Paying the piper/economist and making economic decisions

He who pays the piper calls the tune. This applies to economists as well as musicians and explains why economists have so much difficulty coming to terms with the ideological aspects of their field.

This post was prompted by an article about whether economists are biased towards the free market or towards regulation.  This blogger would prefer to evaluate economies according to who makes decisions.

I get suspicious when I hear economists talk about the “free market”  because they usually mean something different to what I understand is a free market economy.  To me a free market economy is one based on the perfect competition model.  What we actually have is an economy where governments pass legislation to restrict competition.  Copyright, patents, licensing, tariffs, health and safety regulations all work to restrict competition and allow some people to make profits they would not get in a competitive economy.

Sometimes the profit making gets out of control and the way to deal with this is to introduce  regulations  rather than to return to more competition.  Therefore I figure the debate in this article is irrelevant.

What is relevant is who makes economic decisions.  If we had perfect competition most if not all decisions would be made by consumers who would vote with their spending decisions.  Unfortunately there are too many people in this world who like to make decisions for others.

One of the big things which influences decision making is the fractional reserve way of creating money.  In this process money is created when bankers make loans and as they get to decide who gets loans they have a say over what economic activity is  going to take place.  If we had a national exchange trading system as proposed in the essay “LETS to market: Dealing with the economic crisis” on this weblog money would be created via payments to individuals who would then make decisions in their purchases or investments.

The fractional reserve system  also limits decision making in that many people, especially during their working years, carry a large debt load.  As most of us have to work to repay our debts, we are forced to support another person’s decisions.  And the work ethic adds a lot of support.

Governments also interfere with decision making by passing legislation which restricts competition and by accessing large amounts of created money.  This of course allows them to make economic decisions according to their values which don’t always agree with their citizens.

My view of how the economy works is less than consistent with conventional economic wisdom.  Readers will decide for themselves which view  they want to accept but I will point out that economists who don’t promote the conventional view probably don’t stand much chance of holding important high paying jobs.  People in power, industry or government, want to feel they are doing good and it is the role of economists to say what their employers want to hear and most economists are paid directly or indirectly by business or government.

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Innovation, growth and marginal cost

Mainstream economic wisdom says innovation is one of the things that will return the world economy to growth.  Therefore governments should adopt policies to encourage knowledge development and innovation.

As I meditate on this I think that in a previous reincarnation I must have been a charter member of the skeptics society.

Lets consider the effect of innovation on marginal cost.  Price is determined by supply and demand and  is set at the marginal cost of producing an item.   Marginal cost is the cost of the last item produced and will be the price at which any item will be sold.  If price is above marginal cost, then another producer will enter the business and more items will be produced.  If the price is below marginal cost, some producers will leave the business until the price rises.

The traditional view is that innovation reduces marginal cost and encourages growth.  For the most part this has probably been true.  What’s the point of innovation that doesn’t reduce costs?  Keep in mind that to contribute to growth new products have to be useful and people have to buy them.

However, there is no law that says innovation has to reduce costs and it may be that we are now using innovations that are more expensive.  I’m thinking of oil, gas and mineral extractions where new and expensive techniques have made possible the recovery of difficult deposits.

In these cases the marginal cost is rising and the innovations are used only when the price rises enough to pay for the innovation.  Rather than encouraging growth these innovations are slowing the rate of negative growth.

Another complication in all this is that spending more money on energy is reducing the resources for other items.  This means a whole raft of adjustments throughout the economy.

Innovation has been important to our standard of living and no doubt innovators will make further changes to our quality of life.  It is not clear that innovation will return us to economic growth and save us from an economic crisis.

Greed, financial crises and regulation

When greed. irrational exuberance or willful misconduct within the financial industry are seen to cause a financial crisis, then we start hearing calls for more regulation as if regulation can control unacceptable human behaviors.

Here’s a theory to explain it all.

Business people, especially financiers,  don’t  like competition and call upon governments to pass legislation which restricts competition.  This allows profits on top of wages and a return on investment.  It also provides opportunities for exploitation.  When the exploitation gets out of hand and becomes obvious or when there is a financial crisis caused by the way in which money is created, then we get calls for more regulation.

The best way to deal with greed and willful misconduct is probably to increase competition by repealing legislation which restricts competition.  The way to deal with financial crises is to change the way in which we create money.

Happy birthday Milton Friedman

In honor of what would have been Milton  Friedman’s 100th birthday the Webb has a number of suggestions that we need him to solve current economic problems.

If he were born in 1912 then he would have been in his 20s as the world was coming out of the depression and his thinking was strongly influenced by the world’s going into a period of unprecedented economic growth.

For his advice to be relevant now he would have to had adapted to current circumstances in which it is doubtful economic growth can continue.

Even so I like a lot of what he said.  Here’s a link to ten of his best quotes.

 

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Regulating banks and competition

This week’s The Economist has an article about a small bank in Texas which is challenging in court the Dodd-Frank act passed two years ago to increase the regulation of the banking industry.

I have a theory that most if not all economic legislation works to restrict competition and it appears the Dodd-Frank act does this by making life difficult for the small banks.

It also appears small banks, or at least this one, being small have to follow prudent banking practices and have fewer opportunities to gamble with other people’s money.

Maybe the best way to regulate the financial industries is to ensure they are highly competitive and repeal legislation which restricts competition.

Of course the big banks would turn their lobbyists loose on this one.

 

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Bashing Paul Krugman

I’ve been having difficulty coming up with an idea for a post but one can always fall back to bashing Paul Krugman.  While it’s fair game to disagree with someone I prefer not to put him down. I can’t resist this one.  The guy generates so many words he must have a DBS degree.  (The D stands for doctor.)

There are four areas of disagreement.

First, the stimulus and money creation policies he promotes  were what was needed in the 1930s but are probably not right for current circumstances.  Both of these have been tried and appear not to be working.

Second, if the underlying problem is with the resource base, then increasing economic activity is going to make things worse and possibly bring forward the date of a major economic collapse.

My third concern is that even if we have the resources to prepare for an alien invasion, is that really what we want to do with our time and resources. There are so many things to do in arts, music, crafts and social fields that some of us would find more rewarding.  Also I think each individual  should decide for him/herself what to do rather than have to do what some economist decrees.

A fourth concern is that inflation which he also promotes is a form of theft.

On the other hand Krugman does have some uses.  He gives us something to think about and he has helped me come up with a post for this weblog.

 

If you liked this post your are invited to comment, press the like button and/or click  one of the share buttons. If you disagree you are invited to say why in a comment.  While I like the idea of sharing this platform, my personality is such that I don’t reply to many comments.

The inflation conflict

It could be that inflation is at the core of the political divisions on the economy in some industrial countries.

This is because people or organizations that owe money, including governments, benefit from inflation and those who have made loans stand to lose.  It might be useful to make a distinction between money and purchasing power.  Inflation increases  the purchasing power of borrowers and decreases the purchasing power of lenders.

As this is at the core of our well-being we want government economic policies that promote or discourage inflation.  Those who would benefit from inflation want stimulus and an increasing money supply.  Those who stand to lose their savings want austerity and smaller government.

Inflation may be a way of dealing with the one percent but it also catches a lot of people who have worked hard to build up some savings.  It should probably be considered a form of theft.  It is no wonder the victims of inflation have such strong feelings.

It probably doesn’t help for them to hear economists call for inflation to solve debt or economic problems.

It is interesting that when  the representatives of those hurt by inflation get into government they appear unable to get debt under control and frequently increase it.   This may be because they enjoy spending, have friends who need to be rewarded for past support and because they now have to deal with the debt problem.  This may explain the rise of the tea party with its strong feelings of frustration.

The way to deal with the inflation conflict is to aim for price stability. This is probably easier said than done because I figure inflation is built into the way we create money.  For more on this please look at my essay “LETS go to market: Dealing with the economic crisis.”

It may be that inflation is becoming a moot point as it has been going down in spite if attempts to stimulate the economy and increase the money supply via quantitative easing.   Does this indicate some other things we don’t understand are happening in the economy?

This analysis is probably an over simplification as some people may be standing on both sides of the inflation issue and others may change from one side to the other during their lifetime but may not change their politics.

 

If you liked this post your are invited to comment, press the like button and/or click  one of the share buttons. If you disagree you are invited to say why in a comment.  While I like the idea of sharing this platform, my personality is such that I don’t reply to many comments.

Poverty

In exploring the world beyond the view from my study window (a large, lush green yard surrounded by tall trees and the mountain beyond the river valley) I came across a discussion of reasons for giving money to the poor.

I believe we have a collective responsibility to ensure that everyone has the opportunity to experience the same standard of living as everybody else.   This should apply to all the people of the  world.

This does not mean that everyone should have to take that opportunity. If a person chooses to do something else that is okay whether it be a life of poverty and medication in a cave or a life ruined by  drinking.

I also believe that full employment is not a realistic goal.  Nor is full employment desirable if it means working for the sake of working when there are other things people could do if they wanted. Nor is full employment desirable if it means using up scare resources or destroying the environment.

I also believe subsides should be given to consumers rather than producers.

And I believe that we as individuals should be able to make our own decisions according to our own values.

Therefore we should deal with poverty and/or ensuring everyone has the opportunity with some sort of universal income scheme.  Milton Friedman proposed a negative income tax.  I take the concept further and suggest an income scheme combined with a new way of creating money in the form of universal subsistence payments.

In either case the income scheme would replace all subsidies to producers and all other income support to individuals.

This approach would require some heavy-duty changes in our ways of thinking and behaving.  Many people would find it difficult to get their minds around these changes.  However, considering the current economic crisis and all the threats it may be that we need drastic changes.

Subsidies distort prices

Here is a  news report that the Quebec government is giving a $58 million subsidy to an asbestos mine in that province.

I am opposed to this subsidy because I believe subsidies should be given to consumers rather than producers.

Subsidies given to producers distort prices and encourage us to make poor purchasing decisions.

The article says there are “predictions that worldwide demand for asbestos would increase — especially in India — while the supply would drop.”  If this is correct then prices would go up and the mine would be able to reopen without subsidies.

Subsidies should be given to consumers in the form of a guaranteed income scheme or a negative income tax,

 

If you liked this post your are invited to comment, press the like button and/or click  one of the share buttons. If you disagree you are invited to say why in a comment.  While I like the idea of sharing this platform, my personality is such that I don’t reply to many comments.

The deceptive wealth of nations

This weeks Economist has an article about a report from the United Nations on calculating the wealth of nations.

At least this report recognizes that natural resources are as important as  infrastructure and human capital  but are they all of equal importance?

The article says “A country can lose $100 billion-worth of pastureland, gain $100 billion-worth of skills and be no worse off than before.”

The problem with this statement is that if a country loses $ 100-billion worth of pastureland it probably will not be able produce as much food as before and some of its people may starve regardless of how many skills they have acquired.  The same applies to energy and mineral resources.

Another concern is that the value of natural resources is based on current prices which are based on current supply and demand.  Current prices may not take into account stocks and future shortages.

I have a problem with the idea that economic activity produces wealth.  What economic activity really does is to use up our resource base and is actually decreasing out wealth.  Infrastructure and skills allow us to use up resources more quickly.

While this report is valuable in that it focuses attention on the components of wealth it may be deceptive.  If natural resources are more important than infrastructure and human capital, it is telling us we are doing well when we are not.

 

If you liked this post your are invited to comment, press the like button and/or click  one of the share buttons. If you disagree you are invited to say why in a comment.  While I like the idea of sharing this platform, my personality is such that I don’t reply to many comments.

Money creation problems on YouTube

It’s great to see a criticism of how we create money getting a good airing on YouTube. (Here)

Victoria Grant is a 12-year old young lady who speaks with a great deal of confidence on a subject about which most people know nothing.  It is hardly surprising that she got a standing ovation for her explanation of how the banks and government are defrauding Canadians.

She clearly has  a good understanding of the problems with our money creation mechanisms but her proposed solution would probably be an even greater ripoff.

She got it right on when she said “under the present system all money is debt” and when she points out debt is enslavement.  I would take issue with her suggestion that money issued by the banks if fake while money issued by the Bank of Canada is real.  It is probably good that both are money “generated out of thin air” as the alternative, a commodity money, has its own problems.

Her concern is that the Canadian government is defrauding us by borrowing money from the banks and paying commercial interest rates. I would be more concerned that the government will never be ale to repay its debts with the same purchasing power as it borrowed.

Miss Grant’s solution is for the government to borrow directly from the Bank of Canada rather than the commercial banks and use the money for economic infrastructure..  This is quantitative easing and would increase the money supply.  It would work only if there are available lots of physical resources for infrastructure and that is not clear.

If the increased money supply is not matched by an increase in the goods and services produced, the result would probably be inflation.

Inflation is a more subtle and more efficient way for governments to steal from their people.  Any one with financial assets in fixed prices or with pensions would lose purchasing power.  I’m not sure Miss Grant would want that.

However, she should be lauded for pointing out some problems with our banks and money supply and for getting a lot people to think about them.

The assumptions economists make

The assumptions economists make is the title of a book published in March of this year and for which a review is located here.  It sounds a little interesting so I have suggested it for purchase by our local library.  I’m not sure it is interesting enough to spend $25 for my own copy.

However, the title reminds me of my own struggles with the assumptions of perfect competition.  So here is a post from almost two years ago about the assumptions of perfect competition and how one could interpret them.

 

Perfect competition utopia

When I started studying economics and learned about perfect competition and its assumptions I thought it was totally unrealistic. I really enjoyed the joke about the economist who wanted to assume he had a can opener.

However, through the years I have come to see perfect competition as an utopia which provides guidelines for policy. I like the perfect competition model because it provides high efficiency, equality in that there are no profits, it works without economic growth and decision making is by individual consumers rather than governments.

One of the features of perfect competition is that there are no profits because if profits are being made in an industry others will enter that industry increasing competition and driving prices down until there are no more profits.

To get around this no profit feature business people lobby governments to pass legislation which restricts competition. For example, subsidies, some taxes, licensing, copyright and patent legislation all interfere with perfect competition.

To make our economy more competitive we should:

– Give subsidies to consumers rather than producers. This way prices will reflect true costs and buyers can make decisions according to their own values.

– Require producers to provide consumers will all relevant information about their products.

– Abolish patent and copyright legislation.

– Unilaterally abolish import and export tariffs.

Following is a summary of the assumptions for perfect competition.

The link for the website from which they were taken is http://tutor2u.net/economics/content/topics/competition/competition.htm

Assumptions behind a Perfectly Competitive Market

1. Many suppliers each with an insignificant share of the market “ this means that each firm is too small relative to the overall market to affect price via a change in its own supply “ each individual firm is assumed to be a price taker

2. An identical output produced by each firm “ in other words, the market supplies homogeneous or standardized products that are perfect substitutes for each other. Consumers perceive the products to be identical

3. Consumers have perfect information about the prices all sellers in the market charge “ so if some firms decide to charge a price higher than the ruling market price, there will be a large substitution effect away from this firm

4. All firms (industry participants and new entrants) are assumed to have equal access to resources (technology, other factor inputs) and improvements in production technologies achieved by one firm can spill-over to all the other suppliers in the market

5. There are assumed to be no barriers to entry & exit of firms in long run “ which means that the market is open to competition from new suppliers “ this affects the long run profits made by each firm in the industry. The long run equilibrium for a perfectly competitive market occurs when the marginal firm makes normal profit only in the long-term

6. No externalities in production and consumption so that there is no divergence between private and social costs and benefits.

Alternate money systems: LETS and Timebank

In my essay on dealing with the current economic crisis (here) I proposed resolving some of the problems with our fractional reserve money creation process by expanding the concept of the Local Exchange Trading System (LETS)  into a national system.

Here are links to three articles about LETS or Timebank systems. (onetwo three)  These are presented as ways for local communities to cope with the breakdown of national financial systems.

In designing alternative money plans one must be careful not to repeat the problems of the existing system.

The first is to ensure that the total money supply is  flexible.  So long as the money supply is flexible and able to increase or decrease with the quantity of goods and services to be exchanged, then prices will be steady.  One of the problems of the gold standard was that it did not have flexibility.

The second is to ensure that interest is not charged or paid on the debits and credits created as goods and services are exchanged.  I am not  aware that anyone has tried to think out the problems caused by interest being charged on the loans used to create money in the fractional reserve process but I suspect it is a sort of Ponzi scheme which frequently breaks down into a financial crisis.

I found it interesting that all three of the  articles referred to the social aspects of these exchange systems because I have long believed that  economics is largely about relationships.

Extending “too big to fail”

This weeks Economist has an article about extending the definition of “too big to fail” to include a number of other types of financial business.

When dealing with banks I think we need to distinguish between too big to fail and too important to fail,

When any business fails its shareholders and customers stand to lose. Is it the responsibility of government to protect shareholders and customers from the risks of doing business?

Financial intermediaries which take deposits, make loans and follow fractional reserve policies, i.e. banks, are  special cases in that in making loans they are creating the money supply with which we exchange goods and services.  This makes them too important to fail because a bank failure decreases the money supply.

One has to note most bank deposit customers are protected by deposit insurance to the extent there is enough money in the insurance fund.

This money creation role provides the rationalization for regulating banks and other financial intermediaries.  But what is the rationalization for regulating other types of business that handle money?  Perhaps by extending regulatory powers it appears the authorities are doing something about the economic crisis.

The economic policy dilemma

An article in The Guardian calls upon the European Central Bank to drop its commitment to austerity and instead go for quantitative easing and inflation.

The problem is that either way some people, different people, perhaps even all of us  are going to suffer.

Austerity means some people are going to lose their jobs.  Inflation means that people with savings are going to see their savings eroded and possibly reduced to nothing.  Quantitative easing is intended to provide stimulus to economic activity.  However, if it is correct that the root cause of current economic problems is resource depletion, then this will only use even more resources and bring forward an even worse economic collapse.

I figure that as well as resource depletion we also have to deal with some serious problems in the way in which money is created.  A suggestion as to how to deal with these problems is given in the essay “LETS go to market: dealing with the economic crisis” on this weblog.

Headlines good and not so good

We’re starting to see headlines that at least in the United States the economy is starting to recover.  At the same time there are lots of news articles about how people  continue to suffer economic pain.

Perhaps it depends upon what style of hat one wears.  For some people things are going to improve but for lots of others it will continue to be tough.

I figure the economy is fractal in nature with lots of ups and downs of varying durations..  If this is correct then the first question is which way is it trending,  the second question is how long before it turns down again.and the third question is how do we prepare for the next downturn.

The French election and politicians telling the truth

The cover story in this week’s Economist is about the French election and the reluctance of politicians and the electorate to deal with a serious economic situation.

The truth is that it can be very difficult for a politician to tell people the truth especially if the politician thinks people don’t want to hear the truth or if he thinks people will vote against him if he does tell them the truth.

The truth is that probably we are going into a period of economic decline.  In the long-term we would be better off if the political debate were to be about how to cope with that with a minimum of human suffering.

However, most of us. most of the time, think and act in our own short-term interests as opposed to the long-term interests of ourselves let alone the whole community.  It would take a brave politician to put this to the test.

More stimulus spending: This time it will be different

Today’s Economist has  a report on an article arguing in favor of more economic stimulus.

In this article we have a couple of high-ranking economists arguing that under current circumstances stimulus spending will be self-financing in that it will bring in higher tax revenues.  This time it will be different.

This sounds like the frustration of drowning people who don’t know what is happening to them.

I have a theory that economists were the theologians of the twentieth century.  Their debates were as relevant as the medieval debate over how many angels could dance on the head of a pin. Their role was to provide legitimacy to our economic activity during the golden years of prosperity and to our excessive use  of resources.

Now that we are having to deal with the consequences of our using up the most accessible resources, they don’t have a clue as to what to do.

If you are in the water over your head and you want to survive you should at least try to tread water.  Treading water in the ocean of economics will  require some major changes in economic thinking.

Mild inflation to help the economy?

Another suggestion to get the economy rolling again is for central banks to encourage a mild increase in inflation.   Here are one, two articles proposing this.

Let’s look at my favorite economic formula which happens to show the connection between the financial and real economies:.

MV=PQ

where M is the total money supply in the economy, V is the velocity or rate at which money is circulated,  P is the price and Q is the quantity of goods and services being exchanged.

Encouraging inflation would mean an increase in P.  This would lead to an increase in one or both of the variables on the other side – probably the M.  There have been reports lately that banks are not lending out money to the full extent of their balance sheets.  Therefore increasing P would probably help the banks to make more profits.

What’s not clear is how increasing P would lead to any increase in Q. The quantity of goods and services produced depends upon the resource base and the ease with which resources can be made available.

The strength of the economy

In the lead  to a report on Barack Obama’s speech at the University of Maryland the CBC quotes him as saying the strength of the economy will depend upon how the U.S. deals with its debt.  I couldn’t find any reference to that in the story but  whether or not he said it, I want to disagree.

The strength of the economy depends upon the quantity of goods and services which can be produced and that depends upon such things as the state of agriculture, the resource base and the energy required to extract  those resources.  Money is important because it facilitates the extraction of resources and the exchange of goods and services.

Following is the CBC’s lead in paragraph and here is the link to the actual report

U.S. President Barack Obama says the strength of the economy will depend on how the country deals with its massive $14.3 trillion debt — in remarks after the Senate rejected the Republican’s budget-cutting plan. 11:36 AM ET video

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