Sunday, October 23, 2011

Why is our economic engine such an old model?

     Hello all!  I hope everybody is as excited as I am for the imminent collapse of the world oligarchy.  You are witnessing the death throes of Milton Friedman's neoliberal (nothing to do with liberal politics or the democratic party) economics, whose math was proven psuedoscientific by Imre Lakatos in 1972.  Not many people realize that, and no economics student I have ever met has even heard of the genius and mathematician Lakatos.  His legendary work in the philosophy of science broke new ground.  Even fewer people realize that the model of economics currently used in all developing nations was shown to be nonsense by such a renowned scientist.  If 1972 sounds familiar in an economic sense, that is because it was the last year in which the American worker, otherwise known as you, saw a wage increase.  Who would ever have thought that the failure of an economic model would look like the Arab Spring and Occupy movements?  I thought for sure it would be resource wars, so let's all hope we don't get that far. 

      In 2009-2010, I argued incessantly with my economics professors that the world economy is on the brink of collapse due to the physical limits of our planet and it's workforce.  They agreed to a point, but invariably rejected the idea of collapse.  The economy is too large to collapse, they all said.  If you re-read that last sentence, you will see the irony and error in their thought.  My argument is precisely that the economy is too large and inflexible to exist in it's current form.  We must all decouple from the world economy, and it will be messy and painful.  We began this process in the near-collapse of world banks in 2008, but fear of change lead us down a different path.  We instead forced trillions of dollars (and pounds sterling and euros and dinar and renminbi) into a dead system.  Follow me, here. 

     I will draw a simple and effective metaphor.  Economies are often referred to as engines; engines of commerce and engines of growth.  Let's use this idea.  If the American economy is an engine, it must slow at times.  Those are recessions, and they are a natural way to weed out failed businesses and move forward with more effective ideas.  (See: )  Not anymore, though.  We have reached a point of such extreme diminishing returns, that any slowdown is catastrophic for massive banks and businesses.   They are the queens of the food chain:  they have grown so large that they require nonstop feeding or they will fall.  With this in mind, we see an alarming trend.  The overseers of our economic engine cannot allow it to slow down and cool off.  As our economy was racing along, the engine began to overheat and fail.  Most people know that this is a time when you need to pull over and fix something; or at least give your engine a break. What did our new captains of industry do, instead?  They essentially hammered a supercharger into place while the engine sputtered.  The engine has blown and we have been forced to cobble together a Mad Max vehicle.  We got a trillion dollars of dollars of stimulus spending, although most of it was in the form of feeding the queens of the food chain.  The banks, bless their poor hungry souls, also got $1.2 trillion dollars in shadow loans to keep them afloat.

     My metaphor makes perfect sense to everybody but economics professors, unfortunately.  They invariably say that the economy is not a true physical entity; it is not a real engine.  However, it is bound by the same laws of physics which explain the working of any machine.  From an economy, to a horse to a Bugatti Veyron; physics works the same.  Another example!  The Veyron is the fastest production car on Earth, far faster than any F1 or Indy race car.  In order to get the car to reach 150mph, the engine needed to produce almost 300 horsepower.  To get the car from 150mph to 253mph, the engine needed to be brought up to ONE THOUSAND horsepower.  That is diminishing returns in it's most obvious form.  And the American economy?  To keep producing at the levels of GDP we had in 2000 required extra input of about three trillion dollars from the Federal Reserve in 2008.  As we grow increasingly large, we grow increasingly complex.  Complexity means higher cost.  If you think that increasing complexity and cost can go on forever....well, you are a neoliberal economist. 

     If you think that my examples, thus my idea of economics as a whole, is wrong and/or just too simplistic; here is my proof.  Vindication is lovely.  Thankfully I didn't have to do the research myself, as I have grown to despise economics and it's painfully zeitgeist-driven orthodoxy. 

     This paper is by Michael Kumhof and Romain Ranciere, two economists at the International Monetary Fund.  Dr. Ranciere is an econ PhD from NYU, and Kumhof from The University of Maryland.  They show exactly what I have explained, and they observed it's part in the current banking crises around the globe.  Essentially they show that as the wealthy accrue more wealth, there is less to go around.  This happens alongside growing bargaining power of the wealthy with policy makers.  The wealthy cannot invest in their businesses forever, so they increasingly place their money into banks.  As the wealth distribution grows past it's reasonable maximum, diminishing returns sets in. The plutocratic elite, as they really should be known, see that demand is stagnating because the working class has less and less money to spend into the economy.  They then begin to lend money to workers in order to fill the demand gap.  This comes in the form of:  home loans, credit cards, auto loans and a myriad of other ways which the middle class has borrowed to keep up their standard of living. 

     Inevitably, these loans become increasingly shaky.  Why?  The workers have less money every single year; their wages are stagnant but prices continue to increase.  As a whole, there is roughly the same amount of money being spent into the economy.  From a reasonable perspective, it is not money from the middle class.  This is money that the middle class has borrowed from the new Robber Barons:  Corporations.  Followed to an inevitable conclusion, we know that each year the loans are more speculative and the banks will have less stable borrowers on their balance sheets.  The banks are now holding loans which would never have passed muster when the middle class had wealth.  The paper by Kumhof and Ranciere found that the same amount of bad loans and leverage existed in banking prior to the Great Depression as before the great recession; and the income inequality is almost identical.  As the engine of economy sputtered in both eras, those who own the wealth and the policy makers decided that slowing down was not an option.  They spent decades loaning money to the poor to fuel the economy in both cases, but only in the 2008 collapse did they have the political clout to steal trillions of dollars from the taxpayers to keep their banks afloat.  The researchers show that we have the same systems in place and are making the same mistakes, only with more money and less insight this time.

     I thought that this post would be much quicker, so I apologize.  I would love to say that I am shocked to see greedy people making the same mistakes as they did 80 years ago, but greed is very near-sighted.  In conclusion, I just want everybody to keep an eye on the economy.  Our model failed in 1928, was reinvented by Milton Friedman in the late sixties and is failing us again now.  Our ever more volatile economy is not due to the business cycle and crises, it is a result of a misunderstanding of the limitations of growth.  If you keep in mind the image of an engine which is getting older, bigger, more complex, slower, less nimble, less effective, etc; you will view our economy with far greater clarity.  You'll also be more knowledgeable about economics than most all professors in that field. 

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