Too Big to Bail

No doubt I may well be the thousand and umpteenth person to blog this, though I thought I may as well do my bit to help spread this noteworthy video:

\”Fear the Boom and Bust\” a Hayek vs. Keynes Rap Anthem

Aside from the inaccurate portrayal of both men’s personalities (I think Hayek was much more of a lady’s man, while Keynes was a homosexual and not extraordinarily attractive to either men or women…), the video was excellent.

Keynes’s theory is portrayed fairly accurately as not much more than a scam based on the facile idea that keeping the money “moving around” lowering interest rates and boosting expenditure is somehow boosting the economy.

Hayek (or “Freddy H”) is then able to move in and flatly crush the theory, first pointing out that the policy consequences of credit expansion, thereby aritificially lowering interest rates then causes a false investment boom into certain projects that appear profitable, though this an illusion. The illusion is due to the fact the lowered interest rates result from central bank inflation of the money supply, and not increased saving and lowered consumption by the population at large. When this mismatch is finally communicated y the price system and the fact business owners can no longer find customers or returns to their long term investment projects a bust ensues. And we can thank “Lord Keynes” for that.

But hey, don’t take my word for it, here’s Freddy H!

The boom gets started with an expansion of credit
The Fed sets rates low, are you starting to get it?
That new money is confused for real loanable funds
But it’s just inflation that’s driving the ones

Who invest in new projects like housing construction
The boom plants the seeds for its future destruction
The savings aren’t real, consumption’s up too
And the grasping for resources reveals there’s too few

So the boom turns to bust as the interest rates rise
With the costs of production, price signals were lies
The boom was a binge that’s a matter of fact
Now its devalued capital that makes up the slack.

It would have been nice to have a shout out to Mises and Rothbard too, but I guess you can’t have everything, perhaps a sequel is in store.  Kudos to John Papola and Russ Roberts in any case!

Just a quick, if obvious thought. I was watching a show on the history channel about US presidents. They showed the famous clip from George Bush, Sr.’s campaign promise “read my lips. No new taxes!” Fast-forward a few years and taxes increased. The Law of Economics demanded that taxes be increased. It’s very simple: there is no such thing as the public sector. Any money that the government “has” or “spends” comes from the private sector. It is like a balance sheet. Whatever the government spends must come at the expense of funds from the private sphere. When the government runs massive deficits, taxes go up. We can try all we we want to try to maintain a fantasy reality in which the law of economics does not apply, but in the end the law will prevail. The same situation is going on now. Obama promised to be modest with taxes, but as a recent opinion piece in the WSJ noted, the only thing businesses and households see in the future is tax increases. You can’t have it both ways. The money has to come from somewhere. Any expenditure on the part of the government must result in a decrease in the resources of the people. For a much better and deeper analysis of this problem, read Henry Hazlitt’s “Economics in One Lesson.” You should read it anyways if you haven’t because it’s a must-read for anyone who wants to understand the repetitive cycles of government folly. You can read it online here: http://jim.com/econ/

Related to this: Ottawa’s deficit problems.  http://www.cbc.ca/money/story/2010/01/25/dale-orr-structural-deficits.html

If I were President, I’d have one simple rule: absolutely no bail outs.

The bails outs that have saved the insolvent banks in the US have created such great problems and have served only to expand the reach of government. It is so predictable that the government cannot just bail out “systemically important” institutions smoothly; there will always be problems. The government might feel like they can smooth out the issues after the bail out, but it always turns out that its not so simple. It fuels more debate, more social unrest, more nonsensical regulation and legislation.

Take a look at what is happening now. Obama proposes a tax to be levied against banks in order to recoup the money spent bailing them out. This might sound sensible enough, except that it is a practice in ex post facto lawmaking. The money given to “capitalize” the banks never came with taxes attached. This is simply an example of strong-arm government. This is only exaggerated by Obama’s always political and populist instincts. All of this foolishness only clouds the real problem and, quite frankly, I’m shocked that people, the likes of George Soros, have no real analysis of this issue when they share their opinions on the need for new financial reform.

The core of the problem is that the implicit and, often times, explicit guarantee of financial institutions and banks in the US is what makes them “too big to fail” in the first place. If the FDIC and Fed, didnt exist, then you and I would only trust are money to a bank after prudent investigation as to the bank’s assets and ability to pay depositors. But because of the guarantees of the government, the institutions become huge and there is simply no reason for a person to rationally be concerned with the (in)solvency of the bank that he parks his money in. Instead of removing the hand of government from financial affairs, we continue to blame the banks and free markets for all of the damage that has taken place, when, in reality, it is the government control of and involvement in the financial system that creates all of the problems which will only compound with new legislation.

Think about it this way: when all of the members of the government only care to vote for a bill when their interests are reflected in it, do you really think some sort of sensible, coherent reform will emerge? A Senator from Nebraska votes for health care reform only because of the pork promised to his state. This is exactly the type of shenanigans that go on in government on a daily basis. When the process works this way, we are asking for a miracle if we think that rational, sensible laws will emerge that will somehow help the crisis. To sum it up: its more of the same. The administration bullies business and banks to appeal to the populist rage, ignoring the need for serious corrections to a financial system that has such distorted incentives which are created BY the government in the first place.