Guest Post: Understanding Failed Policies: Wealth Effect, Wage Effect, Poverty Effect
Submitted by Charles Hugh-Smith of OfTwoMinds blog,
Central banks' attempts to boost borrowing, consumption and wages by inflating asset bubbles leads to the poverty effect, not the wealth effect.
Central bankers have been counting on "the wealth effect" to lift their economies out of the post-2009 global meltdown slump. The wealth effect concept is simple: flooding the economy with credit and zero-interest money boosts the value of assets such as housing, stocks and bonds. Those owning the assets feel wealthier, and thus more inclined to borrow and spend more money. This new spending creates more demand which then leads employers to hire more employees.
Unfortunately for the bottom 90% who don't own enough stocks to feel any wealth effect, the central bankers got it wrong: wages don't rise as a result of the wealth effect, they rise from an increased production of goods and services. Despite unprecedented money-printing, zero interest rates and vast credit expansion, real wages have declined.
Apologists will claim that it would even be worse without central banks attempting to inflate asset bubbles in search of the wealth effect, but the wage/M2 money supply correlation suggest chasing the wealth effect has been a policy failure.
The unintended consequence of inflating asset bubbles to drive an illusory wealth effect is that speculative bubbles inevitably pop, creating a pervasive poverty effect. The asset bubble creates phantom collateral that households borrow against. When the bubble pops, they're left with the debt and debt payments ("the poverty effect") while the ephemeral "wealth" has vanished.
Frequent contributor B.C. has offered some charts correlating wages, M2 money supply and production. His commentary elucidates the difference between inflation that includes wages (wages rise along with prices) and inflation that erodes purchasing power (wages stagnate while prices and assets rise).
(The chart notes are mine.)
Here is B.C.'s commentary:
I tend to think of "inflation" as the effect on the purchasing power of wages from the differential rate of change of money supply (and by extension bank lending and GDP) to wages (relied upon virtually exclusively by 90% of households, including those receiving transfers from taxes on wages) with regard to production.In other words, if wages are rising along with production and prices, price inflation is largely a reflection of population, value-added output and consumption, and commensurate returns to labor from growth of money and production, i.e. an optimal growth condition.
However, if growth of money (M2) and bank lending (and GDP, which rises as a result of gov't deficit spending), exceeds growth of wages and production, money inflation tends to result in price inflation that erodes the purchasing power of wages and private production. This reflects economic conditions that are sub-optimal or recessionary.
To the extent that there is a so-called "wealth effect," the flow effect is likely in the opposite direction as is commonly assumed; that is, rising production and wages to money supply affect an increase in asset prices; therefore, it should be referred to as the "wage effect" on growth of economic activity and asset prices, rather than the converse.
Thus, the S&P 500 dropping back to the level of the mid-'90s (when the bubble commenced) would reflect the "wage effect" and actual sub-par economic conditions rather than the dubious "wealth effect" assumed from rising asset prices.
Of course, in the hyper-financialized US economy and global imperial trade regime, this is heresy.
Thank you, B.C. In other words, a sustainable wealth effect results from the wage effect, as rising production of goods and services organically boosts wages. The Federal Reserve and other central banks have it backwards: inflating asset bubbles does not increase wages or create a sustainable wealth effect; increasing production of goods and services bolsters wages which then leads to a sustainable wealth effect.
Inflating serial bubbles as a means of boosting more borrowing and consumption only leads to the poverty effect: an erosion of wages' purchasing power and the inevitable deflation of asset bubbles that leaves unpayable debt once the phantom collateral evaporates.
The Fed has been able to maintain price stability but not wage/purchasing power stability. That dooms its entire intervention project.
Simply put, central banks' attempts to boost borrowing, consumption and wages by inflating asset bubbles leads to the poverty effect, not the wealth effect.
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Can't this thing just die already so we can hurry up and start rebuilding. Delaying the inevitable helps no one but the politicians and banksters.
USA TODAY
Top Story:
The Department of Treasury has announced that it will auction-off the following aircraft carriers:
Nimitz (CVN-68), Dwight D. Eisenhower (CVN-69), Carl Vinson (CVN-70),Theodore Roosevelt (CVN-71), Abraham Lincoln (CVN-72), George Washington (CVN-73), John C. Stennis (CVN-74), Harry S. Truman (CVN-75), Ronald Reagan (CVN-76), George H.W. Bush (CVN-77).
We are pleased to offer the de-militarized ships to serve for global humanitarian services. The proceeds will be used to help fund Social Security and other un-funded liabilities.
I wish. That would be so awesome. Once the US is oil independent, we no longer need them to protect our supply lines -- sell them to the Europeans.
Aren't those nuclear-powered carriers? I didn't know we sold decommissioned nuclear powered ships to the private sector.
If so, can I buy a nuclear powered sub when it's decommissioned? I think having one of them would be way cooler than an aircraft carrier.
Credited Response. A sub would be totally badass. Could you imagine popping up among the other Yachts in Monte Carlo, popping the hatch and going for dinner.
"Can't this thing just die already so we can hurry up and start rebuilding. Delaying the inevitable helps no one but the politicians and banksters."
Considering that the Great Reset will sentence millions upon millions of people to a horrible death by starvation (as their meager income of $1 dollar a day transforms into shit-paper), it is somewhat understandable, that the the powers that be, are sticking their fingers in the dyke...at least until the next election cycle is over with that is.
You will be declared a rougue state and accused of possessing WMDs...once again, "we" will have the receipt.
so you seriously think - from your previously Bavarian point of view - that all the carriers and all the bases (including those in Bavaria) are there only to protect the US supply lines? Specifically that Uncle Sam would be willing to sell them to europeans when oil independency is reached?
The US is becoming more like the old Soviet Union. We know what happened with them. Paid rides on Mig 29.
The military went broke.
my take: their elite lost their resolve and their younger scions wanted a piece of the capitalistic consumeristic pie
people just like the hang on as long as possible.
it's that birdees to finalize it all...
http://www.google.be/imgres?q=hanging+on+the+edge+finger&um=1&hl=nl&biw=1657&bih=936&tbm=isch&tbnid=D6eMXNwnXjUA6M:&imgrefurl=http://indiegames.com/2012/10/browser_game_pick_no_birdie_no.html&docid=AkUYG1qp49OiJM&imgurl=http://indiegames.com/nobirdieno.png&w=478&h=374&ei=SrQ0Uf6gB4Wc0QX_74GQCg&zoom=1&ved=1t:3588,r:64,s:0,i:276&iact=rc&dur=438&sig=106620503184103445883&page=3&tbnh=178&tbnw=227&start=62&ndsp=36&tx=148&ty=49
It's funny to me that the same Trickle-down economy tactics of the Reagan administration are soo similiar to that of Obama's wealth effect, yet the two factions of voters will argue the "differences" between the two policies.
Agree.
Repubs - Let rich people keep more of their money. That money will make it down to the little people if the work on goods and services for the rich.
Dems - Give bankers interest free money. That money will be loaned out to the little people or be used to buy stocks which will make the little people with 401k plans feel richer.
Pretty good summary of the two.
This whole essay could be summed up more succinctly
wealth effect = cart before horse.
It's really a sophisticated form of cargo-cult reasoning. The same thinking held sway during the Great Depression - since the depression caused farm prices to fall, they figured that forcing prices higher by destroying produce and livestock would assist recovery.
Where are the fuckin' choppers Bernanke, you stupid motherfucker??!!! You never told us they were only going to do the drops over a select couple of buildings in lower Manhattan you lying scumbag. You should have trickled down, instead of being here to fuck everything up.
Tha's because most people only think in terms of taxes. They don't grasp the concept of printed money and the affect it has on them. They blame the merchants for the rising cost of goods instead of the real culprits... the private banking cabal
Is it sucky to be most people or ZH people? I prefer the latter, but the former ignorance was a pretty good ride.
There are time when I wish I could slip back into the matrix and forget about all this crap, but sadly I can never unlearn what I have learned.
Sounds to me like Conduct Disorder or maybe Opositional Defiant Disorder.
There is a pill for these maladies; see a shrink.
/s
Or, you could just continue buying and consuming Orly's eternally-$0.99/lb chicken breasts*. They will surely cure you of your inflation dementia in a heartbeat!
*Available at all finer grocery stores in 1988 today.
the difference is in the fundamentals. what was essentially a liquidity shortage under Reagan required monetary expansion.
the problem, is that our current administration is a cargo cult, waving their arms mimicking the ground crew motions from aid drops in Africa, that they came to associate arm waving with a plane showing up with food, never understanding why the plane never showed up.
Enjoy the delay. Keep buying Gold/Silver at discount. Give the Banksters back their FIAT while taking PM's off the market. Fortunes will be made. Pitty the ignorant.
Central bankers could not care less about the wealth effect, except for other bankers and cronies. All this kabuki is extend and pretend, while they accelerate the looting before the crash. It is in your face looting as well, no bother for pretenses. This article is ridiculous.
The premises that they really believe their "Wealth Effect" bullshit and that the actual results are "unintended consequences" are dubious at best.
Dude, this thing is not going to die for years, if not for a couple of decades. Look how long they have been able to keep Greece ostensibly limping along, and Greece can't even print its own currency, let alone the world's reserve currency. How long do you think they will be able to keep our system limping along when we have the benefits of both?
There is not gonna be a big cataclysmic collapse, any more than there was in Rome. Instead, there will be a slowly grinding poverty that reduces the people to dust. As the Stones would say, "What's the funky noise? It's the tightening of the screws." Rome zombied its way along until everyone that was capable had left, and this took centuries. Rome was not overwhelmed by waves of furious barbarians. It was abandoned as the people realized life was better with the barbarians than under Rome's increasingly out of touch and despotic attempts to legislate economic balance into existence while it pursued economic imbalance. Rome finally collapsed because there was no one left to defend it.
Japan and Europe have to collapse first. Japan already lit the fuse, but it will take several years before their inflation powder keg explodes. Where do you think all the paper wealth in yen and Japanese bonds will go as people seek safe harbor? And when someone in Europe, most likely the Finns, realizes that he who panics and leaves the Euro first panics best, where do you think all that money will go? The dollar is going to strengthen for a long time yet. The amount of borrowing yet to come will dwarf anything we have done so far. And it is only after we run out of places to export inflation to that our inflation will return to us immediately, which will initially cause an immense increase in borrowing as our government tries to outprint inflation, which will finally lead to dollar repudiation. But that is a long time away yet.
You want a faster collapse, as we all do? Start looking for a d'Anconia or Ragnar.
So you are going to sell assests for the worthless Yen and Euro,I guess there is a sucker born everyday.
5 years ago i wouldnt have agreed - i thought surely this must be flushed down the toilet asap. But since then i have been constantly surprised by the oligarcy's insistence on prolonging this turkey as long as possible.
so now im kinda more in your camp gwiss. There is no intention to 'be sensible' and reboot, because too many in the oligarchy then lose their shirts. The oligarchy will prolong this as long as possible, with each flash-point being a time when they stab each other in the back, chipping away at the core, going back to the facade in the meantime until the next dogfight compels them to infighting again.
5 years and theres still 4 merchant banks left. Next crisis will whittle it down to 3. Then, what? another 4-5 years of pretence before its knocked down to 2? (JMP and Golman will be last men standing IMHO)
the only flaw, i guess, with the rome analogy is that todays electronic world moves a lot, lot faster. The barbarians can be at the gates in a HFT nano-second.
Any system built upon exponential credit to fuel exponential consumption is mathematically doomed to fail.
As long as there is an exponential growth of population it will work quite well, at least until we are running out of ressources. However, due to greed credit growth exceeded population growth. Now the only way to keep it running is to stretch maturities or to inflate bubbles. Whatever we do we are doomed, unless we find another planet full of people to expand our system.
"The unintended consequence of inflating asset bubbles to drive an illusory wealth effect is that speculative bubbles inevitably pop, creating a pervasive poverty effect."
Objection, your honour. "Unintended" is inabmissable as hear-say.
I think you meant to say inobamamissable. Must have been affected by the jedi, mindmeld, NCC-1701, X-wing, light sabre, phaser.
Very good. I will take that as a "sustained".
Face it. Unless there is a paradigm shift of major proportions we had better get ready for war. The system is simply unsustainable and if one were a conspiracy theorist it would appear the wealth effect is being used now to make the rich richer before the debt slaves are armed for the inevitable foreign engagement.
Just like Germany and Japan at the start of WW2, the US’s military strength will erode rapidly once the sleeping dragon is awake. I’m not looking forward to seeing one billion people pissed-off.
In any war, it's not the rich who are the cannon fodder. So what do they care if we get into a major conflagration? Actually, war is just another business opportunity for them. Also, takes care of the "excess labor" problem. In in some respects, war and even a very major one is but one of the economic "growth" options on the table.
It usually works well for those on the winning side.
The losing team does get to rebuild eventually following a complete devastation of its infrastructure.
If you're not ready for war it's probably too late. They are moving to lock things down at a rapid clip.
I did it by Occident :
Interesting point of view.
Please be more specific: who do you think will throw the first punch at whom?
History has shown that it’s always the most economically repressed country that draws first blood.
"In other words, a sustainable wealth effect results from the wage effect, as rising production of goods and services organically boosts wages."
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Yes, unfortunately in order to actually produce any real goods and services (sorry "financial products" are fucking bullshit) you need excess energy and ample real inputs (i.e. commodities). The world has become flooded with excess paper fucking promises and takers (i.e. consumers). Wake the fuck up folks, until the dead weight (paper fucking pushers, useless eaters, and unproductive debt is cleared) things will only get worse. History is very clear on this. Humanity isn't just another unsustainable ponzi, it's the unsustainable ponzi. Hedge accordingly.
All I hear about is crumbling infrastructure yet a large number of the population is unemployed. Imagine our ancestors 500, 1,000, 2,000 years ago. You think they would have a bridge crumbling in the village while 15 of the 100 villagers just sat around each day while the others did all the work?
At the very least, put the fuckers on unemployment to work rebuilding the infrastructure.
First you have to get them off marijuana, Dancing with the Stars and American Idol.
One of these things is not like the other. Whats your beef with plants?
Privateers would scream bloody murder about socialism. Nothing productive gets to happen unless it passes through them so they get their cut. Sanity has nothing to do with it.
LawsofPhysics,
Screw the hedge!
Just stop feeding any addiction to trading and do something else productive while enjoying the theatricals on this board for entertainment purposes. Don't care anymore.
Buy physical and good PM shares on the cheap held in direct registration mode outside the banking system. Get off the playing field and watch the show from the sidelines. Enjoy!
OT-I see CNBC has eliminated their reader comments section as they were probably tired of people picking apart their BS propaganda articles. maybe it's getting harder to control the message
Graphic evidence of four years of 0blama's failing marxist policies.
CNBC has to run everything they do through the WH anyway
All wars are banker wars
www.youtube.com/watch?v=5hfEBupAeo4