Keynesian economics

The future of the US economy with Chairman Yellen at the helm is grim indeed, which provides all the more reason to end our system of central economic planning by getting rid of the Federal Reserve entirely. Ripping off the bandage may hurt some in the short run, but in the long term everyone will be better off. Anyway, most of this pain will be borne by the politicians, big banks, and other special interests who profit from the current system. Ending this current system of crony capitalism and moving to sound money and free markets is the only way to return to economic prosperity and a vibrant middle class.

David Stockman, author of The Great Deformation, summarizes the last quarter century thus: What has been growing is the wealth of the rich, the remit of the state, the girth of Wall Street, the debt burden of the people, the prosperity of the beltway and the sway of the three great branches of government - that is, the warfare state, the welfare state and the central bank...

What is flailing is the vast expanse of the Main Street economy where the great majority have experienced stagnant living standards, rising job insecurity, failure to accumulate material savings, rapidly approach old age and the certainty of a Hobbesian future where, inexorably, taxes will rise and social benefits will be cut...

He calls this condition "Sundown in America".

Do you wonder what to make of America’s soaring government debt and what it means for the future? Or, if you already have it figured out, are you interested in research that might challenge your position? Either way, you might like to see the results of this exercise:

1... Take each historic instance of government borrowing rising above America’s current debt of 105% of GDP.
2... Eliminate those instances in which creditors received a lower return than originally promised, due to defaults, bond conversions, service moratoriums and/or debt cancellations.
3... Of the remaining instances, consider whether and how the debt-to-GDP ratio was reduced.

In other words, let’s see what history tells us about today’s debt levels and what comes next. You may find the answer surprising.

When it comes to the very simplest axiom on modern Keynesian economics, it seems one can't repeat it enough times: have leverage, have growth... don't have leverage, don't have growth.  That is the reason why in early summer, China tried to conduct a mini-taper of its own to streamling its monetary pipeline which had been so filled with bad and non-performing credit, that the PBOC effectively pulled the switch on new liquidity for over a month.  What happened almost immediately after, when rates on ultra short term funding soared to 20%+, nearly destroyed the domestic banking system and resulted in a major slowdown in the Chinese economy. "Luckily" for China, its close encounter with the taper was brief, if quite painful, and following a period of shock, the Chinese central bank had no choice but to resume injecting banks with their daily dose of monetary morphine all over again. This in turn, has brought us to square one: nothing in the local banking system has been fixed, and what's worse, while China has bought itself a few months respite, the dominant old problem of a collapsing credit impulse, as decribed before, in the country with the largest corporate credit bubble in the world, is about to come back with a bang in a few short months. In short: China just did what the US has boldly done so many times before - kicked the can.

Over the last thirty some odd years, the world has seen an unprecedented level of economic growth and prosperity. That much is certain. However, things are not as they appear when the bullish rose-tinted glasses that most view the world through are removed.

And the issue is debt.

The origin of today’s monetary policy of course lies in Keynesian economics, and Keynes was quite explicit that monetary authorities should intentionally use deception as a primary tool. He spoke of the need to gull workers into thinking that wages were going up even if net of inflation they were going down. At least he had a sense of humor about it, calling a central bank a "green cheese factory" that would persuade the public to accept "green cheese" (newly created money) as the real thing.

Much has ben written lately about the fact that the Federal Reserve is beginning to realize that they are caught in a "liquidity trap."  However, what exactly is a "liquidity trap?" And perhaps more importantly how did we end up in it - and how do we get out?

The modern-day role of the Fed is to distort these prices, effectively to disrupt the economy’s guidance system. The purpose is to fool you into making improper decisions. This deception threatens social harmony and individual well-being. Distorting prices, especially systematically, is the equivalent of drugging a person and then having him make major life or financial decisions. Drugs and price distortions have the same effect on decision-making - the mind is unable to properly receive and process information. The Fed’s behavior of distorting prices is deliberate dishonesty calculated for government advantage. The policy is designed to deceive others to behave in a manner which is ultimately harmful to these individuals. It is outright fraud! A government that can only survive via fraud has reached the desperate stage. It can create great harm in its death throes but its survival is unlikely.

Since Mr. Krugman tells us all this spending and debt issuance/guarantees are not only good and necessary but in the long run, painless, why are we bothering with personal income taxes?
 
The US government will collect approximately $2.0bn this year in Personal Income and Payroll taxes.  But why?  Why are we even bothering with this when today’s leading economists and politicians are telling us that debts/deficits don’t matter and running up astronomical debts is a long-term painless process?  It’s practically patriotic.  So why shouldn’t we just add our tax burden to the list of items the Fed should be monetizing?  Seriously.  Why not relieve the burden on every tax paying citizen in the United States (about 53% of us according to Mitt Romney)?  You want an economic recovery?  Reduce my taxes to zero and see how fast I go out and start spending some of that extra income.

Joseph Eugene Stiglitz was awarded the Nobel Prize in Economic Sciences in 2001. We have constructed the world in which we live on recognition and awards. But, they are just for giving. They are not for anything else. We take no heed of what the ones that have been recognized might have to say or declare. They can go blue in their face, we have delusions of grandeur. Who gave them the prize anyhow?

We are a long way from really resolving the argument between the Keynesian and Austrian economic theories, despite some so-called experts proclaiming Krugman's victory this week. The discovery of the calculation error in the Reinhart/Rogoff study does little to change the overall premise that excessive debt levels impede economic growth and have, historically, led to the fall of economic empires.  All one really has to do is pick up a history book and read of the Greeks, Romans, British, French, Russians and many others. Does fiscal responsibility lead to short term economic pain?  Absolutely.  Why would anyone ever imagine that cutting spending and reducing budgets would be pain free?  However, what we do know is that the path of fiscal irresponsibility has long term negative consequences for the economy. In the meantime we can continue to ignore the long term conseqences in exchange for short term bliss.

One of the simplest, most overused and popular assertions is that claim that stocks must rise because interest rates are so low.  In fact, you cannot get through an hour of financial television without hearing someone discuss the premise of the Fed Model which is earnings yield versus bond yields. The idea here, once formalized as the "Fed Model," is that stocks' "earnings yield" (reported or forecast operating earnings for the S&P 500, divided by the index level) should tend to track the Treasury yield in some fashion. This simply doesn't hold up in theory or practice.

Elon Musk - "megalomanical promoter". Ben Bernake - "befuddled academic". Janet Yellen - "career policy apparatchik". Paul Krugman - "fibber". Fred Mishkin - "preposterous".

The underlying trends seen this year have continued, but after strong follow through in Asia, a more subdued tone has been seen in Europe. The US dollar is generally softer, except against the yen and sterling. Japanese markets were closed for holiday, but the MSCI Asia-Pacific Index rose almost 0.3%, lifted by more than a 3% rally in China on speculation that there may be a sharp increase in the cap on foreign investors' ability to invest in Chinese equities. In Europe, the Dow Jones Stoxx 600 is hp about 0.4%, led by a rise in financials. Spanish stock market is at its highest level in almost a year (Feb 2012) and Italy's market is at its best August 2011, though their bond markets are seeing some profit-taking today. With a light economic calendar in North America today, Bernanke's speech in Michigan after the markets close may be the highlight. We identify six key factors shaping the investment climate.

In the spirit of the holidays and hope for a more prosperous 2013, we thought readers might appreciate a little humor to partially offset the relentless 'cliff' doom and gloom. So please, don’t take this too seriously. But if you happen to stumble across a ‘paperbug’ or two over the holidays, perhaps you could share some of the points made here. Humor sometimes helps people realize just how hopelessly misguided they are... Quantitative easing changes nothing. Remember, the PhDs are in charge of our economies and they know exactly how much our money should be worth. Those of us concerned that our money might lose purchasing power are just being paranoid. Choice is dangerous. Think Adam and Eve and you’ll get my point. Those arguing in favour of monetary freedom, of choice in money, of repealing legal tender laws, they’re just like that nasty snake Lillith in the Garden of Eden, the source of all trouble I tell you. ‘Tis the season to borrow and spend folks, as indeed it has been since 1971.