My letter to the Mercatus Center:
Sunday, May 20, 2018
Wednesday, March 21, 2018
From today's Open Europe news summary:
Removing tariffs post-Brexit could see prices fall up to 1.2%, suggests new study
Thursday, March 15, 2018
Saturday, January 20, 2018
According to Frank Decker, Honorary Associate at the University of Sydney Law School, it certainly can. Not only that, but eschewing savings in favor of "monetisation of assets" will yield better results! I refer to his article in Economic Affairs--Volume 37, Number 3, October 2017--, a publication of the Institute of Economic Affairs, London.
Mr. Decker purports to answer the question "Central Bank or Monetary Authority? Three Views on Money and Monetary Reform." The three views examined are commodity money, state money, and money as a derivative of property. All three views are explained very well, and a beginner to the study of the role of money will learn a lot in a short period of time.
Commodity money is the name Decker aptly gives to money backed by gold or some other widely accepted medium of indirect exchange. Commodity money's proponents see two major advantages--that it ends inflation and the business cycle. He quotes Mises and Rothbard to good effect.
State money, or money as a state liability, is fiat money that all the world knows today. Its two most famous proponents are Keynes and Friedman. State money's main advantages, as seen by Decker, are that the state can engage in countercyclical spending and the state can fund itself by printing all the money that it needs for current expenditures.
Decker's third type of money--money as a derivative of property--sounds no different than fractional reserve banking, except that the fraction of reserves required to be held by the lending banks is so low that it is not a factor of lending restraint. Decker gives the example of a business that uses its assets as loan collateral. According to Decker, the money that the bank creates is NOT created out of thin air, because it is backed by private property; i.e., the loan collateral. According to this theory, money can be created ad infinitum, because each round of loans creates new property with which to engage in another round of property-backed money creation. If this isn't money "out of thin air", I don't know what is!
Decker desires to find the best monetary regime to promote economic development. Of the three money systems, he settles upon a property based system with a central bank as benign overseer. His choice of this system, such as it is, shows his lack of knowledge of economic theory. In fact, he is a thorough empiricist, with all the limitations that are emblematic of trying to gather billions of facts with which to determine cause and effect. Austrian economists know that economics is a deductive science in which reliable conclusions can be drawn by using proper logic based upon irrefutable maxims.
Decker's two reasons for passing over commodity money are rather astounding. He believes that commodity money would "impose limitations on civil liberties and property rights", because "Countless episodes of monetary history show that economic actors will always find ways to monetise their assets.". He is certain that banks will continue to engage in creating money substitutes out of thin air--i.e., paper money and/or book deposits--even though it is against normal commercial law or, under a free banking system, that money creation would be limited by normal banking presentment practices. But most damaging, according to Decker, is that commodity money would restrict a nation's development. Astonishingly he states that "Commodity money would also retard economic development, as the monetisation of assets allows investment without the prior accumulation of savings,..."! In other words, why save when capital can be created ex nihilo at the stroke of a computer key? Counterfeiters must be wondering why they are persecuted when their actions are actually beneficial!
Decker equates capital with book entry capital accounts. It is as if an Iowa farmer believed that he could acquire seed corn by making an entry on his books. He would not have to save some corn from last year's crop; he could consume it all and perhaps plant pieces of paper. Of course, this capital that Decker believes appears magically actually comes from real people giving up real assets. Frederic Bastiat's That Which Is Seen, and That Which Is Not Seen and Richard Cantillon's insight that money enters the economy at specific places, unduly rewarding specific individuals (the Cantillon Effect), could not be more appropriate.
In order for Decker to be correct he must see new factories, houses, etc. arising and believe that nothing was sacrificed to build them. But clearly that is not how the world works. The sacrifice is there, even if NOT seen. Inflating the money supply robs current holders of assets, those who sacrificed and saved, for the benefit of the earlier receivers of the new money. It is a transfer of wealth, not an increase in wealth.
Decker sounds like a gambling addict who counts only his winnings and not his losses. The winners are the earliest receivers of the new money, who can buy at existing prices. Later receivers see increasingly higher prices and/or lower returns on investment.
Today's interest rate suppressions that favor borrowers come at the considerable expense of savers, many of whom are retired. Their standard of living deteriorates, but, since Decker cannot find statistics to record this fact, he believes that it is not happening. He fails to go that next and necessary step to consider that which is both seen and unseen, per Bastiat's timeless insight.
No individual or group of supposedly wise men should ever be given the power to create money out of thin air or to manipulate the interest rate. Only commodity money, which is controlled by no one, can protect private property and perform the market's time coordination function, AKA the interest rate. Spending requires prior savings, and savings cannot be spent twice.
The old saving that "there is no such thing as a free lunch" needs an addendum--Somebody always pays.
Monday, January 8, 2018
A few days ago my wife and I watched a fascinating program on PBS. The long running Nova series featured the history and accomplishments of the Hubble Space Telescope. The program was titled Invisible Universe Revealed. This episode was composed of three parts.
The first third of the program explained how the astronomers secured funding for the space telescope and successfully built and launched it. Senator William Proxmire, Democrat from Wisconsin, had the space telescope in his sights. From 1975 to 1988 the senator awarded his monthly Golden Fleece Award for egregiously wasteful spending. According to Nova, funding for Hubble was secured when Nancy Roman, Chief Astronomer-to-be, pointed out, apparently to the satisfaction of Congress, that for the cost of a night at the movies, every American would enjoy fifteen years of astronomical revelations. Hubble was launched by the Space Shuttle on April 24, 1990 and deployed a day later. That's when the real problems began.
The second part of the program was devoted to the thrilling repair conducted by astronauts on the orbiting telescope. Construction faults in the giant reflecting mirror made the telescope unusable. Incredibly these faults were not discovered until the telescope was in earth orbit. Nevertheless, the telescope was fixed, and this is the best part of the program. From diagnosing the problem, agreeing upon a feasible fix, to astronauts practicing the repair in a giant water tank (20 months of training!), and finally conducting the repair in space, the viewer is astonished at the knowledge, dedication, and skill of everyone associated with this NASA program.
The third part of the program attempts to sell the results of the Hubble program to the viewers. In my opinion, this is the weakest part of the program. The astronomers do their best to get the viewer excited about the things that they themselves feel are important, explaining difficult concepts in lay terms and showing beautiful pictures taken by Hubble. But for this viewer, it just didn't work. And here is where my economist side started thinking about Frederic Bastiat's timeless essay That Which Is Seen and That Which is Not Seen.
The astronomers seem truly excited that now they can answer two questions that (they claim) have perplexed mankind from time immemorial; i.e., how old is the universe and how many stars are there.
The answer is 13.7 billion years. The number of stars is a so large that it's beyond human comprehension: 2 with twenty zeroes behind it, which is called 200 quintillion! There are 200 billion galaxies in the universe and each galaxy has 100 billion stars. (I must confess that these questions have not caused me to lose even one minute of sleep...ever.) Furthermore, the telescope has revealed many facets of the universe that are of great interest to astronomers. Did you know that the universe is expanding at an ever increasing rate; that there are black holes at the center of all galaxies, and that there is a previously unknown force, called black energy, which makes up seventy percent of all the "stuff" in the universe? Me neither, but I must confess that, even after learning of my ignorance of these matters, I'm still not clear how my life has been made better. And this is where Bastiat comes in.
Even though the program honestly gives some air time to the skepticism the astronomers faced in order to secure funding, it makes no attempt to show that all that money and all that new knowledge has translated into even a smidgen of the improvement of mankind and how the project meets even the most expansive description of the proper role of government. Bastiat would point out that all that funding came at a cost, even if a relatively small per citizen cost, of real improvement in mankind's satisfaction. Each citizen did NOT have some higher satisfaction met, otherwise government funding would not have been necessary. Furthermore, the small-per-citizen cost argument used by Nancy Roman to justify the spending really doesn't stand up to serious analysis. If every American gave me just one cent each year, I could live very well and no one would be able to say honestly that his satisfaction was impaired even in the smallest way much less foregoing a night at the movies. You can see that almost any specious program can be justified by this type argument.
I dare say that a survey of most Americans would find that few know anything about the Hubble Space Telescope and its accomplishments to improve mankind's knowledge of the universe. In fact I question that the Hubble Space Telescope has done one positive thing for the improvement of mankind beyond the satisfaction felt by the very few in the astronomy field. Pure knowledge may be important in some way to those who seek it, but why force others to forego even the smallest satisfaction in order to provide it to an elite few?
So, should and would the Hubble have been built? This question cannot be answered unless individuals are allowed to fund it voluntarily and not have government coercively extract the funds from them through taxes. Perhaps some very wealthy individuals could have been convinced to fund the project. Maybe some sharp Madison Avenue marketers would have developed a program to raise the funds from a vast, interested citizenry. Furthermore, there is such a thing as pursuing an end before its time has come. Perhaps a Hubble-type telescope could have been placed in orbit a few years later at a greatly reduced cost, a cost that could have been borne by private donors. Who knows. But we do know that the Hubble Space Telescope has reduced the quality of our lives in a small way that can never be recovered. Personally, as much as I was impressed by the Hubble's accomplishments, I would have preferred a night at the movies.
Sunday, December 31, 2017
Fractional reserve banking (FRB) is fraudulent. It should be prosecuted as a crime rather than accepted as normal practice under current banking laws. Any society that respects property rights and the rule of law would not allow it. For those unfamiliar with the term fractional reserve banking or not quite confident of its complete meaning, let’s cover some basics.
What Is Fractional Reserve Banking?
All financial transactions must be settled ultimately by an exchange of standard money, otherwise known as "reserves". Reserves in the US are composed of federal reserve notes (good old paper money in your wallet, piggy bank, retailers' cash register tills, or bank vaults) plus reserve account balances held by banks at their local Federal Reserve Bank that may be exchanged for federal reserve notes on demand. The important point is that reserves are not the same thing as the money supply. The money supply is composed of cash outside bank vaults plus demand (checking) accounts at banks. A financial transaction is not complete until reserves are exchanged. For example, accepting a check from your neighbor for selling him your used car is not final settlement, because reserves have not yet been exchanged. The check might bounce. Or the bank upon which the check is drawn might become insolvent ; i.e., it does not have and cannot raise the reserves with which to pay you, the check's payee, even though the bank balance of the payor, your neighbor, was at least as large as the check.
Most people assume that their money held at banks can always be exchanged for reserves, but such is not the case. Under a fractional reserve banking system banks are not required to keep one hundred percent reserves. Rather, they keep a fraction of their obligation to you in reserve (thus, the name "fractional reserve banking" system), under the assumption that not all depositors will want their money back at the same time.
How can this be? If you deposit a dollar into your account at the bank, isn't the bank required to keep that dollar in its vault or at its own reserve account at its local Federal Reserve Bank? The short answer is NO! The bank is allowed to lend most of that money to someone else and keep only a fraction in reserve in order to satisfy your withdrawal request! This is fraud. Through the lending process the bank has created money out of thin air. It is not backed by one hundred percent by reserves. If too many depositors demand their money at the same time, the bank would not be able to satisfy all withdrawal requests. It would not have sufficient reserves to do so. It's as simple as that. Any other commercial business that accepted your property with the promise to return it to you and then lent that property to someone else would be guilty of fraud. But banks are allowed to do just this! Hard to believe, isn't it!
Some present the argument that FRB should continue, because the depositor should have the freedom to take the risk that, if the bank should fail, his money might not be returned to him upon demand or perhaps not at all. But the ethical issue is not about the depositor's choice but the payee's risk in accepting a check drawn on an FRB bank. The depositor may have sufficient funds in his bank account, but the bank itself might not have sufficient reserves to honor the check. How is the payee to know? It is against the law in most states for a payor to knowingly pass a check that exceeds the funds in his bank account. Why then do we accept as part and parcel of the fractional reserve banking system that the bank itself is not required to hold sufficient reserves to honor all its obligations?
FRB Gives Rise to Regulation and Government Money Printing
Volumes of bank regulation, armies of bank regulators, and government money printing have arisen because banks are allowed the privilege of fractional reserve banking. Bank runs were common occurrences before the federal government forced all banks into its deposit guarantee program (the FDIC), itself a fractional reserve institution in that it has a mere fraction of the reserves to honor the vast deposit balances of American banks. During the so-called subprime lending crisis of 2008, so many banks failed that the FDIC itself ran out of reserves (which it had obtained via mandatory premiums from the banks) and had to be bailed out by the Federal Reserve Bank itself, which resorted to the time honored practiced of all counterfeiters by creating reserves out of thin air.
Bank regulation, enforced by the above mentioned armies of regulators (surely you did not think the government would have just ONE regulatory agency for banks!), attempts to do the impossible, to wit, prevent bank loan losses. FRB expands the money supply, which itself causes disruption to the structure of production, an unsustainable boom, and the inevitable crash. This so-called business cycle is not some sort of inevitable consequence of normal business exuberance or lack thereof, but is caused by FRB credit expansion by banks, a phenomenon well explained by Austrian school economists and labeled by them as the Austrian Business Cycle Theory (ABCT).
In the absence of fractional reserve banking, the banks would not be able to expand credit beyond the funds actually saved by its depositors. (Wouldn't that be something!) There could be no disruption to the structure of production; thus, there would be no need for bank regulations or regulators. All funds placed in demand accounts would be secured one hundred percent by reserves. Depositors who wished to earn interest on excess saved funds would open savings/investment accounts with the banks or some other institution specially formed for profitable investment of the public's savings. These investment accounts would not be insured by anything other than the banker's capital account and his reputation for sound lending. Loan losses would be borne by the banker to the extent of his capital account and then the savings fund itself. Naturally, the depositor's demand funds would be completely secured by the bank's reserves. Only the funds placed in the bank's savings/investment accounts would be at risk. Bankers with poor lending acumen would find themselves quickly out of business rather than receiving bailout money from the government. Such bailout money itself comes from Federal Reserve money printing, which itself exacerbates the boom/bust business cycle!
Ending fractional reserve banking would restore the rule of law to the banking system, end the need for expensive and harmful bank regulation, and eliminate the boom/bust business cycle. Bank demand deposits would be backed one hundred percent by reserves, which any competent local auditor could verify at little expense. Banks found in violation of this law would be seized by state authorities and the officers charged with a crime – the crime of counterfeiting. Unnecessary bank regulatory agencies would be shut down, because they would have nothing to do.
This reform to the banking system is so simple that it will be opposed by all the parasitic government agencies now promising to prevent something that they themselves cause; i.e., the boom/ bust business cycle and bank losses that harm depositors and cripple the economy. Nevertheless, let us pursue this reform with all the confidence and courage of Ludwig von Mises that we are doing the right thing and will not be deterred.
The Mystery of Banking, by Murray N. Rothbard
The Austrian Theory of the Trade Cycle and Other Essays, by Richard M. Ebeling
The Essential von Mises, by Murray N. Rothbard
Monday, November 13, 2017
Recently my wife and I spent a morning at the Lyndon Baines Johnson Presidential Library in Austin, Texas. The damage done by this big bully is incalculable. His library reminds us of the start of the blizzard of government expansion during Johnson's presidential term, which lasted from the Kennedy assassination in November 1963 to his decision not to run for a full second term in 1968, which usually is attributed to his failure to end the war in Vietnam.
Johnson was an admirer of FDR and was determined to revive and complete what he believed should have been integral parts to FDR's New Deal. Johnson called his program The Great Society. As if ignorance of the consequences of this socialist expansion of domestic control by government was not enough, LBJ expanded the war in Vietnam, promising America both Guns and Butter. Even today we live with this expansion of government domestic programs and seemingly never-ending wars as the modern Welfare/Warfare state.
The Johnson Treatment
I called Johnson a big bully in the paragraph above. I believe my assessment is justified by what actually is celebrated at his presidential library. The displays proudly explain and document "the Johnson touch" in print, photograph, and actual recorded telephone interviews. Johnson was a big man who towered over most people. He had a habit of getting very close to someone, leaning over at the waist, and forcing his partner in conversation to bend over backwards to avoid an uncomfortable encounter with LBJ's face. There is a large picture of Johnson giving Supreme Court Associate Justice Abe Fortas this "Johnson Treatment", literally face-to-face. Fortas, who was a long time LBJ supporter, appears to be taking the "Treatment" in good humor, but it is easy to see how it would be almost impossible to keep one's dignity with the president of the United States performing this obviously uncomfortable act.
Surprisingly the JBJ Library celebrates the Johnson Treatment with recorded phone conversations. One conversation was with powerful US Senator Richard Russell, a long time LBJ colleague. Johnson wanted Russell as his personal eyes and ears on the Warren Commission, tasked with investigating the Kennedy assassination. In the recorded phone conversation we hear Russell politely tell LBJ that he is honored but that he has no respect for Supreme Court Justice Earl Warren and must decline the offer. LBJ then badgers and bullies Russell into accepting the position. He says that he wants Russell to ensure that the commission does not investigate whether the Russians or Cubans had any role in the assassination. Russell's vociferous objection in writing to the Warren Commission's "single bullet" theory seemed to justify his opinion of Warren and the commission. The commission's staffers jumped through rhetorical hoops to claim that the report had the unanimous approval of all members.
That Which Is Seen and That Which Is Unseen
The library is full of typical memorabilia. The entrance has a huge display of pens with which Johnson signed hundreds of pieces of mostly domestic legislation. For example, Johnson authored and signed sixty pieces of legislation that effectively federalized education. Of course, the library is full of specious statistics that attempt to "prove" that all this legislation was effective, citing, for example, that the poverty rate decreased and that the percentage of Americans with college degrees increased. Even if one accepts such "facts" at face value, an Austrian economist would point out that all such so-called advances came at the cost of diverting resources from other, more highly sought preferences. Education is an economic good, as is healthcare, retirement savings, food, etc. If Americans valued higher education so much, they would have applied more of their limited resources to this end. The LBJ library ignores the cost, including the social cost, of all these programs and gives the impression that government supplied goods and services could be provided without any change in the nation's production of other goods and services. Thus, the famous "Guns and Butter" claim that we can have it all...a claim that survives to this day.
Perhaps the most enduring legacy of the LBJ years is that his Guns and Butter policies put the US on a path that ended the gold exchange standard, agreed upon at Bretton Woods in 1944, by which the US pledged to honor central bank dollar convertibility to gold at thirty-five dollars per ounce. In the 1950's Eisenhower's budget deficits were very modest and he actually balanced the budget for a short time. But Johnson's Guns and Butter policy caused huge deficits and prompted unprecedented money printing by the Fed. The Austrian economists in Charles de Gaulle's France understood the consequences--that the US did not actually have enough gold to honor central bank redemptions at thirty-five dollars per ounce--and began a run on the US gold supply that eventually drove the US off the gold standard in 1971. (Let me make it clear...the French did NOT cause the run on the US gold supply. The Fed caused the run by printing dollars to pay for LBJ's Guns and Butter policy.)
Vietnam Exposed the Limits of the Johnson Touch
The LBJ library openly shows us that Johnson never had a method for winning the war in Vietnam or extricating the US from what became known as a quagmire. In another telephone recording from early in his administration library visitors hear LBJ tell a partisan that he doesn't know how to win or how to bring the troops home honorably. That is a very bitter revelation to someone who had comrades in arms who died in Vietnam and others who endured captivity in the infamous "Hanoi Hilton". Repeatedly Johnson tried to get the North Vietnamese to a peace conference. This is pure LBJ hubris, convinced that everything is negotiable and that he can use the famous Johnson Touch on Ho Chi Minh. His pathetic bombing pauses to signal our desire to negotiate merely convinced the North Vietnamese that American involvement eventually would end.
What Have We Learned?
Apparently, not much. Today Johnson's Guns and Butter policy is alive and well. Few, if any, Great Society programs have been repealed. The federal government continues to wage war in faraway places and promises ever more goods and services, funded by fiat money set free from any semblance of a gold standard. There is no talk of eliminating any domestic programs or ending any of our wars. On the contrary our government seems determined to provoke new wars in Korea and possibly with Iran and even Russia. The legacy debt for all the federal government's programs--i.e., the unfunded obligations emanating from the government's entitlement programs--has been calculated to be well over a hundred trillion dollars. It is clear that it can be paid only nominally and not with money of even today's reduced purchasing power. So, was LBJ's presidency a success? Unfortunately for America, LBJ would say yes!