Sweet 16

TreasuryDirect is reporting that the US government debt has now surpassed $16 trillion.  It only took 290 days to amass another trillion dollars of debt (an average of $3 billion per day).  It is inconceivable that the US government will be able to ever repay its obligations, with a US dollar worth anything close to what it is today anyway, and the picture is much, much worse if unfunded future liabilities are included.

Delaying the pain

Why to parents allow their children to get shots?  No one likes to see their child in pain but those that choose to vaccinate do so because they believe that the shots will ward off a potentially far worse disease or illness.  Government over the past many years has not owned up to the fact that as a country we need to take our medicine and unfortunately the longer we put things off the more painful the recovery.

I recently saw the following headline from CNSNews.com

“Labor Dept. Attempts to Stop Layoffs by Giving $100 Million to States to Subsidize Payrolls”

This so-called “work-sharing” legislation was passed as part of the payroll tax deduction and unemployment extension bill that was passed by the house and senate before being signed into law by the president.  Under this program employers pay their full time employees for part time work and the government bridges the gap between this part time pay and their full time pay.  How does such a program help anyone over the long term?

As I have attempted to emphasize in a number of posts, I am not in any way minimizing the human cost.  All of those who might be laid off would be a huge and unpleasant upheaval in their lives.  I would argue, however, that these people would be in a much better place in the long run if they were employed in productive areas of the economy.  This plan, if implemented, will just distort the economy and pull resources away from

Time and time again governments attempt to legislate their way to prosperity – how ridiculous.  Instead they should stand aside and allow the free markets to work.  There will be pain as necessary adjustments are made, however, the growth a truly free market could bring would elevate us all to a higher standard of living.

A different choice

While I definitely do not agree the conclusions he often seems to draw (as an aside, how does more government solve problems caused or incented by government in the first place?) I enjoy the stories Michael Lewis tells in his writings.  Anyone able to write a truly interesting book that deals with collateralized debt obligations and mortgage backed securities (The Big Short) deserves praise.  In Boomerang Mr. Lewis humorously examines financial crisis in countries outside the United States. Iceland was once such country highlighted.  Very different from many other countries in the word and much to the angst of the UK and others, Iceland refused to bailout its banks in the financial crisis.

Boomerang was published in 2011 and recently The Telegraph ran an article on the current state of the country's economy.  The article highlighted how quickly Iceland's economy has rebounded following the collapse of 2008 especially relative to other countries.  While I am not a fan of the IMF the main point of the article is that Iceland paid off $484M in loans (after paying off more than $900M in March).

We hear horror stories in the mainstream media about how bad things would have been / would still be if we did not bail out banks (and unmentioned the continuing bailout via the fed maintaining ultra low and no and implicit guarantees).  To be sure allowing banks to fail would indeed be painful for all those who have lent money and owners of stock (hello U.S. government) would see their investment wiped out.  Undoubtedly there would even be broader repercussions that might impact some businesses and some individuals.  However, similar to Iceland's experience, the sharp and painful contraction would be followed up by growth an prosperity.  Growth and propriety built on the back of savings and investment that truly grow the wealth of a nation - and without the moral hazard of bailouts.

Bring back the draft

I ran across a deeply disturbing article in the NY Times by Thomas E. Ricks in the Opinion pages.  While I have seen at least two other commentaries I wanted to add my voice in opposition as well.  In the article Mr. Ricks calls for re-establishing a draft for those coming out of high school with the following three “choices”:

• 18 months of military service doing “paperwork, painting barracks, mowing lawns, driving generals around, and generally doing lower-skills tasks so professional soldiers don’t have to.”
• Civilian national service for a longer duration “teaching in low-income areas, cleaning parks, rebuilding crumbling infrastructure, or aiding the elderly.”
• Libertarians could opt out with the caveat of “no Medicare, no subsidized college loans and no mortgage guarantees.”

To be clear I am sure the libertarian option does not mean not having to pay in to these terrible government programs – if so I am sure the line would stretch for miles.  With regard to the other two “options:” conscription to forcibly make members of our society serve the government?

Perhaps I missed a joke.  Could someone truly advocate such a position?  Can someone really believe that the government can/should determine how young people spend 18 months of their lives?  What arrogance.

As a complete aside that ignores the moral implications to this evil idea, can you imagine the attitudes of those forced into these menial jobs?  We think governments are inefficient now, I can only imagine how inefficient it could become when staffed by a bunch of 18 year olds that don’t want to be there.  Would you leave your children with people who are forced into the job of offering “free universal day care?”  Run, don’t walk, away.

After reading the article it certainly seems to me that Mr. Ricks perhaps is not comfortable living in a (somewhat) free country, though at the ever increasing rate at which we are losing freedoms here in the U.S. perhaps Mr. Ricks will be comfortable here sooner rather than later.  Scary.

Fractional Reserve Banking - Waiting to fail

CNBC recently ran an article highlighting the fact that as part of the Dodd-Frank financial legislation financial institutions deemed to big to fail were required to create "living wills" that would document how a bank would be split apart if they were to run in to trouble.  I find this a bit amusing because banks are all basically insolvent.

U.S. banks, and most [all?] banks worldwide today operate as fractional reserve banks meaning that at any given time the bank does not have on hand all of the money they have accepted as deposits.  The banks, of course, are using deposited funds to generate revenue, most commonly in the form of loans or one sort or another.

The U.S. Federal Reserve establishes minimum deposit reserves depository institutions must hold against deposit liabilities.  In its wisdom the Federal Reserve has decided that reserves as low as 3% are acceptable (0% for nonpersonal time deposits).  So for every dollar you deposit with your bank they may be able to hold as little as $0.03 in reserve.  In 1993 the Federal Reserve published a report on the history of reserve requirements (PDF) which shows that in 1913 the required reserve was as low as 12%.  So from 12% down to 3% - I feel safer already.

We have government leaders pretending to be worried about the soundness of our financial institutions and yet we have a regulatory arm of the government (yes, I know the Federal Reserve is not technically a government institution) that has lessened the safety of our banks over time.

In the U.S. with the FDIC depositors are "insured" against losses of up to $250K. Ironically, though typical when government gets involved, depositors have absolutely no incentive to choose the banks that are the most sound for their deposits, rather other factors will come into play (interest rates, fees, ATM, access, etc.).  Given freedom consumers or "the market" over time would determine what level, if any, risk depositors would be willing to accept with institutions with whom they entrust their money.

Living wills - looks like we need to implement now.

Land of the Perpetual Crisis

On Friday, June 29th coming out of yet another summit Euro-zone leaders announced the ECB will be able to directly help banks (rather than funneling money through national governments) and over time a tighter monetary integration for the EU.  Markets around the world were up significantly immediately after the announcement - the Dow was up over 2%.

No problem was really solved.  The banks in Spain, Italy and Portugal (and many other Euro countries) need massive amounts of capital to remain solvent.  Furthermore Euro area countries continue to spend more than they bring in in revenue.

This most recent crisis primarily impacting Spain, Italy and Portugal may be past, however, the EU is on an unsustainable path and will face crisis after crisis until the fundamental debt problem is solved.  As the The Telegraph pointed out a couple of weeks ago all of the (now innumerable) bailouts and plans announced in Europe are simply loans in one form or another to one entity or another.  Loans that require the borrower to pay back with interest (though admittedly low interest).  What happens when those lending money begin to demand more for the risk they are taking?  What happens if the ECB truly turns on the money printing spigot and inflation really kicks in?

So the (badly dented) can was kicked a bit farther down the road.  While I am not optimistic hopefully governments around the world begin to recognize that spending money they do not have is not the way to build wealth and prosperity.  If they do not come to realize this on their own at some point the markets will force them to confront this reality.

Of course this discussion focused on Europe.  Arguably the US is in worse shape and at some indeterminate point in the future creditors will wake up to the fact that the U.S. has no chance of paying back its debts (or at least no chance with the dollar worth anything close to what it is today).

Uneqal access to debt - a problem?

Last week the WSJ ran an article: Fed Wrestles With How Best to Bridge U.S. Credit Divide.  The article talks about how many consumers are unable to take advantage of low borrowing rates created by the federal reserve.

Ignoring the fact that the artificial rate manipulation by the Federal Reserve simply sends the wrong signals to the market, it is hard to even begin to comprehend the absurdity of the message of the article.  Are we really supposed to believe that those people that have handled credit poorly in the past should somehow be qualified for lower rates today?  Did we not learn anything from the housing bust: too much credit granted to those unwilling to pay creates problems.  How can higher rates be considered a problem?  Unfathomable.  Higher rates are the market's response to higher credit risk.  Sometimes I wonder why I even bother to read the WSJ when such absurdity is printed.

Yes, higher rates man reduced demand from loans, but we must learn and understand as a nation that it is producers, not consumers that lead economic growth (see here) and piling on additional debt in a nation awash with debt is not a sustainable way forward (see post from last week).

Outstanding consumer credit outstanding per the U.S. Federal reserve has remained relatively consistent since 2007 between $2.4 and $2.5 trillion.  

Adding additional debt on top of $2.5 trillion in consumer debt is not going to help anyone in the long term, especially not consumers.  The federal government with no power to generate revenue except via theft (again, see last week) is even worse shape with $15.8 trillion in debt as of 6/21.

So instead of the Fed talking about bridging the "debt divide" perhaps as a nation we should confront the debt mess in which we find ourselves.  People that have handled debt irresponsibly need to face the consequences (as do the lenders who lent the money).  Consequences to actions will create change.  Allowing banks to fail will create the necessary market incentives for the remaining banks to make sure they are more responsible.  Of course this brings up the idea of fractional reserve banking which is a topic for another day.

Land of the free?

Yesterday we learned that the Federal Government can mandate that each of us carry health insurance.  The government can force me to engage in commerce.  I find it comical that the mandatory insurance provision could be enacted because it is a “tax” and not a “penalty”.  Really, a word change that amounts to the same end result really makes a difference?  Of course President Obama strenuously objected to anyone calling this a tax, he insisted it was a penalty (thus fulfilling his pledge not to raise taxes on the middle and lower income classes, I guess he didn’t pledge not to raise penalties).

While disappointing this was not too terribly surprising.  The government continues its power grab at the expense of liberty and this is just one more example of many.  Perhaps this will serve as a useful wake up call for the American people?

Now we can anticipate many of the outcomes in the years to come with regards to healthcare:

1. Costs will continue to soar
2. Choice will be further restricted
3. Quality of care will decline (perhaps the USPS could provide customer care training to the industry?).
4. Without the price mechanism rationing will develop in one form or another.
5. In response the government will blame the bits and pieces of the free (relatively) market that still remains in healthcare and aim to insert itself even further into the process.

Just confirms that the government that limits itself really has no limits.

Growing through debt?

To expand on last week's post the money for government spending can come by 1 of 3 means:

1. Financed by taxation (i.e. theft)
2. Financed by debt (i.e. theft from future generations)
3. Financed by printing money - inflation (i.e. hidden theft by devaluing the money supply)

Speaking more broadly than just governments, there is no doubt that debt spending by consumers or by the government will benefit those who receive the spending, does anyone really believe that such spending will really benefit the greater economy over the long run?  Can anyone truly believe that if consumers were just willing to spend more by taking on more debt the economy would get back to solid footing?  If only the U.S. government with trillions of dollars in debt that will never be repaid (or at least never repaid with dollars worth anywhere near what they are worth now) would only borrow and spend more money somehow we will all be better off?

As a nation we have a debt problem.  More of the problem will only make things worse not better. 

Ideally we repudiate the debt we will never repay sooner rather than later.  We let banks fail.  We let the unproductive sectors of the economy go under - those sectors of the economy that have been propped up with government intervention.

To be clear this will not be a fun process and many people will suffer as the economy clears the years and years of malinvestment.  However, over the recent past we have first hand experience with the expansion of the monetary system has wrought with the inflation and then bursting of the dot com bubble followed by the real estate bubble.  We have seen how this movie ends, we do not need another bubble to inflate and then burst.  The Austrian business cycle theory teaches us that these types of bubbles are not caused by the free market but rather by government interventions in the market.

So rather than repeat the same mistakes of the past how about we try something completely different?  How about we give a free market a real test?  How about we remove the shackles imposed by governments and see what an unhindered market can do?  Certainly there will be pain as markets clear but the innovation that would be unleashed would generate true prosperity and growth.

Creating versus consuming

Most governments the world over and Keynesians of all stripes would have us believe that consumers drive the economy and during periods when consumer demand lags governments are needed to step in and spend to "save" the economy.  However, Austrian economics teaches that it is not consumers consuming that generates wealth for a society but rather producers.  Steve Jobs creating must-have gadgets never before seen (or at lease never seen in with the combination of aesthetics, software, and overall user experience) makes society better off.

The US government would have us believe that when the government spends money it is a net positive to the economy - even factoring in government spending as part of GDP calculation.  By definition, however, all government spending really does is take by force from one person and give to someone else.  Even worse, though, there is a huge layer of inefficient bureaucracy between the one who had a portion of his wealth taken by force and the one who received the benefit of this wealth transfer. 

Governments take but entrepreneurs create.  Government spending acts as a drag on the economy and leads to miss-allocation of resources.  Innovative thinkers and producers create capital stock in an economy, capital stock that creates real wealth and leaves everyone better off.  I say we cast off the inefficiencies of governments (see here, here, here and here) and leap to the unknowns of a free market economy.

Learn More
Visit mises.org with a enormous wealth of resources on Austrian economics.  Robert Wenzel of Economic Policy Journal recently had a post with 30 readings for learning about Libertarianism.