Fed's Attempt to Have Cake and Eat It Too

In a previous post [1], I linked to an econbrowser post that explained recent Federal Reserve operations by analyzing changes in its balance sheet. He published an updated post to further the analysis and shows how the Fed is continuing its attempt to "bailout" companies without having to print money and without having to sell current assets, i.e., sell its treasury holdings. He provides an excellent explanation (however, as an empiricist can not address the more fundamental implications).

If you use the "no free lunch" principle, it is pretty easy to understand what is happening. The Fed started to bail out these firms by selling its assets and then loaning cash but its running out of assets. It can "purchase" the bad debt with fake money but then it would create a massive inflation which it is trying to avoid. Instead, the Fed is actually borrowing money from the Treasury which is borrowing it from the public. Additionally, the Fed is now paying interest on reserves which encourages the banks to leave their deposits alone. This means that billions of dollars are being sucked out of the market and effectively invested in crappy banks. And that's not all. When the Fed holds Treasury securities, the Treasury pays it interest just as it pays interest to every bond holder. Well, guess what? By law, the Fed must turn over all of its profits to the Treasury which means that to the extent the Fed holds its securities, the Treasury doesn't really pay interest. Well, if the Fed sells its Treasuries to the public to raise cash it means the Treasury (the taxpayer) has to pay real interest. Also, if the Fed borrows from the Treasury and the loans do not perform, then who is on the hook? Of course, the taxpayers, who will owe about 1 trillion more in debt. In other words, the Fed is gambling with about $1 trillion or more of taxpayer money. Its "Plan B" undoubtedly will be to buy the bad debt with fake money which would create massive inflation.

In summary, the nationalized banking system (the Federal Reserve) has created a boom followed by an inevitable bust and to prevent further losses or bankruptcies at its pet banks, it is proceeding to saddle the American taxpayer with more than a trillion dollars of bad debt which will be paid for by future taxpayers either directly in interest, in higher dollar prices resulting from further credit expansion (inflation), in higher taxes, and/or in reduced productivity and reduced real wages due to the capital destruction caused by inflation.

Such a result is not an exception but inherent to fractional reserve fiat money banking and socialism in general. Indeed, destruction is the inevitable consequence of attempting to evade reality.

Republicans Now a Moral Minority

Based on this article citing the RNC's vehement criticism of bailouts and other socialist policies, it appears that Republicans have taken their familiar place as the vocal moral minority, i.e., they say the right things when they have no ability to act on them. If they could ever comprehend and articulate why capitalism is not only practical but moral as I explained in a previous post [1], they could rightly capture and maintain a majority forever.

Junior Asks Daddy a Question and Chavez Steals a Mall

While reading these two articles, it struck me that they represent the essence of current events in a rather unique way. Junior Asks Daddy, Where Do Bailouts Come From is a brilliant commentary by Caroline Baum in which she imagines two parents explaining the auto bailouts to their young son. Quoting Baum:

“Mrs. Adams talks about fairness a lot in school,” Junior said. “She says it’s not fair for some people to be very rich and others to be very poor, that the government should do something about it."

“That’s right, son,” Dad said. “The rich should pay more in taxes to reduce the gap between rich and poor, something they call income inequality.”

“You mean, someone should punish them for being rich? That would be like Coach putting me on the bench after hitting that grand-slam home run in the bottom of the fifth in the Little League championships. Why would Coach Perkins want to do that?”

Indeed, why? Unfortunately, the other article is not imaginary. It discusses Chavez's expropriation of a shopping mall in Venezuela:

"How are we going to create socialism turning over vital public spaces to Sambil?" said Chavez, who has nationalized Venezuela's largest phone company, electric utilities and oil fields.

The president also has urged Venezuelans to shed their materialism and their taste for designer clothes, sport utility vehicles, Scotch whisky and plastic surgery.

Chavez often urges Venezuelans to rethink their values, and the timing of his announcement appeared to be no accident -- just as Christmas shoppers packed malls elsewhere in Caracas.

He didn't preach against the buying frenzy in general, but did say at another point in his speech that "Christ was a socialist."

[Note that Chavez ideas are based on liberation theology, a philosophy that I have discussed in past posts [1,] [2], [3] and have claimed represents Obama's default philosophy (his overt philosophy is pragmatism).]

The state sanctioned seizure of private property by a cheap thug who justifies his theft by referencing the two most influential philosophers in Western civilization, Marx and Christ, demonstrates in stark terms the real consequences of bad ideas emanating from bad philosophers - ideas that a child could tell you are bad.

Production and The Primacy of Existence

After my recent post Two-Thirds of Economists Don't Understand Economics, I received several good comments. One was from Beth at Wealth is Not the Problem who correctly identified the underlying issue as being the theory of productionism vs. consumptionism and provided a link to Dr. Reisman's excellent essay Production vs. Consumption published in 1964. Beth also wrote a lucid explanation of the problem on her blog titled Consumption vs. Production, or...The Anatomy of a Stimulus which I highly recommend.

Also, Per-Olof Samuelsson commented:

Another place where Reisman covers this is in Chapter 15 of "Capitalism". There he shows that the contemporary way of counting GNP makes it appear as if most of what goes on in economic life is consumption, whereas, in actual fact, most of what goes on is saving and investing.

He is referring to Dr. Reisman's treatise which you can link to here. Dr. Reisman explains how modern economists calculate national income and shows fundamentally how their method violates the law of identity by not counting productive expenditures as expenditures. As Per-Olof said, this leads to economists overemphasizing consumer expenditure as it relates to economic "growth" or GDP. I have read about this elsewhere, e.g., Jesus Huerta De Soto's book Money, Bank Credit, and Economic Cycles but nowhere is this explained as clearly and as in depth as in Reisman's book.

Thanks again to both Beth and Per-Olof. Their comments helped to further my understanding of the topic greatly.

I'd like to make a further fundamental point on the ideology of productionism vs. consumptionism. It would seem that this dichotomy is an instance of the more fundamental philosophic dichotomy of the primacy of existence vs. the primacy of consciousness. From ARI's website, I quote Ayn Rand:

The basic metaphysical issue that lies at the root of any system of philosophy [is] the primacy of existence or the primacy of consciousness.

The primacy of existence (of reality) is the axiom that existence exists, i.e., that the universe exists independent of consciousness (of any consciousness), that things are what they are, that they possess a specific nature, an identity. The epistemological corollary is the axiom that consciousness is the faculty of perceiving that which exists—and that man gains knowledge of reality by looking outward. The rejection of these axioms represents a reversal: the primacy of consciousness—the notion that the universe has no independent existence, that it is the product of a consciousness (either human or divine or both). The epistemological corollary is the notion that man gains knowledge of reality by looking inward (either at his own consciousness or at the revelations it receives from another, superior consciousness).

The source of this reversal is the inability or unwillingness fully to grasp the difference between one’s inner state and the outer world, i.e., between the perceiver and the perceived (thus blending consciousness and existence into one indeterminate package-deal). This crucial distinction is not given to man automatically; it has to be learned. It is implicit in any awareness, but it has to be grasped conceptually and held as an absolute.

The idea that the purpose of economics is to study the problem of production or "productionism" rests on the observation that man must produce in order to survive. It recognizes that man's desire for wealth is unlimited but that he must produce that wealth. Fundamentally, this represents a recognition of reality. The idea of consumptionism is a total reversal. It starts with the idea that the "goods are here" and we must figure out how to "allocate" or "consume" them. Of course, the problem of producing the goods is not considered. I quote Ayn Rand again:

Observe that the philosophical system based on the axiom of the primacy of existence (i.e., on recognizing the absolutism of reality) led to the recognition of man’s identity and rights. But the philosophical systems based on the primacy of consciousness (i.e., on the seemingly megalomaniacal notion that nature is whatever man wants it to be) lead to the view that man possesses no identity, that he is infinitely flexible, malleable, usable and disposable. Ask yourself why.

See, for example, this recent article on the resurgence of Keynesian economics. Quoting the article:

More than 70 years after the ideas of a British economist were used to justify a huge expansion in the government’s role in the economy, John Maynard Keynes is back.

Almost everyone today agrees that a big fiscal stimulus is just what the doctor ordered to lift the U.S. economy out of what is fast becoming the worst slump since the Great Depression. (The few remaining limited-government types are hunkered down at Washington’s Cato Institute.) The only questions for the Obama administration are the size of the package (anywhere from $500 billion to $1 trillion) and its composition (infrastructure, tax cuts, transfers to the states, “green” jobs).

That the idea of government spending substituting for private demand is still kicking around after all this time makes you wonder just what kind of a science economics is. Why don’t we know with some degree of certainty whether old-fashioned pump- priming works? Do we care? Or is this about government appearing to “do something” -- anything -- in a crisis?

The author of the article then cites the difficulty of conducting economics experiments as an inherent dilemma in ascertaining the validity of such policies. Do you need to do an experiment to know that cheating reality can not work. Doesn't all of our experience in reality tell us that? Quoting one of the "hunkered down", "limited government types":

There’s only one problem with the theory: a “glaring logical fallacy,” says Dan Mitchell, senior fellow at the Cato Institute, a libertarian think tank. “In the real world, government can’t inject money into the economy without first taking money out of the economy,” he says. “The theory only looks at one-half of the equation.”

So it is believed by virtually all that the government can create "fiscal stimulus" by spending money on public works thus increasing demand. Where does the government get this money and isn't this a zero sum game? Who knows - we do not have enough data from our experiments. The Fed is encouraged to create money or "inject liquidity" into the system. Where does this money come from and what effect will the creation of paper dollars have on prices in the long run? We don't know because we can not figure out how to do a "double blind" experiment. Of course, cheating reality can not work. So how can the whole world be taken in by this kind of thinking? Quoting Ayn Rand:

They want to cheat the axiom of existence and consciousness, they want their consciousness to be an instrument not of perceiving but of creating existence, and existence to be not the object but the subject of their consciousness—they want to be that God they created in their image and likeness, who creates a universe out of a void by means of an arbitrary whim. But reality is not to be cheated. What they achieve is the opposite of their desire. They want an omnipotent power over existence; instead, they lose the power of their consciousness. By refusing to know, they condemn themselves to the horror of a perpetual unknown.

Oh well, maybe this time they will make it "work".

Where are the Evil Speculators?

Crude oil is now trading at $40 per barrel, but weren’t we told that the unrelenting greed of speculators and Big Oil were to blame for higher oil prices? What happened to the Congressional show trials of Big Oil executives by Big Government inquisitors and the calls for more regulation of speculators and windfall profit taxes on oil companies? How can prices go down and why don’t speculators just make prices go up again? What was the result of the various “investigations” undertaken by government committees? What happened? If speculators have "caused" prices to go down, should Congress give them an award?

Market Success

No doubt we will continue to hear that "market failure" is to blame for the current crisis. Market failure is a ridiculous concept in economics used to justify government intervention in the economy. It is generally applied whenever somewhat doesn't like some aspect of reality and wishes that it were different.

If a football team beats your favorite team, would you describe this as a "sports failure" in the sense that somehow "sports" has an inherent flaw which resulted in your teams bad performance? Or, would you take the score as a signal that something is wrong with your team and it needs to improve?

The meltdown in the economy and particularly the automakers is, in fact, a glaring example of market success. When a company fails to make a profit and its stock plummets and no one will lend it money, it is the markets way of saying "stop what you are doing." If companies continue to produce products that no one wishes to buy would this be an example of market success or market failure? If the economy falters due to the implosion of a phony government credit expansion coupled with government policies that encouraged stupid investments is this an example of market success or market failure?

If an x-ray machine detects a tumor, would this be an example of x-ray success or x-ray failure? Modern intellectuals and politicians would consider this to be x-ray failure and tell the patient to continue doing what he is doing and further recommend expropriating money from healthy patients to fund the poor cancerous patient's lifestyle. This, they declare, would be a justifiable intervention to remedy the x-ray's failure.

Claim That The Vote Against Auto Bailout Is Un-American is Un-American

According to the Governor of Michigan, the vote against the automaker bailout was “un-American”.

I thought being an “American” meant standing on your own and accepting responsibility for your own life and actions. I guess now it means being willing to expropriate money from people who earned it and giving it to corporations who make products that nobody wants and to their workers who demand to be paid exorbitant wages for making the unwanted products.

So that's what the Founding Fathers and the soldiers of the American Revolution really had in mind...ok...I get it now.

ARC: "buy a house, get a green card"

I love this idea.

Change We Can Believe In

I can not resist linking to my two favorite left wing writers on the Obama/Illinois/Clinton soap opera. No sooner does Camille Paglia ask What Do The Clinton's Have on Obama do we get the "bombshell" story about the Illinois governor which no doubt will spew collateral damage in all directions (except maybe Obama - as long as he plays ball...). Of course, anyone shocked by the corruption in Chicago politics hasn't been watching reality very closely. In fact, I think most people realize that our entire government is for sale. Logically, as long as politicians have the power of life and death over any special interest, pull peddling will result. (The solution is to remove the politicians' power.)

Also, Chrisopher Hitchens writes a great piece lamenting Hillary's nomination as secretary of state which includes links regarding the Clinton's dubious "foreign policy associations" as well as Bill's sordid rat-pack lifestyle. I thought the names James Riady, Johnny Huang, and Charlie Trie would remain ghosts of Clinton past but apparently we can all look forward to more ghosts of Clinton future as these political Rasputin's continue to live.

Bailouts II

It is immoral for the government to expropriate the money from the earnings of others and shower it upon bankrupt firms such as the automakers. If individuals believe it is truly in their self-interest to invest or provide alms for bankrupt firms they may do so – by purchasing their stock, bonds or by simply sending them money. The idea that the “need” of the automakers and their employees somehow justifies theft is the height of evil and is an argument that could be used to justify virtually anything. Since when does the “need” of anyone justify theft? If this argument is not valid in a criminal court, then why does it become valid when applied to firms?

Every business, whether big or small, must stand on its own merits. If it does not provide a product that individuals are willing to voluntarily purchase then it must restructure or fail and the faster the better. It is absolutely unconscionable that these CEO’s would plead for their Godfather’s in Washington to shake down taxpayers rather than focus on how to make their failing firms more profitable.

Bailouts

Imagine that a bunch of alcoholics sit around every day drinking at a bar, and two people come in alleging to want to help.

The first guy tells them that in order to recover, they must go home, stop drinking, experience the hangover, and go through a rehab process that will be difficult but reassures them that in the long run, they will all be better off. They other guy sympathizes with them knowing that hangovers hurt and that rehab is life altering and painful. So, he offers to buy them some more beer. (update: this is wrong - I should have said "he offers to force other people in the bar to buy them more beer".)

Which approach is better, and does the offer of more beer constitute a "bailout"?

Two-thirds of Economists Don't Understand Economics

I keep hearing a statistic being thrown around on the business shows and now in print. Here is an example where the concept appears twice in one article:

According to preliminary figures released by ShopperTrak RCT , a research firm that tracks total retail sales at more than 50,000 outlets, sales over the Thanksgiving weekend rose only modestly. Investors are worried that this portends a disastrous holiday season, which would be troubling not only for retailers, but for an economy that depends on consumers for more than two-thirds of its growth.

..."Unfortunately, two-thirds of the American economy is based on the spending of the American consumer," said Mike Stanfield, chief executive of VSR Financial Services. "When the consumer pulls back, it's very hard for the economy to gain much traction."

What does it mean to say that “two-thirds of the American economy” is based on “consumer spending”?

How does the act of “consuming” lead to “growth” at least in real terms? What is “growth” in this context? If I buy a pet rock, does that “grow” the economy or does it just get me a rock and the guy who sold it to me some money which he will probably use to find more rocks? If a lot of people buy pet rocks will it grow the economy? Would if they buy them really fast? Will this lead to even faster growth?

If a bunch of cavemen 10,000 years ago used dirt as money and traded it with one another for such items as leaves, rocks, and bark - would that have helped to “grow” their economy? On the other hand, what if one of the cavemen discovered fire, or invented the wheel, the spear, or the gun? As a result of these inventions, wouldn't other cavemen have more time to invent more things rather than wasting time trying to kill squirrels with bark or rocks? Would such productivity truly grow their economy and improve their lives?

Therefore, what is more important to an economy: "consumer spending" or saving, capital investment, and productivity?

"Domestic Catastrophe"

The Drudge Report links to a frightening Washington Post article detailing a plan to station uniformed troops inside the United States:

The U.S. military expects to have 20,000 uniformed troops inside the United States by 2011 trained to help state and local officials respond to a nuclear terrorist attack or other domestic catastrophe, according to Pentagon officials.

The long-planned shift in the Defense Department's role in homeland security was recently backed with funding and troop commitments after years of prodding by Congress and outside experts, defense analysts said.

There are critics of the change, in the military and among civil liberties groups and libertarians who express concern that the new homeland emphasis threatens to strain the military and possibly undermine the Posse Comitatus Act, a 130-year-old federal law restricting the military's role in domestic law enforcement.

Let's assume this is not a sinister plot (which I do not rule out) and take it at face value that members of the United States security establishment are genuinely worried about the terrorist threat. Even under that premise, this represents complete and utter negligence on the part of the federal government to protect the United States from military attack and additionally threatens a massive infringement on civil liberties.

Robert Tracinski once described the emphasis on "homeland security" as America's Maginot Line referring to the useless fortifications and obstacles set up by the French in the run up to World War II. In other words, instead of identifying and defeating our enemy militarily, the United States is retreating behind a wall. Instead of using the most sophisticated intelligence and military in world history to name and annihilate the perpetrators of such attacks (see Iran, Saudi Arabia, and Syria), the federal government is going to turn our military inward to harass American citizens on the premise that it is "protecting" us from a "potential" attack.

This plan needs to be defeated not only on grounds that it represents a violation of Posse Comitatus but also that it represents a total appeasement of our enemies. See Dr. John Lewis site for more on history lesson's regarding appeasement and the proper approach to foreign threats.