is the “monetary base,” the sum of currency in circulation and reserves held by banks. Well, the Fed has tripled the size of the monetary base since 2008; yet the economy remains depressed. So is my argument that we’re suffering from inadequate demand wrong?

No, it isn’t. In fact, the failure of monetary policy to resolve this crisis was predictable—and predicted. I wrote the original version of my book The Return of Depression Economics, back in 1999, mainly to warn Americans that Japan had already found itself in a position where printing money couldn’t revive its depressed economy, and that the same thing could happen to us. Back then a number of other economists shared my worries. Among them was none other than Ben Bernanke, now the Fed chairman.

So what did happen to us? We found ourselves in the unhappy condition known as a “liquidity trap.””

Krugman’s first claim is harmless enough.  Obviously, an overall lack of demand can hurt the economy, those who erroneously insist that supply is always capable of creating demand notwithstanding.  His second claim is partially true, but incomplete, because not all spending comes from income.  A considerable amount of spending also comes from credit, but since that is neither part of the Neo-Keynesian aggregate model nor the babysitting coop story, Krugman simply omits it.  And it can’t be denied that the babysitting coop did appear to get out of its impasse by printing more coupons.

However, Krugman is guilty of a significant omission when he claims that Fed inflation – cranking up the printing presses – worked spectacularly in ending the 1981-1982 recession.  And what he omits is that one of the chief causes of the recession was the Fed’s need to slam on the brakes due to the rampant inflation of the 1970s, inflation that completely failed to cure the high rates of unemployment as it was supposed to according to conventional Neo-Keynesian economic theory.  In fact, it was this failure that led to the widespread rejection of Neo-Keynesianism and the adoption of Milton Friedman’s monetarist spin on it.

Also, when Krugman claims that the Fed was cranking up the money presses in 1983, he omits to mention that throughout that year, which more than covers his “few months” the interest rate never fell below 10.5 percent, which is higher than it was at any time after November 1978!  Somehow, we’re supposed to believe that observably tighter monetary policy amounts to cranking up the money presses!

That being said, the money supply did observably begin increasing in 1983.  From mid-1982 to mid-1983, M2 rose $228 billion.  However, L1, total credit, grew $598 billion over the same period.

Now, Krugman admits that tripling the monetary base has not succeeded in moving the economy out of depression.  If the true lesson of the spring 1983 expansion is that credit, and not money supply is the issue, then we can assume that the current dearth of economic growth should be correlated with a similar lack of growth in Z1.

As it happens, that is precisely what we see.  Z1 has been very nearly flat since 2008 and is currently $5 trillion lower than its 60-year historical rate of growth would predict.  So, the basic foundation for Krugman’s case is not only incomplete and historically inaccurate, but flawed in precisely the way that those familiar with the Neo-Keynesian model would expect.

End this depression I

I’m going to take a slightly different approach to reviewing Paul Krugman’s latest book, End This Depression Now!.  Ever since writing TIA, I have found it frustrating to read a book, accurately summarize the arguments it contains, critique those arguments, and then find myself addressing various complaints about my summaries and critiques from those who readily admit they have not read the book.  This is particularly annoying because the percentage of people who actually bother to read a book appears to be a small fraction of those who are interested in discussing its contents and its implications.

So, instead of writing a general review and critiquing the summarized arguments, what I’m going to with this book is systematically highlight the 16 sections that I bookmarked and identify the specific claims being made as well as any fundamental flaws I believe are thereby revealed.  This approach should make it easier for people to understand exactly what Krugman has written and reduce any derailing of the discussion on the basis of the supposed inaccuracy of my summaries.  One could, if one liked, also consider this a 101 level course on Krugmanomics.

In Chapter Two, Depression Economics, Krugman explains his thesis:

“The central message of all this work is that this doesn’t have to be happening. In that same essay Keynes declared that the economy was suffering from “magneto trouble,” an old-­fashioned term for problems with a car’s electrical system. A more modern and arguably more accurate analogy might be that we’ve suffered a software crash. Either way, the point is that the problem isn’t with the economic engine, which is as powerful as ever. Instead, we’re talking about what is basically a technical problem, a problem of organization and coordination—a “colossal muddle,” as Keynes put it. Solve this technical problem, and the economy will roar back to life.

Now, many people find this message fundamentally implausible, even offensive. It seems only natural to suppose that large problems must have large causes, that mass unemployment must be the result of something deeper than a mere muddle. That’s why Keynes used his magneto analogy. We all know that sometimes a $100 battery replacement is all it takes to get a stalled $30,000 car back on the road, and he hoped to convince readers that a similar disproportion between cause and effect can apply to depressions. But this point was and is hard for many people, including those who believe themselves well-informed, to accept….

What I hope to do in this chapter is convince you that we do, in fact, have magneto trouble. The sources of our suffering are relatively trivial in the scheme of things, and could be fixed quickly and fairly easily if enough people in positions of power understood the realities. Moreover, for the great majority of people the process of fixing the economy would not be painful and involve sacrifices; on the contrary, ending this depression would be a feel-good experience for almost everyone except those who are politically, emotionally, and professionally invested in wrongheaded economic doctrines….

Think of it this way: suppose that your husband has, for whatever reason, refused to maintain the family car’s electrical system over the years. Now the car won’t start, but he refuses even to consider replacing the battery, in part because that would mean admitting that he was wrong before, and he insists instead that the family must learn to walk and take buses. Clearly, you have a problem, and it may even be an insoluble problem as far as you are concerned. But it’s a problem with your husband, not with the family car, which could and should be easily fixed.”

In summary, Krugman is aggressively asserting that the problems with the U.S. economy are trivial, technical, and easily solved by the economic equivalent of changing a car battery by people in positions of power.  He sees no serious structural economic problems stemming from the trade deficit, the demographic changes in the population, the educational system, the financial system, the shift to a service economy, or the record levels of public and private debt.  He also expects that the process of fixing it will be close to painless for nearly everyone in the country.  He does not, however, claim that it will be politically easy to solve the problem, in fact, the solution is a political one and primarily concerns overcoming those who are “invested in wrongheaded economic doctrines.”

Is everyone clear on this?  Does anyone see any reason to take exception to this summary or claim I am erecting a strawman?  I’ll also be interested to know your opinion of whether this approach is effective or not.