The Daily Reckoning Australia » modern economists

Occurences Within Economy Consistent With a Depression

Bill Bonner — Wed, 24 Feb 2010 05:50:56 +0000

"How can you keep talking about a depression," asks a Dear Reader, "when the economy is clearly recovering just as it should be."

Ah ha! We'll explain in a minute.

First, the latest from Wall Street: The Dow fell 18 points yesterday. We're still not sure whether the final, fading phase of the bear market has begun or not. This bounce took the Dow back to 10,725 on January 19th. It hasn't seen that level since. Was that it? Was that as high as it's going to get? Is it down from here on out... until the Dow finally bottoms out somewhere south of 5,000?

We don't know. We'll just have to wait to find out... along with everyone else.

Now... back to that 'recovery'...

It's true that there are some signs of "stabilization." The unemployment rate is not getting badder as fast as it was a few months ago. And house prices seem to have stopped falling - for the moment.

It's also true that the economy managed to register positive 'growth' in the last quarter... mostly thanks to government spending and inventory restocking.

The trouble is, all of these things are consistent with a depression - especially a depression that the feds are fighting every inch of the way. In the 1930s, there were several years of growth... and there were great years for the stock market too. Then, things fell apart again. The nation ended the '30s not one penny richer than it had been when it began them.

And Japan has seen some good years and some bad years, too, since its depression began in 1990. Oddly, Japan's population is falling... so in per capita terms, Japan's downturn hasn't really been so bad. Per person, the Japanese got richer over the last 10 years.

It's also true that here at The Daily Reckoning, we use the term 'depression' a bit differently than most economists. Most economists believe GDP growth represents increasing prosperity. They think a depression is merely a recession, with negative GDP growth, that lasts longer and goes more deeply than normal.

Our definitions are better:

A recession is a pause during a period of growth. A depression marks the end of the period of growth... giving the economy a chance to make adjustments so that a new period of growth may begin.

GDP growth alone is a fraud. The gross number just doesn't tell you anything worth knowing. It doesn't really matter how fast an economy is growing. What counts is how fast it is growing per person... and whether that 'growth' is real or phony.

Growth is not the same as prosperity...

Someday, we promise you, modern economists will be ranked below doctors who bled their patients to death and jungle tribes who threw maidens into volcanoes. They are quacks.

These imposter economists think they can fix a recession and prevent a depression. When the private sector stops spending they urge the public sector to step in and replace the missing private spending. That, in a nutshell, is Keynes' theory.

A nutshell is the appropriate container. Because there's a world of difference between private spending and government spending. Private spending is voluntary; people choose to spend their money on things they really want. When the government spends, on the other hand, it is merely squandering stolen property. It may look like private spending. But it's not at all the same thing. You can hand out checks to people; it's not the same as when people earn money. You can build bridges and airports too... but they are only valuable to the extent that they are used efficiently. And you can hire all the government employees you want; they don't necessarily add to the sum of human happiness or wealth (most likely they subtract from it!).

Just look at societies that put everyone to work. There was no unemployment in Cambodia under the Khmer Rouge! Or in the Soviet Union. North Korea is another good example today. They all show that putting people to work for the government doesn't make them rich... it makes them poor.

Yet, these modern economists - Martin Wolf at The Financial Times, Paul Krugman at The New York Times, Bernanke, Summers and Geithner in Washington - believe that they can control and cure a depression. All they have to do is to keep the GDP expanding... and keep unemployment from rising. How? Just spend money!

The GDP calculators can't tell a phony expense from a real one. Whether the government spends money to do something that is not worth doing... or hire someone who is not worth hiring... or just gives away money to someone who is not worth giving money to... the GDP quants don't know the difference. They think one dollar spent is as good as any other...

... even if it is a dollar that didn't exist! (Don't get us started on that one... )

And who knows if a job is worth doing? Only the person who pays for it. That's the trouble with government employment; the people who pay the bills don't make the hiring decisions.

Modern economists don't even bother to think about it. All they care about is the unemployment rate... not about whether the job is actually useful or efficient. Want to boost the job rate? Easy. Just hire people. Does this make people better off? Of course not.

The Financial Times had a full page in its Wednesday edition devoted to China's empty towns. Bloomberg has been on the story too.

It is the story of what actually happens when government meddles in an economy.

Last year, China ordered its banks to lend money to infrastructure programs in order to offset the worldwide financial meltdown. The banks responded, doubling their lending.

Observers in the West were stunned... and envious. If only we could 'get things done' like that, they lamented. If only our governments had more authority and control over the economy!

But let us go back a year and put ourselves in the shoes of the bankers. They must have had loan requests. Some of them they must have judged worthy of funding, others not. But how was it possible that the number of project deemed creditworthy doubled in the space of a few months?

Well, it didn't happen. Instead, the Chinese government merely changed the rules of the game. The banks, under pressure to loan out money, reacted by lending it out... to marginal projects. Now, we're beginning to read about them in the paper - mostly towns without any people. Just wait until China blows up. Then, we'll read about banks without money. Stores without customers. And businesses without a prayer.

China is either going to blow up... or slow down.

Bill Bonner
for The Daily Reckoning Australia

Modern Economists Are More Like Auto Mechanics

Bill Bonner — Mon, 28 Jul 2008 05:09:14 +0000

The first economists - the two Adams, Adam Smith and Adam Ferguson - called themselves "moral philosophers." They were studying the human economy as though it were an anthill -- to see how it worked. They figured it must follow rules - just like all other things under Heaven - and tended to see mistakes people made, such as spending too much money, as moral failings.

Modern economists are more like auto mechanics. They think they can control the economy with a screwdriver. And to some extent they're right. Which is why the world economy is in such a mess; they turned the wrong screws. But it's why we moral philosophers are having such a good time; finally, we get to laugh and say "I told you so."

In the news last week was word that the Argentines are taking back their national airline - Aerolineas Argentinas. Back in the heyday of privatization - led by economists from the University of Chicago - they sold it to a Spanish group. But now the Iberians can't seem to make a go of it - not with oil over $130 a barrel - so the Argentines are re- nationalizing it.

What is the likelihood that the heirs to Juan Peron will do a better job of running an airline than a private company? You might put the same basic question to Gordon Brown. What are the odds the Labor Party will run Northern Rock better than private owners? And in the United States of America - almost 30 years after the Reagan Revolution - the federal government is effectively nationalizing the biggest and most important financial institutions in the world, Fannie Mae and Freddie Mac. Between the two of them, Fannie and Freddie hold almost half the entire nation's mortgages - equal to about a third of the US GDP. It probably won't be too long before General Motors is nationalized too. Someone is going to have to pay GM's pension bill. Even if the company isn't nationalized, its health and pension obligations probably will be. But can America's Republicans and Democrats do a better job of running a mortgage company or an auto company than card-carrying capitalists?

On the evidence, maybe so.

Milton Friedman warned that if you put government in charge of the Sahara there would soon be a shortage of sand. But the heirs to Friedman have some explaining to do. The smartest of them have crashed airlines, busted banks and wrecked builders. They've ruined businesses so simple that even a half-wit could have made a profit. Fannie and Freddie couldn't win at their business, even though the deck was stacked in their favor from the very beginning. And the Friedmanites' beloved markets -- which are supposed to "look ahead" and anticipate trouble before it happens -- must have shut their eyes years ago. They walked out into the blazing desert without a map or a hat; no wonder they've been acting strange.

To many of the world's politicians and opinion mongers, the evidence of the last 12 months has proved what they always suspected - that capitalists are greedy s.o.b.s. But we would have spotted them that...and readily conceded that they are often morons too. Still, a system in which people get what they've got coming is infinitely better than a system in which people take only what government gives them. That's the essential difference between capitalism and socialism: one yields to Armani-clothed fraud; the other to cheap-suit force. Both have their moral failings. But one is wicked; the other is merely dumb.

Want to know who caused Aerolineas Argentina's bumpy ride...and who's responsible for bringing down Fannie and Freddie? Follow the money. Before 1971, in the Bretton Woods monetary era, major economies used the dollar as a reference of value. The greenback was a North Star - helping businessmen and investors find their way. The U.S. dollar was reliable because it was tied to gold, which the U.S. Treasury promised to deliver to any country at a rate fixed at $42 an ounce. Then, on August 15, 1971, the U.S. Treasury reneged. Egged on by modern economists, the last link with gold was cut. Governments, investors and businessmen could still look to the dollar as a point of reference, but good luck to them. This disgraceful mischief caused even the stars to wobble.

Since then, the U.S. government could print almost as many dollars as it wanted. Arguably, it printed too many. For something - perhaps it was too much cash and credit in circulation - led American homeowners to think house prices would rise forever. They over borrowed, homebuilders overbuilt, and Fannie and Freddie - even with all their Ph.D. economists on the payroll - over-lent. And something - maybe it was the same thing - caused the price of oil to rocket upwards 400% in the last five years. The airlines hadn't seen that coming either. So, the big lenders and the high fliers are in trouble.

Those are only two of a long list of today's troubles that can be traced...directly or indirectly...to the world's monetary system of the last 37 years. Businessmen, consumers and investors respond to financial signals. If interest rates are set too low, they tend to borrow too much. If the money supply expands too rapidly, they expand too rapidly too. To make a long story short, a bubbly supply of cash and credit led to bubbly markets. The U.S. and major foreign stocks market bubbled up to all-time highs in January 2000; then they headed down. In inflation adjusted terms, most never recovered. Then, in 2003, it was housing's turn...followed by emerging markets...and lately, oil and commodities.

Sure, the capitalists are greedy. And sure, many of them make mistakes. But with feds rearranging the heavens, it's a wonder they didn't wash up more often.

Bill Bonner
for The Daily Reckoning Australia