I am reading Three cures for three crises by J. Bradford DeLong, professor of economics at the University of California at Berkeley and assistant US Treasury secretary during the Clinton administration. Let’s consider the “cure” for crisis number 3:
A bursting bubble or bad news about future productivity or interest rates drives the fall in asset prices. But the fall is larger. Easing monetary policy won’t solve this kind of crisis, because even moderately lower interest rates cannot boost asset prices enough to restore the financial system to solvency.
When this happens, governments have two options. First, they can simply nationalize the broken financial system and have the Treasury sort things out — and reprivatize the functioning and solvent parts as rapidly as possible. Government is not the best form of organization of a financial system in the long term, and even in the short term it is not very good. It is merely the best organization available.
The second option is simply inflation. Yes, the financial system is insolvent, but it has nominal liabilities and either it or its borrowers have some real assets. Print enough money and boost the price level enough, and the insolvency problem goes away without the risks entailed by putting the government in the investment and commercial banking business.
The inflation may be severe, implying massive unjust redistributions and at least a temporary grave degradation in the price system’s capacity to guide resource allocation. But even this is almost surely better than a depression.
Let’s start off with the one thing I agree with “Government is not the best form of organization of a financial system in the long term, and even in the short term it is not very good.“
I wholeheartedly endorse that statement but consider the next sentence: “It [the government] is merely the best organization available.“
The source of every fiscal crisis in the world has been government meddling in the free market in conjunction with poor policies from central bankers, yet DeLong turns to the government as the solution.
The next paragraph is unbearable “Print enough money and boost the price level enough, and the insolvency problem goes away without the risks entailed by putting the government in the investment and commercial banking business.“
For starters, the Fed is a private business. The Fed is not going to give money away any more than Pizza Hut is going to give away free pizzas for a year to all takers.
Furthermore, the Fed can print but it cannot dictate where the money goes. In fact, the Fed can’t dictate that printed money goes anywhere at all. Printing money with a velocity of zero does not accomplish anything, so a mechanism is needed to both get money into the hands of consumers and to force new spending.
To get money into the hands of consumers, there needs to be a massive government jobs program. So let’s assume there is such a program. Who gets those jobs and what happens to those stuck at Wal-Mart that don’t get the jobs?
Already this simple idea of printing money is getting complicated. Not to mention the fact that government always acts late to every crisis and usually with the wrong force. The horror stories about FEMA in New Orleans, the failed policy decisions in Iraq, and proposals to shut the barn door on subprime lending after the market already shut it, are a few easy to understand examples.
But let’s assume a miracle that that some sort of jobs program is started right now. Even with those jobs, is there any guarantee real estate prices go back up? Of course not. Nonetheless the big concern at banks right now is residential housing debt, soon to be followed by commercial real estate debt and credit card debt.
What if the monetary printing manifests itself in $200 oil, $6 bread, and $2000 gold instead of reinflating real estate? Does that help anyone or does it bankrupt independent truck drivers, those on fixed incomes, and those who did not get the government jobs? Is the next step for the government to actually buy houses from banks that are stuck with them, to force real estate prices up? What does that do to those who cannot afford higher property taxes?
Consider commercial real estate. Building owners need higher rent prices but what happens to those who can barely afford their commercial real estate lease right now? Perhaps Keynesian economists wants the government to pay the leases of failed commercial real estate business. This is now getting extremely messy.
There is no polite way to say what’s on my mind so here is the unvarnished truth: These simplistic academic solutions are complete nonsense in the real world. If monetary printing accomplished anything useful, Zimbabwe would be the wealthiest nation in the world.
Can Deflation Happen With No Gold Standard?
“No. Just the opposite. As we have said ad nauseum since 2001: governments inflate their way out of debt deflation trouble.”
Those who state the problem this way show they do not understand what the problem is. The problem right now is not government debt but consumer debt. Consumer debt cannot be inflated away in a world of global wage arbitrage with unemployment set to rise.
My rebuttal was actually made in advance. It is called Things That “Can’t” Happen.
A Look At The New Deal
There was an excellent article on Minyanville by Scott Reeves about How Democrats Failed to Learn From FDR’s New Deal.
Franklin Delanor Roosevelt is popularly regarded as the man who saved democratic capitalism with vigorous governmental intervention. But the failure of government – not the free market – created the Great Depression.
FDR nearly tripled the tax burden between 1933 and 1940, boosting excise, income, inheritance, corporate, and dividend taxes and slapping a tax on “excess profits.” The highest individual tax rate soared to 79%. High taxes sucked money out of the private sector, smothered entrepreneurship and killed incentives to work and invest. By contrast, Treasury Secretary Andrew Mellon helped spark an economic boom in the 1920s by backing a plan to slash the top individual tax rate to 25% from 73%.
High Employment Costs
The New Deal raised the cost of employment, making it expensive to hire new workers and contributing to the nation’s high unemployment rate. The National Industrial Recovery Act and the Davis-Bacon Act mandated artificially high wages, further crimping private employment. The new minimum wage cut demand for unskilled workers. The new Social Security tax raised compensation costs. Compulsory union membership often fostered violent tactics – and the goal wasn’t increased efficiency or innovative products to grab market share. The WPA and other government agencies “created” jobs, but at great cost – private sector employment was lower in 1940 than it was in 1929.
FDR railed against “economic royalists” and “privileged princes” who sought to establish an “industrial dictatorship” and a “new despotism.” Roosevelt issued about 3,700 executive orders, many limiting business activity, and let lose a plague of anti-trust lawyers on American industry. New securities laws made it difficult to raise capital. FDR ordered the breakup of the nation’s strongest banks, including those with the lowest failure rates. This created an uncertain business climate that stifled investment and killed private sector job creation.
The National Industrial Recovery Act of 1933, struck down by the U.S. Supreme Court two years later, created “codes” – cartels – in about 500 industries and limited competition in an effort to maintain high prices and, it was thought, wages. Business owners who responded to the market by cutting prices received a stiff warning from the federal government followed by a fine. The Agricultural Adjustment Act of 1933 also sought to keep prices high by limiting production. “Excess” food was destroyed or sold below cost overseas as millions of Americans went hungry. In 1937, “marketing orders” limited production of milk and fruit. Roosevelt apparently thought it was government’s role to protect established high-cost producers from entrepreneurs who could beat them on price. Roosevelt’s policies stifled job creation and raised prices for families already struggling to make ends meet.
FDR used tax money to build the Tennessee Valley Authority, TVA, a power-generating monopoly. He then exempted the TVA from state and federal taxes and regulations. But the massive project failed to produce an economic boom. In a report for the Cato Institute, Jim Powell, author of FDR’s Folly: How Roosevelt and His New Deal Prolonged the Great Depression, says non-TVA southern states such as North Carolina and Georgia posted stronger growth than TVA states because there was a faster transition to higher-paying jobs in manufacturing and services from farming.
if the New Deal were a product in a competitive market, Roosevelt would have been bankrupt. But politicians have different goals, different means of achieving them and a different scale for measuring success that have little to do with a market economy. Most of FDR’s “make work” government jobs created little of value and therefore didn’t give the economy a long-term boost. No matter. Harry Hopkins, one of FDR’s closest advisors, summed up the political philosophy of the New Deal: “We shall tax and tax, spend and spend, elect and elect.”
Voters might want to keep this in mind the next time a presidential candidate yaps about “giving” you some nifty benefit (i.e. buying your vote with your money) or “investing” in a spiffy new program which, wouldn’t you know it, just happens to gobble more of your taxes.
Historian David M. Kennedy won the 1999 Pulitzer Prize for his book Freedom from Fear, a review of the economic consequences of the New Deal. “Whatever it was,” he wrote, FDR’s New Deal “was not a recovery program.”
Here’s part of Louis Armstrong’s l940 song about the Works Progress Administration, the granddaddy of the nation’s workfare programs:
Sleep while you work,
Rest while you play,
Lean on your shovel
To pass the time away…
Strike the word Democrat from Scott Reeves’ article and instead substitute “Democrats, Republicans, and Keynesian Academia” and you have the sad but true nature of the problems facing America.
Help me Obe Won Kenobi (Ron Paul). You’re our only hope.
Mike “Mish” Shedlock
Click Here To Scroll Thru My Recent Post List