This paper by Alberto Alesina and Silvia Ardagna provides very good empirical research to confirm that what we expect a priori: that deficit cutting sets up a strong recovery, while deficit spending funded by tax increases does not. The abstract nicely summarises other aspects of the paper, and it is worthwhile for anyone to read who is involved or interested in public policy.
We examine the evidence on episodes of large stances in fiscal policy, both in cases of fiscal stimuli and in that of fiscal adjustments in OECD countries from 1970 to 2007. Fiscal stimuli based upon tax cuts are more likely to increase growth than those based upon spending increases. As for fiscal adjustments those based upon spending cuts and no tax increases are more likely to reduce deficits and debt over GDP ratios than those based upon tax increases. In addition, adjustments on the spending side rather than on the tax side are less likely to create recessions. We confirm these results with simple regression analysis.
By kind permission of Morgan Stanley’s Caitlin Long, The Cobden Centre is delighted to publish their report, Inflation Uncertainty and Corporate Finance.
Some key points:
Inflationary pressures are rising.
A devaluing US Dollar produces rising commodity prices and devaluing pegged currencies in many emerging markets.
You might remember a post, a month or two back, about the Davos plan to flood the world with $100 trillion dollars of new fiat paper currency, in a global quantitative easing plan. This would keep the 1971 experiment of a pure global fiat currency scheme going for a few more years and replace all of the real Austrian productive capital which has been consumed in the last 40 years (e.g. tangible machines which make things), with even more paper Keynesian ‘capital’ (i.e. bits of fancy paper, or their electronic equivalent) to drown us all in; or, in the words of Del-Boy Trotter, we’re all going to be millionaires.
Jim Rickards thinks he has detected the IMF plan to put this Davos proposal into action. He discusses this discovery in a 22-minute interview with Eric King, as below. With many other interesting topics under debate, the discussion on Davos and its subterranean link to the IMF begins at 5:35 on the clock:
[You will also notice that it is dated January 7th, 2011, which is several weeks before the Davos announcement.]
As you might imagine, the IMF web site is hardly user-friendly when it comes to revealing such potentially devastating informational nuggets, only matched in its obfuscation and denseness by the Bank of England’s web site; however, with some karate-style googling technique, I eventually managed to ensnare the needle in the haystack.
Here is the key IMF quote, from that paper:
“An annual allocation of the equivalent of US$200 billion dollars would raise SDRs as a proportion of reserves to a little over 13 percent in the early 2020s.”
If you use fractional reserve banking at a 10% ratio to leverage this by ten, then this becomes $2 trillion pumped into the global economy each year, until 2025, giving us $28 trillion equivalent-dollars of extra fiat ‘liquidity’.
I think we can apply the Duncan’s First Law of Government to that — by which you take any publicly-released government number and multiply it by three or divide it by three, whichever presents a worse public relations figure, to produce the true number, as originally calculated by whichever dissembling civil servant first wrote the report.
When we apply Duncan’s First Law of Government, the real release of SDRs will be the equivalent of $600 billion dollars a year, leveraged up to $6 trillion each year, which gives us $84 trillion equivalent-dollars of extra ‘liquidity’, by 2025, which is a figure remarkably similar to the $100 trillion dollars of extra liquidity, as proposed at Davos.
With the IMF able to switch currencies around inside their SDR currency unit — for instance by dialling down the dollar component and replacing it with Chinese yuan — then welcome to the world’s new global fiat currency, born on a wave of enormous quantitative easing, courtesy of shadowy unelected bureaucrats being paid tax-free salaries and handsome pensions, paid from your pocket, and ensconced in luxurious office palaces all over the world. They are, after all, only thinking of you and your interests, rather than putting themselves and their friends first.
Once the cuckoo of the SDR has pushed the dollar out of the world-reserve-currency nest, the IMF can then roll out their even grander strategic plan of introducing the Bancor, as first proposed by their hero, Lord Keynes, as discussed in one of their papers from last April:
Here’s a sample quote from that report (my emphasis):
“A limitation of the SDR as discussed previously is that it is not a currency. Both the SDR and SDR-denominated instruments need to be converted eventually to a national currency for most payments or interventions in foreign exchange markets, which adds to cumbersome use in transactions. And though an SDR-based system would move away from a dominant national currency, the SDR’s value remains heavily linked to the conditions and performance of the major component countries. A more ambitious reform option would be to build on the previous ideas and develop, over time, a global currency. Called, for example, bancor in honor of Keynes, such a currency could be used as a medium of exchange—an “outside money” in contrast to the SDR which remains an “inside money”.”
We truly are alive in a world of Golgafrincham money cranks, who think there is not a disease on Earth which cannot be cured by the application of ever-more endless sheets of worthless paper, printed up with ever-more inky zeroes.
Have you bought any gold, silver, or oil, this month? Do you think you should?
A new book has just rolled off red hot — or should that be ice cold? — from the Mises.org printing press, written by Professor Philipp Bagus and Professor David Howden:
The IMF, Moral Hazard, and the Temptation of Foreign Funds
Currency Mismatching
The Consequences of the Boom: Malinvestments
A Timeline of the Collapse
Why the Fed Could Save Its Bankers, But the CBI Could Not
The Necessary Restructuring
Concluding Remarks
I have yet to read the book myself, so I am unable to do a review, however the foreword has been written by our very own Toby Baxendale, so I am sure the book will be very good. Here is that foreword:
FOREWORD By Toby Baxendale
The two young Professors Bagus and Howden document the sad story of the Icelandic government’s policy mistakes — the artificial creation of a boom, and the savage bust that was the inevitable outcome of this boom. Little have we learned since the wisdom of Mises and Hayek showed us the way concerning business cycle theory. The former are intellectual heirs of the latter two giants of 20th century economics and they present the case of the small nation of Iceland, within the context of the global economy, analyzed via the lens of what has become know as the Austrian Theory of the Business Cycle, extremely well here.
This is a short book and I hope it will encourage others to write about other bigger nations: after all, we are all very much interdependent. I hope they will write via the insights of the great teachers of the Austrian School. For the majority of economists who assume that the marginal revolution has all been absorbed into mainstream economics and that the Austrian School has nothing to add on the matter, I would urge them to pause and reflect on the Austrian theory of the business cycle — the case-proven status of it as outlined in this book — with reference to Iceland and think about what they are doing when they advise governments to artificially “stimulate demand.”
I write this as someone very much involved in the Icelandic economy. As a wholesaler and retailer of fresh fish in the UK, Iceland is probably ten percent of my lines of supply. For some twenty years, I have dealt with the various parts of the Icelandic fishing community and their buccaneering fishermen turned bankers. Be under no illusions, these are hardy people. Much as I do not intend to make a generalization about a population, these are the heirs of the Vikings: they live in an extremely harsh environment and they will bounce back very quickly if allowed to by their government.
One successful cod and prawn processor was telling me that, although he was bust, as most Icelandic companies are, he remembers that it was only thirty-four years ago that he used to stay with his grandfather in a stone-and-grass-built house, with no heating and fresh running water. This current economic collapse would be a setback in the scheme of things but that was all, according to him.
Bagus and Howden describe how the Icelandic business community were encouraged to borrow in Japanese Yen and Swiss Francs with their attractive low interest rates. Commeth the bust, I was asked to “rescue” many of these firms. The key problem with the banks essentially owning all the bankrupt highly leveraged businesses (that were and are essentially good ocean harvesting fishing businesses, albeit loaded over the eyeballs in debt), was that they were in turn owned by the government. The government, not wanting the lifetime of fish quotas to get into the hands of a nasty foreign creditor, would not and still does not allow them to go bust. This irresponsible action on behalf of the government will ensure these zombified fish companies will continue undead for many years to come.
The reality is that they need new fresh capital and the only way they can get this is for the government to let undead businesses go bust and to allow a reorganization in their management and capital structure to take place. No one in a zillion years will buy companies with more than 30 times leverage to pre-tax earnings!
Seeing the demise of formerly solvent companies suddenly becoming insolvent with borrowing in Swiss Francs and Yen was something I would not wish upon anyone. Whilst individuals have personal responsibility for their actions, if the Icelandic State is setting the conditions so that the rational course of action is to participate in the boom, then culpability must fall, in the final analysis, with the originators of the problem: the Icelandic Central Bank.
The fact is that the whole economy of Iceland collapsed and the Central Bank of Iceland, who set the scene to cause the collapse, still exists in its current form. Will they ever learn? If they were a private company, they would have wound up with their assets sold to the highest bidder. “Be done with them all,” should be the cry, these failed, manipulating regulators. This is, clearly, what we should be saying to all Central Banks around the world.
While the central bank was fiddling as their collapsed economy, I remember fishermen coming into port after trips at sea with a hold full of valuable fish deteriorating minute by minute. Buyers like my company could not transact with them, as we could not convert sterling or euro into krónur (the market did not exist). At one point in time, my Finance Director and I had a case packed with sterling, dollars and euro ready to get on a plane and physically give cash in exchange for fish. Fortunately, we found a very accommodating travel agent, who could not believe his luck, that there were these two English guys with hard currency who actually wanted some of his “worthless” Icelandic krónur. For him, Santa Claus had arrived early. We did a deal with him and used the stock of money (krónur) with which he had been lumbered to facilitate the purchase of fresh fish; needs must be met in these circumstances. In fairness to the Icelandic Central bank, they told us (20 minutes before officially going bust via email) not to wire them money to supply to our fishermen as they themselves were going bust!
To make matters worse the new Icelandic government has decided in its infinite wisdom that the people of Iceland own the fish quotas. Over 20 years, 5 percent of these quotas will be confiscated off the current quota owners each year so they can never be owned by foreigners! What the Iceland government does not realize is that a banker in Geneva or Tokyo does not want fish quota, he wants cash! In reality these foreign bankers will sell this quota back to the Icelandic fleet owners, who will be willing buyers at a discount. I hope that reason will prevail and these fishing quotas be privatized rather than the current long-term trajectory with the Icelandic fishing industry being zombified.
Chaos is never a good economic policy. Central planners, as with central banks, can no more set the cod price of the day than they can set the price of money. Do not interfere with the peoples’ money. In the case of Iceland, if left alone they would have been chugging along with a great source of sustainable raw material — the fish. This is fished in the some of the world’s finest fishing grounds. They also possess a tremendous source of cheap geothermal power, which can be slowly and painstakingly used to rebuild a wonderfully long-term, enduringly prosperous economy.
The world centre of gravity of the Austrian Economics movement has long been the United States, especially since Ludwig von Mises arrived there on August the 3rd, at the age of fifty-eight, in a turbulent 1940.
The 1998 Spanish publication of Money, Bank Credit, and Economic Cycles, by Jesús Huerta de Soto — followed by the English translation in 2006 — then helped to revive European claims of an Austrian equality with the United States, particularly with the trans-Atlantic returns of Hans-Hermann Hoppe and Guido Hülsmann, after long periods of residence in North America.
In particular, a burgeoning growth of the Spanish echelon of the global Austrian movement — initially under the wing of Professor Huerta De Soto — may be starting to prove that a few years in the United States is becoming an option, rather than a requirement, for an Austrian academic to be taken seriously as a heavyweight intellectual force.
This brilliant monograph, written in crisp classical English, flows like a rising tide.
It begins with a description of the rise of the European Union, which was always a dialectic, claims Bagus, with four classical liberal freedoms of movement on one side of a divide; these liberal freedoms covered goods, capital, people, and the provision of services. These four virtues then clashed up against the many vices of socialism, and particularly the desire for new imperial satrapies, especially given the WWII fall of colonial European empires and their replacement by the all-embracing and invisible empire of the American government, particularly after the Suez crisis.
Just before his first chapter, Two Visions for Europe, Bagus removes his gloves and goes straight for the throat, in the best uncompromising style of Von Mises himself; this is perhaps a delight to all of the writers at The Daily Bell, in Switzerland:
“In reaction to the [recent financial] crisis, the political class has tried desperately to save the socialist project of a common fiat currency for Europe.”
Once he has established his outright grip in this manner, Bagus refuses to let go throughout the entire book. Essentially, he claims that the fundamental schism at the heart of the EU project is one of a classical liberal Roman Catholic Church model engaged in a do-or-die struggle with a socialist Roman Empire model. From its Capitoline Hill inception in Rome, in 1957, upon the very site of the Temple of Jupiter Optimus Maximus, the EU project has thus always been doomed to be one of conflict and strife, driven by a perpetually unsatisfactory compromise between these two bitter rival forces of the human condition; liberty and tyranny.
On top of this conflict comes the later antagonism between the Austrian-influenced post-war Germans and their economic miracle, combined with the Saint-Simon socialist French and their desire to rebuild the empire they had lost when the Wehrmacht crushed their Napoleonic republic in 1940 (a military conflict in which Mises himself was swept up as he managed somehow to keep just one bus journey ahead of the Panzers on his terrifying road to New York). Bagus is uncompromising:
“The real reason the German government, traditionally opposed to the socialist vision, finally accepted the Euro, had to do with German reunification. The deal was as follows: France builds its European empire and Germany gets its reunification. It was maintained that Germany would otherwise become too powerful and its sharpest weapon, the Deutschmark, had to be taken away — in other words, disarmament.”
After this first layer of his intellectual pyramid is built, Bagus delves into The Dynamics of Fiat Money, in his next chapter. In a Michelin-starred culinary mix of monetary history, contemporary politics, and Austrian Economics, Bagus makes a bold prediction:
“Governments started to get heavily involved in banking. Unfortunately, interventions are a slippery slope, as Mises pointed out in his book, Interventionism. Government interventions cause problems from the point of view of the interventionists themselves: begging for additional interventions to solve these additional problems, or the abolition of the initial intervention. If the course of adding new interventions is chosen, additional problems may arise that demand new interventions and so on. The road of interventions was taken in the field of money, finally leading to fiat money and the Euro. The Euro begs for political centralization in Europe. The end result of monetary interventions is a world fiat currency.”
God forbid that should happen, though the world elites may try it on with us for a while before that power-grab collapses too, just as their precursor fiat currencies are collapsing today in the face of their endless money printing to bail themselves out from a gigantic mess of their own greed-fuelled creation.
After explaining this end-game strategy, Bagus details how we got to this point, in one of the clearest expositions of the Austrian Business Cycle Theory that I have yet to read. Indeed, he leads us towards the intriguing idea that the intertwining of central banking and fiat currency, with expansive state war, epitomised by both world wars, is much more than a coincidence:
“After the collapse of Bretton Woods, the world was dealing in fluctuating fiat currencies. Governments could finally control the money supply without any limitations to gold, and deficits could be financed by central banks. The manipulation of the quantity of money has only one aim: the financing of government policies. There is no other reason to manipulate the quantity of money.”
Yes, the diamond-hard spirit of Von Mises is alive and well, and living in the home of Francisco de Vitoria and the other Spanish Scholastics, from which Mises and the other early Austrians, such as Menger, also drew much inspiration.
But one impregnable bastion still stood between the nascent world government elites and their rotten self-serving dream of unlimited money printing and a world Soviet financial gulag — which in my opinion is a hopeless dream anyway, as it will quickly go the way of the Soviet Empire — and that was the post-war Wirtschaftswunder Germany of Konrad Adenauer and Ludwig Erhard, and the semi-granite rock upon which this economic miracle was built, the German Bundesbank.
Yes, although the Bundesbank did inflate its currency, like all other central banks, its intimate knowledge of the consequences of Weimar caused it to inflate a lot less than the rest, with perhaps its only rival to fiat currency hardness being the Swiss National Bank. Bagus explains how the destruction of this bastion was approached, in his third chapter, The Road to the Euro:
“Not surprisingly, governments and central banks wanted to escape the ‘tyranny’ of the Bundesbank. The system finally failed. The declaration of surrender was made when the [European Monetary System] corridor was amplified to ±15 percent in 1993. The Bundesbank had won; it had forced the others to declare the bankruptcy. It had followed its hard money philosophy and not succumbed to the pressure of other governments. Anyone who inflated more than the Bundesbank was showing its citizens a weak currency. The Deutschmark, in turn, was respected throughout the world and very popular among Germans. It brought relative monetary stability not only to Germany, but to the rest of Europe as well. The Deutschmark, of course, only looked stable in comparison to the rest. It itself was highly inflationary and lost nine tenths of its purchasing power from its birth in 1949 to the end of the EMS.”
Of course, this begs a simple question about all of the various intellectual pygmies who call themselves ‘servants of the people’ within the various European governments. If they truly wished to serve their peoples — rather than serve themselves as masters — then instead of being jealous about German financial success and the relative prosperity of the German people, they should simply have copied German policies rather than deriding the Bundesbank for being too effective at making ordinary people wealthier and happier, at the cost of preventing politicians from engaging in their endless dreams of aggrandising themselves, at the cost of everyone else, via unlimited money printing.
In fact, Bagus makes this point clear in his final paragraph in his second chapter:
“If Europeans had just wanted monetary stability and a single currency in Europe, Europe could just have introduced the Deutschmark in all other countries. But nationalism would not allow for this. With a single currency, there were no embarrassing exchange rate movements that would reveal a central bank’s inflating faster than its neighbors. For the first time there was a centralized money producer in Europe that could help to finance government debts, and open new dimensions for government interventions, and redistribution of wealth.”
However, the ‘problem’ remained of how to get the German people to give up their ‘evil’ independent Bundesbank and its relatively honest-money policies? Obviously, German politicians would go along with the plan. Exploitative elites in different countries have always felt more at home with other exploitative elites, rather than with the exploited hoi polloi who pay the taxes to make their lives comfortable, who share merely a language and a physical geography with ruling elites, rather than the same attitude towards life; the politicians and civil servants of our current EU may require translators — if they lack fluency in the lingua franca of English — but they get on much better with each other at their cloistered conferences than they do with their respective peasant rabbles beyond the gates.
This is the trick Bagus believed the elites settled upon:
“The implicit blaming of Germany for World War II and making gains as a result was a tactic that the political class had often used. Now the implicit argument was that because of World War II and because of Auschwitz in particular, Germany had to give up the Deutschmark as a step toward political union. Here were paternalism and a culture of guilt at their best.”
Indeed, you may have noticed yourself that for several years it almost became a Rite of Passage for world elite members to make the required pilgrimage to Auschwitz, to really nail the point home, with Gordon Brown, of course, being several years too late.
More, however, was needed than the promised removal of a continual drip-feed of collective guilt (as if people born decades after WWII should ever really consider themselves blameworthy for what other people did before they themselves were alive). The endless drone about Auschwitz was the stick; but what about a carrot to sweeten the bitter pill of the Euro?
This was constructed in the form of the ‘Stability and Growth Pact’, in which other non-German members of the Euro would be forced to jump rigorous financial hurdles and to pass continuing acid tests, to prevent the Mediterranean La Dolce Vita lifestyle — fuelled by the printing presses of the peseta, the lira, and the drachma — from diluting the iron-hard rules of the soon-to-be ex-Bundesbank.
It was all a despicable sham, of course, and nobody believed any of it, especially the lying politicians of Germany, even when it was being put together. But as they say with the eternal hope of marriage; proceed in haste and repent at leisure. The German people were thus hoodwinked into giving up their precious Bundesbank, which had served them so well since 1948:
“The Stability and Growth Pact was not as harsh as Theo Waigel had suggested. When the SGP was finally signed in 1997 it had lost most of its disciplinary power. The result prompted Anatole Kalteksky to comment in The Times that the outcome of the Treaty of Maastricht represented the third capitulation of Germany to France within the century, citing as well the Treaty of Versailles and Potsdam Agreement.”
As Mark Twain said, history usually fails to repeat itself, but it does often rhyme.
Moving into his fourth chapter, Why High Inflation Countries Wanted the Euro, Bagus gets much more technical and produces lots of charts and graphs to detail and highlight his developing thesis. He does, however, continue in the same refreshing Misesian vein within the text:
“Governments of Latin countries, and especially France, regarded the Euro as an efficient means of getting rid of the hated Deutschmark. Before the introduction of the Euro, the Deutschmark was a standard that laid bare the monetary mismanagement of irresponsible governments.”
In the fifth Chapter — Why Germany Gave Up the Deutschmark — Bagus drills deeper into the cunning plan to part the German people from their wealth and their independence, via the machinations of their rapacious and power-hungry politicians, eager to seek further baubles from the EU bureaucracy and a luxurious financial independence from their rotten capricious voters.
The Bundesbank thus had to be destroyed, to allow the dreams of Keynesians within governments everywhere, to flourish and prosper:
“Mitterand, France’s president from 1981–1995, had hated Germany in his youth and despised capitalism. The French patriot was a staunch defender of the socialist vision of Europe and geared his policies toward defending France against the economic superiority of its Eastern neighbor. Germany’s superiority was based on its currency. Mitterrand’s intention was to use Germany’s monetary power for the interest of the French government.”
So, a relationship built on love and trust then. It was surely bound to last.
Of course, the plan would never have worked without the duplicity of German politicians:
“The Euro allowed German politicians to rid themselves of stubborn Bundesbankers, promising the end of the bank’s ‘tyranny.’ More inflation would mean more power for the ruling class. German politicians would be able to hide behind the ECB and flee the responsibility of high debts and expenditures.”
As you might say in a high quality jazz club after listening to a particularly dense and interwoven melody; “Nice”.
Bagus finishes his fifth chapter with a summation of what the Euro has really been about all along:
“In sum, the introduction of the Euro was not about a European ideal of liberty and peace. On the contrary, the Euro was not necessary for liberty and peace. In fact, the Euro produced conflict. Its introduction was all about power and money. The Euro brought the most important economic power tool, the monetary unit, under the control of technocrats.”
Bagus is particularly scathing about the political gnomes and bureaucratic dwarves of the various exploitative tax-eating classes, who are currently trying to rescue their own miserable political careers by wrecking the economic futures of their exploited tax-paying classes. For instance, he has a lot to say about that quisling betrayer of the German people, Angela Dorothea Merkel:
“Merkel herself stated that: ‘If the Euro fails, the idea of European integration fails.’ Her argument is a non sequitur. Naturally, one can have open borders, free trade and an integrated Europe without a common central bank. Here Merkel showed herself to be a defender of the socialist version of Europe.”
The rest of the book then contains a brilliant and detailed analysis of the relationship between the Federal Reserve and the European Central Bank, and the political interconnections between the two, as well as an up-to-date breakdown of how the Euro crisis has developed over the last three years. Bagus also explains how the ECB is stoking up the fires of future European conflict in its bid to help the EU create a strait-jacket Force majeure political union.
At the end of his tenth chapter, The Ride Towards Collapse, Bagus neatly summarises the current situation after an interesting discussion of the concept of ‘qualitative easing’, the evil twin of ‘quantitative easing’:
“The European Union has become a transfer union. Interest rates that most governments have to pay on their debts remain at a high level. Sovereign debt levels are still on the rise. The future will tell us if the situation was sustainable.”
In the next chapter, The Future of the Euro, Bagus clearly and succinctly answers the following set of questions:
“Have we already reached the point of no return? Can the sovereign debt crisis be contained and the financial system stabilized? Can the Euro be saved? In order to answer these questions we must take a look at the sovereign debt crisis, whose advent was largely the result of government interventions in response to the financial crisis.”
No stone is left unturned, as they say, though Bagus does it in as few words as possible.
In summation, most living Austrian authors fall into one of three broad camps; the Misesian traditionalists, the Hayekian cerebralists, or the Rothbardian essentialists. I can only say that if forced to pick one of the three, I believe the spirit of Von Mises still lives on within the pen of Bagus. For example, was this written by Mises or Bagus? (The clue is in the last sentence):
“As Austrian business-cycle theory explains, the credit expansion of the fractional-reserve-banking system caused an unsustainable boom. At artificially low interest rates, additional investment projects were undertaken even though there was no corresponding increase in real savings. The investments were simply paid by new paper credit. Many of these investments projects constituted malinvestments that had to be liquidated sooner or later. In the present cycle, these malinvestments occurred mainly in the overextended automotive, housing, and financial sectors.”
Or is the directional style of Bagus a combination of all three broad camps, plus something new? Are we going to have to invent a new term, such as ‘Bagusian’, to create an evolving fourth camp? If we get three books of this quality, in sequence, then I feel we may be forced to deploy such a term.
To wrap up, in his conclusion, Bagus outlines all of the various possible futures he believes the Euro may possess in various different random universes. Its outcome is in the lap of the Gods, he thinks, as to which one of these universes the Euro will finally enter, though he outlines one or two of the more likely predictions and why he thinks these will be favourite with the bookmakers.
I will let you download, buy, or in some way imbibe this required-reading book, to find out what the details of these predictions are. However, I think we all know the general conclusion; all fiat monies ultimately end up as worthless. The interesting part of the story is how they get there.
And if you want to know the illuminating and interesting history (and future) of the Euro, and how it interconnects with the planned world fiat money — which you can call ‘the Bancor’ or ‘the SDR’, though I prefer ‘the Soviet’ — then you must read this book.
To ask the Chancellor of the Exchequer how much debt interest has been paid on Government securities held by the Bank of England and its subsidiaries in the last 12 months.
Mark Hoban (Financial Secretary, HM Treasury; Fareham, Conservative)
In the 12 months to end September 2010, the Bank of England and its subsidiaries have received the following interest on holdings of UK Government debt securities:
£ million
Banking Department
187
Issue Department
282
Bank of England Asset Purchase Facility Fund Ltd
8,527
Total
8,996
That’s right – the Treasury paid the Bank of England about £9 billion in debt interest.
The time for a six-month update on the figures is soon approaching, so I wondered what TCC readers thought…
Is this just the left and right hands of the State passing money to and fro and should bonds held by the Bank of England be written off? Is it vital those bonds are held so that QE can be “reversed” or is that like, as Mises put it, reversing over the man you just ran down in your car?
Mises also refers to the fact that deflation can never repair the damage of a priori inflation. In his seminar, he often likened such a process to an auto driver who had run over a person and then tried to remedy the situation by backing over the victim in reverse. Inflation so scrambles the changes in wealth and income that it becomes impossible to undo the effects. Then too, deflationary manipulations of the quantity of money are just as destructive of market processes, guided by unhampered market prices, wage rates and interest rates, as are such inflationary manipulations of the quantity of money.
Jean-Marie Eveillard, who manages $36 billion dollars of other people’s money via First Eagle Funds, discusses the current highly interesting markets in China, India, gold, silver, mining, and much more, in the 14-minute King World News interview below, with Eric King.
I thought this might be interesting, because halfway through his analysis, Mr Eveillard cogently explains how the Austrian School of Economics has provided the most convincing explanation for all the financial events over the last few decades, including the current peculiar circumstances in which we find ourselves, in which non-Austrian economists continue to find themselves baffled, month after month, with a global economy which adamantly refuses to follow the tenets of Lord Keynes:
Most people have one principle “asset”: the house they live in. Long gone are the days when your physical house was simply your home and nothing to do with your financial assets.
Indeed, as the last boom was manufactured by the low interest rate policies of most of the central banks in the Western World, cheap credit pushed up asset prices, notably houses, which you could then cash in, spending this newly minted credit, drawn down as money to buy the goods and services you desired.
House prices, perversely, are one of the few key costs of living to be celebrated when they rise. If a man from Mars came down to earth, he should surely conclude that this trend was mad and that people supporting a cost of living increase, on such a stupendous scale, were surely punch drunk on inflationist ideology.
Now governments around the world are fully committed to a policy of inflationism. This is when a policy of more cheap money, via exceptionally low interest rates and blatantly “printing” electronic money, is used to create a “recovery.”
Please note: like some doctor of old prescribing a leech to suck out your blood if you had a disease and then doing so again when you started to faint as a result of blood loss, we have the cure of easy money being advocated as the cure for a past easy money policy blunder on a spectacular scale. This policy of inflationism ensures that the creditors of the world will eventually get their debts paid back in nominal terms, but with money of lower purchasing power.
This fleecing of the thrifty, sensible and prudent is thoroughly dishonest. I would prefer to meet a highway robber who at leasts offers me a choice – “Your money or your life?” – rather than the theft of my purchasing power that is taking place now.
Is honest money a lost cause?
I recently read the Bullion Report of 1810, which has a fantastic introduction from the great economist and holder of the Economics Chair at the London School of Economics from 1895 to 1924, Edwin Cannan, prior to Lionel Robbins. He wrote his introduction to this most famous of House of Commons reports in 1919, after the end of the First World War.
Then, our money was debased and the policy solutions were inflationism: dishonestly paying off debt by trying to pass it to the next few generations, covering the misdeeds of the current generation. This was a time in history very similar to the end of the Napoleonic Wars when our money, hitherto being indestructible gold, was replaced by inconvertible paper money and then switched back into convertibility at a lower rate after the conclusion of the peace.
I will leave you with some quotes from Cannan in his Introduction,
But no government involved in a great war is willing to give up so potent an engine for surreptitiously fleecing it’s subjects as an inconvertible currency , whether in it’s own hands or in that of a bank it influences.
Joined with the determination of the public to accept notes, the Act placed in the hands of the Bank the power of creating money without limit for the benefit of it’s shareholders , or Proprietors , as they were called……the Directors had long managed the Bank with one eye indeed on the interest of the proprietors but with the other on that of the “monied interest” generally.
But the bank had found itself comfortable under the Suspension, and felt no enthusiasm for a return to a system which did not guarantee it against being asked to pay it’s debts at a possibly inconvenient moment.
Much as this was written 90 years ago, referring to events of 200 years ago, we should not become despondent that the cause of honest money is doomed: we certainly have sound economic reasoning on our side. We must find better and more persuasive ways to stick up for hard work, thirty management of your affairs and in general for liberty.
This is a core part of the Cobden Centre’s mission and indeed why we set it up.
The book Atlas Shrugged by Ayn Rand details the decay and collapse of a society from real wealth-creating activities to a society that uses policy and laws to appropriate that wealth from others. This leads to a strike by the true wealth creators, leading to a slow motion collapse of society.
The book is based on a society in the US and it tells the story of a family owned railroad business. At the time the book was written, the jet-setting and interstate car age was only just in its infancy.
A parallel seen today will be with the off-shoring of production and jobs with nothing to replace it. We also see in the West a rise of regulation and other enforcements that strangle new enterprises at birth. You may have heard the phrase ‘Too Big to Fail’ with reference to the banks but we now have ‘Too Small to Succeed’! The sums involved with all this regulation and enforcement are staggering. Ayn Rand comments on this state of affairs in the book:-
“Then you will see the rise of the men of the double standard- the men who live by force, yet count on those who live by trade to create the value of their looted money- the men who are the hitchhikers of virtue. In a moral society, these are the criminals, and the statutes are written to protect you against them. But when a society establishes criminals-by-right and looters-by-law- men who use force to seize the wealth of disarmed victims- then money becomes its creators’ avenger. Such looters believe it safe to rob defenseless men, once they’ve passed a law to disarm them. But their loot becomes the magnet for other looters, who get it from them as they got it. Then the race goes, not to the ablest at production, but to those most ruthless at brutality. When force is the standard, the murderer wins over the pickpocket. And then that society vanishes, in a spread of ruins and slaughter.
Do you wish to know whether that day is coming? Watch money. Money is the barometer of a society’s virtue. When you see that trading is done, not by consent, but by compulsion- when you see that in order to produce, you need to obtain permission from men who produce nothing – when you see that money is flowing to those who deal, not in goods, but in favors – when you see that men get richer by graft and by pull than by work, and your laws don’t protect you against them, but protect them against you- when you see corruption being rewarded and honesty becoming a self-sacrifice- you may know that your society is doomed.“
We see today the outworking of this in the case of the ongoing financial scandals in the US and elsewhere (Iceland, Greece, Ireland…), where large private investment bets are paid out in full, backstopped by the taxpayer.
We see moral hazard: risk has been offloaded to those least able to afford it. People who took the risk are not willing to realise, or are sheltered from realising, the consequences of that risk. There is so much wrong here it would take many essays, books even, to document.
The people of Iceland have said no to paying the debts of private banks with public money and the world has not ended. Are the people of Ireland also about to say no? Austerity seems to now mean the taxpayer pays so that those that took the risk do not have to.
On the subject of Money
“Whenever destroyers appear among men, they start by destroying money , for money is men’s protection and the base of a moral existence. Destroyers seize gold and leave to its owners a counterfeit pile of paper. This kills all objective standards and delivers men into the arbitrary power of an arbitrary setter of values. Gold was an objective value, an equivalent of wealth produced. Paper is a mortgage on wealth that does not exist…Paper is a check drawn by legal looters upon an account which is not theirs: upon the virtue of the victims.”
Today we have throughout the world paper fiat currencies backed by nothing. Debt is now paid simply by ‘printing’ more out of thin air – the Quantative Easing programmes of central banks around the world. ‘Printing’ was put in quotes as today printing is done simply with a computer keyboard, adding the appropriate number of zeros to an entry somewhere in a computer database.
The account these ‘looters’ draw on is the debasement of the currency, by that insidious process of inflation.
Inflation is a stealth tax on savers and pensioners applied by creating currency in ever-increasing amounts through government deficit spending – the unearned income of ever increasing debt. Inflation is not rising prices but the falling in the value of money.
Guilt – the weapon used against you.
Ayn Rand identifies the weapon used against you to great effect. It is an insidious tool of manipulation. That weapon is your decency and sense of fair play, it is your guilt. By making you feel guilty about any topic, it disarms you from an effective response. You are made to feel a bad person – the games used here are very cynical. Political Correctness is such a tool, one word accusations which instantly apportion guilt, making you defenceless, innocence denied. You know those words, they enable the manipulator to win the argument without having one. By making you guilty up front you have lost position, do not allow these contemptible frauds to win. Ayn Rand warns of this in the book:
“We are on strike, we, the men of the mind.
We are on strike against self-immolation. We are on strike against the creed of unearned rewards and unrewarded duties. We are on strike against the dogma that the pursuit of one’s happiness is evil. We are on strike against the doctrine that life is guilt.“
Moreover:
“Guilt is a rope that wears thin.”
“The worst guilt is to accept an unearned guilt”
“To hold him guilty in a matter where no innocence exists is a mockery of reason.”
This book should be mandatory in all schools for study. It teaches you how to think, not that I agree with everything, as I did note a certain self-centred sterility which would not work in a family setting. The book exposes well the cynical manipulation by others who try to exploit one’s good nature against yourself.
A comment on the Justice system
“When one acts on pity against justice, it is the good whom one punishes for the sake of the evil; when one saves the guilty from suffering, it is the innocent whom one forces to suffer. There is no escape from justice, nothing can be unearned and unpaid for in the universe, neither in matter nor in spirit—and if the guilty do not pay, then the innocent have to pay it.”
In Conclusion
Finally, what we see today can be summed up with this following quote which preceded Atlas Shrugged and was written during the Great depression by Adrian Rogers (1931):
“You cannot legislate the poor into prosperity by legislating the wealthy out of prosperity. What one person receives without working for, another person must work for without receiving. The government cannot give to anybody anything that the government does not first take from somebody else. When half of the people get the idea that they do not have to work because the other half is going to take care of them, and when the other half get the idea that it does no good to work because somebody else is going to get what they work for, that my dear friend, is the beginning of the end of any nation. You cannot multiply wealth by dividing it.”
One question may be, “Will the film be true to the book?” However the question may be, “Will Ayn Rand’s insights come over in the film or will it just be an excuse to defame capitalism with a straw-man cartoon of crony capitalism?”
What should be portrayed in the film is the ultimate bankruptcy of Marxism/socialism and the Robin Hood class of a self enriching elite, always claiming to act for the benefit and in the name of the people they ultimately oppress. In the book the society decays and collapses because those in control do not create any wealth but conspire to appropriate and consume the wealth created by others, wrapping it up of course in the obligatory self-justifying but bankrupt cause.
George Orwell’s sage words are ever more applicable today: “In the time of universal deceit, telling the truth is a revolutionary act!”
Recent economic data has convinced the Bank of England not to expand its Quantitative Easing program. According to the Office of National Statistics, annual CPI inflation rose from 3.3% in November to 3.7% in December, 2010 and is now currently 4%. The overall expectation is that CPI inflation will peak at 4.4% by the middle of 2011.
This increase in inflation coupled with poor economic data (with GDP contracting 0.5% last quarter) has come as something of a shock to the Bank of England. The Bank was apparently operating under the assumption that printing money was the way to get the economy going. They are surprised that the result has been a significant increase in inflation and a worsening economy.
Rather helpfully, on the Bank’s website there is an explanation of how Quantitative Easing was supposed to improve the economy. Quite clearly, the Bank explains that they purchased British Government bonds (gilts) and high quality (investment grade) bonds from private sector companies (banks, pension funds, insurance companies and non-financial institutions). The Bank’s concern was that there was too little money “circulating” in the economy. Using this method, the Bank was able to inject the much needed money directly into the economy and the companies that needed it. The idea was two-fold; a) asset prices increase, wealth increases and spending increases; b) more money, means more spending, bank reserves increase, meaning more lending, spending and income increases, inflation arrives at the magic 2% rate and we all live happily ever after, growing fat off of the magic wealth creation machine at the Bank. But there is a dark side to this fairy tale and at the risk of sounding clichéd, it is because in this case, more money really does mean more problems.
The problem is that the Bank is operating under the rather naïve assumption that printing money and rising prices mean that they are creating value. If this were true, none of us would need to work. The government could just issue us all with paper, ink and printing presses. Whenever we needed to buy something we could just print off some money and go to the shops and buy what we need. And of course, prices would rise, the shops would make lots of profits and apparent wealth would increase. There is one nagging doubt however. Who would make all the goods that we would buy, if we are all sitting at home printing money? Perhaps we could get the Morlocks to do it. Or maybe specially trained chimps.
Clearly, the Wizards of Oz, currently residing at the Bank of England, do not understand how value is created, how capital grows and how the wealth in society is generated. To create value one must produce something of value, a good that someone can use to improve their wellbeing or allow them to subsist. This good can be sold for money and the money can be used for consumption, held as a cash balance or to improve the tools needed to produce a greater quantity and quality of goods. Ultimately, all money will be spent on either a consumer good (like a loaf of bread or a new pair of shoes) or a capital good (like a baker’s oven or shoe-making machinery). The latter choice would result in an increase in capital (the value of all capital goods) and capital goods, and in the long run, a general increase in wealth. The increase in wealth occurs because an improvement in the quality and quantity of capital goods allows us to create a greater number of better quality consumer goods in a shorter period of time. This increase in the supply of consumer goods means that their price will fall resulting in a reduction in the cost of living for the society at large. We will all be better off. The important concept to take away is that for this increase in wealth to occur, somebody had to sacrifice some of their consumption to instead purchase a capital good (otherwise known as an income producing asset). This increases the price of income producing assets relative to consumer goods. From the perspective of a consumer like you and me, the goods we buy become cheaper and in a healthy economy, the prices of consumer goods fall over time.
The Bank of England does not believe that any sacrifice is needed today for an increase in wealth tomorrow. In the Land of Oz you do not need to sell something of value in order to get money in exchange, you can just print money instead. Obviously, printing up banknotes does not create anything of value. What happens instead is the reverse of the process described above. The increased supply of money, according to the fundamental laws of economics, will reduce its purchasing power, meaning that the relative prices of consumer goods will rise over time. This will increase the cost of living for people in general, meaning their real wages will fall. Because the cost of labour is now comparatively cheaper, rather than invest in an increase in capital goods, companies will invest in labour instead (Jesus Huerta De Soto, 2009). This means there will be a lower quantity and quality of capital goods and a reduction in the future supply of consumer goods. For the average person, this means a lower salary and a smaller selection of more expensive goods to spend it on. Most of us become poorer.
But not all of us will become poorer. By printing this money and handing it over to a favoured few in society (i.e. the banks) this is in one sense, handing them nothing and in another sense, pure and simple counterfeiting. This is because, in the case of Quantitative Easing, the banks will trade this money for real or financial assets, or to their employees in exchange for their services. This increased monetary demand for financial assets or banking services will bid up their prices. The assets can then be sold in the near term at a profit and the banking employees will spend their increased salaries and bonuses on consumer goods before prices start to rise. Bankers will certainly feel wealthier. In fact, this whole process represents a wealth transfer from one group of people in society to the banks and a shadow tax on much of the population. This is because the early recipients of the new money (the bankers and the Government) will get to spend this money before the prices rise significantly. Slowly this new money will be dispersed around the economy but the further you are from the source the less it will be worth when you finally receive it.
The main beneficiaries of Quantitative Easing therefore, are the Government and the banks. The banks buy gilts from the Government and then sell them to the Bank of England (just under £200bn’s worth) at a profit. The Bank of England pays for these gilts with freshly printed money. Thus the Government has a ready buyer for its debt and the banks become more profitable and apparently more stable. Because of their now greater reserves and new found stability, the official rationale behind Quantitative Easing was that banks would then lend out these reserves to businesses and households thus stimulating the economy. Except, in fact the opposite has occurred. The economy has contracted, inflation is continuing to rise, net lending is down and unemployment has risen.
With a firm understanding of the basics of how wealth is created the Bank of England would have known this would happen. Unfortunately, they operate under the Keynesian delusion of how the world works and their main objective would appear to be saving the banks (because we are all doomed without them) rather saving the economy. With inflation getting higher and higher one might wonder why Mervyn King, the Governor of the Bank of England, does not simply raise interest rates or resell the gilts. However, this would set the Bank of England’s plan into reverse, with higher rates leading to lower asset values, weakened balance sheets and an increase in mortgage defaults, leading to more bank losses and bankruptcies.
Clearly, the Bank of England’s plan is doomed to failure and has been from the start. Mervyn King would have greater luck trying to empty the ocean with a bucket. The problem is two-fold; a) the Bank of England views the recovery or liquidation stage of the business cycle as a problem to be solved and; b) it tries to solve this problem by doing more of what caused this problem in the first place. This “solution” has prevented the necessary liquidation of unprofitable projects and write-offs of bad loans, and has continued to subsidise inefficient operations. Quantitative Easing has resulted in a transfer of wealth from society at large to the banks and the Government, and has vastly extended the length of what would have been a short but sharp recession. Quantitative Easing has made us poorer while benefiting a select few in society.
