| Monday
October 27, 2008
A discussion:
Sorry, pure Capitalism doesn't cause the business
cycle.
Government intervention in the banking industry does.
Markets fluctuate; that's what they do. Price change
to reflect real world conditions, fears and desires. You can have a
temporary pricing phenomenon in anything, but if all businesses rise
together and crash together, then there must be an external cause. What is
it? Price inflation is a direct result of monetary inflation. But, it
usually takes time after increasing the money supply for these facts to
effect the markets. Economists have known this since John Law and the South
Seas Bubble.
Much of this price inflation depends on whether the
people catch on to how the government is instituting a hidden tax on wealth.
If people perceive that the government is running the printing press
overtime or inflating through banking processes, then they will take evasive
action, by getting out of dollars and into goods--into Gold. It is that
mechanism which causes the value of the currency to nose dive.
You can get the same effect if someone is clever about
counterfeiting. If they are able to pass off enormous amounts of funny
money, but no one notices, at first, there is still an increase in price
inflation, because the phony money is snapping up goods creating shortages.
Then, when the secret is discovered, people find out that a substantial
portion of the cash in their wallets and much that is in their bank account
is worthless. When you discover that your wealth has vanished, you tend to
cut back on your purchases. This is what a recession or depression does.
The mechanism that I described is used by the Federal
Reserve Bank to regulate the so-called business cycle. When the economy is
bad and unemployment is high, the FED lowers the interest rate to stimulate
borrowing by businesses. It can also encourage congress to spend money--
they love to do that. When the economy is overheated and is heading toward a
hyper-inflation then the FED cuts back on money creation by raising interest
rates. This is Keynesan Economics in action. It is in almost every economics
book.
The idea is that the government can balance monetary
inflation and public spending to produce stability. The problem is that it
doesn't work.
Under President Carter, and presumably a President
Obama, we had high taxes, high public spending, high price inflation and
high unemployment-- Stagflation. The solution which President Reagan used to
solve this was to cut taxes, business regulations and he attempted to lower
government spending, but the Democrats in Congress reneged on their
promises. Even so, we came out of Carter's recession. It would have been
sooner if Congress had been honest.
The point about this that, if the government has the
power to regulate interest rates and who gets the loans, then they will
manipulate these rates for political purposes. Mostly, it is to buy votes.
The reason we have a financial meltdown, now, is that
the Democrats in Congress forced the Banks to give loans to people who
couldn't afford to repay them. Then, President Clinton allowed Fannie Mae
and Freddie Mac to repackage their risky loans and sell them to commercial
bankers.
This was fine as long as the price of houses went up.
But, markets fluctuate-- they go up and down depending on external factors.
The FED had to raise interest rates to adjust for this. so the variable rate
mortgages suddenly cost more money every month. People began to default on
their loans. When you get enough of that, then the whole house of cards
crashes.
All this means is that if there is any Phoniness at
work, eventually, it will be found out. Of course, The crash came just in
time to sabotage the Republican Candidates chances in a September surprise.
Naturally the Lying Press and TV News blamed the problem on the President in
office when he had nothing to do with any of it. Fannie Mae and Freddy Mac
were the creation of Democrats in Congress. Those Democrats resisted any
attempt to fix the problem.
The Current housing bubble is nothing compared to the
Medicare and Social Security fiascos which are coming up. They will have to
wait for the next time the Republicans might hold the Presidency.
Lou Wheeler
I confess that I am usually annoyed when someone
begins with "Sorry, you're so wrong..." and then proceeds to tell me what
I have been saying for years. Incidentally, the Fed continued to feed the
boom by lowering interest rates during the boom period, which is not what
Keynes would advise. In any event, I kept my answer simple:
And you, of course, know what does.
Yes, Free Market Economists have known about this for
hundreds of years. They have followed the process through many booms and
busts.
I'm not an economist. I just read them for pleasure.
Evidently, you are unable to read and think about my
statements. I was quite clear. That's too Bad. Such is the price of economic
bigotry.
You did not attempt to disprove my arguments, just
dismiss them.
Lou
I had also said
There is a difference between
fluctuation and periodic busts with depressions. Or
do you think the current mess is just a natural fluctuation, something to be
expected every now and then?
As I said markets always move to adjust to changing conditions, unless
prevented. The only time you can get a general price decline (a recession)
is through a monetary manipulation. Busts are the natural consequence of
artificial Booms. The longer you stave off the Bust, the deeper it will be.
The current mess is a manufactured crisis made out of many parts. Some of
it is the result of the Democrats attempt to buy the votes of the poor
through giving them below market loans. Partly, it is from an unwise
political decisions to allow Fannie Mae and Freddy Mac to re- package and
sell these risky loans to commercial bankers. And too, it is the speculators
who benefited from the government's unwise decisions.
Finally, it is that the time to correct this problem was before these
institutions lost the public's confidence. That was back in 2003 when the
Bush administration tried to reign in Fannie Mae and Freddy Mac. Or in 2005
when McCain tried. But, the Democrats had the votes to block any change.
At this date, nothing has been done to correct the initial problems at
Fannie Mae and Freddy Mac. These institutions must die, taking with them all
their stockholders.
> We seem to have lost more money than banks ever
made through history
True. What we don't have is any TRUST.
No one has any idea what anything is worth any more. The market place
determines what has value, but the government guaranteed these loans. What
is the worth of the government's guarantee? Why should anyone trust the
bunglers who created this mess?
Oh! This crisis will be washed out. The bank who have any money will
throw away their bad paper. But, that will not happen until the government
stops trying everything that WON'T work. This is not a liquidity crisis, it
is a Trust crisis. We are not even close to it being over.
> Sure everyone got into gold. Sure they did >
Not yet. It may well go there. It depends on how stupidly the government
acts. I was speaking about the long history of currency manipulations, in
general, not of this crisis, in particular.
Gold is the world's "scared money." Gold is a lousy investment in good
times, because Gold gives no interest. But, if you are afraid that the
dollar, itself, is going belly up, then you should have some gold, just in
case. You may need to flee the country one step before the tax collector.
But, it is too soon to fear this, yet. We have weeks yet. If the
government allows the commercial banker's businesses to fail. If it allows
the prices to drop until even ordinary people can see the bargains, then the
market will recover. That is how you traditionally handle a "banking panic."
If the government tries to lower the tax burdens on the Public, then
people will have the money to make the recovery. If the government sets out
to "Soak the Rich," then, the consequences will be long and deep.
I'm just not imputing any intelligence to these people. They have shown
none so far. They seem not to understand the nature of the problem, so how
can they adopt ant corrections?
lou.
> Interesting how few actually seem to know this.
Tell me about the > derivatives which were unregulated,
They were not unregulated. The securities markets are one of the most
heavily regulated markets in America. They were mis-regulated in a way that
provoked this crisis. This was government mismanagement from beginning to
end.
> and how they were not capitalistic?
Regulated and controlled markets are NOT Capitalistic; they are
Socialistic. Why? Because they do not allow the necessary freedom which
Capitalism demands. There are NO businesses, in Capitalism, which are too
large to fail.
This is known as Crony Capitalism, State Capitalism or Social Democracy.
There are stock markets in the European Union, but they are controlled the
the state. The stock markets like, the businesses, do not have the freedom
to act. This very much how the NAZI's took over the German economy and
turned it into a war machine. Europe's Social Democracy may have a different
goasl than the NAZI's, but they use the same methods. Evidently, so do our
financial regulators.
Which is, I suspect, what most of those who
believe the "free market economists" understand everything, and if only
they are allowed to run things, all will be well.
The fact is that in 2000 the laws that forbade
investment houses from betting on stocks without investment -- the
derivatives that actually destroyed the market -- were repealed. In
addition, the states were forbidden to regulate those derivatives. Sixty
Minutes, not a program I usually credit with careful research, had a
fairly good segment on this last night. The law was one of the last
actions of the outgoing Congress, and was signed by Clinton. I don't know
who opposed it; few had even heard of it until recently.
But by allowing investment houses to bet that the
mortgage based securities were worth what was paid for them -- in other
words to sell insurance on those mortgage based securities -- a great deal
more than the value of the mortgage based securities was put to risk.
Think on it: the mortgage based securities were at least based on real
property. It wasn't likely that they'd be worth NOTHING -- at least the
land would survive nearly any neglect or disaster.
But the derivative bets were based on nothing: if
people defaulted and the bubble burst, there was nothing for it but to pay
-- only the insurance company regulations that the states have in place
that require reserves were forbidden by the federal government. This was
deregulation with a real vengeance.
Now in general regulations do not accomplish what
they intend to accomplish. In general I agree with the notion of free
markets: but I also understand that unregulated free unrestricted
capitalism always starts a race to the bottom. Eventually it ends with
human flesh for sale in the market place.
We very nearly saw that this time with those
derivatives. And there were tens of trillions of dollars' worth sold. They
were bets that the real estate boom would continue. When it didn't, the
investment houses were done for.
We had one more iteration of this:
> So who, precisely, was in charge here?
Why does any person have to be in charge? Why can't people be responding
to governmental stupidity?
> I'd say that the speculation in derivatives is
what really wiped > things out.
Yes, but the speculators never had the power to do this until President
Bill Clinton gave to Fannie Mae and Freddy Mac the power to package these
derivatives. And CRA was a very minor deal created by President Jimmy Carter
until Clinton allow the Community Activists in ACORN to use it browbeat the
banking industry into giving out risky loans. Where did it start?
Does it matter? It took the efforts of many people to get us into this
mess. All should be blamed. Many of them, in an out of government, should
got to jail. But, that is for after we are beyond this mess.
> It's much as if > your banker decided to use the
deposits to play the horses.
The Bankers were forced into giving those risky loans by CRA under
Clinton. Sure, they can be faulted for going along with it, but they did not
start this.
> Or to bet on the Dow-Jones price without actually
buying stocks. The > result was that the bank was wiped out the moment the
depositors had > any suspicion that their money was in danger.
Yes. This is a matter of bad incentives. The bankers thought they were
covered because they had government guarantees. What are those guarantees
worth today? Zilch. Why? Because no one trusts the government any more
> > > The free market economists are right most of
the time : but every now > and then everything collapses. They say, well, we
were right 99% of > the time. So, really, was nearly everyone else. It's
easy to make > money when things keep going up.
We do not have a free market. Government Guaranteed Enterprises like
Fannie Mae and Freddy Mac are not free market. They are political
institutions which had to fail. The government is not yet letting the free
market work.
If the free market were allowed, then most of those investments would be
worthless and the banking institutions who own them would be bankrupt.
There is a "creative destruction" in free markets. Bad institutions are
allowed to fail. It keeps people from repeatedly acting stupid. When they
lose all their money, they are out of the game.
> > > There wasn't any government interference with
the derivatives market
That is an absurd position. It was all set into motion by the government.
Foreign hedge funds owned by George Soros, regulated by no one, have made
billions on this collapse. They rocked the boat to destabilize the markets.
And they timed it perfectly to explode in the Republican candidate's face.
The mainstream media lies to cast the blame on the wrong people.
I have let this go on at length. If allowing them
to bet on the derivatives was not deregulation then I am confused as to
what regulation was involved, and I don't have time to continue the
conversation further. Moreover I don't know what is absurd about pointing
out that no one told the bankers that their "insurance" derivative bets
were in any way guaranteed by government, and I don't have time to find
out about my absurdity.
But this is the argument of the free market
theorists, who insist that unrestrained free markets will not produce
business cycles. Perhaps so. I haven't time to continue this. Note that
most of the arguments are similar or even identical to some I have made.
In general free trade is the right way t9 maximize production -- assuming
you can manage to avoid the great swings that wipe out all the gains and
set nations up for revolutions. Economics is, after all, not a complete
science: political intervention can, and usually will, interfere with the
pure theory of economic activity. Any economic theory that does not take
account of politics is not likely to be very useful in guiding real
statesmen and politicians in real world problems. The so called free
market -- which never really exists -- often produces conditions that
tempt politicians to interfere with the free market.
And sometimes there is a need for regulation.
My own view is that ruthless competition does not
always produce the results we want. As my astronaut friends used to say,
it was a bit nervous making to realize that you are at the top of a
machine made of 10,000 parts, each provided by the lowest bidder.
That is hardly a condemnation of free markets; it
is a caution against the notion that unrestrained and unregulated
capitalism is the solution to all problems. It's not, and without some
kind of restraint, there is literally nothing that will not be offered for
sale by someone. Competition sometimes drives people to desperate
measures.
In any event,
my essays on size and distributism
were intended to promote this thought: is there such a thing as too much
efficiency? Would we not have been better off if there had been a hundred
investment banks, each small enough that if it failed the world would not
end? Is it not likely that some of them would have behaved in a more sane
manner, and anticipated the collapse?
I fear, though, that relying on the above
analysis may not be the solution to the way out of this mess.
I might have continued the discussion but my
correspondent solemnly informed me that I was both ignorant and arrogant:
In other words, you are a dupe-- a pawn- a drone.
You are talking through your hat.
Then, you come off as arrogant, dismissive and
prejudiced. You were not worth my time.
Lou
At which point I terminated the conversation. At
least we have a sample of the reasoning behind those who insist they
understand what is happening.
============
Too big to fail?
Fixing Too Big to Fail Why don't we break up companies
that are "too big to fail"? Every year, put out a survey to NYSE, S&P
whatever and ask if they are so great and important that their failure
cannot be allowed to occur and should be bailed out by taxpayers. Check yes
and get busted up fast.
Mike in TN
When it comes time for the nation to divest
itself of the bank stock it has bought, this ought to be kept in mind: we
do not want to produce a company that is too big to be allowed to fail.
Sometime this week we will have a new discussion
of anti-trust and trust busting, and when it ought and ought not be
applied.
=================
Continuing the economic
discussion
Antitrust
Dear Dr. Pournelle:
It seems to me that the weakness of the argument in
favor of antitrust is much the same as that for any other government
intervention: regulatory capture.
At least in recent years, it has become clear that
many antitrust actions are for the benefit of other producers rather than
consumers. This has led to such obvious absurdities as Microsoft being
compelled by the EU to sell two versions of Windows, one with Internet
Explorer and one without...which they sell at the same price (hmm, wonder
which sells more copies?), allowing (as they always have) IE as a free
download.
This seems to me to be even more problematic in an
environment where company assets are mostly inside the heads of the
employees: the availability of "free IE" certainly doesn't seem to have
impaired the existence of Firefox, Opera, and so forth.
At least in the old, second-wave industrial world, you
could construct some sort of plausible argument about "barriers to entry" in
the form of all the capital investment required to compete. But my readings
on the subject suggest that even the sort of antitrust that has been
historically held up as exemplary (e.g., versus Standard Oil or U.S. Steel)
was not altogether good for the consumer--but very good for the other
producers.
Of course, helping other producers may be the best
outcome one might hope for: the *worst* outcome is what you got in the
application of antitrust to the railroads--murder by slow strangulation of
the railroad industry with one hand, while the government blithely used the
other to shovel subsidies onto their competitors, the airlines and highways.
I assume you are well aware of Frederic Bastiat's
"Petition of the Candlemakers". Of course that is primarily an argument
about tariff barriers but the analogies certainly seem pertinent to
antitrust as well.
Very respectfully,
David G.D. Hecht
I do not doubt that anti-trust can be abused, and
there are industries where it is not appropriate. I was not in favor of
breaking up Microsoft. I am concerned about the concentration of wealth in
financial companies, and in particular about such companies being too big
to fail.
And I will repeat, I think it would be better to
have 100 companies with CEO's getting a million a year than one company
with a CEO paid $100 million a year.
==
Arthur Laffer on the Economy
Dr. Pournelle --
Arthur Laffer has a depressing article in the Wall
Street Journal. He doesn't seem to have much hope for the economy with all
that the government is trying to do to "help" it.
The Age of Prosperity is Over by Arthur B. Laffer
http://online.wsj.com/article/
SB122506830024970697.html?
mod=rss_opinion_main
"Financial panics, if left alone, rarely cause much
damage to the real economy, output, employment or production. Asset values
fall sharply and wipe out those who borrowed and lent too much, thereby
redistributing wealth from the foolish to the prudent. ..."
"When markets are free, asset values are supposed to
go up and down, and competition opens up opportunities for profits and
losses. Profits and stock appreciation are not rights, but rewards for
insight mixed with a willingness to take risk. People who buy homes and the
banks who give them mortgages are no different, in principle, than investors
in the stock market, commodity speculators or shop owners. Good decisions
should be rewarded and bad decisions should be punished. The market does
just that with its profits and losses."
"These issues aren't Republican or Democrat, left or
right, liberal or conservative. They are simply economics, and wish as you
might, bad economics will sink any economy no matter how much they believe
this time things are different. They aren't."
It's looking like this will be something I tell any
future grandchildren I might have -- when they want a scary story.
Pieter
==
Subject: Economics 102
Jerry,
Regarding the posts from correspondent "Lou," I think
he had some good points (including the one about Soros raking in a bundle
from this, which I've been saying for years is why he's backed the
Democrats) and about government manipulation of the economy to failure.
At some point he lost the thread of his argument.
Admittedly I'm not an economist either, but I do
understand mathematics and large systems and I'm applying that to my
understanding of the economy. Not sure I'm there yet, and I would appreciate
your thoughts about my assessment and conclusion.
One thing I've done has been to characterize every
"Panic" in US economic history. Almost all have had a component of
government-manipulated speculation and / or gross change in monetary policy
(including the energy crisis of the early 1970's, which happened when OPEC
froze production in response to Nixon's manipulations), and they've happened
almost like clockwork every eighteen to twenty years since 1809. But note
that I said "almost all" and "some component." Many of the post-Civil War
panics also featured individual investors trying to achieve monopolies over
gold and silver at a time we were on the gold standard. (Come to think of
it, it didn't turn up in my original research but I just had a "living"
memory that silver collapsed about the same time as the Energy Crisis due to
an investor attempting a monopoly; I'll need to go back and look that up).
I think the point that Lou is trying to make is not
that the markets were, in these cases, deregulated in the sense by which you
meant deregulation, but that the regulatory environment (Community
Reinvestment Act, etc.) combined with extra-regulatory pressure from
community activists organization (such as the infamous ACORN) encouraged
mortgage bankers to take economically bad risks with some expectation
(initiated under Clinton and perpetuated by the Democratic refusal to
evaluate the risks during the Bush 2003 and McCain 2005 efforts to
investigate and reregulate Fannie Mae and Freddie Mac) that the government
would effectively insure the risk through those two organizations. The
reregulation which eventually occurred after the Democratic congress was
seated in 2007 -- forcing the investment houses to depreciate the value of
their bad loans as the housing bubble burst -- completed the cycle of
crashing the bubble just in time for the 2008 elections.
The relevant regulation / deregulation / reregulation
is that which allowed some investors (e.g. Soros) to profit from this Ponzi
scheme at the expense of the rest of the economy. Why anyone would be
surprised when he did it in Britain in 1992-3 (something the New York Times
now blames on the collapse of Thatcher's economic policies) or not see
through his support of the Democratic party (as a foreign citizen) remains
beyond me.
As you noted in your response and as we've discussed
in off-line conversations, economics analysis must have some mechanism of
defining and incorporating the constraints imposed by regulation and
deregulation, as well as other factors of perception of individuals,
corporations, and even segments of the economy.
+++++
Fox and Friends just reports (8:40 ET) that the Obama
campaign is accepting credit card donations based on validity of the credit
card and without correlation of the name and address of the donor to the
credit card number, a policy that both Clinton and McCain avoided.
Jim
I think I said here early on that the beginning
of the crisis was the ACORN and CRA requirements that Fan and Fred loan
money to people who shouldn't be borrowing that much. But the insurance
derivatives were the ten trillion dollar disaster that did in the
companies, and those bets weren't legal until the "reform" act of 2000.
But I still believe the real problem was that
there was such a concentration in a few companies. Any company that didn't
get in on the derivatives and get the numbers up soon got a less risk
conscious CEO. (Michael Miller formerly EIF of Infoworld and an old friend
was making that point at lunch today.) Absent regulation of some kind
unrestricted capitalism becomes a race to the bottom. There needed to be
some protection for investor money other than greed...
It's as if Lehman Brothers decided to take the
depositor money, use it as security to borrow a very great deal more, then
bet on the horses using markers for ten times that much.
State regulations of insurance companies required
certain capital reserves. There used to be margin leverage limits. All
this we learned from previous crashes -- then threw those lessons out.
Forty years of "confirming instances" do not
validate models on which you bet the entire wealth of the nation...
===========
Harry Erwin's Letter from
England
Recession comes to the UK
Guardian story <http://tinyurl.com/6jkbba>
Times story <http://tinyurl.com/5m3lj7>
Local story (we're a working class town) <http://tinyurl.com/5j5hwv>
Independent story <http://tinyurl.com/5z7wwf>
Telegraph story <http://tinyurl.com/5grh39>
And the world
BBC story <http://tinyurl.com/5o6yav>
Educational botches
Guardian story about student
grants <http://tinyurl.com/5mz8xo>
BBC story <http://tinyurl.com/66sybp>
Compulsory sex education
introduced for all ages Times story <http://tinyurl.com/5lx5we>
Independent story <http://tinyurl.com/6q8fqs>
Scrapping traditional subjects in
favour of skills classes Telegraph story <http://tinyurl.com/5l9kmw>
Dumbing it down at the university
THE story <http://tinyurl.com/62786g>
Linking university cash to their
producing employable graduates THE story <http://tinyurl.com/6ocfmu>
Richard Dawkins takes on Harry
Potter
Telegraph story <http://tinyurl.com/5vrf2t>
Fuzzy figures and the speed
camera debate Register story <http://tinyurl.com/5sdtcm>
NHS patients will now be allowed
to pay for 'top up' care Telegraph story <http://tinyurl.com/6m2h9l>
--
Harry Erwin, PhD
"If you can't be a good example,
then you'll just have to be a horrible warning." (Catherine Aird)
===========
Muslim problem
Re Ian Campbell’s letter:
“Second path; we wake up while there is still time,
and do the things necessary; which include expelling and/or banning the
practice of Islam and all its adherents from any Western country,
particularly the USA...”<clip>
Is it necessary to go nuts? It’s a big problem that a
considerable fraction of Muslims support the militant overthrow of Western
civilization. But surely it is also relevant that every survey shows that an
even more considerable fraction doesn’t. Scholarly studies (by Robert
Spencer, for instance) that “prove” that Islam is irreconcilably militant
are missing the point IMHO. Loads of Muslims, even religious ones, are
finding ways to assimilate Western civilization without becoming
schizophrenic. This is especially true for Muslims from some non-Arab
countries, but it’s happening everywhere. It’s just not happening fast
enough, and we should be encouraging it. Plus, of course, weeding out the
evil ones wherever we can find them, certainly not allowing Political
Correctness to stop us.
And I continue to hold that keeping Muslim extremists
from getting control of a nuclear weapon is the only really critical foreign
policy issue today, far ahead of anything else. I hope Iraq works out, but
it will be a tragedy if our weariness from it causes us to lose sight of the
main issue of our times.
Glad to hear you’re getting back into form,
Michoel Reach
============
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