Economics Questions

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

Fried Egg — Mon, 11 Jan 2010 11:42:55 GMT

Leviathan:
For example, income redistribution serves various efficiency purposes in the capitalist economy, with progressive taxation taking advantage of the fact that diminishing marginal utility means that money is of less value to the wealthy few than to the masses of the working class, and sustaining their physical efficiency with welfare programs.

I'm suprised to see this oft repeated misconception of diminishing marginal utility go unchallenged here.

While it's true that any given person will value each additional dollar in his bank account less than the previous, it is not necessarilly true that one person with $1000 will value an additional dollar less than someone with $500. Each person has their own unique set of preferences and value scales and we cannot make interpersonal utility comparisons on order to make such a judgement reliably.

Besides which, what has that to do with efficiency? If efficiency is about maximising aggregate utility for all then you might be on to something. But then Austrians don't try to justify capitalism on utilitarian grounds. If capitalism is about being meritocratic, then income should go to those who have earned it, not those who value it most. As I understand it, the Austrian conception of efficiency is about how well supply and demand dovetale together. And surely the best way to achieve this kind of efficiency is to allow markets as fully as possible to determine incomes? Redistributing incomes (weakening market determination) will only serve to reduce such economic efficiency.

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

Ansury — Sun, 10 Jan 2010 11:45:24 GMT

Leviathan:

Yes. Socialism is the public ownership and management of the means of production, which means that the various social welfare programs and other such institutions attacked as "socialist" are not.

You're making a purely semantical argument here by defining socialism so strictly that anything less than blatant, "pure" socialism falls outside the definition, ignoring the fact that it's possible for the state to partially or indirectly control the means of production.

See this thread:

http://mises.org/Community/forums/t/13329.aspx

filc:
Because of this it is a fallacy to consider private firms that the government outsources as being a part of the market in general. These are simply extensions of the government, the differences at this point in calling them private or public is pure semantics.

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

Ansury — Sun, 10 Jan 2010 08:44:03 GMT

Tobbog:

And also my above quote form Wikipedia says, that just in July of 1921, the FED began lowering interest rates. But at that time, the economy has already recovered - the Depression lasted from January 1920 to July 1921!

I hope this helps.

Sounds like this might be an example of why I check Wikipedia for facts last.

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

JeffB — Sun, 10 Jan 2010 06:38:41 GMT

Leviathan:

jmorris84:
If what you say is true, my understanding of Socialism has been cloudy for quite some time then. Your definition is actually more in line with what I thought Communism was. Would you mind, then, really quickly defining Communism for me?

Communism, as traditionally understood, was a socioeconomic system that entailed the abolition of money, markets, and the state, and the most leftist form of socialism. The oxymoronic term "communist state" that was created as an epithet in Western society re-defined the term in a rather Orwellian way, though.

Interestingly enough, that sounds to me like you're turning the definition of Orwellian on its head there. It may be "traditionally understood" in your circles that communism entails an abolition of the state, and yet in every country where it has been implemented, the communist State became an Orwellian nightmare for its citizens.

But I think the usage of "state" in this context is perfectly in line with the common usage and definitions of the term, such as this one from Wikipedia:

A state is a set of institutions that possess the authority to make the rules that govern the people in one or more societies, having internal and external sovereignty over a definite territory. In Max Weber's influential definition, it is that organization that has a "monopoly on the legitimate use of physical force within a given territory". It thus includes such institutions as the armed forces, civil service or state bureaucracy, courts, and police.

I don't think many people would think Russia, China, Cuba or other communist governments fail to qualify under that typical definition.

Leviathan:
JeffB:
Well that's obviously a point of disagreement with Austrians. It looks to me as if the welfare state, redistribution programs and the deficit spending is already destabilizing the US and western economies in general.

How so? If we consider a source such as Mares's The economic consequences of the welfare state, the opposite seems to be demonstrated:

What are the economic and employment consequences of larger social insurance programmes? Are larger welfare states diverting resources from economic activity and distorting the investment decisions of firms? I examine theoretical and empirical research on the economic consequences of the welfare state. This review shows that the predictions of a negative relationship between higher levels of social protection and growth have not been borne out in the data. Both insurance programmes and other policies that increase investment in human capital or the overall productivity of workers generate important economic externalities that outweigh the potentially distortionary effects of higher taxes. Empirical studies also fail to uncover a consistent negative relationship between larger welfare states and the level of employment. The employment consequences of the welfare state are mediated by existing institutions and policies—such as the level of centralization of the wage bargaining system—which affect the redistribution of the costs of higher taxes among workers and firms. As a result, the employment consequences of larger welfare states are non-linear.

Well deficit spending is the primary culprit, but the welfare state, redistribution programs and entitlement programs are certainly tied up in that spending. Using the aforementioned Debt Clock figures, the current official debt comes to $112,708 per taxpayer. Adding in the unfunded "off budget" liabilities for Social Security, Medicare and Prescription Drugs of $980,081 per taxpayer, we come up with an overwhelming federal liability per taxpayer of $1,092,789.

Unfortunately, those unfunded items will be coming due very shortly. The first of the baby boomers hit age 65 next year. The government changed its accounting practices some years ago such that it counts the revenue coming in to the Social Security Trust Fund as revenue, but doesn't count the liabilities for the retirement payments as a part of the deficit. By law, they mandated that every dollar coming in must be used to purchase US Treasuries. In other words, that "Trust Fund" is filled with IOUs. What has been a net inflow into the treasury, not only in the form of income taxes, but also in Social Security and Medicare taxes, will be turning into a net outflow very shortly. In fact, we already had a couple of months with a net outflow in 2009. That was not projected to happen until at least 2016. Not only is the "trust fund" unfunded, but underfunded as well. Even if the government could make good on their IOUs, there aren't even enough of those to keep the system solvent.

We're already spending more than $1.6 trillion than we're taking in. In other words our current DEFICIT is 6 TIMES our entire 1973 budget - everything we spent and we were still engaged in the Vietnam War at that time.

I would also note, that Isabela Mares' paper is hardly definitive and there are many many others that disagree with her opinion. krazy kaju supplies a few links at the bottom of this post with respect to Scandinavian countries, but there are many others as well. http://mises.org/Community/forums/t/5616.aspx?PageIndex=1

I think most people can provide anecdotal evidence of the drag on the economy from many of these programs and the outrageous government waste that always goes with them. I know I can.

Leviathan:
This is consistent with the fact that far from an element of socialism, the welfare state has long been an integral component of the capitalist economy.

I have to wonder where you came up with that notion. I don't think it was a significant part of the United States experience until FDR's "New Deal". I think the story of The Ant & The Grasshopper, a part of the famous Aesop's Fables goes back thousands of years. People have a tendency to go that route, but it doesn't seem to work out very well as we saw in Russia, China, Cuba and others, many of whom now are moving towards a capitalist free market to try and revamp their own very sick and underperforming economies.

JeffB:
Our current "Great Recession" is "Exhibit A" in that regard.

The "Great Recession" is aptly explained by Marxian crisis theory; it's only natural that capitalism will fail, in short. I think I've seen Capitalism Hits the Fan mentioned here.

It is also very well explained and predicted by the Austrian Theory. Peter Schiff, for instance, notes in an article yesterday, that he had predicted the financial calamity that overtook us in May 2004, and did so in quite accurate detail:

You can read the entire commentary here.

However, let me reproduce some key quotes:

That so many are currently opting for ARMs reflects a level of real estate speculation unparalleled in American history. Homebuyers have been lured into this foolish choice by... a Fed chairman desperate to keep the real estate bubble inflating. Unfortunately, the longer the Fed remains "patient" with regard to raising short-term interest rates to appropriate levels, the more homeowners that will be lured into the ARM time bomb.

The real losers in this whole fiasco are likely to be those who did not even participate in the mania. As over-leveraged borrowers walk away from properties in which they have no equity, the Fed will most likely attempt to bail out both debtors and bank depositors (and the government sponsored enterprises that insured the loans) with the most inflationary monetary policy ever undertaken in the history of central banking. The savings of an entire generation will be wiped out, as it will have been squandered to perpetuate the biggest real estate and consumer debt bubbles of all time.

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

Leviathan — Sun, 10 Jan 2010 01:47:01 GMT

jmorris84:
If what you say is true, my understanding of Socialism has been cloudy for quite some time then. Your definition is actually more in line with what I thought Communism was. Would you mind, then, really quickly defining Communism for me?

Communism, as traditionally understood, was a socioeconomic system that entailed the abolition of money, markets, and the state, and the most leftist form of socialism. The oxymoronic term "communist state" that was created as an epithet in Western society re-defined the term in a rather Orwellian way, though.

JeffB:
Well that's obviously a point of disagreement with Austrians. It looks to me as if the welfare state, redistribution programs and the deficit spending is already destabilizing the US and western economies in general.

How so? If we consider a source such as Mares's The economic consequences of the welfare state, the opposite seems to be demonstrated:

What are the economic and employment consequences of larger social insurance programmes? Are larger welfare states diverting resources from economic activity and distorting the investment decisions of firms? I examine theoretical and empirical research on the economic consequences of the welfare state. This review shows that the predictions of a negative relationship between higher levels of social protection and growth have not been borne out in the data. Both insurance programmes and other policies that increase investment in human capital or the overall productivity of workers generate important economic externalities that outweigh the potentially distortionary effects of higher taxes. Empirical studies also fail to uncover a consistent negative relationship between larger welfare states and the level of employment. The employment consequences of the welfare state are mediated by existing institutions and policies—such as the level of centralization of the wage bargaining system—which affect the redistribution of the costs of higher taxes among workers and firms. As a result, the employment consequences of larger welfare states are non-linear.

This is consistent with the fact that far from an element of socialism, the welfare state has long been an integral component of the capitalist economy.

JeffB:
Our current "Great Recession" is "Exhibit A" in that regard.

The "Great Recession" is aptly explained by Marxian crisis theory; it's only natural that capitalism will fail, in short. I think I've seen Capitalism Hits the Fan mentioned here.

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

JeffB — Sun, 10 Jan 2010 01:37:35 GMT

Leviathan:

Of course, I'm a socialist rather than a capitalist, so I'd be content with an abandonment of the welfare state and redistribution programs. It would certainly cause a good deal of destabilization in the capitalist economy, which I'm all in favor of. So it's ironically the economic rightists such as the Austrians here that would probably bring about socialism most effectively.

Well that's obviously a point of disagreement with Austrians. It looks to me as if the welfare state, redistribution programs and the deficit spending is already destabilizing the US and western economies in general. Our current "Great Recession" is "Exhibit A" in that regard.

Take a look at The Debt Clock.

If one takes into account the National Deficit and adds in the "off the books" liabilities of the Social Security "Trust Fund" and Medicare and the Prescription Drug liablity, there is more than $1 million in debt per taxpayer. Given that we have more than a $1 trillion deficit projected for each year as far as the eye can see I would say that there is no way we can pay off that debt without massive inflation or a repudiation of at least some of that debt. Either scenario or some combination thereof would be exceptionally destabilizing. In addition to the numerous other problems that will cause, at that point we would also have to balance the budget -- either reduce spending by more than a trillion dollars a year or raise taxes by that amount. There will certainly by wailing and a grinding of the teeth at that point in time.

I think the Austrian school theory of living within one's means and not artificially goosing the economy for a temporary windfall via an artificially propped up standard of living, would be far more stable in the long run. But alas, I don't think we'll find out this side of a major worldwide economic earthquake.

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

jmorris84 — Sun, 10 Jan 2010 01:20:54 GMT

Leviathan:

Yes. Socialism is the public ownership and management of the means of production, which means that the various social welfare programs and other such institutions attacked as "socialist" are not.

If what you say is true, my understanding of Socialism has been cloudy for quite some time then. Your definition is actually more in line with what I thought Communism was. Would you mind, then, really quickly defining Communism for me?

I do apologize if this is a little off topic, but it would help me a lot. Thanks!

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

Leviathan — Sun, 10 Jan 2010 01:06:24 GMT

jmorris84:
Leviathan, my understanding of socialism, in a nutshell, is when the state essentially attempts to spread the wealth within the private sector. Is this wrong?

Yes. Socialism is the public ownership and management of the means of production, which means that the various social welfare programs and other such institutions attacked as "socialist" are not. What's ironic is that those institutions may in fact sustain efficiency in the capitalist economy, thereby upholding the private ownership of the means of production and being quite opposed to socialism. For example, income redistribution serves various efficiency purposes in the capitalist economy, with progressive taxation taking advantage of the fact that diminishing marginal utility means that money is of less value to the wealthy few than to the masses of the working class, and sustaining their physical efficiency with welfare programs. There is also an important role of economic redistribution bolstering growth and entrepreneurial risk-taking in the context of the capitalist economy. For example, consider Clemens and Heinemann's On the effects of redistribution on growth and entrepreneurial risk-taking:

If the presence of risk goes along with less entrepreneurial activity and subsequently lower growth, a natural question to ask is to what extent an appropriately designed public tax-transfer-scheme might stimulate firm ownership, if private markets for pooling individual risks are not available due to credit market imperfections or moral hazard problems. These considerations draw from an argument first brought forward by Varian (1980), Eaton and Rosen (1980) and Sinn (1996). The authors point out that redistributive taxation — being effective ex post — acts as a social insurance, thereby providing incentives to already increase risk-taking from an ex ante point of view.

Of course, I'm a socialist rather than a capitalist, so I'd be content with an abandonment of the welfare state and redistribution programs. It would certainly cause a good deal of destabilization in the capitalist economy, which I'm all in favor of. So it's ironically the economic rightists such as the Austrians here that would probably bring about socialism most effectively.

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

JeffB — Sun, 10 Jan 2010 01:04:33 GMT

Leviathan:

There weren't any "Keynesian policies implemented under FDR in the 30s," if that's been believed by anyone.

Thanks for the reply.

In what way would Keynesian policies have differed from those instituted by FDR?

Are you a Keynesian?

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

jmorris84 — Sun, 10 Jan 2010 00:45:47 GMT

Leviathan, my understanding of socialism, in a nutshell, is when the state essentially attempts to spread the wealth within the private sector. Is this wrong?

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

Leviathan — Sun, 10 Jan 2010 00:30:06 GMT

There weren't any "Keynesian policies implemented under FDR in the 30s," if that's been believed by anyone. Honestly, it's grown aggravating to hear the New Deal constantly referenced as "Keynesian" or even more deplorably, as "socialist." As Renshaw illustrates in Was there a Keynesian Economy in the USA between 1933 and 1945?, the New Deal cannot accurately be described as "Keynesian."

As Eccles pointed out, counter-cyclical spending was really a conservative option which implied 'sustaining government contributions to general purchasing power while the obstacles to private spending are cleared away'. The basic structure and values of capitalism, the ownership and control of the system, would not be disturbed in the long run if such policies were adopted. Yet despite such spending to make good the failure of private investment and so reduce unemployment in 1933-35, and again in 1938-39, almost one in six Americans were still out of work in 1939. In that sense, as Herbert Stein has argued, "It is possible to describe the evolution of fiscal policy in America up to 1940 without reference to Keynes."

Stein's summary was remarkably accurate. As he noted, “It is possible to describe the evolution of fiscal policy in America up to 1940 without reference to [Keynes]...by the outbreak of the war a large part of the fiscal revolution had already occurred. It was accepted policy that we would run deficits in depressions, that we would not raise taxes in depressions in an attempt to balance the budget.”

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

jmorris84 — Sun, 10 Jan 2010 00:18:47 GMT

JeffB, I do want to emphasize that I could be wrong about it being $4.86 for every 1/20th of an ounce and not 1 oz. I will look into it more later but if in the mean time you find out whether this is true or not, please post your findings!

Thanks!

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

JeffB — Sun, 10 Jan 2010 00:15:33 GMT

Jonathan M. F. Catalán:

I will research the topic. It seems as if another possibility is that the recession ended, or was assuaged, largely due to a reinflation of the bubble by the Federal Reserve. An inflation which would take place until October 1929.

Keep us posted as to what that research turns up. It seems to be an important area of research, from what I can tell.

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

JeffB — Sun, 10 Jan 2010 00:13:52 GMT

jmorris84:

That would be $4.86 pounds, not USD. Also, I believe it was $4.86 for every 1/20th of an ounce.

Thanks for the correction. That is a pretty big difference, particularly if that was for 1/20 of an ounce. If my math is correct, that would have been $97.2 (pounds) per ounce. Apparently the dollar was quite a bit above the value of the pound at that point in time. What did "the pound" stand for? It seems like someone said it used to be transferable to a pound of gold or a pound of silver if I remember correctly.

jmorris84:

I'm not sure what you mean by saying "gold wasn't a pure."

Sorry, I was trying to be facetious there. -- ie. If one could buy gold for $4.86/oz and now it's north of $1,100 per ounce, (and the dollar had retained its value) then the gold must have been worth less then, perhaps because it wasn't as good in quality as the $1,100+ plus stuff.

jmorris84:

Like someone else here already mentioned, it's quite possible that the depression in 1921 was over before the Fed hiked its interest rate. It's still also possible that the hike in the rate could have helped, since my understanding is that the lower interest rates are what helped create the boom and the hike in interest rates would have exposed the malinvestments.

"Helping" in the sense of exposing malinvestments would make sense to me and you, but from the standpoint of the Keynesians it would be an utter catastrophe. Unemployment and bankruptcies would spike and deflation would kick in as well. That would obviously require whatever federal fiscal and monetary stimulus packages are required to keep that deleveraging from happening.

Of course, as I understand it, that is the whole crux of the issue in the disagreement between the Austrian economists and the rest of the world. The Austrians embrace the deleveraging and clearing of malinvestments as necessary, despite the inherent pain involved, to bring the economy back into balance. The monetarists and Keynesians want to do whatever it takes to avoid that painful process.

Re: 1920 Depression. Self-correcting, or Fed induced and cured?

jmorris84 — Sat, 09 Jan 2010 23:50:00 GMT

JeffB:

Thanks for the info. I never realized that gold once traded for $4.86/oz. I guess that means gold wasn't a pure or something back then. It couldn't have been due to any devaluation of the dollar as I've heard that it is a truism that "the dollar is as good as gold". ;)

The above quote does, however, seem to be consistent with what I imagine to be the monetarists' and Keynesians' arguments against the Austrians'. They figure that the rising money supply "saved the economy" from depression in 1920, or at least helped it recover post-haste. Of course, it is also consistent with the Austrians' contention that such easy money just fueled even more malinvestment and over consumption with "the Great Depression" inevitably "Roaring 20s".

Maybe the crash after this depression will win over the monetarists in Keynesians, but somehow I doubt it.

That would be $4.86 pounds, not USD. Also, I believe it was $4.86 for every 1/20th of an ounce. I'm not sure what you mean by saying "gold wasn't a pure."

Like someone else here already mentioned, it's quite possible that the depression in 1921 was over before the Fed hiked its interest rate. It's still also possible that the hike in the rate could have helped, since my understanding is that the lower interest rates are what helped create the boom and the hike in interest rates would have exposed the malinvestments.