Thursday, August 23, 2012

Government spending is always a "net good" - not so much (continued)

Here is the breakdown of the latest counterpoints my friend submitted to me.  The debate continues as follows:

I 100% agree that there are major problems within our current government structure on spending policies, taxation policies, and regulation policies. I am for capitalism and less government embedded in the bedrock of our economy. I am for major reform in all of these areas. I do also agree there were many mistakes leading into the financial crisis and out of them that I would love to see not happen again. I do believe that continuing to operate with misperceptions at the macroeconomic level will plague us for some time."Andy, sticking just at a macroeconomic level, I disagree that government spending deficits take away from the people. Taxation takes away from the people. With our basic accounting summary of this, either the government side or the private/public/people side runs the deficit. It is not healthy for the people to be running deficits and the government surpluses because we wont have money to buy the goods and services we need and stall economies into recession. On the flip side it is healthy to keep the deficit on the government side. For 15 years we have run deficit spending on top of our taxation revenues. So this is possible to spend more then we bring in and budget deficits do not take away from savings.   You bring up inflation concerns, but the last 15 years have had excess spending "creation of dollars" and below historic inflation. From the reading of Stephanie Kelton, this is because we are not at max production and there are surpluses of goods and services on the market today, so the creation of dollars is not inflationary. If we were at max production where all goods and services were spoken for then yes the creation of dollars would cause inflation. The examples you site of Germany, Argentina, Zimbabwe are all examples where they were on a fixed exchange system or pegged to another currency, so when those currencies were mass created in relation to the fixed exchange placed on them, that caused the hyper inflation.  The U.S. dollar has the luxury of being at the top of the monetary pyramid not fixed to rate, gold or any other currency. Everyone thinks that because we at the state level, city level and household level have to balance our spending to our in flows make it so the Fed has to do the same. This is not true. The reason a state, city or we can go broke is because we don't have the luxury of creation of dollars at our disposal. States, cities, and people rely on their income alone. This is also the case for Spain and Greece running out of a finite resource of Euros and could not control getting more.  My readings have focused in the Post-Keynesian school currently being cultivated by Warren Mosler and Stephanie Kelton. Warren's book "The 7 Deadly Innocent Frauds of Economic Policy" It is a quick read, and a few of your comments fall under his innocent frauds that we believe are true.

Here is my response.

Awesome. I'm glad you are for capitalism, less government, regulatory reform, not repeating the mistakes that caused this depression, and learning from the mistakes we've made.

The only problem is that all the policies you advocate contradict this entire statement. Infinite government deficit spending and centrally planning the supply of money and credit does not coincide with any of the ideals you say you espouse. And that is what frustrates me the most. So, I'll try and offer some commentary.

Taxation, deficit spending, AND printing money (or creating bank reserves through digits on a keyboard) ALL take away from the people as well as the economy. Deficit spending must be repaid through future taxation or future inflation of the money supply through more fiat paper dollars. Your statement that it is not healthy ("on the flip side") for people to run deficits AND the government to spend less than it receives in revenue is incorrect. The less the government spends the better - 100% without equivocation (for reasons I've stated in my previous post). And your premise of why a recession occurs is another place where you are unfortunately incorrect. 

The REAL reason an economy booms and then busts is that artificial expansion of the supply of money and credit occurs (whether in the 1920s or during the early 2000s) without enough real savings. The money inflation is mistaken for real saving and both investment (capital goods) and consumption increases. This bids up asset prices and makes people FEEL richer. But, soon all prices start rising (including consumer prices) as well as interest rates rise.  When this happens, the Fed is faced with 2 choices - keep expanding the money supply and introduce hyperinflation or stop the money supply growth.  When the money supply contracts (through raising interest rates or other methods), the euphoria is over and a massive correction ensues to let prices fall back to the sustainable levels. This causes a lot of pain since many people thought they were richer and it was after all just inflation in their asset prices (think houses, equities, balance sheets, capital goods, etc).  Resources must then be deployed elsewhere to satisfy the real wants and needs of consumer goods that are most needed. This causes capital goods to fall much lower than consumer staple/service goods.

Yes, we have run deficits for years and years and years. But, there comes a point when a country cannot service its debt obligations (think 1920 Germany after the Treaty of Versailles). Two things must happen - monetize the debt or default on the debt owed to the creditors. Some might say (and I agree with them) that monetizing the debt is a virtual form of default. Either way, it is extremely painful and more like a choice of being hanged or shot (you pick which is which).

I'm not sure what you are using to measure price inflation (which is what I think you mean). And, there is a difference between price inflation and money inflation. Price inflation is a by-product of inflating the money supply. Inflation is always and everywhere a monetary phenomenon. I'm not sure why you only go back 15 years to track inflation. But if you want to use 15 years as a benchmark we can evaluate this. I personally cannot think of many things at all that cost less than what they did when I was 17 years old (15 years ago). Gas was below a dollar, you could purchase a can of pop for $0.35, go to the movies with someone for under $10. I could go on and on. The only "deflation" has been in electronics and there is a reason for this, but i won't go into why. 

But, the point here follows that money inflation does not bid up all prices at once. Money inflation affects capital and producer goods first and then eventually bids up consumer/staple prices. An example of this is commodity prices most notably with Corn going above $8.00. Commodities (such as oil and petroleum products) are all priced in DOLLARS and not Yen or Euros. So, if the purchasing power of the dollar falls in relation to other currencies, it is going to cost more to buy goods denominated in dollars. 

Full employment is not the ideal for an economy. If that were the case, having people retire (who have saved a stockpile of cash) would be a drag on the economy. Wealth, prosperity, and personal satisfaction are the ideal. Working is simply a prerequisite required to reach this ideal (goal + ideals). I work 40 hours a week, yet i spend 40 hours a week sleeping. Does that mean I'm not in a state of "full employment". This common fallacy of full employment was demolished by Henry Hazlitt decades ago 

You talk about 1920s Germany. As far as I remember, in 1920 we were still on a gold standard. So, I think you need to read more about 1920s Germany (which i do not think is entirely comparable to our situation, but a very very important study). A good book that chronicles this is Adam Fergusson's, When Money Dies.

I 100% agree with you that the U.S. Dollar's only saving grace is that it is the world's reserve currency. This allows the U.S. to continue to deficit spend as long as it is the reserve currency. However, nothing is set in stone that it will continue to be the case, States do not have a monopoly on the issuance of their own currency like the Fed does. However, you are wrong in regards with the Euro. The ECB could create an infinite amount of money if it wanted to do so (which I do not think it will do). It is a fiat currency like any other currency around the world and suffers from the same problems. I'm not sure about how serious mario draghi is about buying up sovereign debt with Euros, but anything is possible.  A great book on the Euro is by Philipp Bagus', The Tragedy of the Euro.

The likely action I see happening in a world of international fiat money backed by nothing is that all Central Banks inflate together. And while this might keep government solvent, it will lead to a continued decrease in the purchasing power of each type of fiat currency - otherwise known as massive price inflation.

I disagree vehemently with your premises, but I hope what I've said might stop our Mexican Economics Standoff. I've read Post-Keynesians, New-Keynesians, neo-Keynesians and they all share something in common. They are all Keynesians. While Keynes was no doubt one of the most influential economists of the 20th Century, I have spent the better part of the last 4 years determining how wrong Keynes was in the field of macroeconomics.

Wednesday, August 22, 2012

Government spending is always a "net good" - not so much

I recently got into a debate with a friend on facebook about fiscal policy. He posits the following:
"Economics 101: Fiscal Policy levers are taxation and government spending to regulate the economy. In a recovering economy we need to keep taxes low and keep government spending. I find it very interesting that of our two future leaders claim to want to help the economy, one wants to increase taxes, and the other cut government spending, both HURTING the economy. HUM??? (a conundrum)..."

"... government spending IS a net gain to the economy and that it does not need tax dollars to support it. All the rules changed in 1974 Bretton Woods when we went off the gold standard and a fixed exchange rate world. We are now a "fiat" currency and the controller of it and at the top of the pyramid. And our modern monitary system is done with keystrokes on the computer, and Ben Bernanke is sitting at the helm. With the bailouts in 2009 when Ben Bernake was on 60 minutes getting grilled that they spent tax payer money, he said "no we didn't, we simply used the computer to mark up the size of the accounts." People today and our polititians still think about things in an old system and talk about making the economy better, which as I stated initially, their plans will both hurt it. So what they are really talking about is the "deficit." Here lies where the problem is and people/politians belief that the deficit is bad, when it is not. In todays world there is no arbitrary limit to the deficit and we really need to look at the economy and that is keep taxes low, keep spending, and most importantly get us more productive and get people working. So then back to taxes, what is its purpose if not for governement spending? It is to keep the value in the dollar. Because by having a tax it forces people to work for dollars, trade goods and services in dollars, so that they have dollars to pay their taxes. Think about it for a while, I did! :)"

He disagrees with Obama who "wants to increase taxes" (so far so good).  However, he then says the other one (Gov. Romney) wants "to cut government spending" (ok not so good).

*[Please note for the record, this post is not an endorsement for Mitt Romney]

Well, I could not let this stand without a response when it was presented under the auspices of "Economics 101."

Unfortunately, my friend's entire premise (and that of all Keynesians) is incorrect about government spending being a net positive. Government spending is always a net loss to the economy since Government does not create anything it doesn't take from someplace else.

It can do this by 3 ways: taxing (which we agree is bad), deficit spending (maybe not as bad as taxes, but worse in other ways), and/or printing of money (reducing the purchasing power of money). All three methods extract resources out of the private sector in different ways and more importantly distort the economy in different ways. I will omit taxes from discussion since no disagreement exists regarding its harm to the economy.

Let's describe how both deficit spending AND money printing are both bad for different reasons.

Implications of Massive Deficit Spending

By creating an expansionary fiscal and monetary policy, the money that is used by government to spend goes to projects that CONGRESS and those who get the NEWLY created dollar bills (or bank reserves). Instead of the free market determining what projects get funded, a central planning board of technocrats shells out money to those constituencies that will vote for them during election time.

A government "investment" is an oxymoron. Government is "groping in the dark" (as Mises once said when writing about Economic Calculation in the Socialist Commonwealth when it enacts central planning of resources.

In the socialist commonwealth every economic change becomes an undertaking whose success can be neither appraised in advance nor later retrospectively determined. There is only groping in the dark. Socialism is the abolition of rational economy.

This is what happened in the Soviet Union. It is not a business which must make a profit or use cost accounting to evaluate its opportunity costs for making widgets or getting information feedback.

L. v. Mises (1920)
However, these fact do not stop Congress from determining winners and losers. It simply calculates politically speaking which businesses should be bailed out (i.e. GM or the UAW workers or Big Banks who knew the government would back stop their risky lending). Ventures that make no economical sense are given billions of dollars (whether it is Solyndra or failing municipalities with giant unfunded liabilities). The list goes on and on.

When government issues T-Bills, this affects the credit markets by crowding out other lenders who are also issuing billions of bonds (think Corporate Bond which rise in price above what they would otherwise be without Gov't floating it's own bonds). This is evident with Greece, Spain, etc. They are finding few bidders for their massive amounts of debt since no one thinks they will receive their interest let alone the initial principal back if they buy the sovereign debt/bonds from these countries.

How an Expansive Monetary Policy Hurts the Economy

With Monetary policy and the Fed, this charade of an ever increasing deficit can continue for a little while since the Fed can buy up this debt and hold it on its balance sheet (that expands with the press of a key on a computer). But, by continually expanding monetary base (M1 or M2)., the purchasing power of these dollar will most assuredly fall year over year. More and more money chasing the same amount of goods will always result in price inflation.

Inflation is the most insidious form of theft. Inflation robs savers and holders of dollars of their purchasing power. Even if the Fed wanted to add a couple of zeros to everyone's bank account, this would not make people on net wealthier. It would make people poorer seeing as some people would spend their newly received money faster than others. The people who recognized this phenomenon would benefit while those who did nothing would suffer as prices were bid up around them.

But, in reality, new money does not come to everyone equally. Certain people get the new money first (similar to those who are first to receive the money that flows out of congress on various spending projects). Someone who is retired on a fixed income and living off of the interest of their savings gets killed in this scenario since they will be the LAST to receive the new money or receive none at all. All the while certain goods are bit up around them and they have to pay more for food, clothing, gas, shelter, etc. Again we see those who were savers and who were prudent with their money get the short end of the stick.

As to the point of there being no limit to how high the deficit could go and/or how much money can be printed, we need only look to the best cases of history where this was tried in 1920s Germany and in the present day Zimbabwe (up until recently). Once a government refuses to pay it's debt obligation, it either a default on its debt obligations or experiences hyperinflation. Both are bad, but hyperinflation is probably worse in my opinion.

Bernanke is trying to reflate the bubble.  The boom turned to bust but it was not allowed to fully correct. We have only prolonged the pain and have not cured anything. All of the mistakes have simply been papered over.  Yes, asset prices have been reflated in certain areas (stock market, cars, some real estate, other capital goods), but as soon as interest rates rise, or price inflation eventually starts heating up, or the money supply slows down (which is what caused the slowdown in 2007 after massive price inflation), a crash is likely - it's just not know how severe or to what degree.

The quickest read that explains the cause and cure of a booms, busts, and recessions/depressions is Murray N. Rothbards, Economic Depressions: Their Cause and Cure. Everyone is taught Keynesian economics - in a recession we need to have the government fill in the spending hole. This is 100% wrong and a complete fallacy. The business cycle is caused by an artificial expansion of money and credit that must eventually slow down or retract. This causes a correction since the boom is unsustainable. The recession is the CURE and natural process for correcting the malinvestments that went  into the boom. Fiat money is an inherent cause of much of this process in addition to the fractional reserve banking system.

What SHOULD Government Do?

If government should do anything, it should be to protect our property rights, enforce and uphold contracts, and promote liberty. Even these goals are a difficult task for reason I will not mention at this time.  Government should stay out of intervention in the market since it is always and everywhere a drain.  It has no resources it provide without first acquiring other resources through some form of confiscation and coercion.

Tuesday, August 21, 2012

Against Facebook Nationalization

The other day I was poking around on the internet (Facebook to be specific) and saw an opinion piece from with the headline:

“Let's Nationalize Facebook”

Clearly, the title is provocative to say the least and my initial reaction was to laugh. I immediately figured this piece was written by a comedian, satirist, or some journalist trying to be cute.

To say the least, I was sorely mistaken. The piece is 100% serious and the author is one Dr. Philip N. Howard, a Professor at the University of Washington and fellow at Princeton.

A friend forwarded his own response to this piece.  I  found it was close to being spot on with my reaction.  He has given me permission.  His thoughts are below:

I gotta say, this article is a gem, a true shining example of leftist thought: a guy honestly trying to argue that things get better through national control. My favorite highlights:

"Facebook has become a public good and an important social resource."

Yah, ruining marriages, and time hopelessly squandered through brainless games and idle curiosity about old high school acquaintances... that's public good.

"A spring survey found that almost half of Americans believe that Facebook will eventually fade away."

I wonder why Americans believe that. Maybe it's because there are so many examples of it. Besides, the market has a way of filling voids. AOL is all but gone as an internet provider, but (gasp) I'm on line right now. HOW DID THIS HAPPEN? Shouldn't the government have nationalized AOL to save the internet?

"Even the business side has been a bit of a disaster lately, with earnings lower than expected and the news that a significant portion of Facebook profiles are fake."

So I should give a crap about FB's stock price now. Methinks the author is losing his shirt. BTW, how do FB's fundamentals look? I'm going to guess terrible. Too bad Mark Zuckerberg conned the world into giving him billions of dollars in exchange for their personal information.

"When nationalizing the company restores the public trust,..."

I love this premise. Because the public trust is so high in the Postal Service, Medicare, and GM's car manufacturing decisions.

"There are three very good reasons for this drastic step: It could fix the company's woeful privacy practices, allow the social network to fulfill its true potential for providing social good, and force it to put its valuable data to work on significant social problems."

My sides hurt from the laughter. Life must be great in the author's world... because it is a world set apart from the rest of us.

"It would be better to have a national privacy commissioner with real authority, some stringent privacy standards set at the federal level, and programs for making good use of some of the socially valuable data mining that firms like Facebook do. But in the United States, such sweeping innovations are probably too difficult to actually pull off, and nationalization would almost get us there."

We need to check the Professor Howard's blood alcohol content at this point. So many absurdities packed into such a small space. Nationalization -- government control of ONE COMPANY -- would bring about sweeping innovations? Anyone with any government experience knows that a federal bureaucracy is perhaps the body least capable of innovation of any kind. This guy wants FB to be taken over by someone who thinks like he does. Here's a thought: he should try to create a social networking company that he likes, as opposed to advocating government control of someone else's.

I bet the author lives in a nice place. With all the time he spends crafting expert opinion, I bet the author's grass is a mess, and his flowerbeds are in need of weeding. The federal government should appoint a Yard Commissioner for his house, to see to it that this guy takes care of his grounds. If he doesn't do as Mother Government says, then maybe the government should appoint me Head Occupant of his house. That would be awesome, and he'd have it coming.

"Facebook communications are an important tool for democracy advocates, including those who helped organize the Arab Spring."

The hits just keep on coming. Arab Spring = Democracy. There are many dead Christians in Egypt who might object.

"While most U.S. citizens and most global citizens treat Facebook as their social network infrastructure, the firm is greatly understaffed: It has about 4,000 employees serving nearly 1 billion users. Facebook staffers—at least those in it for the social good, rather than the bonuses—might even welcome the move to nationalize. Currently, Facebook employees are tasked with discovering marketable trends, selling advertising, and doing data mining in the service of profit. Nationalizing Facebook would allow more resources to go into data mining for public health and social research."

That's what a billionaire needs -- more government money! Who could write this with a straight face? Those poor FB employees! How do they survive on their large salaries and exclusive corporate culture? The author is clearly deranged, or still in school. Does he know anyone who works at FB? I am going to guess not.

"Users in some parts of the world might panic if Facebook becomes an official part of the U.S. government. But there are plenty of examples of good public investment in media and infrastructure. For instance, citizens around the world benefit from the BBC, and many governments use the public purse to support technology innovation and build up information infrastructure. The public policy benefits of scholarship with Facebook's "big data" would spread around the world. Having occasional access to anonymous profiles would help democracy activists living in dictatorships. The high—and globally consistent—privacy standards that could be swiftly implemented after nationalization would be good for everyone."

Isn't the BBC great? No privately owned media outlets could entertain us like they do (or control the messaging as they see fit). And I'm sure the government would only use personal data about everyone for good at all times. They could never abuse such a thing, could they?

My solution for FB is still the correct one: stay away. If you don't like what they're doing, then turn your back on them. Perhaps the author should start a "socially conscious" alternative company that opens up its databases to the government and anyone else who wants it. I'm sure users would flock to it. Both of them.