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The death of Tony Dye – Dr Doom

It might seem strange that I would be saddened by the death of man who was supposed to have admired Lord Keynes, but Tony Dye knew a credit-money bubble when he saw one. What Tony Dye did not understand was politics. Every time he was certain that the crash must come, Alan Greenspan (and the mini me versions of him in charge of such institutions as the Bank of England) would just create more money to keep the credit boom going.

“But if he does that it will just make the crash worse when it does finally come” seemed to be Tony Dye’s position, and he was right.

However, he did not understand that political types (and Greenspan was certainly a political type) do not care about the long term.

“In the long run we are all dead” was the position of Lord Keyes, and Tony Dye is now dead. However, he did care about the long term – and the people who are left to live in it.

37 comments to The death of Tony Dye – Dr Doom

  • Having read Greenspan’s essay on gold in “Capitalism: the Unknown Ideal”, (an Ayn Rand collection), I always wonder if he set out to deliberately destroy the fiat money system. Looking at economic data, I always wonder if he succeeded.

  • permanentexpat

    Over at EUReferendum:

    “Time to press the panic button?”

  • Paul Marks

    Destroying the system by taking it to its “logical” conclusion would not be something I would favour (nasty sell out reformist that I am). But Rich Paul may be correct.

    My own guess is that Mr Greenspan (and the new head of the Fed) is just a man who has blinded himself to reality.

    Both A.G. and B.B. endlessly talk about how they must create more money (they do not use those words – but that is what their words mean when one translates them into English), in various complex ways, in order to “save” various enterprises and, by extention, the whole economy.

    “But did not our previous money supply expansions create the very conditions that led us to insist we must now increase money supply even more to save X, Y, Z?”

    This is the question that they are careful never to ask themselves.

    Ayn Rand was right to fling the dinner plate in his face.

  • ras

    The last time the money system collapsed was at the Depression, under a gold standard.

    Bond markets then, as now, were an order of magnitude larger than stock markets, and govts worldwide were in over their heads on debt.

    Info moved slower back then, so the dawning realizations and the domino toppling moved slower, but it was relentless, nonetheless. And as those much larger bond markets saw the writing on the wall, they tried to move, in a sort of reverse flight to quality, into stocks. Moving even just a fraction of that much capital from the large bond mkt to the small stock mkt caused the latter to skyrocket.

    The rest you know. In one of the sadly great propaganda triumphs of history, the debacle of govt debt/collapse was successfully blamed on free markets.

    So why would Greenspan, a student of history, repeat this?

  • But don’t forget, ras, one of the contributing factors to the Great Depression – Federal Reserve Notes (those things in your wallet you call ‘money’) were also treated as legal tender, even though they were backed by nothing but debt. They were slowly forcing the gold and silver we used out of circulation, and though they didn’t accomplish it completely for several decades (1933 for gold in the hands of citizens, 1964-65 for silver, and 1972 for gold in foreigners hands), the process was underway at that time.

    Anytime debt is declared to be money, it undermines the foundation of the economy and pushes the nation towards insolvency. Be careful not to indict gold as a cause of the Great Depression, for it was not those who called gold ‘money’ who brought about the Depression, but those who called debt ‘money’.

  • Dr. Kenneth Noisewater

    Don’t panic…

    But if you do panic, be the _first_ to panic!

    (dunno who said it first, but they were right!)

  • ras

    “Be careful not to indict gold as a cause of the Great Depression”

    Not in the least. My intention, by noting the gold std of the time, was simply to pt out that it is no guarantee against a fiscal disaster.

    The real chg from abandoning the gold std was to guarantee that all subsequent recessions would be inflationary in character, never deflationary. Prior to that, preceding centuries had regularly had 50 years of deflation and 50 years of inflation, give or take a year or two. Generally, the war years were inflationary and the peace years deflationary.

    I don’t think we can return to gold, long-term, for a variety of reasons, its safe-haven-in-a-crisis status notwithstanding; I do think we need some sort of hard and fast standard that disciplines public spending, much as the gold std used to do.

    Lastly, free trade agreements exacerbate inflation, IMHO, not cuz trade is bad (it’s not; it’s good) but cuz serious currency manipulation is conspicuously ignored. If the meddling ribbon-cutters can’t subsidize goods and services directly to gain an advantage, they will debase their own currency to accomplish the same goal.

  • Laika's Last Woof

    If we used oil as our currency that would cure inflation. Would it solve our economic problems, though?

    Blaming Alan Greenspan seems to ignore the elephant in the room.

  • Midwesterner

    Please do not conflate ‘gold standard’ with ‘gold backed’. A gold standard is when a fiat currency is pegged to gold, which may then be held in fractional reserve. Gold backed is when there is an ounce of gold for every however many dollars.

    The more I look at our financial system, the more I think that fractional reserve and the entire meta-context that relies on it is the source of the greatest problems. If I was looking to save the dollar (which I am not) I would increase fractional reserve requirements for all government and government protected banks over a 50 year period until they were 100%. A gold ‘standard’ with 100% reserve would in fact be gold ‘backed’.

    People defending fractional reserve banking are defending redistribution of wealth. Some of them understand this, some do not.

  • moptop

    Look at this story from 2003 and see if you can see any singns of the apocolypse.

    “Among the hottest markets for traders right now: securities backed by adjustable-rate mortgages and credit default swaps, which are contracts written by a bank that pays the full value of a specified company’s bonds or loans if it defaults.”

    http://www.bauer.uh.edu/rsusmel/7386/bondtrading.htm

    Free money! Whodathunkit?

  • “But don’t forget, ras, one of the contributing factors to the Great Depression – Federal Reserve Notes (those things in your wallet you call ‘money’) were also treated as legal tender, even though they were backed by nothing but debt the power to steal.”

    There. That’s right now.

  • VieuxNaCl

    When you think about it, a lot of currency is backed by steel (and other metals), from which the US military is armed. Which is better for building confidence in a currency or a monetary system, gold bars in a vault or a carrier battle groups at sea? What would happen if the US stopped doing most of the work in ensuring free and safe sea lanes?

  • ras

    “Which is better for building confidence in a currency or a monetary system, gold bars in a vault or a carrier battle groups at sea?”

    GOLD is for the mistress—silver for the maid—
    Copper for the craftsman cunning at his trade.”
    “Good!” said the Baron, sitting in his hall,
    “But Iron—Cold Iron—is master of them all.”

  • MlR

    “People defending fractional reserve banking are defending redistribution of wealth. Some of them understand this, some do not.”

    Mind explaining this?

  • We don’t have to have a liquidity crisis. They can be forestalled until better circumstances.

    Eventually, though, better circumstances won’t come fast enough.

    Like the four-letter word, market failure happens. The real problem is they’re dismantling Glass-Steagal. This means the collapse can cascade through the economy and we’ll see the kind of global economic disruption that led to WW II — and there are nukes everywhere now.

  • Midwesterner

    M|R,

    For my own edification some time back, I have drew pages of boxes and arrows and names and numbers figuring out where everything goes in the Fed/Treas/Fractional Reserve system. In the real world, it is (deliberately) horrifically complicatedly obscure. But by sorting it down to its essentials in a model, the mechanism can be made visible.

    Let’s you and I play Monopoly™ some time and see how it works.

    Lets say nine players start with 100 dollars each and all sales are done at open auction (simulates the market). Democratic vote will decide which players may engage in fractional reserve lending (simulates politics). Everybody else can only lend hard currency.

    Lets say four players and I collude to engage in preferential treatment of each other. We five can use fractional reserve the other four cannot.

    To keep it simple, let’s say the other four colluders (in the real world, a couple of dupes would, too) all deposit their money with me and I lend it back to them. We have an initial kitty of 500 dollars (mine and their $100 starting stakes). By practicing fractional reserve lending I can actually loan them by the tenth deposit/loan cycle a total of $1785.25 (5 x $357.05) . This assumes that the player they spend the loan with turns around and deposits the money with me. So the five of us now have $1785.25 to bid against the other four players $400. We could actually have almost $1000 each if we managed to ring every last cent out of the system. By borrowing for all of our expenses and depositing all of our receipts, one can see how quickly the game would shift to the five of us with each lap around the board.

    Players not in the lend/borrow/lend/borrow/…/… system have $100 each to spend. People in the system have $357.05 each to spend. Needless to say, a little collusion goes a long way. Separating the players from the dupes in this example makes the racket a little more obvious.

    Was this enough to explain or do I need to carry it into more detail?

  • Midwesterner

    “have drew” ?

  • Brian Macker

    Midwesterner,

    Their are restrictions on who can collude which prevents the collusion from being as easy as you make it out.

    First off they have $500 between them. No matter how they lend the money out to each other there is still only $500.

    When they borrow they must have access to the possibility of buying an asset with a revenue stream in order to service any loan they may take out to buy that asset. However in your example there are no assets with revenue streams.

    Even if there were if any back and forth lending and purchasing occurs betwen the 5 colluders then the net benefit to them is zero.

    The non-colluders could always decide to lend to each other also. So there is no asymmetry of fairness there. Nice player a could lend to nice player b who happens to buy a performing asset with the money. He then provides a with part of his revenue stream to service the interest on the loan. Player a no longer has the money he lent to b. He only has a promise to pay it back based on the revenue stream. So a has less cash on hand. As long as a understands this and doesn’t think he can just retract the loan at any time then there is no problem.

    Any “collusion” that occurs between the five colluders requires one of the colluders to lend and one to borrow with a net gain in cash of zero. Of course colluder c1 is not going to lend to c2 out of the goodness of his heart. He going to want proof that c2 can pay him back with interest.

    So your model here is not sufficient to capture the nuances of the issue of fractional reserve banking. It’s not merely that every schmoo on the street is harmed by people lending money to each other. There is something more that goes on.

    Hint: There is a problem if and only if any player a lends to player b with b buying a long term capital asset that only has a revenue stream sufficent to pay back the loan, while telling a he has the capability to pay him back fully with cash out of hand he doesn’t have.

    This however is a fraud between a and b and doesn’t involve the other people, and gives a no ability to bid up prices in the economy. Player a may overspend on his budget based on his mistaken trust in player b but that’s only his problem when he runs out of cash and b can’t pay him. That does not effect any person who is not lending to player b.

    There’s no reason why a bunch of players might cooperate, not collude which is a loaded word, to pool their cash on hand, just in case any one of them has an emergency.

    I leave it to you to figure out how banks play a role in this.

  • Paul Marks

    The words of ras remind me why I hate the term “gold standard” – I do not like the term “gold backed” either. No offence meant to either ras or Midwesterner.

    Either a commodity (be it gold, silver, iron or whatever) is the money or it is not. If the commodity is the money – then there is no place for shell games.

    The late 1920’s credit money expansion (the credit money expansion of Be Strong head of the New York Federal Reserve) was justified in two ways:

    The first was “have no fear, the price level is stable” (the Fisher dodge – as if a stable “price level” index means that monetary expansion is not distorting everything).

    The other dodge was “we are on a gold standard”.

    Of course when credit-money bubble blow up and people asked for gold they did not get it – in fact the government took (by force) the gold that was in private hands and voided the gold clauses in private contracts (1933 – upheld in two terrible Supreme Court judgements in 1935).

    As for Alan Greenspan:

    He had an article in the vile “Financial Times” yesterday.

    Greenspan still did not accept any responsibilty for the credit-money bubble he created – indeed he did not even mention it.

    The cause of the present mess, according to him, is poor computer models and (of course) waves of “euphoria”. He might as well have blamed the mess on “animal spirits” as Lord Keynes did.

    Why would Alan Greespan “student of history” do this – ras asks.

    Because the man, right from 1987, reacted to every threat to the credit-money bubble by pumping it up yet more – thus making the long term problem WORSE.

    “You have only said what he did – not why he did it”.

    O.K. – Alan Greenspan is an arsehole.

    Is that blunt enough language?

  • Paul Marks

    “cold iron is master of them all”.

    The idea that state power is the measure of money.

    The “economists” of late 19th and early 20th century Germany pushed this line hard.

    It is false.

    A government can have a vast military, it can win loads of battles – but the money can still lose its value.

    “But the government can execute people”.

    Sure it can – and the money will still lose its value.

    Executing people did not make the price controls of Diocletian work and they did not make the price controls of Robespierre work either.

    Nor will it work for Chevez or Comrade Bob in Zimbawe.

    And nor will it work in the United States – no matter how many carrier battle groups there are.

    You will just drive goods out of the official stores and on to the “black market”.

    The “historical school” economists of Germany were flat wrong – there IS such a thing as economic law, and trumps any statute of the government.

    No matter how big the military is.

    People who want to understand why money has value should start with Carl Menger’s “Principles of Economics” (1870).

    But make sure to get a modern translation – the early translations are not good.

  • VieuxNaCl

    “cold iron is master of them all”.

    The idea that state power is the measure of money.

    The “economists” of late 19th and early 20th century Germany pushed this line hard.

    It is false.

    I would say that state power, or rather rule of law, matters in that it is under its protection that markets flourish. At least that distinguishes one flavor of fiat money over another.

    Since most here think fiat money is a fiction based on irrational belief, I might counter that so is the value of gold. What about gold is intrinically valuable other than its scarcity and beauty (and maybe its portability)? I’d rather have an equivalent value of diesel or food or bullets available when things go pear shaped. Seems to me it would be a sellers’ market in those commodities in an EOTWAWKI scenario.

    I wonder though, if one were to transact in something of real value what it should be. I would think gallons of oil or maybe BTUs of electricity. Though neither of these is really easily portable or bankable. Maybe printer ink ;-)

  • Midwesterner

    Brian Macker

    However in your example there are no assets with revenue streams.

    Yes there are. That is why I chose Monopoly with its extremely simplified property and revenue streams and made the following stipulation: “This assumes that the player they spend the loan with turns around and deposits the money with me.”

    Even if there were if any back and forth lending and purchasing occurs betwen the 5 colluders then the net benefit to them is zero.

    Are you basing your defense of fractional reserve systems on the claim that there is no benefit to the people that use them? That makes no sense.

    The non-colluders could always decide to lend to each other also.

    Actually, no they can’t. At least not in the real world. If I tried to spend the 900 fractional reserve dollars that one of my buddies gave me when he lent me the $900 fractional reserve money created from the $100 in his pocket, well, I would probably be in jail. Maybe him to. Yet if I try to reject as payment money that government approved banks created this way, well, there are laws compelling me to accept it. If this system is so fair and open, why did the Fed have to ban all competition and additionally pass laws requiring me to use only their money?

    BTW, your “Hint” would be correct in a world where money was real but it does not address the redistribution point at all. It only addresses plain old fashioned lying on a loan application. The fractional reserve system has far more insidious problems that have nothing to do with that.

    I’ll give you a hint. A ten dollar bill bought 32 gallons of gas when I was young. A ten dollar bill now buys 1/10 of that. The ten dollar bill has been in my dresser drawer the whole time. Where did all of its value go?

    I’ll save time and tell you. It went to every body that got ‘new’ money since that time. And while it is over simplification to rely on only one commodity to make this claim (the market supply and demand does fluctuate), this applies to every single commodity.

    When gas was $.32/gal, my dad bought a house for less that $16 thousand. The last time it changed hands, it was over $200 thousand.

    Back then you could buy a new car for $2500. That same car today (even with the benefits of improved production technology) sells for $25000.

    A human being is still a human being. And arguably not much smarter or stronger now than they were then. Check out this chart, which appears to correspond with this data. Are they really worth ~8 times more?

    And gold has been tampered with about as much as the government can. But in 1894 Pennsylvania construction workers made the equivalent of a little over an ounce of gold a week. Today, I expect we would find that is still approximately true. So if a long lived construction worker had put an ~1 oz twenty dollar gold piece away, he would have about the same value today. But if he had put away a twenty dollar Fed note, well, today he would have a twenty dollar fed note.

    Inflation is not a natural phenomenon like hurricanes and earthquakes. It is the steady redistribution of dollar’s value away from each existing dollar and to whoever has the ‘new’ dollars.

    This kind of inflation is so deeply ingrained in our meta-context that we treat it as normal and necessary. It is neither. It is redistribution.

  • Paul Marks

    The idea that economic value is subjective does not mean anything goes VieuxNacl.

    There were reasons why gold (and silver and other commodities) were used as money – and that was long before some Lydian king started putting his head on coins.

    And the reasons had nothing to with accept-this-as-payment-or-we-put-you-jail which is the basis of legal tender laws (or rather “give us this as taxes or else”).

    I was not kidding when I suggested that people have a look at Carl Menger’s Principles of Economics – but if people can not do that then have a look at Ludwig Von Mises’ “Human Action”.

    The evolution of money is important.

    On the redistribution point:

    Yes money supply expansion AT LEAST IN OUR WAY OF DOING IT (there is no Major Douglas handing out money to everyone) does redistribute income and wealth.

    When someone says “the money supply has gone up five per cent this year” (by whatever “M” they are using as the definition of the money supply) this does NOT mean that everyone has found an extra five per cent more Dollars in their pocket.

    There is no Chicago school style helecopter dropping money in the streets for anyone to pick up.

    It is more like the real Chicago – the city of corruption (the city of the Daley Machine and the Senator D.D. machine – and the city of Senator Obama, and the city about which Hillary Clinton wrote her thesis on noble “community organizers” – i.e. scumbags) where people pay vast taxes (for example the highest sales taxes in the nation) so that other people can have pay offs.

    In reality a increase in the money supply is not like water flowing everywhere – it is more like treacle flowing/ building up in certain places, with people who have sticky fingers. Not my way of putting it – I have stolen the picture from Hayek (see one of the essays in “New Studies” 1978).

    To use technical language – an increase in the money supply distorts the captial structure (the whole economy) by moving resources into places and with people (both in terms of investment and consumption) who would not otherwise have it – at the expense of other people.

    Most people judge “inflation” by rises (rather than the older way of an increase in the amount of money) – but have you not noticed that prices do not all go up at the same rate.

    There is normally a rise in asset prices (such as stocks or real estate) long before there is a general price rise.

    Distortion at work – and certain people profit from those distortions, and other people lose them by them.

    “But the asset price bubbles eventually burst” – so they do, but the people who profited most from the rise are seldom the people who are wiped out by the bust.

    A rise in the money supply is not done by magic – it is done via the banking system (the government controlled Fed, or whatever, and then the commercial enterprises that depend on it) and there are “insiders” who benefit and “outsiders” who get hurt.

    Nor is it a zero sum game.

    Because of the distortions the whole economy is worse than it otherwise would be.

  • Brian Macker

    Midwesterner,

    I actually know what I am talking about. I’ve read many economics texts from several schools. For instance, I’ve read “Human Action”, and “Man, Economy, State”. Big long treatises on economics both. You seem to favor the Austrian school, which I respect, but you seem to be too enamored of Rothbard’s position on fractional reserve banking, and also you’ve misunderstood it.

    The reason why gas prices are different now than when you were a kid is because of fiat currency. It’s not an effect of fractional reserve banking. So you are mistaken.

    I said that your example didn’t consider performing capital assets because it didn’t. In the game monopoly “the bank” owns everything from the start so it is highly artificial in the first place. Your comment didn’t mention how you corrected for this, or how it’s different than the real world.

    The game of monopoly itself assumes a “fiat currency” world in the first place because of the fact that the bank has an unlimited supply of money it can draw on. The rules to monopoly are if the bank runs out of money then you can just cut up strips of paper, write denominations on them, and start using them in the game play.

    Also their is constant monetary inflation as each player passes go, they don’t actually earn money from the existing pool held by the other players.

    I thought you had intelligently thrown all these effects out and were not playing by the normal rules in order to facilitate an explaination of fractional reserve banking unpolluted by fiat issues already inherent in the game.

    You were attempting to show how if everyone starts out with the same amount of cash then somehow the people who were colluding would end up with more “cash”. They can’t unless the bank draws from it unlimited supply of money. But that happens in normal game play without the addition of fractional reserve banking, for all players. Every time you pass go you get brand new, out of thin air, money.

    I thought you were attempting to revise the rules to show the effects of fractional reserve banking and your belief that it conferred an advantage to the 5 colluders in your example. It can’t, because the 5 colluders have no capital assets in your example so there is no way to transfer money between them via purchases of capital goods. In monopoly you start only with money. Even if all players started out with capital goods as assets the colluders have no advantage.

    Let’s assume your bank must hold 10% reserves and all of the players get 100 initially, and also that your bank can lend to you. All five deposit their $100 to the bank which then can lend out $450 total or $90 to each. Let’s assume the bank requires no capital good as collateral.

    You seem to think this somehow conveys additional purchasing power on them, but it can’t. That’s the definition of savings. You can’t spend it without withdrawing it. The second they all try to withdraw then it causes a run on the bank, with the bank having to call in the loans. The actual cash on hand that can be used for purchases never goes above $500 at any time. In fact, as we’ll see the colluders have less purchasing power.

    The Rothbard argument goes that the money supply has increased from $500 to $950. This however is a mistake. The players may believe they have $100 in the bank and $90 cash but that is not the reality. The reality is that pooled they only have true ready access to the $50 dollars held in reserve. The actual cash on hand is NOT $450 cash on hand + $500 on deposit but instead $450 cash on hand plus $50 cash in the bank.

    The true money supply as measured by cash on hand between these 5 colluders doesn’t in fact increase beyond $500 at any point. Their purchasing power as a group does not increase because of this. There is no way for them to buy more than $500 worth of capital goods with their pooled resources.

    To see why this is true just understan that each player may have $90 cash in their pocket and $100 on deposit, but they also each owe the bank $90. That’s the part you are missing in claiming they have an advantage. They can’t spend their deposit and the minute they all try to withdraw the full $100 at the bank it will cause a run. In fact the most that any one of the players could withdraw would be $50 and only one at a time. That’s because there only is $50 left at the bank.

    Putting the money in the bank actually reduces their purchasing power for in reality they can’t really touch the $50 either if the bank in truly following a strict 10% reserve policy. The minute one of them even took out a single dollar the bank would have to call in one dollars worth of loans. Since they are denominated at $90 loans then an entire loan of $90 would have to be called.

    So the true purchasing power generated by the money saved in the bank at a 10% reserve level is actually only 90% of the original amount deposited. As a group your colluders can only purchase $90 worth of stuff per person vs. the other “honest” players who can spend their full $100. After all they only have the $90 they borrowed and can’t really even touch the $10.

    Now we could say that only $89 was lent out to each which would allow them to touch $1 worth of savings each without triggering the recall of a loan, but again that leads to only $90 cash on hand.

    Only fiat currency can cause monetary inflation of the kind you describe over long periods, even according to the Austrian, Rothbard. Rothbard’s concern with fractional reserve is that he thinks that it is fraudulent to lend money out long term while misleading the depositor into thinking he’s depositing short term.

    Rothbard is concerned your colluders think they are living high on the hog with the mistaken notion they each actually have $190 dollars purchasing power. This can be a real problem and can lead to a business cycle, but in no way gives them an advantage over people not playing the “fractional reserve” game.

    It only makes the “colluders” more willing to pay a higher price for goods than the person who isn’t so fooled. Mainly because he feels cash flush. It’s only a feeling however, and not a reality.

    This idea that fractional reserve banking gives depositors and borrowers an advantage over those people not participating was actually presented as a criticism of Austrian economics and gold buggery. The idea being that with fractional reserve banking one can wring more efficiency out of the same base money supply. That is generate more paper currency per ounce of underlying gold.

    The flaw in this criticism is that it only considers positive accounts and not negative ones. For every dollar borrowed they forget that there must be a dollar saved. It’s at the second stage where this trick is played. In our example, after the first $90 loan is spent the person receiving the cash deposits it in the bank, and 90% of that is loaned out or $81. They add this $81 to the total money supply but forget to subtract the $90 that was deposited.

    Unfortunately, “money supply” as defined this way is not the same a total purchasing power. Another way to see how silly it is to think this way. The original claime might be with a 50% reserve I spend $100 and the seller deposits it with the bank lending out $50 then that being spent and the seller depositing $25, etc. With a 1/2 reserve the series is 1+1/2+1/4+1/8… which adds up to a multiplier of 2. You get the multiplier by inverting the reserve. The inverse of 1/2 is 2/1 which is equal to 2.

    However. suppose the seller skips the bank entirely and just spends the money himself. He can then spend the full $100, then the next seller in the chain can spend $100, and so forth. This, like the other chain goes on forever, however its’ the string 1+1+1+1+1+1+…. Which is infinity.

    Now certainly the fact I spent $100 doesn’t increase the total power to purchase by infinity. So what gives? Well, the problem is that it didn’t consider why I payed the guy in the first place. I owed him the money because he gave me something. The series really is 1+(-1+1)+(-1+1) … Each transation is a wash.

    The same is true in the money multiplier fallacy. The original example should have been 1+(-1+1)+[-1+1/2]+(-1/2+1/2)+[-1/2+1/4] where purchases are in round braces and deposits/loan pairs in square braces. As you can see everything cancels out except the initial term.

    Hope that helps you to understand. The problem isn’t fractional reserve. The only net “purchasing advantage” conferred by that is from savers to borrowers. Borrowers have greater purchasing power after borrowing money and savers have less after saving. That’s sounds funny because doesn’t saving increase your ability to purchase. Well no. That’s because really they are acting as creditors.

    They are saving in banks not saving by hoarding gold in their mattress. Only hoarders have increased potential purchasing power due to their activities. Savers are creditors and lose purchasing power by lending their money to the borrowers.

    However any intelligent person knows this. Hell, when I opened my first savings account they told me, “We lend out your money and you may not be able to get it back immediately under certain conditions. In return we pay you interest.” Close enough to that.

    So don’t be angry about fractional reserve, as it confers no disadvantage to those who don’t participate. Do be upset over fiat currency. Be very upset.

  • Brian Macker

    Midwesterner,

    I thought I’d tackle this issue separately.

    “Are you basing your defense of fractional reserve systems on the claim that there is no benefit to the people that use them? That makes no sense”

    I didn’t claim fractional reserve banking confers no benefits. It does and I hinted at one of the many benefits at the end of my first comment. That benefit being the ability to pool variations in cash on hand requirements in order to make the fraction each participant can lend higher than it would otherwise be.

    As an individual the fluctuation in my cash needs is much higher than if I am pooled with other individuals. I may on average need only 5% cash on hand, yet this may fluctuated up to 10, 15, or even 100% for short periods.

    If I know that occasionally I’m going to need 100% of my short term savings to cover some expense then I can’t every lend out my short term savings. Thus I cannot earn a return for most of the year.

    By pooling with others who don’t happen to fall short on the same exact day as me, I can earn interest on the full amount of my short term savings in the meantime.

    It works similarly to insurance. In this case instead of pooling risk of injury we are pooling risk of temporary cashflow problems.

    There are other benefits, such as having the case in a safe location. Again there is a pooling effect. Together we can afford better protection, there is economy of scale, and a tendency to outclass any local thieves. Honest people tend to outnumber crooks for the same reasons that prey always outnumber predators.

    The bank also gives the advantage of having experts in all the problems associated with lending money. They have lawyers, assessors, interviewers, accountants, etc. People who lend to banks get the same benefits of specialization that people who go to mechanics get. Not everyone can afford to take the time to become experts in car mechanics and not everyone can afford to become expert negotiators, lawyers, accountants, etc. Lending money isn’t a no-brainer. Especially commercial loans.

    So, no I didn’t claim there were no benefits. What I did claim however is that the benefits weren’t about increased purchasing power. In fact purchasing power is reduced by fractional reserve banking as I showed in the post I just did prior to this one.

  • Sunfish

    I’ll give you a hint. A ten dollar bill bought 32 gallons of gas when I was young. A ten dollar bill now buys 1/10 of that. The ten dollar bill has been in my dresser drawer the whole time. Where did all of its value go?

    I think it may be slightly more complex. A decade or so ago, I left college, sobered up, and got my first real job. That ten bucks would have bought six gallons of 85-octane at any pump in Colorado, or a box of cheap practice 9mm practice ammo at inflated retail prices, or dinner for two at a fast-food restaurant, or more than half a case of any of the year-round Sam Adams brews.

    Exactly your point, you say.

    I don’t think it’s just money supply expansion that accounts for that ten bucks being worth less than it was a decade ago. Asia wasn’t sucking up petroleum, or lead and copper, in the 1990’s the way they are now. Large parts of the world now have people who actually have money and want to buy things, at a rate that didn’t apply in my youth.

    By and large, I think that’s a good thing. Socialism is supposedly less appealing to the people who actually have stuff worth stealing. But I digress. [1]

    Ayn Rand was certainly right to throw the plate at Alan Greenspan[2], but he didn’t make India and China wake up one morning and start buying stuff.

    It is more like the real Chicago – the city of corruption (the city of the Daley Machine and the Senator D.D. machine – and the city of Senator Obama, and the city about which Hillary Clinton wrote her thesis on noble “community organizers” – i.e. scumbags) where people pay vast taxes (for example the highest sales taxes in the nation) so that other people can have pay offs.

    The poor people in Chicago pay the highest sales taxes in the nation. Everyone who can afford it does his shopping in Indiana now. My childhood was spent in another US city famous for corruption, and the popular sport among the Great and the Good was to point at Chicago and say, “at least we’re not as bad as they are.”

    [1] Okay, it’s not always true, but I don’t really want to hijack the thread to throw example and counterexample back and forth over what’s really a side point.

    [2] Did I just say that she was right about something?

  • Brian Macker

    VieuxNacl,

    “Since most here think fiat money is a fiction based on irrational belief, I might counter that so is the value of gold. “

    Well I’d say you were making a pack of incorrect assumptions here.

    First off those who are against fiat currency do not believe it’s “a fiction”. The value of money lies partially in its ability to be used to facilitate transactions. Certain a fiat currency can serve that purpose.

    What most people who are against fiat money object to is that it facilitates the ability of the government to charge a hidden tax on cash holders (and creditors) via what amounts to counterfeiting. A further concern is that if it is done incorrectly it can cause monetary inflation, which leads to a distortion in the market pricing system. That is, inflating leads to overproduction in capital goods that are further away from consumption.

    Housing being an example of a good that is far away from consumption. A house is “consumed” over a lifetime. As you can see from the housing bubble that concern is not imaginary.

    Depending on where the new money that the state generates via the creation of money you can get a bubble at any distance from consumption. If the government were printing new money to buy carrots then well the economy would start producing more carrots than anybody wanted.

    Turns out that during the 90’s the government had set the rules up so that new money could be generated in the financial sector, and that’s where the bubble arose first.

    Finally after the new money works through the system (and if it’s not being hoarded offshore like during the entire Clinton/Bush era) then it will start causing general price inflation. Monetary and price inflation are two different beasts.

    Basically we hate fiat money because it’s an invisble tax that distorts the economy by screwing up the market price signals. This in turn causes waste.

    An example of the waste cause by the unnaturally low interest rates of the 2000-2008 period is the housing bubble. Too many houses have been built, too many people are employed in housing as contractors, real estate agents, brokers, lawyers, investment bankers, etc. The bubble will pop and then a large proportion of those people will be out of work. Furthermore the excess housing will have tied up raw materials better spent elsewhere.

    You will see this in that there will be many vacant houses from people walking away from their loans. These houses will eventually be treated as sunk assets, lowered significantly in price, and sold. However, at a lower price than the costs of the inputs. In other words, a waste.

    “What about gold is intrinically valuable other than its scarcity and beauty (and maybe its portability)?”

    Most pro-gold economists are the kind of crazy intrinicists you seem to think they are. In fact it is possible to demonetize precious metals. Just make it government policy to steal any such metals found. They will lose all value they have for use as a medium of exchange.

    The reason why precious metals gain value as a medium of exchange when the government doesn’t ban it as such or outright steal it, is because of a number of intrinsic properties of these metals. They don’t rot, are durable, they are easily divisible, do not “grow on trees”, and are malleble into coin. It’s not bulky so can be easily hidden or transported.

    Those are precisely the properties one desires of a medium of exchange. In fact, we have to artificially create laws and set up procedures in order to artificially generate the same for paper currency. Paper must be retired and new notes printed because it’s not durable, we must artificially prevent people from printing their own notes lest they act like the proverbial tree leaves, etc.

    “I’d rather have an equivalent value of diesel or food or bullets available when things go pear shaped. “

    What a second that’s bait and switch. You were comparing gold to currency, so you need to maintain that. So which would you rather have when “things go pear shaped” paper currency or gold?

    I could say the same thing as you, “I’d rather have diesel, food, or bullets that paper currency”. Only difference being that I’d want far more than “the equivalency” because when things go pear shaped the government tends to print lots of paper currency sending it’s value into the toilet.

    Things are going pear shaped right now in a small way and people are going for gold and silver and dumping US dollars. It’s not because they are stupid.

  • Brian Macker

    Sunfish,

    Actually those commie countries switching over to capitalism was deflationary. The same amount of money chasing a larger amount of goods. Alan Greenspan didn’t realise this.

    Those foreigners didn’t have piles of US cash when they switched to capitalism that they just started buying oil and gas with. That’s naive.

    What actually happened is that they started producing more goods, and selling those goods to americans for dollars. They were more efficient at this because they had enormously undercapitalized workforce. Same dollar investment in one of them yielded more goods. On top of that the Chinese and Japanese started saving the profits they were making and holding cash at home (price deflationary) while buying US bonds.

    Greenspan had set a policy of price stability and so started “printing money”. This cause monetary inflation at home, but no price inflation because we were buying from overseas, and because there was a larger pool of goods in the market.

    The foreigners buying of bonds cause interest rates to lower and stocks to rise as borrowing became cheaper, which caused the foreigners to funnel some of this money into US corporations, and guess what they produce, more goods, which is deflationary, while at the same time some of the money purely cause stock price bubble.

    Not only that but rules were changed to allow stockbrokers to lend money out to buy stocks which was also a kind of monetary inflation.

    When the bubble popped the Fed turned on the spigot to correct things.

    By this time all the excess cash had lowered interest rates to the point where long term projects looked very profitable compared to short term ones. So long term projects like factories in china and construction spiked. All this excess production requires raw materials. So this cash started bidding up the price of raw materials.

    It’s not that the chinese are consuming so much more oil for themselves. We are actually the end consumer. They are buying the oil to produce product for us and we are shipping them the paper we are printing.

    During this whole process there was a shift of production from the US to overseas. Factories were abandoned here and set up there, etc. This is a long process. Our existing capital acted as a kind of buffer to hide the fact that we were living off foreign savings, and our own savings.

    That’s why we had a trade deficit. We shipped money and they shipped goods. They bought technological know how with that money, and build factories. Hell even our own government was subsidizing our own captialists to build overseas. Overseas investing became the rage.

    Plus we started an expensive war and borrowed money to finance that.

    Eventually this farce must come to an end. The way it has always happened when a government tries to live via fiat monetary inflation. Price inflation will occur.

    In this case however. IT’S GOING TO BE FUCKING AMAZING. We are the base currency PLUS foreigners hold large stocks of the stuff. Once the dollar starts falling seriously there will be a stampede for the door. We have never had these conditions in the US before. Other countries have. Britain lost it’s status as world currency because of similar events, although we have a far worse situation ourselves now.

    This process could only go on so long before the fiat inflation (counterfeiting) was uncovered. It was done with good intentions, price stability, but was misinformed at every level.

    So no the primary cause of the increase in commodity prices isn’t China. In fact, you are going to be in for a surprise. When the shit hits the fan commodity prices could well collapse. That’s what has happened in prior cases. There are economic reasons for that that I could explain to you very mechanistically but be sure it’s true.

    During an inflationary recession consumer prices increase and commodity prices have downward pressures. Of course (as you may not know) exactly what happens depends on the actions of the Fed. The Fed can make things work out badly in both directions.

    Of course a sufficiently high rate of inflation can even make the downward pressure on commodities appear as price increases.

    For example, no one is going to be buying lumber after the overproduction in housing that just went on. Lumber being a commodity.

    Every prior depression and recession has always been hardest on commodities.

    PS. Gold and silver are not pure commodities. Their current price increase was not because people are building houses or plastic bottles out of it.

    PPS. Although one day after the Fed finally decides to raise interest rates up to 18% again they will drop in price again. That’s a long way off.

  • Midwesterner

    Brian Macker,

    I enjoy reading your explanations very much. I hope you stay around here and participate in money and economic discussions whenever they occur. I suspect that will be quite often in our present economic climate.

    By the points you were making in your reply to me (ie the many references to inflating cash), I can tell that I pretty badly botched the points I was trying to make. Such is the curse of over simplifying.

    I will try some time this evening or tomorrow to have another try. The problem I am referring to is not the fiat printing press problem (all though that is a very real one) it is the structure of the banking system itself. I was meaning (whether I did or not, I am not sure) to pick out what I consider to be a major multiplier of the problems inherent in fiat currency.

    We live in a world that is almost cashless. I rarely use cash. Ever. Transactions are routinely leveraged right to the second. All lending expands the money supply, I think my major mistake was focusing on the method (fractional reserve) rather than how it has been optimized. Between mortgages and revolving credit, we are wringing the lending machinery tighter than ever before. Money never leaves the banking system. You are very right. Lending money doesn’t increase the cash supply. But it does increase the money supply. Imagine this hypothetical case. One bank, everybody on credit cards, instant clearing. That community for all purposes has a multiplier approaching 9. Doesn’t it? I’ve double checked myself several times and I still come to a total of leverage money available to purchase things that is a multiple of the initial deposit. As soon as the purchase is completed, the money goes back into the system to make another circuit with 10% reserved.

    True, this is a finite, not unlimited trend like printing can be. But it multiplies many times every addition to the currency. Inflation rewards debt and punishes saving. So debt grows to the maximum as a steady state. As a strong believer in individual rights, I don’t believe private persons should be told how to conduct their finances. Yet we are prevented by law from using any other medium of exchange.

  • Midwesterner,

    I’m really sick today so I can’t respond in any detail.

    This stuff is subtle and I’ve always been a much better thinker than writer. Part of the reason I started commenting on blogs was to improve my skills at writing and expressing my thoughts. I didn’t explain all the implications of the quite understandable mistake you made.

    I will make some points without explaining.

    1) In the example the cash available to buy doesn’t change, but that doesn’t mean it won’t have effects on prices. Prices are determined at the margin. The people who have these fractional accounts will tend to think they have more money, and will bid more for those few houses that are sold, than they otherwise would.

    2) Most people don’t think very deeply even when they are smart. I had absolutely no clue of the “rules” of fractional reserve banking, nor the implications, even after having taking university level economic courses which I aced. They never covered these subjects. So the vast majority of people using banks will think they have “more money”.

    3) The situation does cause monetary inflation as Rothbard defines it. It doesn’t increase cash on hand as you seemed to think. Nor does it provide any cash advantage to the people using the fractional reserve bank.

    4) The bidding at the margin does have effects that also make people think they are richer. This imaginary prosperity would be exposed as a delusion if every asset was put up for sale, or if everybody tried to withdraw their cash.

    5) With fractional reserve there is a person with an advantage, the banker. There are also two classes of “suckers” if they don’t understand the system, those who deposited cash and those who accepted the banknotes as payment for their goods. They are only “suckers holding the bag” if they are the last people to “get out” by refunding the bank notes during a run. Both savers and people who just accepted payment in the form of bank notes can be caught in bank runs.

    6) Those who happen to transact with the bank during a period when it is solvent are suckers may be deceived as to the amount of risk they accepted during the transaction, in that case they were “suckers who did not end up holding the bag”.

    7) Those “”suckers who did not end up holding the bag” that end up selling their asset at a higher price during the inflationary period are actually net winners, as are those who deposit and get the higher interest rates during this period but then withdraw before any bust.

    There is an ethical question here that I don’t quite know the answer to. Rothbard came down hard on the side that this was “fraud”. I’m not sure. If you are smart and know the rules then it really isn’t fraud. So any person using the system who understands it isn’t being defrauded. That would have to include people accepting banknotes in payment for their assets, who have NOT actually signed a contract with the bank. I think that the banknote would have to have a full explanation, in long detail, of what it exactly was, a promisory note, that there was risk, etc. for it to not to be fraudulent. A statement that says “You run the risk of losing the entire value of this note”.

    5) Because of the structure of your monopoly example the only suckers were the colluders. They were the only ones saving at the bank and accepting banknotes in payment. That’s why they had no advantage over the people who were not participating. They were essentially gambling with each other, for any one who happened to win well the loser would also be in the set of five people you proposed.

    6) Any one “saver” is much more likely to be left “holding” the bag than any person who is accepting banknotes as cash payment. Part of the interest payed by the bank is remuneration for this assumed risk.

    7) The person who accepts banknotes in payment for assets is also accepting risk for the short period he holds the note before he redeems it for cash with the bank that issued it. His remuneration for this would be charging a higher price for his asset for banknote vs. cash.

    7) When I was talking banknotes and cash I was talking about the real world way the fractional reserve system worked. Your “monopoly” model wasn’t capturing this. Since the “monopoly money” was not increasing it was essentially like gold.

    8) Your model would more resemble a real world system were all loans were not payed with banknotes but directly with gold. There is still an increase in price bidding for assets due to such a system but it is not remuneration for accepting any risk. There is no risk, therefore even if your colluders had bought assets from a noncolluder he would not be turning the person into a sucker of any kind.

    9) In the real world example the seller of an asset for banknotes is getting both the benefit of an increased price due to the self delusion of the buyer (he thinks his flush with cash when he isn’t) but also should be, if he’s smart, requiring an additional increase to cover the risk there may be a bank run before his note clears. He would not charge this for gold payment.

    8) Our current system has done away with the distinction between “cash” and “banknotes”. Which has extended implications which have different effects in a gold backed and a fiat system. I can’t go into all that.

    It’s not suprising that you botched the example. Tiny changes and differences change the dynamics. Rothbard is still correct that the fractional reserve banking system tends to cause booms and busts, but to my recollection he failed to explicitly mention the role that marginal pricing has in all this. He understands that prices are set at the margin and it is part of his economic model, however he failed to explicitly mention it during his exposition on the credit cycle.

    He did mention the issue of banknotes. Banknotes have a further inflationary effect beyond your example with monopoly money. This is because they are now being used “as money” in transactions. So that is inflationary in a way you didn’t capture in your model.

    Actually, I’ve never seen any discussion of a model like you made and it actually exposed for me some issues that not only I didn’t realize but that I have not seen in any of the economic books I have ever read. I’ve read “Theory of Money and Credit” also and tens of other books by Austrians, so I don’t think they realized these things either.

    The banknotes play a very large part of the fraud that Rothbard complains about. If the fractional banking system were changed so that banknotes had to be 100% backed by gold reserves I think that would solve a major issue here.

    Thanks, for helping me realize that.

  • Midwesterner

    Brian,

    Hi again. This week I have been having a dance with the latest flu du jour. It is mostly a prolonged headache and joints that crackle like a pitch pine camp fire. And it muddles me, rather. That is probably why I am having trouble converting what I think into what I say.

    That is one impressive reading list you’ve downed. I can’t even aspire to putting that collection of books on my ‘done’ list. Most of everything I’ve learned is from drawing diagrams and trying to account for all of the little bits. This gives me an eccentric view and a flawed vocabulary. But it certainly helps to sort the big stuff out of the clutter.

    I’ve railed (or should I say ‘raled’) against fractional reserve banking without ever saying what I would rather see in its place.

    I think of it as contract lending although it may have a generally accepted name. It includes peer-to-peer but it would also allow banks to function in their pre-fractional mode; as brokers and clerks of third party transactions. The lender enters into a contract either directly with the borrower or through a broker to lend money on specific terms. This does not exclude banks from a role in the lending process, but it does require them to match the loaned and borrowed amounts on synchronized terms. To write a 30 year mortgage would require something similar to 30 year certificates of deposit to cover the loan. They wouldn’t necessarily be exactly like a CD because, for example, they could shrink as the principle on the loan shrinks.

    Just a few years after the Fed Res act was passed, and still during WWI, my grandparents decided to buy a farm. They contacted a loan broker who put them in touch with various people who had money to lend. The reached an agreement with a lady in another city to purchase a farm and repay her on terms. There was (to the best of my knowledge) no bank involved. Almost thirty years and one ‘Great Depression’ later, the farm was payed off.

    What has happened under fractional reserve banking is that, as I think you touched on somewhere above, the money lent and the money borrowed are on different non-reconciled time frames. So when people begin to exit their bank accounts (perhaps as a response to inflation), there is nothing to assure that all of the loans are still covered. The advantage of returning to contract lending or something else similar is that there is no volatility in the money supply. It cannot unexpectedly expand and contract based on consumer behavior (or the government’s). It can still expand and contract, but in a much more limited and extremely predictable way. Would this shrink the amount of leverage out there? Certainly. Would this be a bad thing? I don’t think so.

    What needs to be kept in mind by all of the defenders of highly multiplied money is that it is only the money being multiplied. So many seem to think that real goods, manufacturing etc would shrink if we stopped the practice. No. But the ‘prices’ on them would. Money’s value would be returned to those holding the money and taken away from the banking system and its political supervisors. Banks would be returned to being keepers of money rather than sources of it. Instead of being required to trust banks and government officials with the value in our money, control would be in the hands of those who owned the money.

    As an individualist, I do not want the money in my pocket to be at the mercy of some central planning authority. The way to avoid that is to allow multiple currencies and to remove opportunity to play with currency from the political process. Let the owners of the money actually control it. I think the whole point of the Federal Reserve System was to take control of money and give it to the political process. We no more ‘needed’ the Fed than we ‘needed’ direct election of senators. It was just one more way of moving power to Washington.

    I’m sure I’ve probably muddled some major points in this comment too, but hopefully you are still checking in and can comment on them.

  • Paul Marks

    It is quite true that fractional reserve banking can coexist with both a 100% gold Dollar and no “national bank” (or Federal Reserve System or some other subsidy machine) and with no naional debt.

    After all, after Martin Van Buren stopped putting tax money into “pet” State banks (President Jackson having already got rid of the National Bank) there were still fractional reserve banks.

    And yet there the Dollar was not fiat (there were no government notes – just coins, and they were not base metal coins either) and there was no national debt.

    This state of affairs did not last very long (the Mexican-American war brought back the national debt – and the Civil War brought with it the National Banking Act and so on), but it did exist for awhile.

    So Brian Macker has a solid historical point – I know that economics is a logical (not an empirical) subject, but it seems to me that the debate has gone into history (which IS an empirical subject).

    However, it does seem a bit remote from current concerns.

    After all the fractional reserve bankers are no going round saying “abolish the Fed and all the rest of it – let us stand on our own two feet”.

    They are subsidy junkies (although they do not like the word “subsidies” using every form of words they can think of to avoid it), and they are such because they believe that they could not stand on their own feet – i.e. that the fractional reserve banking idea depends on governments helping them out when they need it.

    And that help (i.e. expansion of the money supply in many complex ways) has a cost – the boom-bust economic cycle.

    Governments do not inflate the money supply just for the fun of it – they inflate the money supply for reasons. And an important reason is to support the financial enterprises and those non banking enterprises (major corporations) that are dependent on them.

    “You are avoiding my basic question”.

    O.K. if someone ran an enterprise called “Fractional Reserve Bank” whose motto was “leave your money with us and it may or may not be here when you need it” I would NOT put the Board of Directors in jail.

    As long as their notes clearly stated “this not DOES NOT entitle the holder to a certain amount of gold from our vaults – as there will be not enough gold in the vault to honour the notes”.

    And never asked for any government institutions to be set up to “support the financial system”, “safeguard the economy” or whatever.

  • Paul Marks

    “Law changed so that bank notes had to be 100% covered by gold”.

    That is close to the British banking Act of 1844.

    Sadly the banks just turned to cheques, drafts (and so on and so on) rather than “bank notes” – so the boom bust cycle continued.

    With all the harm it does – and not just to Britain, boom and bust spread to the United States also.

    Such as the one of (if memory serves) 1857 – that led the Democrats to lose the election of 1860.

    The basic point is, to avoid boom-bust lending (both for investment and consumption) has to be 100% financed from real savings – not book keeping tricks.

    Whether fractional reserve banking is formally “fraud” (as Murry Rothbard claimed) is, as I have already accepted, debatable – biut it seems to lead to endless fraud and subsidy (almost as night follows day).

  • Brian Macker

    Midwesterner,

    Couldn’t find anything to disagree with in your last post.

    Paul,

    “I know that economics is a logical (not an empirical”

    Well, I would disagree. It needs to be both as with any science. That’s actually a mistake some of the Austrians make, in particular Mises, who feels that economics is apriori, and can be deduced from what we no about acting man. This isn’t true and we must check our theories against reality like any other science. In fact, Mises does just that without admitting it.

    Yes, the banks have historically used many fraudulent methods to increase the money supply. They would all need to be outlawed. The law would have to be written in a general way the indicated what it was trying to preclude instead of specificially outlawing one particular method. I’m sure I could write a rule that was general enough to cover any method that increases the money supply.

    It would have to make increasing the money supply by any means a crime, and would have to spell out what that meant. It would also have to outlaw acting as an intermediary in any transaction where a lender and borrower were given terms with conflicting time spans.

    When laws are made using mere labels, and specific acts then they are easy to circumvent.

    The actual problem is unsolvable. Who here actually believes the government desires to get a handle on this?

    Furthermore, as you point out, this cannot be solved voluntarily because even if you form a “club” where members voluntarily agree not to practice monetary inflation you are not protected. The monetary inflationary and deflationary cycles practiced by others can spill over onto you.

    I’m not so sure that the spillage is important however. The reason being that those people who were practicing proper banking as a religious issue would be protected against bank runs, etc. So they do gain a direct benefit, and would be in a position to further benefit during panics from the excesses of the non-participants.

    No system is perfectly immune to the depredations of government.

  • Paul Marks

    Brian Macker:

    At the risk of sounding like Bill Clinton, it depends what you mean by “science”.

    If you mean the “experimental method” of, say, physics then economics is NOT a science (economists attempting to ape the methods of physics are on the wrong track).

    However, if you mean “a body of knowledge” (an older definition of the word science) then economics is a science. It is not a subject (if you prefer the word to “science”) in its own right, and it uses different methods to the natural sciences (or to history – which using different methods to either natural science OR economics and philosophy).

    To give an example of what I mean…..

    Some collectivist “economists” gleefully produced a “study” which showed that an increase in the minimum wage law level in New Jersey has been followed by a drop in unemployment.

    They claimed that this proved that minimum wage laws do not increase unemployment. But, of course, all it proved was that they did not understand economics.

    IF a minimum wage law demands that people be paid more than they would otherwise be paid (in the constantly changing situation that is called “the market”) then unemployement will be produced – this has nothing to do with “empirical evidence” (one way or the other) as even if there was a massive drop in unemployment following a rise in the mimimum wage it would not disprove the above. It is a matter of logic – not of empirical evidence and experiment, for there are a vast number of different factors at work.

    On the credit expansion:

    Agreed – there will always be credit expansion scams.

    However, government does not have to encourage them.

    All payments to government (for taxes or other things) should be in specie only, and all payments from government should be in specie only.

    This was one of the main points of Senator “Bullion Benton” and was partly introduced by President Jackson (the fact that he and Benton tended to shoot each other on occasion did not undermine the fact that they agreed on various matters). Although it was President Van Buren who understood that handing out government tax and land payment money to “pet” State banks was as bad as putting it in a “national bank”.

    The government should accept only cash (specie) and pay only cash (specie).

    If other people choose to play credit expansion games the government should make it very clear that they did so at their own risk – there would be no “help” of any kind.

    In this way such scams tend to be limited.

  • Paul Marks

    Of course I meant to type that economics “is a subject in its own right” – not is “not” a subject in its own right.

    Although by using the methods of logical reasoning it could be argued that economics (or catalactics, the science of exchanges, as Richard Whately called it) is part of a larger science – the science of human action (praxeology as Ludwig Von Mises understood it).

    This science (or subject if you prefer) depends on two fundemental principles.

    Firstly that the material world is real – for example that I have a body with fingers that are hitting keys on the board of the computer in front of me.

    And that human beings are just that – beings – agents who can make choices (i.e. have agency). For example, that I can choose whether or not to hit the keys on the keyboard (at least some of the time).

    Aristotle knew very little about economics (indeed some of his ideas did great harm) – but these fundemental principles of human action (that the world is real and that people can sometimes decide what their bodies will do) go back at least to him (and, no doubt, long before).

    In the case of the Austrian school they are not inventions of Ludwig Von Mises.

    He got them from Carl Menger – who got them from the Aristotelian philosopher Franz Brentano (spelling alert).

    Ludwig Von Mises himself tended to cite the Kantian philosopher Ernst Cassirer.

  • Brian Macker

    “However, government does not have to encourage them.”

    I didn’t say that it had to. The job of government however it to enforce the law, and when it doesn’t do so in order to profit itself with or without the help of the private sector then I consider it a depredation of government. So when the government allows certain banks to stop following the rules so that it can borrow money to wage a war then that is a corruption of government.

    As to the issue of science. I was not thinking of physics as a model, and I’ve heard the whole minimum wage argument before. Come on, I trained myself in Austrian economics for ten years. There are other sciences and biology is a more appropriate model.

    Science is mainly about the understanding that we humans are fallible and the need for rigorous use of methodologies designed to reduce human error.

    Austrians haven’t merely deduced their theories tabula rasa from those two axioms. In fact, economists have posited theories and knocked them down with evidence over time just like other sciences, or at least they should. That is a form of empiricism.

    Science also uses deductive reasoning to tease out implications of theories and test those predictions against results.

    There are plenty of other methods used by biologist that could be used by Austrian economists. For instance, one could build computer simulations to learn some of the subtleties of how certain aspects of theory play out.

    Biologists have proven that natural selection works this way. Genetic algorithms can design as creatively or even more creatively than humans. Thus proving that a simple process devoid of intelligence can create.

    It would have been an enormous blow to the theory of natural selection if biologists had build computer simulations (not models) that reproduced the important aspects of the theory in relevant ways and had those simulations failed to evolve complex solutions to the problems posited to the systems. It would have indicated a flaw in their deductions or some other mistakes.

    Austrians need to check their work in this fashion. Humans are fallible and this is a complex subject, to say the least.

    I’ve read the standard defenses the Austrians put up for claiming economics is a purely a-priori science and I don’t buy them.