Hiding from the economic crisis

Why are interest rates so low?  It’s a question which has apparently been occupying a couple of North America’s top economists but this blogger sees the discussion as a screen hiding some very important economic issues.such as the root cause of the economic crisis and values which will guide us in trying to  find a solution.

On the surface the answer is simple.  Interest rates are the price of money and are determined by supply and demand.  They are low  because that is where the two balance.  They appear low because we are used to high returns on our investments and are reluctant to give them up.  There is no reason why interest rates could not be zero and maybe they should be.

To understand the root cause of the economic crisis we need to go into a macro economics classroom and watch the lecturer draw his basic diagram on the blackboard.  It is in the shape of an”x” with one side representing the financial side of the economy and the other the real or physical side.   This is important.  As we measure the physical part of the economy in financial terms it is easy to forget the distinction and analyze economic problems only in financial terms.  We need to ask what is happening to the physical side of the economy because it could be that is where the problem is.

This blogger figures the problem is with the resource base.  There are lots of energy and mineral resources left on this planet but we have exploited the most easily accessible.   Those that are left take a lot of time and energy to extract and this is causing a lot of economic problems.  It could even force us into negative growth.  This is a much more serious problem than why interest rates are low.  It is also an extremely difficult problem because it challenges some deeply held beliefs and values.  It’s a lot easier to talk about why interest rates are low.

Some ideas about how to fix the economy are included in the essay “LETS go to market: Dealing with the economic crisis” on this weblog.  A major feature of that essay is a proposal to change the way in which we create  money.

The emotions surrounding money make it a such a difficult subject that few people understand the economics of money and banking. This is unfortunate as money is so essential to how we exchange goods and services.  I encourage you to take a look at the essay.

While I prefer to see low interest rates as a symptom rather than the problem here are  some observations.

Money should be considered a tool to facilitate exchange rather than as a commodity with a value of its own As the quantity of goods and services we want to exchange varies up and down  so does the amount of money supply we need,  If there is too much money there will be inflation and if there is too little money there will be deflation.   Some people believe there should be mild inflation but this reduces the value of savings and should be  considered theft.

Quantitative easing has been an attempt to stimulate economic activity by increasing the money supply.  It has resulted in a rising stock market but has done little for the real economy.  That has to be a sign of a serious problem which has not been identified.

The way in which we create money, known as fractional reserve banking, is a heavy-duty problem because it is based on loans on which interest must be paid.  If all debts had to be repaid at one time there would not be enough money in the economy.  It is a Ponzi scheme on a grand scale and it is no wonder we experience frequent financial crisis.  For more on this topic see these previous posts on this weblog.

I believe we are facing a serious economic problem in that it is not clear there can  be a return to economic growth.  Dealing with this will require some major changes in our way of life.  It is disappointing that two of our most well-known economists are protecting us from having to deal with this with a frivolous argument. It’s as if they are playing in the turkey poo on animal farm and producing gobbledygook.

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.

Immigration to solve economic problems?

One has to challenge the idea that rich countries need immigration to improve public finances and to meet the needs of an aging population.  This argument surfaces from time to time in Canada and is now being promoted by the UK’s Office of Budget Responsibility.  The problem is that some people make two major mistakes in economic analysis.  They analyze economic problems in financial terms and they assume economic growth will continue forever.

jetxee_people_near_a_blackboardWhen my economics professors stood at the blackboards they often drew an x-shaped graph.  For the macro economists one line represented the financial aspect of the economy and the other the real or physical aspect.  It is an important distinction and one that is forgotten when we get away from the blackboard.  Ultimately the economy depends upon the resources we use to look after ourselves.  To analyse the economy we need to be aware of what agricultural, energy and mineral resources we have with which to work.

We have problems using financial terms because of the way in which we create money.  It is a sort of Ponzi scheme which collapses from time to time.  Also the purchasing power of any sum of money varies because of inflation or deflation.  Thus it is difficult to use financial terms to evaluate what is happening on the real side of the economy.

Another problem with claims we need immigration to pay our bills is the assumption that economic growth will continue forever and that population drives economic growth.

It is certainly a big mistake to assume economic growth can continue forever.  We have used the most easily accessible agricultural,  energy and mineral resources and it takes more energy to retrieve those remaining.  We see this in increasing prices. (Marginal cost to use the economics term).  As more energy is needed to retrieve the same quantity of resources, the potential for economic growth goes down.

If population were a driver of economies, why aren’t India, China and Africa the richest parts of the world?

Immigration is a difficult issue because it often involves humanitarian and racist issues.  There may be humanitarian reasons for encouraging immigration, but this weblog focuses on economics and it is not clear we should see immigration as a solution to current economic problems.  It could be that immigration will put additional stress on economic resources and make problems worse.

The real and financial sides of the economy

When my macroeconomics professors stood in front of the blackboard they drew a graph with two lines – one representing the real or physical side of the economy and the other the financial side. It’s an important distinction but as soon as we get away from the blackboard we tend to analyze things only in terms of money.

What we really need to look at is what is happening in the resource base. There is some evidence that physical resources being depleted or more difficult to extract and that human resources are increasing. So the prices of the first are going up and the prices (wages) of the other are going down. How can there not be economic problems around the world.

 

 

 

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