President Obama transforming America into Socialist Argentina

Posted by PITHOCRATES - November 11th, 2012

Week in Review

President Cristina Fernández de Kirchner has won two landslide presidential elections.  One could say she is more popular in Argentina than President Obama is in the United States.  Well, she was more popular than the American president.  That may be changing (see Argentina protests: up to 1.5 million rally against Fernández de Kirchner by Uki Goni and Jonathan Watts posted 11/9/2012 on the guardian).

The broad avenues of Buenos Aires were crowded on Thursday night by Argentina’s biggest and noisiest anti-government demonstration in a decade, as hundreds of thousands of protesters marched or banged pots to express frustration at President Cristina Fernández de Kirchner.

After a smaller rally in September, the noisy but peaceful protest – estimated at between 250,000 to 500,000 people – marks an escalation of opposition to the Argentinian leader, particularly among a middle class that is upset at inflation, corruption, media controls and suggestions Fernández may want to amend the constitution so she can serve a third term…

There was no single cause of discontent. Many in the middle class are angry at the highest inflation in a decade, estimated at a yearly 25% by private economists, currency controls that have created a black market in dollars, and one of the slowest economic growth rates in Latin America.

Banners and chants also took aim at recent corruption cases and Fernández’s efforts to limit the power of big newspaper and TV conglomerates…

… it marks a political low in Fernández’s decade in the presidential palace. Since succeeding her husband, Néstor Kirchner, in 2007, she has won two landslide election victories and pursued a policy marked by wealth redistribution, greater investment in education, confrontation with Britain over the Falklands and the nationalisation of the Argentinian assets owned by the Spanish oil group YPF.

With the economy faltering, Fernández’s approval rating has fallen below 40%, according to a poll this week, and many of those who joined Thursday’s protest have lost faith in her.

“I voted for Cristina but now I feel let down,” said one middle-aged marcher. “We need more security, more jobs; the government needs to stop lying to us.”

High inflation and slow economic growth.  Kind of sounds like the Carter presidency.  Where we called his high inflation and slow economic growth stagflation.  And measured it by the misery index.  Of course President Carter didn’t suffer any of these humiliating protests in his second term.  For he suffered a humiliating defeat in 1980 that made him a one-term president.

People have often wondered what a second Carter term would have been like.  Some say we saw in President Obama’s first term.  But perhaps it will be his second term that will be more like President Carter’s first term.  Or, perhaps, more like President Cristina Fernández de Kirchner’s second term.  For apart from confronting the British over the Falklands and nationalizing a Spanish oil group (though President Obama would like to nationalize health care) his policies are eerily similar to hers.  The middle class has suffered in the US under President Obama just as they have suffered in Argentina.  And someone in the Obama administration is lying to the American people about Fast and Furious.  And Benghazi.  They both also have low approval ratings despite their ability to win elections.  Of course if that was the other way around in the United States (Republicans winning reelection despite low approval ratings) there would be massive legal actions contesting those election results.

So if you want to see what the future of President Obama’s second term will be like you can look at what’s happening in Argentina.  Which the president is making us look more like with his record spending that have given us record deficits in each of his four years in office.  And a record amount of debt.  Perhaps this is the president’s own way to reform immigration.  Make the economy so bad that there are no jobs here to encourage people to come to this country.  In fact, some of the flow of immigration has reversed as Mexicans are heading back home for better jobs.  As the president has destroyed the US job market with his economic policies.

So if you hear a loud banging sound in Washington DC don’t worry.  It’s just the Argentine-style protest against our anti-capitalist president.

www.PITHOCRATES.com

Share

Tags: , , , , , , , , , , , , ,

Keynesian Multiplier

Posted by PITHOCRATES - September 3rd, 2012

Economics 101

At the Heart of Keynesian Stimulus Spending is the Keynesian Multiplier

Key to Keynesian economics is spending.  That’s the reason why governments everywhere embrace it.  Because Keynesian economics say government MUST spend money.  And that’s the kind of economics politicians like.  “I must spend?  Well, okay.  If you say so.  Forgive me, my constituents, for spending money I don’t have.  But it’s not me.  It’s our Keynesian economists saying we must spend.  And they’re smart.  Real smart.  They even have Ivy League degrees.  So who are we to question them?”

And it’s not just any kind of spending.  Well, actually, it is.  There’s nothing special about it.  You could pass a trillion dollar stimulus bill to pay people to dig holes with a shovel.  Fill them back in with the dirt they just shoveled out.  And then repeat.  Again and again.  Accomplishing nothing beneficial with these efforts.  But a Keynesian economist will approve of this spending and call it a good thing.  Why?  Because of trickle-down economics.  But of the Keynesian kind.

At the heart of Keynesian stimulus spending is the Keynesian multiplier.  That’s the ‘trickle down’ part.  But before we get to that we must discuss one other thing.  Savings.  Keynesians hate it.  They call money that leaks out of the economy into savings accounts wasted money.  Just as if you flushed it down the toilet.  This brings up another Keynesian concept.  The marginal propensity to consume (MPC).  Note the word ‘consume’.  This is what all that government spending is about.  Consumption.  Consumer spending.  Which is why Keynesians hate savings.  Because if people save their money they’re not spending it.  And not creating economic activity.

Politicians prefer Government Spending over Tax Cuts because People may Save Part of a Tax Cut

Now back to the multiplier.  When people receive money they do two things.  They save some of it.  And spend what they don’t save.  This is where the MPC comes in.  An MPC 0f 80% means that people will spend 80% of an amount of money they receive (paycheck, government benefit, etc.) and save 20% of it.  So they use 80% of that money to generate economic activity.  By spending it.  But it doesn’t end there.  Because what they spend other people receive as money.  And these people then save some of it.  And spend what they don’t save.  And so on.  At a MPC of 80% if a person receives $100 they will spend $80 and save $20.  Those who receive that $80 will spend $64 and save $16.  Those who receive $64 will spend $51.20 and save $12.80.  And on and on until people are only spending pennies.  In the end that original $100 will create a total of $500 in new economic activity.  Or five times the original amount.  So the Keynesian multiplier is five.  Or, mathematically, 1/(1-MPC) where MPC = 0.80.

Think of the multiplier as a pyramid of champagne glasses at a wedding.  As you pour champagne in the top glass it overflows into the next layer of glasses down.  When these glasses fill they overflow into the next layer of glasses below them.  The multiplier is kind of like that.  Starting by pouring into one glass.  By the time the champagne bottle is empty champagne fills many glasses.  And spilt champagne represents savings.  Or leakage.  That’s how the multiplier works.  Trickle down.  And the less champagne spilled the more champagne fills glasses.  As shown by the multiplier formula.  The larger the MPC is (as in the more people spend) the larger the multiplier.  In fact if they spent all of their money (an MPC = 1) the formula reduces to 1/0.  And what happens when you divide by zero?  You get infinity.  That’s right, according to the Keynesian multiplier equation if everybody spent all of their money and saved none there would be an infinite amount of economic activity.

In the Keynesian world it doesn’t matter what the money is spent on as long as it’s spent.  Even digging worthless holes is good enough to make this miracle of economic activity out of nothing work.  That’s why their advice is always for the government to tax, borrow or print money to spend.  Because spending is good.  And they prefer government spending over tax cuts to stimulate private spending.  Why?  When the government spends money that top champagne glass will have an MPC of 1.  The government will spend it all.  Less the administrative costs, of course.  Whereas an equivalent amount of money given to the people via a tax cut (letting them keep more of their earnings to spend) will not have an MPC of 1.  Because these people may do something foolish like save their money.  Or pay down debt.  Which is leakage.  Leakage reduces the multiplier.  And a lower multiplier reduces economic activity.

Governments Embrace Keynesian economics because it tells them to Always Spend More Money

It all seems too good to be true.  And there’s a reason for that.  Because it IS too good to be true.  And the proof is in the pudding.  The Seventies was the decade of unrestrained Keynesian economics.  And it didn’t work.  They spent like there was no tomorrow in the Seventies.  But all that Keynesian spending failed to pull the economy out of recession.  All it did was create high inflation.  So there was high unemployment AND high inflation.  Something that was impossible in the Keynesian universe.  But it happened.  Why?  Because they make a lot of assumptions to make their formulas work.  Like that MPC.  And their war on savings.  Their thinking is flawed.  Because savings ARE spending.  Someone’s savings is someone else’s investment.  And investments are spending.  Ever see It’s a Wonderful Life when the people were asking for their deposits back?  The savings and loans had some money.  But they didn’t have everyone’s money.  Then George Bailey (Jimmy Stewart) told his depositors where their money was.  And he ran down a list of all the new houses their savings built.  Thanks to their loans to those new homeowners.  Building those houses generated a lot of economic activity.  So savings are good.  They’re not leakage.  They cause real economic activity.

Let’s return to that pyramid of champagne glasses.  Let’s say it takes 3 bottles of champagne to fill all the glasses in the pyramid.  If you pour the champagne back from the glasses into the bottles you will not have three full bottles of champagne.  Because of all that spillage.  Or leakage.  This is the same with Keynesian stimulus spending.  Stimulus money has to come from somewhere.  Whether government raises it with taxes, borrows it or prints it.  And like that champagne it just moves from one place in the economy to another.  With no net change in economic activity.  Higher taxes mean we have less money to spend.  If they borrow money they reduce private investment.  Because investors are buying government bonds instead if investing in businesses or entrepreneurs.  If they print money they cause inflation.  Which makes our money worth less and prices higher.  Which buys us less after the inflation than before it.  So whatever government spends there is a corresponding reduction in economic activity elsewhere in the economy.  Worse, when the government redistributes this money there is leakage.  Like the spillage of champagne.  For administrative costs.  Because politicians and government bureaucrats don’t work for free.

Printing money is especially harmful to the economy.  For it can cause a short-term boom in economic activity.  But by the time that new money works its way through the economy prices begin to rise.  Raising the cost of businesses.  Who have to raise their prices.  As they do their sales fall.  And they have to lay people off.  So the Keynesian stimulus spending to end a recession results in a new recession.  Which tends to be more painful than the first one.  So eventually a recessionary bust follows the artificial boom in economic activity.  Which brings those artificially high prices back down to normal market prices.  The greater the stimulus spending the higher those prices go.  The farther they have to fall.  And the more painful the recession.  Making the multiplier nothing but smoke and mirrors.  But governments still embrace Keynesian economics.  Because it is the only economic system that tells them to spend more money.  And they are always looking for something to justify more spending.

www.PITHOCRATES.com

Share

Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , ,

Sixteenth Amendment, Revenue Act of 1913, Progressive Tax, Marginal Tax Rate, Tax Shelter, Tax Cuts and Decade of Greed

Posted by PITHOCRATES - July 10th, 2012

History 101

Americans find Taxes Repugnant and have a Long History of Making this Repugnance Known

American independence began with a tax revolt.  The ratification of the U.S. Constitution happened only with safeguards against the new federal government from growing too powerful.  And great efforts went to limiting the amount of money it could spend.  For a long time all federal tax revenue came from import tariffs.  Then from sales of federal lands as the population moved west.  It took a civil war for us to impose an income tax.  Our first income tax was 3% on incomes over $800 (or about $20,000 today).  The first income tax was a flat tax.  They passed this income tax to pay for the war.  They repealed the income tax following the war.  Americans wouldn’t see another federal income tax until 1913 when we ratified the Sixteenth Amendment.  And President Woodrow Wilson signed into law the Revenue Act of 1913.

Woodrow Wilson was a progressive.  The precursor to today’s liberals.  Who thought beyond the limited government of our Founding Fathers.  They wanted to expand government.  To make it a part of our everyday life.  Where the brilliant progressive politicians would make better decisions for us than we ever could.  And their changing of society included the funding of the federal government.  For their income tax was a progressive tax.  Everyone paid a flat tax of 1% on income of $3,000 or more.  About $66,100 today.  Then the progressive taxes came into play.   Adding another percentage to the income tax rate for increasing amounts of income.  The thresholds for these increases were as follows: $20,000 (roughly $440,400 today), $50,000 ($1,101,000 today), $75,000 ($1,651,600), $100,000 ($2,202,100), $250,000 ($5,505,300) and $500,000 ($11,010,700).  The top marginal tax rate on the super rich (earning $11,010,700) was 7%.

Our second income tax was quite controversial.  A lot of people hated it.  For Americans find taxes repugnant.  And have a long history of making this repugnance well known.  But thanks to the American Civil War a generation of men was lost.  And a generation of boys grew up without fathers.  Tended on by doting mothers.  Smothering them with love and affection.  And these boys grew up without knowing the manly hardships of life.  And they entered politics.  Becoming those early progressives.  Who wanted to change the government into a great doting mother.  And now they could.  For they had their income tax.

Few paid the Confiscatory Tax Rates of the Seventies by Hiding their Income in Tax Shelters

The rich paid our first federal income taxes after the Revenue Act of 1913.  And these were very small percentages we had them pay.  Back then the top marginal tax rate was lower than our lowest income tax rate today.  Think about that.  The richest of the rich paid only 7% of their income ($11,010,700 or more today) in federal income taxes.  While today single people earning the lowest bracket of taxable income (from $0 to $8,700) pay 10% of their income in federal income taxes.  Clearly the growth of government exploded thanks to the Sixteenth Amendment.  Much as our Founding Fathers feared it would if they had too much money to spend.

Of course, this is ancient history.  Few know about this today.  For few could even tell you why we fought for our independence.  Or even who we fought for our independence from.  (We fought for our independence from Great Britain because of their policies to tax us despite our having no representation in Parliament.  That’s where the phrase taxation without representation came from).  Today high taxes are sadly just an accepted part of life.  In fact, we have referred to our paychecks as take-home pay.  Our net pay.  Because gross pay is a myth.  No one sees their gross pay.  About a third or more of that disappears in withholding taxes.  So gross pay is a meaningless expression for us today.  (It wasn’t before the Sixteenth Amendment or before the progressives came to power).  Something that we sadly accept.  And we now fund our lives on the take-home pay the government allows us to keep.  All the while accepting these high tax rates.

Government spending took off in the Sixties and the Seventies.  As did our taxes.  If we had once thought that a 7% tax on incomes of $11,010,700 or more was an outrage, we didn’t see anything yet.  In 1978 the top marginal tax rate was 70% on incomes of $351,712 or more.  And there were 25 marginal tax rates.  As shown here adjusted for inflation (sources: Tax Rates, Tax Receipts, and Celebrity Incomes).

 In this example we calculated the average of some top celebrities.  And the top celebrities on average earned about $30,000,000 in 2010.  Using the 1978 tax brackets they would have owed $20,936,506 in federal income taxes.  Or approximately 69.8% of their total income.  Which is pretty much equal to the top marginal tax rate.  Of course, few paid these confiscatory tax rates.  They hid their income as best as they could in the Seventies.  In tax shelters.  And you know they did because despite these confiscatory tax rates the federal government still ran budget deficits.  Having to print money to pay for their explosion in government spending. 

The Low Tax Rates of the Eighties created so much Economic Activity the Opposition called it the Decade of Greed

The heyday of Keynesian economics was in the Seventies.  After Richard Nixon decoupled the dollar from gold the Keynesians were free to print money to stimulate the economy.  Which was their answer to ending a recession.  Stimulus spending.  Have the government print money to create economic activity that wasn’t happening in the private sector.  Their policy tool to end a recession was inflation.  By pouring money into the economy people would borrow it and buy cars and houses and furniture.  And everything else under the sun.  Creating a surge of economic activity.  And creating jobs in the process as businesses must hire new workers to meet that government stimulated demand.  With the dollar decoupled from the ‘cross of gold’ the Keynesians were finally able to prove their mettle.  And solve all the country’s economic problems.  It was the dawn of a brave new world.

And that world sucked.  For the implementation of Keynesian economic policy proved those policies did not work.  Instead of replacing high unemployment with inflation they just added high inflation to the high unemployment.  Something that was impossible to happen in Keynesian textbooks.  But it happened.  Stagnant economic activity.  And inflation.  What we called stagflation.  We added the unemployment rate to the inflation rate to come up with a new economic indicator.  The misery index.  The economy was so miserable during Jimmy Carter’s 4 years in office that he lost in a landslide to Ronald Reagan.  Who was a proponent not of Keynesian economics but of the Austrian school.  Or supply side economics.   And the Austrians believed in low tax rates.  For low tax rates would stimulate economic activity.  And the greater amount of economic activity would generate a greater amount of tax revenue even at lower tax rates.  Let’s look at that same celebrity paying taxes a decade later under Ronald Reagan.

 Much simpler.  And more in keeping with the Founding Fathers.  Instead of paying 70% of their earnings in federal income taxes they will only pay 28% (again, equal to the top marginal tax rate.  Which is pretty much the only tax rate the rich pay).  That’s still a lot of money to give to the federal government.  But it’s so much smaller that in many cases it was cheaper and easier to pay Uncle Sam than trying to hide that income.  So economic activity took off in the Eighties.  It was so great that the opposition called it the Decade of Greed.  Out of sour grapes because their policies could never produce anything like it.  But what about tax revenue?  Those on the Left say this economic activity came at a price.  Exploding deficits.  Well, the deficits did grow.  But it wasn’t because of the cuts in the tax rates.

Higher Tax Rates do not Necessarily Increase Tax Revenue 

In 1978 total tax revenue was $1,113.6 billion.  In 1988 total tax revenue was $1,421.1 billion.  So Reagan’s cuts in the tax rates produced $307.5 billion more in tax revenue.  An increase of about 27.6%.  Dropping the top marginal tax rate from 70% to 28% actually increased tax revenue.  So the cut in tax rates did not cause the deficits.  It wasn’t a revenue problem.  Revenue went up.  Spending just increased more.  And it was this excessive government spending that caused the deficits.  Not the tax cuts. 

The lesson here is that higher tax rates do not necessarily increase tax revenue.  Because changes in tax rates changes behavior.  Higher tax rates discourage people from investing in businesses.  They discourage businesses from expanding.  Or hiring new workers.  Higher tax rates may decrease the opportunity costs for hiding income.  The cost and inconvenience of hiding income in tax shelters and offshore accounts may become less that the cost of paying higher taxes.  Like it was during the Seventies.  Where despite confiscatory tax rates the government could not generate enough tax revenue to meet their spending obligations.

Income tax rates grew from a very small percentage on only the largest of incomes to high tax rates on very modest incomes.  And yet our deficits have never been larger.  Proving that our tax rates are either too high and dampen economic activity (as well as encouraging people to avoid paying their taxes).  Or that government spending has just grown too large.  More than likely it’s a combination of the two.  A fact that would shock and dismay the Founding Fathers were they alive to see what we did with the republic they gave us.

www.PITHOCRATES.com

Share

Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , ,

Argentine Truckers go on Strike, Demand a 30% Pay Raise to offset 25% Inflation

Posted by PITHOCRATES - June 23rd, 2012

Week in Review

If you want to understand what’s happening in Argentina listen to Andrew Lloyd Webber’s Evita.  It’ll give you a little bit of the flavor of the current political picture there.  A populist president.  High inflation.  High taxes.  Strong unions.  Class warfare.  And there are some who even compare Cristina Elisabet Fernández de Kirchner, Argentine president, to Eva Perón herself.  A comparison she’s not overly pleased with.  But she doesn’t mind when people compare her to the strong defiant side of Eva Perón. 

But there are reasons for these comparisons.  For her political party, the Justicialist Party, was founded by Juan and Eva Perón.  And her policies are not that far away from their policies.  Which is basically a welfare state that taxes the rich to pay for it.  And prints a lot of money.  Hence the high inflation.  Which causes a bit of a problem.  To survive during high inflation means wages have to rise just as fast.  So they can pay those high taxes.  And afford the high prices that result from inflation.  Which isn’t apparently happening for the truckers (see Argentina deploys military police in fuel strike by Hilary Burke and Jorge Otaola posted 6/20/2012 on Reuters).

Argentina’s government sent military police to take control of fuel plants and get trucks back on the road on Wednesday, the first day of a truckers’ pay strike that could cause widespread shortages in Latin America’s third-biggest economy…

Labor disputes are common in Argentina due to double-digit inflation, but the Labor Ministry normally intervenes to avoid major disruption to the economy. In this case, the truckers flouted the ministry’s order for compulsory conciliation…

Pablo Moyano’s [head of the truckers’ union] father, Hugo, used to be a close ally of the president’s but their strategic alliance has all but collapsed, increasing the threat of labor unrest as inflation seen at roughly 25 percent fuels wage demands while economic growth slows sharply…

The truckers, who have threatened to stage a series of protests, want a 30-percent pay rise as well as lower taxes.

This is the same problem all welfare states have.  High public spending requires high taxes.  High taxes reduce economic activity.  With less economic activity to tax there is less tax revenue.  So states turn to borrowing (often giving themselves excessive debt that leads to debt crises like currently in Europe).  And printing money which unleashes inflation.  Increasing prices.  Making it harder and harder for the people to make ends meet.  Which is why these truckers are on strike.

They’re asking for a 30% pay raise.  Which sounds outrageous.  But when inflation is at 25% they are only asking for a net 5% raise.  Which isn’t all that unreasonable.  But their pay raise won’t fix the economy.  Higher wages will only increase prices further.  Requiring further demands for higher wages.  Which is the viscous cycle of high inflation.  Wages chase prices.  And higher wages increase prices.

Unless they enact a little austerity things aren’t likely to improve.  Perhaps this is the reason President Kirchner is bringing up the issue of sovereignty of the Falkland Islands.  To distract from her poor economy.  Much like the ruling junta did when they invaded the Falkland Islands in 1982 to distract their people away from an even worse economy.  But there’s another thing in play today.  The possibility of oil in the waters around the Falklands.  Which is something else they could nationalize.  And pour that oil revenue into their government coffers.  Give more stuff to the people.  And be even more popular.  As long as the oil lasts.  If there is oil.  And if there isn’t, nothing changes.  Except things will probably be worse on the Falklands once they start living under that Argentine inflation.

www.PITHOCRATES.com

Share

Tags: , , , , , , , , , , , , ,

The Yuan gaining Value against the Dollar as the Chinese try to Fight High Inflation

Posted by PITHOCRATES - January 1st, 2012

Week in Review

Currency manipulation is a hot topic.  In the era of central banking and fiat money, the laws of supply and demand determine the value of currencies.  If left to market forces.  But governments everywhere like to interfere with these market forces to give themselves an economic advantage.

A nation must sell their goods in their own currency.  Which means when you’re buying their goods you must first exchange your currency for theirs.  The cheaper their currency is the more of it you will get in exchange for your money.  And the more of their stuff you can buy.  This is why countries want weak currencies.  So they can increase their exports.  And boost their economic output.

The Americans (and others) have claimed the Chinese are a major currency manipulator.  Keeping their currency devalued to boost their exports.  But there’s another side to currency devaluation (see Yuan hits record vs dollar, on track for over-4-percent gain by Lu Jianxin and Kazunori Takada posted 12/26/2011 on Reuters).

The yuan has appreciated 4.27 percent so far this year, with most of the gain being recorded in the first 10 months of the year as China tries to rebalance trade and use the currency to help fight high inflation.

While the government has recently halted yuan appreciation amid slowing exports, it also seems to be wary of a weaker yuan that may lead to capital outflows.

This is the trade off of a weak currency and inexpensive exports.  Inflation.  And high domestic prices.  If you manipulate your currency to increase economic activity (by increasing exports) you will create price inflation.  Making the cost of business more expensive throughout your economy.  Which will reduce economic activity.  It’s a double-edged sword.  And the price currency manipulators must pay.   Sooner or later.

www.PITHOCRATES.com

Share

Tags: , , , , , , , , , ,

Obama Looking less George W. Bush and more Jimmy Carter/LBJ

Posted by PITHOCRATES - April 1st, 2011

Construction Spending down despite all those Shovel-Ready Projects

Some days it just sucks to be Obama (see February construction spending down 1.4% by Steve Goldstein posted 1/1/2011 on MarketWatch).

February construction spending fell 1.4% to a seasonally-adjusted annual rate of $760.6 billion, the lowest level in more than 11 years, the Commerce Department said Friday. January spending was revised lower to a decline of 1.8% from a previous estimate of a 0.7% fall. Economists polled by MarketWatch had forecast a 0.1% rise.

Construction is the last to enter recession.  And it’s the last to emerge from recession.  Because it takes a long time to go from design to completion.  But after all those shovel-ready projects bought and paid for by the stimulus bill back in 2009, construction should not be the worse it has been in 11 years.  That means the economy is still a mess.  And it may very well get messier.

First bad Fiscal and Monetary Policy, then Inflation

Yes, we’re still mired in recession.  But recession may soon be joined with something we haven’t seen since the 1970s.  At least, not during a recession (see Fed Is Likely to Raise Rates By End of the Year: Lacker by CNBC.com and Reuters posted 1/1/2011 on CNBC).

Richmond Federal Reserve President Jeffrey Lacker told CNBC Friday that he “wouldn’t be surprised” if the central bank raised interest rates before the end of the year…

He said his greater concern is rising inflation and controlling it in the next nine months “will be critical for us.”

Jimmy Carter must be smiling.  Many say he was the worst president.  Mainly because of the stagflation of the 1970s.  High unemployment and high inflation.  Normally, you don’t get the two together unless you really managed to make a mess of the economy.  And now it looks like Obama may go all Jimmy Carter on us.  We still have record unemployment.  And the Fed, while they’re still planning to go ahead with more quantitative easing in June:

At its last meeting, the Fed voted unanimously to continue as planned with its $600 billion bond purchase program, designed to lower interest rates and stimulate growth, which is scheduled to end in June.

is already talking about battling the inflation their previous actions have given us.  Which they did in a futile attempt to counter Obama’s job-killing fiscal policies.  No doubt Carter is grateful he has lived to see this day.  When another president has ruined the economy greater than he did.

TARP bails out Libyan Owned Bank

But it gets better.  For Carter, that is (see Libya-Owned Arab Banking Corp. Drew at Least $5 Billion From Fed in Crisis by Donal Griffin and Bob Ivry posted 1/1/2011 on Bloomberg).

Arab Banking Corp., the lender part- owned by the Central Bank of Libya, used a New York branch to get 73 loans from the U.S. Federal Reserve in the 18 months after Lehman Brothers Holdings Inc. collapsed.

The bank, then 29 percent-owned by the Libyan state, had aggregate borrowings in that period of $35 billion — while the largest single loan amount outstanding was $1.2 billion in July 2009, according to Fed data released yesterday. In October 2008, when lending to financial institutions by the central bank’s so- called discount window peaked at $111 billion, Arab Banking took repeated loans totaling more than $2 billion…

Arab Banking reported a loss of $880 million in 2008 as it took a $1.1 billion charge tied to structured investment vehicles and derivative products known as collateralized debt obligations. Arab Banking recovered during the next two years, posting profits totaling $265 million.

So, Arab Banking Corp., part-owned by the Central Bank of Libya, the country we’re currently bombing now to ‘encourage’ regime change, was ‘bailed out’ in our TARP program.  That hurts in so many ways.  Our tax dollars that our Congress authorized to purchase trouble assets (i.e., all those Fannie Mae and Freddie Mac subprime mortgages) not only bailed out Obama’s friends on Wall Street, they bailed out foreign banks.  Even helped a Libyan dictator.  Who we’re now trying to ‘accidentally’ kill.  I mean, you can’t make this stuff up.  Meanwhile, Carter looks like a better president with each day that passes by.  Who’d’ve thunk it?

Liberal Base says Obama is Worse than George W. Bush

And speaking of that Libyan…thing…that’s not a war but has all the bombing and killing of a war…how’s that going?  Not so good with the president’s base (see Liberals outraged by Libya intervention posted 1/1/2011 on UPI).

Liberal Democrats, key to Barack Obama’s election as U.S. president, are some of the loudest critics on his strategy on Libya, a review of reaction indicates…

“In two years we have moved from President [George W.] Bush’s doctrine of preventive war to President Obama’s assertion of the right to go to war without even the pretext of a threat to our nation,” Rep. Dennis Kucinich, D-Ohio, an anti-war liberal, said Thursday during a House floor speech. “This is a clear and arrogant violation of our Constitution. Even a war launched for humanitarian reasons is still a war — and only Congress can declare war.”

Rep. John Conyers, D-Mich., said Congress and the White House have argued for years over the division of power in wartime, but “the Constitution grants sole authority to the Congress to commit the nation to battle in the first instance.”

That sounds like they’re saying that Obama is worse than George W. Bush.  Wow.  At least Bush had the pretext of weapons of mass destruction.  What’s Obama got?  Well, had he not acted, there may have been another civil war in the world.  As bad as that is, it isn’t an imminent risk to American security.  Which means the president did not have the Constitutional authority to do what he did.  Unlike George W. Bush in Iraq.

The Military doesn’t want Obama’s Libyan War

So he’s losing his liberal base.  But he’s still got the military establishment, doesn’t he?  As the Left well knows, they don’t care about right or wrong.  They just like to kill people and blow things up.  Right?  Not exactly.  You see, actually knowing a thing or two about war, they are not all that eager to go to war (see U.S. Military Not Happy Over Libya by Leslie H. Gelb posted 1/31/2011 on The Daily Beast).

Pentagon civilian leaders and the military brass see nothing but trouble looming as the Obama administration takes one step after another into the Libyan morass. The next step appears to be arming the Libyan rebels, a move that would inevitably entail pressures to send U.S. trainers and even more potent arms—and a move that Defense Secretary Robert Gates flat-out rejected in testimony before Congress on Thursday. “What the opposition needs as much as anything right now is some training, some command and control, and some organization,” Gates said. As for providing weapons, that is “not a unique capability for the United States, and as far as I’m concerned, somebody else can do that.”

Libyan morass?  Wow.  That’s some heavy criticism.  That’s the kind of language they used back in the day of the Vietnam War.  Which was an unwinnable morass.  Interesting, too, that liberal presidents with aggressive domestic agendas created both of these morasses.  But can Obama win his war?  Even though LBJ couldn’t win his?  Or will Obama follow LBJ’s example and not seek nor accept his party’s nomination for a second term as president?  Guess time will tell.

U.S. aircraft took the lead in junking a good chunk of the Libyan Air Force and launched devastating attacks against Libyan tanks, artillery, and other ground forces. Despite the severity of these attacks, Libyan forces survived, regained the offensive, and are now moving back toward rebel strongholds in eastern Libya. And the expectation of U.S. intelligence is that without having to face U.S. air power, Gaddafi’s troops will build further momentum. So, U.S. military officials haven’t stopped worrying about being dragged yet again into the air war.

You know, this is a lot like the Vietnam War.  Every time we pulled back the enemy advanced.  Then we’d pound them back with our superior airpower.  Until Congress stopped paying for that superior airpower.  And then you know what happened?  No?  Not familiar with our actions to protect South Vietnam?  Okay.  Look on a current map for South Vietnam to find out how that turned out.  But don’ spend too much time looking for it. Because it’s not there anymore.

The rebels won’t be able to use most arms, even relatively simply ones like anti-tank rockets and rifles, without extensive training…

Remember, underneath everything happening now are the two driving goals that President Obama set: to protect populations and to oust Colonel Gaddafi. In all likelihood, U.S. coalition partners cannot achieve these goals without U.S. jets resuming combat missions. Even with more U.S. air power, it probably won’t be possible to stop Gaddafi without using some coalition ground forces. So, pressures to do more and more will continue to lurk. All the Pentagon can do, then, is to raise tough questions (Who are those rebels we’re determined to help, could they be Muslim extremists?) to diffuse pressures on the U.S. military to do more.

If you ever wondered how Vietnam happened, here’s a good teachable moment.  JFK sent in military advisors to train the Army of the Republic of Vietnam (ARVN).  These were the ‘good guys’ in South Vietnam.  But when the very well trained and well supported North Vietnamese Army (NVA) threw them back we needed more than advisors.  We started supporting the ARVN.  Then the ARVN started supporting us as we took over more and more of the war.  Next thing we knew hundreds of thousands of U.S. ground troops were fighting it out in the jungles of Vietnam.  And the rest is history.

Barack Obama makes Jimmy Carter look Good

The last month or so hasn’t been too good for our president.  The economy is still mired in recession.  Inflation is about to join those high unemployment numbers to give us some good old-fashioned Jimmy Carter misery.  Our taxpayer TARP money found its way to Libya.  Instead of buying our troubled assets.  The Liberal base is abandoning him.  The Libyan war is less Constitutional than Bush’s Iraq War.  And appears about as winnable as the Vietnam War.

Yup.  Sucks to be him.  When he’s not on vacation, that is.

www.PITHOCRATES.com

Share

Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , ,

Deficits, Debt and Inflation Concern Everyone in the World but the Obama Administration

Posted by PITHOCRATES - March 7th, 2011

Chicago Cuts their Public Sector Budget

Scott Walker in Wisconsin is taking a lot of heat for trying to cut the costs of the public sector.  But he’s not alone.  Even Chicago is trying to cut the cost of its public sector.  By buying bigger, high-tech, trash cans for the central business district (see Chicago trash cans go solar-powered posted 3/7/2011 on UPI).  They’re going to spend $2.5 million for this capital investment to reduce their operating costs (i.e., the cost of people). 

If you use some of the numbers bandied about for public sector pay and benefits in the news today, that $2.5 million could pay for some 25 public sector workers (or more) per year (including health care and pensions).  Now here’s the punch line.  Chicago will uses some federal stimulus funds for this investment.  In other words, money sent to Chicago by Washington to create jobs is being used to cut jobs.  Funny, isn’t it?

This is what you do during bad economic times.  Replace people with technology.  Because people are so expensive.  It’s because of people, after all, that all these states and cities are facing budget crises due to the crushing costs of their public sector health care and pension benefits.  So when times are bad, you make capital investments to increase productivity.  You don’t hire more people.  Even Chicago understands this.

India has a Booming Economy, high Inflation and plans to Increase Social Spending

Once again prosperity leads a nation into dangerous economic waters (see Calling on the gods posted 3/3/2011 on The Economist).

It is tempting to expect the gods to keep smiling. Only China, among big economies, has pipped India’s 8.6% growth in the past year. Mr Mukherjee foresees a rosy period of easing inflation, reviving foreign investment and robust public finances. He may be in for a shock.

Inflation is still a pressing problem. High food prices hurt the urban poor. In December street protests over the price of onions led the government to ban their export. Onion prices have since collapsed, but other causes of inflation remain.

First there’s robust economic growth.  Then inflation.  Then the food riots.  It’s what triggered the French Revolution.  As well as the recent uprisings in the Middle East.  Economic growth is like a drug.  And it’s a good high.  While it lasts.  People are working.  The government is collecting lots of money.  And they can spend it on social programs.  Keeps everyone happy.  And voting for those in power.  Again, for awhile.  It’s when things become rights the trouble starts.  Because people don’t give up their ‘rights’ easily.  Even when the state can’t afford them anymore.  (Incidentally, a true right has no cost.  Freedom of speech is a right.  And no one has to pay for it.  Fat government benefits aren’t rights.  They’re just ways to make people vote for you).

Social spending is set to leap by 17% next year, as the government attempts to encourage “inclusive” growth. Congress’s chief, Sonia Gandhi, next wants a law embodying a universal “right” to food. How this might work (if at all) is unclear. Again, technocrats favour transfers of cash or vouchers over dishing out food through a vast and corrupt state bureaucracy. Either way, the subsidies mean demand for food will soar.

No matter, says Mr Mukherjee breezily. By spending on agriculture, giving farmers credit, easing transport bottlenecks and getting better cold-storage distribution, supply will rise, too. As for other causes of inflation, seven interest-rate rises by the central bank have removed monetary excess, he says. Little can be done about painful world prices for oil and other commodities, but, barring a big shock, Mr Mukherjee guesses annualised inflation will drift down to about 6% in a year’s time, from nearly 10% today.

Chicago as well as other states and cities may be cutting their social spending (i.e., public sector spending), but not India.  Even with 10% inflation.  That’s pretty gutsy.  Or delusional.  And those painful world oil prices?  I think they’re being a little optimistic about peace returning to the Middle East any time soon.  It may very well get worse before it gets better.  However, India has raised interest rates seven times to rein in inflation.  Other than that increase in social spending, India is doing a lot of the right things.  And her economic growth shows it.

China trying to curb Inflation to keep their Economy Booming

Even the IMF think the rise in oil prices is only temporary (see IMF: Signs of overheating in emerging markets by Lesley Wroughton and Chrystia Freeland posted 3/7/2011 on Reuters).

After the global economic slump of 2008 and 2009, the recovery took divergent paths, with emerging markets powering ahead while advanced economies merely trudged along. With growth and interest rates remaining unusually low across the developed world, investors have flocked to emerging markets, bringing much-needed capital but also a risk of inflation.

Rising oil prices have compounded the inflation problem, but Lipsky [the Fund’s first deputy managing director] said the IMF has not cut its growth forecast because it thinks the oil price spike will prove temporary.

All right, let’s say that peace does indeed break out throughout the Middle East.  Will that keep oil prices down?  Well, it didn’t during the last years of the Bush presidency.  The only reason why they fell was due to the worst recession since the Great Depression.  China and India are building cars.  Cars that run on gasoline.  This is what pushed up gas prices before.  And it will push them up again.  Because more and more people are driving cars in those countries.  Even when there was peace in the Middle East.  And when gas goes up everything goes up.  Even food.  Because food has to be transported.

China has made curbing inflation its top policy priority this year. Its finance minister said earlier on Monday China will ensure that spending on social priorities does not fan inflationary fires.

Separately, Zhu Min, special adviser to the IMF’s managing director, said China’s loan growth was too strong and addressing that was key to safely slowing down the economy…

Brazil and some other emerging markets have increased taxes on foreign investors or raised banks’ reserve requirements to try to slow inflows of investment money and ward off inflationary pressures.

China is worried about inflation.  So is Brazil.  And other emerging markets.  Because there is such a thing as too much of a good thing.  If their economies overheat they will create bubbles.  And when bubbles pop they become recessions.  So they’re concerned.  Besides, they have enough on their minds to worry about.  One of their biggest export markets, the United States, is having their own financial problems.  And if they lose their biggest customer, that bubble will come sooner rather than later.

The United States has no Booming Economy but Spends like it Does

So what’s the problem in America?  Well, right now, it’s social spending.  It is out of control.  And there appears little incentive to do anything about it because, unlike Chicago or the other states and cities with financial crises, the federal government can print money.  But when they do they inflate the money supply.  We call this inflation.  And they’re inflating the hell out of the money supply these days.  To pay for record deficits.

So how bad is it?  Pretty bad.  We’ve set a new record.  The largest monthly deficit in history.  A staggering figure of $223 billion (see U.S. sets $223B deficit record by Stephen Dinan posted 3/7/2011 on The Washington Times).  That’s in one month.   That’s about how much the annual deficits were under Ronald Reagan.  And the Democrats pilloried Reagan for his ‘irresponsible’ deficits.  But now?  $223 billion a month ain’t so bad.  Go figure.

Unlike India and China, America has high unemployment.  But like India and China, America has some inflation concerns.  Well, those outside the current administration do.  The Obama administration and the Federal Reserve aren’t all that worried about inflation.  Because they’re Keynesians.  Rational people, though, are very concerned.  And for good reason.  Because when you add unemployment and inflation together do you know what you get?  Stagflation.  And stagflation sucks.  People have less money and everything costs more.  Stagflation made Jimmy Carter a one-term president.  Yeah, it’s that bad.  So knowing our history we must be doing everything within our power to avoid a repeat of the malaise of the Jimmy Carter years, right?  Well, not exactly.

Have Printing Press will Ease

The Fed is planning to print more money (see Oil Shock=More Fed Shock by Douglas French posted 3/7/2011 on Ludwig von Mises Institute).

Atlanta Fed President Dennis Lockhart told a group at that National Association of Business Economics in Arlington, Va. that if the price of oil keeps climbing, the Fed will need to purchase more assets, or QE3.

Of course the men at the Fed don’t believe all of this new liquidity they are creating has anything to do with the prices of oil or food. Oil over a $100 a barrel is an external shock you see. A bolt of lightening out of nowhere. Those crazy kids in Cairo twittering and whatnot.

Ben Bernanke testified last week that inflation will remain tame. And when pressed about oil and food prices, he said “My sense is that the increases we’ve seen so far — while tough for many people — do not yet pose a significant risk to the overall recovery.”

Quantitative Easing 3.  As if QE 1 and 2 wasn’t bad enough.  Neither has helped.  And the inflation lurks out there.  Building.  Just waiting to explode oil and food prices.

The problem with Bernanke is he studied the Great Depression.  But the only thing he apparently learned from it is how the Fed caused the bank runs by tightening the money supply when they should have been helping the banks to stay solvent.  He does not grasp this fundamental: businesses don’t need to borrow money today.  They’re sitting on piles of it.  Why?  Because no one is buying anything.  So they’re not going to hire people and add capacity.  Even if they can borrow money at 0%.

Jimmy Carter’s Second Term

If you weren’t around for the Jimmy Carter years here’s your chance to live history.  While Chicago, India, China and other emerging markets are being responsible, the Obama administration is finally answering that age-old question.  What would a second term of Jimmy Carter have been like?  The answer?  As bad as the first.  Perhaps even worse.  Because we should know better now.  It’s no secret what happened during his presidency.  So there’s no excuse for repeating his mistakes.  And yet we seem to be hell-bent to do exactly that.  Amazing.

www.PITHOCRATES.com

Share

Tags: , , , , , , , , , , , , , , , , , , , , , , , , , ,

LESSONS LEARNED #48: “Government benefits aren’t from the government. They’re from the taxpayers.” -Old Pithy

Posted by PITHOCRATES - January 13th, 2011

Defense Spending is in the Constitution, Entitlements Aren’t – And it’s Entitlement Spending that’s Growing

People like to bitch about defense spending.  And I can understand why.  It’s a lot of money.  Just to kill people and break things.  People would rather see that money spent on education.  Health care.  Food assistance for the poor.  Entitlements.  Those nice, generous, government benefits.  The kinder, gentler side of government spending. 

People like the free stuff.  They want to get something for all those taxes other people are paying.  And it just kills them to see it spent on the military.  Because they’d rather see that money spent on them.  Of course if you read the Constitution, you’ll find defense spending in there.  It’s in the preamble (provide for the common defense).  You’ll find it in Article I.  In Article II, too.  Defense spending is pretty conspicuous in the Constitution.  Conspicuous by their absence, though, are entitlements.  Did the Founding Fathers overlook this?  No.  It was the whole point of federalism.  They designed the central government to do only those things that the states couldn’t.  To establish credit for the new nation, to treat with foreign nations, to coin money, etc.  And, of course, to provide and maintain a military force.  Alexander Hamilton wanted it to do more.  And he stretched the “necessary and proper” clause in Article I for some of the things he wanted the central government to do (to try and make the nation rich and powerful like Great Britain).  Pity, too.  For the Left has been stretching that clause ever since.

All right, defense spending is a constitutional requirement of the federal government.  Entitlements aren’t.  So how much are we spending on these?   In 1962, defense spending was 49% of all federal spending (see Federal Spending by the Numbers 2010).  Social Security and Medicare (the two biggest entitlements) were 13%.  Current baseline projections show that, in 2020, defense spending will drop to 14%.  And Social Security and Medicare will rise to 36%.  Medicare is the real cost driver here.  In the decade from 2000 to 2010, Medicare spending has jumped 81%.  It is outgrowing Social Security and Medicaid.  The runaway costs of Social Security, Medicare and Medicaid (the Big Three) are projected to equal total current tax revenues in the year 2020.  That means the total federal budget today will only pay for the Big Three in 2020.  Concerned?  You should be.  Especially if you’re a taxpayer.

You can pay Uncle Sam with the Overtime.  And will.

Taxpayer, beware.  The government is feeling especially generous.  With your money.  By 2020, Washington will be spending $35,604 per household.  That’ll take almost $5,000 in additional taxes per household for the Big Three alone.  That is projected to jump to $12,636 in 2050.  And that doesn’t include Obamacare.  When that is factored in, it’ll cost you as much as paying cash for a new car each and every year.  And a nice one, not a subcompact with a sewing machine for an engine.  Can you afford that?  I hope so.  Because you won’t have a choice.  You’ll be buying it.  But not for yourself.  No.  That nice beautiful car you’ll be buying each and every year?  You don’t get to drive it.  It will be for someone else.

The entitlement spending is getting so out of hand that we have record deficits.  Compounding this problem is the 2008 recession corresponding with a huge jump in entitlement spending.  It’s opened a rather large gap between revenue and spending.  And that gap isn’t going anywhere soon.  Unless they cut entitlements.  Or raise taxes.  And you know they won’t be cutting entitlements.  So, guess what?  You can pay Uncle Sam with the overtime.  Because that’s all you’ll get for your money (borrowed from Billy Joel’s Movin’ Out (Anthony’s Song)).  So get used to it.  Paying Uncle Sam.  Because Sam is going to raise your taxes.  He has no choice.  Because he won’t cut entitlements.

And they’ll have to raise taxes.  Because we’re running out of creditors to borrow from.  I mean, the Chinese only have so much money to lend.  And we can’t keep printing money.  They’ve been doing that.  Quantitative easing, they call it.  But they can’t keep doing it.  Anyone alive during the Seventies will know why.  Or anyone who has done some reading outside the public school curriculum.  In a word, stagflation.  That’s a phenomenon where you have both high inflation and high unemployment.  It’s usually one or the other.  The normal rules of economics don’t allow both to happen at the same time.  Unless you’re printing money like there’s no tomorrow.  Which they were in the late Sixties and Early Seventies.  To pay for the Vietnam War.  NASA’s Apollo program (to the moon and back).  And, of course, entitlement spending.  The biggest to date was a group of programs we called the Great Society.  Inflation was so bad that they joked about it on Saturday Night Live.  Dan Aykroyd played President Jimmy Carter, joking about the pleasure of owning a $400 suit.  And how easy it was to just call the treasury to have them print off another sheet of hundred dollar bills.  (Or something like that.)

The Reagan Deficits were Bad, but they Make the Obama Deficits look Good

The Seventies were a bad time.  Economically speaking.  Printing money was bad.  Quantitative easing was bad.  Easy money was bad.  So Paul Volcker started tightening monetary policy.  And Ronald Reagan cut taxes. And the Eighties were like a glorious spring following the bleakest of winters.  But you can’t teach an old dog new tricks.  The liberal Democrats weren’t going to roll over and cry ‘uncle’.  For they knew there was more spending left that they could do. 

So the spending continued.  Reagan had a Democrat Congress.  They fought him tooth and nail.  But he spoke directly to the American people and got his tax cuts.  And Reagan’s tax cuts resulted in a windfall of revenue.  And the Dems in Congress couldn’t spend the money fast enough.  Actually, they could.  They spent it so fast that surpluses soon turned into deficits.  They blamed Reagan’s defense spending.  So he made a deal.  He agreed to increase taxes.  If they would cut some of their entitlement spending.  To get the deficits under control.  So they did.  Increased taxes.  But they never cut spending.  Which just goes to show you that you can’t trust liberal Democrats.

You youngsters probably have no memory of these times.  But Ronald Reagan was attacked more than George W. Bush.  Hell, he was attacked almost as much as Abraham Lincoln.  The Seventies were the high-water mark of liberalism.  Then it went head to head with Reagan’s limited government supply-side economics in the Eighties.  And lost.  The hatred for Reagan knew no bounds.  For he was the man that repudiated liberalism.  So they attacked him ruthlessly. Screamed about his defense spending.  And yet his deficits were only around $200 billion.  Obama’s, on the other hand, are around $1,500 billion.  But they’re okay with that.  It’s no big deal, they say.  Just raise the debt ceiling.

It’s Spending, not Tax Cuts, that’s Causing those Record Deficits

But they can’t just raise the debt ceiling to keep spending.  Because spending is the problem.  Our debt is approaching 100% of our GDP.  When you’re borrowing money at record levels, you’re doing this because you just can’t raise taxes anymore.  You put the two together and it’s destroying the economy.  Taxes kill economic activity.  And the interest on the debt is soaring.  It’s projected to be approximately $760 billion in 2020.   That’s more than 70% of the projected budget deficit.  That means that most of the money we’ll be borrowing will go to pay the interest on the money we’ll be borrowing.  At that rate we’ll never pay down our debt.

Revenue averaged 18.0% of GDP from 1960-2009.  During the same period, spending averaged 20.3% of GDP from 1960-2009.  Not good.  But not too bad.  That’s a small, somewhat manageable deficit.  But spending takes off in 2010.  It’s projected to rise to 26.5% of GDP.  Meanwhile, revenue is projected to rise only to 18.2% of GDP.  That’s a projected deficit of 8.3% of GDP.  That’s fricking huge.  And that’s all runaway spending causing this mammoth deficit.  It ain’t tax cuts causing this.  It’s those entitlements.  Those fat, generous government benefits.

By this time there won’t be anything left to cut from the defense budget.  So they will have to turn to the generosity of the taxpayers.  And hope they enjoy personal sacrifice.  Because they’re going to be doing a lot of that.  To pay for these generous benefits.  These benefits for other people.

www.PITHOCRATES.com

Share

Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , ,

FUNDAMENTAL TRUTH #48: “Government benefits aren’t from the government. They’re from the taxpayers.” -Old Pithy

Posted by PITHOCRATES - January 11th, 2011

The Concept of Other People’s Money

A lot of people don’t understand how a bank works.  Or government.  In fact, banks and government are similar in one respect.  They both ‘give’ things away.  Banks loan money.  Government gives out benefits.  But before either gives anything away, they have to take from other people first.  Banks take money from depositors.  And government takes money from taxpayers.  That’s how they get the money that they give away (bank loans and government benefits).

You see, banks and government have no money of their own.  They work with other people’s money.  Yes, they can make money.  Banks via fractional reserve banking.  And government via monetary policy (lowering the discount rate, selling bonds and treasuries or simply printing money – we call this fiat money).  But there’s a danger when they do.  If they make too much money, we get inflation.  And a lot of bad things follow inflation.  Higher interest rates.  Higher prices.  And an overheated economy that eventually crashes into recession.  Which causes higher unemployment.  So they have to be careful when they’re making money.

If inflation is such a bad thing, then why do they even make money in the first place?  That’s a bit complicated.  To get a simplified understanding, think of a bank.  Businesses borrow from banks to expand their business.  When they expand they create jobs.  Everybody likes this.  Jobs.  So we try to help them get the money they need to expand their businesses.  But banks often don’t have enough money from their depositors to loan to all these businesses.  Fractional reserve banking solves that problem.  This allows the banks to lend more money than they have in their vaults from their depositors.  Creating more money allows more economic activity.  And that’s why we make money.  But we have to be careful not to make too much.

Money is only as Good as our Faith in It

More economic activity means more jobs.  And more taxes for the government.  This is why the government likes a little inflation.  A little bit allows economic activity.  And what is economic activity?  People trading with each other.  A worker trades his or her skills for groceries.  Of course, an office worker in midtown Manhattan can’t easily trader his or her office skills for a dairy farmer’s milk and cheese in Wisconsin.   But that’s okay.  Because we have a medium of exchange to make trading easier.  Our money.

You see, it’s things or services we want.  Not the money.  Money just lets us trade what we do with what others do.  We’ve used different types of money throughout history.  Specie (like gold and silver coins).  And commodities (tobacco, food, whiskey, etc.).  Specie and commodities have intrinsic value.  They’re worth something besides their value as money.  And because of this, it is not easy to make more of it.  Because a printing press can’t print gold, silver, tobacco, food, whiskey, etc.  So you can’t ‘stimulate’ the economy like you can with fiat money.  Of course, this can be a good thing.  Because you can’t over-stimulate the economy like you can with fiat money.  There are pros and cons of each type of money.  And there’s been a lot of debate between competing types of money (such as the gold standard versus fiat money). 

Money is only as good as our faith in it, though.  Because specie and commodity have intrinsic value, it’s easy to have faith in it.  It’s pretty hard to make this kind of money worthless.  But it’s easy to make fiat money worthless.  All you have to do is print too much of it.  You do that and people won’t want to use it.  Because they will have little faith that it will hold its value.

Inflation Reduces your Purchasing Power

How bad can it get?  Let’s illustrate with an example.  Let’s say you dug down about 30 feet in your back yard and discovered gold.  And you worked your butt off to bring it up to the surface, smelt it and pour it into gold bars.  Now you want to trade that gold for a new car, a 60″ plasma television, a state of the art home theater sound system, an in-the-ground swimming pool, some property on an island in the Caribbean and a few other extravagances.  You see all of these things for sale.  But the sale prices are all in dollars, not weights of gold.  Not a problem.  Because you can sell your gold for dollars. 

Think of a scale.  Put your gold on one side of the scale.  And put dollars on the other side.  When the scale balances (when both sides equal the same value, not weights), you have the value of your gold in dollars.   Let’s say your gold equals $1 million.  Lucky for you because that’s the total price of everything you want to buy. 

A week later you have all the details worked out.  You’re ready to write your checks.  But the day before, the government printed more money and doubled the number of dollars in circulation.  When you increase the number of dollars, you decrease the value of each dollar.  In this case, they doubled the amount of money so money is now only worth half of what it used to be worth.  This makes you furious.  Because if you had waited only one more week, you would have gotten $2 million for your gold instead of $1 million (same amount of gold on one side of the scale but twice the amount of dollars on the other).  Worse, not only did the price of your gold go up (after you had already sold it at the old price), but prices everywhere went up.  The stuff you were about to buy for $1 million now costs $2 million.  Now you can only buy half of what you want.  Because doubling the amount of dollars in circulation cut your purchasing power in half.

Other People’s Things

This is the time value of money.  Money decreases in value over time because of inflation.  The greater the inflation rate, the quicker the money in your wallet loses value.  During times of high inflation, people will not want to hold onto their money for a long time.  They’ll want to spend it fast.  Because they’ll be able to buy more with it sooner than they will be able to later.  And it’s the things they want to buy that have real value to them.  Not the money.

Things, not money.  That’s what people want.  And that’s what government benefits are.  Things.  Other people’s things.  You can’t just print money and give it away.  Because you need things to buy with that money.  So not only do you need taxpayers to pay taxes.  But you need them to make the things (and services) people want to buy. 

The greater amount of benefits the government hands out, the more of other people’s stuff they have to take.  That’s why there is a limit on the amount of benefits that government can hand out.  The things the government does to pay for those benefits reduces economic activity.  And increases unemployment.  Unemployed people can’t make stuff or perform services.  And they have less stuff to take.   No matter how much fiat money the government prints.

www.PITHOCRATES.com

Share

Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , ,