Unemployment and Money

“Unemployment” is the center of all realistic economic concern; it’s why we’re here. The reason economics is something a politician needs to pretend to know, the reason there’s such a thing as economic policy at all when there is no public policy in the fields of physics or botany, is because every economist is to some extent attached to the hunt for the monster that ravaged us in the thirties. We’re all out with our nets and blinds and rifles, looking for hair or footprint of this one society-destroying beast, or else we’re crafting those nets and rifles, or studying the behavior of our quarry, so that we may better stalk him.

So what to we know of this this creature? Much like Bigfoot, reports vary. When Ben Bernake says we’re on the path to full employment (as he astutely did in 2007) he does not precisely mean jobs for everyone who wants one, though that is more or less included. “Unemployment” in the sense of the word used by such Keynesian economists more generally refers to economic slack of all types. Statistically, if EVERYONE had a paying job, but numerous factories sat idle, implying waste in investment, this metric of unemployment would remain high, because it refers to ANY economic resources sitting idle, not exclusively to idle workers. This is consistent with the Keynesian worldview, which is associated with modern Liberalism because it provides excellent excuses for deficit spending and interventionism. The general idea is that economic activity in general must be maximized; human wants are regarded as unlimited (which is approximately so) and that they are satisfied by the output of productive processes guided by consumer spending (which is…roughly the case) and that mass poverty can only averted by mass employment in these productive processes (which is a credible desperate expedient).

This scheme has a couple of quirks to it, in spite of the credibility that has allowed it to guide or at least rationalize virtually all public economic policy worldwide in the past century. I’m not kidding, this shit is more popular than democracy. For instance, because the defeat of poverty is pursued through mass employment specifically, wars and natural disasters can be regarded as economic positives because they stimulate spending. Let’s think about that for a second: Economic activity itself (that is, manufacturing, buying, and selling) is regarded as so important that in the classic example, repairing a broken window is considered a net gain for the economy, not merely a restoration of the status quo. It is said that the money that is spent on repairing the window will go to the glazier, who will perform the work AND spend his payment on some other good or service, creating a chain reaction of economic activity which enriches the community. The original answer (provided by Frederic Bastiat) was that the money paid to the glazier had to be redirected from some other purpose, and so whatever “stimulus” the spending on repairs may be, we would have enjoyed it anyway through some other channel. The money spent is just a proxy for the work and savings of the spender, and a guide for the work and savings of the community. In the case of repairing a broken window, resources have to be directed towards maintaining the status quo which could have been directed towards improving it. If the number of windows broken radically increases in a community, it will be a very observable reduction in the wealth of the community because where they might have had many painters, mechanical engineers, framers, farmers, gourmet chefs, etc., all providing for the the basic needs of others but also improving their standard of living by providing more and more permanent fixtures of improvement or immediate, pleasant luxuries, we will instead have to train and support a huge number of glaziers merely to maintain our stock of windows. If major hailstorms constantly ravage the glass of a town, those townspeople will have an increased demand for glazing as opposed to all other trades; do you suppose this is what they would have wanted? That it is the dream of some is to put in a pool or maybe a playground for the kids, but the dream of those in this town was to have their wages constantly routed towards re-replacing their delicate windows? No, even with the increased spending, the wealth destruction by direct destruction remains absolutely as real as our gut told us it was. The town of hailstones is not a place anyone would want to live, because it is essentially lacking all the benefits that the talents and man-hours spent replacing glass could have done, if all those resources were in the market for life-improving goods.

But this brings us straight back to the question of unemployment; when a Keynesian says a broken window is a stimulus, or for that matter when he says (as he does) that saving money is a blight on the economy, he is taking for granted that the level of unemployment (of all resource types, remember?) is excessive. In his vision, the glazier is sitting there like the Maytag man, on the edge of starvation, because nobody is hiring him, while the window’s owner sits on a pile of money like Scrooge, impoverishing the community with his refusal to spend. And this is the real nature of the spending-first view: The perverse tendency to save rather than spend was even explicitly blamed by Keynes in his account of the Great Depression, on very specific terms. That is why a hurricane or a war is regarded as an economic positive: It actually forces an end to saving, because saving, in this view, is the devil. This also keys in with the Keynesian love for low interest rates, manipulated down by a central bank rather than allowed to find market equilibrium: Anything that can destroy the incentive to save is good, especially if it at the same time increases the incentive to borrow, which increases spending and offsets the reduction caused by those recalcitrant and benighted savers.

How do Free Market economists feel about this view? There aren’t enough spittoons in the world. As one Austrian put it (her name escapes me), “If destruction and rebuilding are so good for the economy, why do we wait for acts of God? Why not nuke our own cities, so then we could rebuild them?” But that is disturbingly close to the whole view that World War II ended the Depression; mankind engaged in wholesale destruction, and by doing so was able to escape from a nightmare of starvation. And that, however theoretically radical it may be, can be fairly called a mainstream view both within and without economics. It does seem tenable that the level of unemployment was indeed so high, that even digging huge holes and filling them in again, or demolishing cities and building them again, might be productive long-term because once the resources employed to do so (ie the savings and the goods and services purchased with them in the short term in order to fuel the war effort) were in motion, they remained in motion, becoming part of a circulating economy of desired goods once the war was over.

Over all this hangs a huge question however: Did the saving behavior really produce the Depression, or more generally, is saving really the strangler of the economy? It seems to me quite impossible that the Depression was a case like the Keynesian vision of the broken window; that is, of massive savings held on one side, causing a starvation of non-consumption and thus unemployment on the other. Keynes proposed in the thirties that crises cause people to react by attempting to save (roughly remembered:“…an increase in the marginal propensity to save in excess of the marginal propensity to invest”), producing what he called a Paradox of Thrift. All (or most) members of an economy simultaneously attempting to magnify their buying power by saving and deferring expenditure enter into a trap of mutually reducing each other’s income. Each person’s efforts to save are more effective in impoverishing our neighbor (under this theory) than in enriching ourselves, because we are also victims of the same effect of our neighbors’ saving behavior. Now, if I have understood this properly (and it is in doubt because Keynes, in my opinion, deliberately obscures his meaning in order to not collide with common sense when he proposes such massively counter-intuitive ideas) it is one of the greatest achievements of Twentieth Century self-deception. On the very face of it, it is impossible for people to behave this way long enough to produce a crisis remotely like the Great Depression. If the terrors of a war can be counted on to force savings out from under people’s mattresses and into circulation, cannot the terrors of starvation be counted on to do the same? If the Paradox of Thrift were the heart of the Depression, we would be able to look back on it as a time of low employment and high savings. Every family, even as they gleaned fields or stole or boiled up shoe leather to ward off malnutrition, would be at the same time hiding, perhaps under the bed, their share of the blame for the crisis, in the form of a large wad of cash which their irrational saving instinct drove them to hoard. Even as thousands of farms were foreclosed for loan payments missed, those farmers must all have, through the benighted habit of saving, refused to liberate and circulate their funds, awaiting the day the struggle with Fascism forced their hand. Until then, they were bound to endure dislocation, insecurity, homelessness, and outright starvation rather than escape the superstition that holds that saving money is necessary in a crisis.

Such a scenario is clearly laughable, and indeed I think no Keynesian would defend it as so stated; more likely they would either say that savings were concentrated in a few hands, or more likely, acknowledge the statistical hole in their theory, that is that savings simply were not high during the Depression. It was Milton Friedman who brought the issue of money supply to the forefront of this question, observing through a statistical analysis that the quantity of money in circulation in the United States shrank by one third in just a few years at the start of the Depression. One damn third. The magnitude of such a change alone would produce near-insanity in the mechanisms of the markets that depend on money prices to signal and coordinate. Without going into great detail on the innumerable ways a radical change in the money supply can destroy, consider this basic example: If the money available to pay for mortgages, rents, wages, and any other price set by a long-term contract is reduced by one third, then (at least) one third of all houses must be foreclosed, one third of all renters must be evicted, one third of workers must be laid off, etc. Prices will need to adjust downward by one third, an incredibly painful and resisted process. And of course, we will have absolutely all of the material, negative effects of the Paradox of Thrift, without its mythical side effect of wads of cash in every home. Spending will be reduced exactly as Keynes expected, but because consumers cannot spend, not because they refuse. The safety valve has been removed, the family’s desperation will never induce them to spend their savings, because they have no savings. It is a more intractable version of the same problem, and one consistent with the statistical facts (which were always the Monetarist strong suit).

Now the Keynesians propose treatments for this problem regardless, it is not unfamiliar to them, but the important thing is the issue of cause. If it wasn’t and generally isn’t the saving behavior that brings about recessions and depressions, then it is not the conduct of households, but the conduct of institutions, that is called into question. And indeed this is where Friedman placed the blame in his analysis: The conduct of the Federal Reserve. His opponents have countered that he blamed the Federal Reserve for failing to successfully manipulate the private banks, ie that his cure implicitly calls for more intervention by the government, though it faults the government for the crisis. This is really more ridicule than criticism, more mocking Friedman for hypocrisy against his Libertarian principles than actually finding unsoundness in his theory. If it is the duty of an institution to maintain a stable currency and credit system, it is not exactly an exoneration of that institution’s manifest failure to point out that the man prosecuting it and demanding that it perform its duties has a history of despising that same institution. They add blame to Friedman without removing blame from the Federal Reserve. In any case, Friedman was onto something; even if we hold that another primary mechanism produced our terrible decade than Friedman held, the perpetrator is inevitably among the crashing banks and lurching governments. With the elimination of the Paradox of Thrift as a suspect, the household is entirely exonerated. The individual spender, or the great mass of men who labor, in their leaderless, self-directed conduct of their own affairs, cannot produce in their blind panic the kind of financial crisis that the experts at the heads of the banks, or the central banks, or the Federal Government can and have worked together to provide.

This is a Distributist Free Market point, and I have deliberately left half of it a little vague because of the habit of debate about economics. For everyone in the field, the interesting question is where to fix the blame, between government agents who did too much, or did too little, or bankers’ errors, or bankers’ greed, or central banking’s excessive power. All of these potential suspects are really facets of the same thing, however: We have a fiat/debt currency, and a very advanced and thorough system for its advanced and thorough mismanagement. It is of little interest what element of that system destroys decades and lives, and the more academic and contentious become the disputes, the less interesting become their outcome, as wholesale amputation becomes more evidently sensible the greater the difficulty in finding the exact edge of the gangrene. I will confine myself to stating the obvious: If we had not a financial system capable of radical expansion and radical contraction, we would not suffer from radical expansion and radical contraction. Whichever fool gave us the Great Depression, he would have been utterly frustrated in his ambitions, had we not our vast credit machine.

What I’m proposing here is at minimum an abandonment of the fractional reserve system, which itself is primarily defended on Keynesian spending-first principles. Under the current system, any money deposited in a bank can be lent out multiple times, up to a mathematical limit, which causes the amount of money apparently in existence at any time to be many times what is actually printed or coined. To be clear, one dollar deposited in a bank empowers the bank to loan say, six dollars out. Under this system savings produces in increase in lending and debt; exactly as would be desired by a Keynesian who wants spending maximized and saving discouraged. However, it should be obvious that because the very existence of a large portion of the funds in circulation depends on the continued credit-granting behavior of the banks, any reduction of lending (as in a banking panic) produces a contraction of the total money supply, the very phenomenon Friedman blamed for the Great Depression. Essentially we have placed the sureness and stability of the money supply itself in the hands of the bankers, then supported and coddled them with things like deposit insurance and the helpful behavior of the central bank (the Federal Reserve) because we may have realized that we had entrusted them with an excessive level of power. Yet there was a somewhat sound rationale behind this system, as opposed to the constitutional method of simply having the Treasury coin and print a currency. That rationale was to isolate the creation of money from the concerns the federal budget; to prevent Congress from being tempted to expand the money supply just to fund its pet projects and thus devalue the currency of the public. We were right, so far is it goes, to deprive Congress of the power of at-will creation of money. We were wrong to entrust it to anyone else. ANYONE else. It is a power that should not exist at all, like torture or censorship.


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