Via today’s Cobden Centre article, A Free Money Movement, Antoine Clarke predicts the rise of the Free Money Movement called for by Hayek:
What we now need is a Free Money Movement comparable to the Free Trade Movement ofthe 19th century, demonstrating not merely the harm caused by acute inflation, which could justifiably be argued to be avoidable even with present institutions, but the deeper effects of producing periods of stagnation that are indeed inherent in the present monetary arrangements.
You can find the relevant Facebook groups here and here.
US Republican Congressman and former presidential candidate Ron Paul has released End the Fed. Paul explains why we should care about central banks, how we got into the present economic mess and why the Federal Reserve should be abolished. It is a brief and enjoyable read with suggestions for more scholarly reading, some of which are on my bookshelf and within my recommendations for rethinking economics.
Today, we take for granted that a government should have a monopoly on the issue of currency and that the quantity of money should be manipulated by committees of wise men for our own good. There is an extensive body of serious literature which suggests we should should think again.
But asset inflation—ultimately, the debasement of the currency—as the principal source of wealth corrodes the character of people. It not only undermines the traditional bourgeois virtues but makes them ridiculous and even reverses them. Prudence becomes imprudence, thrift becomes improvidence, sobriety becomes mean-spiritedness, modesty becomes lack of ambition, self-control becomes betrayal of the inner self, patience becomes lack of foresight, steadiness becomes inflexibility: all that was wisdom becomes foolishness. And circumstances force almost everyone to join in the dance.
The 100% proposal is the opposite of radical. What it asks, in principle, is a return from the present extraordinary and ruinous system of lending the same money 8 or 10 times over, to the conservative safety-deposit system of the old goldsmiths, before they began lending out improperly what was entrusted to them for safekeeping. It was this abuse of trust which, after being accepted as standard practice, evolved into modern deposit banking.
In their working paper “Assessing UK money supply measures in the light of the credit crunch”, Toby Baxendale and Anthony J. Evans provide a better measure of the money supply. In this article, Steven Baker explores the background to the paper and indicates some key findings.
Many people know the Bank of England is creating new money through quantitative easing but if the quantity of money is being increased, how is that quantity being measured? What is counted as money?
The stock market has enjoyed its best month in more than six years, boosting the savings of millions of investors and bringing hope that the worst of the recession may be over.
The FTSE 100 index of leading shares climbed 8.5 per cent in July, adding £134 billion to the value of the stock market, its best monthly performance since the fall of Baghdad during the second Gulf war in April, 2003.
The rise in share prices followed a series of strong profit figures from Britain’s biggest companies, with many proving to investors that they are coping well in the recession by cutting costs.
[U]ninterrupted stock market growth never indicates favorable economic conditions. Quite the contrary: all such growth provides the most unmistakable sign of credit expansion unbacked by real savings, expansion which feeds an artificial boom that will invariably culminate in a severe stock market crisis.
In other words, and most unfortunately, the present stock market conditions are an illusion produced by quantitative easing that will not last. And:
The crash will take place as soon as economic agents begin to doubt the continuance of the expansionary process, observe a slowdown or halt in credit expansion and in short, become convinced that a crisis and recession will appear in the near future. At that point the fate of the stock market is sealed.
De Soto, “Money Bank Credit and Economic Cycles”, p462 [↩]
Britain’s banks remain over-indebted, highly vulnerable and harbour growing funding gaps which leave them susceptible to future shocks, the Bank of England has said.
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In a sign of the strain facing nations’ public finances – including the UK’s – the report also revealed that the threat of a sovereign debt default has become one of the biggest concerns for investors. A survey put together for the report identified sovereign risk as a financial stability concern for the first time.
The report also laid out a number of key criteria banks will have to fulfil in the future – reforms which could transform the structure of the financial system. Among its recommendations were that in future banks should “face a credible threat of closure or wind down”, should have a “risk-based, pre-funded deposit insurance system”, should increase their levels of capital and liquidity, depending on their size, and should provide a “will” which explains how to dismantle them in the event of insolvency.
The Bank of England’s Financial Stability Report is available here. The summary is quite accessible.
However, to answer the underlying “why?” one must look elsewhere. It may also be worth considering this speech by the Earl of Caithness:
The Banking Bill which we are currently discussing in the House is very complex and detailed, but it does nothing to resolve the current banking crisis, which lies at the heart of our economic problems. … the fault that really needs correcting is our whole banking system.
The debate which must be reopened and made contemporary is that between the Banking and Currency Schools of the nineteenth century. At the time of the 1844 Bank Charter Act, the Currency School committed three errors which haunt us today. More to follow at The Cobden Centre.
I am delighted to report that I have established The Cobden Centre, an educational charity for honest money and social progress, together with founder Toby Baxendale. You can find out more at our web site. The Cobden Centre provided this site’s previously-published reading list, Rethinking Economics.
Over the coming months, The Cobden Centre will provide a number of insight articles drawing on our extensive base of literature and covering, as a beginning, the scope of de Soto’s Money, Bank Credit and Economic Cycles:
The legal nature of the monetary irregular deposit contract. Types of deposit contract including the deposit of fungible goods, such as money. The economic and social function of irregular deposits. The essential differences between the irregular deposit contract and the monetary loan contract. The emergence of general legal principles governing the irregular deposit contract.
Historical violations of the legal principles governing the monetary irregular deposit contract. Greece and Rome. The late Middle Ages: the Mediterranean, Florence, Medici and Catalonia. Banking under Charles V and the doctrine of the school of Salamanca. A new attempt at legitimate banking: the Bank of Amsterdam, David Hume, Adam Smith, the Banks of Sweden and Amsterdam, John Law and Richard Cantillon.
Attempts to legally justify fractional-reserve banking. The error of equating irregular deposit and loan contracts. Redefining the concept of availability. Deposits, repurchases and life insurance.
The credit expansion process. The bank’s role as a true intermediary in the loan contract. The bank’s role in the monetary bank-deposit contract. The effects produced by bankers’ use of demand deposits: individual banks of various sizes and the entire banking system. Simultaneous credit expansion by all banks. Deposit creation compared to unbacked bank notes. Credit tightening.
Bank credit expansion and its effects on the economic system. Capital theory. Effects on the productive structure of an increase in credit unbacked by voluntary saving. The circulation credit theory of the business cycle.
Additional considerations on the theory of the business cycle. Crises and real saving. Postponing crises. Consumer credit. The self-destructive nature of artificial booms and forced saving. Squandering capital. Credit expansion as the cause of massive unemployment. The inadequacies of national income accounting. Avoiding business cycles. The manic-depressive economy. Marx, Hayek and the view that economic crises are intrinsic to market economies. Empirical evidence for the theory of the business cycle.
A critique of monetarist and Keynesian theories. The mythical concept of capital. The mechanistic quantity theory of money. Rational expectations. Say’s law of markets. Keynes’ arguments on credit expansion. The marginal efficiency of capital. The Marxist tradition.
Central and free banking theory. A critical analysis of the Banking School. The Currency School and the Banking School. Central banking vs free banking. The impossibility of socialism and its application to the central bank. The failure of banking legislation. The concept of saving and the demand for money. The false debate between supporters of central banking and defenders of fractional-reserve free banking.
The Bank of England has pledged to pump another £50bn into the economy as it steps up efforts to haul the UK from its worst recession in at least two decades.
China has given its clearest warning to date that emergency monetary stimulus by Western governments risks setting off worldwide inflation and undermining global bond markets.
Continuously injecting additional amounts of money where it creates temporary demand, together with an expectation of continuously rising prices, draws labour and resources into use in areas which will last only as long as the supply of new money.
It seems everyone is talking about swine flu and the financial crisis, but they seem to be most persistently interested in what has gone wrong with the economy. After I explained the key points of this Nobel Prize Lecture by F A Hayek to my hairdresser this morning, she had confirmed in her mind what she always knew: that economists cannot discover all they need to make accurate predictions.
This is something we all need to understand.
What follows is a precis of that 1974 lecture (sometimes quoted verbatim). It explains why and how the economic policies of the time contributed to inflation and unemployment and it points the way out of our present and coming difficulties.
This is its message:
Physical scientists can observe and measure the things that drive the sytems they are studying.
Society, and therefore the economy, is not like a physical system: many of the most important factors cannot be seen or measured. Consider the thoughts and intended actions of millions of people at different times, for example.
Economists and other social scientists, in their attempt to be scientific, ignore what they cannot measure.
Therefore, many of the most important factors affecting the economy are not considered, while some of those factors which can be measured are deliberately controlled.
The results are incorrect predictions and actions which positively harm society.
In a sentence: society is not a machine to be controlled, but a garden to be cultivated.
By the way, the remark about making astrologers look good is attributable to the Keynesian economist J K Galbraith:
The only function of economic forecasting is to make astrology look respectable.
The precis:
A Precis of “The Pretence of Knowledge”
The topic of this lecture is the chief practical problem of economists, who must now explain how to stop the accelerating inflation they have caused. In imitating the techniques of the physical sciences, economists have made grave errors of economic policy.
The assertion guided policy that there exists a positive correlation between total employment and the aggregate demand for goods and services. It implies we can permanently ensure full employment by maintaining total expenditure. This is fundamentally false and very harmful. Read more
Despite the confusing terminology, quantitative easing is nothing new. It is simply an exotic label for a discredited policy.
And:
The amount of currency in circulation was growing at 12% in January 2009, has consistently been expanding at a faster rate than GDP, and the Bank of England is responsible for this monetary expansion. What’s more, the consensus view of economic commentators is that a root cause of the financial crisis was artificially low interest rates and the resulting mis-allocations of capital. In short, the Bank’s solution is a larger dose of what caused the original disease.
Ron Paul’s manifesto, The Revolution, is a remarkable read, not least for his account of Alan Greenspan:
Few Americans during his tenure knew that Greenspan had once been an outspoken advocate of the gold standard as the only monetary system that a free society should consider. Not long after my return to Congress in the election of 1996, I spoke with Greenspan at a special event that took place just before he was to speak in front of the House Banking Committee. At this event congressmen had a chance to meet and have their pictures taken with the Fed chairman. I decided to bring along my original copy of his 1966 article from the Objectivist Newsletter called “Gold and Economic Freedom”, an outstanding piece in which he laid out the economic and moral case for a commodity-based monetary system as against a fiat paper system. He graciously agreed to sign it for me. As he was doing so, I asked if he wanted to write a disclaimer on the article. He replied good-naturedly that he had recently reread the piece and that he would not change a word of it. I found that fascinating: could it be that, in his heart of hearts, Greenspan still believed in the bulletproof logic of that classic article?
Congressman Paul goes on to write that Greenspan expressed a different view before a later committee but that his views are ultimately unimportant: it is the system that matters. It appears Greenspan agreed:
A fully free banking system and fully consistent gold standard have not as yet been achieved. But prior to World War I, the banking system in the United States (and in most of the world) was based on gold and even though governments intervened occasionally, banking was more free than controlled. Periodically, as a result of overly rapid credit expansion, banks became loaned up to the limit of their gold reserves, interest rates rose sharply, new credit was cut off, and the economy went into a sharp, but short-lived recession. (Compared with the depressions of 1920 and 1932, the pre-World War I business declines were mild indeed.) It was limited gold reserves that stopped the unbalanced expansions of business activity, before they could develop into the post-World War I type of disaster. The readjustment periods were short and the economies quickly reestablished a sound basis to resume expansion.
Greenspan goes on to blame the Great Depression on the Fed’s creation of excess credit: a bitter irony.
An explanation of the financial crisis for everyone:
Linda is the proprietor of a bar in Cork. In order to increase sales, she decides to allow her loyal customers – most of whom are unemployed alcoholics – to drink now but pay later. She keeps track of the drinks consumed on a ledger (thereby granting the customers loans).
Word gets around and as a result increasing numbers of customers (still mostly unemployed alcoholics) flood into Linda’s bar. Taking advantage of her customers’ freedom from immediate payment constraints, Linda increases her prices for wine and beer, the most popular drinks. Her sales volumes and profits increase massively.
(This post is a precis of Huerta de Soto’s Money, Bank Credit and Economic Cycles pp650-653, presenting an argument which was famously expounded by von Mises in Socialism.
Among the young idealists who were attracted to socialism after the Great War, who came through these arguments expressed in full to understand that they “had been looking for improvement in the wrong direction”, was F A Hayek, Author of The Road to Serfdom, Nobel Prize winner and proponent of the denationalization of money.)
To attempt to coordinate society through coercion is an intellectual error: it is impossible for an institution to obtain the information needed to establish social coordination by decree. There are four reasons:
It is impossible to obtain, store and process the vast amount of practical information in the minds of different people.
Most of the necessary information is subjective, practical, tacit and non-verbal: it cannot be transmitted.
Information which people have not yet discovered or created and which arises from the market process cannot be transmitted.
Coercion — that is, regulation — prevents the discovery or creation of the necessary information.
These are the arguments developed at length by von Mises in Socialism. Von Mises demonstrates the impossibility of socialism and of effective state intervention in the economy. His thesis explains theoretically why the socialist economies of the Eastern Bloc failed. It also explains the growth of the tensions, maladjustments and inefficiencies in western economies which have led to our present crisis.
Crisis is the inevitable outcome of the application of coercion and privilege by government, which systematically worsens social maladjustments, hinders the creativity of entrepreneurs, distorts economic information, encourages irresponsibility, corrupts individuals and encourages the underground economy. Read more
Gordon Brown promises increased economic intervention by the G20, including sales of gold reserves, and the emergence of “a new world order”:
Janet Daley looks for comfort:
Gordon Brown has announced - in his best portentous tones – that the G20 summit concluded that “global problems require global solutions”. What the summit actually proved was, to adapt Margaret Thatcher, you can’t buck national electorates. There will be no World Government today, thank heavens. The critique of Mr Brown’s summit (as it presumably must be known) in this country will probably concentrate on its failure to produce the humungous additional financial stimulus that the Anglo-American alliance was urging. So on that score, the Franco-German axis got its way.
While the Mises Institute uses long-established economic theory to demonstrate that we will have hyperinflation and a progressive undermining of the free-market order — such as it has been — as a result of present policies:
[F]iat money created through bank credit expansion necessarily causes boom-and-bust cycles, inducing governments to push back free-market forces to prop up the economy and keep the fiat-money regime afloat; in fact, fiat money will increasingly undermine the free-market order.
The logical facts of market phenomena are consistent through time; government intervention is “superfluous and useless, but also harmful”:
[S]ociety must choose between two systems of social organization: either it can create a social order that is built on private property in the means of production, or it can establish a command system in which government owns or manages all production and distribution. There is no logical third system of a private property order subject to government regulation. The “middle of the road” leads to socialism because government intervention is not only superfluous and useless, but also harmful. It is superfluous because the interdependence of market phenomena narrowly circumscribes individual action and economic relations. It is useless because government regulation cannot achieve the objectives it is supposed to achieve. And it is harmful be cause it hampers man’s productive efforts where, from the consumers’ viewpoint, they are most useful and valuable. It lowers labor productivity and redirects production along lines of political command, rather than consumer satisfaction.
From an interview with ex-IMF economist Gunnar Tómasson:
Does this mean that generations of students have been brought up on nonsense ideology? For this is ideology, of course.
Gunnar:
Yes, nonsensical ideology. The root of the problem goes back to a point made in the mid-19th century by John Stuart Mill, one of the sharpest minds of all time, in an overview article on unresolved methodological aspects of economics. Mill viewed economics as a branch of logic and noted that the least error in the premises of any logical argument would infect with like error the whole superstructure built thereon. A seemingly small error is embedded in the premises of modern monetary economics. Paul Samuelson noted it very briefly in his Ph.D. thesis in 1942 and said it didn’t matter. Today, this small error is destroying the world’s monetary system.
A dynamic chart showing the various measures of the money supply is available at mises.org:
The True Money Supply (TMS) was formulated by Murray Rothbard and represents the amount of money in the economy that is available for immediate use in exchange. It has been referred to in the past as the Austrian Money Supply, the Rothbard Money Supply and the True Money Supply. The benefits of TMS over conventional measures calculated by the Federal Reserve are that it counts only immediately available money for exchange and does not double count.
How money is counted is crucial to the economic debate, particularly around “quantitative easing”: more.
Leading British Austrian-school economist Anthony Evans writes on QE:
Economists tend to define QE as when the central bank conducts open-market operations to buy government and corporate securities using newly created money. Many economics textbooks fail to mention QE, suggesting that this is a new and extreme form of monetary policy. Indeed one of the reasons the Bank is keen to refer to QE rather than its colloquial name – printing money – is to distance itself from negative connotations. But two key points seem to be missing from the public debate. 1) QE is printing money; and 2) the printing press is already turned on.
The amount of currency in circulation was growing at 12% in January 2009, has consistently been expanding at a faster rate than GDP, and the Bank of England is responsible for this monetary expansion. What’s more, the consensus view of economic commentators is that a root cause of the financial crisis was artificially low interest rates and the resulting mis-allocations of capital. In short, the Bank’s solution is a larger dose of what caused the original disease.
Later today, all the signs are that the MPC will release a statement saying that they have authorised the Bank of England to start buying government and corporate securities on its behalf – paid for with money it has created for itself.
And so the new money will be injected far from the ordinary person, and a new cycle of widening economic inequality will begin. And yet it appears, according to “Stephanomics”, that:
In his most recent press conference, the Bank’s Governor, Mervyn King, seemed pretty confident that QE could work. But even he would admit he has no idea how long it will take – or how much money he will have to print to get there.
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Where does the Bank come out in all this? The phrase I have heard used by Bank officials more than once is “suck it and see”. Given the nature of the stakes, you might find that a bit disturbing. I call it an honest assessment of where we are.
Via today’s Cobden Centre article, A Free Money Movement, Antoine Clarke predicts the rise of the Free Money Movement called for by Hayek:
, is a remarkable read, not least for his account of Alan Greenspan:
