The Economics Reinvented Group.
They asked me for input, for which I am honored. I have some questions indicating I have not grasped what they are saying, and am hereby requesting clarification. Quotes from anyone in italics, Smiling Dave in regular font.
1. Give & Take Economics redefines the model of how individuals make decisions. It replaces the idea that they solely balance external prices and quantities in a scarcity-driven trade-off with the notion that they make an internal psychological trade-off of how much cost they’ll bear to obtain benefit. On this intuitive foundation, decisions are modeled with a pragmatic Leaning X diagram. The theory goes much further however, to also redefine the way individuals interact with each other. It expands the classic supply and demand curves into give and take curves, which places all social agreements (including economic transactions), within this context of individuals mutually balancing personal total cost (PTC) and personal total benefit (PTB). [Source]
I’m not sure what exactly is new or different in their basic approach from that of AE [ = Austrian Economics]. Didn’t Mises already write that people act to better themselves, doing what they think will get the job done? Didn’t he already write that bettering yourself doesn’t have to mean have more money? Aren’t the concepts of opportunity cost and risk used all the time by Austrians?
2. This new framework has major implications. It makes equilibrium impossible and explains how booms/busts and fads/counter-fads occur—something that current theories can’t address.
I thought AE gives a very nice account of booms and busts. And their explanation is mysterious. All it says, as I grasp it, is that the lemmings decide to run in one direction, because they think they’ll make money, then decide to run in the other direction. I don’t see where there is any predictive value in this explanation.
AE, on the other hand, does predict business cycles, to a certain extent, in that it claims that whenever you get a huge increase in the money supply, a boom followed by a bust is sure to happen within a few years.
So my questions are, what do they see wrong with AE’s explanation? What is the predictive value of their explanation?
3. Rothbard critiqued this lemming theory long ago. May as well quote him, from America’s Great Depression:
Overoptimism and Overpessimism
Another popular theory attributes business cycles to alternating psychological waves of “overoptimism” and “overpessimism.” This view neglects the fact that the market is geared to reward correct forecasting and penalize poor forecasting. Entrepreneurs do not have to rely on their own psychology; they can always refer their actions to the objective tests of profit and loss. Profits indicate that their decisions have borne out well; losses indicate that they have made grave mistakes. These objective market tests check any psychological errors that may be made. Furthermore, the successful entrepreneurs on the market will be precisely those, over the years, who are best equipped to make correct forecasts and use good judgment in analyzing market conditions. Under these conditions, it is absurd to suppose that the entire mass of entrepreneurs will make such errors…The prevailing optimism is not the cause of the boom; it is the reflection of events [=money printing] that seem to offer boundless prosperity.
There is, furthermore, no reason for general overoptimism to shift suddenly to overpessimism; in fact, as Schumpeter has pointed out (and this was certainly true after 1929) businessmen usually persist in dogged and unwarranted optimism for quite a while after a depression breaks out.[30] Business psychology is, therefore, derivative from, rather than causal to, the objective business situation.
My question is, how do they reply to Rothbard’s critique?
4. It also produces a powerful tool that we can use to immediately determine the effectiveness of policies and institutions—coupling analysis—based on the notion that most social problems result from social coordination failure, where PTB and PTC are decoupled across individuals and populations.
I agree with this. But isn’t it a well known concept, what economists call moral hazard? In short, if you are gambling with other people’s money, you will take wild risks. My question is, what is new here?
5. Decoupling results primarily when populations disengage enough to allow the formation of powerful intermediaries (including government and business); a situation that has resulted in our current strained models of capitalism, socialism and representative democracy.
Indeed, the problem with socialism and democracy is that you give one group control of another group’s money. But how did capitalism get in that list? And why do you say capitalism, aka a free market, is strained? If you hang around the msies.org website long enough, you’ll see how govt meddling [an unfree market] is the underlying cause of economic strains.
Summing up, I think these guys have their hearts in the right place. I think they do identify many problems the main stream pooh-poohs. They are not the guys you’ll see Smiling Dave attack mercilessly, like the many hacks and frauds that abound. But I do think their theory, and certainly all their conclusions that differ from AE’s, have some ‘splainin’ to do.
Reddit to the Rescue of Phony Checks.
Over at reddit a person called nickik has come to the defense of Horwitz, or more accurately, of so called “free banking”, meaning of allowing banks to write checks for money they do not have. [My article against it is here]. The ideas he presents deserve a response. I’m not sure why, but he spells things rather oddly sometimes, for example, writing “then bugs” for “ten bucks”. To put the best face on his argument, I am going to correct those mistakes on my own when quoting him. I also insert a word or two in brackets sometimes. [All the bracketed stuff is from me]. Finally I will replace some words with more refined synonyms, in keeping with this blog’s high standards. You can always consult the original by going to the link provided above.
As always, quote from others get italics, I get the standard font.
Nickik’s first line of defense is that since everything is voluntary every step of the way, there’s nothing wrong with it:
So if I promise you to give you $10 when you hand me a slip of paper that says “I give you ten bucks when you give me this paper” and other people VOLUNTARILY use that as a medium of exchange because they accept it as money because they believe that I will actually do that, it’s absurd [to condemn such a practice]. It’s all voluntary interaction; nobody was forced or in any way cheated.
Everything he says is right except for the very last word, cheated. True, nobody was forced. But plenty of people were cheated.
The thing is, just because someone voluntarily agrees to something doesn’t mean he wasn’t swindled. In fact the best swindles and frauds use no coercion whatsoever. If A sells B a pill that relieves headaches in the short run, but causes a gruesome painful death 24 hours later, I think we can agree that A is defrauding B if he sells him that pill as a headache reliever [making no mention of its awful side effects], even if the sale was voluntary.
In my humble article I proved logically, step by step, that when a bank writes checks for money that doesn’t exist, that it causes inflation and hyperinflation. Neither nickick nor anyone else has refuted this. [Although George Selgin once defended it by saying the inflation and hyperinflation caused by “free banking” only happens once per check written. My response is that the pickpocket, too, only picks your pocket once]. The fact that most people do not understand they are being robbed of their purchasing power by this practice does not make it OK.
To better see what’s going on, let’s apply nickik’s reasoning to the Wiemar Republic. The govt of Gemany between the world wars printed oodles and oodles of money, spent it on things it wanted, and thus directly caused hyperinflation which ruined the lives of millions. [Many claim that the poverty and hunger they caused was directly responsible for the rise of Adolf Hitler, and thus the deaths of tens of millions of people world over, but we can put that aside for now. Impoverishing a whole country is bad enough]. Nickick would argue that’s it’s all honkey dorey. People voluntarily accepted the newly printed money. Nobody was cheated, he thinks. The inflation and hyperinflation caused by that money printing is perfectly all right.
The govt printing money and banks writing checks which are accepted as money by everyone are basically the same thing. In both cases, someone increases the money supply. The banks increase it tenfold in the United States. In other words, nockik is providing a defense of knowingly causing hyperinflation, because nobody is smart enough to protest, and that makes it OK.
Nickik continues his defense of inflating the money supply:
I’ll give you a quick example. If I want something from you and I don’t have money, I might offer to give you a McDonald’s coupon. You accept that coupon because you are reasonably sure that in a couple of days McDonald’s will still exist, but you know that there is a small chance that McDonald’s defaults before you get to use the coupon.
Now why should it be illegal to voluntarily trade such coupons?
What should be illegal is not trading in the coupons, but printing them in the first place, if by so doing it will create inflation and hyperinflation, as fractional reserve banking inevitably does. The reason we see nothing wrong with the McDonald’s coupons is because, relative to the economy as a whole, they are a drop in the ocean. Also, almost nobody will actually accept those coupons as money. I’ve had those things many times and allowed them to expire for lack of interest, or given them away to total strangers who asked me politely for them.
Nickik continues:
I give you another one, if McDonalds can provide 1 Million burgers per day and the give out 2 Million coupons for burgers, should it be illegal for them to do so because right at that moment they could not handle it if all people wanted burgers at the same time?
Maybe, maybe not. I have an open mind about it. But the point is, those coupons do not increase the money supply, and thus do not cause inflation and hyperinflation.
I’ll just summarize the rest of his post in my own words. He says that farmers in the old days sometimes needed to borrow money, and it was the banks that came through, printing up checks for nonexistent money, that saved the farmers.
What can I say? Farmers have been around way before banks gave out phony checks, and somehow always found a way to borrow money.
J.B. Say Rises From the Grave to Refute Steve Horwitz.
Part one here. The gist: Steve Horwitz wrote an exposition of Say’s Law that mixed in cheerleading for banks printing money. In Part One, I pointed out some flaws. Here are some more. Quotes in italics, my comments in normal font.
Because all market exchanges are of goods or services for money, all markets are money markets…
Yes, you could say that. Let’s see what he concludes from it.
…and the only way there can be an excess supply or demand for goods is if there is an opposite excess supply or demand for money.
Non sequitor.
To illustrate, say a reader of this humble blog gets very enthusiastic about Smiling Dave. He is certain that Dave will go viral, and that there’s a lot of money to be made marketing Smiling Dave. So he spends millions investing in Smiling Dave T-shirts, stationary, smiley buttons, and the Little Blue Book of Dave’s Pithy Sayings.
One day Dave visits his fan. Fan looks glum. Tapping Fan’s shoulder and muttering “There, there” is Steve Horwitz.
“What happened,” asks Dave? “Why so glum, Fan?”
“I’m broke. Nobody is buying my Smiling Dave gear.”
“But why?” asks Dave.
“There’s a new fad on the internet, Scowling Stan. Scowls are in, smiles are out. Woe is me.”
Dave looks it up on the internet, and sure enough, Scowling Stan is hot. Scowly shirts and all things scowl are selling like hotcakes.
“Looks like you malinvested, Fan. You guessed wrong about the market.”
Steve Horwitz looks up. “That’s not what hapenned at at all,” he says. There is just an excess demand for money. That’s why there is an excess supply of Smiling Dave stuff.”
“Wait, what? Are you really saying that, Steve?”
“Sure am. Why don’t you quote me a little more, for real? From my analysis of Say’s Law.”
“OK.”
Take the more obvious case of a glut of goods [= too many Smileys], such as one might find in a recession. Say’s Law, properly understood [= the way I, Steve Horwitz, properly understand it], suggests that the explanation for an excess supply of goods is an excess demand for money. Goods are going unsold because buyers cannot get their hands on the money they need to buy them despite being potentially productive suppliers of labor.
I mean, seriously.
Now, don’t think I was smart enough to make up the case of Scowly Stan on my own. The idea of malinvestment is from Mises. Readers of Mises.org know all about it, how Mises claims it is the cause of recessions [not Horwitz’s idea of buyers not being able to get their hands on money because everyone has suddenly pushed their cash under a mattress, which never happens], and how it is the basis of ABCT [=Austrian Business Cycle Theory]. Steve Horwitz knows all this, and claims to understand it and believe it.
Furthermore, Say originally wrote his Law precisely for the purpose of refuting Horwitz’s notion. Horwitz is not the first to come up with it. Ignorant people back in Say’s time were making the same mistake. So Horwitz is basically claiming that the “properly understood” version of Say’s Law is the denial of Say’s Law. Hello, Bizzaro World.
Here’s Say himself speaking. It’s from the famous Chapter 15 of his book, and he’s laying out the background before he enunciates his famous law [all emphasis mine]:
OF THE DEMAND OR MARKET FOR PRODUCTS.
It is common to hear adventurers in the different channels of industry assert, that their difficulty lies not in the production, but in the disposal of commodities; that products would always be abundant, if there were but a ready demand, or market for them. When the demand for their commodities is slow, difficult, and productive of little advantage, they pronounce money to be scarce; the grand object of their desire is, a consumption brisk enough to quicken sales and keep up prices. But ask them what peculiar causes and circumstances facilitate the demand for their products, and you will soon perceive that most of them have extremely vague notions of these matters; that their observation of facts is imperfect, and their explanation still more so; that they treat doubtful points as matter of certainty, often pray for what is directly opposite to their interests, and importunately solicit from authority a protection of the most mischievous tendency.
There you have it. The whole reason Say wrote his law in the first place is to show why Steve Horwitz is wrong.
Let’s gild the lily and set up an imaginary dialogue between Steve Horwitz and J. B. Say, using actual quotes from each in italics, and made up quotes in normal font:
Steve: Say’s Law, properly understood, suggests that the explanation for an excess supply of goods is an excess demand for money. Goods are going unsold because buyers cannot get their hands on the money they need to buy them…
Say: When the demand for their commodities is slow, difficult, and productive of little advantage, they pronounce money to be scarce.
Steve: Glad you properly understand your own law, J. B. I see we are on the same page. Money is scarce, buyers cannot get their hands on money, that’s what causes recessions.
Say: Your opinion is precisely the one I think is wrong. I wrote of those who blame recessions on scarcity of money that their observation of facts is imperfect, and their explanation still more so. The whole point of my law was to show why your explanation is, to put it mildly, “imperfect”.
Steve: Yes, that’s what you wrote, and it’s wrong. You don’t properly understand your own stupid law.
Why did you hide this in your article, Steve? Why didn’t you write that Say didn’t even understand his own law?
The rest of the Horwitz article is just more in the same vein.
What is a Medium of Exchange?
Someone over at reddit linked to Bob Murphy’s discussion on bitcoin. He points out that Bob at around the 26 minute mark uses “medium of exchange” to mean one person making one trade. He says this refutes my assertion that medium of exchange means tons of people using it.
Here’s my reply.
Bob makes several mistakes in that off the cuff, unprepared “ramble” [=his description].
First he claims that in Money and Credit Mises is giving a history lesson. I refuted that long ago, quoting exactly where Mises writes that he is not writing a hsitory lesson about gold, but about every money that exists, will ever exist, and ever existed: https://smilingdavesblog.wordpress.com/2011/12/21/was-mises-regression-theorem-a-mere-history-lesson/
Second, he claims that according to the regression theorem [if it is not a history lesson], it is impossible for even one person to use bitcoin as a medium of exchange. This is patently false. Murphy forgets the adage that there is a sucker born every minute. There are enough fools and suckers out there to make anything possible, on a small scale and for a short length of time. I have a long list of things that were used as money, not just a medium of exchange, for a short time and on a small scale. And they all collapsed for the very reason that Mises pointed out in the regression theorem: https://smilingdavesblog.wordpress.com/2012/10/07/bitcoin-and-the-numbers-game-part-2-in-which-we-shew-that-bitcoin-has-never-not-even-once-been-used-as-a-medium-of-exchange/
But I will be honest and say that the phrase “medium of exchange” is used in two ways by economists. Sometimes it is used the way Murphy did, to mean a one-off use by one person. I have pointed this out in the forums and on my blog.
But let’s have a look see at this quote from Timothy Terrel [=associate professor of economics at Wofford College in Spartanburg, SC, and an adjunct scholar with the Ludwig von Mises Institute], who writes:
One of the consequences of the regression theorem is that money must arise from a commodity already in general use. If there is no nonmonetary use for the good, it will not develop the widespread demand that must precede its use as a medium of exchange. As Mises’s student Murray Rothbard wrote, money “cannot be created out of thin air by any sudden ‘social compact’…”
Widespread demand before it can even be a medium of exchange? All it takes is three people willing to use it one time, a la Bob Murphy. Whatever can this adjunct professor with the Mises Institute possibly mean?
Obviously, he understands “medium of exchange” to mean “non trivial medium of exchange”. Which is the way I use it, as well.
Bitcoin can only become a money in the future of it at first “in general use“. It must have a “widespread demand” before it is used as a medium of exchange, if by medium of exchange we mean non trivial medium of exchange.
But really, it’s just a question of semantics. Whether the phrase “medium of exchange” includes the concepts of being in general use with widespread demand, and whether it doesn’t, is of no importance. What does count is that in order to have a chance at ever being money, the thing in question “must arise from a commodity already in general use. If there is no nonmonetary use for the good, it will not develop the widespread demand that must precede its use” as money. We have explained why this is many times on our humble blog. Do a search for bitcoin.
A New Misunderstanding of Say’s Law.
I love Say’s Law, as much as Keynes hated it, and for the same reason. If you accept the validity of Say’s Law, all of Keynes’ work can be tossed in the garbage. Which is why he worked so hard, albeit fruitlessly, to refute it.
One Steve Horwitz wrote an article infusing his own controversial [and in my opinion, incorrect] views and making believe they follow from Say’s Law. Once again, Smiling Dave to the rescue.
What is Say’s Law?
Put simply, Say’s Law says something everyone has to agree with. One doesn’t have money to spend unless one worked to make the money in the first place. It’s that simple. Say made it even simpler, taking money out of the scheme. You cannot trade with someone and have him agree to give you his cow, for example, unless you offer him something in exchange for the cow. And you cannot offer something in exchange, for example a chair or some apples, unless you have first been productive and actually made a chair or grown those apples.
In other words, the ability to buy stuff comes from being productive. Without being productive, you will get nowhere. Say drew the obvious conclusion from this, which Keynes hated:
The same principle leads to the conclusion, that the encouragement of mere consumption is no benefit to commerce; for the difficulty lies in supplying the means, not in stimulating the desire of consumption; and we have seen that production alone, furnishes those means. Thus, it is the aim of good government to stimulate production, of bad government to encourage consumption.
We have written many times about Say’s Law in our humble blog. Among other things, we discussed how Keynes both perverted the meaning of the law and tried to avoid the above inevitable conclusion. In fact, the previous article addresses the latter point.
In this article we will discuss what Steve Horwitz thinks Say’s Law implies, and why he is wrong. Lest I be accused of taking him out of context, I’ll quote at length, with the usual snarky comments. As always, all quotes are in italics, all regular font is me speaking.
Because all movements between supplying and demanding have to take place through the medium of money, it is somewhat oversimplified to say that production is the source of demand.
That is the first thread of the tangled web of misunderstanding Horwitz is about to weave.
First of all, no movement HAS to take place through the medium of money. There is such a thing as barter.
Second, what he writes is like saying that because LeBron James’s movements between jumping high in the air with the basketball and throwing it down for a slam dunk have to take place through the medium of wearing a T-shirt, it is somewhat oversimplified to say that jumping high in the air is the source of a slam dunk. Let’s not forget the T-shirt.
Actually demanding products requires the possession of money, which in turn requires a previous act of supply.
Again, the simple act of barter refutes him. No money needed.
We sell assets or labor services for money, which we then use to demand. Money is an intermediate good that enables us to buy the things we ultimately desire.
Not quite. Money does not enable us to buy things. It makes it easier to buy things. Horwitz is making a big deal out of money, giving it bloated importance.
However, we have to be careful to remember that what enables us to purchase is not the possession of money, per se, but the possession of productive assets that can fetch a money’s worth on the market. When we sell that asset (or our labor services) we receive wealth in the form of money. As we spend that money, we demand from the wealth our production created.
Here he backtracks. It’s not oversimplified at all to say that production is what gives us purchasing power. But one wonders. Is this the calm before the storm? Will this be followed by a whopper?
However, because we do not spend all of our wealth that we temporarily store as money, but choose to continue to hold some of it in the monetary form, the demand for current goods and services will not precisely match the value of what has been produced, as some money remains in the producers’ possession.
Sure enough, there it is. The whopper. Actually, it’s the whopper junior. The demand for current goods and services will not precisely match the value of what has been produced, thanks to money. In a barter economy, where there is no money, implies Horwitz, everything is precise down to the last decimal point. What is produced is matched precisely by demand. Nature knows precisely how many potatoes people want. The tailor knows precisely how many wedding dresses to make this year. Nobody makes any mistakes whatsoever. It’s the existence of money that ruins this atomic clock level of precision, is what Horwitz seems to be saying.
I’m not buying it, for the following reasons.
First, supply does not have to precisely match demand for an economy to thrive. As long as there are profits even after the losses from imprecision are accounted for, all is well.
Second, there are imprecisions in the matchup between supply and demand for many, many reasons. Why pick on money as the scapegoat?
Third, let’s see a little praxeological reasoning, or some research, to prove that imprecisions from money hoarding are non trivial. We are talking about an economy of trillions of dollars, 90% of which only exists in the form of digital money in bank accounts, which is of course not hoarded at all, but used by banks. Of the ten percent which is cash, how much of it is hoarded under a mattress? A billionth of a percent? Less? Henry Hazlitt claimed that the amount is trivial, and provided research to prove it.
Thus it looks as though, given the existence and use of money, Say’s Law, even rightly understood, leaves open the possibility that aggregate demand is insufficient to purchase what has been supplied.
Thank you for repeating your mistake. Because even without the existence of money, there is the possibility, nay the almost certainty, that aggregate demand is insufficient to precisely purchase what is supplied, as we just explained. The word precisely is left out this time around. First, we are told demand does not precisely match supply in a money economy. Then we are told demand is insufficient to match supply, subtly implying a big fat insufficiency. But that’s only hinted at for now.
However, if the monetary wealth is stored in the form of bank-created money, such as a checking account (but not Federal Reserve Notes), then that withheld consumption power will be transferred to those who borrow money from the bank that created it.
Here he is agreeing with the point we made earlier, that nobody hides money under their mattress anymore. They put it in a bank, where it is moved around until somebody spends it.
But he doesn’t let it go at that. He inserts a remark that if the money in the bank is actual Federal Reserve Notes, AKA paper dollar bills, then that’s bad. Then the money won’t be spent. It may as well be under the mattress, because every time you give a bank cash, it is hoarded in the vaults, never to be seen again. The banks never, ever, give anyone cash for any reason, is the implication, even if they have it right there in the teller’s drawer.
But banks hand out cash all the time, every single day. Even when the bank is closed the ATM machines are working non stop. In theory, cash and checks are identical.
Now maybe he means that the banks are required by law n the United States to keep a certain amount of cash in reserve, and that’s why he considers cash in a bank as hoarded.
But if he means that, he is refuted by simple arithmetic. By law, for every paper dollar you put in a bank, the banks are allowed to spend nine new dollars of imaginary money. Far from decreasing demand when you put paper money in a bank, you increase it nine fold.
There is another huge problem with this paragraph, and that is the implied acceptance of theft as economic policy. He talks about “bank created money” as if it is some neutral concept. More, he is implying that it’s a good thing, since it increases demand. But in reality when a bank “creates” money, it is stealing money.
I mean, why can banks “create” money, but you and I cannot, and it’s called counterfeiting? What is the magic difference? The answer is, of course, that there is no difference. When anyone [including the govt] “creates” money, they are increasing their purchasing power, obviously. Meaning they can outcompete you and me and everyone else for scarce goods and services, with money they did not work for. They just “created” it. I call it theft, plain and simple, because that’s what it is. To understand this more deeply, have a look at my humble article here. [I talk about the govt printing money there, but the idea is the same when banks “create” money].
The money I leave sitting in my checking account is the basis for my bank’s ability to lend to others.
Since he is talking about “bank created money”, meaning money stolen by the banks, as above, here too he is implying that it’s a wonderful thing, the “basis” for the ability to lend to others. Imagine if he had written that the Mafia’s protection rackets and murders are the basis for their ability to lend to to others, and that it creates demand. Yes, if a criminal steals money, he can lend it to people. But is that good for the economy, or for anyone, allowing thieves to run free taking what they wish?
By the way, the money “created” by the banks does not increase demand one iota. Because the banks increased purchasing power comes at the price of reducing everyone else’s purchasing power. It’s called inflation, and we have seen how it works. The banks can outbid us for things with the money they created for themselves, leaving us with less to consume. By the laws of supply and demand, the price of what’s left over from what they gobbled up will increase for us. It’s that simple, and don’t be fooled by any claims otherwise.
Let’s move on.
The power to consume that I choose not to utilize by leaving my production-generated wealth as money is transferred to the borrower. When she spends her loan, her addition to aggregate demand fills in for the missing consumption demand resulting from my decision to hold money. There is, therefore, no excess or deficiency in aggregate demand, as long as the banking system is free to perform this process of turning the saving of depositors into the spending of borrowers.
This is all true, of course, if we are talking about money not “created” by the banks, but if they lend out to someone the same money I put in there. It’s exactly what we talked about earlier, how the fact that people put their money in the bank means it will indeed be spent.
But note the subtle writing style Steve has used here. The banks have to be “free” to “perform a process”. When has anyone tried to stop a bank from lending money? Why does he call the simple act of lending money the “process” of “turning” savings into spending? And why this watchdog atitude, warning us that the banks have to be “free” to perform this “process”?
I suspect he is trying to tell us that the banks must be free not only to lend money deposited with them, but to “create” money, meaning steal money, as above. And indeed, Horwitz is a well known advocate of this kind of theft. He loves it. He thinks it is what will save America. Let the banks steal as much as they want, and we will all be rich and prosperous, is his declared stance.
Which is fine. If you think so, you are entitled to your sell-out opinion, however foolish and misinformed. But at least don’t taint the pure teachings of J. B. Say with such ideas. Look what he says next:
Say’s Law of Markets cannot be fully appreciated unless one understands the working of the banking system and its role in intertemporal coordination.[7]
That bit about intertemporal coordination is just a bit of doublespeak. Stealing is not stealing, it is intertemporal coordination. [That this what he means is clear from the citations in footnote 7, all of them apologetics for letting banks be “free” to steal]. And you cannot understand Say’s Law of Markets if you don’t let the banks steal your money. Thank you, Steve Horwitz.
In the next article, we quote J. B. Say writing explicitly that he formulated his famous Law in the first place to refute Steve Horwitz. Click the link and read on.
Does Taxing for Infrastructure Create Demand, and Should We Tax Away Money that Will be Wasted Anyway?
This is Part Three and Four, the final Parts. Part One here and Part Two here.
A serious question was raised by a reader named Just Jokes. He enumerated the many advantages he saw in the gov’t hiring workers to improve our infrastructure, a win-win situation if ever there was one, he argued.
Smiling Dave has been going through JJ’s points one at a time, showing why they are deeply flawed. This time, we look at his third point, to wit:
… demand has been created where none existed for clothes, shoes, books, etc…
In other words, the old Aggregate Demand gag. Presumably insufficient demand existed for clothes, shoes, and books, and the clothing stores and shoe stores and book stores were just opening their doors to greet nobody. But once the govt pays infrastructure workers a salary, then that great wonder of the world, Demand, rises from the ashes and goes in there and buys himself some shoes and clothes and books.
I summarized this, calling it JJ’s third argument, as follows:
3. All the businesses the workers patronize have new customers [those very same workers], so they benefit, too.
Now I cannot fault JJ for thinking he has a case here. It’s what every economist known to man is saying, except for the Austrians. And we have addressed this notion many times on our humble blog, [just do a search here for aggregate demand], and we’ll do it again right now.
All economists who talk about demand agree that it has two components, desire and ability. If nobody wants hula hoops, then of course there is no demand for them, and none will be bought. So the desire for hula hoops has to be there. Now all the clothes, books and shoes JJ is talking about are things people wanted all along. The desire was there from the get go. The govt paying workers to build infrastructure did not change the desire at all. I hope that’s obvious.
The other part of demand is ability to pay for the thing. If I wake up today and strongly desire a castle, but cannot afford it, then my desire, intense though it may be, has not created any demand at all for castles. Only if I want the castle, and can also afford to pay for it, do we say I have Demand for a castle.
Now one might say that the govt paying all those workers for infrastructure has increased their ability to buy books and shoes and clothing. But that is a big mistake. Even if we grant that there is some importance to increasing demand per se in order to improve an economy [a very dubious assertion], we are not talking about the demand of one individual, or some small group of individuals. We are talking about increasing aggregate demand, meaning, the sum total of all the demands out there.
To explain this, let us consider a simple case. You have two people, Smith and Jones. Smith has $500, Jones has $5. The total demand [=purchasing power] of this little economy is, of course $505. Now let’s say Jones gets a govt job patching up infrastructure. He gets paid $200. His demand has shot up from $5 to $205. But the Aggregate Demand is still $505. And why? Because where did the $200 come from to give to Jones? Only one place, from Smith. The govt doesn’t have any money to give away, except what it takes from someone in taxes. So those $200 that Jones got was taken from Smith to give to Jones. Adding it all up, we have $300 of demand from Smith [down from $500], and $205 demand from Jones. Total is still the same, $505. Demand hasn’t increased whatsoever.
Now the truth is that the above reckoning is so obvious that even Keynes understood it [see Chapter 3 of his infamous book]. He had a subtler version of JJ’s argument, as follows:
What if Smith only wanted to spend $300 of his money, and wanted to hoard the rest under his mattress? In that case , Smith only contributes $300 to demand, because money you have no desire to spend doesn’t count. So before the infrastructure job, demand was only $300 from Smith and $5 for Jones, total $305. After we take those bucks from Smith and give it to Jones, demand has increased to $505.
There are several problems with such an analysis. First of all, what a cruel world we live in where such ideas have taken root. Poor old Smith has worked hard, saving his money to pay for his son’s college education. And we are saying, “Sorry Charlie, your son will have to remain ignorant. We are taking your money away to give to Smith.”
“But what if I want that money for my old age?”
“Too bad. Beg in the streets when you retire, because we need your money for infrastructure.”
“What if I have medical or dental bills, or my car breaks down? I’ve put aside money for that, and you are taking it all from me.”
“So you’ll be sick, toothless, and lose your job for lack of transportation. That’s not our problem. We are concerned with improving the quality of life of our citizens.”
You get the idea. If someone worked hard and earned money, he should have the right to keep it, and save it if he sees fit. that’s the first problem with Keynes’ little story.
The next problem is that reality begs to differ with Keynes’ little scenario. Nobody hoards money anymore, and they haven’t done so for about a hundred years. Instead they put it in a bank, where it gets lent and spent.
There are other arguments. A search of this humble blog will reveal them in all their majesty.
Finally. a few short words to address JJ’s final argument for the govt taxing the rich and buying infrastructure. I summarized it as follows:
The foolish rich, who don’t know what do to with their own money and just squander it away on derivative bets and speculation, are merely handing over to the wise gov’t the money that they would have lost gambling anyway.
This is of course ridiculous. First of all, the rich, not the govt, worked hard and earned the money. The rich, not the govt, have a right to do as they please with their money. Second, derivative bets and speculation are vital for the healthy functioning of a modern economy. Get a free copy of Defending the Undefendable by Walter Block and look up the chapter on speculators. Third, if we are talking about squandering away money, nobody does it better than the govt. This is so well documented, and such a part of everyday experience, that I see no need to elaborate.
Bitcoin, Yet Again.
A new and interesting website has an article about bitcoin, citing me by name as claiming that bitcoins violate Mises’ Regression Theorem. And yes, I do indeed make that claim, in many articles on this humble blog and in the mises.org forums.
Aristippus, the author of the article, thinks he has saved bitcoins from contradicting the Regression Theorem, or saved the Regression Theorem from being contradicted by bitcoins, by making a few egregious errors. Here they are. As always, all quotes from anyone get the italicized font, and I the standard font.
1. He writes:
The most important thing to take from the Regression Theorem for our purposes, however, is the fact that in order for goods to become money – generally accepted media of exchange – they must have been demanded for their non-exchange value, whatever that might be.
Correct. But then he makes a mistake, misunderstanding gold certificates:
That non-exchange value does not have to be direct consumption use, but might for example be a good’s ability to facilitate the exchange of true money, as in the case of the use of gold certificates that represent gold but are only paper, and from which we can explain the origin of modern fiat currency.
Gold certificates did not have the non exchange value of facilitating the exchange of true money. Their non exchange value was that they were redeemable for gold, and you knew exactly how much gold you would get for that thing today, tomorrow, and five years from now.
Let’s quote Mises on this point in Theory of Money and Credit:
This link with a preexisting exchange value is necessary not only for commodity money, but equally for credit money and fiat money. [5] No fiat money could ever come into existence if it did not satisfy this condition. Let us suppose that, among those ancient and modern kinds of money about which it may be doubtful whether they should be reckoned as credit money or fiat money, there have actually been representatives of pure fiat money. Such money must have come into existence in one of two ways. It may have come into existence because money substitutes already in circulation, that is, claims payable in money on demand, were deprived of their character as claims, and yet still used in commerce as media of exchange. In this case, the starting point for their valuation lay in the objective exchange value that they had at the moment when they were deprived of their character as claims. The other possible case is that in which coins that once circulated as commodity money are transformed into fiat money by cessation of free coinage (either because there was no further minting at all or because minting was continued only on behalf of the Treasury), no obligation of conversion being de jure or de facto assumed by anybody, and nobody having any grounds for hoping that such an obligation ever would be assumed by anybody. Here the starting point for the valuation lies in the objective exchange value of the coins at the time of the cessation of free coinage.
Before an economic good begins to function as money it must already possess exchange value based on some other cause than its monetary function. But money that already functions as such may remain valuable even when the original source of its exchange value has ceased to exist. Its value then is based entirely on its function as common medium of exchange.
You see where I’m going with this quote. No mention at all is made about Aristipuss’s notion of “facilitating exchange”. What counts is only one thing. You can exchange that fiat money [or at least used to be able to exchange it] for good old gold.
Now, this may sound like a highly technical point, and it is. But nevertheless, it is important. Because Aristippus is going to say something like this later on in the article: Gold certificates facilitate exchange, which is what made them money [=Aristipuss mistake right here]. So do bitcoins facilitate exchange. So just as gold certs. are money, so is bitcoin.
But A. is wrong. Because when the grocer was offered a gold certificate in exchange for his wares, he did not look at and say, “I’ll take it because it facilitates the exchange of true money. Rather, he thought, “I’ll take it because I can get gold with it anytime I want. As opposed to those stupid bitcoins, which I will never accept, because tomorrow they may drop in value. Nobody is promising me that tomorrow they won’t dive by ten percent, or even 90 percent, so to heck with them.”
It’s all laid out very clearly in Human Action, Chapter 17, right after the statement and defense of the regression theorem. Here’s the relevant quote, in italics:
The purchasing power of money is determined by demand and supply, as
is the case with the prices of all vendible goods and services. As action
always aims at a more satisfactory arrangement of future conditions, he who considers acquiring or giving away money is, of course, first of all interested
in its future purchasing power and the future structure of prices.
In other words, if you do not know what it is going to be worth tomorrow, you won’t touch it. Now with real money, as opposed to bitcoin, you can get an inkling of its future value from its past value. But with a fad like bitcoin, which has a history of wild fluctuations, and no reason whatsoever to assume stability, you have no idea at all of its future value. As opposed to those gold certificates, which are always redeemable in solid, lovely, Rumplestiltskin gold.
2. Aristippus then talks about bitcoin having intrinsic value as a speculative gamble:
One theory attempting to explain this argues that it is the demand created by speculation on the future price of Bitcoin which allows for Bitcoin’s exchange demand. According to this theory, speculators, believing that the advantages of Bitcoin are such that its price would greatly rise were it to come into wider use, are effectively demanding Bitcoins without the aim of directly offloading them. Thus the demand created by their activities has resulted in an environment of reliable exchange between Bitcoins and national fiat currencies, e.g. USD. This demand acts like the initial demand for direct use in the Regression Theorem, which allows a reliable exchange between the most marketable good and all other goods. In the same way, the speculators’ non-exchange demand has allowed for Bitcoin to gain an exchange demand by facilitating the use of fiat currencies which already exist as money in certain contexts.
In other words, the general public, your grocer and your butcher, will accept bitcoins for their hard earned work because they are good gambles. Would you accept a paycheck not in dollars, but in shares of some stock the buyer is promising you is a good gamble? Are you interested in feeding your family not by working at a steady job, but by steady gambling?
And of course, a good 50% of the population thinks it’s a terrible speculation. Because for every person accepting a bitcoin, there is a person unloading that very same bitcoin. And why is he dumping that excellent gamble? Obviously, because he thinks it’s a stupid gamble.
3. Which leads right in to the third mistake in that article. A. thinks that bitcoin is right now, as we speak, a generally accepted medium of exchange:
The fact of the matter, however, is that there is indeed demand for Bitcoin…
If there is demand for it, why that means it’s a generally accepted medium of exchange. right? Wrong. A market exists for bananas, too, but they are not a medium of exchange.
Although it cannot be foreseen whether Bitcoin will rise in popularity and become an even more generally accepted medium of exchange…
In other words, A. thinks that right now bitcoin is already a generally accepted med. of ex. The only question is if it will become even more accepted, or perhaps die. But as of right now it is indeed a gen. acc. med. of ex. And as such, we have to look for reasons why it is, when the regression theorem says it cannot be.
All this is a mistake. And we have written about it at great length. Bitcoin is not generally accepted now, and is not a medium of exchange now. Here are two articles [with enlightening comments] that explain why:
https://smilingdavesblog.wordpress.com/2011/12/21/one-more-detail-about-bitcoin/
BTW, for everything you want to know about bitcoin, there’s this:
https://smilingdavesblog.wordpress.com/2012/08/03/bitcoin-all-in-one-place/
Does Taxing For Infrastructure Create Jobs?
Here’s a link to Part One. To really understand the following article, it will help to read Part One, which explains why govt sponsored infrastructure jobs, or any govt jobs for that matter, do great harm to the economy. The gist is because those jobs waste money and time and other scarce resources on projects of little to no importance, when there are more valuable uses for those resources.
Today we will talk about the second argument in favor of taxing the rich and using the money for infrastructure. Just Jokes wrote about such a scheme “And let’s say those newly employed used the income they received to buy food, clothes, shoes and books and also to buy a home where they could rent out a room to receive further income for a rainy day.”
I take that quote to mean that the workers get to make money and live dignified lives, so they benefit. Which is a good reason for the govt to tax the rich and hire workers to improve the infrastructure, since it benefits the workers.
The argument has great emotional appeal. In our last election, the TV ads were full of exactly this argument when some politician was pleading for our votes. Vote for me because I will create jobs, they all said.
But the argument is seriously flawed, as are the TV ads, because it fails to distinguish between productive jobs and parasitic jobs. We have already written about the difference between productive and parasitic jobs many times. [Here’s a link. If this is the first time you are seeing the phrase “parasitic job”, then you may want to do a search of this blog for that phrase to read more about this important concept.]
The gist is that a parasitic job gives money to the parasite who has the job, and is thus good for him personally, but his getting free money does not benefit the economy at all. On the contrary, it is a great drain on the economy and will lead to the impoverishment of the whole country, eventually including the parasite himself.
This is exactly what happened to the Hostess Twinkie Company. The unions made sure the workers had parasitic jobs, which eventually bankrupted the company. The workers then lost their jobs, which would never have happened if they had productive jobs.
Imagine if those campaign ads showed hungry people with sick children. President Obama then stretches his savior‘s hand out to them, turning them all into vampires. And not the cool vampires of Twilight, but the flesh eaters of The Walking Dead. Now the camera shows them smiling and happy, as they suck the blood of the living.
“I used to be hungry, but now I’m a parasite. My politician gave me a parasitic job, where all I have to do is collect a paycheck, but not do any work at all.”
“My job is even better,” chimes in another happy vampire. “I get paid to do actual harm to the economy, using up valuable resources on infrastructure when they are badly needed elsewhere.” [See Part One of this series of articles].
How do you think ads like that will work?
Giving someone a dignified life is very nice. But not if it takes away someone else’s dignity, which is what a parasitic job does. It robs someone else of his income, and impoverishes the economy as a whole. Not to mention that how dignified is it to be a parasite? Dignity comes from being a useful human being with a productive job, not from being a parasite.
Smiling Dave on Austrian Economics. 