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According to many economic experts and commentators, an effective way to generate economic growth is through the lowering of taxes. The lowering of taxes, it is held, is going to place more money in consumer’s pockets thereby setting in motion an economic growth. This way of thinking is based on the popular view that a given dollar increase in consumer spending will lift the economy’s gross domestic product (GDP) by a multiple of the increase in consumer expenditure. An example will illustrate the magic of this multiplier.

Let us assume that on average individuals spend 90 cents and save 10 cents of each additional dollar they receive. If consumers raise their spending by $100 million this will boost retailers’ revenues by this amount. Retailers in turn will spend 90% of their new income, i.e. $90 million on various goods and services. The recipients of the $90 million will in turn spend 90% of $90 million i.e. $81 million and so on. At each stage in the spending chain, people spend 90% of the additional income they receive. This process eventually ends with the GDP rising by $1 billion i.e. (10*100million).

In short, all that is required is to give every individual more money to spend, and this in turn should set in motion increases in consumer expenditure, which in turn will trigger increases in the production of goods and services. Observe that within the framework of ‘the multiplier’ savings are actually bad news – since the more people save the smaller is the multiplier.

The magic of ‘the multiplier’ however, is just wishful thinking – a myth. Every activity in an economy has to be funded and therefore it is always in competition with other activities for scarce real savings. Hence, within all other things being equal if more is spent on consumption goods, then less is left for capital goods. An increase in retailers activity will be offset by the decline in the activity of capital goods producers.

…click on the above link to read the rest of the article…

Chapter 5: Bubbles and Adam Smith

March 5, 2019

CHAPTER 5: BUBBLES AND ADAM SMITH.

This chapter explores how laws enabling debt to be bought and sold transformed Britain. Suddenly, vast quantities of money and value were being created out of nothing. The effect was dramatic and widely commented on. Some people thoroughly approved, while others saw a new kind of tyranny taking over – a tyranny of fictitious wealth.

Speculators and ‘projectors’[1] soon realized that when money and other types of value can be created out of nothing, different types of debt can be created and used to raise prices, and therefore value. Assets can be bought with money made from nothing, prices can be talked up, more money can be created to fuel and satisfy demand, and – hey presto! – when the assets are re sold, sky-high profits are made. The table was laid for an orgy of speculative greed – and the orgy began almost immediately.

‘It was as if all the lunatics had escaped from the madhouse at once’ commented a Dutch observer.^[2]Hysteria for speculation took hold of public life. English poets, novelists, and playwrights wrote and argued about the virtues and vices of ‘Lady Credit’ – and joined in the orgy themselves. A whole century of literature – Daniel Defoe, Jonathan Swift, Alexander Pope, along with many less famous writers – was given over to satirising the new society of speculators and credit-worshippers.^[3]Hogarth did the same in art.

The profits of speculation left ‘honesty with no defence against superior cunning’ wrote Jonathan Swift in Gulliver’s Travels.^[4] Speculations in credit ‘ruin silently… like poison that works at a distance… by the strange and unheard-of engines of interest, discounts, tallies, transfers, debentures, shares, projects, and the devil-and-all of figures and hard names,’ wrote Daniel Defoe, author of Robinson Crusoe.^[5]

…click on the above link to read the rest of the article…

Central Bank Balance Sheet Reductions–Will Anyone Follow the Fed?

February 24, 2019

CENTRAL BANK BALANCE SHEET REDUCTIONS – WILL ANYONE FOLLOW THE FED?

The next wave of QE will be different, credit spreads will be controlled
The Federal Reserve may continue to tighten but few other CB’s can follow
ECB balance sheet reduction might occur if a crisis does not arrive first
Interest rates are likely to remain structurally lower than before 2008

The Federal Reserve’s response to the great financial recession of 2008/2009 was swift by comparison with that of the ECB; the BoJ was reticent, too, due to its already extended balance sheet. Now that the other developed economy central banks have fallen into line, the question which dominates markets is, will other central banks have room to reverse QE?

Last month saw the publication of a working paper from the BIS – Risk endogeneity at the lender/investor-of-last-resort – in which the authors investigate the effect of ECB liquidity provision, during the Euro crisis of 2010/2012. They also speculate about the challenge balance sheet reduction poses to systemic risk. Here is an extract from the non-technical summary (the emphasis is mine): –

The Eurosystem’s actions as a large-scale lender- and investor-of-last-resort during the euro area sovereign debt crisis had a ﬁrst-order impact on the size, composition, and, ultimately, the credit riskiness of its balance sheet. At the time, its policies raised concerns about the central bank taking excessive risks. Particular concern emerged about the materialization of credit risk and its eﬀect on the central bank’s reputation, credibility, independence, and ultimately its ability to steer inﬂation towards its target of close to but below 2% over the medium term.

…click on the above link to read the rest of the article…

Who Knows the Right Interest Rate

February 22, 2019

WHO KNOWS THE RIGHT INTEREST RATE

On January 6, we wrote the Surest Way to Overthrow Capitalism. We said:

“In a future article, we will expand on why these two statements are true principles: (1) there is no way a central planner could set the right rate, even if he knew and (2) only a free market can know the right rate.”

Today’s article is part one of that promised article.

Let’s consider how to know the right rate, first. It should not be controversial to say that if the government sets a price cap, say on a loaf of bread, that this harms bakers. So the bakers will seek every possible way out of it. First, they may try shrinking the loaf. But, gotcha! The government regulator anticipated that, and there is a heap of rules dictating the minimum size of a loaf, weight, length, width, depth, density, etc. Next, the bakery industry changes the name. They don’t sell loaves of bread any more, they call them bread cakes. And so on.

There is always a little arms race going on, wherever there are government controls. One recent example is Uber. This company actually illustrates two different workarounds. One, is labor law. Labor law sets not only a minimum price for labor, but also adds many other restrictions that make companies less flexible, and therefore less able to deliver what customers want. So Uber drivers are not employees. Oh no, they are independent contractors.

Two, is taxi regulation. Uber is not a taxi. It is a ride-sharing service. Under regulation, definitions determine the difference between life and death. So everyone is forced to play a game of hair-splitting.

…click on the above link to read the rest of the article…

Chapter 3: How Money Works Today: A Summary.

February 15, 2019

CHAPTER 3: HOW MONEY WORKS TODAY: A SUMMARY.

This chapter summarises how money works today. For convenience’s sake, there will be some repetition of material covered elsewhere.

Founded on debt rented out at interest, the money system is difficult for most human minds (mine, for instance) to grasp. It is counter-intuitive, so much so that a leading banking historian (Lloyd Mints) described it as work of the devil. In his own words:

‘It would seem that an evil designer of human affairs had the remarkable prevision to arrange matters so that funds repayable on demand could be made the basis of profitable operations by the depository institutions. It is wholly fortuitous that an income can be earned from the use of such funds, but this being so has resulted in the creation of institutions which have largely taken over control of the stock of money, an essential government function.’[1]

Authoritative sources describe our system of money and finance much as it is described in this chapter. Journalists, teachers and writers of textbooks, however, tend to describe an entirely different (mythical) system in which ‘savings’, rather than newly-created money, form the basis of capitalism.[2]

What is ‘Money’?

We all know what money is. It’s something we can own which can be swapped for other things that are up for sale. It is a kind of abstract property: mine is mine, and yours is yours.

For people who like their truths to be stated with a bit more gravitas, here is an economist saying the same thing:

‘So long as, in any community, there is an article which all producers take freely and as a matter of course, in exchange for what they have to sell, instead of looking about, at the time, for the particular things they themselves wish to consume, that article is money, be it white, yellow, or black, hard or soft, animal, vegetable or mineral. There is no other test of money than this. That which does the money-work is the money-thing.’^[3]

…click on the above link to read the rest of the article…

Sustainable Government Debt–An Old Idea Refreshed

February 14, 2019

SUSTAINABLE GOVERNMENT DEBT – AN OLD IDEA REFRESHED

New research from the Peterson Institute suggests bond yields may fall once more
Demographic forces and unfunded state liabilities point to an inevitable reckoning
The next financial crisis may be assuaged with a mix of fiscal expansion plus QQE
Pension fund return expectations for bonds and stocks need to be revised lower

The Peterson Institute has long been one of my favourite sources of original research in the field of economics. They generally support free-market ideas, although they are less than classically liberal in their approach. I was, nonetheless, surprised by the Presidential Lecture given at the annual gathering of the American Economic Association (AEA) by Olivier Blanchard, ex-IMF Chief Economist, now at the Peterson Institute – Public Debt and Low Interest Rates. The title is quite anodyne, the content may come to be regarded as incendiary. Here is part of his introduction: –

Since 1980, interest rates on U.S. government bonds have steadily decreased. They are now lower than the nominal growth rate, and according to current forecasts, this is expected to remain the case for the foreseeable future. 10-year U.S. nominal rates hover around 3%, while forecasts of nominal growth are around 4% (2% real growth, 2% inﬂation). The inequality holds even more strongly in the other major advanced economies: The 10-year UK nominal rate is 1.3%, compared to forecasts of 10-year nominal growth around 3.6% (1.6% real, 2% inﬂation). The 10-year Euro nominal rate is 1.2%, compared to forecasts of 10-year nominal growth around 3.2% (1.5% real, 2% inﬂation). The 10-year Japanese nominal rate is 0.1%, compared to forecasts of 10-year nominal growth around 1.4% (1.0% real, 0.4% inﬂation).
The question this paper asks is what the implications of such low rates should be for government debt policy. It is an important question for at least two reasons.

…click on the above link to read the rest of the article…

Why Monetary Easing Will Fail

February 8, 2019

WHY MONETARY EASING WILL FAIL

The major economies have slowed suddenly in the last two or three months, prompting a change of tack in the monetary policies of central banks. The same old tired, failing inflationist responses are being lined up, despite the evidence that monetary easing has never stopped a credit crisis developing. This article demonstrates why monetary policy is doomed by citing three reasons. There is the empirical evidence of money and credit continuing to grow regardless of interest rate changes, the evidence of Gibson’s paradox, and widespread ignorance in macroeconomic circles of the role of time preference.

The current state of play

The Fed’s rowing back on monetary tightening has rescued the world economy from the next credit crisis, or at least that’s the bullish message being churned out by brokers’ analysts and the media hacks that feed off them. It brings to mind Dr Johnson’s cynical observation about an acquaintance’s second marriage being the triumph of hope over experience.

The inflationists insist that more inflation is the cure for all economic ills. In this case, mounting concerns over the ending of the growth phase of the credit cycle is the recurring ill being addressed, so repetitive an event that instead of Dr Johnson’s aphorism, it calls for one that encompasses the madness of central bankers repeating the same policies every credit crisis. But if you are given just one tool to solve a nation’s economic problems, in this case the authority to regulate the nation’s money, you probably end up believing in its efficacy to the exclusion of all else.

…click on the above link to read the rest of the article…

The Difference Between Money Supply & Liquidity

February 6, 2019

THE DIFFERENCE BETWEEN MONEY SUPPLY & LIQUIDITY

The US debt ceiling suspension, signed on February 2018, expires in March this year. According to some experts, the US Treasury will have to carry out special measures because of possible delays in raising this ceiling. Treasury would need to draw down its deposits with the Fed and deposit the money in various banks for future use to pay government expenses. As a result, this would boost monetary liquidity and therefore would have beneficial effects on financial markets.

It is sometimes argued that changes in government deposits with the Federal Reserve (Fed) set in motion changes in liquidity and that this has effects on financial markets. On this logic an increase in government deposits with the Fed would lead to a decline in the supply of money and hence to a decline in monetary liquidity.

Conversely, a decline in government deposits with the central bank results in an increase in money supply and monetary liquidity. An implicit assumption in this logic is that an increase in money supply and an increase in liquidity represent the same thing.

The meaning of monetary liquidity

Whilst many people talk about money and liquidity interchangeably, the reality is these are both very different concepts. Whilst the term money simply refers to the supply of money, the term liquidity relates to the interplay between the supply of and the demand for money.

People demand money primarily in order to facilitate trade. By means of money, a product of one specialist is exchanged for the product of another specialist. The nub of what makes a particular thing money (i.e. a medium of exchange) is that it offers to its holder a greater purchasing power than any other good.

…click on the above link to read the rest of the article…

Chapter 4: Early Days

February 5, 2019

CHAPTER 4: EARLY DAYS.

The situation we are in today has evolved over many centuries. Economists had plenty of time and opportunity to comment – and comment they did. Only recently has it become highly controversial to notice that banks create money, let alone to discuss the implications.[1] This makes the comments of earlier economists particularly interesting – for their honesty and perceptiveness.

This chapter begins with economists commenting on the increasing power and influence of bank-credit. It finishes with a fascinating (and very modern) suggestion from 1707 of how money shouldbe created, fairly and realistically for the benefit of all. The proposal is similar to many reform proposals being put forward today.

Here are some features of bank-money that writers on economics were reacting to (some unfavourably, some favourably):

Bankers create more in ‘credit’ than they have in ‘cash’.
Their credit becomes money when it circulates in making payments.
When bank-credit becomes money, interest siphons money from working and productive people to wealthy and powerful people.^[2]
Money created by banks increases the powers of government and concentrates the power of capital in fewer and fewer hands.
Bank-credit feeds war, predatory nationalism and national debt.
Increased concentrations of power bring new moral values: neglecting justice in favour of social management, exploitation and direction from above.

For roughly two thousand years, from the days of Aristotle to the end of the Middle Ages, economists did not pretend to be ‘scientists’. First and foremost, they were moral philosophers. They wrote about money and power in relation to law and the morality of human well-being. Aristotle, for instance, believed that money should be a means of exchange, not allowed to ‘breed’ more money.^[3] Money, he said, is a human invention. We must be careful that it produces good, not evil.

…click on the above link to read the rest of the article…

A World of Debt–Where Are the Risks?

January 31, 2019

A WORLD OF DEBT – WHERE ARE THE RISKS?

Private debt has been the main source of rising debt to GDP ratios since 2008
Advanced economies have led the trend
Emerging market debt increases have been dominated by China
Credit spreads are a key indicator to watch in 2019

Since the financial crisis of 2008/2009 global debt has increased to reach a new all-time high. This trend has been documented before in articles such as the 2014 paper from the International Center for Monetary and Banking Studies – Deleveraging? What deleveraging? The IMF have also been built a global picture of the combined impact of private and public debt. In a recent publication – New Data on Global Debt – IMF – the authors make some interesting observations: –

Global debt has reached an all-time high of $184 trillion in nominal terms, the equivalent of 225 percent of GDP in 2017. On average, the world’s debt now exceeds $86,000 in per capita terms, which is more than 2½ times the average income per-capita.
The most indebted economies in the world are also the richer ones. You can explore this more in the interactive chart below. The top three borrowers in the world—the United States, China, and Japan—account for more than half of global debt, exceeding their share of global output.
The private sector’s debt has tripled since 1950. This makes it the driving force behind global debt. Another change since the global financial crisis has been the rise in private debt in emerging markets, led by China, overtaking advanced economies. At the other end of the spectrum, private debt has remained very low in low-income developing countries.
Global public debt, on the other hand, has experienced a reversal of sorts. After a steady decline up to the mid-1970s, public debt has gone up since, with advanced economies at the helm and, of late, followed by emerging and low-income developing countries.

…click on the above link to read the rest of the article…

Chapter 2: Laws That Make Robbery Legal.

January 28, 2019

CHAPTER 2: LAWS THAT MAKE ROBBERY LEGAL.

A law can be anything from an attempt to establish justice on earth to a device for robbery and murder.^[1] Nazi race law was an example of the latter. Most people pay lip service to the idea that laws should be just; but in fact, laws are often made to favour the powerful. Laws supporting slavery and laws favouring men over women are two examples of that.[2]

Today, thousands of lobbyists spend untold amounts of money each year influencing lawmakers on behalf of their (usually corporate) paymasters. Many of the new laws they promote would not be called ‘just’ by most of us – if we knew about them. But how many voters keep an eye on new laws, to check if they are just?^[3]

This chapter describes how banks became authorised in law to create money, as part of the age-old practice of ruling classes writing laws to suit themselves.

Laws allowing money (and other value) to be created as debt are surely the most unjust laws generally in force today. These laws are actually very simple, but very few people know about them, and their injustice is not often talked about. People who benefit from them prefer to ignore them – and prefer it if other people don’t talk about them either.^[4]

These laws simply establish that debt can be bought and sold as if it is a commodity, like beef or beans. The legal word for this is, they make debt ‘negotiable’.^[5]

…click on the above link to read the rest of the article…

The Dangers of Negative Interest Rates and a Cashless Economy

January 25, 2019

THE DANGERS OF NEGATIVE INTEREST RATES AND A CASHLESS ECONOMY

The recent gyrations in the stock market and the uncertainties surrounding American trade policies with China and other parts of the world have raised the question of when the next recession will inevitably follow the current economic recovery from the 2008-9 financial crisis. In the face of a future economic downturn, some economic policy analysts are already making the case for central banks to use negative interest rates to dampen and shorten the impact of any economy-wide decline in output and employment that may be ahead.

Not surprisingly, much of the speculation concerning the power of government to mitigate, if not prevent, an economic downturn surrounds the usual debates over the potentials of monetary and fiscal policy. Harvard University economist Kenneth Rogoff, in a recent article, “Central Bankers’ Fiscal Constraints” (January 4, 2019), downplays the efficacy of taxing and spending tools, and highlights, instead, the continuing crucial role of monetary policy and interest rate manipulation.

The Limits on Implementing Fiscal Policy

With nominal interest rates in the United States and some other places around the world still at historical lows (even in the face of recent Federal Reserve rate increases), Rogoff points out that many central bankers hope that more direct fiscal policy will carry the weight of countercyclical activities in the face of any serious recession that may come.

But he points out that in the American system of government, there is little immediate flexibility to enable agreement upon and introduction of tax cuts or spending increases that might be effective in holding back the recessionary trends in a timely fashion. Fiscal changes must work their way through and be passed by Congress, then signed by the president, and finally implemented by various government agencies. The entire process normally can take a long time, during which a recession could get increasingly worse.

…click on the above link to read the rest of the article…

Chapter One: The Money Supply: How It Came to be Created by Banks

January 23, 2019

CHAPTER ONE: THE MONEY SUPPLY: HOW IT CAME TO BE CREATED BY BANKS.

The most important fact in economics today goes unmentioned by most economists and bankers: money is created as debt from banks, and it is cancelled when debts are repaid.^[1]

I have asked many economists and bankers why this is so seldom mentioned, and always I get the same response: it’s too difficult for the public and most students to understand.

In fact, it’s not so difficult to understand. A famous economist once wrote: ‘The process by which banks create money is so simple that the mind is repelled.’^[2]

Why, truly, is the fact so seldom mentioned? Another venerable quotation supplies the answer: ‘The general ignorance (of banking and finance) is not caused by any peculiar difficulty of this branch of political economy, but because those who are best informed are almost all interested in maintaining delusion and error, instead of dispersing both.’^[3]

I introduce these respectably-sourced quotations to show that the statement ‘money is debt from banks’ is not an outrageous and invented claim like so many statements today, but something that has been known for a long time.

For instance, many years ago, if you looked up ‘Banking and Credit’ in the Encyclopaedia Britannica you would find the following paragraph: —

‘When a bank lends… two debts are created; the trader who borrows becomes indebted to the bank at a future date, and the bank becomes immediately indebted to the trader. The bank’s debt is a means of payment; it is credit money. It is a clear addition to the amount of the means of payment in the community.’^[4]

…click on the above link to read the rest of the article…

The Arrival of the Credit Crisis

January 18, 2019

THE ARRIVAL OF THE CREDIT CRISIS

Those of us who closely follow the credit cycle should not be surprised by the current slide in equity markets. It was going to happen anyway. The timing had recently become apparent as well, and in early August I was able to write the following:

“The timing for the onset of the credit crisis looks like being any time from during the last quarter of 2018, only a few months away, to no later than mid-2019.” ^[i]

The crisis is arriving on cue and can be expected to evolve into something far nastier in the coming months. Corporate bond markets have seized up, giving us a signal it has indeed arrived. It is now time to consider how the credit crisis is likely to develop. It involves some guesswork, so we cannot do this with precision, but we can extrapolate from known basics to support some important conclusions.

If it was only down to America without further feed-back loops, we can now suggest the following developments are likely for the US economy. Warnings about an economic slowdown are persuading the Fed to soften monetary policy, a process recently set in motion and foreshadowed by US Treasury yields backing off. However, price inflation, which is being temporarily suppressed by falling oil prices, will probably begin to increase from Q2 in 2019. This is due to a combination of the legacy of earlier monetary expansion, and the consequences of President Trump’s tariffs on consumer prices.

After a brief pause, induced mainly by the threat of an unstoppable collapse in equity prices, the Fed will be forced to continue to raise interest rates to counter price inflation pressures, which will take the rise in the heavily suppressed CPI towards and then through 4%, probably by mid-year.

…click on the above link to read the rest of the article…

My Speech in the European Parliament on the Coming Economic Collapse

January 15, 2019

MY SPEECH IN THE EUROPEAN PARLIAMENT ON THE COMING ECONOMIC COLLAPSE

Zero percent interest rates have created the largest bubble in human history, when it bursts it will be worse than 1929.

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