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Economics

Are the Banks to Blame?

Much has been made of the recent appearance of Bob Diamond, the Barclays Chief Executive, before the Treasury Select Committee.  Diamond attempted to defend the British banking industry from various charges such as “casino banking”, “bonus culture” and more simply “not lending”.  The fundamental accusation that has been laid against the banks is that they are responsible for the financial crisis and all of the problems that have occurred as a result.  It is often far easier to pick a scapegoat and punish them rather than face one’s own responsibility for personal failure.  But are banks a scapegoat or are they indeed to blame?

As usual with questions of this kind, the answer is complex, more complex that one might discern from reading the front page of a tabloid.  But the truth is out there, as it is said, and it has its roots in the special privilege awarded to banks by the State.  What is clear is that the State has established the legal structure within which banks operate.  This government mandated legal structure is a privilege granted exclusively to banks and it allows them to violate the property rights of their depositors by lending out their money while at the same time guaranteeing to return their deposit upon demand.  This unethical legal privilege (as explained by Jesus Huerta de Soto in his excellent book Money, Bank Credit and Economic Cycles, 2009) has authorized banks to operate in a fraudulent manner, laying the groundwork for the current depression.  And as if this were not enough, the British Government has acted to increase the severity of this latest depression by taxing the population to pay for the failure of the banking industry.  To add further insult to injury, the Government has reduced benefits for the poorest in society and increased them for the wealthiest (i.e. the banking bailout) in a bizarre reverse socialism.  In order to convince the population of the necessity of this unjust punishment, the message from the Government, oft repeated through the media, is that this bailout is necessary because we “need” banks.

In actuality this is close to the truth but not quite true.  The Government “needs” banks in their current form.  Everyone else would be far better off without them.  It is questionable just how beneficial such an industry is when the cost of it is increased taxes and an increased debt burden which has the potential to ruin the Government.  But Government officials operate with a short-term vision.  The crises of tomorrow are an issue for the government officials of tomorrow.  Today, the Government needs banks to buy their debt so they bail-out the banks with future taxes to be levied on less important members of society.  Bringing bankers before the Treasury Select Committee is merely a dog and pony show to placate the confused and angry masses.  The bankers are yelled at, an angry finger is waived, the bankers make one or two token concessions and the primary problem – fractional reserve banking backed by a central bank – is ignored.

Indeed, the Government had previously established a red herring for the masses to cheer by targeting banker’s bonuses.  So we are told that the “bonus culture” is the reason for the “excessive” risk taking of bankers.  All that need be done is that bonuses be reduced to a token amount, say, £2000, and the problem of banking crises would go away.  If only all complex problems in economics could be solved so simply.  Unfortunately for the government, the banks have made it clear that the bonuses will not be cut.

This emphasis on bonuses and bankers pay (or the banking crisis more generally) is much like the global warming hysteria; yet another excuse for increasing the size and power of government and for increasing taxes.  After all, what has been the end result of the bail-out but increased taxes?  Some may argue, with some justification, that an increase in taxes is necessary to cut the budget deficit and reduce the debt.  An alternative view is that is that is entirely unethical to impoverish one group of people in society to repay a debt to which they are not a party.  A staunch libertarian might argue that the only ethical approach would be for taxes to be made entirely voluntary and what debt the Government is unable to repay it would be forced to repudiate.  The functions that the Government currently arrogates to itself would be returned to private hands and the Government would return to doing what it does best – as little as possible.

Realistically, in the short term this is simply not going to happen.  The Government is not yet at the point of capitulating to economic reality.  So in the first instance it continues its strategy of slaying the goose that lays the golden egg by raising taxes.  This is in line with the expectation that changes in government spending are a predictor of changes in tax rates.  The Government increased its spending most recently with the bail-outs, so taxes are now raised to cover this increased spending. Thus one group in society is plundered for the benefit of another.  To be fair, the banks are not alone in participating in this plunder as a visit to any council estate will illustrate.

However, banks are the most important recipient of state aid because their operations impact all other participants in the economy.  Virtually everyone interacts with banks at some level, but more importantly the operations of fractional reserve banks set into motion the business cycle.  This occurs because of the special privilege awarded to banks by the state.  This is in fact a powerful form of state subsidy that allows banks to effectively lend money they do not have.  This process creates a supply of money at an artificially low interest rate for which there is no prior saving.  This can only lead to a distortion of the capital and property markets.  Projects are commenced to create products for which there will be no buyers and mortgages are made en masse to borrowers who will not be able to repay them.  Initially, businesses will prosper and people will feel wealthier.  However, the net result of this process is the bankruptcy or default of homeowners, businesses and ultimately banks, as we have seen most recently.

Banking failures prompted the establishment of the central bank as a lender of last resort to bail-out troubled and valued banks when needed.  The recent financial crisis has shown that even this is not enough and now we have the British Government supplanting the Bank of England as the lender of last resort in directly bailing out the banks.  It is likely that during the next, inevitable financial crisis the British Government itself will need to be bailed out as it has been in the past and as the Irish Government has been recently. It is clear that no matter how big or how often the bail-outs are made we eventually reach a point at which the system will fail absolutely.  We will reach a point at which there is no willing lender of last resort, at least on favourable terms.  This is the key danger of allowing this system of fractional reserve banking to exist.

To return to our initial question, are the banks to blame?  Yes they are, but they share the burden of blame with the architect of the current legal structure of our financial system, the British Government.  The State has permitted this special legal privilege that allows the existence of fractional reserve banking.  Fractional reserve banking allows banks to make loans not backed by savings at artificially low interest rates.  This in turn leads to the business cycle as described by Austrian Business Cycle Theory.  The State has created the system and the banks are willing participants in it.  Together, they share the burden of blame for the continuing crisis.

42 comments to Are the Banks to Blame?

  • Martyn

    I was enjoying this article until the throwaway reference to global warming hysteria, at which point my faith in the author’s rationality took a nosedive.

    We need a revised banking system simply because the current debt-based mess is not systemically sustainable and the root driver of exponential resource consumption.

    Here’s a bit more hysteria for you; human CO2 output is approximately seven times that from volcanoes. Unfortunately, unlike the whole money thing, CO2 is real, resource depletion is real, species extinction is real, hunger is real…

    • Robert Sadler

      I knew that comment would ruffle some feathers however I would encourage you to consider the difference between “global warming hysteria” and “global warming” itself. Whether global warming is occuring or not, is not the point. The fact is, hysteria, or “fear” of this bugbear has enabled the government to raise taxes and increase its control over our lives. If global warming is indeed occuring, government is not the correct agency to deal with it.

  • Jose

    Banks can be blamed from an ethical perspective but not from a legal point of view. As we cannot depend on people acting ethically every time, we cannot allow fractional reserve because it really inflicts harm and damages to a third party – it produces bussiness cycles which lead to resource wasting and unemployment.

  • chef

    I don’t understand the point you make about loans not being backed by savings when a “saving” is just somebody else’s debt.

    FRB creates savings and debt simultaneously as it’s essentially an IOU issuing process, so the need for external objects/debt becomes irrelevent. Indeed that is the strength of the system: it’s flexible enough to allow us to make as much debt money as we want.

    The real problem isn’t the banking system, it’s the way the real estate market is used to syphon off the nation’s surplus. But not many people want to talk about that so have to get bogged down in banking technicalities.

    • Robert Thorpe Current

      I generally agree with you about banks. Fractional-reserve banking is not a legal privilege, it is entirely consistent with property law. Banning fractional reserve banking would be a special legal restriction. I hope to have another discussion with Robert Sadler about that and change his mind. But, I’ve got quite a lot on at present.

      I disagree with you about housing though, I don’t think there is anything particular special or damaging about the housing market.

      • chef

        Backing loans with “savings” is a red herring imo, as long as the bank is solvent and they’re able to exchange their assets for cash to meet deposit demands they’re managing their risks adequately. The asset is the saving afterall.

        As for housing, it was no coincidence that the sub-prime mortgage fiasco brought the financial system to it’s knees. Housing is a special asset in that it contains a finite factor of production -land-, which periodically balloons in price as people speculate on it’s future value. Understanding the importance of housing has really helped me get to grips with economic theory, but academics have willfully ignored it’s role in favour of more complex and exotic theories such as Austrianism or Keynsianism. Neoclassicism has a lot of explaining to do!

        • Robert Thorpe Current

          Chef,

          I see you have been reading the Neo-Georgists. I think they are wrong. The reasons why are quite complicated though, Hayek’s “Pure Theory of Capital” contains some I don’t encourage you to read that though it’s confusing.

          Think about this though… My great-grandfather built a fine wrought iron gate for a stately home a hundred years ago. The gate is probably still worth quite a lot now, as is the land it stands on. After 100 years what is the difference in the character of the scarcity of the gate and of the land?

          Or, take the area of Cambridgeshire around Ely for example. That land was drained artificially in the 17th & 18th century. It was a bog turned into usable land. Is that land economically different from that around and about that was there since before humans? If so then why?

          • chef

            The gate your grandfather built would still be valuable for three reasons that I can think of, due to the skill levels involved it may be quite difficult to recreate, the materials are probably expensive and it might have antiquity value due to it’s age.

            Georgism doesn’t detract from the value adding process, it merely states that land will achieve it’s market price despite the owner, not because of him (unlike the gate). In other words it’s an economic freebie, and as humans tend to seek the easiest way to achieve a result freebies become very alluring, particularly if they’re tradable.

            100 years ago the land value under that stately would have been present without the landlord, and in 100 years time the same will still hold true. The question is whether we’re going to start charging landlords for their state based privileges, my guess is not without a fight.

          • Robert Thorpe Current

            > The gate your grandfather built would still be valuable for
            > three reasons that I can think of, due to the skill levels
            > involved it may be quite difficult to recreate, the
            > materials are probably expensive and it might have
            > antiquity value due to it’s age.

            Yes, and what those factors have in common is that they provide utility, even if only of a psychological nature, and they are scarce.

            > Georgism doesn’t detract from the value adding process, it
            > merely states that land will achieve it’s market price
            > despite the owner, not because of him (unlike the gate).

            There is now no difference between the land and the gate. Both are owned by the same owner. The value of *any* scarce durable good, whether produced or non-produced, doesn’t necessarily depend on anything to do with the owner.

            Those farmers who own parts of the Adventurers Fen near Wicken are no different to those further north who own land that was created entirely geologically. It doesn’t matter to them that the word “Adventurer” refers to those who advanced the money to drain the fen and that that land was profit hundreds of years ago.

            > In other words it’s an economic freebie, and as humans
            > tend to seek the easiest way to achieve a result freebies
            > become very alluring, particularly if they’re tradable.

            How is other durable capital any different?

            > 100 years ago the land value under that stately would have
            > been present without the landlord, and in 100 years time
            > the same will still hold true.

            Of course the same is true of the drained fenland I mention above. The same is true of any asset. Any building that has come from a previous generation has utility that is independent of whether anyone owns it.

            Certainly assets become worth nothing, but that is by-the-by some last a very long time, and in some case land becomes worth nothing too.

      • Jose

        Another way to see the problem is: FRB causes monetary inflation, which causes bussines cycles, which causes harm to a third party, which are externalities. Externalities arise when property rights are poorly defined.

      • Robert Sadler

        Current,

        I’m not sure if you saw my comment last year about buying you a couple pints if you got through the first four chapters of De Soto’s book and were still a “free banker.” I am also determined to change your view on Fractional Reserve Banking. Perhaps you can suggest some books you would like me to read with a suitable incentive… I will add them to my list.

        As always, your comments, dissenting or otherwise, are welcome.

        • Robert Thorpe Current

          > I’m not sure if you saw my comment last
          > year about buying you a couple pints if
          > you got through the first four chapters
          > of De Soto’s book and were still a
          > “free banker.”

          I remember. I haven’t read it yet, but I’ll see if I can get around to it.

          > Perhaps you can suggest some books you
          > would like me to read with a suitable
          > incentive… I will add them to my list.

          I think Selgin, White and Horwitz’s stuff is all good. I think White is too mathematical though and his maths tends to just describe simple ideas. Horwitz is better at explaining how to get from microeconomics to macroeconomics.

          To be honest more than anything I’ve learnt from Horwitz and Selgins posts and comments on the Coordination Problem blog.

          > As always, your comments, dissenting or
          > otherwise, are welcome.

          Thank you, as are yours.

          • Robert Sadler

            Thanks for the tips. Hopefully I can get most of those on pdf.

            I appreciate the warning on White, I’ll save him for last.

            I plan to get to grips with Hayek’s capital theory first as this is crucial in really understanding the effect of banking on the economy. After that I will look at the “free bankers”.

      • Robert Sadler

        Hi Current,

        Fractional reserve banking may be consistent with the law of the land but it is a special law respecting banks. Only banks have the privilege of lending out property that manifestly cannot belong to them. It is a contradiction for the law to allow someone to deposit funds in a bank, which are available to them on demand and then for the bank to then lend them to someone else. It simply cannot and does not work. No other type of organization has this legal privilege. Removing this privilege would force banks to operate like any other business, respecting the property rights of its customers.

        What I would love to see from you Current, is an essay defending FRB and why you think it is preferable to 100% Reserve Banking. I can promise you lots of comments…

        • Robert Thorpe Current

          > It is a contradiction for the law to allow someone to deposit
          > funds in a bank, which are available to them on demand and then
          > for the bank to then lend them to someone else.

          No it isn’t the current account balance that an account holder owns isn’t a record of possession of base money, it’s a record of debt. The bank promises to pay the account holder “on demand”, as I’ve explained in earlier debates this isn’t different to lots of other organizations that promise to do things “on demand”.

          Look at it this way…. In general libertarians, and especially Rothbardians, advocate that people can make contracts as they like. Why is this case different? In general there can be conditions and “ifs” that determine when some contractually determined transaction happens. Why doesn’t that apply in the case of debt? Why must there be a timed term?

          Is the idea of a timed term even clear? What should a 100% reserve advocate say to a bond that has the duration of a week or a day?

          • Robert Sadler

            Current,

            I may have missed your earlier posts on other organizations that do things “on demand” and how it relates to FRB. You’ll have to update me.

            I agree that people can make contracts to do as they like but with the caveat that they cannot violate an individual’s property rights. So for example it is unethical for you and I to contract to steal someone else’s car. Likewise, in my view, it is unethical for a bank to contract to make a guarantee it cannot fulfill. Rothbard would call FRB embezzlement and thus banks could not contract to hold fractional reserves.

            I agree that under the law, current accounts or deposit accounts are considered a debt and are owned by the bank. My view is that this is a contradiction because the objectives of each party frustrate the other and to be considered a debt, the arrangement must have a term. Terms are “timed” by definition. If you try to evaluate a debt using a financial calculator and don’t put in a term you will get no answer. Maturity, number of periods, interest rate, payment amounts, future and present value are the key aspects of a loan. All debt has a term or date when it matures (even credit cards have an implied term) except for current accounts. Logically then, they cannot be debt.

            A bond can have a term of one day, no problem. It probably wouldn’t be worth the trouble but short-term lending can be important. I suspect that overnight lending would be less frequent with 100% reserves however.

            I’ll never be able to do this argument justice in a comment however. When you read those chapters I mentioned you’ll better understand where I’m coming from.

        • Robert Thorpe Current

          > What I would love to see from you Current, is an essay
          > defending FRB and why you think it is preferable to 100%
          > Reserve Banking

          I plan to do that in the future, but I’m quite busy at present.

        • Anthony J. Evans aje

          Whilst you wait for Current, here is something from someone that has read Heurta De Soto and does not agree with him

          http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1610095

    • Robert Sadler

      Chef,

      Thank you for your comment.

      What I am talking about with respect to loans not backed by “savings” is the process by which FR Banks lend out as much as 99% of their demand deposits. This results in a contradictory situation wherein two parties have competing claims to the same property. In a balance sheet this would all seem to match up nicely since the Assets and Liabilities (sans equity) would balance. This obscures the very real situation in which the holder of the demand deposit, who had no intention of making a long term loan, shows up to collect his deposit only to find it is not there. This non-entrepreneurial and uninsurable risk is only one problem. The others include inflationary pressures and the business cycle.

      In a 100% backed institution, the Bank would only lend money that was lent to them for that express purpose. In other words, what you say would hold true i.e. a saving is someone else’s debt. Thus we distinguish between “savings” as investment and “savings” as a cash balance (i.e. the deposit, available upon demand) which is not intended as a loan to the Bank.

      As someone who has worked in real estate for some years I was not clear what you meant by your comment about the real estate market. I am quite happy to get bogged down in banking technicalities if you would care to elaborate.

  • The point that is being missed is that banks are raiding the accounts of small and medium sized companies to pay off their debt to the tax payer. This will undermine growth, jobs and the future of the country. The banks are a fraudulent organisation that has imposed its debt upon the people who had no part in creating that debt. Bankers are the ‘Lending Professionals’ not the average mortgage holder. Banks should know precisely how much debt a person can pay off with a given salary and outgoings. You cannot chastise mortgage holders for overloading themselves with debt and then in the next breath have Banks and Government who are quite willing to heap even more of their debt upon those same people who banks claim overloaded themselves with debt!

  • chef

    “There is now no difference between the land and the gate. Both are owned by the same owner. The value of *any* scarce durable good, whether produced or non-produced, doesn’t necessarily depend on anything to do with the owner.”

    Gates aren’t a scarce durable good though, and if they were scarce they could easily be produced to meet demand. This isn’t the same with land however as it’s ownership is a zero sum game.

    “Any building that has come from a previous generation has utility that is independent of whether anyone owns it.”

    The previous generations didn’t provide us with the land though so it’s utility value arises independently of their efforts.

    “Those farmers who own parts of the Adventurers Fen near Wicken are no different to those further north who own land that was created entirely geologically.”

    Periodically crashing the entire economy and wasting resources through unemployment just to protect their inalienable right to claim 100% of the rental value seems like a heavy price to pay though.

    • Robert Sadler

      Hi Chef,

      All goods are scarce which is why we have economics. Personally, I would call an iron gate that lasted a 100 years “durable” but that is just my opinion.

      • chef

        A gate that lasted for 100 years would be very good at reducing scarcity, a landowning family that stuck around for 100 years would increase the scarcity experienced by others.

    • Robert Thorpe Current

      > Gates aren’t a scarce durable good though

      Yes they are. To begin with they are certainly durable. Secondly, in the economic sense they are certainly scarce. In Economics “scarce” doesn’t mean “rare” it means something very specific. “Scarce” means that a good is not one of the constantly replenishing free gift of natures such as sunlight, or something like seawater or air that are so plentiful far beyond the demand for them.

      > Gates aren’t a scarce durable good though,
      > and if they were scarce they could easily
      > be produced to meet demand.

      Just because something is reproducible doesn’t mean that it isn’t scarce. Gates can be produced to meet demand, but only at a price and scarce good must be traded for a gate. In the economic sense almost everything that is made is scarce. Both non-produced things, such as land, and produced things such as gates are scarce.

      > This isn’t the same with land however as
      > it’s ownership is a zero sum game.

      If you mean that there is a finite stock of land and it must be distributed somehow then you are roughly correct. The small areas that have been recovered from the sea don’t change that much.

      But, there is also a finite stock of Renoir paintings, for example.

      > The previous generations didn’t provide
      > us with the land though so it’s utility
      > value arises independently of their
      > efforts.

      Yes, but that’s not the point. The point is that *now* there is little difference between land and old capital.

      Later you write:

      > A gate that lasted for 100 years would be very good at reducing
      > scarcity, a landowning family that stuck around for 100 years would
      > increase the scarcity experienced by others.

      Compare the land that the family own to the gate that they own.

      Consider the last 50 years, which are long after the gate was made. The land performs a service to those who own it, and the gate also performs a service. Goods and services can be produced with the aide of the land and the gate. Both are scarce in the economic sense, that means that those who own them can raise an income from them.

      For land that income is called “rent”, but it applies in principle to anything scarce whether natural or man-made, immovable or not, producible or not. Cars which are man-made, producible and movable are rented out.

      Now, the point Georgists make here is “imagine if the land rent were zero” or “imagine if land rent went to social projects rather than the rich”. Why not ask the same questions about other capital assets? If the owners of the land and the gate make an income from both then why not capture both incomes? There is no reason. This leads us straight to Marx. Marxism is simply consistent Ricardianism that sees no reason not to capture the income of both capital and land.

      > Periodically crashing the entire economy
      > and wasting resources through unemployment
      > just to protect their inalienable right to
      > claim 100% of the rental value seems like
      > a heavy price to pay though.

      I don’t believe that land ownership causes economic crashes, or that it wastes resources, or that it causes unemployment. I’ve heard the various Georgist explanations for this and I find them very unconvincing.

      I don’t have the time to criticise them in depth right now though.

  • chef

    Robert,

    perhaps I’m just not getting it, but it appears that an erroneous distiction between savings and FRB is being made. Everyone agrees that savings are a good thing, but at the same time we demonise the credit creation process without acknowledging that they’re two sides of the same coin!

    The FRB process generates it’s own deposits, so there’s no need to fund new debt from existing savings.

    Also banks would become little more than official custodians of state IOUs if their credit creation powers were removed, the knock on effect to the economy would be a disaster as people utilised barter or the black market instead.

    I am in favour of some monetary reform, but 100% reserve banking makes no sense to me.

    • Robert Sadler

      Hi Chef,

      Sorry I am not sure what you mean by “erroneous distinction between savings and FRB”. The distinction I am making is between savings and cash balances (deposits). Obviously, we have to be careful of how we define savings but if you mean savings as investment (wherein I make a loan to a bank, which in turn makes a loan to a business) then a 100% reserve institution acts as an intermediary in the credit creation process.

      I agree that the FRB process generates its own deposits. The issue is that deposit creation, in this manner is inflationary and leads to the business cycle and ultimate failure of the fractional reserve bank.

      In reference to your third point, in an ideal banking world, not only would there be no FRB banks, there would also be no legal tender laws and no government debt. Government bonds would be outlawed.

  • chef

    testing

    hdhdhdho

  • chef

    Secondly, in the economic sense they are certainly scarce. In Economics “scarce” doesn’t mean “rare” it means something very specific. “Scarce” means that a good is not one of the constantly replenishing free gift of natures such as sunlight, or something like seawater or air that are so plentiful far beyond the demand for them.

    Well I’ve never heard this explaination before so I looked it up, it appears you’re labouring under a misapprehension. In economics scarce means it’s in demand, it doesn’t have anything to do with how readily available the good is. So although energy isn’t scarce using your incorrect definition, (it’s a gift from the sun) in economics energy could be considered scarce.

    To make the distinction you’re making I prefer the terms exhaustable and inexhausatble. Oil is an exhaustable resource for example because it be copletely dug up and consumed, the air waves are an inexhaustable resource, they can never be used up through consumption.

    But, there is also a finite stock of Renoir paintings, for example.

    But their high price doesn’t represent a constriction upon those that want to purchase easels, paint or paintings. Very simply, if you want to avoid the cost of Renoir originals then don’t buy one!

    Yes, but that’s not the point. The point is that *now* there is little difference between land and old capital

    Time doesn’t submerge land into capital, this is an artificial distinction that has been adhered to since about 1900. The both attract their respective returns and these sums can easily be seperated in free market if you want to determine which component is earning what.

    Now, the point Georgists make here is “imagine if the land rent were zero” or “imagine if land rent went to social projects rather than the rich”. Why not ask the same questions about other capital assets? If the owners of the land and the gate make an income from both then why not capture both incomes? There is no reason. This leads us straight to Marx. Marxism is simply consistent Ricardianism that sees no reason not to capture the income of both capital and land.

    Lets be absolutely clear about this, other than anarchists (who prefer no a 0% tax rate) Georgists are the only set of political economists that openly advocate the complete removal of taxes on profits and wages. Even “libertarians” begrudgingly accept (wrongly of course) that taxes levied on the productive economy is a necessary evil, so in your view this makes them no better than Marxists?

    There’s a good reason why taxation won’t spill over into profits, it attacks productive capacity and undermines the principle of self-determination. Without individuals expending effort there would be no such thing as capital, this is why the profit of capital should be returned to those very owners, not the community. The same is true with wages.

    If Marx had advocated Georgist solutions instead of his own the world would be a much better place!

    • Robert Thorpe Current

      [quote]
      Well I’ve never heard this explaination before so I looked it up, it appears you’re labouring under a misapprehension. In economics scarce means it’s in demand, it doesn’t have anything to do with how readily available the good is. So although energy isn’t scarce using your incorrect definition, (it’s a gift from the sun) in economics energy could be considered scarce.
      [/quote]

      I didn’t mean to say that “energy” isn’t scarce. “Energy” itself isn’t a good it’s an abstraction, goods are specific. Particular sources of energy may be scarce, and some not scarce.

      To be “scarce” in the economic sense something must be in demand. In my last post I took it as read that we were talking about things that are in demand. But, that isn’t the only criteria, it must also not have inexhaustible supply. Both supply and demand must be limited.

      Air, for example, is in demand on the earth’s surface but due to the huge supply of it provided by the atmosphere it comes at no cost. If mankind ever were to colonise an airless planet that situation would be different.

      Rather than argue about the definition of scarce I think it’s more interesting to get back to the subject. Instead of calling things scarce, I’ll call things for which there is a desire but a finite supply simply “goods”.

      [quote]
      To make the distinction you’re making I prefer the terms exhaustable and inexhausatble. Oil is an exhaustable resource for example because it be copletely dug up and consumed, the air waves are an inexhaustable resource, they can never be used up through consumption.
      [/quote]
      That’s a slightly different distinction, but reasonable.

      [quote]
      > But, there is also a finite stock of Renoir paintings, for example.

      But their high price doesn’t represent a constriction upon those that want to purchase easels, paint or paintings. Very simply, if you want to avoid the cost of Renoir originals then don’t buy one!
      [/quote]

      Quite true. The finite supply of one type of good doesn’t prevent people from making other sorts of good.

      [quote]
      Time doesn’t submerge land into capital, this is an artificial distinction that has been adhered to since about 1900.
      [/quote]

      All you’ve done here is stated that “time doesn’t submerge land into capital”. I believe that it does and that the marginalists made the right decision to separate the two.

      What’s you argument against me?

      [quote]
      The both attract their respective returns and these sums can easily be seperated in free market if you want to determine which component is earning what.
      [/quote]
      It’s possible to calculate a figure for the return that landowners receive. But, that’s a very different thing from separating land ownership theoretically from ownership of capital.

      [quote]
      so in your view this makes them no better than Marxists?
      [/quote]

      I’m not attacking the stated opinions of Georgists. What I’m pointing out is where there arguments lead. I know that many Georgists are passionate about liberty. But, in my view they don’t realise that their view on economics is doesn’t really lead in that direction.

      You have still not seen the similarity between land and capital.

      As I said previously, consider what the farmers of the Cambridgeshire fenland own. The land they own is something that was made by man long ago. Nearby there is land that was gifted by nature. From where we stand now what is the economic difference?

      Whenever anyone owns a piece of land or a piece of capital they necessarily prevent another person from owning it. By their ownership of that land or capital they can earn a return. By not sharing that return with others they necessarily enrich themselves. Arguing that capital is the input to production processes doesn’t change that, land is too.

      To be explicit…. Suppose Bob and Jim are members of different rich families. Bob’s family own farm-land. Jim’s family own capital, they own a factories. In time Bob and Jim inherit their respective family fortunes, they decide to live at leisure from the proceeds of them. Now, is the impact these two have economically different? Bob hires an estate manager, he organises the buying of farm equipment and labour to produce crops with Bob’s land. Jim hires a factory manager who organises the buying of inputs for his factory and the sale of outputs. Both of them have the problem that if they choose badly the stand to lose. If they choose well though then the outputs will be worth more than the inputs they will therefore serve consumers as a whole. But, both of them necessarily “hoard” resources that others could be using. In this discussion you have constantly emphasises the hoarding aspect when speaking about land and emphasised the value-added production when speaking about capital. But, both occur in both cases.

      (To be clear, I’m not arguing here that initial land ownership was honest. Practically everywhere on earth the inhabited land was stolen from someone by someone else. Even if all property isn’t originally theft, all land ownership is. But, my point is that this doesn’t make any difference economically or morally *now* long after it has happened.)

  • Andrew Warner

    Just came across this website via googling Mr Baxendale. Fascinating stuff, no economist myself, but you guys obviously know your stuff. I have a question: my parents took out a mortgage for their house in the 60s. The mortgage could be no greater than one week of the man’s (main earner in those days) wages. The other partners wages were not factored into the equation. Thus the bank ITSELF ensured that the mortgage was payable, and in my recollection of the 70s-80s there were no runs on banks. We are living in a country where teachers, doctors, well-paid young professionals can’t get a foot on the housing ladder till they are in their early 40s. So, would it make sense to make mortgages now available only on 1 wage, stop selling 90% and above mortgages, and in some way (and I don’t know how) rationalise housing prices i

  • Andrew Warner

    Continued: …rationalise housing prices i.e. re-price all houses based on the 1960s morrtgage lending model. I admit I’m a neophyte when it comes to these complex questions, but it seems to me that the main cause of the credit crunch was banks having too much financial casino money washing round their systems, which they were trying to recycle into the real world to turn into real money – which lead them to start selling mortgages to people who couldn’t afford them in CDOs and other banking con-tricks. It seems to me that one of the main causes of credit crunch was massive bubbles in worldwide housing markets based on banks giving out too cheap credit. People will always need a roof over their heads, but if they are over inflated beyond reason, then perhaps we should have a readjustment of prices into peoples real world possibilities. Like I said I’m no expert, but I’m seeking answers as to why we’ve all been thrown into the mire by an irresponsible and greedy few elite bankers(con-artists).

    • Robert Sadler

      Hi Andrew,

      My article above will give you a taster. If you read Murray Rothbard “The Mystery of Banking” that will pretty much put you in the frame on how modern banking works and why we are in the mess we are in today. You can find it quite easily on pdf and it is a short easy read.

      Basically, our current system of banking is based on commercial banks holding fractional reserves, supported by a central bank (i.e. the Bank of England). The fractional reserve means that if you deposit £100 in the bank, the bank immediately lends £95 of it while at the same time promising to repay you on demand. The BoE support allows commercial banks to hold a much lower reserve than they could otherwise. This causes significant inflation throughout the economy for as long as the BoE can keep up its support. This is why prices are constantly going up. The reason why you have seen so much inflation in house prices is because the largest loans banks make to consumers are for houses. Hence, house prices have risen faster than incomes, as you have observed.

      Don’t let the media and government deceive you with stories about casino banking and CDOs. Bankers are fanatical about keeping risk as low as possible. CDOs are designed for two reasons, tax efficiency and risk reduction. Unfortunately, because most bankers don’t understand how the business cycle works and that it is caused by the process of fractional reserve banking, exacerbated by the central bank, that they don’t realize that they are themselves the actual cause of their downfall.

  • chef

    “You have still not seen the similarity between land and capital.”

    There is no similarity, they’re entirely seperate factors of production. Land (as in the natural world) is a product of nature, capital is formed when labour combines with land to produce a tool that can be used for further production.

    To put it another way, saying that there is no difference between land and capital is like saying there’s no financial difference between a lump of tin found on the ground and a bucket. It’s easy to find the difference, just measure the inputs required to turn that metal into a usable bucket. Over time that bucket will degrade to the point where it has no value, but even then there will still be a clear distinction between land and capital. Land doesn’t degrade, over the long term it the tendency to keep going up in value, how many buckets will do that?

    I accept that the example you bring up is abit of an anomoly as far as Georgism is concerned, but lets have another look at the argument. You’re saying that it would be wrong to ask those farmers to return the rental values as tax because the rents have been increased through their own labour (the draining of the land), but the reality is that you’ll have to tax their productivity even harder just to fund public infrastructure. Either way their rights are being infringed but one route is more transparent and less destructive than the other.

    Out of interest do the Rothbardians ever talk about the thorny issue of tax? I’ve heard their critiques of the Georgist philosophy but I’ve never heard their alternative.

    • mrg mrg

      “Out of interest do the Rothbardians ever talk about the thorny issue of tax?”

      I don’t know about Rothbardians, but Rothbard himself wrote a good piece on it:

      Can There Be a ‘Just Tax’?

      His ultimate answer was what you’d expect from an anarcho-capitalist, but whatever you think of that, there’s some good analysis along the way.

    • Robert Thorpe Current

      > Land (as in the natural world) is a product of nature,
      > capital is formed when labour combines with land to
      > produce a tool that can be used for further production.

      I’m not denying that, I’m denying that it’s relevant for economic analysis.

      > is like saying there’s no financial difference between a
      > lump of tin found on the ground and a bucket. It’s easy
      > to find the difference, just measure the inputs required
      > to turn that metal into a usable bucket.

      But, where is the difference between a 100 year old bucket and a piece of tin? Certainly the tin is natural and the bucket is artifical. But, both of them come down to us from the past which has long since passed. The distinction between their origins at that time plays no part in current economic calculations.

      > Land doesn’t degrade, over the long term it the tendency
      > to keep going up in value, how many buckets will do that?

      Land may well degrade in several important ways. The fertility of soil may diminish with overfarming. The population may move away from an area reducing the demand for building land.

      For human purposes there are still “imperishable” qualities of land though, such as it’s ability to support buildings.

      > I accept that the example you bring up is abit of an
      > anomoly as far as Georgism is concerned,

      Good. Think about taxing Jim and Bob. Why would it be better to tax Bob than Jim?

      > You’re saying that it would be wrong to ask those farmers
      > to return the rental values as tax because the rents have
      > been increased through their own labour (the draining of
      > the land), but the reality is that you’ll have to tax
      > their productivity even harder just to fund public
      > infrastructure. Either way their rights are being
      > infringed but one route is more transparent and less
      > destructive than the other.

      If a land value tax is imposed that doesn’t take account of land improvements then there will be a strong disincentive to improve land. This has happened many times before.

      By saying that you will tax productive activities you’re really admitting that what you’re proposing isn’t fundamentally different from the tax systems we have now. You’re not just proposing to remove the Ricardian rent of land. You’re also taxing a proportion of the profit that improving it yields, remember that improvement is a capitalist undertaking. If you’re going to do that then why not tax business profits or individual incomes?

      The point of my example above though was to highlight something about unproductive asset holders. If you tax land then you only tax one particular group within that class.

    • Robert Sadler

      Why do you consider “tax” a “thorny issue”?

      • chef

        Because most money reformers want to sweep it under the carpet.

        It’s not very easy being a Georgist when you’re entire ideology centres around the idea of a good tax. But there we go.

  • chef

    I’m not denying that, I’m denying that it’s relevant for economic analysis.

    How can that be so? Surely it would be imminently sensible from an economic standpoint to differentiate between the value of natural resources and the value adding process. The reason we don’t (imo) is because it’s a touchy subject for the rentiers, they don’t like having their rental income measured and known. It makes them feel vulnerable.

    But, where is the difference between a 100 year old bucket and a piece of tin?

    There’s a moral difference, if my ancestor builds a bucket and hands it down to me we can objectively claim that the value he added was rightly his and now it’s mine. This direct relationship doesn’t exist when somebody fences off natural resources, those resources would have still been present without the owner so their claim is essentially arbitrary, and in most cases forced upon others. Not only is this morally suspect but it culminates in periodic economic disasters.

    By saying that you will tax productive activities you’re really admitting that what you’re proposing isn’t fundamentally different from the tax systems we have now. You’re not just proposing to remove the Ricardian rent of land. You’re also taxing a proportion of the profit that improving it yields, remember that improvement is a capitalist undertaking. If you’re going to do that then why not tax business profits or individual incomes?

    I’m saying that if you’re not going to tax the Ricardian rent of land your only option is to tax profits and wages, which renders your position self contradictory, unless you’re advocating zero tax and a more flexible attitude to landownership that is.

    The reality is that very little money is used for actual land improvement, so when taxing land values it’s pretty easy to avoid introducing financial penalties. If it’s that much of a concern it’s possible to tax 90% of the rent for example to give the owner a bit of leeway.

  • Robert Thorpe Current

    How can that be so? Surely it would be imminently sensible from an economic standpoint to differentiate between the value of natural resources and the value adding process.

    There is certainly a difference between value adding and resources. The point though is that there is little important difference between natural resources and man-made resources.

    The reason we don’t (imo) is because it’s a touchy subject for the rentiers, they don’t like having their rental income measured and known. It makes them feel vulnerable.

    I know perfectly well what Georgists think in this regard. I think you’re all being terribly complementary to landowners, who are obscure these days. Nobody else thinks about landowners these days, I doubt its ever entered the head of a recent economist to think about what landowners think.

    There’s a moral difference, if my ancestor builds a bucket and hands it down to me we can objectively claim that the value he added was rightly his and now it’s mine. This direct relationship doesn’t exist when somebody fences off natural resources, those resources would have still been present without the owner so their claim is essentially arbitrary, and in most cases forced upon others.

    As I said earlier I agree that all land was originally stolen. We’re not disagreeing about that.

    Think about my earlier example, let’s suppose that originally Jim’s family had been landowners and Bob’s had been factory owners. Then Jim’s family sold their land and bought a factory and Bob’s family sold their factory and bought land. Would it still be true that Bob’s fortune would be less just than Jim’s?

    I live in Ireland. Sometimes I hear Irish people say that the only reason for the industrial revolution was British Imperialism. They claim that because Britain conquered an empire before they had access to cheap raw materials stolen from the lands they conquered. Some leftists take this argument much further, they argue that nothing that is owned in Britain (or anywhere) be it land, capital or human capital is justly owned. That’s because at some point in history the inputs for it have been stolen.

    In the short-run if a crime is committed then the police can often discover who did it and discover anyone who benefited by it. In the very long-run this is much more difficult. No bright dividing line can be drawn so that people with X type of property have guilty ancestors.

    Not only is this morally suspect but it culminates in periodic economic disasters.

    Well, I don’t think it does. But since you have actually argued why it should I don’t really have anything more to say here.

    I’m saying that if you’re not going to tax the Ricardian rent of land your only option is to tax profits and wages, which renders your position self contradictory, unless you’re advocating zero tax and a more flexible attitude to landownership that is.

    What I’m proposing is taxing income. I think that is better than taxing rent.

    The proportion of profit that an entrepreneur makes above the interest rate is down to his or her ability to meet consumer demand. But, the interest rate is different.

    The interest rate is determined in a broad market which encompasses capital assets, financial assets and land. To put that differently, there is a trade-off between owning capital such as houses, owning shares or bank balances and owning land. If one gives high returns then people will move into it from one of the others. The difference between the return on them is their associated risk-premiums in the long-run.

    In a progressing economy within the incomes of *all* of these groups there is an element which is due to scarcity. Land isn’t unique in this regard, capital is the same. The fact that capital has been made doesn’t change this. New capital certainly adds to the stream of future output. But, owners of existing capital charge to rent it out to others, and gain an income by doing so at the cost of others.

    Now, all this sounds Marxist. But, it doesn’t need to be thought of that way. Eugen Bohm-Bawerk, Irving Fisher and F.A.Hayek showed why that is, though I don’t have time to explain it now.