I've been quite remiss in tending to the Ramblings of late, so thanks to Don for picking up some of the slack. Time constraints have kept me from writing as much as I would like, and the result has been a piecemeal and somewhat incoherent set of posts on my part. But the scope of the issues raised by the current economic situation is so vast that it's hard sometimes not to feel overwhelmed and just throw up one's hands in despair. Surveying the economic and political landscape today evokes in me a feeling somewhat akin to watching the last scene in Raiders of the Lost Ark.
I do believe that at root we probably agree on more than we disagree, but that makes for boring television. So I'll cut right to the chase and say that I think that quibbling over which way the causality ran in 2008 is badly missing the point. The problems we're experiencing right now have been forty years in the making (and there is evidence that the seeds were actually planted 80 years ago). None of the policies that put us where we are today have been changed, nor is there any indication that they will or even could be changed given today's political realities. It has next to nothing to do with Ben Bernanke. My problem with Bernanke is not that this mess is all his fault (it isn't) it's that he's not even pretending to know what's going on and what to do about it, which is the job he's being paid to do.
(That's the thing that pisses me off most about this situation: tons of people are being paid tons of money for being incompetent. I want a piece of that action. I can be more incompetent than any of those clowns, and I'll do it for half what they're making.)
The situation is so complicated that it's very hard to boil it down to a pithy sound bite, but here's my best shot at it: the people of the United States, including, apparently, those at the very top, have fundamentally lost sight of the difference between money and wealth. They think, for example: if I pay more taxes, I have less money, so I'm poorer. If I pay less taxes I have more money so I'm richer. So cutting taxes makes everyone richer. Duh! It's very compelling logic (if you're an idiot), but it is, of course, wrong.
I am reminded of a scene in one of Douglas Adams's books where the smart people on a particular planet that is becoming overcrowded manage to con all the stupid people to emigrate to a different one. Upon arrival on their brand spanking new planet the stupid people decide to declare that leaves are money. Everyone stuffs their pockets full of leaves, and -- presto! -- everyone is rich. They didn't even have to go to the bother of building printing presses!
This is, I am sad to say, the kind of logic that is being bandied about in all seriousness today by people who really ought to know better. The proposition that all our problems would go away of only Bernanke would print more dollars is not so far from the Adamsian proposition that all our problems would go away if only we just proclaimed leaves to be money. That at least would solve the problem of the Fed chairman's obstinacy, wouldn't it?
The problem is that money isn't wealth. It isn't even a proxy for wealth! It's a tool, a technology, and like any technology it can be used to help create wealth, but it can also be used for other purposes, like obtaining power and influence (which some people -- mainly those who have it -- reckon as wealth).
This is the fundamental problem: not everyone reckons wealth the same way. Not everyone has the same quality metric. One of the things that makes money so useful is that it helps catalyze a process by which multiple disparate quality metrics can be mutually reconciled so that everyone gets what they wants. This is the beautiful promise of the free market, that actual wealth can be created out of nothing merely by providing a venue where people can exchange goods and services, and an accounting mechanism that allows the goat herder and a barber to trade 1/10th of a goat for a shave without having to actually go to the trouble of butchering a goat.
No one seems to understand this any more. Certainly the "wizards of Wall Street" don't seem to understand it.
Sub-prime did not cause the great recession. Neither did the great recession cause the mortgage crisis. Both were caused by vast numbers of people buying into the theory that money is wealth, that if you create money you create wealth, that everyone can get rich by stuffing leaves into their pockets. Of course, the details are quite a bit more complicated than that. The reality was more like: the recession and the crisis were caused by vast numbers of people buying into the theory that you could eliminate risk from financial transactions by building up a Ponziesque scheme of derivatives. The problem was then exacerbated when the perpetrators of this scheme were let off, not just scot-free, but were actually rewarded by the government for essentially perpetrating a fraud. (I am speaking here of AIG being forced by the treasury to pay Goldman Sachs 100 cents on the dollar for their credit default swaps in exchange for a government bailout of AIG. It is no coincidence that many of the government officials who instigated this policy were Goldman alums.)
I could go on and on and on. The level of incompetence at the highest levels is truly staggering. Take the ratings agencies for example. They got paid to rate bonds. They gave AAA ratings to bonds backed by sub-prime mortgages that they knew would default. They did this because they got paid by the bond issuer. Then they hid behind the first amendment to evade liability. Again: vast numbers of people getting paid vast amounts of money, not to create wealth, but to actively destroy it.
Go back and watch that clip from Indiana Jones again.
Of course, ultimately the blame lies with the American people. None of this would have been possible without the complacent acquiescence of vast numbers of ordinary citizens. But although the responsibility ultimately lies with them it's hard for me to count these folks as villains. Most people, I think, just want to do an honest day's work for an honest day's pay and leave the complicated stuff to someone else, and it's hard to find fault with that. The wealth of this nation was built in large measure by people with that kind of outlook on life. Those people are not the bad guys.
The bad guys are the intellectual elites in this country who really ought to know better. No one should be allowed to graduate from Harvard or Yale without understanding the difference between money and wealth, and yet the corridors of power in this country are chock full of ivy league grads who either don't get it or don't care. Either way, this mess is their fault.
Ron, two points:
ReplyDelete1. You say you're not interested in my causality question, but then you continue to make the same error (?). You talk a lot about Ponzis and derivatives and fraud. But here's the question: if subprimes had blown up in 2007, and perhaps some investment banks within the next year, but the rest of the US economy was unaffected, then would this have been such a big deal? The mortgage/financial stuff is only important, because it is seen as the factor that caused a multi-year severe global recession with high unemployment. Without that consequence, it just wouldn't have mattered.
2. You are right to distinguish money from wealth. But you are wrong to discount the effect that money can have on wealth. You're really ignoring monetary theory, and in particular all the evidence in Milton Friedman's seminal book. I wonder what it is you think the Fed (or any other central bank) does every day?
To put it another way: the Fed controls the size of the money supply (not wealth), which affects inflation (not wealth), but also unemployment. Having people out of work reduces actual real wealth (because they're idle, instead of making stuff), and money can affect whether people are working or not.
And, in fact, that turns out to be exactly the problem in the US today. A lack of sufficient money is causing a reduction in real wealth.
Question 1 is not a hypothetical. We actually did that experiment back in 1986.
ReplyDeletehttp://en.wikipedia.org/wiki/Savings_and_loan_crisis
That was certainly less of a big deal than this is turning out to be, but I think that's in part because of the way that the situation was handled back then (and that we had a lot more economic margin than we do now). People went to prison. That probably helped deter a lot of follow-on foolishness that might otherwise have occurred.
To your second question, I don't want to minimize the impact of money on wealth. Money is not "just" a tool, it is an incredibly powerful tool, and that power of course cuts both ways. When it's mishandled, that can do a lot of damage. And I agree with you that Bernanke is erring too much on the side of avoiding inflation. But simply pumping cash into the system without any other systemic reforms will only postpone the day of reckoning.
I want to be very clear about this: I think we are headed towards an economic catastrophe that will make 2008 look like a speed bump, and may even exceed the Great Depression in terms of its historical significance. What will be the triggering event I do not know (I wish I did). It could be Greece going under. Or Spain or Portugal. It could be the U.S. defaulting on August 2. But even if it turns out to be none of these things, it will be something because we aren't creating wealth. And the reason we aren't is vastly more complicated than that we don't have enough cash in circulation, and correspondingly harder to fix.
Right, and the S&L crisis wound up being mostly local to that industry, and didn't particularly affect the rest of the huge US economy.
ReplyDeleteIn the same way, that could have been the outcome this time. Sure, regulate derivatives, crack down on fraud. Why not? But it's not really important, unless it also affects people outside that industry.
(We also had a dot-com crash in 2000, that was horrible for people in tech, and basically unnoticed by people outside of tech.)
I disagree with you about the coming catastrophe. Europe is special, and their current problems are mostly the making of the Euro, unfortunately. (Again, it gets back to the power of money on real wealth: if they had their own currencies, exchange rates would be able to float to fix the relative productivity of the different nations. Because they all adopted the same Euro instead, money problems are causing the laggard countries real wealth problems, just like we're having in the US.) And the US maybe defaulting is simply a political choice; the US has zero economic problem with borrowing. The Republicans are simply choosing to default (if they do). That has nothing to do with a real wealth problem.
It does indeed matter whether we are, or are not, creating actual wealth. I happen to think we are. (I just think we could be making much more wealth, with another 5% of the population employed instead of idle.)
You say that we aren't creating wealth, for complicated reasons. That sounds like it would make an interesting blog post. I can't guess what you have in mind.
Of course it's not black-and-white. We're obviously not creating zero wealth. But we're living beyond our means (which is to say, we're spending more than we're producing) and the wealth we're creating is being VERY unevenly and unfairly distributed, with people who are destroying wealth laying claim to a lot of the wealth that is still being created. This manifests itself as a small cadre of elites living in very nice but mostly isolated enclaves while the rest of the country deteriorates, much like a third-world country. The transformation is of course not yet complete, but the trend is very clear.
ReplyDeleteI certainly agree with you that putting people back to work ought to be our top priority for all the reasons you cite and more, and that if the cost of getting that done is inflation then that's a worthwhile tradeoff. That will prevent bread riots. But it won't fix the deficit.
> I disagree with you about the coming catastrophe.
I hope you're right.
Ah! Well, now, this comment I can agree with. Yes, the US has significant deficits and debt, which is a concern over the long-run. And yes, in the last few decades we've become more like Brazil, with wealthy gated communities and poor urban areas. And that's not a good direction.
ReplyDeleteSo: I agree! :-)