John McCain Follows Jimmy Carter

In an e-mailed press release, Andy Martin asks whether George Bush's invitation to Barack Obama to "help solve the financial crisis that is supposedly threatening America" may have been "the biggest blunder in presidential politics since President Jerry Ford in 1976 said Poland was not in the Soviet sphere of influence."

I have been complaining about the Federal Reserve Bank's influence on the economy and the triumph of Keynesian economics among Republicans for the past two or three years, and my old friend Howard S. Katz has been complaining about them for nearly 40 years. The underlying problem with the current financial system is its excessive expansion of credit, which in turn stimulated overly aggressive lending and excessive real estate prices.

The response of conservatives to the crisis reflects what psychologists call perceptual distortion. Distortion occurs when someone feels threatened by information. The person does not hear it or hears it differently.

Conservatives have been reacting to the current decline in real estate prices by saying it is due to Progressive lending programs, which is only partly true. The excessive lending, like the tech bubble, would not have occurred without Republican Federal Reserve monetary policies. When Nixon said that "we are all Keynesians now" he ensured that distortions of this kind would occur over time. It took 37 years, and Howard is to be commended for fighting this fight during the upswing of the Republican Keynesian bubble.

Politicians always try to repeal the laws of economics, and we see the same kind of distortion occurring among Republicans now. One example is the belief that even more inflation, increasing the money supply by one half or $750 billion, would solve the problem. This, of course, begs the question of why the past 75 years of monetary inflation did not solve the "problem". Also, the idea that house prices must always rise was nonsensical when people were saying it in the '80s, '90s and '00s. Now that it is turning out to have been false all along, politicians and conservatives argue that there is a CRISIS.

The correction of real estate prices will causes losses among those who paid too much, just as the tech bubble of 1999 caused losses. Rather than confront the excesses and incompetence of the Federal Reserve Bank as an institution, conservatives, along with the Progressive media, frame this as a CRISIS. A CRISIS.

Martin points out that Obama has been making political hay out of Bush and McCain's naive invitation:

"Obama will have attained the last stop on his self-referential crusade by being accepted at the White House as a statesman and dealmaker. Good grief."

The invitation is symptomatic of incompetence at the apex of the Republican hierarchy that is philosophical as well as political. Lacking a truthful model of what Federal Reserve Bank monetary expansion over the past 40 years has done to the economy, the Republicans fall into the same pattern that Jimmy Carter did in the late 1970s when he listened to the Progressive economists of the Brookings Institution who claimed that inflation helps the poor and working classes because they hold more debt than the wealthy. This claim overlooked historical and dynamic realities. In particular, monetary expansion boosts the stock market, helping the wealthy. Inflation comes several years later and will not show up in cross sectional or even three-year-lagged correlations between monetary expansion and wealth. The gains that the middle class enjoys due to inflation are entirely attributable to increasing house prices and so are difficult to extract except through debt (or becoming homeless), which requires a riskier profile than many people prefer. Neverthelss, debt and inflation have become national habits, creating a stress-and-risk profile that frustrates many Americans, even as they consume on credit. Moreover, much of the gain from house prices is eroded through increasing repair, insurance and property tax costs.

Older Americans are forced to give up their homes because of such costs, and many are forced into poverty in order to continue to live in their homes. Economists treat increasing house prices as wealth gains, but such gains come at the costs of increased risk.

Equally, such gains come at the expense of other Americans. In order to gain due to house prices, Americans must ultimately sell their homes to new buyers, and those buyers must pay much higher prices. Thus, higher house prices mean that new buyers cannot afford homes equal to what they once could. My students will not share in the American dream if the current Republican administration has its way. On paper Americans seem to become wealthier, but what has occurred is a transfer of wealth from buyers to sellers, and the sellers often do not want to sell but have to because they would forced into eating cat food otherwise. Moreover, they cannot enjoy their "wealth" because doing so involves increasing stress due to borrowing or selling. Thus, inflation destroys community. It pits one generation against the other, it forces people to leave their homes and it prevents children from remaining in the communities in which they grew up.

The lag between monetary expansion and price inflation prevents economists from detecting monetary expansion's relationship to income inequality. Hedge funds have obtained capital and made profit through monetary expansion. That wealth is attributable to future inflation. Demand for resources increases prices in later periods, when average Americans foot the bill for the hedge fund managers' profits. In order to see this you need a multi-decade view. The methodologies that economists use look at single years at a time and relate same-period phenomena (inflation in this period versus house price in this period), but the process takes decades to unfold. However, left wing writers such as William Greider in his book "Secrets of the Temple" about the Fed, were happy to make the nonsense claim that inflation helps the poor. Greider can be excused because he was basing this argument on academic studies. But how wrong can academics be before we conclude that they are simply quacks and then move on?

Unfortunately, today's conservatives have bought into the Keynesian model, which is now going to turn out to be suicidal for them. They are following the path of Jimmy Carter.

I would urge a return to monetary conservatism, the gold standard, and a Great Awakening from Republicans' Keynesian slumber.

The New York Sun's Home Run

The New York Sun has hit a home run. I had previously blogged about my concern that the Sun's and Fox's coverage of the recent upsurge in prices has omitted the underlying cause: monetary expansion. This is of concern because economists have come up with many nonsensical explanations for inflation such as "cost push" inflation, "demand pull" inflation, unions cause inflation, oil prices cause inflation, consumer expectations cause inflation, speculators cause inflation, ad infinitum and ad nauseum. In the 1970s such spurious explanations reached a crescendo when President Ford wore a button that said "Win" if I recall, and argued that "jaw boning" would stop inflation. Worse, President Nixon had implemented price controls and controls on gasoline prices led to endless lines.

It doesn't take much to expose an unclothed Emperor. The Sun has come out and forthrightly said that the Fed has caused inflation. It will be hard for the mainstream media to spin the kind of fabrications that it spun in the 1970s. The Sun deserves a Pulitzer Prize for this editorial. Perhaps single handedly it will stop the establishment's reluctance to take the necessary steps to end the inflationary cycle and the mainstream media's eagerness to blow smoke in support of inflation.

The media have every reason to fabricate nonsense explanations for inflation. As I have previously blogged, there are special interests that demand inflation: the commercial banks, Wall Street, the real estate business and stock investors. The working man, the conservative saver and the entrepreneur who looks to build a business over the long term are harmed. Thus, in exchange for short term heating of the economy, the public loses entrepreneurial vision, the withdrawal of competent labor (as honest workers are diverted into less productive activities like stock investing), and there are dramatic increases in uncertainty for people on fixed incomes. It is also true that demand for labor is stimulated, but the jobs so created are temporary because the businesses that are created are of insufficient quality to survive the inevitable economic downturn that occurs when the Fed tightens interest rates because it has become politically impossible to continue printing money. By then, fortunes have been extracted from the public by those who had first access to the new money, namely hedge fund managers, and the public pays through higher prices and increased poverty.

Let us applaud the New York Sun and be thankful that at least one firm in lower Manhattan has clear vision and integrity.

Inflation Is More Important Than Taxes

The New York Sun rightly criticizes the New York Times for its monomaniacal obsession with raising taxes. However, the Sun is too sanguine about the Republican candidates' interest in lowering taxes.

While I do not gainsay that Republicans tend to support reduced taxes while Democrats tend to favor increasing them, and I agree that this is a mark in the Republicans' favor, I would add that neither party has been responsible about balancing the budget, reining in spending, or maintaining a steady money supply. In particular, the Republicans have been on a spending spree that has included a considerable taint of corruption. As well, the Republican administrations since 1980, as well as the Clinton administration, have aggressively expanded the money supply at a rate far faster than productivity and population growth warrant. The result has been a 3.7% inflation rate since 1979, and it has only been that low if you (as does the Department of Labor) exclude house prices. Including house prices, the Republicans have given us an inflation rate of over 4% annually over the past 29 years. This dismal performance should be an especially sore topic for New Yorkers, many of whom have been forced to leave the City because of escalating housing prices boosted by ever-escalating Wall Street salaries.

In turn, Wall Street's salaries do not result from Wall Street's market performance, nor from Wall Street's production of value, but rather from unrealistically low interest rates (which are the chief reason for the past 50 years' stock market growth); low interest loans to big business; and incompetently executed mortgage programs that have resulted from the low interest rates. The low interest rates are a government and public subsidy to the financial community. They are a form of welfare. If Wall Street created value, it would not whine every time the Fed raises interest rates. Firms that create value, unlike Wall Street, do not mind high interest rates because their value-creation and efficiency cover rising interest rate costs. Government agencies, commercial banks and Wall Street firms require government subsidies like low interest rates because they do not create value.

The inflated salaries and exit payouts to Wall Street executives and hedge fund managers come from the Fed's artificial expansion of the money supply. The past 29 years' orgy of liquidity has amounted to a large welfare transfer to the ultra-rich, resulting in stagnant real wages and the exit of mainstream jobs from the U.S.

As well, and more ominously, the Fed's monetary expansion has largely been absorbed by foreign governments, who now hold many times the total number of dollars in circulation in the US. Although the argument is made that there is no reason to think that foreign dollar holders will act against their economic interests, multiple large dollar holders (the Saudis, Europe, Japan, China, etc.) each with nearly or more than a trillion dollars who stand to lose significantly in case of a run is a desperately unstable situation. A run or crash in this market could mean hyper-inflation in the US. It is a fools' strategy, and the Republicans have led us to it, with the Democrats' complicity. I have never consented and had not been aware until recently that the money I use every day has been the basis for a large scale shell game that has provided unprecedentedly large payoffs to financial operators while the average American sees stagnant real wages.

Although the Republicans might favor a few percent lower taxes than the Democrats, we live in a dream world where both parties have ignored responsible household management. We risk the coming years to be dire ones because of our unwillingness to demand competence and fairness from our government, and our willingness to believe that counterfeiting dollars can make us wealthy beyond transferring wealth from the general public to debtors.