Bretton Woods System, Quasi Gold Standard, Inflation, Savings, Nixon Shock and Monetizing the Debt

Posted by PITHOCRATES - February 4th, 2014

History 101

(Originally published 2/5/2013)

The Bretton Woods System was a quasi Gold Standard where the U.S. Dollar replaced Gold

Government grew in the Sixties.  LBJ’s Great Society increased government spending.  Adding it on top of spending for the Vietnam War.  The Apollo Moon Program.  As well as the Cold War.  The government was spending a lot of money.  More money than it had.  So they started increasing the money supply (i.e., printing money).  But when they did they unleashed inflation.  Which devalued the dollar.  And eroded savings.  Also, because the U.S. was still on a quasi gold standard this also created a problem with their trade partners.

At the time the United States was still in the Bretton Woods System.  Along with her trade partners.  These nations adopted the U.S. dollar as the world’s reserve currency to facilitate international trade.  Which kept trade fair.  By preventing anyone from devaluing their currency to give them an unfair trade advantage.  They would adjust their monetary policy to maintain a fixed exchange rate with the U.S. dollar.  While the U.S. coupled the U.S. dollar to gold at $35/ounce.  Which created a quasi gold standard.  Where the U.S. dollar replaced gold.

So the U.S. had a problem when they started printing money.  They were devaluing the dollar.  So those nations holding it as a reserve currency decided to hold gold instead.  And exchanged their dollars for gold at $35/ounce.  Causing a great outflow of gold from the U.S.  Giving the U.S. a choice.  Either become responsible and stop printing money.  Or decouple the dollar from gold.  And no longer exchange gold for dollars.  President Nixon chose the latter.  And on August 15, 1971, he surprised the world.  Without any warning he decoupled the dollar from gold.  It was a shock.  So much so they call it the Nixon Shock.

To earn a Real 2% Return the Interest Rate would have to be 2% plus the Loss due to Inflation

Once they removed gold from the equation there was nothing stopping them from printing money.  The already growing money supply (M2) grew at a greater rate after the Nixon Shock (see M2 Money Stock).  The rate of increase (i.e., the inflation rate) declined for a brief period around 1973.  Then resumed its sharp rate of growth around 1975.  Which you can see in the following chart.  Where the increasing graph represents the rising level of M2.

M2 versus Retirement Savings

Also plotted on this graph is the effect of this growth in the money supply on retirement savings.  In 1966 the U.S. was still on a quasi gold standard.  So assume the money supply equaled the gold on deposit in 1966.  And as they increased the money supply over the years the amount of gold on deposit remained the same.  So if we divide M2 in 1966 by M2 in each year following 1966 we get a declining percentage.  M2 in 1966 was only 96% of M2 in 1967.  M2 in 1966 was only 88% of M2 in 1968.  And so on.  Now if we start off with a retirement savings of $750,000 in 1966 we can see the effect of inflation has by multiplying that declining percentage by $750,000.  When we do we get the declining graph in the above chart.  To offset this decline in the value of retirement savings due to inflation requires those savings to earn a very high interest rate.

Interest Rate - Real plus Inflation

This chart starts in 1967 as we’re looking at year-to-year growth in M2.  Inflation eroded 4.07% of savings between 1966 and 1967.   So to earn a real 2% return the interest rate would have to be 2% plus the loss due to inflation (4.07%).  Or a nominal interest rate of 6.07%.  The year-to-year loss in 1968 was 8.68%.  So the nominal interest rate for a 2% real return would be 10.68% (2% + 8.68%).  And so on as summarized in the above chart.  Because we’re discussing year-to-year changes on retirement savings we can consider these long-term nominal interest rates.

Just as Inflation can erode someone’s Retirement Savings it can erode the National Debt

To see how this drives interest rates we can overlay some average monthly interest rates for 6 Month CDs (see Historical CD Interest Rate).  Which are often a part of someone’s retirement nest egg.  The advantage of a CD is that they are short-term.  So as interest rates rise they can roll over these short-term instruments and enjoy the rising rates.  Of course that advantage is also a disadvantage.  For if rates fall they will roll over into a lower rate.  Short-term interest rates tend to be volatile.  Rising and falling in response to anything that affects the supply and demand of money.  Such as the rate of growth of the money supply.  As we can see in the following chart.

Interest Rate - Real plus Inflation and 6 Month CD

The average monthly interest rates for 6 Month CDs tracked the long-term nominal interest rates.  As the inflationary component of the nominal interest rate soared in 1968 and 1969 the short-term rate trended up.  When the long-term rate fell in 1970 the short-term rate peaked and fell in the following year.  After the Nixon Shock long-term rates increased in 1971.  And soared in 1972 and 1973.  The short-term rate trended up during these years.  And peaked when the long-term rate fell.  The short term rate trended down in 1974 and 1975 as the long-term rate fell.  It bottomed out in 1977 in the second year of soaring long-term rates.  Where it then trended up at a steeper rate all the way through 1980.  Sending short-term rates even higher than long-term rates.  As the risk on short-term savings can exceed that on long-term savings.  Due to the volatility of short-term interest rates and wild swings in the inflation rate.  Things that smooth out over longer periods of time.

Governments like inflationary monetary policies.  For it lets them spend more money.  But it also erodes savings.  Which they like, too.  Especially when those savings are invested in the sovereign debt of the government.  For just as inflation can erode someone’s retirement savings it can erode the national debt.  What we call monetizing the debt.  For as you expand the money supply you depreciate the dollar.  Making dollars worth less.  And when the national debt is made up of depreciated dollars it’s easier to pay it off.  But it’s a dangerous game to play.  For if they do monetize the debt it will be very difficult to sell new government debt.  For investors will demand interest rates with an even larger inflationary component to protect them from further irresponsible monetary policies.  Greatly increasing the interest payment on the debt.  Forcing spending cuts elsewhere in the budget as those interest payments consume an ever larger chunk of the total budget.  Which governments are incapable of doing.  Because they love spending too much.

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Bretton Woods, Nixon Shock, OPEC, Yom Kippur War, Oil Embargo, Stagflation, Paul Volcker, Ronald Reagan and Morning in America

Posted by PITHOCRATES - October 1st, 2013

History 101

(Originally published September 18th, 2012)

Under the Bretton Woods System the Americans promised to Exchange their Gold for Dollars at $35 per Ounce

Wars are expensive.  All kinds.  The military kind.  As well as the social kind.  And the Sixties gave us a couple of doozies.  The Vietnam War.  And the War on Poverty.  Spending in Vietnam started in the Fifties.  But spending, as well as troop deployment, surged in the Sixties.  First under JFK.  Then under LBJ.  They added this military spending onto the Cold War spending.  Then LBJ declared a war on poverty.  And all of this spending was on top of NASA trying to put a man on the moon.  Which was yet another part of the Cold War.  To beat the Soviets to the moon after they beat us in orbit.

This was a lot of spending.  And it carried over into the Seventies.  Giving President Nixon a big problem.  As he also had a balance of payments deficit.  And a trade deficit.  Long story short Nixon was running out of money.  So they started printing it.  Which caused another problem as the US was still part of the Bretton Woods system.  A quasi gold standard.  Where the US pegged the dollar to gold at $35 per ounce.  Which meant when they started printing dollars the money supply grew greater than their gold supply.  And depreciated the dollar.  Which was a problem because under Bretton Woods the Americans promised to exchange their gold for dollars at $35 per ounce.

When other nations saw the dollar depreciate so that it would take more and more of them to buy an ounce of gold they simply preferred having the gold instead.  Something the Americans couldn’t depreciate.  Nations exchanged their dollars for gold.  And began to leave the Bretton Woods system.    Nixon had a choice to stop this gold outflow.  He could strengthen the dollar by reducing the money supply (i.e., stop printing dollars) and cut spending.  Or he could ‘close the gold window’ and decouple the dollar from gold.  Which is what he did on August 15, 1971.  And shocked the international financial markets.  Hence the name the Nixon Shock.

When the US supported Israel in the Yom Kippur War the Arab Oil Producers responded with an Oil Embargo

Without the restraint of gold preventing the printing of money the Keynesians were in hog heaven.  As they hated the gold standard.  The suspension of the convertibility of gold ushered in the heyday of Keynesian economics.  Even Nixon said, “I am now a Keynesian in economics.”  The US had crossed the Rubicon.  Inflationary Keynesian policies were now in charge of the economy.  And they expanded the money supply.  Without restraint.  For there was nothing to fear.  No consequences.  Just robust economic activity.  Of course OPEC didn’t see it that way.

Part of the Bretton Woods system was that other nations used the dollar as a reserve currency.  Because it was as good as gold.  As our trading partners could exchange $35 for an ounce of gold.  Which is why we priced international assets in dollars.  Like oil.  Which is why OPEC had a problem with the Nixon Shock.  The dollars they got for their oil were rapidly becoming worth less than they once were.  Which greatly reduced what they could buy with those dollars.  The oil exporters were losing money with the American devaluation of the dollar.  So they raised the price of oil.  A lot.  Basically pricing it at the current value of gold in US dollars.  Meaning the more they depreciated the dollar the higher the price of oil went.  As well as gas prices.

With the initial expansion of the money supply there was short-term economic gain.  The boom.  But shortly behind this inflationary gain came higher prices.  And a collapse in economic activity.  The bust.  This was the dark side of Keynesian economics.  Higher prices that pushed economies into recessions.  And to make matters worse Americans were putting more of their depreciated dollars into the gas tank.  And the Keynesians said, “No problem.  We can fix this with some inflation.”  Which they tried to by expanding the money supply further.  Meanwhile, Egypt and Syria attacked Israel on October 6, 1973, kicking off the Yom Kippur War.  And when the US supported their ally Israel the Arab oil producers responded with an oil embargo.  Reducing the amount of oil entering America, further raising prices.  And causing gas lines as gas stations ran out of gas.  (In part due to Nixon’s price controls that did not reset demand via higher prices to the reduced supply.  And a ceiling on domestic oil prices discouraged any domestic production.)  The Yom Kippur War ended about 20 days later.  Without a major change in borders.  With an Israeli agreement to pull their forces back to the east side of the Suez Canal the Arab oil producers (all but Libya) ended their oil embargo in March of 1974.

It was Morning in America thanks to the Abandonment of Keynesian Inflationary Policies

So oil flowed into the US again.  But the economy was still suffering from high unemployment.  Which the Keynesians fixed with some more inflation.  With another burst of monetary expansion starting around 1975.  To their surprise, though, unemployment did not fall.  It just raised prices.  Including oil prices.  Which increased gas prices.  The US was suffering from high unemployment and high inflation.  Which wasn’t supposed to happen in Keynesian economics.  Even their Phillips Curve had no place on its graph for this phenomenon.  The Keynesians were dumfounded.  And the American people suffered through the malaise of stagflation.  And if things weren’t bad enough the Iranians revolted and the Shah of Iran (and US ally) stepped down and left the country.  Disrupting their oil industry.  And then President Carter put a halt to Iranian oil imports.  Bringing on the 1979 oil crisis.

This crisis was similar to the previous one.  But not quite as bad.  As it was only Iranian oil being boycotted.  But there was some panic buying.  And some gas lines again.  But Carter did something else.  He began to deregulate oil prices over a period of time.  It wouldn’t help matters in 1979 but it did allow the price of crude oil to rise in the US.  Drawing the oil rigs back to the US.  Especially in Alaska.  Also, the Big Three began to make smaller, more fuel efficient cars.  These two events would combine with another event to bring down the price of oil.  And the gasoline we made from that oil.

Actually, there was something else President Carter did that would also affect the price of oil.  He appointed Paul Volcker Chairman of the Federal Reserve in August of 1979.  He was the anti-Keynesian.  He raised interest rates to contract the money supply and threw the country into a steep recession.  Which brought prices down.  Wringing out the damage of a decade’s worth of inflation.  When Ronald Reagan won the 1980 presidency he kept Volcker as Chairman.  And suffered through a horrible 2-year recession.  But when they emerged it was Morning in America.  They had brought inflation under control.  Unemployment fell.  The economy rebounded thanks to Reagan’s tax cuts.  And the price of oil plummeted.  Thanks to the abandonment of Keynesian inflationary policies.  And the abandonment of oil regulation.  As well as the reduction in demand (due to those smaller and more fuel efficient cars).  Which created a surge in oil exploration and production that resulted in an oil glut in the Eighties.  Bringing the price oil down to almost what it was before the two oil shocks.

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Bretton Woods System, Quasi Gold Standard, Inflation, Savings, Nixon Shock and Monetizing the Debt

Posted by PITHOCRATES - February 5th, 2013

History 101

The Bretton Woods System was a quasi Gold Standard where the U.S. Dollar replaced Gold

Government grew in the Sixties.  LBJ’s Great Society increased government spending.  Adding it on top of spending for the Vietnam War.  The Apollo Moon Program.  As well as the Cold War.  The government was spending a lot of money.  More money than it had.  So they started increasing the money supply (i.e., printing money).  But when they did they unleashed inflation.  Which devalued the dollar.  And eroded savings.  Also, because the U.S. was still on a quasi gold standard this also created a problem with their trade partners.

At the time the United States was still in the Bretton Woods System.  Along with her trade partners.  These nations adopted the U.S. dollar as the world’s reserve currency to facilitate international trade.  Which kept trade fair.  By preventing anyone from devaluing their currency to give them an unfair trade advantage.  They would adjust their monetary policy to maintain a fixed exchange rate with the U.S. dollar.  While the U.S. coupled the U.S. dollar to gold at $35/ounce.  Which created a quasi gold standard.  Where the U.S. dollar replaced gold.

So the U.S. had a problem when they started printing money.  They were devaluing the dollar.  So those nations holding it as a reserve currency decided to hold gold instead.  And exchanged their dollars for gold at $35/ounce.  Causing a great outflow of gold from the U.S.  Giving the U.S. a choice.  Either become responsible and stop printing money.  Or decouple the dollar from gold.  And no longer exchange gold for dollars.  President Nixon chose the latter.  And on August 15, 1971, he surprised the world.  Without any warning he decoupled the dollar from gold.  It was a shock.  So much so they call it the Nixon Shock.

To earn a Real 2% Return the Interest Rate would have to be 2% plus the Loss due to Inflation

Once they removed gold from the equation there was nothing stopping them from printing money.  The already growing money supply (M2) grew at a greater rate after the Nixon Shock (see M2 Money Stock).  The rate of increase (i.e., the inflation rate) declined for a brief period around 1973.  Then resumed its sharp rate of growth around 1975.  Which you can see in the following chart.  Where the increasing graph represents the rising level of M2.

M2 versus Retirement Savings

Also plotted on this graph is the effect of this growth in the money supply on retirement savings.  In 1966 the U.S. was still on a quasi gold standard.  So assume the money supply equaled the gold on deposit in 1966.  And as they increased the money supply over the years the amount of gold on deposit remained the same.  So if we divide M2 in 1966 by M2 in each year following 1966 we get a declining percentage.  M2 in 1966 was only 96% of M2 in 1967.  M2 in 1966 was only 88% of M2 in 1968.  And so on.  Now if we start off with a retirement savings of $750,000 in 1966 we can see the effect of inflation has by multiplying that declining percentage by $750,000.  When we do we get the declining graph in the above chart.  To offset this decline in the value of retirement savings due to inflation requires those savings to earn a very high interest rate.

Interest Rate - Real plus Inflation

This chart starts in 1967 as we’re looking at year-to-year growth in M2.  Inflation eroded 4.07% of savings between 1966 and 1967.   So to earn a real 2% return the interest rate would have to be 2% plus the loss due to inflation (4.07%).  Or a nominal interest rate of 6.07%.  The year-to-year loss in 1968 was 8.68%.  So the nominal interest rate for a 2% real return would be 10.68% (2% + 8.68%).  And so on as summarized in the above chart.  Because we’re discussing year-to-year changes on retirement savings we can consider these long-term nominal interest rates.

Just as Inflation can erode someone’s Retirement Savings it can erode the National Debt

To see how this drives interest rates we can overlay some average monthly interest rates for 6 Month CDs (see Historical CD Interest Rate).  Which are often a part of someone’s retirement nest egg.  The advantage of a CD is that they are short-term.  So as interest rates rise they can roll over these short-term instruments and enjoy the rising rates.  Of course that advantage is also a disadvantage.  For if rates fall they will roll over into a lower rate.  Short-term interest rates tend to be volatile.  Rising and falling in response to anything that affects the supply and demand of money.  Such as the rate of growth of the money supply.  As we can see in the following chart.

Interest Rate - Real plus Inflation and 6 Month CD

The average monthly interest rates for 6 Month CDs tracked the long-term nominal interest rates.  As the inflationary component of the nominal interest rate soared in 1968 and 1969 the short-term rate trended up.  When the long-term rate fell in 1970 the short-term rate peaked and fell in the following year.  After the Nixon Shock long-term rates increased in 1971.  And soared in 1972 and 1973.  The short-term rate trended up during these years.  And peaked when the long-term rate fell.  The short term rate trended down in 1974 and 1975 as the long-term rate fell.  It bottomed out in 1977 in the second year of soaring long-term rates.  Where it then trended up at a steeper rate all the way through 1980.  Sending short-term rates even higher than long-term rates.  As the risk on short-term savings can exceed that on long-term savings.  Due to the volatility of short-term interest rates and wild swings in the inflation rate.  Things that smooth out over longer periods of time.

Governments like inflationary monetary policies.  For it lets them spend more money.  But it also erodes savings.  Which they like, too.  Especially when those savings are invested in the sovereign debt of the government.  For just as inflation can erode someone’s retirement savings it can erode the national debt.  What we call monetizing the debt.  For as you expand the money supply you depreciate the dollar.  Making dollars worth less.  And when the national debt is made up of depreciated dollars it’s easier to pay it off.  But it’s a dangerous game to play.  For if they do monetize the debt it will be very difficult to sell new government debt.  For investors will demand interest rates with an even larger inflationary component to protect them from further irresponsible monetary policies.  Greatly increasing the interest payment on the debt.  Forcing spending cuts elsewhere in the budget as those interest payments consume an ever larger chunk of the total budget.  Which governments are incapable of doing.  Because they love spending too much.

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Bretton Woods, Nixon Shock, OPEC, Yom Kippur War, Oil Embargo, Stagflation, Paul Volcker, Ronald Reagan and Morning in America

Posted by PITHOCRATES - September 18th, 2012

History 101

Under the Bretton Woods System the Americans promised to Exchange their Gold for Dollars at $35 per Ounce

Wars are expensive.  All kinds.  The military kind.  As well as the social kind.  And the Sixties gave us a couple of doozies.  The Vietnam War.  And the War on Poverty.  Spending in Vietnam started in the Fifties.  But spending, as well as troop deployment, surged in the Sixties.  First under JFK.  Then under LBJ.  They added this military spending onto the Cold War spending.  Then LBJ declared a war on poverty.  And all of this spending was on top of NASA trying to put a man on the moon.  Which was yet another part of the Cold War.  To beat the Soviets to the moon after they beat us in orbit.

This was a lot of spending.  And it carried over into the Seventies.  Giving President Nixon a big problem.  As he also had a balance of payments deficit.  And a trade deficit.  Long story short Nixon was running out of money.  So they started printing it.  Which caused another problem as the US was still part of the Bretton Woods system.  A quasi gold standard.  Where the US pegged the dollar to gold at $35 per ounce.  Which meant when they started printing dollars the money supply grew greater than their gold supply.  And depreciated the dollar.  Which was a problem because under Bretton Woods the Americans promised to exchange their gold for dollars at $35 per ounce.

When other nations saw the dollar depreciate so that it would take more and more of them to buy an ounce of gold they simply preferred having the gold instead.  Something the Americans couldn’t depreciate.  Nations exchanged their dollars for gold.  And began to leave the Bretton Woods system.    Nixon had a choice to stop this gold outflow.  He could strengthen the dollar by reducing the money supply (i.e., stop printing dollars) and cut spending.  Or he could ‘close the gold window’ and decouple the dollar from gold.  Which is what he did on August 15, 1971.  And shocked the international financial markets.  Hence the name the Nixon Shock.

When the US supported Israel in the Yom Kippur War the Arab Oil Producers responded with an Oil Embargo

Without the restraint of gold preventing the printing of money the Keynesians were in hog heaven.  As they hated the gold standard.  The suspension of the convertibility of gold ushered in the heyday of Keynesian economics.  Even Nixon said, “I am now a Keynesian in economics.”  The US had crossed the Rubicon.  Inflationary Keynesian policies were now in charge of the economy.  And they expanded the money supply.  Without restraint.  For there was nothing to fear.  No consequences.  Just robust economic activity.  Of course OPEC didn’t see it that way.

Part of the Bretton Woods system was that other nations used the dollar as a reserve currency.  Because it was as good as gold.  As our trading partners could exchange $35 for an ounce of gold.  Which is why we priced international assets in dollars.  Like oil.  Which is why OPEC had a problem with the Nixon Shock.  The dollars they got for their oil were rapidly becoming worth less than they once were.  Which greatly reduced what they could buy with those dollars.  The oil exporters were losing money with the American devaluation of the dollar.  So they raised the price of oil.  A lot.  Basically pricing it at the current value of gold in US dollars.  Meaning the more they depreciated the dollar the higher the price of oil went.  As well as gas prices.

With the initial expansion of the money supply there was short-term economic gain.  The boom.  But shortly behind this inflationary gain came higher prices.  And a collapse in economic activity.  The bust.  This was the dark side of Keynesian economics.  Higher prices that pushed economies into recessions.  And to make matters worse Americans were putting more of their depreciated dollars into the gas tank.  And the Keynesians said, “No problem.  We can fix this with some inflation.”  Which they tried to by expanding the money supply further.  Meanwhile, Egypt and Syria attacked Israel on October 6, 1973, kicking off the Yom Kippur War.  And when the US supported their ally Israel the Arab oil producers responded with an oil embargo.  Reducing the amount of oil entering America, further raising prices.  And causing gas lines as gas stations ran out of gas.  (In part due to Nixon’s price controls that did not reset demand via higher prices to the reduced supply.  And a ceiling on domestic oil prices discouraged any domestic production.)  The Yom Kippur War ended about 20 days later.  Without a major change in borders.  With an Israeli agreement to pull their forces back to the east side of the Suez Canal the Arab oil producers (all but Libya) ended their oil embargo in March of 1974.

It was Morning in America thanks to the Abandonment of Keynesian Inflationary Policies

So oil flowed into the US again.  But the economy was still suffering from high unemployment.  Which the Keynesians fixed with some more inflation.  With another burst of monetary expansion starting around 1975.  To their surprise, though, unemployment did not fall.  It just raised prices.  Including oil prices.  Which increased gas prices.  The US was suffering from high unemployment and high inflation.  Which wasn’t supposed to happen in Keynesian economics.  Even their Phillips Curve had no place on its graph for this phenomenon.  The Keynesians were dumfounded.  And the American people suffered through the malaise of stagflation.  And if things weren’t bad enough the Iranians revolted and the Shah of Iran (and US ally) stepped down and left the country.  Disrupting their oil industry.  And then President Carter put a halt to Iranian oil imports.  Bringing on the 1979 oil crisis.

This crisis was similar to the previous one.  But not quite as bad.  As it was only Iranian oil being boycotted.  But there was some panic buying.  And some gas lines again.  But Carter did something else.  He began to deregulate oil prices over a period of time.  It wouldn’t help matters in 1979 but it did allow the price of crude oil to rise in the US.  Drawing the oil rigs back to the US.  Especially in Alaska.  Also, the Big Three began to make smaller, more fuel efficient cars.  These two events would combine with another event to bring down the price of oil.  And the gasoline we made from that oil.

Actually, there was something else President Carter did that would also affect the price of oil.  He appointed Paul Volcker Chairman of the Federal Reserve in August of 1979.  He was the anti-Keynesian.  He raised interest rates to contract the money supply and threw the country into a steep recession.  Which brought prices down.  Wringing out the damage of a decade’s worth of inflation.  When Ronald Reagan won the 1980 presidency he kept Volcker as Chairman.  And suffered through a horrible 2-year recession.  But when they emerged it was Morning in America.  They had brought inflation under control.  Unemployment fell.  The economy rebounded thanks to Reagan’s tax cuts.  And the price of oil plummeted.  Thanks to the abandonment of Keynesian inflationary policies.  And the abandonment of oil regulation.  As well as the reduction in demand (due to those smaller and more fuel efficient cars).  Which created a surge in oil exploration and production that resulted in an oil glut in the Eighties.  Bringing the price oil down to almost what it was before the two oil shocks.

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Phillips Curve

Posted by PITHOCRATES - September 17th, 2012

Economics 101

A High Savings Rate provides Abundant Capital for Banks to Loan to Businesses

Time.  It’s what runs our lives.  Well, that, and patience.  Together they run our lives.  For these two things determine the difference between savings.  And consumption.  Whether we have the patience to wait and save our money to buy something in the future.  Like a house.  Or if we are too impatient to wait.  And choose to spend our money now.  On a new car, clothes, jewelry, nice dinners, travel, etc.  Choosing current consumption for pleasure now.  Or choosing savings for pleasure later.

We call this time preference.  And everyone has their own time preference.  Even societies have their own time preferences.  And it’s that time preference that determines the rate of consumption and the rate of savings.  Our parents’ generation had a higher preference to save money.  The current generation has a higher preference for current consumption.  Which is why a lot of the current generation is now living with their parents.  For their parents preference for saving money over consuming money allowed them to buy a house that they own free and clear today.  While having savings to live on during these difficult economic times.  Unlike their children.  Whose consumption of cars, clothes, jewelry, nice dinners, travel, etc., left them with little savings to weather these difficult economic times.  And with a house they no longer can afford to pay the mortgage.

A society’s time preference determines the natural rate of interest.  A higher savings rate provides abundant capital for banks to loan to businesses.  Which lowers the natural rate of interest.  A high rate of consumption results with a lower savings rate.  Providing less capital for banks to loan to businesses.  Which raises the natural interest rate.  High interest rates make it more difficult for businesses to borrow money to expand their business than it is with low interest rates.  Thus higher interest rates reduce the rate of job creation.  Or, restated another way, a low savings rate reduces the rate of job creation.

The Phillips Curve shows the Keynesian Relationship between the Unemployment Rate and the Inflation Rate

Before the era of central banks and fiat money economists understood this relationship between savings and employment very well.  But after the advent of central banking and fiat money economists restated this relationship.  In particular the Keynesian economists.  Who dropped the savings part.  And instead focused only on the relationship between interest rates and employment.  Advising governments in the 20th century that they had the power to control the economy.  If they adopt central banking and fiat money.  For they could print their own money and determine the interest rate.  Making savings a relic of a bygone era.

The theory was that if a high rate of savings lowered interest rates by creating more capital for banks to loan why not lower interest rates further by just printing money and giving it to the banks to loan?  If low interests rates were good lower interest rates must be better.  At least this was Keynesian theory.  And expanding governments everywhere in the 20th century put this theory to the test.  Printing money.  A lot of it.  Based on the belief that if they kept pumping more money into the economy they could stimulate unending economic growth.  Because with a growing amount of money for banks to loan they could keep interest rates low.  Encouraging businesses to keep borrowing money to expand their businesses.  Hire more people to fill newly created jobs.  And expand economic activity.

Economists thought they had found the Holy Grail to ending recessions as we knew them.  Whenever unemployment rose all they had to do was print new money.  For the economic activity businesses created with this new money would create new jobs to replace the jobs lost due to recession.   The Keynesians built on their relationship between interest rates and employment.  And developed a relationship between the expansion of the money supply and employment.  Particularly, the relationship between the inflation rate (the rate at which they expanded the money supply) and the unemployment rate.  What they found was an inverse relationship.  When there was a high unemployment rate there was a low inflation rate.  When there was a low unemployment rate there was a high inflation rate.  They showed this with their Phillips Curve.  That graphed the relationship between the inflation rate (shown rising on the y-axis) and the unemployment rate (shown increasing on the x-axis).  The Phillips Curve was the answer to ending recessions.  For when the unemployment rate went up all the government had to do was create some inflation (i.e., expand the money supply).  And as they increased the inflation rate the unemployment rate would, of course, fall.  Just like the Phillips Curve showed.

The Seventies Inflationary Damage was So Great that neither Technology nor Productivity Gains could Overcome It

But the Phillips Curve blew up in the Keynesians’ faces during the Seventies.  As they tried to reduce the unemployment rate by increasing the inflation rate.  When they did, though, the unemployment did not fall.  But the inflation rate did rise.  In a direct violation of the Phillips Curve.  Which said that was impossible.  To have a high inflation rate AND a high unemployment rate at the same time.  How did this happen?  Because the economic activity they created with their inflationary policies was artificial.  Lowering the interest rate below the natural interest rate encouraged people to borrow money they had no intention of borrowing earlier.  Because they did not see sufficient demand in the market place to expand their businesses to meet.  However, business people are human.  And they can make mistakes.  Such as borrowing money to expand their businesses solely because the money was cheap to borrow.

When you inflate the money supply you depreciate the dollar.  Because there are more dollars in circulation chasing the same amount of goods and services.  And if the money is worth less what does that do to prices?  It increases them.  Because it takes more of the devalued dollars to buy what they once bought.  So you have a general increase of prices that follows any monetary expansion.  Which is what is waiting for those businesses borrowing that new money to expand their businesses.  Typically the capital goods businesses.  Those businesses higher up in the stages of production.  A long way out from retail sales.  Where the people are waiting to buy the new products made from their capital goods.  Which will take a while to filter down to the consumer level.  But by the time they do prices will be rising throughout the economy.  Leaving consumers with less money to spend.  So by the times those new products built from those capital goods reach the retail level there isn’t an increase in consumption to buy them.  Because inflation has by this time raised prices.  Especially gas prices.  So not only are the consumers not buying these new goods they are cutting back from previous purchasing levels.  Leaving all those businesses in the higher stages of production that expanded their businesses (because of the availability of cheap money) with some serious overcapacity.  Forcing them to cut back production and lay off workers.  Often times to a level below that existing before the inflationary monetary expansion intended to decrease the unemployment rate.

Governments have been practicing Keynesian economics throughout the 20th century.  So why did it take until the Seventies for this to happen?  Because in the Seventies they did something that made it very easy to expand the money supply.  President Nixon decoupled the dollar from gold (the Nixon Shock).  Which was the only restraint on the government from expanding the money supply.  Which they did greater during the Seventies than they had at any previous time.  Under the ‘gold standard’ the U.S. had to maintain the value of the dollar by pegging it to gold.  They couldn’t depreciate it much.  Without the ‘gold standard’ they could depreciate it all they wanted to.  So they did. Prior to the Seventies they inflated the money supply by about 5%.  After the Nixon Shock that jumped to about 15-20%.  This was the difference.  The inflationary damage was so bad that no amount of technological advancement or productivity gains could overcome it.  Which exposed the true damage inflationary Keynesian economic policies cause.  As well as discrediting the Phillips Curve.

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Keynesians, Gold Standard, Consumer Price Index, Money Stock, Nixon Shock, 1973 Oil Crisis, Gasoline Prices, Hidden Tax and Wealth Transfer

Posted by PITHOCRATES - April 24th, 2012

History 101

With the Increase in the Money Supply came the Permanent Increase in Consumer Prices that Continues to this Date

Keynesians hate the gold standard.  Because it puts a limit on how much money a government can print.  Keynesians believe in the power of government to eliminate recessions.  And their cure for recession?  Inflation.  The government prints money to spend in the private economy.  To make up for the decline in consumer spending.  But it turned out this didn’t work.  As the Seventies showed.  They printed a lot of money.  But it didn’t end the recession.  It just raised consumer prices.  Because there is a direct correlation between the amount of money in circulation and consumer prices.  As you can see in the following graph. 

 Source: M2, CPI

 The consumer price index (CPI) data comes from the U.S. Department of Labor.  The data is at 5 year intervals.  The CPI is a ‘basket’ of prices for a selection of representative goods and services divided by another ‘basket’ of prices from a fixed date.  The resulting number is a price index.  If you plot these for a period of time you can see inflation (a rising graph) or deflation (a falling graph).  M2 is the money stock (seasonally unadjusted).  M2 includes currency, traveler’s checks, demand deposits, other checkable deposits, retail MMMFs, savings and small time deposits.

The Breton Woods system established fixed exchange rates for international trade.  It also pegged the U.S. dollar to gold.  The U.S. government promised to exchange U.S. dollars for gold at a rate of $35/ounce.  Making the U.S. dollar as good as gold.  This set the rules for international trade.  Made it fair.  And prevented anyone from cheating by devaluing their currency to make their exports cheaper to gain an economical advantage in international trade.  The system worked well.  Until the Sixties.  Because of the Vietnam War.  And LBJ’s Great Society.  These increased government spending so much that the U.S. government turned to printing money to pay for these.  Which depreciated the dollar.  Making it not as good as gold anymore.  So our trading partners began dumping their devalued dollars.  Exchanging them for gold at $35/ounce.  Which was a problem for the Nixon administration.  For that gold was far more valuable than the U.S. dollar.  They could print more dollars.  But once that gold was gone it was gone.  So Nixon acted to keep that gold in the U.S.

On August 15, 1971 Nixon decoupled the dollar from gold.  Known as the Nixon Shock.  Reneging on the solemn promise to exchange U.S. dollars for gold.  And ramped up the printing presses.  Which you can see in the graph.  After August 15 the money supply began growing.  And continues to this date.  With the increase in the money supply came the permanent increase in consumer prices that, also, continues to this date.  In lockstep with the growth of the money supply.

Prior to the Nixon Shock Gasoline Prices were Falling at a Greater Rate than the Rate Consumer Prices were Rising 

Since August of 1971 the U.S. has maintained a policy of permanent inflation.  Which caused a policy of permanently increasing consumer prices.  Those high prices we complain about, then, are not the fault of greedy businesses.  They’re the fault of government.  And their easy monetary policy.  In fact, if it was not for government’s irresponsible monetary policy the high price we hate most would not be as high as it is today.  In fact, because of the efficiency of the industry bringing us this one product its price has not followed the general upward trend in consumer prices.  And what is this product?  Gasoline.  Which, apart from two spikes in the last 60 years or so has either been falling or holding steady in comparison to consumer prices.

 Source: CPI, Gas $/Gal

 These prices are from DaveManual.com.  And reflect generally the price at the pump over this time period.  Using at first leaded gasoline.  Then unleaded gasoline.  Using inflation adjusted average prices.  Then chained 2005 dollars.  These prices are not exactly apples-to-apples.  But the trending information they provide illustrates two major points.  The two spikes in gas prices were due to demand greatly outpacing supply.  And that even with these two spikes gasoline prices would be far lower today if it wasn’t for the government’s policy of permanent inflation.

Note that prior to the Nixon Shock gasoline prices were falling at a greater rate than the rate consumer prices were rising.  These trends stopped in the Seventies for two reasons.  The Nixon Shock.  And the 1973 oil crisis.  When OPEC punished the U.S. for their support of Israel in the Yom Kippur war by cutting our oil supply.  These two events caused gasoline prices to spike.  But then something interesting happened with these high prices.  It brought a lot of oil producers into the market to cash in on those high prices.  This surge in production coupled with a falling demand due to the U.S. recession in the Seventies caused an oil glut in the Eighties.  Bringing prices back down.  Where they flat-lined for a decade or so while all other consumer prices continued their march upward.  Until two of the most populous countries in the world modernized their economies.  India and China.  Causing a spike in demand.  And a spike in prices.  For it was like adding another United States or two to the world gasoline market.

Inflation is a Hidden Tax that Transfers Wealth from the Private Sector to the Public Sector

Keynesians love to talk about how great the economy was during the Fifties when the high marginal tax rate was 91-92%.  “See?” they say.  “The economy was robust and growing during the Fifties even with these high marginal tax rates.  So high marginal tax rates are good for the economy.”  But they will never comment on how instrumental the gold standard was in keeping government spending within responsible limits.  How that responsible monetary policy kept inflation and consumer prices under control.  No.  They don’t see that part of the Fifties.  Only the high marginal tax rates.  Because they don’t want to return to the gold standard.  Or have any restrictions on their irresponsible ways.

Keynesians believe in the power of government to manage the economy.  And they really like to tax and spend.  A lot.  But taxing too much has consequences.  People don’t like paying taxes.  And don’t tend to vote for people who tax them a lot.  Which is why Keynesians love inflation.  Because it’s a hidden tax.  The higher the inflation rate the higher the tax.  Because government also borrows money.  They sell bonds.  That we buy as a retirement investment.  But if there’s been a good amount of inflation between the selling and redemption of those bonds it makes it a lot easier to redeem those bonds.  Because thanks to inflation those bonds are worth far less than they were when the government issued them.  Even Keynes noted that inflation was a way to transfer a lot of wealth from the private sector to the public sector.  Without many people understanding that it was even happening.

If you ever wondered why it takes two incomes to do what your father did with one income this is why.  Inflation.  This never ending transfer of wealth from the private sector to the public sector.  Leaving us less to retire on.  Making it harder to save for our children’s college education.  Not to mention the higher cost of living that shrinks our real wages.  While they tax our higher nominal wages at ever higher income tax rates (income tax bracket creep is another inflation phenomenon).  Everywhere we turn the government takes more and more of our wealth.  All thanks to LBJ increasing the government spending (for his Vietnam War and his Great Society).  And Richard Nixon decoupling the U.S. dollar from gold.  Instead of doing the responsible thing.  And cutting spending.  But much like high taxes you don’t win any friends at the voting booth by cutting spending.  So thanks to them we’ve had permanent and significant rising inflation and consumer prices ever since.  And as a result a flat to a falling standard of living.  Where soon our children may not have a better life than their parents.  Thank you LBJ and Richard Nixon.  And thank you Keynesian economics.

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LESSONS LEARNED #82: “Too much debt is always a bad thing.” – Old Pithy

Posted by PITHOCRATES - September 8th, 2011

Thomas Jefferson hated Alexander Hamilton for his Assumption and Funding Plans 

Thomas Jefferson hated Alexander Hamilton.  For a variety of reasons.  He thought he was too cozy with the British.  And too anti-French.  He also thought Hamilton was too cozy with the merchant class and bankers.  Jefferson hated them, too.  For he thought honest Americans farmed.  Not buy and sell things other people made.  Or loaned money.

But Hamilton was not a bad guy.  And he was right.  George Washington, too.  America’s future was tied to the British.  Trade within their empire benefited the fledging American economy.  And the Royal Navy protected that trade.  For they ruled the seas.  They couldn’t get that from France.  Especially with a France waging war against everyone.

But there was something especially that Jefferson hated Hamilton for.  Assumption.  And funding.  The new nation’s finances were a mess.  No one could figure them out.  There was pre-war debt.  And war debt.  State debt.  And national debt.  The Americans owed their allies.  Neutral nations.  And the former enemy they just won their independence from.  Getting their hands around what they owed was difficult.  But important.  Because they needed to borrow more.  And without getting their finances in order, that wasn’t going to happen.

Thomas Jefferson Understood that a Permanent Debt gave a Government Power 

Hamilton was good with numbers.  And he put America’s financial house in order.  A little too well for Jefferson.  The new federal government assumed the states’ debts (assumption).  And serviced it (funding).  Giving great money and power to the federal government.  Far more than Jefferson believed the Constitution granted.  And this really stuck in his craw.  Because this was the source of all the mischief in the Old World.  Money and power.  The Old World capitals were both the seats of political power.  And the centers of commerce and banking.

Jefferson understood that a permanent debt gave a government a lot of power.  Because debt had to be serviced.  And you serviced debt with taxes.  The bigger the debt the greater the taxes.  Which didn’t sit well with this revolutionary.  I mean, excessive taxation was the cause for rebellion.  Taxes are bad.  And lead to political corruption.  Because the more taxes the government collects the more it can spend on political favors.  Patronage (good paying government jobs for political allies).  Giving rise to a politically-connected ruling class.  Like the Old World aristocracies.  Government grows.  As does their control over the private sector economy.

It’s a process that once started moves in only one direction.  Greater and greater debts.  Paid for by greater and greater taxes.  Until the debt becomes unsustainable.  Like in Revolutionary France.  In present day Greece.  And even in the United States.  Who, in 2011, saw its sovereign debt rating downgraded for the first time in American history.  Because of record deficits.  And record debt.  Caused by excessive spending.  Everything that Jefferson feared would happen.  If government had a permanent debt.

Baseline Budgeting guarantees Permanent Growth in Government Spending

Big Government spending took off in America in the Sixties.  Historically government receipts averaged 17.8% of GDP.  During the Fifties and the Sixties, GDP grew while debt remained flat.  Of course, if GDP grew then so did tax dollars coming into Washington.  For 17.8% of an expanding GDP produced an expanding pile of cash in the government’s coffers.

Liking the taste of this money, government kept spending.  So much so that they adopted baseline budgeting in 1974.  Where current spending is automatically added to for next year’s spending.  Guaranteeing permanent growth in government spending.  To pay for LBJ‘s Great Society.  The Vietnam WarApollo.  And other spending programs.  The spending was so out of control that the debt started to creep up.  And what they didn’t borrow they printed.  Leading to the Nixon Shock.

The Nixon Shock (ending the quasi gold standard) unleashed inflation.  Which Paul Volcker and Ronald Reagan defeated.  With inflation tamed and the Reagan tax cuts, the Eighties saw solid GDP growth.  And record deficits.  The Democrats liked all that cash coming into Washington.  And they spent it faster than it came in.  But to reduce the deficit they made a deal.  For each dollar in new taxes the Democrats would cut three dollars in spending.  Of course they lied.  Because Democrats don’t cut taxes.  They got their new taxes.  But Reagan didn’t get any spending cuts.  In fact, the deal went the other way.  For every dollar in new taxes there were three dollars in new spending.  The deficit grew bigger.  And for the first time the debt grew at a greater rate than GDP.  As shown here:

(Source:  GDP, Debt, Receipts)

The Obama Stimulus gave us Record Deficits and Record Debt

After the 1994 midterm elections, Bill Clinton and the new Republican House compromised.  They reined in spending.  Implemented welfare reform.  And rode the dot-com bubble on the good side.  Before it burst.  It was capital gains galore.  Put all of this together and GDP rose and flooded Washington with tax receipts.  While debt remained flat.  In fact, there were budget surpluses forecast.  But then that dot-com bubble burst.

George W. Bush started his presidency with recession.  A couple of tax cuts later and GDP was tracking up again.  But 9/11 changed things.  And gave us two costly wars (Iraq and Afghanistan).  On top of an expensive Medicare drug program.  Record deficits took debt to new heights.  Then the Housing Bubble burst.  Followed by the subprime mortgage crisis.  And President Obama used this crisis to advance a dormant Democrat agenda.

It was an $800 billion stimulus.  Something he promised would have no pork or earmarks.  Nothing but shovel-ready projects.  Of course, it was nothing but pork and earmarks.  And those shovel-ready projects?  There’s no such thing.  So the stimulus didn’t stimulate anything.  Other than record deficits (surpassing Bush’s).  And record debt.  Debt increasing at a greater rate than GDP.  And equal to or greater than GDP in dollars.  Not seen since World War II.

Hamilton and Jefferson would have United in Opposition against Barack Obama

Debt fell as a percentage of GDP following World War II.  It fell from above 90% to below 40% around the end of the Sixties.  GDP was rising during this period while debt remained flat.  So the flat debt became a smaller and smaller percentage of a growing GDP.  The ‘growing your way out of debt’ phenomenon.  But that process stopped and reversed itself during the Seventies.  When Congress spent with a fury.  As noted above.  Debt grew.  Back to the level of GDP it was during a world war.  Only now there is no world war.  And we’re not spending to save democracy.  We’re spending to end democracy.

(Source:  GDP, Debt $, Debt %)

It is what Jefferson feared most.  Out of control government spending.  Racking up massive debt.  The kind that is impossible to pay off.  And is permanent.  And it was being done not for a war to save democracy from fascism.  But to change America.  To make it a different kind of nation.  No longer one of limited government.  But Big Government.  One with a ruling class.  A ruling class that now has a claim on 100% of GDP.  To pay for everything they gave us.  Where there is no choice but fair-share sacrifice.  Where everyone pays their ‘fair share’ of taxes.  Which is government-speak for raising taxes on everyone.  To flood government coffers with more private sector wealth.

The country is not what it was.  And it will never be what it once was again.  Not with this level of spending.   This is the kind of spending nations see in their decline.  It’s what toppled Louis XVI.  It’s what roiled Greece in riots.  It’s what downgraded U.S. sovereign debt.  For the first time.  Even Alexander Hamilton wouldn’t approve of this.  For his Big Government idea was all about making the nation an economic superpower.  Not bringing back feudalism.

So if you’re not a fan of Barack Obama, here’s something you can credit him for.  His policies would have reconciled two of our most beloved Founding Fathers.  For Hamilton and Jefferson may have hated each other.  But they would have united in opposition against Barack Obama.

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LESSONS LEARNED #80: “A nation’s government spends too much when its spending increases at a rate greater than its population growth.” – Old Pithy

Posted by PITHOCRATES - August 25th, 2011

Exchanging Dollars for Gold at $35/ounce was a Strong Incentive not to Depreciate the Dollar

It’s no secret.  Government spending is growing out of control.  It’s producing record deficits.  That caused S&P to downgrade America’s AAA sovereign debt rating.  No one denies that it’s a problem.  This spending.  Those on the Right want to address this via spending cuts.  Those on the Left just want to keep raising taxes.

LBJ exploded government spending with his Great Society in the Sixties.  Back then the U.S. was still on a quasi gold standard.  The U.S. honored an exchange of dollars for gold.  The point of this was to prevent the government from printing too much money.  Print too much and you depreciate the dollar.  So when you promise to exchange dollars for gold at $35/ounce you have an incentive not to depreciate the dollar.  Because as that $35 will buy less and less everywhere else, it will always buy an ounce of U.S. gold.

Well, with the Vietnam War and the Great Society, President Nixon had an unpleasant decision to make.  Unpleasant for a politician.  Either cut spending.  Or print money.  Politicians don’t like cutting spending.  So he printed money.  Which depreciated the dollar.  And countries were taking those cheap dollars and exchanging them for lots and lots of U.S. gold.  There was so much gold flying out of the country that Nixon did something shocking.  We call it the Nixon Shock.  He said the U.S. would no longer honor the dollars for gold exchange.  That was in August of 1971.  And prices have never been the same since.

The Growth of the CPI took off following the Nixon Shock

Keynesian economists were happy to see the end of the gold standard.  Because they like printing money.  And they’ve been advising governments to do just that.  To put an end to the business cycle.  And recessions as we know it.  For when the signs of recession are apparent, the government can pump a lot of dollars into the economy.  Thus avoiding a recession.  This was the policy since the adoption of the Federal Reserve Act in 1913.  Which put the nation’s best and brightest in charge of the American economy.  Who were unable to prevent numerous recessions.  A Great Recession.  And a Great Depression.

So the Keynesians have failed in preventing recessions.  Of all sizes.  Worse, their inflationary policies of freely printing and spending money has increased prices.  Caused a sharp increase in the growth rate of the Consumer Price Index (an inflation indicator).  As you can see in the following chart.  Where we graph government spending (outlays) and the CPI.  Dollar amounts are in billions of constant 2005 dollars.  Data is plotted in 10 year intervals.

 

(Sources:  Outlays, CPI)

You can see that the rate of growth in the CPI took off following the Nixon Shock.  That was the price for government printing money to keep spending beyond its means.  To make everything cost more in real dollars for us.  The consumers.  This shrinking of our paychecks put an end to the single wage-earner as we knew it.  Today the norm is that it takes two incomes to raise a family.  The exception is when one can do it.

Even before the Nixon Shock you could see that government was spending beyond its means.  Increasing its spending greater than the rate of inflation.  That means the size and number of government benefits was growing.  And it continued to grow until the Nineties.  When a Republican House forced a liberal president to the center.  After the Republicans won the 1994 midterm electionsBill Clinton‘s welfare reform decreased the growth rate of government.  For the first time after World War II.  But George W. Bush liked to spend the money.  Barack Obama, too.  Even more so.  Who took government spending to new highs with his $800 billion stimulus.  And his Obamacare.

The Number and Size of Benefits are growing Faster than the Population

Of course, you have to be careful not to let those benefits grow faster than the population.  Because government revenue comes from the taxpayers.  An increasing population means increasing tax revenue.  Because more people are paying taxes.  A decreasing population means declining tax revenue.  Because fewer people are paying taxes.

Likewise, spending that grows less than the population growth rate means a government is spending within its means.  Spending that grows greater than the population growth rate means a government is spending beyond its means.  And most probably running deficits.

We can see this if we graph population with government spending (outlays).  And we do that in the following chart.  Population is in numbers of people.  Outlays are in billions of constant 2005 dollars.  Data is plotted in 10 year intervals (to correspond with the decennial census).

 (Sources:  Population, Outlays)

Up until the Nineties, government spending increased at a greater rate than the population grew.  Clearly indicating that the number and size of benefits was growing relative to the population.  In particular, you can see an upward bend in outlays with the onset of the Great Society. 

This new growth rate remained consistent through the heyday of Keynesian economics.  The Seventies.  And through Reaganomics.  The Eighties.  Democrat Bill Clinton reduced the growth rate of government spending during his two terms in office.  Thanks to a Republican House.   But George W. Bush liked to spend the money.  For a couple of wars.  And a new Medicare prescription drug program.  And then Barack Obama became president.  And made George W. Bush look like a cheapskate when it came to government spending.

We are Spending Money at a Greater Rate than we’re Creating New Taxpayers 

Currently, the rate of government spending is increasing far greater than the population growth rate.  Meaning we are spending money at a greater rate than we’re creating new taxpayers.  Which can only mean one thing.  Record deficits.  Which we have.

We cannot sustain this spending.  It’s not a matter of insufficient tax revenue.  We’re just spending too much.  If we continue to spend at this rate there won’t be enough money to tax away from the private sector to pay for it.  Unless we have another baby boom.   Far greater than the last one.  But babies take time to grow up.  Before they become taxpayers.  Some twenty years or more before they pay any significant taxes.  So that’s a long-term solution at best.

But with the high cost of raising a family that isn’t likely.  Thanks to permanent inflation.  Courtesy of Keynesian economics.  With the way they (Keynesians) bent the CPI graph upward, big families are a thing of the past.  So that’s not an option.  That leaves one thing.  Spending cuts.  Significant spending cuts.  The very thing that would have preserved America’s AAA credit rating.

And you know how politicians love spending cuts.

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