Too Big to Bail

I would first of all like to apologise for the relative hiatus in my activity since November, with university course and project work time has been scarce, and even now seems to be getting scarcer. Nevertheless, the important things in life bear repeating, and since we are coming to the close of a year of horrible government interventions in the economy and moreover in violating property rights; it would be worth reflecting before Christmas on a simple truth taught by a great French man over 150 years ago.

This post is adapted from part of an essay I am currently in the process of writing.

Much of academic economics is filled with jargon, difficult to communicate and is itself rather conceptually muddled. Without entering into a discussion of its specific attributes and the reasons for its flaws, it should become fairly clear that the same cannot be said for Bastiat’s simple lesson of the broken window. Indeed try to think how many government interventions in the last year or so resemble the adoption of the simple fallacy in this tale.

Science is united in its use of logic and deductive reasoning. What may differentiate the sciences and characterise them, will of course be the facts and material that are the focus of their investigations, as well as the particular methods used to gain accurate statements across their subject matter. This would not of course mean, and never has meant that any science is necessarily restricted to utilising one form of procedure with which to build its theories.

The nature of logic is formal. Also, despite the intuitive nature of human inference, in the sense it can can correctly be considered a neurological and psychological process; the relation of implication it can grasp between propositions remains objective and formally governed by the principle that an argument based on true premises cannot yield a false conclusion.

It is perhaps an easy mistake to deny the cognitive value of reasoning from false premises. Yet there is scarcely anything more common than to regret and reflect on what could have been, but was not true. This is precisely what allows us to recognise the lesson of Bastiat’s parable of the broken window.

The hapless shopkeeper, who must repair the window broken by his son must enlist the services of a glazier paying him 6 francs. Many would falsely believe that this type of intervention is beneficial, since we are artificially spurring demand for goods and services, causing money to be spent, and flow around the economy. As Bastiat points out, this is rather facile and short sighted. If such an incident did not befall him, our shopkeeper could have spent the money buying shoes from the shoemaker while maintaining his window as part of his real capital. The former scenario on the other hand, ensuring the destruction of capital, is a negative sum game since the glazier gains at the expense of the shopkeeper losing his capital and the unseen shoemaker’s potential profit.

There is no need to artificially “spur” demand, the resources would have been utilised one way or another. All the intervention has achieved is to divert their use towards repairing damage of destroyed capital instead of furthering the consumption or capital investment(Bastiat notes the money could have been spent by the shopkeeper buying books for his library) that could have occurred instead.

Taken to its logical conclusion as an economic program, one could accurately portray the fallacy identified to advise widespread destruction, violent robbery and theft as a means of economic progress. Such is the wisdom of John Maynard Keynes. This is also the unfortunate reality of what is presently considered good economic policy, whether the fashionable buzzwords to mask it are fiscal stimulus, quantitative easing, cash for clunkers or “too big to bail” corporate welfare.

Indeed as the Keynesians seems to miss over and over again, the entire point of economising is not to boost aggregate expenditure or income but to ensure the correct resource utilisation and capital structure to meet consumer demand. With central banks buying government bonds with their counterfeited money, artificially increasing the money supply making money a “cheaper” commodity for bondholders, as well as lowering the interest rate at which banks borrow the counterfeited money from them; market interest rates were artificially lowered, also distorting their connection to consumer time preference and saving.

Their interventions with interest rates for the previous half decade helped distort this structure away, preventing the proper functioning of the price system two-fold.

The artificially lowered interest rates first of all distorted profit and loss, making longer term investment projects in higher order stages of production more attractive.

Subsequently, this artificially raised investment demand for scarce resources toward higher order stages of production, raising to an unsustainable level the prices of these scarce resources. This occurs precisely since increased investment does not coincide with increased savings and lower short term consumption demand from consumers for consumer goods ultimately derived from these scarce resources. As a result, this places inflationary pressures on all related goods, including consumer goods that are derived from these scarce resources, creating the much ignored impoverishment that occurs during the boom phase but is fashionably ignored by most financial commentators. During the housing boom, first time home buyers were more deeply disadvantaged, and many even went into debt further compounding the problem of capital consumption, in order to catch the trend.

With simply an economy of one person,  investing resources for a long term project at a rate that cannot be sustained since he has not reduced his rate of consumption; the error is easy to see, he is consuming his resources at an unsustainable rate. The only difference in our case is the way the mistake is realised. The losses made by businessmen at a later stage, indicate that the funds and capital diverted to long term projects were mal-invested precisely since they were not accompanied by the increased savings of consumers. Since consumer demand never shifted sufficiently away from present consumption, the savings necessary to enable them to purchase the products of these higher order processes were not gathered; losses were the inevitable result.

Yet these losses are the correction process, allowing the structure of prices and interest rates to correctly adjust to reflect the actual scarcity of capital. They are precisely the process that allows for the correct structure and distribution of capital to form; the one that correctly matches consumer demand as far as possible, and precisely for this reason allows for real, sustainable growth and progress.

Yet the same Keynesian economists, interventionist politicians and central bankers that created this problem are also the ones who appoint themselves the task of correcting it. Not only have they slashed interest rates so low they are practically negative, further preventing correction of this coordinating price mechanism, the coordinating function of which they had earlier broken; they also tell us to bail out the failed sectors using the money and capital that is diverted from the healthy parts of the economy, burdening the consumer who is the taxpayer and obligated user of their debased currency even further. They increase spending of course for their own political projects with no regard for what people actually want, since if they actually cared about that they would allow the market economy to function with the profits reflecting what people actually want.

They are nothing more than smiling murderers and robbers in expensive suits. To add insult to injury, those foolish enough to buy their scam think schemes like “Cash for clunkers” will help, when they are destroying capital and creating something worth less as dictated by its value on the market.

The apologist doctrines used to support these programs are of course complicated and convoluted. Yet once one understands the simple truth forwarded by Bastiat’s parable, one is able to pierce through much of this nonsense and see it for what it is. The truth, as is often the case in science has a real simplicity and beauty. Perhaps the reader shall enjoy reflecting on this lesson for a moment while enjoying their holidays.

Merry Christmas everyone.

It is incredible how accustomed we have become to the current state of affairs in the United States. Every major story in the news shows the hand of government reigning supreme with no end in sight. Every day the government continues its massive orchestration of the economic affairs of the US and, to a large extent, the world. The Fed continues to prop up failing banks and financial institutions that are “too big to fail.” With the bailouts come increased authority for the federal government, more burdens on business, and more taxes on individuals. First the Fed causes an artificial boom through its inflationary, cheap-credit policy and then everyone is shocked when everything collapses. And then when everything collapses, the government steps in to bail out the banks at the expense of the taxpayers to avoid the dreaded deflation that naturally should occur. Prices need to fall because there was malinvestment across the entire economy, spurred by false signals caused by poor monetary policy. But the government is operating under a defunct Keynesian economic theory that says that the government needs to step in where individuals won’t in order to prop up prices and bring back the “animal spirits” of the consumer. The upshot is that the government is just doing more of what it did that caused this whole mess in the first place: pumping out trillions of debt (which we don’t have) in an effort to cause  inflation at all costs. It is not at all clear that deflation would be the worst thing. In fact, good economic theory suggests that deflation is THE only cure for the ailing economy. Instead, the government is teetering on the brink of a major fiscal crisis in order to avoid this very cure. None of the stimulus has worked. Can anyone seriously believe that the member of the government are capable of “getting it right?” Are we really to believe that the partial members of government, who are mainly interested in protecting their careers in government and engineering some social agenda that they believe will pay dividends in the future, can get us out of this mess and restore economic prosperity? After all of the childish games play themselves out in the “deliberations” of our elected officials, is it really likely that what will emerge is some sensible and coherent resolution to our problem? New regulations will have more unintended consequences and the liquidity pumped into the system will either fail or cause excessive inflation. Either way, if the stimulus does nothing, which appears to be the case, America will be left with a huge mountain of debt. We cannot suddenly expect the government to come up with the political will to curb its appetite for debt. The only way out is a cataclysmic fiscal crisis unless the government rapidly changes course and finally gives up on the theories it has been operating under.

Just over the past few days we learned about how Nebraskan Senator Nelson’s vote was basically bought in exchange for a promise to divert taxpayer money to the constituents in his state. This should infuriate people! Most votes don’t even want this health care bill and yet the agenda is being pursued aggressively, with the administration using whatever tactics necessary to secure votes. Majority rule itself has theoretical problems. The basic problem with democracy is that there is no guarantee that the will of the majority will reflect virtue and if majority is the law, then it is basically a sanctioned mob. Think about it: if enough people want to vote for some agenda that serves their interests, they can compel everyone else under the force of law to part with their money and property in pursuit of the agenda. This could apply even if only 51% of the country desires the policy! But wait, right now only 32% (or some number close to that) even wants this health care bill! Yet Congress insists on shoving this bill through its “process” in order to ensure that its agenda comes to fruition. There isn’t even democractic representation in this country any more. Nelson’s little ploy sums perfectly the way the government operates. The government is made up of human beings who have spent their lives ambitiously pursuing “careers” serving the “public interest.” In other words, these guys have spent their lives advancing themselves so that they can some day make decisions for everyone else. Not exactly a comforting thought.

It is chilling to see how the worst fears of the framers have become reality. The framers carefully crafted a system of government in which the many factions and interests in the nation will be balanced out through separation of powers and checks and balances so that no one interest can dominate the rest of the population. This is exactly what is happening now. Obama and other members of the government have a dream of putting in place a vast social agenda that will shape the course of this country. With enough strong-arming, they can implement their agenda – of course they need to tax the citizens in order to do it since there is no such thing as the “public sector” in reality. Anything the government does can only be done because of and in spite of the citizens. The US government was intended to be a government of enumerated powers. There is no constitutional basis for most of the functions and powers that the federal government enjoys today. Think about: the basic image of the federal government as it stands right now is so incredibly at odds with the image that the framers had around that the framers would surely revolt if they were alive today. The government controls the monetary affairs of the country through its control of the money supply and is now reaching into the arena of health care and taxing the citizenry in order to do it.

People think you are a quack when you speak of revolt, but ask yourself this: do you think its really such a stretch to suggest that the framers of the Constitution would revolt if they witnessed the overload of government power that is in place today?

I recently presented a paper on Economic Calculation at the Austrian Student Scholars Conference held by the Grove City College Economics department. I’ve placed some of the videos of the lectures I recorded, including my own. I hope you enjoy them:

Uncertainty and the Role of
Bureaucratic Management within the Firm by

David Gernhard (Grove City
College)

A Combinatorial and Praxeological
Exploration of the Economic Calculation Problem by

Abhinandan Mallick (University of
Birmingham)

Stateless Law in the Highlands of
Guatemala by

Michelle Carrera (Universidad Francisco
Marroquin)

I came across a set of interesting and really fun to read comics explaining basic economics from first principles recently. I hope readers enjoy them as much as I did!

Human Action Comics #1

Human Action Comics #2

Human Action Comics #3

Human Action Comics #4

I especially liked parts 2 and 3 on the theory of value, showing Marx and Ricardo’s theory of value being swiftly followed by their Mengerian refutation!

I found a set of depressing stories on Google news today, on the above subject, and the ongoing rival protests between a mysterious new entity known as the English Defence League(EDL) and their battles at simultaneous protests with the Unite against Facism(UAF) that have been going on ad nauseum in Birmingham and Manchester, as well as other cities I believe, in the UK.

I don’t really even know where to begin. Whether it is the mischaracterisation of muslims according to the work and promotion of the ideas of extremist nutjobs that deserve to be left in obscurity and not have their flames wafted for them by the all to willing left wing and right wing press. Or whether it is the confusion from both sides who somehow think that we live already in some sort of classical liberal society, while we already have barely any individual or property rights left in this country, and those that remain are absolutely trodden over.

All customs whether religious or otherwise are PERSONAL.

In this country it is illegal for the owner of a private establishment who is housing consenting individuals who would all like to light up a cigarette, to allow them to smoke on his premises.

However, when it comes to the imposition of Sharia in certain areas of the legal code and for arbitration purposes we all run around screaming like headless chickens at the loss of our liberties.

Similiarly, we are forced to finance an illegal and utterly pointless war through both taxation and inflation by the central bank known as the “Bank of England”, that ethereal entity we are supposed to know nothing about and leave to our wise superiors like Gordon “I’m going to write a book about Gandhi for sympathy” Brown.

The point is the state should have nothing to do with these matters. We should oppose all forms of collectivism, whether it is coercion on our religious, personal or economic matters. Otherwise we can all continue down our barbarous ugly paths and continue to club each other over and over.

Both sides do not realise the consequences of their actions that will surely not achieve their real aims.

The EDL, which states itself to be purely nationalist non-racist association will nevertheless push further muslims who see them as an intolerant force blanketly rejecting their religion to extremes against them, while fermenting further opposition creating a socialist-islamist alliance, and creating for their opponents the self fulfilling “racism vs islamism” battle fallacy.

The UAF by blanketly labelling an association that self consciously brands itself as not so: racist, will only further alienate those who have disagreements or qualms over issues like the institution of sharia law further to the extremes, and actually join real racists, and accept the label, in their disgust at such mindless opposition.

Indeed this issue is far more widespread. For example, I myself am a British Indian, yet I vehemently object to the Lisbon treaty and the further centralisation of powers to the EU. As one can probably tell I’m a Libertarian so I oppose government anyway, but given the choice I would far prefer small local government, than far centralised government run by the arrogant interventionist rentseekers that make up much of the EU parliament. Yet when I voted for UKIP in the last EU election, I was told by a friend that if I was white he might have warned me of it as an entry party into the BNP.

So to make a stance on an issue in common with a racist group I detest, makes me be an entry level racist? One can only wonder why others are agitated by such remarks…

Both the Socialist workers party and the BNP would like to increase union power in the UK, yet have any socialists recently been branded entry level racists?

In all fairness, I’ll end this rant and recommend viewers to watch the following excellent video by Sean Gabb from the Libertarian Alliance on the subject of Islam.

http://video.google.co.uk/videoplay?docid=-4288936354899104985#

For American viewers of this blog, they may be no doubt all to familiar with the current tactics used in their country whereby if you oppose Obama’s healthcare policy you’re a racist, and if you oppose the inflation and war financing Federal Reserve system you’re a militia member. We can only hope the media shall one day bring to an end their displlay of utter ignorance with regard to these matters.

I found some interesting
articles a few days ago about the current situation in the Cayman
Islands.

http://www.guardian.co.uk/world/2009/sep/25/cayman-debt-crisis-budget-postponed

http://www.caymannewsservice.com/business/2009/09/25/travers-hits-out-damaging-uk-%E2%80%9Cdithering%E2%80%9D

The area is a British overseas territory located in the Caribbean, considered a “Mecca” for many of the most “notorious” financial institutions, like hedge funds, banks and other financial services firms.

Recently, the government of the area has been facing a large debt crisis partly brought about following expenditure on a large infrastructure program. It is now facing difficulties to continue financing its activities as the UK foreign office is currently not signing or permitting to grant its budget proposals involving large loans from banks.

Instead this territory is now being muscled to introduce direct taxation in the form of a payroll tax. In the guardian article, it has been mentioned how many of these firms have strongly indicated how these may have dramatic consequences, strongly hinting at reallocation. Understandably, the Cayman Islands government have been strongly resisting the pressure and protesting the current actions of the Foreign Office.

Indeed, this does provide a good microcosm I feel of the problem generally faced by small states, that also helps explain why many of them tend to be far more economically liberal. As noted by Hans Hermann Hoppe, states always
face the threat of exit, especially by often their most productive citizens. This threat is particularly fatal to states like the Cayman Islands, that will no doubt be hit hard should much of the financial services sector decide to relocate.

The broader picture also reveals the threat from larger territories and cartels, in this case the UK and the EU. Many commentators and politicians have naively regarded the existence of complicated financial instruments, and even
speculators who profit from judging the tendency of the market, and actually help enable its equilibration; as the chief culprits of the recession. A more careful reflection on what may be motivating these individuals reveals a far more sobering conclusion. Larger states have long been hateful of these “tax havens.” Indeed, the Cayman islands may well be high on the target list given it’s place on the OECD’s “black list”, and given the recent pledge by our wise overlords at the G20 conference to impose sanctions on these irksome holdouts of a long passed liberal age.

Economics is a little understood
branch of knowledge, and despite its ongoing relevance to our
everyday lives; is still relegated as a subject that must be left to
the specialists. This writer’s opinion is that modern man could
scarcely make a greater error. The present bust of our most recent
worldwide business cycle, provides us with a great exposition of the
dangers of leaving out analysis according to simple economic laws,
instead of highly abstracted models that idealise the rules they
follow and pretend to track cause and effect with complicated
statistical regressions.

Indeed the great delight one may
find, and this is a feeling I hope I am able to convey, is that
Economics should really tell you what you “already knew.” To give
an indication of what I mean by the statement, it is useful to dwell
on the fact that Phillip Wicksteed, a great economist in his own
right named his 1910 book: “The Common Sense of Political Economy.”

I feel it is worth mentioning
how I gained any of this knowledge in the first place. I am not a
student of Economics, indeed the discipline which I am studying at
the University of Birmingham is “Theoretical Physics”. I had an
interest in Economics at a younger age, mostly because I wondered why
my country of birth and early childhood, India; was still such an
underdeveloped country after so many decades of independence from
British rule. At the time, my search for explanations led me far and
wide, to come up with some, in retrospect; rather ridiculous
assertions. For one period of time, I even thought that our loss of
wealth had something to do with the Queen taking our jewels for her
crown!

It was not until I read “India
Unbound” by Gurcharan Das one week when I was about 17, that I
truly gained an appreciation of the impact free markets could have on
developing countries. The experience was life changing, and it
remains today one of only 3 books that I can say had a significant
impact on my philosophy and direction in life.

During the decades following
independence, many businessmen, small and big, made the dark joke
that once we were free from the British Raj; our country was captured
by the new “Licience Raj”, that strangulated investment,
development and private enterprise in India for many decades. When we
complain about corruption, we must realise that it is simply a result
of the perverse incentives created by draconian laws imposed on
entrepreneurs and already existing businesses. Indeed, it may sound
strange for the reader to hear this, but: as long as these laws
exist, we should actually be hoping for more dishonesty and
competition in corruption between public servants and officials, not
less! This competition between bureaucrats could lower the price of
bribes, improving the quality of service provided in navigating
restrictions, and would allow for smoother functioning of business,
in the midst of India’s strong regulatory atmosphere.

If the reader has ever read
India Unbound, one may quickly realise that my views today actually
differ to Mr Das’s, although I greatly respect him as a writer and
intellectual; his book was a stepping stone to my current position.
To cut a long story short, I was following the US presidential
campaign in late 2007, when I came across an obscure Republican
politician by the name of Ron Paul. Watching the Republican debates,
I was dumbfounded. It was the first time, and has remained one of the
only times I have heard a politician, of all people, make perfect
sense.

After viewing and searching for
several more clips of Dr Paul, I came across various sources on what
is known as the Austrian School of Economics. From this school I
found there were various significant historical figures like Ludwig
Von Mises, and his Nobel prize winning follower Friedrich August Von
Hayek. I also found some great sources, especially mises.org, the
website of the very institute I would have the honour to end up
studying this subject in the summer of 2009, with some of the world
leading scholars in the field. The experience I had with my week in
the “Mises University” program this year was by far the most
stimulating of my life.

So how did I myself join the
ranks of these “Austrian” economists (many of the current
followers of the school today are American) ? The path I took is not
a straight-forward one, and involved a long period of trying to
wrestle and reconcile the statements and theorems of a certain book.
That book was Human Action. This book greatly offended and
challenged my philosophical presuppositions, and it was a long time
before I finally came into agreement, now wholeheartedly, with its
author; Ludwig Von Mises.

Before reading Mises, I must
confess that I was pretty much a run of the mill positivist, though
at the time I did not appreciate the full meaning of the term, nor
recognise that I was one. From my state of knowledge I felt that
positivist statements about science were so obvious, only a fool
would rise up to challenge them. Thankfully, such a “fool” called
Mises did rise up to challenge the statements of these philosophers,
whose views have become so widespread in scientific discourse, that
many not familiar with philosophy take their doctrine as the only
valid criterion for science.

I will not enter into a full
refutation of positivism here, but instead highlight Mises’ positive
case for a method in the social sciences. Mises in Human Action
identifies a methodological dualism between the social and the
natural sciences. This dualism is simply how we use teleology and
causality to explain different kinds of events. These terms are best
explained by use of examples. We do not, for instance, reason that
when we throw a ball it is guided in a “teleological” way by some
mystical spirit or “prime mover.” Instead we use the laws of
mechanics and causality, to relate the position, velocity and forces
acting on the ball; to predict the future position and velocity of
the ball. Similarly, one does not reason that there is some sort of
direct causal relation between the fact that the pedestrian lights
turn green at traffic lights, and bodies begin to cross the road.
Such an assertion reveals an ignorance of the fact that these are
acting individuals with purpose crossing the road, who only when the
lights turn green, and possibly other unforeseen conditions are
satisfied; reason that it is safe to cross the road and proceed to do
so. The reckless individual who is late for work may rush across the
road regardless of what the traffic lights show.

It is this insight, that humans
act purposefully which Mises uses to build Economics deductively. To
act purposefully means to aim at achieving an end via a means. To
act, means to choose one mode of action out of all other possible
alternatives, it is a demonstration of preference. Of course one may
make errors in one’s judgement, whereby one realises that the state
of affairs produced acting one way actually satisfies one less than
the unrealised alternative would have.

This framework, with which to
explain and interpret is amazingly general, can be used to explain
all kinds of actions, even those normally considered outside the
realm “economic.” Indeed the monk who shuns material riches and
gives food to another man does so because he values feeding this man
more highly than he does feeding himself with the same food. It is
this type of subjective analysis that helps form the root of good
economic analysis.

A classic example of the
application of subjectivism, can be produced if we want to work out
the value of a factor of production, for example, land. Let’s say we
have a good produced like Champagne in Champagne, France. When asked
why Champagne is so expensive, the classical economists would have
said; the businessman has to pay so much for the land in this area of
France, that he must subsequently charge a high price for the product
he produces from it. Yet, if people begin to be worried about
Champagne, perhaps they feel it causes them ill health, they will
begin to value and demand it less with regard to other goods, hence
the market price will have to drop, as no one will exchange for the
previous price. Subsequently, the fall in the price of the product,
will “impute” backwards to the price of the land on which it was
produced. Hence we would see a drop in the price of land in
Champagne.

Hence we see that the consumer,
and his valuations lie at the root of all economic considerations. It
is because we, as consumers, value products for the subjectively
defined ends we feel they help us achieve; that they have any value
at all on the market at all. Although this may seem so obvious to the
reader, telling you what you “already know”, it relies on one
seeing more than what is immediate to the eye, or obvious in a sense.

In essence, perhaps the most
elusive entity in the entirety of Economics, is the market, the very
concept at the heart of its investigations. “How does Paris get
fed?” asked Bastiat. The assumption, first undertaken in how one
could get man to cooperate with man, was that authoritarian
interference would be required to have every specialist serve his
fellow citizen. The shock which economists experienced in their
investigations was how this mysterious, truly anarchic state of
society known as the free market nevertheless allowed for the
coordination of production among different individuals pursuing their
own self interest, truly got “Paris fed”, pursuing innovations
and supplying consumers better than the orders of a centralised
government ever could.

We
can see the effects of Government interference in the world around
us, if only we open our eyes. At each instance they dis-coordinate
the motion of the entrepreneur the steerer of “our ship” known as
the market economy with the orders and demands made by his captain,
the consumer.

The dis-coordination of consumer
time preference for consumer goods now as opposed to saving for
later, with the production ratio of consumer and investment goods,
brought about by central bank manipulation lowering interest rates,
otherwise determined by consumer time preference; produces the
recession we see now, after an investment boom whereby businesses
wasted resources and money on goods that ultimately, were not desired
by consumers. We see, that when a maximum price is placed on a good
that is below its market price, we see the destruction of a price
‘signal’ from the consumers to the producers, to pursue profit and
self interest in order to increase and improve production of the
desired commodity. Instead, we see supply shortages.

The lesson ultimately learned
albeit no-doubt depressing for those who would like to command and
control the lives of others, is that it is better to “stay out of
it” and not interfere with the functioning of the market economy,
and ultimately with the voluntary contractual relations of others
pursuing the best they can in peaceful cooperation. As Mises notes in
Human Action, the conclusion of the classical liberals; “Observe
the functioning of the market system, they said, and you will
discover in it the finger of God.”

Warren Buffett wrote an opinion piece in yesterday’s NY Times. Overall, I think the article was pretty good. You can read the full piece here.

The upshot of Buffett’s article is that monetary expansion was necessary in order to cure a sick economy, but the problem now is that we are entering unchartered territory as the deficit soars to 13% of GDP. If we keep on this path, we will soon find out how much debt we can take on before we lose our reputation of financial integrity.

Here’s the best part of what Buffett had to say:

Legislators will correctly perceive that either raising
taxes or cutting expenditures will threaten their re-election. To avoid
this fate, they can opt for high rates of inflation, which never
require a recorded vote and cannot be attributed to a specific action
that any elected official takes. In fact, John Maynard Keynes long ago
laid out a road map for political survival amid an economic disaster of
just this sort: “By a continuing process of inflation, governments can
confiscate, secretly and unobserved, an important part of the wealth of
their citizens…. The process engages all the hidden forces of
economic law on the side of destruction, and does it in a manner which
not one man in a million is able to diagnose.”

I’m glad that Buffett understands the problem that always arises because of the government’s control of the monetary unit and the citizens. Government can always simply inflate and levy a hard tax (rewarding spenders and punishing net savers) without ever having a vote on it.

I think Buffett has nailed it on the head but doesn’t go far enough. The real issue here is that our system places complete control of the supply of money in the hands of the government. We expect the Fed to divine what the future will hold and do everything necessary to aggresively fight off a depression and then perfectly time an exit so that we can avoid massive inflation. When you think of it in these terms (and yes, this really is what we are asking for), the absurdity of the whole scheme becomes self-evident. So the Fed cannot perform the magic we expect from it and Congress has all the incentive to bring on inflation because it is, from a political perspective, the least harmful.

My point here is that giving government the power to engage in monetary expansion altogether is very dangerous and if you see the way the incentives of government are lined up and what the tendencies have been, then you realize that we are simply asking for a miracle if we think that Congress and the Fed are somehow going to work this out perfectly.

Upon reading the excellent exposition
given by my colleague on this subject, I felt the time was ripe to
further shine some more light with my own understanding, on the
issues regarding the Federal Reserve’s so-called independence. The
assertion that it has any is largely a red herring, and as many
readers on this blog familiarising themselves with the Austrian
School of Economics may be realising. The intellectual focus on the
central bank maintaining some sort of elusive “independence”,
presents a painfully naïve understanding of the incentives and
interests of the esteemed actors of our current monetary system.
These are the politicians, their banking system and the central
bankers.

To avoid being obscure to
beginners (you’re welcome here too!), I’ll begin; The Federal Reserve
as has been pointed, is America’s central bank, created
unconstitutionally by the US congress in 1913. It was created largely
at the behest of the powerful banking lobby in the country at the
time. Some have pointed out the dark alliance created by the
Rothschild and Rockefeller families to bring the institution into the
fold. The reasons for its creation are largely the same as for the
creation of any government agency for a specific industry;
protection. However, what is unique about a central bank is that it
offers protection to the banking establishment from the inevitable
risk of insolvency prevalent in the very business model it practices.

This business model, used by most banks
today, is known as Fractional Reserve Banking. The reader may find
some great information on it from sites like mises.org. The basic
point however, is that a central bank is not really much more than a
printing press that backs failing banks with newly created,
increasingly worthless dollars. Hence the Federal Reserve is the
cause of price inflation, as goods on the market are bid up in
response, as this newly created money is entering the marketplace.
Strictly, increasing the money supply IS inflation.

Another harmful thing it does is to
distort interest rates, misleading entrepreneurs to allocate capital
to projects they otherwise would not have. When the futillity of
these projects is revealed due to price corrections, we are at the
end of a business cycle, and the inevitable “bust” follows.

So what has this got to do with large
banking lobbies creating “the Fed”, and currently defending
it? As Murray Rothbard once noted before his unfortunate death, what
is a conspiracy theorist but a praxeologist? One may disagree with
many of their speculations and on the basis of one’s own
understanding deem their extrapolations as irrelevant, yet it is
stretching the mark to simply reject them altogether as “paranoid.”
Hence one can hardly deny the interest certain groups occupying(or
practically owning, to use more conspirational language) our
political establishment, have in maintaining the current and
expanding mode of operations being undertaken by the Federal Reserve.
To not understand this would be bad economics.

True monetary
reform would allow for the “creative destruction”(to use a
phrase coined by Joseph Schumpeter), that would prevail in
unperturbed capitalism. It would be an incredible threat to the
current political and business establishment. This should not come as
a surprise. The successful entrepreneur knows his position has only
come at the better anticipation he made in the past, against his then
established competitors; regarding the uncertain future concerning
the way consumer preferences, revealed by market data, were tending.

Now grown “tired and old”(to
borrow an expression from Mises), the entrepreneur watches warily at
the parapets, fearing the ever threatening and bewildering flux of
new and potential market participants. Reacting to this threat he
seeks security under the strong arm of that parasitical great mother
of his nation; the Government. This kind of special interest, can not
only explain the emergence and lobbying for the Federal Reserve, but
many other aspects of our current legal system, like the deeply
ironic and inherently contrary to purpose “antitrust”
bodies.

Critics of the gold standard correctly point out the
harmful inflationary problems associated historically with the
discovery of large sources of gold. The theorists of the School of
Salamanca were fully aware themselves of the harmful effects this
created in post-medieval Spain.

A critique of this
perspective does not require(though it is useful to know); one to
point out that these past distortions were meagre, especially when
compared to the chaotic and unanticipated(and unknown, given their
secrecy) large cash infusions sent into the market today by the
Federal Reserve. Indeed, it is largely as a result of this
unfortunate set of affairs that businesses pay so much attention and
effort, to anticipate the moves of, and lobby hoping to influence the
actions of; what should be a non-existent bureaucracy. They end up
wasting precious resources that could have been allocated more
productively in the market to serve consumers and capture profits.

It is entirely understandable, however,
why the current business establishment continues to suckle the
poisonous breast of this “maternal institution,” chaired by its
wise and powerful “maestros” like Ben Bernanke and Alan
Greenspan. Indeed, has anyone wondered pragmatically who the federal
reserve board are composed of?

With “special” interests already
involved at the very founding of such an institution, to argue the
issue of whether it is private or independent reveals an amazingly
prevalent and widespread intellectual poverty; regarding the
underlying cause of what we ignorantly refer to colloquially as
“political interests.”

Where the critics of the classical gold
standard are missing the point, is that its problem stems not from
its reliance on a certain luminous yellowy metal, but from the
centrally mandated monopoly afforded to this metal by government
authority. Humans are certainly not omniscient and we cannot escape
the ultimate uncertainty regarding our knowledge of the future. Yet
without the constraint of legal tender laws, the market could use the
anticipations and tacit knowledge of the most efficient entrepreneurs
in order to find the best good that could serve as money, given
expected future resource constraints and consumer demand.

The
present writer’s view is that h.r 1207; the bill currently in
Congress, that will authorise audits of the federal reserve; has been
a smart strategic move on “our side’s” part. We are getting the
statists(those who love the state to interfere in affairs between
individuals) to be honest with their own espoused philosophy, in turn
revealing contradictions within their entire system. I have to be
honest, I had never much thought of Ron Paul as a Machiavellian, but
I love how he currently seems to be using the divide and conquer
strategy pioneered by the Fabians, against them and their ideological
allies.

On the face of it hr 1207 is relatively modest, it
simply allows post hoc accounting of what should have been public
information if we’re going to play the whole “everybody decides”
democracy game. However it makes the job of continuing to expose and
ridicule the plans and philosophy behind monetary central planning.
It does this by allowing us to use the account information of this
devilish organisation against it in public argument.

Hence I
wholeheartedly support the current “unholy” alliance Ron
Paul and “other conservatives” currently have with
socialists like Bernie Sanders. Also, I think the clarification
should be made that increased sovereignty of the people over their
money should be supported. However, I argue that it should be taken
uncompromisingly and logically to its full conclusion; in the form of
consumer sovereignty, with choice over private currencies competing
on the basis of reliability.

I’ve met many on the left, and I still
sympathise with them because I feel they are good people. If we do
our duty and can aid them in achieving logical clarity and
consistency, I feel we will have critical mass and be
unstoppable.

Admittedly this may well be a long and time
consuming process so we should have patience and determination.

Seems like all Tyler Durden from ZeroHedge.com does anymore is bitch
about Goldman Sachs and their high frequency trading. Some readers from
MarginalRevolution.com asked Cowen what the deal was with high
frequency trading and I found his comments to be pretty illuminating
and helpful in calming down some of the mass hysteria that ZeroHedge is
caught up in. Here was ZeroHedge’s critique: Goldman’s $4 Billion High Frequency Trading Wildcard

If you don’t know what high frequency trading is: click here

The upshot of the criticism (at least at ZeroHedge) is that it is
unfair because some traders have better computers, and better quants,
than do others. The traders with the most powerful systems get there
first and make more money.

MarginalRevolution (full post here) made the point that

Telegraphs and telephones also brought their own, earlier versions of
high-frequency trading. As did stock index futures. There are
second-best arguments relating to hockey helmets and the like but that
is the case with most forms of progress and greater economic speed. You
don’t have to think that the current profits measure the current social
value of high-frequency trading to argue that the overall trend should
be allowed. The correct judgment of efficiency occurs at the
system-wide level, not at the level of the individual trading strategy.
The short-run story is that private profits exceed social returns but
in the longer run the trading activity and liquidity brings increasing
social returns and better communication of information.

In other words, critics like ZeroHedge are sort of falling for this
populist notion that we should pare back the advances in technology and
speed of trading because these traders have an “unfair” advantage. But
this is making the classic mistake of looking only at the (supposed)
short-term and localized consequences only. There is a strong argument
that the direction of high frequency trading should be allowed since it
has the potential to provide liquidity to the market. If you don’t like
the whiplash that the HFT can produce, then trade on a longer term
scale (pretty easy to do considering that GS is trading at milliseconds
intervals).

I should note that I have allegiances to no one. GS might be guilty
of frontrunning and all other sorts of egregious stuff, but we
shouldn’t let this cloud our thinking and buy in to the populust uprise
against this stuff.

More from MarginalRevolution on HFT