My Cousin the Keynesian

I have this cousin, let’s call him Giovanni.  He is a great guy – industrious, hospitable, great family man.  He is my go to source when it comes to information and analysis about sports in general and baseball in particular.

It is an entirely different story when it comes to economics.  Oh, he is financially successful, but like most Americans he doesn’t understand how the market works.

Now, I am not talking about the “free” market, just the market, which exists everywhere and in every place.  The market is the arena of commerce and whether it is free or not depends on government allowances in the various geographic areas of the world.

So, technology has made it possible for Giovanni and me to rekindle our familial relationship that was forged many years ago through the trading of Matchbox cars.  Well, actually, he is so much older than I am that he made and brought them to me when his family visited ours.  I told you he was a great guy.

He is also good at chasing me through cyberspace by email, facebook, and on open threads of sites where I post my blog to argue economics with me.

Last Friday, he emailed me an article titled “A Breakthrough Speech on Monetary Policy”.  The author, Anatole Kaletsky, is an award-winning journalist.  The “Breakthrough Speech” in question was delivered by Adair Turner, Chairman of Britain’s Financial Services Authority and one of the most influential financial policymakers on the planet.

Clearly both men are dyed-in-the-wool Keynesians because Turner’s speech and Kaletsky’s article both recommended that politicians and central bankers print up lots of money and dole it out to consumers in order to stimulate the economy to end the economic stagnation that the West currently finds itself in.  Specifically, Kaletsky believes the Fed should take the $85 billion it is currently spending to buy government bonds from banks and instead distribute it to every man, woman, and child in America.  He believes, “There can be little doubt that this deluge of free money would stimulate consumer spending and revive employment,” thus ending the West’s economic doldrums.  Further, Kaletsky believes this proposal would not cause price inflation because, “links between monetary financing and hyperinflation are theoretically dubious and historically unjustified”.

So, after digesting this economically nonsensical article, I owed Giovanni a response.

Firstly, I indicated to him that monetary inflation does lead to price inflation unless perhaps productivity keeps up with increased money supply.  Just in the 20^th Century, one could look to the Weimar Republic and many Latin American countries from time to time.   Zimbabwe is the most recent example.  In fact, all of history is littered with societies that attempted to inflate their way out of depression and instead brought about hyperinflation.

Secondly, I told him that personally I would gain greatly from Kaletsky’s proposal, but that it would harm the economy in the long-run and further destroy an already disappearing middle class.  Given many Americans spendthrift mentality, could you imagine what would happen if they received “free” money each month from the government?  First off, Uncle Sam would never be able to rescind the policy.  It would be like trying to cut Social Security benefits.

Beyond that, there is no doubt, that unlike the banks, leveraged to the hilt American consumers would spend all of their new found riches on a plethora of consumer goods.  The economy would experience another phony boom based on monetary inflation.  Employment would improve for a while.  The new money would bid up the price of goods and services thereby causing domestic price inflation.

Personally, my real estate investments would increase in value allowing me to sell them to some economically naïve person with free government money in his pockets.  The value of my gold holdings would increase exponentially.  I would be sitting pretty, protected from the impending economic bust that was made inevitable by the phony inflationary boom.

As prices rise, so would interest rates.  All the investments begun at lower interest rates would become more expensive.  Many would not be sustainable at the higher cost of money.  Sound familiar?  It should because this is what happen in the 1990s with the dot.com bubble and what also happened in the 2000s with the housing bubble.

As defaults on loans increase, unemployment picks up and the market is thrust into another downturn.   I am sure at that point Giovanni and other Keynesians will blame the free market.  But, of course, the only thing that was free in all this was the money the Fed gave to consumers.

Predictably, his response to my response was that I am living in a fantasy world.  Unfortunately, he is wrong.  The devastation that millions of hard-working Americans would experience if the above plan is enacted wouldn’t be a fantasy. It would be a tragedy.

Kenn Jacobine teaches internationally and maintains a summer residence in North Carolina

Bernanke is Killing the Working Class

It is really quite amazing that anybody would believe anything that emanates from the mouth of Federal Reserve Chairman Ben Bernanke.  Quite frankly, the fact that Barack Obama nominated him for a second term as Fed chairman and the Senate confirmed him is proof that our leaders are either as incompetent as all get out or proof for at least one conspiracy theory – namely that the Anglo-American power elite really does run the world and wanted him to continue being their front man.

Let’s be honest.  Bernanke’s statements and predictions since assuming the helm at the Fed in 2006 have been, to be harsh, full of mistruths, to be polite less than stellar.  His absurd statements range from “At this juncture, however, the impact on the broader economy and financial markets of the problems in the subprime market seems likely to be contained”, on March 28, 2007 to “The Federal Reserve will not monetize the debt”, on June 3, 2009.  His predictions have been even more remarkable.  Just two months before their collapse he predicted that Fannie Mae and Freddie Mac, “…will make it through the storm.”  And as the economy was spiraling into recession on January 10, 2008 he indicated incredibly that, “The Federal Reserve is not currently forecasting a recession.”

Well, old habits do die hard.  Last week Bernanke gave a press conference to answer questions about the Federal Open Market Committee decision to purchase $40 billion of mortgage backed securities per month into the indefinite future.  What was astonishing was not his defense of the purchases, but his addressing of three concerns that have been expressed about Fed policy since the Great Recession started in 2008.

The first concern he sought to ease was that Fed purchases of long-term securities are comparable to government spending.  He claims they are not because the Fed is buying financial assets, not goods and services and ultimately the Fed will sell them off when unemployment eases.  He may be technically correct, but does it matter?  The buying and selling of assets is one means the Fed uses to manipulate the money supply.  When it wants to inflate the supply of money it exchanges new money for assets and when it seeks to slow the growth of money it sells assets to mop up excess reserves in the economy.  In the end, Fed asset purchases are comparable to the Fed monetizing the debts of the federal government which of course are required because of deficit government spending and both will ultimately cause higher prices generally.

Next, Bernanke addressed the concern of those receiving very low returns on interest bearing accounts.  While he acknowledged that the Fed’s “accommodative” monetary policies were responsible, he stated that, “Americans will ultimately benefit most from the healthy and growing economy that low interest rates help promote.”

Two points need to be made about Bernanke’s comment.  First off, when are those low interest rates going to produce a healthy and growing economy?  The Fed Funds Rate has been at 0-.25 percent since December 2008 and unemployment is higher now than it was then.  Secondly, is Bernanke suggesting that older Americans on fixed budgets who are getting extremely low returns on their savings just need to be patient until the values of their homes come back so they can sell them to eat? Or is it that he thinks borrowing against equity on one’s house is a sign of prosperity?  The fact is Bernanke’s policies discourage savings and those that have saved are seeing their wealth eroded and their standard of living diminished.

Which brings us to the last concern addressed by Chairman Bernanke, namely that the Fed’s “accommodative policies” will produce higher price inflation down the road.  To quell fears of price inflation he indicated that overall price inflation has been about “2 percent per year for quite a few years now, and a variety of measures show that longer-term inflation expectations are quite stable.”

All one has to do is venture to the supermarket or fill their tank with gas to know that the chairman’s claim about price inflation is hogwash.  Gas prices alone are up 7 percent year over year.  Higher energy prices mean the cost of other goods has increased as well.  Bernanke’s inflation number is absurd.  John Williams at Shadow Government Statistics produces inflation numbers based on the way they use to be calculated.  According to his calculations, if the Bureau of Labor Statistics (BLS) were figuring inflation like it did in 1980 the rate would be 9 percent.  If the BLS were using the 1990 method the rate would be 5 percent.  The point is that both calculations are much higher than Bernanke’s figure and with the Fed about to embark on infusing $40 billion per month more into the economy for an indefinite period of time, price inflation will go even higher.

Federal Reserve Chairman Ben Bernanke has a long history of making absurd predictions and statements.  His attempt to ease concerns about Fed policies at last week’s news conference was no exception.  Perhaps he is out of touch with reality or maybe there is something else at play.  At the end of the day, his policies have hurt and will continue to hurt the middle and lower classes in America.  What’s startling is that these groups are the very constituencies that President Obama and members of the Senate claim to care about, yet both gave Bernanke a second term as Fed chairman.  Perhaps the president and those 70 senators that gave Bernanke a second term are incompetent or perhaps the Anglo-American power elite wanted him to continue as their front man?

Kenn Jacobine teaches internationally and maintains a summer residence in North Carolina

America’s Lost Decades

Not too long ago an industrial giant experienced one of the greatest economic booms in its history.  Thanks to easy credit and low interest rates investors in that country ran up astronomical debts and used those proceeds to bid up the price of real property and the stock market.  With home values and pensions way up in value, folks were feeling very secure about their economic futures. For the average investor in that country it seemed like the good times would never end.

Then the bottom fell out.  Realizing the boom was becoming unsustainable, the country’s central bank raised interest rates.  Suddenly, the enormous debt built up during the boom years went bad.  Banks began to fail and the government responded by bailing out the “too big to fail” financial institutions in order to avert a total collapse of the economy.

Anyone who remembers the 1980s and early 1990s knows the country in question is Japan.  Beyond bailing out the “too big to fail” banks, the Japanese government also attempted to use fiscal stimulus and the Japanese central bank attempted to use low interest rates to produce an economic recovery.  The result has been two decades of little or no economic growth and an unemployment rate that has hovered around two times what it was in the 1980s.  This period in Japanese history has come to be known as Japan’s Lost Decades

Now, you may have guessed that the country being described in the first two paragraphs above was the United States.  Obviously, you would have also been correct.  During the 2000s, we experienced our own phony, central bank induced economic boom.  Easy credit and low interest rates were used by many Americans to amass huge debt while bidding up the price of housing and the stock market.  New found wealth through asset appreciation gave many a false impression that they were set for life and the good times would never end.

Like Japan, the bubble burst when interest rates rose and a heck of a lot of homeowners were holding mortgages that they could no longer afford.  Banks failed and were bailed out by the federal government.  Stimulus packages were passed and interest rates lowered to produce economic recovery.

If emulating Japan is not bad enough, the really scary thing is the Federal Reserve’s Survey of Consumer Finances report that was released earlier this month.  According to the report, the median net worth of American families dropped by 39 percent between 2007 and 2010.  That means the typical American family is roughly worth what it was worth in 1992 – 18 years without any economic advancement!

And it gets worse.  The report indicated that the median net worth of the middle class had the biggest drop – owing mostly to declining property values.  At the same time, the median net worth of America’s wealthiest families rose slightly.

So what does all this tell us?  For one thing, we are in for a long period of sluggish economic performance and above average unemployment because the powers that be in America responded to the bust of 2008 in the same fashion the leaders of Japan handled their downturn in the early 1990s.  Propping up failed financial institutions, stimulus spending, and below market interest rates did not produce recovery in Japan.  In fact, 20 years later, the Japanese economy still has not recovered.  Likewise, the same policy initiatives have not produced recovery in America some four years out from the crisis and if economic policy in the U.S. doesn’t change soon, economic historians may be calling the next twenty years America’s Lost Decades.

Secondly, the wealth that was produced in the last 20 years was phony.  It was built on artificially cheap and widely available credit. This in turn produced false property values and huge consumer debt.  When the crisis hit it the floor under the economy was apparently a long way down – at least 18 years down according to the Fed’s report.

Lastly, what can be learned from our most recent economic experience is that Washington and Wall Street have hoodwinked the country into believing prosperity is a result of everyone spending beyond their means.  In reality, true prosperity comes from hard work, thrift, and saving.  It comes from the formation of pools of capital made available to business to borrow in order to open or expand operations.  Simply having the central bank print more money does not produce wealth.  In fact, the Fed’s monetization of the government’s debt has done more to destroy the American middle class than any other factor.  Devaluing the dollar diminishes disposable income and erodes savings.  Conversely, the price inflation produced by the Fed enhances the assets and investments of the wealthy.

At the end of the day, there are significant similarities between Japan’s financial crisis in the early 1990s and America’s in 2008.  Due to its government’s policies after the crisis, Japan has lost two decades of economic growth.  According to the Fed’s Survey of Consumer Finances report, Americans have already lost two decades of economic gain.  Given that Uncle Sam’s response to the financial crisis of 2008 mirrored Japan’s in the 1990s, two more are potentially on the horizon.  At that point, it would almost be a lost half century.

Article first published as America’s Lost Decades on Blogcritics.

Kenn Jacobine teaches internationally and maintains a summer residence in North Carolina.