Thursday, March 5, 2009

Must Things Get Worse Before They Get Better?

Frequently, you hear Obama and his ilk make the claim that economic conditions are "likely to get worse before they get better." Now in the practical sense that his administration's policies are designed to destroy the economy, I agree with them. However, those making this claim are the ones who are in control of the policies and therefore they are unlikely to believe their polices are the cause. In other words, they appear to be making this claim on the premise that it is a metaphysical absolute that things must get worse before they get better. It's almost as if they believe there is a mystical force shadowing the nations' economy which necessitates recession and malaise and which can not be understood or resisted.

Is this true? Must things get worse? Also, many in the financial industry and elsewhere are absolutely bewildered by Obama's plans which fly in the face of logic and history. Why would he propose such policies?

The fact is that the vast majority of the United States consists of hard-working, productive people dedicated to pursuing their own rational self-interest. The combined knowledge base and level of technology is at the highest point in world history. In other words, we have several hundred million people (including those that would like to immigrate to the United States) who are ready to produce, innovate, and build. Given people's unlimited desire for wealth and the mind's infinite capability to innovate there is enough productive capacity to progress continuously and indefinitely. We could progress continuously and indefinitely in such a way that the amount of wealth and the standard of living potentially achievable is literally unimaginable as there is no telling what brilliant and life giving innovations will take place in the future.

All that is required to unleash this level of production are the political preconditions necessitated by man's nature as a reasoning being - those preconditions are the protection of individual rights meaning the right to think and own property. To the extent that the government protects the right to think, produce, and trade, our nation would experience unlimited and unending prosperity. Given these fact, it is ludicrous to believe that in a free market there would be some kind of inevitable boom-bust cycle.

What consequences do these facts have as they relate to the question of whether things must get worse? To see this, imagine that I were king for a day. Every policy I would adopt would be designed to increase freedom and therefore would result in the rational expectation of future prosperity on the part of producers. This would lead to widespread increases in valuations of all productive assets. To the extent that producers believed my changes would be long lasting, their expectations for increases would be even greater as the value of future cash flows would be expected to be even greater. The mere expectation of the liberation of the economic system would lead to exploding equity prices and declining interest rates. Therefore, to the extent that producers believed my policies would be enacted and long lasting there would be immediate results in terms of decisions by investors to make productive long term investments manifested in increasing asset prices.

Yet, Obama believes things will get worse? Why? Consider Obama's previous statement [1]:

There is no doubt that any policies I implement will be based on the economic situation I inherit from George Bush - ...as a manager of the economy you should base your decisions on facts not ideology - so even if I am predisposed to a certain set of policies I will want to see what's going on at the moment and ask a wide range of viewpoints from business leaders...some of these [tax increases] you could possibly defer..."

As I argued in my last post, the philosophy of pragmatism implies the rejection of causality as it rejects the validity of any ideology. This doctrine puts the pragmatist in the position of not knowing whether his actions will “work” as I further documented here [2]. Therefore, the pragmatist must simply act and then wait for the results of his actions to be observed. Depending on what happens, he may have to act again in a way that will be determined by the facts before him at that time. Accordingly, there is literally no way for him to know what will happen. Therefore, to prepare his constituents for the possibility that the plan will not work immediately as he collects data from his observations and waits for others to reach a consensus, he must publicly proclaim that things may get worse before they get better.

Second, Obama's approach is built upon a contradiction. He believes he can create economic prosperity while at the same time destroying productive assets. He is destroying productive assets through increased taxes on the income and capital of the productive. He is borrowing money from the capital markets (which "crowds out" productive investments) and consuming it. By increasing the budget deficit, he is increasing the future debt of the taxpayer and properly inciting fear of massive future inflation. He is threatening greater government interference into the health care, banking and energy industries. Every proposal he has made has been virtually the exact opposite of what would be required to bring about economic prosperity. But why would Obama even propose policies which seem at odds with the laws of economics or the nature of reality?

This statist acceleration is being brought about not only because of his pragmatist approach which rejects the laws of nature but also because of his desire to satisfy his default standard which is based upon Marxism. In other words, he believes that it is unarguable that the purpose of government is to take from the productive and redistribute it to the non-productive. This is an unquestionable premise from which Obama and the Left generally proceed. This is why he rejects ideology in favor of action. In his mind, what is moral has already been determined. It is an absolute beyond debate. Therefore, his primary objective is to effect some sort of egalitarian society through his "actions". If he achieves "economic prosperity" but the outcome of this prosperity result in some being richer than others he would not consider his plan to be "working."

Those that are confused by Obama's approach must realize that his goal is not necessarily to achieve "economic prosperity" per se. His goal is a contradiction. His goal is to have economic prosperity in the Marxist Utopian sense of an egalitarian society that produces wealth which subsequently is "allocated" by the rulers to those most in need. He wishes to increase production by punishing the producers. Such an approach can not "work" and has never "worked" because it is inconsistent with man's nature. Keep in mind, when Obama says that things will get worse before they get better - ask yourself what he means by "better".

13 comments:

Beth said...

Doug,
What you say here is true, but everything he is doing is supported by economists like Paul Krugman: massive deficit spending to fund fiscal stimuli in order to boost inadequate aggregate demand. I am currently reading his book the Return of Depression Economics and the Crisis of 2008. It is absolutely astounding how thoroughly he promotes a return to the failed policies of Keynes and fails to even consider the role of central banking in destabilizing the economy through its monkeying with the value of money.
Obama would do what he is doing without this theoretical justification, but it sure makes his job easier when Nobel Prize winners support his errors.

Doug Reich said...

Beth,

Thanks for your comment.

What you say is true, and I believe is further evidence of my claim. Since the pragmatist rejects principles he must rely on others by default since he is unable to think independently. He then chooses advisors whose theory resonates with his default philosophy of altruism despite the obvious logical contradictions of a Keynesian like Krugman. Obama just wants it to "work".

Here is a partial quote from Rand I use in a post I'm writing now regarding pragmatism:

"..this school decided that objectivity consists of collective subjectivism—that knowledge is to be gained by means of public polls among special elites of “competent investigators” who can “predict and control” reality—that whatever people wish to be true, is true, whatever people wish to exist, does exist, and anyone who holds any firm convictions of his own is an arbitrary, mystic dogmatist, since reality is indeterminate and people determine its actual nature."

Let me know if this addresses your point.

Beth said...

Doug,
I am not sure if that quote gets at what I am saying.

Obama is moving ahead with his socialist plans because these are the ideas which have gained him populist support in the past, and we are now in a time when people are like the proverbial deer in the headlights. The economy seemed to be on auto-pilot and headed toward eternal growth, so people quit asking "What system creates wealth?" Now that we are in hard times, the general public lacks the economic knowledge to critically analyze the situation, leaving them vulnerable to a slick presentation promising salvation. This is compounded by the support of Obama's statist plans by individuals like Krugman who carries with him the credential of "Nobel Laureate in Economics."

Hungry for reassurance, people listen to what Obama says, and don't bother with the follow up. He says he's for bipartisan solutions, but shuts out those who disagree with him.(See his recent summit on health care reform.) He claims to want "what works" and then ignores the failure of socialism and the success of free markets. He says he's not for big government, and then promotes the largest expansion of government since FDR.
And, individuals like Krugman who were previously side-lined (because Keynsian economics has failed so miserably in the past) are resurrected to provide justification and an air of legitimacy for what Obama wants to do any way.

What this country needs is a crash course in economics, if for no other reason than to just understand the debate. Then we can grapple with "checking our premises" --like, if central planning is a bad idea, why do we have centrally-planned banking?

You are making good points about the need to be principled rather than pragmatic. That in itself will require a significant shift in thinking. Our attack can be double-pronged: One prong attacking the pragmatist approach and offering a principled approach to replace it. The other prong is is to demonstrate that by their own criteria of "doing what works" they are promoting the wrong ideas.
People like Krugman must be taken seriously and his ideas discredited by the facts and better theory.

Doug Reich said...

Beth,

I do not think Obama has adopted these ideas as a means to gain support. Obama's ideas are just a rehash of the typical Leftist program that he has accepted by default from the culture and his teachers. He is wholly original and a total conformist. He is popular because his teleprompted message of altruism and collectivism resonates with the culture at large.

I do not agree that the country needs to understand economics at a detailed level although it would certainly help. The American colonists in the Revolutionary era did not understand economics in any more than a common sense way. They were motivated morally in the sense that they believed they had a right to live their life as they saw fit. The belief in the sovereign individual and natural law were byproducts of the Enlightenments reverence of reason and the efficacy of the human mind.

I hold that the lack of understanding in economics is not primary. It is a byproduct of our culture's wholesale dismissal of reason and principles. Today's Keynesian economist provides a pseudo-scientific veneer to the altruist-collectivist message. In other words, they provide a rationalization for left wing politicians to do what they think is "right" in that it holds out the promise that Obama and his ilk can achieve a contradiction: they can have egalitarianism by government fiat while achieving wealth and prosperity.

I do see absolute value in disproving the Krugman's and showing people that their ideas will not "work" but let's face it -the best minds in the world have disproved Keynes over and over for decades. People are rejecting capitalism because they associate it with "selfishness", "greed", and "evil".

I know people who absolutely understand the economics but are not effective in terms of politics or advocacy because they do not understand the moral argument for capitalism and freedom. If we can win that argument in the sense of rekindling the American spirit of individualism the economic argument will be a "duhh" for most people. Only a dyed in the wool altruist could believe in the economics of Keynes or Marx.

I'm babbling so I will shut up now. Let me know what you think.

Doug Reich said...

note: I meant "wholly unoriginal" in last post.

Beth said...

Pretty good babble.

I must admit I go back and forth on which tact is the best to take: the moral or the practical. Of course we need both and in truth they are indivisible, but the problem I find is that most people are nowhere near ready to reconsider their altruism. If I start by talking about self-interest or Ayn Rand I am immediately stereotyped and dismissed. In using economics as an opener, a greater number are willing to accept that there might be viable alternatives and reasonable criticisms to our current policies. Of course, for lasting change we will need a fundamental shift in moral premises. In order to have any effect though, we must first find a way to engage in a meaningful dialogue.
Thinking back to conversions I've had recently, I guess I tailor to topics the individual.

Doug Reich said...

I guess we are talking about two different problems. I think in a given circumstance, if you are debating or arguing with an individual or group the approach to take is entirely contextual. It may be entirely inappropriate to be too abstract in certain situations. Although, I still find even in situations where you are debating an economic point that the more abstract the better. Even most "right wing" people rarely think of the bigger picture issues related to individual rights and freedom. They take the current political structure of taxes, the federal reserve, regulation, etc. as the given and argue from there. So to the extent that you can abstract the bigger problem, you will be more effective. However, in a business context, it is appropriate to be more concrete since the goal is often how to exist now - not how to change the culture in the future.

From the standpoint of being an activist in the culture, I agree with Rand's point about being an intellectual "wholesaler" rather than "retailer". So, the approach of a "movement" should be moral and philosophical since only fundamental ideas can change a culture. In this sense it is practical to be abstract. However, of course each person can specialize and focus on particular issues depending on their knowledge and most importantly their personal interest in a subject.

Like you said, many people will be turned off if you get too abstract because they do not see the relevance. So, one job is to get people to understand the signficance of fundamental ideas and how they impact us practically. In other words, we should not necessarily argue for a position in certain contexts but for the idea that ideas matter. That's one of my goals with these pragmatism posts is to get people to see how fundamental philosophy plays out in reality and how it affects us.

In some cases you can do both - make a practical argument and tie in the more abstract principle.

Anyway, this is a big issue - the most imporant points are probably context and the practicality of fundamental ideas.

Galileo Blogs said...
This comment has been removed by the author.
Galileo Blogs said...

Doug,

I have two comments and a question. First, thank you for a great explanation of the primary role of philosophic premises versus subsidiary principles, such as economics. The example of Obama is excellent. With Marxism as his base, his other actions make sense and no "practical" argument can ultimately dissuade him.

Also, I agree with you that the battle is philosophical. Until reason, egoism, and individual rights are validated, economic arguments won't "work." There is no way to shortcut this process. Of course, one must keep fighting on the economic realm, but until the moral/philosophical case is won, a Christian (or Marxist) for example, will always say, "Yes, but... we just can't let those greedy bastards make so much money, etc."

A conservative almost always starts off his attempted rebuttal of an Objectivist on one of these issues by saying, "I'm all for capitalism," in this breezy way and then explains why it should not apply in this instance. Capitalism is all good as a vague, floating ideal, but in the "real world," one must be "practical."

So, that brings me to my next comment. Your explanation of pragmatism in some of your posts is excellent. You cover the two big philosophical errors that are destroying the world: altruism and pragmatism.

****

Now, onto my question, which stems from a question you ask in this post: "Are boom-bust cycles inevitable?" I want to play semi-devil's advocate on this issue. I say "semi" because my own thinking is not yet clear on this issue.

My question is this: Will there be booms and busts in a *laissez-faire* world?

My answer, provisionally, is yes, but there is a huge caveat. With privately-issued, gold money, and individuals free to act and produce in a political system of secure property rights, as you detail in your post, there will not be the enormous booms and busts we see in our mixed economy that are the result of government intervention.

But, I can foresee smaller booms and busts driven by technological change and even occasional large-scale business errors. Could not a radical new technology (such as the development of the Internet in the 1990s or radio in the 1920s or the automobile in the early 1900s, etc.) induce a huge "flood" of capital into the new industry and cause economic changes that would be a small boom or bust?

As the money rightfully floods into the new sector seeking outsize investment returns, winners and losers will not be immediately obvious. I believe there at one time 3,000 automobile companies during the automobile boom. Obviously, only a handful ultimately emerged. As capital floods into that sector, there can be a boom. Might there also not be a small bust as the shakeout of winners and losers occurs?

In that process, perhaps some banks could get squeezed, and there could even be a small bust that affects a significant part of the economy.

My broader point is that one cannot assume omniscience on the part of market actors. People will have the freedom to act in their self-interest, but they will not have perfect information as they act. As many market participants adjust their plans to reality, is it not possible that significant clusters of "errors" can be made that can have a rather broad impact on the economy?

Note that I put "errors" in quotes. They are errors when viewed in hindsight, but they are not imperfections in terms of man's or the market's nature. One cannot demand omniscience. That is why this market outcome. It is perfect in the sense that it is perfectly compatible with the nature of man and reality.

Its perfection is not contradicted if there are (small) booms and busts. To validate capitalism, one does not need to argue that there will be no booms and busts. They are likely to occur, if I am correct in my hypothesis.

What do you think?

Galileo Blogs said...

Sorry I did not proofread carefully. There were a few typos. I will correct one here that could affect the meaning. In the second to last paragraph, second to last sentence, I left off the last two words "is perfect." The sentence should read:

"That is why this market outcome is perfect."

Doug Reich said...

Galileo,

Thanks for your kind and thoughtful comments.

I was really hoping someone would ask that question - "will there be boom-busts under laissez-faire world?" If you don't mind, I would like to use your question as the subject of an upcoming post.

My short answer is that there would absolutely be contractions and expansions under laissez faire for just the reasons you elucidated. Investors are not perfect and there are certainly expansions and consolidations that take place within industries all the time. However, these expansions and contractions would be relatively mild and would occur in the context of massive overall expansion. In other words, while these revolutions in technology cause a consolidation and changes within an industry, keep the context in mind. The reason for the expansion/contraction is fully positive in that a new technology has been created which will increase productivity and thus increase everyone's standard of living - even those affected "negatively" in the short run. For example, consider the effect on the cavemen when someone invented the spear. This probably put the guys who threw rocks and animals out of business, but it certainly was incredibly positive for everyone in a very short time. In other words, change in this sense is a natural part of man's development and it can't happen in some perfect way. Capitalism allows this to occur in a way that ultimately benefits all. Expecting positive change without temporary disruptions is irrational. This effect would be relatively muted in comparison to the effect of malinvestment throughout the economy that results from inflation. An expansion on the basis of mere credit expansion is artificial and destructive in obvious and not so obvious ways. Also, as an economy matures, the effect of any one technological change is usually less as it relates to the overall economy. For example, the advent of the train in the 19th century was a dramatic revolution that changed virtually every aspect of production. A technology like the internet, although revolutionary, should not have as dramatic an affect.



I think one interesting area that is not obvious to even free market advocates and the subject of a previous post of mine is the role of contract law viz-a-viz fractional reserve banking. I believe that fractional reserve banking also can create boom-bust cycles or at least exacerbate the otherwise mild expansion and contraction. I hold that under a proper definition and understanding of contract law, fractional reserve banking would essentially be illegal and deposit banking would be separated from loan banking. Fractional reserve banking even under a gold standard led to boom-busts especially when it was coupled with the government's unwillingness to let banks fail (which occured regularly in the 19th century), i.e., the government did not uphold banks contractual obligations to redeem in specie. They would suspend the gold standard which caused moral hazard, i.e., banks were irresponsible because they knew the government would bail them out. Sound familiar?

Anyway, hope this helps towards an answer and I will try and address this as best I can in a future post.

Thanks again!

Galileo Blogs said...

Ah, Doug, this is an enjoyable discussion. So much so, that I am pursuing it at the expense of work! Well, that is like eating a bag of Doritos while I am on a diet. I am just going to do it, and deal with the consequences later. (No, I am not irrational, but I don't think I need to explain that...)

Your two points are nicely elucidated. I look forward to your longer post on economic contractions-expansions ("booms and busts") in a laissez-faire world. I agree with everything you said, and I appreciate the subtlety with which you handle the issue.

Part of my reason for bringing it up is to challenge two thinking errors that otherwise-advocates of capitalism can make. One is a consequence of viewing things strictly from some sort of "efficiency" or "good outcome" standard. This is how conservatives typically justify capitalism. Capitalism is good because it has good consequences -- e.g., it helps the poor, results in the greatest wealth for the greatest number, etc.

But, such thinking often flounders when confronted with real-world outcomes under capitalism, such as market-caused expansions-contractions (as opposed to interventionist-caused ones) or pollution, etc.

It flounders because the argument is not grounded in a proper view of man's individual human nature.

First, man is an individual and has individual rights. That is the proper base upon which to ground capitalism. A collective outcome, such as those above is a consequence of capitalism, but cannot be its primary justification (even though those are good outcomes).

Second, man has a particular identity. He is not omnipotent nor omniscient. This realization refutes the widespread economic ideal of the "perfectly competitive" economy that is built on "perfect information."

It is on *that* basis that an economist can be troubled by (mild) booms and busts in a laissez-faire world. For, if the [impersonal, collective] "market" "perfectly" processes all information, how can there be any "errors."

But, building upon a proper view of human nature, an economist should reject this unreal standard. Information is not "perfect" or "costless" because man has a mind. Information requires effort and man cannot know all factors when acting. Therefore, he can act in ways that are judged in hindsight as mistakes.

I will stop there on Point #1 (my hands are getting sticky from eating so many Doritos, and my work phone is ringing! (ha, ha)).

Regarding fractional reserve banking, your argument is clear. It does seem logical that it will exacerbate the booms and busts that we are discussing. But, should such banking practices be illegal?

If you haven't read it already, one book that is helpful on this subject is Richard Salsman's "Breaking the Banks." It is helpful as an institutional description of the history of American banking. One must carefully tease apart the various and sometimes subtle ways that government intervention (even during the so-called "free banking" era) helped cause booms and busts.

If we had national banks, instead of unitary or state-only banking, for example, our banking system would have been much more stable.

Or, after the Civil War, if banks weren't compelled to tie money issuance to their supply of government bonds, which is an inflexible base, the system would have been more stable.

There are also legal issues with regard to whether government could forbid a voluntary contract with banks that involved fractional reserves, but that is a separate issue.

I will stop here after throwing out these ideas. My Dorito bag is, indeed, empty!

GB

Doug Reich said...

LOL, and it was the big bag not one of the mini-size bags!

I agree totally with Point #1 and I think it is an excellent identification. It is a another good example of how not defending capitalism properly, i.e., by not grounding capitalism with a proper view of man's nature and by understanding the nature of individual rights, so-called defenders of capitalism get tripped up. You provide an excellent example of how the utilitarian argument can fail due to real world consequences that are perfectly natural and to be expected.

With regard to fractional reserve banking, I began to address this in more detail in my post

http://dougreich.blogspot.com/2009/01/tales-from-history-of-money-and-banking.html

but let me say that I do think it should be illegal if you have a proper view of contract law. Just because two individuals enter into a contract - it doesn't necessarily have legal protection, e.g., say we entered into a contract to commit a murder or a fraud. I believe deposits should be distinguished from loans and proper contracts should make this distinction. This issue really belongs to the philosophy of law and contracts. I have some references in that post, and again, I will address in more detail because my thinking has progressed since I wrote that post.

Excellent stuff - please continue commenting away and providing us good insights.