Richard Koo: How the West is Repeating Japan’s Mistakes Posted on March 9, 2011 by Yves Smith Richard Koo’s book The Holy Grail of Economics is the definitive work on what he calls “balance sheet recessions”. He explain, among other things, why QE2 is not likely to be successful. Post navigation ← Links 3/9/11 Wisconsin Senate Passes Bill Ending Public Bargaining Rights → Subscribe to Post Comments 64 comments JJT March 9, 2011 at 11:09 am Japan’s unemployment rate is, what, 4%? Dare to dream. Japan’s mistakes? Mike M March 9, 2011 at 11:26 am Right. Go to Tokyo today, and one would hardly think life is so dire there. Many say the quality of life and standard of living is much better than twenty years ago, when a closet sized apartment cost a King’s ransom. JJT March 9, 2011 at 11:42 am If the Average American (or whoever) went to Tokyo he might think he’d been transported into some kind of bizarre, functional future. The economy is more orientated towards the middle class. Yes, it is corporatist and yes there are serious problem in the labor market, but it is what it is. No Comment March 10, 2011 at 8:40 am Japan use a very loose definition of employment that gives it a very small number (4%) that by western standards, understate the true number by a wide margin. DownSouth March 9, 2011 at 12:04 pm The second weakness in the American political and economic situation is that the lip service which the whole culture pays to the principles of laissez-faire makes for tardiness in dealing with the instability of a free economy, when the perils of inflation or delfation arise. They are finally dealt with pragmatically; but not before the consequences of inaction have become very apparent. Some believe that the lessons taught in the great depression of 1929 have been so well learned that a recurrence of such a catastrophe is impossible; but it is not altogether certain that this is true. –Reinhold Niebuhr, The Irony of American History Siggy March 10, 2011 at 10:16 am It’s been about 70 years since the Great Depression. Our Great Recession is quite similar and a bit of a repeat of what caused the Great Depression. Or, roughly two generations later and the lessons of the Great Depression have now gone unlearned. But then the Great Recession didn’t just happen. It didn’t just pop up like a mushroom. It was a long time in going critical mass, roughly 35 plus years. So, now comes Down South with a quote, you gotta love this guy’s ability to rustle up a quote, from Rheinhold Niebur. The quote’s pretty cogent; but what piques my curiosity is: does Down South have an idea of his own? What Koo has to say about balance sheet recessions/depressions is very interesting and worthy of discussion. Dithering about whether or not our society will repeat mistakes of others or do over the malfeasance that was the cause of the Great Depression is like pissin in the wind. We have a fiat currency, fractional reserve banking and the greatest theft from the public ever. Tea Pot Dome was chump change. QE is the greatest piece of currency debasement ever recorded. And golly gee, we have saved the US and the world from the greatest Depression and we’ve only had the Greatest Recession ever. I get real enthused about all of that fear mongering self justification that is the rationale for not prosecuting what is a pandemic of fraud and tortious conduct. Inflation, the loss of purchasing power is erupting worldwide. We are heading for catastrohpic financial collapse and we digging up Rheinhold Niebur. Try for an idea of your own. Just how would you approach our problem of unprosecuted fraud? And, with our debt load now exceeding GDP, just how will we pay for any form of stimulus? That’s what I’d like to see from you! ECON March 9, 2011 at 12:20 pm The disease that afflicts the USA (and some others)is the inability of citizens to transcend their ideological mindsets that paralyzes their ability to think objectively without their ideological crutches. Charlie Sheen gets more coverage than real policy debate in the entertainment driven culture capital of the world. craazyman March 9, 2011 at 6:31 pm at least he’s honest! Hmmmm March 9, 2011 at 12:57 pm Richard said: China did the right thing by controlling the GDP growth. Then he also said: “But right now there is a huge housing bubble in China” So I am confused. If bubble is a bad thing, then how can it be the right thing when the result is a bad thing. And I am really sick of this singular goal of government … to maintain GDP. The role of government is to protect people. kurringai March 9, 2011 at 3:29 pm I think he was saying that the maintenance of GDP via government fiscal spending was fine, but that the flooding of the market wth liquidity which has inflated a real estate bubble was not. No contradiction there. I agree with you comment re government’s role and gdp. Cedric Regula March 9, 2011 at 5:24 pm Koo starts out right…when government, biz and consumers go on a debt binge, a balance sheet recession is the inevitable result. I too get annoyed with the adherence by economists to the “always on” Keynesian stimulus even tho everyone knows Keynes said he meant it to be counter cyclical policy. When we blew up in 2007, Bush & Greenie & Co where still doing pro cyclical stimulative fiscal policy and just winding down a pro cycle monetary policy left over from fixing a relatively mild 2001 recession. Then there are some notable differences between Japan, China, and the USA that Koo glosses over as well. Japan had a massive real estate bubble, but they also had a massive industrial capacity bubble. They did manage to remain a net exporter over the entire period which means real wealth flows into the country, not out which is the case in the USA. China was swimming in money. Both the government and banking system (which is arguably the same entity). The PBoC has massive foreign reserves and the banking system has a 15% reserve requirement…double that of the USA. The government debt to GDP is low and held by mostly domestic investors. Not to mention they don’t do the silly esoteric things our banks do, tho they have proven time and time again to make silly loans motivated by political considerations. (Like the regional banking party chiefs acting in concert with regional political party chiefs trying to stimulate the economy via massive real estate investment or investment in industries that already have massive overcapacity). So in China, the banking system is the US Congress on steroids. Also, in spite of Koo’s awe in China’s handling of the 2008 downturn, many think that China just got a late start to financial bubbles and still has yet to blow. In the USA we do have a stimulus program. How could we not…we have a trillion and a half dollar deficit every year now! But we do it our way…extend Bush and Obama tax cuts, keep two wars going while keeping an eye out for more opportunities, stop collecting FICA to put more after tax income into the Little People’s hands, silly corporate tax breaks – many of which are counter productive towards any sort of worthy national goal, special programs like “Make Work Pay – which may need to be modified soon into the ” Make Work Buy Something” program…. and not to mention 47 million people on food stamps, and you do need to be around official poverty level to qualify. The thing that is really annoying is the concept of just targeting GDP and thinking you have solved all problems. I wish I had a real Lincoln penny for every time I hear an economist point out that it was a terrible mistake to stop fiscal stimulus in 1937 in the US or in 1997 in Japan. They always point out the economy tanked once again. But the US depression stated in 1229 and Japan started in 1990. The reason government stimulus was scaled back was because large deficits for many years were running up a scary national debt level. When they cut back, the economy tanked because it still was not “fixed”, self sustainable and generating enough tax to run government. Economists always then say the government “didn’t do it long enough”. My question is “how long is long enough?”. In the US with tax increases always off the table, meaningful defense downsizing off the table, the on going offshoring of the real economy, the never ending growth of a predatory financial sector and an “always on” combination of fiscal and monetary stimulus, it’s no wonder to me that anyone that thinks about this prescription for success is more than a bit worried. Jim the Skeptic March 10, 2011 at 8:29 am Cedric Regula said: “My question is “how long is long enough?”. In the US with tax increases always off the table, meaningful defense downsizing off the table, the on going offshoring of the real economy, the never ending growth of a predatory financial sector and an “always on” combination of fiscal and monetary stimulus, it’s no wonder to me that anyone that thinks about this prescription for success is more than a bit worried.” You and I seem to agree about most of this. Our economy has been down now for about 3 years. To answer your question, now is long enough, using additional stimulus will just delay the inevitable. The health of our economy just before January 2008 was a mirage, massive borrowing propped it up. Middle class wages were declining, though now the PR is that they were stagnate. Now the economy has shrunk, unemployment numbers verify that in spite of the improving government statistics. Government spending will have to be reduced to a level which can be funded by the smaller economy. If that is done by dropping people of the unemployment rolls, then the economy will shrink still further. If pure logic were the only consideration, that sort of action would be delayed a little longer. But logic will bow to politics. The richest among us will fight tooth and nail against higher taxes and cuts to defense spending which amounts to a stimulus favoring some of the largest corporations. No reasonable person can believe that we NEED to improve the equipment used by our military or that we need more of it. Working class wage earners will take big hits as the Democrats compromise. Those wage earners have brought this on themselves by their votes in the last election. But remember that all this is a side show. This will just determine who pays for the mistakes of the last 30 years. The source of our problems is as you put it “the on going offshoring of the real economy”. Nothing will rejuvenate this economy until that is reversed. Those who benefit the most will not allow that reversal. Any attempt at a conversation about it will be drowned out by attacks on working people, Social Security, the national debt, and a laundry list of social issues. PS: Per your comment below, I have also been “hoarding” money. Tim March 10, 2011 at 2:23 pm “China was swimming in money” The chinese government used RMB to fund its stimulus, which it can issue at will. And it did, by deficit spending and through the governement run banking system. “The PBoC has massive foreign reserves” Spending foreign reserves was not part of the Chinese stimulus. Spending foreign reserves to stimulate the domestic economy would be nonsensical: foreign reserves can only be spent abroad. Roland March 11, 2011 at 11:09 pm Right on, Cedric! I read DeLong’s blog and hear him whingeing on about lack of more stimulus. He’s still in denial over the inflationary effects of loose US money policy, even as it rages around the world. His blog used to be called “grasping reality with both hands.” Now he claims to be grasping reality with his “tentacles.” So he has obviously lost his grip. Anonymous Comment March 9, 2011 at 1:19 pm Excellent interview. Mr. Koo is really good at breaking the story down into digestible pieces. I really appreciate that his views are so insightful, so obvious, yet so non-ideological. And that’s why it’s so hard for political people to take the right path consistently – ideology. Also, even though the interviewer is a bit dry, everything he says adds value to the conversation, and I really appreciate that too. Hugh March 9, 2011 at 1:26 pm More like a passing resemblance. The frauds, criminality, and bailouts are orders of magnitude larger. The costs here are largely being dumped on the middle class. And the conditions for another crash are being aggressively promoted here again as well. Mark P. March 9, 2011 at 1:41 pm What Hugh said. Thanks for posting this. Fed Up March 9, 2011 at 1:56 pm Does he anywhere talk about the difference between creating more medium of exchange with currency and creating more medium of exchange with the demand deposits from debt, whether private or gov’t? Cathryn Mataga March 9, 2011 at 2:04 pm 1. Americans are prisoners of common sense. It it just feels intuitively obvious that government should mind its debt like any sensible household. Massive stimulus in the face of increasing deficits, it just seems crazy at some level, so it’s hard to sell politically. 2. America has a stimulus program, but it’s in Afghanistan. Chinese are building bullet trains, and the USA is rebuilding Afghanistan. 3. The Financial system has the political influence, but in the end, the financial system doesn’t actually do very much useful. Washington will sacrifice the real economy to keep the casino running because that’s where the advice is coming from. 4. Obama lacks vision in economics. If he was Reagan or if he was the socialist the right wingers say he is, we’d be in better shape. As is now, he takes advice from the bankers, and they are doing just fine. ftm March 9, 2011 at 2:28 pm Really depressing to have such an astonishingly feckless leader at this stage in history. What exactly is Obama’s problem? Is his economic reasoning fatally distorted by his time at the University of Chicago? Does he really believe he can’t be re-elected without his money center banker pals ? Is he just too in awe of his fabulousity to do anything politically risky? But anyway, he’s blown his chances for now, we just have to pray the economy holds together through the election. As lame as he is, the republicans can only serve up someone worse. How could someone so outwardly promising be so disappointing? craazyman March 9, 2011 at 3:45 pm all of the above. Dan Kervick March 9, 2011 at 4:51 pm Obama seems to be a reasonably bright but profoundly risk-averse individual, with little background in economic policy. He defers to experts. And when the time came to choose his experts, he did not reach forward for bold, innovative next-generation types, but reached backward into the 90’s in a misguided hope for a bland return to normalcy. He doesn’t seem capable of responding with creativity or courage to profound social shifts and crises, and seems content to drift through history, hoping everything just fixes itself. Guicciardini March 9, 2011 at 7:42 pm There was a comment at Yglesias similar to yours a few days ago, Dan (maybe it might have been yours! I’m glad someone else from that place knows about NC) Honestly, Obama reminds me of pretty much every successful Harvard Law types I’ve known. Maybe they’re great at fundraising or asscovering, but they’re not the sort of guys you can count on in a foxhole if you’re trying to push for serious change. Which is why the idea that Obama could be anything other than a creature of the establishment is frankly insulting. Being the President of the Harvard Law Review fucking requires you to be risk-averse, cautious, deferential to your equally establishmentarian advisors. Rex March 10, 2011 at 1:34 am I also am disappointed that Obama is not delivering much and is happy to keep the bankers happy. I am not a student of the man’s history, but here is my intuition about his gutlessness. A black man does not go through Harvard Law, build a political career and become president by ruffling feathers. In spite of his strong talk in the campaign I suspect his main style through life has been in the role of a mediator. You might want everyone you meet to walk away thinking, hey, he’s smart, he’s really not that bad. He’ll work with us. Now he has arrived at the most powerful position in the world and he’s happy to keep everyone he meets happy by kissing up to every form of power he encounters. This guy doesn’t have the focus or spine of a real leader. He just wants to get good grades and not clash with any of the in crowd. Ted Raicer March 10, 2011 at 1:38 pm >How could someone so outwardly promising be so disappointing?” The answer is that the only thing “outwardly promising” about Obama was his historical historicness. For those capable of looking past his skin color, there was never any there there. Anon March 9, 2011 at 2:32 pm Koo is persuasive, yet I wonder: during a bubble, would he actually say, “Hey, the government sector needs to cut back! The private sector is doing too much!” If he has then he is a real mensch. If not then he might just be a guy who really likes to see governments spend, pretty much regardless. Has he ever said that? As usual it is hard to evaluate an expert’s opinion, to sort out bias from knowledge. Perhaps he is giving us a mix? His track record would be useful, if anyone knows it. RSDallas March 9, 2011 at 2:46 pm Mr. Koo Koo is just that a, Koo Koo Bird. I bet him and Krugman get downright giddy when they get together. Koo, not unlike Krugman just can’t accept nor understand the benefits of an economy that experiences a liquidation phase. Henceforth, we end up with an old tired man limping along with a cane. No different than Japan. People, this mess started in 2007 (some would say earlier). We are nearly 1/3 of the way to our 15 years and already half way to another lost decade, WAKE UP! There are only 2 segments of our society that benefit from extreme government spending and bail outs. That would be the entities themselves that are bailed out and the banks, oh and don’t forget their respective top management teams. Businesses that fail should be allowed to fail. Period. This mess would have lasted 3 years. During this time businesses and banks would have failed all the while their assets would have been bought by someone else. And guess what? Those buying the assets would have become incredibly prosperous! That’s the law of business. One man’s loss is another man’s gain. What we have now is; one man’s loss is the American Taxpayers loss as well. Don’t you see it? The loss never gets purged from the system in Koo’s & Krugmans world. It’s like the person who buys a house and never maintains the house. What happens to the house over a 10 year period? The house falls apart and loses value. So the owner says, well I’ll just sell this old house. He quickly finds out that he can’t sell the home for anything near what a comparable, well maintained home sells for and he keeps lowering the price. Finally he lowers the price so much that someone buys the house! The new owner who bought the house at a greatly reduced cost fixes it up and presto, the asset is now a performing asset again. The exact same scenario would have played out across this great country with banks and businesses alike if our illustrious leaders and Federal Reserve would have just allowed the weak and stupid to fail. The banksters on Wall Street have pulled off the biggest heist ever in American History. I know of no other business on the face of this planet, other than GM and the big banks that can bankrupt their companies, never fail and turn right around and steal the public’s money to keep them in business. All the while never missing their multi-million dollar payouts. Only in America! F. Beard March 9, 2011 at 3:10 pm The problem with your premise is that the whole economy, being based on the corrupt fractional reserve money system, is flawed. Our whole economy is a failure. Many innocents would be hurt by deflation. And why? So some money hoarders, waiting like vultures for the inevitable can pick up some cheap assets? An ethical response would be to bailout the entire country combined with fundamental reform in money creation. Spikes March 9, 2011 at 5:51 pm “So some money hoarders, waiting like vultures for the inevitable can pick up some cheap assets?”. Interesting phrasing. But how about “so that young and responsible savers could finally purchase assets and investments at prices that promise a reasonable real rate of return” and/or “so that moral hazard would be eliminated and rational capital allocation rewarded” and/or “so as not to steal from the poor, retirees and those on a fixed income” and/or “so that a society grown soft and weak on speculation and asset price inflation would finally shift rewards back to actual value creation through innovation and prudent risk-taking” You want social safety nets, make them explicit – unemployment benefits, assistance etc. There is no free lunch – someone always pays. Driving up asset prices benefits asset owners, and hurts potential asset purchasers. That is generally it benefits the older over the young and the rich over the poor. Manipulating asset prices distorts markets, screws up incentives and leaves you with a worse problem than you started with. Cedric Regula March 9, 2011 at 6:09 pm I like your version beter. Personally, I’ve been “hoarding money” so I don’t stave to death. Your explanation makes me sound less vulture-like. But if I ever can find a decent opportunity for return in this ZIRP_QE nightmare world, I admit I’ll swoop down on it like a hungry sparrow with a juicy, fat worm in it’s sights. F. Beard March 9, 2011 at 7:05 pm There is no free lunch – someone always pays. Spikes True but if every US citizen (including SAVERS!) received an equal bailout check AND if a 100% reserve requirement was placed on the banks to preclude serious price inflation then who would suffer? Foreign dollar holders? Perhaps but on the other hand a healthy US economy would be in their best interest too. I tell you who would “suffer”, the uber-rich and only in relative terms. We have to start practicing genuine capitalism sooner or later and what better way to start than with a bailout of the entire US population? And please spare the “moral hazard” argument. The US population behaved exactly as one would expect them to in the face of a goverment backed counterfeiting cartel with a government enforced monopoly money supply; they borrowed and speculated. What other choice did they have? To save and wait like vultures to pick through the ruins of a wrecked economy? The banks have been successful in dividing savers against borrowers. However, it turns out the tables can be turned with an application of debt and interest free legal tender fiat, United States Notes. Spikes March 10, 2011 at 12:53 pm “if every US citizen (including SAVERS!) received an equal bailout check AND if a 100% reserve requirement was placed on the banks to preclude serious price inflation then who would suffer?” Savers would. Figure out the dilution. If total assets stay the same, and I have $2 and you have $1, then we are both given $100, I just went from having 2/3 of purchasing power to 1/2. “I tell you who would “suffer”, the uber-rich and only in relative terms.” Nope. The holders of real assets would benefit, not holders of dollars. By and large the “uber-rich” own assets (land, buildings, businesses, brands). The middle class, savers and retirees would be f**ked. “And please spare the “moral hazard” argument. The US population behaved exactly as one would expect them to in the face of a goverment backed counterfeiting cartel with a government enforced monopoly money supply; they borrowed and speculated.” This doesn’t invalidate the moral hazard argument, it reinforces it. Screwing up market pricing screws up capital allocation which screws up the economy down the road. “Saving is not inherently virtuous. A saver is only able to save because others consumed.” Consuming beyond your means by paying with wampum is definitely not virtuous. It doesn’t create sustainable jobs, since when the credit lines dry up, so does the income. Good capital allocation, however is inherently virtuous, since it promotes sustainable economic growth in industries with an inherent advantage. With this comes jobs, wage growth etc (cue rainbows). I don’t want to save, I want to invest. To do that responsibly requires sensible market prices. Jeff65 March 9, 2011 at 9:27 pm Spikes, Saving is not inherently virtuous. A saver is only able to save because others consumed. Hal Horvath March 10, 2011 at 12:34 am Yes, and further — Germany and China only have their “success” (massive trade surpluses) because other nations have run the necessary corresponding deficits. Further, things are looking rather bad. China is consuming even less of what it produces than 5 years ago, getting down to under 40% consumption (of its production). Tao Jonesing March 9, 2011 at 9:32 pm “There is no free lunch – someone always pays.” The neoliberal retort is “as long as somebody else pays, the lunch is free for me, and that’s all that matters.” Somebody else paying is a feature and benefit of their system, not a bug. Jeff65 March 9, 2011 at 9:25 pm F. Beard, I think we agree on a lot of things, but your continual references to the “counterfeiting cartel” and “fractional reserves” make you sound like a fanatical gold standard advocate, which I know you are not. In a fiat system, reserve balances don’t represent anything physical / are not redeemable. It doesn’t make a material difference whether the reserve requirement is 0%, 10% or 100%; the required reserve balance is just an arbitrary number. And banks have a license to “counterfeit”. The problem is not the money created when making a loan. The problem is that the banks did not make responsible loans because they knew they could on-sell them. Tao Jonesing March 9, 2011 at 9:38 pm Beardy’s bugaboo is public money and private money being one and the same. He wants public money as legal tender only for public debts, but private money should rule everywhere else. It’s the conflation of private and public money that drives his “counterfeit cartel” rhetoric. I agree with you on reserve requirements and irresponsible loans. The fact is that fractional reserve lending is the only responsible way to foster natural economic expansion, you just can’t allow the funding of financial speculation through fractional reserve lending. mansoor h. khan March 9, 2011 at 9:50 pm Tao said, “The fact is that fractional reserve lending is the only responsible way to foster natural economic expansion” Is this really true? The newly created FRB money loaned out draws on the “real” economic resource BEFORE the factory is built. It seems to me that economic growth comes AFTER money has been created and set in motion. Also, in the current environment due to global wage arbitrage causing dropping incomes the banking system’s assets are worth much less (too many loans cannot be paid back). The system is out of balance and needs to be rebalanced by giving more income to consumers: Read more at: http://aquinums-razor.blogspot.com/2011/02/give-500-per-month-to-each-us-citizen.html Mansoor Jeff65 March 9, 2011 at 9:59 pm Don’t we already have this public money / private money dichotomy? Bank reserves / FRNs are the public money. Bank deposits are the private money. If F Beard’s proposed difference is that bank deposits are no longer guaranteed to be redeemable for bank reserves / FRNs at par, well, I can see no opportunity for mischief in that… And I think you missed my point on fractional reserves. I’m saying that with the current monetary system there is no difference between 0% reserves and 100% reserves except bigger numbers in the reserve bank’s spreadsheets. It doesn’t fuel any more or less expansion one way or another. Jeff65 March 9, 2011 at 10:02 pm The last sentence in the first paragraph of my preceding post was sarcasm. Toby March 10, 2011 at 3:40 am The fact is that fractional reserve lending is the only responsible way to foster natural economic expansion, This is horribly wrong. Fractional reserve lending requires economic expansion — it’s a ponzi scheme. “Growth” has been turned into the idol it is to support the fractional reserve system. The system has priority, “growth” is just a side effect, is necessary to sustain the system, at any and all costs. And what on earth is “natural economic expansion”? And where is the responsibility? The Money Masters are bailed out at the cost of the poor to sustain forced and perpetual economic “growth” to sustain the system. In what way is that responsible? A more fundamental question for you, Tao: Why is economic expansion good? F. Beard March 10, 2011 at 6:51 am It doesn’t make a material difference whether the reserve requirement is 0%, 10% or 100%; the required reserve balance is just an arbitrary number. Jeff65 I suppose you are correct with a lender of last resort such as the Fed to lend as needed to illiquid banks. Obviously, the Fed has to go since there should be no government enforced/backed lender of last resort. The government should only spend and tax and in that order too. That leaves no ability for the government or an agency of it to lend money. The problem is not the money created when making a loan. The problem is that the banks did not make responsible loans because they knew they could on-sell them. Jeff65 The problem is deeper than that, I’d bet. How can any loan of newly created money be responsible when the interest to pay that loan is not also created except as further loans? And that is aside from the problems of usury itself and the exponential growth it requires. Jeff65 March 10, 2011 at 5:14 pm The money to repay the interest payments comes from deficit spending by the federal government. That’s the only place unencumbered money can come from. F. Beard March 9, 2011 at 4:23 pm Max Keiser made the point that the whole system could have been bailed out from the bottom up if the money had gone to the victims, the debtors, instead of the villains, the banks. It’s still not too late; a big fat and equal check sent to every US adult citizen would eliminate the debt and revive the economy. And to prevent serious price inflation and prevent a repeat of the problem, the banks should be put out of the counterfeiting business via a 100% reserve requirement pending fundamental reform. RSDallas March 9, 2011 at 4:27 pm That is preposterous. F. Beard March 9, 2011 at 4:44 pm Really? Debt forgiveness is Biblical (Deuteronomy 15) but since the banking system has cheated savers too they should also receive compensation. It’s all logical from a moral point of view; the fractional reserve banking system cheats savers of honest interest rates and drives borrowers into debt that is non-serviceable during the bust. That is, it cheats the whole population. And no new debt is required. The entire bailout could be accomplished with new, debt and interest free United States Notes. What the Keynesians attempt with stimulus and more governemnt debt could be achieved more directly debt-free if the morality of the situation was considered. And since the Biblical restitution for theft is from 2-7 fold then we should be generous with those bailout checks. Dan Kervick March 9, 2011 at 4:56 pm Fractional reserve? C’mon. If only the problem were just the banks. The meltdown is the work of an unregulated shadow banking system that grew to play a stupendous role in our financial system. Tao Jonesing March 9, 2011 at 9:45 pm RSDallas, Actually, Beardy is right about printing money to pay off debts and wrong about the 100% reserve requirement. Money spent to pay down debt essentially disappears from the economy and cannot play any role in inflation/deflation. Money created to promote further debt is inherently inflationary if it actually gets lent out. Beardy wins there. The 100% reserve requiremetn inherently constrains liquidity and allows banks to charge usurous interest rates as rents on natural economic growth. By all means, place that requirement on loans to financial speculators, but not to people investing in productive capital. F. Beard March 10, 2011 at 6:54 am The 100% reserve requiremetn inherently constrains liquidity and allows banks to charge usurous interest rates as rents on natural economic growth. By all means, place that requirement on loans to financial speculators, but not to people investing in productive capital. Tao Jonesing I would not permanently forbid FRL, only until fundamental reform was implemented. After that, then banks could practice FRL but without ANY government backing. MarcAur March 9, 2011 at 5:09 pm Free money for everyone! Problem solved. (dusts off hands) F. Beard March 9, 2011 at 5:17 pm Free money for everyone! Problem solved. (dusts off hands) MarcAur It works well enough for the banks! If banks were simply put out of the counterfeiting business with a 100% reserve requirement, the effect would be massively deflationary as old loans were paid off. So to counter the deflation just send a big bailout check to every American. Volia! The debt slaves are freed, the savers are compensated, the banks are fixed and tax revenues recover. But like I say, we need fundamental reform too so the bailout would never have to be repeated. Of course we need genuine reform too. MarcAur March 9, 2011 at 5:38 pm Not sure where to begin… Let’s just say you’re right and this plan would work. pebird March 10, 2011 at 10:56 am it ain’t free. A lot of us have been working hard for a long time and have been losing ground. notsofastfriend March 9, 2011 at 4:33 pm Yes it’s a balance sheet recession. No massive Government deficits do not make things better they only APPEAR to make thing so in the short run. If the government wants trillions to get the economy going again they should nationalize our banking system and confiscate all global assets and use that wealth to help people through these troubling times. Hal Horvath March 10, 2011 at 12:48 am The deficit spending can accomplish 2 possible good things (which pay for themselves over time): A) stopping an economic down spiral momentum in which the almost the entire economy could unravel (of course, before you got down to -50% GDP you’d get serious social unrest and something would be imposed by the masses). Because the economy remains larger (than without stimulus) for years, the cost of this stimulus largely (or entirely) pays for itself over time. B) Actual investments that have actual economic return, such as roads or education. craazyman March 9, 2011 at 6:54 pm I Have Figured it Out! Businesses aren’t investing because government debt is too high because tax revenues are too low because people aren’t earning enough money because businesses aren’t investing. So to get businesses to start investing so people can earn more money and pay more in taxes to reduce government debt we need to raise government debt so businesses . . . wait a minute . . . I thought businesses wanted lower government debt, so they could start investing, so that people could make more money . . . now I’m confused . . . . I thought I had this figure out. :) Sheesh, this stuff is confusing. Yaun March 9, 2011 at 8:17 pm I love it how Koo sells us fiscal stimulus as a solution, and then he says, oh but it went overboard, now the Chinese have a housing bubble. Why is it going to be a problem one may ask, couldn’t they just apply more stimulus once it bursts and credit starts to contract again? Something isn’t right in the exponential equation. Economics and free lunch prophets, a never ending love affair. F. Beard March 9, 2011 at 8:36 pm Economics and free lunch prophets, a never ending love affair. Yaun Actually, something as simple as lack of money or credit can destroy many lunches. And, believe it or not, a certain amount of money creation can allow the creation of wealth. For instance, if common stock was used as money then the stockholders might vote to issue new stock to buy new assets. Depending on the value of the assets bought, the value of the money might easily rise in expectation of the performance of the new assets. Once we learn to do money creation ethically then we can expect OPTIMUM economic growth without the ruinous nationwide boom/bust cycle. Tao Jonesing March 9, 2011 at 9:49 pm “if common stock was used as money then the stockholders might vote to issue new stock to buy new assets” This happens all the time in M&A. When one company buys another with stock, it is using its stock as money. Companies typically have a stuck issuance plan in place that shareholders have already agreed to so that management has the discretion to do M&A deals without seeking further shareholder approval. F. Beard March 10, 2011 at 2:03 pm Figure out the dilution. If total assets stay the same, and I have $2 and you have $1, then we are both given $100, I just went from having 2/3 of But if you insist then give savers TWICE as much or whatever it takes. The debtors, if bailed out of their illegitimate debt (underwater homes are on its face evidence of thispurchasing power to 1/2. Spikes If gross wealth disparity is a problem (and it is) and IF that wealth disparity was achieved via a crooked, government backed scheme (and it was, via the thieving government backed banking system) then what is the problem? Besides, I think your example is too extreme. Your bailout of $100 is very large compared to $2 and $1. Let’s just send everyone $1 (representing, perhaps, the amount homeowners are underwater). In that case, the new money purchasing power ratios are 3/5 and 2/5, not such a big change from 2/3 and 1/3. But if you insist, there is a more just solution which is to run the banking system backwards. When run forward the banking system transfers purchasing power from all depositors (and cash holders) to borrowers. It cheats savers of honest interest rates and drives borrowers into excessive debt in the process. So to run the system backwards just give the borrowers enough new fiat to payoff their debts and force the banks to distribute that new fiat as it is received to all account holders on a pro-rata basis to roughly restore the stolen purchasing power. However, since the banks sold those debts, that more elegant and just solution may now be too complicated to be practical. But in any case we need genuine, fundamental reform. And since the current system is crooked then just restitution cannot be dismissed. Spikes March 10, 2011 at 2:51 pm F. Beard, I used the extreme example to illustrate the point. At lower levels the relative theft may be less, but it is still there. There is NO free lunch. Underwater homes are not an example of illegitimate debt. They are an example of a poor investment decision, just like shares in the old GM are. You didn’t do your homework. You should lose your asset, and the bank should take a haircut. Hopefully prices then return to normal. The total amount of real assets (and thus real wealth) is unchanged by all the bailout shenanigans. Jacking up the amount of claims on the wealth (dollars) screws those who don’t own real assets – the poor, the elderly on a fixed pension, and to some extent, the middle class. All you achieve is picking winners and losers, and you don’t manage to pass the bill back to those who can afford it and should pay it. Asset prices should reflect the real returns likely to accrue from holding those assets. Manipulating the currency to shift the gains around is a ponzi scheme, and the guys at the bottom are the poor and middle class. Why they think that low interest rates benefit them is beyond me. You want to hit the rich? Tax assets and inheritances. You want better capital allocation? Reduce speculation by raising interest rates and increasing capital gains taxes. Whatever your view of the merits of those policies, I’d say there’s pretty much no chance either happens. F. Beard March 10, 2011 at 6:10 pm Underwater homes are not an example of illegitimate debt. They are an example of a poor investment decision, just like shares in the old GM are. Spikes I would agree except for the nature of the banking system which is essentially a government backed counterfeiting cartel. The choice then is to borrow from the cartel or be to priced out by those who do. You didn’t do your homework. You should lose your asset, and the bank should take a haircut. Hopefully prices then return to normal. Spikes Yes, that is the way the system should work but the banks have already been bailed out and are continuing to be bailed out via a carry trade from the Fed to the Treasury. What about their victims? Jacking up the amount of claims on the wealth (dollars) screws those who don’t own real assets – the poor, the elderly on a fixed pension, and to some extent, the middle class. All you achieve is picking winners and losers, and you don’t manage to pass the bill back to Uberthose who can afford it and should pay it. Spikes I disagree. A big bailout check to every American would reduce the relative wealth disparity as you yourself have pointed out. And with a 100% reserve requirement on the banks then asset prices could not be levered upwards with the new money. And let’s be more reasonable with our example. Let’s change it to add the uber-rich. Let’s say “uber” has $100, “saver” has $2 and “borrower” has $1. In this scenario “uber” has 97% of the purchasing power. The poor “saver” has only 1.94%. Now let’s give each $10. “Uber” now has only 83% of the purchasing power. “Saver” purchasing power has increased to 9% and “borrower” purchasing power has increased to about 8%. So where is the “theft”? Saver’s purchasing power has increased by over 7%! Now I don’t pretend to know the correct numbers for “uber”, “saver” and “borrower” nor how much the bailout should be. However, I think I have demonstrated that a bailout can benefit both borrowers and savers at the expense of the uber-rich. You have fallen for the lie, imo, that savers and borrowers are natural enemies. But are they not both victims of the same crooked money system, government backed competitive counterfeiting? Spikes March 11, 2011 at 12:41 am No, you’re missing the point. Let’s say “uber” has $100, “saver” has $2 and “borrower” has $1. In this scenario “uber” has 97% of the purchasing power. The poor “saver” has only 1.94%. Now let’s give each $10. “Uber” now has only 83% of the purchasing power. “Saver” purchasing power has increased to 9% and “borrower” purchasing power has increased to about 8%. This only holds if Uber holds NOMINAL assets (dollars). If he holds REAL assets (land, real estate, gold, art, businesses etc) then the value of those assets increases in line with the extra money or credit that you created. In your example, give Uber $97 in REAL assets, and saver and borrower +2 and +1 each of nominal dollars. Net total nominal dollars out = $3. Now let’s give them all $10 of nominal dollars. Total Nominal dollars outstanding now = $33, an 11x increase. As money supply increases, so does the price and value of scarce REAL assets. So now the alue of Uber’s real assets = $97 x 11 = $1067. Plus he got $10, for a total wealth now of $1077. The new wealth distribution is $1077, $12, $11, or 97.9%, 1.1%, 1.0% If the borrower had negative nominal wealth (debt) against positive real assets he did even better. Either way, you screw the holders of nominal claims (savers). You give a huge gist to owners of REAL assets. those are disproportionately held by the wealthy in society, not cash. It’s the young and middle class savers who have the biggest proportional exposure to cash, and as in the example above, they are the ones who get reamed. I agree that the banks got a gift from the government,as did the rich. Money printing doesn’t hit the uber-wealthy, it helps them. The explosion in money supply and credit has been coincident with the massive inequality gap in our society. It crushes the middle class and those saving to invest by driving up the price of assets. You really want to scare the rich? Try a bit of deflation. Roland March 11, 2011 at 11:41 pm Spikes is right on this one. We have seen the real-life proof in the past decade or so. Loose money and fiscal policies have coincided with a colossal bidding-up of asset prices, to the detriment of savers and wage-earners. The way to do redistribution is do redistribution. Measures should be fiscal, not monetary. Steeply progressive income, property and estate taxes would do the job nicely. There’s no reason why you can’t have redistributionist taxes and sound money at the same time. Really want to scare all hell out of the rich? Combine sound money with higher taxes! Comments are closed. Tip Jar Please Donate or Subscribe!