…the problem of regime uncertainty which the Keynesians address by saying you will get all the certainty you need from our helpful interventions. But we have long ago reached the point where most of the interventions are the problem, not the solution.
Uncertainty is a fact of life and maybe the role of good policy is to provide political and legal stability – not certainty but a reasonably stable institional framework where people can plan for the future with some expectation that they will not be shafted by the next political or administrative decision.
If the institional framework is badly broken it need to be fixed but as Roger likes to remind us, that can only be done by piecemeal, experimental steps to handle unintended consequences.
(Note “Regime Uncertainty” is a term meaning “uncertainty created by fear of government intervention”.)
#1: monetary policy is a cost-socializing technology which reduces the costs and risks of investment, causes bubbles and pushes for a type of overconsumption called “equity extraction”: consumption out of unreal wealth, i.e., capital consumption (Machlup described the same process).
#2: moral hazard makes irresponsibility and recklessness privately rational, and the bubble economy is the result. This is the transmission mechanism in its most abstract form: cost socialization begets coordination problems in terms of bad incentives and false information.
#3: at the certain moment either (3a) the monetary drug is no longer available or insufficient, maybe because of inflationary fears (exogenous credit crunch), (3b) the financial structure is no longer capable of transmitting monetary stimuli because it is broke (endogenous credit crunch, which, as the famous rapper Freddie H sang “That credit crunch ain’t a liquidity trap, just a broke banking system”), or (3c) the economic structure is no longer capable of sustaining overconsumption (real resource crunch, whose result is normally a scarcity of circulating capital, like raw materials, that in fact have skyrocketed the first 12 months of the recession, and are rising now that someone ventures to talk of a recovery).
In ABCT there is (3a) (the Fed takes away the punch bowl) and (3c) (the economy collapses because of capital structure problems), but there is no explicit analysis of (3b), i.e., systemic risk.
I think that a breakdown of the financial system due to an unsustainable financial structure, such as excessive leverage, monetary multipliers, reliance on foreign credit, reliance on liquidity, maturity mismatch (30y mortgages vs 3m commercial paper!) is a more apt description of the recent crisis than problems in the capital structure.
An unsustainable financial structure is not an aggregate demand problem: it’s the legacy of a past moral hazard problem which causes a dearth of capital and a crisis. There is no path to a new equilibrium which does not pass through a credit crunch, the repayment of debts, massive deleveraging, exposure to maturity mismatch, and thus a reduction in investment levels.
The question then, becomes one of quantity. How do we know how much social insurance and risk reduction is maximal?
The moral hazard then exceeds risk taking on the part of individuals, and in turn becomes risk-mandating, when all participants in the bubble economy must not only forgo opportunity for gain, but instead, will be driven out of business if they fail to participate in the risk. This is what happened to bankers who need to keep clients, and employees, buliders who need to keep banking relationships, and subcontractors, business owners who see competitors using low priced capital to compete rather than superior products, services and prices, and the general public who fears missing an opportunity for gain, and losing both status material opportunity.
That is the definition of a bubble: the point at which social-insured capital is being consumed as a defense against opportunity loss, rather than as an offense for the purpose of increasing production, increasing choice, and reducing prices.
The problem for economists and policy makers is either knowing when this inflection point happens. Or knowing when it must occur.
This knowledge cannot be achieved by monetary policy – it is a WEAK LEVER for managing an economy. That weakness is well known, and well understood. Our desired ends can only be achieved by LENDING, not monetary policy. The difference is the knowledge one has of MONEY IN THE AGGREGATE , which is zero, and the knowledge one has of his LOANS, which by is greater than zero. While it may not approach ONE, it is far greater than zero.
Instead, we print money at public expense and give the proceeds (interest) to the people who do the WORK of the state: large capital firms, and they determine it’s use. The state should make loans to private industry and the state should collect the interest as earnings by the citizens for the purposes of redistribution.
The government needs to become a bank that makes loans into an economy for the purposes of increasing production, competitiveness and therefore employment, not a re-distributor in the economy for the purposes of increasing consumption and achieving full employment by MANDATING the LOSS of competitive production. Fundamentally, we must transform elements of the physical world for human consumption. Fundamentally, money is a store of human effort. Borrowed money, or printed money, is a borrowing against future human effort. And future effort is lower if we invested in production increases. This is sensible borrowing. And future effort is higher if we increase consumption by borrowing against the future, but do not increase production by the act of borrowing. That is NOT sensible borrowing, it is simply self deception and over consumption.
Property is an institutional tool for divinding up the labor of human interacdtion with the physical world into digestible and managable pieces by our limited and somewhat frail human minds. Loans are a type of property. They help us break up the world into estimable bits and pieces. Property solves a KNOWLEDGE PROBLEM. Property makes things CALCULABLE. Money is a means of making PROPERTY commensurable. (Money is a unit of measure, a method of account) But money is a PROXY for property. You cannot measure money itself in a meaningful way. YOu can only measure the objects that it represents. By putting unmeasured, chaotic money, into an economy, you have no control over whether that money goes to consumption (negative redistribution) or production (positive redistribution).
The confusion over the nature and purpose of government’s monetary dictatorship is a KNOWLEDGE PROBLEM. Loans are a way of atomizing borrowing against the future so that the results are knowable, or at least estimable and calculable. Instead of investing in nuclear power plants, a new power grid, and perhaps electric vehicles, or new roads, all of which would produce vast wealth, we invested in speculations and gambling on the tech boom, then in houses, then in commercial real estate, all without increasing production (houses are consumption not production because external groups cannot compete to produce them) or decreasing prices (we increased prices).
Without increased production we cannot increase redistribution. The goal of policy should be productivity increases, not employment.
We can have our cake and eat it too. But we have to get away from the myth of democratic and socialist government, and the tools of law and monetary policy. And instead we need to move most of government into the banking sector, and treat our government as the bank that we wish it to be, using the technology of bankers and insurance companies, not the technology of ancient tyrants, who were, to the letter, to a man, tyrants because they used law and tax, because that is the only technology available to them
We do not need laws and taxes. We need loans, credit and interest. There is only one law, and that is property. We can have our redistribution and we can measure it. We just need to deprive our government of the ability to issue laws and levy taxes, and print irresponsible money, and instead, constrain it to the use of money EARNED by investment on behalf of the citizenry in productive increases. All of which would be calculable. All of which would enable and encourage freedom. And all of which would help social classes work together rather than at odds.
What I cannot understand is why so few people have come to this conclusion in human history. Why the great economists were so enamored of the state and the republican tradition, why some others so enamored of individual rebellion against the state that they failed to see it. Why a few people during the Great Depression managed to figure it out, but failed to compete against the socialists.
We need to replace our system of government so that it embraces the use of fiat money for the purposes of insurance, governance, social order, and redistribution.
We live in the credit society, not the law society. Now we need a government of the credit society.