Nigerian prince scams - exposed!

September 9th, 2012

Another of my semi-regular podcast cycle is that from WNYC's "On the Media", with Bob Garfield and (edited by) Brooke Gladstone.  Sometimes a little too earnest and precious in their approach to the story, but often nonetheless a good take on topics related to social communication.

That's where I first heard this explanation for why those Nigerian e-mail scams appear to be so obviously a scam.  A recent episode discusses this analysis from Microsoft researcher Cormac Herley - the scams are so obvious because the perpetrators need to filter out the people who won't end up sending money.  They need to be so obvious that they only ensnare the most gullible and naive members of the on-line community, because everyone else will eventually recognize what's going on and not end up sending any money to them.  From the paper:

Far-fetched tales of West African riches strike most as comical. Our analysis suggests that is an advantage to the attacker, not a disadvantage. Since his attack has a low density of victims the Nigerian scammer has an over-riding need to reduce false positives. By sending an email that repels all but the most gullible the scammer gets the most promising marks to self-select, and tilts the true to false positive ratio in his favor.

The OTM story also points out a potential response to these scams - to bombard the scammers with false positives - responses to the scam appeals that cause the scammers to waste their limited resources on what will ultimately be unfruitful interactions.

A couple related tidbits:  according to Wikipedia, Nigeria is the third most frequent source for these appeals; the US and UK contributed more.  There is also a cottage industry to people who are up to scamming the scammers, such as the people at sloshspot, and the ebolamonkeyman.

more capital consumption on Science Friday

September 2nd, 2012

Science Friday exposes another example of capital consumption on a recent episode concerning the health of bridges around the United States.  Similar to water distribution and management infrastructure, most roadways and their bridges are owned and operated by government agencies, typically state governments.

It's a similar story - politics first drives government to spend huge amounts of money on transportation infrastructure.  In other words, the process extracts resources from the community at large, taking those resources from what purposes the people had currently applied or planned for them, and dedicates them instead to goods and services that benefit a fraction of that population. 

The political cover story is that these things benefit "all of us", but it is more accurate to say that the benefit is entirely unbalanced - that there are some people who are very much advantaged by the arrangement.  For road and bridge construction the main beneficiaries include owners and workers of construction companies, while others who are actively harmed include the owners and workers for railroads who now face subsidized competition with trucking companies (themselves among the other primary beneficiaries).  Inter-regionally, there are not many people in Seattle who actively benefit by Boston's "Big Dig", while people in Huntsville Alabama are paying for a tunnel under Seattle to replace the earthquake-damaged viaduct.

To be clear, I love roads and bridges.  I love driving.  Some of my earliest memories are about high bridges spanning great rivers.  I have some small appreciation of the details that go in to their design and construction, and while I am not deeply on the inside of the profession I understand that design is based on expected loads under all sorts of environmental conditions, and that keeping the system operational requires periodic inspection and maintenance.

The same is true in all other industries.  The person who cuts my hair keeps her shears sharpened; we replace the oil in our cars; the local brewery keeps their filters clean; people who run factories are constantly monitoring the assembly line; manufacturers require regular measurement calibration.  People don't need to be told to do this; the effect of not doing so is obvious enough when things break and production stops.  If you don't learn these lessons your customers go elsewhere, and history is replete with companies that go out of business for failing to take such matters into consideration.

Which brings me back to capital consumption.  For roads and bridges, the insiders see how serious the problem is, but political forces hold the purse strings.  The political forces think there is a savings by not maintaining these systems, and the especially perverse outcome is that even more must be spent to effect repairs when there eventually is a failure.  Which re-starts the cycle of the community at large being forced to pay for goods that primarily benefit a relative few.

I must credit one of the guests in this program making the observation that limited budgets and already high taxes are leading in some measure to such projects being funded with tolls, which tends to bring at least some of the costs more directly into the responsibility of users.

RIP, Space Cadet

August 28th, 2012

Neil Armstrong died recently.  I am old enough to have watched the first moon landing take place, so must have been among the (hundreds of) millions of people who watched that event take place with only the cislunar time delay.  It seems like I was in the basement with the family, crowded around the tiny B/W set that Dad used to regularly watch the evening news during those years.  Or maybe the local grade school had some sort of large screen TV that we all watched from a greater distance.  In either case, human memory is faulty enough for me to think I might have been somewhere else completely, with the neighbors, for example, and my recollections are all mixed up with the other manned space missions that took place in that period.

Time has a good obituary on the man, recounting years leading up to and after those famous steps were taken, and I am very willing to believe that his was one of the bravest and most cool heads on the planet.  And while I can't draw the direct connection in my memories, I am also willing to aver that his was one of the influences that led to my learning to fly, and to a carreer learning about and contributing to airplanes, spacecraft, and the various systems that make up and interact with them.

The death of a historic personage gives rise to many prisms created to view the past and future - Martin Robbins in The Guardian takes the opportunity to bemoan how his present world does not align with what he imagined as a child the future might hold.

"I'm angry though, I really am. The science fiction books and TV shows I devoured in the 1980s promised me a world – no, worlds – of exploration: spaceships and aliens whizzing around a galaxy of possibilities where anything could happen in the next half hour. Now, in 2012, I have to face the possibility that I could live to be an old man in a world where the only memories our civilization has of planetary exploration are a few grainy, black and white images, carefully preserved from a century before; dusty footprints and scraps of metal abandoned in a place we never go."

We might tell ourselves that the moon landing was about exploration and science, but perspectives of time and profession show the years of the space race in the context of the cold war.   Those Mercury, Gemini, and Apollo missions were footnotes to the main story, that the United States could launch the biggest god-damn bomb in the history of the universe and land it in the middle of the Kremlin.  The US was spending untold billions on nuclear bombs and missiles, positioned all over the planet and aimed almost completely at what was then the Soviet empire.  Those moon rockets and their guidance systems were showing the world that nothing could be made safe.  The USSR saw the way the winds were blowing and gave up on a moon landing before they hardly got started, which was arguably the beginning of the end for the vaunted socialist economic powerhouse - they had looted all they could and were heading toward the dustbin of history. 

"I don't give a damn if robotic probes make more sense. I don't give a damn about the views of academic committees or health and safety. I don't give a damn about the supposed costs – money spent on space exploration is invested in science and technology right here on Earth, and has paid for itself many times over. There's no point having a great civilization if all we do is sit on our little rock and just survive."

When I think now of the accomplishment of the lunar landing, it is often to consider what else might have been done with those billions of dollars.  Suppose that instead of building bombs, rockets and guidance systems, we were able to devote our spare time and energy to understanding cell biology and genetics, and wonder if so how much farther we would be down the path of understanding sickness and disease.

I tend to think that Mr. Robbins and others who make such claims do so because they don't admit how such proposals require other people pay the bills for their vision of the future, with the currency of those bills paid in terms of the other goals people hold, forcing them to give up on their alternative visions of what makes for the good life.

captial consumption on Science Friday

August 19th, 2012

Over many years I have listened to a lot of Science Friday, these days mostly through their podcast; they are back to splitting up the program into segments for their different topics, which is helpful in managing ones time to listen to the episodes.

A recent program features the topic of decaying infrastructure in water distribution around cities in the nation.  A couple points from that discussion

  • there are some very old water distribution systems still in use around the United States
  • Wood pipe sections that that are still in use leak as much as 10% of the water on its way to being consumed
  • decaying water handling infrastructure is building up to the point demanding huge investments to correct

Of course this is an example of capital consumption - the need to maintain or improve those factors of production is ignored by the people responsible for them, leading to a false "savings" in the cost of providing water to consumers.  Water is one of those services claimed by municipal and other local government administrations, so the people responsible for this state of affairs are the administrators and politicos who run those systems. 

Politics is a strange part of our social interactions.  The general public is happy to complain when faced with any price increase, so the re-election and appointment interests drive problems like this to be ignored and ignored some more.  Knowledgable people on the inside of these trades can see what's going on and sound an alarm - as evidence by the guests of this program - but they are stuck in the same political system. 

Contrast this with the price system that we use in almost every other part of our lives, including food, clothing, shelter, recreation.  While some of these things also face political interventions from price supports to restrictions on supply, the overriding influence is ultimately the consumer demand expressed by what people actually choose to purchase.  We don't worry about the infrastructure required to keep the supply of athletic shoes sufficient to satisfy our needs, because the maintenance of captial goods required to supply those shoes is built into the structure of their production.  Furthermore, if Nike or Adidas misjudges the need to capital replenishment they face the penalty of reduced business.

Modern Monetary Theory - Wrap-up

August 3rd, 2012

This is the wrap-up of a critique of some of the thoughts expressed by Warren Mosler in his booklet "Seven Deadly Innocent Frauds of Economic Policy"

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Mosler's Part 2 recounts his career in banking, which among other things points out the extreme degree of regulatory control that banking has had in the United States, including mandatory fixed interest rates and loan subsidies, e.g. GNMA securities being "fully guaranteed by the U.S. government, so there was no default risk" (p. 75-76). The subsequent story (e.g. at p. 84) makes it clear the GNMA securities was the majority of his career, which maybe contributes to the problems in the "frauds" part of this paper.

It's interesting also the mention of Long Term Capital Management (p.77), the investment firm that went belly up but was bailed out through interventions by the government. This was not the first such bail out (Continental Illinois was bailed out in 1984), nor the last, of course (all those in the last couple years being so notable, but also including the 1994 Mexico bailout and that of the S&L fiasco). These are great examples of moral hazard, and show how risk taking in the form of gambling with other people's money has been rewarded by U.S. government policy.  In contrast, laissez-faire capitalism is a system of profit and loss, and shielding people from the latter does nothing to promote the long term health of the economy and the betterment of our society.

The effect of privatizing gains and socializing losses has been a travesty - the beneficiaries of the bailouts have been the huge banking interests that made those risky loans in the first place. All this also exposes the fallacy that the recent financial problems are a consequence of free markets; the banking industry is one of the most heavily regulated in the nation (along with health care).

Beyond that I can't say much for the trading history that Mosler relates; he describes a business at which he was evidently somewhat successful, but the cases he describes are not illuminating to the underlying nature of economics.

Mosler's Part 3 makes specific recommendations, but I don't see much point to commenting on them since I think his diagnosis of the problem has significant errors.

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Penultimately, as an alternative set of fallacies worth considering, I offer this essay on the Great Depression (also Higgs).

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Finally, let it be clear that the current recession is a tragedy of immense proportion. Unemployment at 15% (or as high as 22%), alone as a consequence, tells us we should pay close attention to the nature of this situation and try to determine the root causes.  My critique of the Modern Monetary Theory as expressed by Warren Mosler in his booklet is an attempt at shedding light on those root causes; it aims to avoid making the situation even worse, by pointing out the errors in the logic that has caused the repeated boom/bust cycle, and that has insultingly been used to justify the financial bailout of powerful special interests.  To be clear, many of these errors are not unique to MMT, but pervade the broad discussion of economic policy. 

In the process of this writing, I have also tried to describe what I believe to be the path to sustainable growth that is based on people's freely chosen desires, with competition and risk-taking being hallmarks to satisfy the future unmet needs of the people in our society.  In as much as we approach that end, the result is called laissez-faire.

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For more of this discussion, see the following posts concerning the other frauds

Introduction

1 - Government Spending

2 - Debt

3 - Budget deficits

4 - Social Security

5 - Trade deficits

6 - Investment and savings

7 - Future effects

Wrap-up

Modern Monetary Theory - Fraud 7 - Future effects

July 28th, 2012

This is the seventh part of a critique of some of the thoughts expressed by Warren Mosler in his booklet "Seven Deadly Innocent Frauds of Economic Policy"

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Deadly Innocent Fraud #7: It’s a bad thing that higher deficits today mean higher taxes tomorrow. Fact: I agree - the innocent fraud is that it’s a bad thing, when in fact it’s a good thing!!!

Mosler uses this section for a recap, so I might as well do the same.

Mosler appears to not understand the causes for inflation, which is simply a case of supply and demand. When we buy something with money we could as easily say that the seller is buying money in exchange for goods or services. The price in terms of money or goods is a function of the relative valuation on the part of buyer and seller, which is a function of the relative supply and intensity of demand. More dollars in circulation under conditions of the same level of goods and services leads those dollars to be worth less, and dollar prices rise. More goods and services with the same number of dollars leads to falling prices.

Mosler also appears to be confused over what constitutes wealth; wealth is not increased by adding a zero to the units in your bank account, if there is no greater amount of goods and services available for consumption. The creation of wealth is a function of production and trade, comparative advantage and the division of labor, and price signals that represent the constantly changing relative valuations of goods and services by members of the community. A sound money system in which to measure those valuations is crucial to the ability of people to plan for the future and make the most efficient use of their limited resources to satisfy the most important of their unlimited desires. Money supply manipulation has a pernicious effect on that ability that when taken to extremes can also be disastrous to the society.

The reason the "department store has lot of unsold goods and services" (p. 67) under current conditions is that there was unsustainable investment in producing those things, driven by low interest rates. Meanwhile prices have been propped up in areas such as housing, which has kept the market from clearing out the excess (i.e. it has kept individual people from lowering their prices to a point that other people are willing to pay).

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For more of this discussion, see the following posts concerning the other frauds

Introduction

1 - Government Spending

2 - Debt

3 - Budget deficits

4 - Social Security

5 - Trade deficits

6 - Investment and savings

7 - Future effects

Wrap-up

Modern Monetary Theory - Fraud 6 - Investment and savings

July 26th, 2012

This is the sixth part of a critique of some of the thoughts expressed by Warren Mosler in his booklet "Seven Deadly Innocent Frauds of Economic Policy"

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Deadly Innocent Fraud #6: We need savings to provide the funds for investment. Fact: Investment adds to savings.

This assertion can be shown incorrect through considering the case of no savings, which is the same as when consumption is equal to production.   If we are consuming everything that we produce, what could possibly remain available to invest?  The confusion here stems from equating money to wealth, or by equating financial capital with the capital represented by the combination of productive capacity and by consumption products that have not been fully exhausted or worn out.

To elaborate, for the economy of Robinson Crusoe (an occasionally useful gedankenexperiment), his daily consumption of nuts and berries is what he manages to produce/collect each day. His other consumption is time at leisure, which besides accounting for our daily food and shelter is perhaps the most valuable good that many of us desire.  If RC wants to expand his consumption to fish he must make savings from his other consumption for the time and resources it will take to collect materials, weave a net, catch the fish, prepare fire and cook the meat. For all the time RC is making those investments he must live off of nuts and berries he collected and saved from the past.

For the individual living in society, if she spends every penny of earnings there is nothing left over to improve her situation. The case is directly analogous to larger groups of people; if they consume everything they produce there is no savings, and there is nothing left over to invest. It doesn't matter how many currency units are in circulation, because the investment in increasing production requires there to be available actual factors of production sufficient to generate increased output - the currency units are only the accounting mechanism that helps everyone trade for what they want and need to obtain those ends.

RC's investment of time and materials for fishing has other effects, principally that once the investment is complete his production increases with the addition of fish to his diet, and he has more time to spend in leisure or in other enterprises. RC has more food to eat and it takes less total time to collect it - his cost of living has gone down as a result of his investment. Additionally, RC may now also take time to keep his nets in good repair, activity that constitutes capital replenishment; he can choose whether to let the original net wear out and build a new one at that time, but he cannot choose to do nothing unless he wants to fall back to his nuts and berry collection routine. In an economy with hundreds of millions of participants the difference is in the intricate network of interactions that make up the structure of production, but the fundamental causes and effects are the same.

Mosler summarizes the paradox of thrift on page 63 with 

If anyone attempts to save by spending less than his income, at least one other person must make up for that by spending more than his own income, or else the output of the economy won’t get sold.

The short answer is that this assessment fails to account for the producers lowering prices to the market-clearing level, which also has the effect of increasing real income for purchasers of goods and services.  And this is not just after the fact lowering of prices to dispose of otherwise unsold inventory.  When people invest in new capacity, the entire supply and demand relation shows that more people will purchase a good at lower prices, so increased production must be planned with the expectation of lower prices, or the entreprenuer will experience a loss in her venture because insufficient sales will ensue at higher prices.

What happens if such increase in savings is taking place through the economy?  The effects in the structure of production can be complicated, but some features tend to come out. Consumer spending is necessarily on consumer goods, so prices for those goods would tend to decrease, and suppliers of those consumer goods will see profit margins fall and the marginal suppliers may go out of business. The unseen effects take place on the other end of the production network, where the new savings is available for investment.

An increase of savings means that people have lowered time preference; they are willing to reduce their expectations for return on savings, decreasing interest rates. Lower interest rates mean that some investments become profitable that were not profitable at the higher interest rate. The farther out the investment return, the more of an effect this reduction has. The farther out investments are also the ones that are farthest from resulting in consumer goods. All this tends to shift the structure of production into more long range plans and less supplying for direct consumption, which is exactly what the consumers spending preferences are saying should happen. The effect of this is to increase future production, which aligns with the consumer choices to save their current resources to allow for future consumption. Increasing production lowers prices. Lowered prices means increasing standards of living - real income increases, measured by the ability to obtain the same or greater amount of goods and services for the same or less expense. This is the solution to the paradox of thrift - thrift results in increased production which reduces costs for everyone.

That is the laissez-faire condition.  The problem with the Fed's artificial reductions in the interests rates is that it does not reflect a true shift in consumer sentiment to be more future-oriented with less intense time preferences, but rather encourages borrowing on all fronts. Low interest rates encourage spending on the higher order long term production processes, and at the same time encourages additional production in the lower order consumer goods. And worse, in as much as that borrowing is done to finance investment of capital goods that are less applicable to higher valued consumer preferences, they are more difficult to convert to alternative consumer wants when the investment is shown to be a loss and must be liquidated. Such difficulty makes the inevitable readjustment that much more difficult to achieve, worsening the effect of the bust. If the local specialty pizza maker decides on the basis of low interest rates that she can invest in a new pizza oven, and the pizza-oven maker decides on similar basis to expand pizza-oven-making capacity, it does neither of them any good when the consumer disposable income is shown to be inadequate to buy sufficient pizzas to justify the investment (when the consumer borrowing comes due).

What leads to the recession after the boom is that the level of production in excess of consumption - what is available to invest - has not actually risen to the point required to sustain that production in combination with the coincident increase in consumption. To be more clear, the production I'm describing here is that of the producer goods and services that go in to trying to raise production according to the investment. These have actual physical and temporal limits, so it does not matter how many currency units are in account.

When the system allows expansion of credit in excess of actual savings then the economy starts down a path of unsustainable investment. We can add as many zeros to account as desired and it won't change the fundamental physical limits of what can be produced in the then-current structure of production. As the actual limits of producer goods and services begins to be recognized, prices start to rise precipitously as the disconnect sets in, followed by the collapse when people realize the conditions are unsustainable. For any recovery to follow, the losses must be wiped out in a more or less painful process of adjustment. To keep the boom/bust cycle from happening again we must first refrain from the initiating conditions of credit expansion.

The example of car makers borrowing to make hybrid cars slips over the real point when Mosler says "there would not yet be anything to buy" (p.64); the only way there is anything to buy when developing new capital equipment is if there has been savings from prior production that can be consumed during the interim.

As for the statement that "This is why the seemingly-enormous deficits turn out not to be as inflationary as they might otherwise be" (p.65), what Mosler seems to be missing is how increasing production reduces real unit costs. With stable money such as during the latter half of the 19th century in the United States, increasing production drove reductions in real costs for goods and services and led to increased living standards even while prices were dropping. These days, our fiat currency is progressively debased as a point of "stable prices" policy, and the relatively low inflation should be compared against what would otherwise be progressively decreasing prices. In other words, the inflation is understated to that extent. By the way, this is also one reason why changes in quantities such as gross national product do not necessarily relate to changes in the underlying per capita living standard.

The complicity of financial institutions in this situation is not difficult to understand - as generally the first recipients, they are the ones who most directly benefit from the currency and interest manipulations.

A side point about inflation... 

It can be argued that any unused industrial capacity could be put to work using printed dollars, with the result being non-inflationary.  I think this is incorrect due to the fact that the entire set of resources necessary to support that production is already committed to something else, which currently offered prices are insufficient to overcome, even if that use is simply to reserve the factor for some future use.  For example, the owner of a mine may not operate it to full capacity because the going prices for the product, and more importantly the projected future prices, are insufficient to overcome her predictions about what the corresponding costs of production are likely to be.  This is part of how entreprenuers deal with the uncertain future, and also illustrates conservation principles in how people are consider the future value of the resources under their control.  

If under these conditions the government comes in with newly printed dollars and tries to buy up those resources to increase production in some way, it must bid higher prices to pull the resources out of reserve, which starts out the inflationary effects.  Another consideration is that the completion of every productive activity requires the coordination of a large number of factors, some of which are almost certainly fully occupied in some other activity; in these cases the government-directed production introduces a new competitive force for the use of those resources, which also has inflationary effects. 

A third deleterious effect relates back to the overall problem of credit expansion, which is that investment in new resources can only come from resources that have previously been saved from consumption.  At the level of the entire economy it is difficult to detect uniquely as a consequence of one or another specific spending project, but in each case the effect is to pay people for goods and services needed to complete the project using goods and services that do not yet exist. 

Another side point, about the fractional reserve banking system ...

Once upon a time, when banks were originally created, they served as a warehouse for the storage of gold and other precious metals, used by people who found it inconvenient to store the money on their own property.  Before long, warehouse receipts were used to represent the fact that a given warehouse held an amount of gold money in trust, and those receipts began to be traded as money substitutes.  So far, so good - one warehouse receipt for each unit of gold kept in reserve.

At some point an unscrupulous warehouse owner thought she might take advantage of the fact that warehouse receipts became more convenient for trade than the gold money itself, so people might not very often make a claim on the actual gold in storage.  The warehouse owner might have then issued more receipts than were actually backed by gold in the vault, which was a fraud.  If you put a piece of furniture in a personal storage unit because you don't expect to need it for a few years, it is a fraud for the storehouse owner to rent out the use of that furniture in the mean time, and so it was for these money substitutes. 

Even so, this was a controlled situation, because people started clearinghouses to exchange the gold warehouse receipts that came from various sources.  Those people were in the business to make sure that issuers of warehouse receipts would exchange such receipts for the actual gold, and kept the unscrupulous dealers in check.  

Then the government entered the picture, with the intention of lavish spending, mostly on war, made alliance with powerful bankers to legalize this fraud, to pay for the war and other expenditures of political whims.  At the same time, the bankers were allowed to make loans using these fraudulent notes, which of course increased their profits.  The result was fractional reserve banking, whereby any bank need keep on reserve only a fraction of the money actually held as demand deposits by thier customers, which has been a major contributor to credit expansion and related financial booms.  Today in the United States, the fractional reserve requirement is 10%, which means that the banks can pyramid the money supply by ten fold for each dollar in reserve. 

For more on this, Rothbard is a good source for criticisms of the fractional reserve system.

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For more of this discussion, see the following posts concerning the other frauds

Introduction

1 - Government Spending

2 - Debt

3 - Budget deficits

4 - Social Security

5 - Trade deficits

6 - Investment and savings

7 - Future effects

Wrap-up

Modern Monetary Theory - Fraud 5 - Trade deficits

July 24th, 2012

This is the fifth part of a critique of some of the thoughts expressed by Warren Mosler in his booklet "Seven Deadly Innocent Frauds of Economic Policy"

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Deadly Innocent Fraud #5: The trade deficit is an unsustainable imbalance that takes away jobs and output. Facts: Imports are real benefits and exports are real costs. Trade deficits directly improve our standard of living. Jobs are lost because taxes are too high for a given level of government spending, not because of imports.

Issues raised in respect of international trade can be judged in part by considering whether an argument holds if the logic is expressed in terms of a city rather than nation-state. If the argument does not hold for the city or smaller community, then odds are the basis is one of nationalism or false patriotism. Similarly, if a proposed trade policy is conceived in terms of all trades or industries, and not just the one that might be given in example, then at least it does not fall subject to special pleading in support of some favorite group.

It is gratifying to find neither of these problems in Mosler's take on trade, although I could quibble about the expression "The real wealth of a nation is all it produces and keeps for itself, plus all it imports, minus what it must export" (p. 59). The term "all it produces and keeps for itself" already accounts for "what it must export", so there is no reason to subtract it a second time.

I agree that the trade imbalance is not very well understood; a trade deficit on the one hand represents on the other hand a surplus in the current accounts balance - our trading partners are collecting dollars, most of which go to investments in dollar-denominated assets (no doubt a fraction is kept in cash).  Those dollars bid up asset prices, contributing in part to lower interest rates and higher stock prices. Eventually those investments are converted to consumer goods (in one or many stages). In a specie money environment these flows equilibrate with changes in the price ratio of imports and exports; fiat currency just makes it harder for people to understand the true price conditions.

The problem is not that there is a trade deficit, per se, but that the government is able to increment the currency unit account balances and claim that all will be well. The government can not just "keep American spending power high enough" (p. 61) in this way, because the true value of trade is in the receipt of other goods and services, a point which Mosler acknowledges (p. 57) but neglects the related ramifications.

Mosler's points about international trade (p. 61-62) apply equally to trade at any level - the parties to exchange each hope to benefit from the exchange, with any intermediate lenders also part of the process.

Where I take issue is the implication that we are doing foreigners a favor by having a fiat currency ("Domestic credit creation is funding foreign savings"). It is a point of national policy to impose legal tender laws that forbid use of other assets for payment of debts (particularly taxes). Add to that the international treaties, Bretton Woods, particularly, that imposed a US domination of currencies of other nations, which was followed eventually (and formally in ~1972) with the complete removal of any commodity backing to dollars, replacing the world's unit of exchange with the full faith and credit of the United States.  The progressive devaluation of the dollar's purchasing power is broadly acknowledged, such as captured in wikipedia - as retreived from MeasuringWorth.com.  As a related point, Shadowstats has a pessimistic view of where this is headed.

But in spite of that devaluation (other currencies going down as fast or faster, for the most part), the US dollar remains the reserve currency - it is relatively liquid, stable and secure (the tallest pygmy, so to speak). In such an environment it is no wonder that foreigners choose to denominate their savings in dollars, and put their excess dollar holdings in US Treasury securities. The fact that foreigners buy those securities does not ameliorate the issues with fiat currency, except maybe to put off the inevitable accounting.

I guess that here is the place to bring up a point about the US dollar being the world's reserve currency. Would we be in as good a position were some other nation's currency to be the world's reserve, and the US dollar was then subject to the deteriorating value of the Ruble, Euro, Yen or Renminbi? I suspect the answer is no, which causes me to further question the validity of economic theory that subjugates the world to the currency manipulations of the United States - the theory fails the test of universal applicability.

The recent situation in Iceland might serve as illustration of these problems. They don't have the advantage of being responsible for the world's reserve currency, but one can imagine the inflationary consequences if they were able to use those accounts to bail out their bankrupt banks. The effect of US bailouts have had a smaller observable effect due to the substantially larger size of the underlying US economy, but the pernicious effects remain, among the most damaging of which has been the continuation of the very banks whose risky behavior contributed so much to the crisis.

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For more of this discussion, see the following posts concerning the other frauds

Introduction

1 - Government Spending

2 - Debt

3 - Budget deficits

4 - Social Security

5 - Trade deficits

6 - Investment and savings

7 - Future effects

Wrap-up

Modern Monetary Theory - Fraud 4 - Social Security

July 22nd, 2012

This is the fourth part of a critique of some of the thoughts expressed by Warren Mosler in his booklet "Seven Deadly Innocent Frauds of Economic Policy"

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Deadly Innocent Fraud #4: Social Security is broken. Fact: Federal Government Checks Don’t Bounce

The original point is clearly correct - all one need do in a fiat currency to pay any bill is simply print the value and hand it over. Our modern electronic accounting makes it even easier, incrementing accounts electronically.  The significant issues with Social Security and Medicare relate to how they effect everything else that we do to save for our retirement, and to what happens next when the government does resort to simply crediting accounts to "pay" those bills.

The privatization argument #3 (p. 52) fails to account for reduced benefits expenditures for Social Security and Medicare (hereafter SS) when claiming the budget deficit will be that much higher. Although Mosler acknowledges in the following paragraph that "You later will collect a bit less in Social Security payments when you retire", his paragraph after than persists with the increased deficit story.

The notion of privatization as stated is something of a straw man in as much as it assumes that people will take the savings and put them in stocks. A policy of non-intervention would allow people to make their own choices on how to spend or save or invest that difference.

The point that SS payments are equivalent to bonds (p. 53) might be "operationally" true, in as much as the promised accounts are simply another expense on the federal books that are paid each year. But in this case there is not even the formalism of securities - receipts this year go to pay this year's expenses.  

Compared to relatively low performing private investments, but with equivalent interest accounting for SS taxes, a recent study by the Urban Institute indicates that past performance of the SS system has exceeded that of such private investments - that is, the total benefits being paid out through that system have exceeded what people could obtain on the market (given their assumptions on rate of return).  This alone gives reason to expect there are likely to be reductions in benefits as the population continues to mature, a projection that can be found in many sources, including the SS Administration itself.  If a private annuity changed the terms of payment like SS has done already, and will likely continue to do, would be charged with fraud.

A further point against SS as a beneficial social institution is the way that demographics drive it to systematically transfer wealth from disproportionately short-lived black men to rich white women who are far more likely to collect SS payments for many years.  More systematically, I found a 1994 Cato study (Cato Journal, V14 No 1) that outlines the differences in returns for various demographic groups

The interview with Steve Moore (p 54-5) is another straw man; both people fail to discuss how the key to improving our standard of living is to increase production. Increasing production allows our lives to materially improve even with constant money stocks, as prices persistently drop and make everything more affordable. Money prices mean nothing in this context - the more important measure is purchasing power.

The reason privatization is important in this context is that it allows people to decide for themselves the things of value that make increasing production equivalent to increasing living standards (it doesn't do any good to increase production in buggy whips when people prefer automobiles); this is the reason why personal investment decisions work better than political decisions (setting aside the fallacy that the government is "investing" much of these funds - they aren't going to expand consumer-driven production, but to pay off debts incurred in prior generations).  These decisions are not simply abstractions of "better" that we could all agree with - they are the concrete priorities expressed through the dozens or hundreds of large and small purchases that we make every week on specific food products, articles of clothing, toys and gadgets, gifts, and entertainments.  Another reason privatization is important is for reasons of incentives - taking control of people's futures out of their hands removes some of the incentives required to make choices in light of their possible future.

Mosler does acknowledge the importance of production (p. 57), but there's not much to say in this work as to why or how production increases - based on investment, driven by consumers, signaled by prices. His remark "that there pretty much isn’t anything in the way of real goods we can produce today that will be useful 50 years from now" should be questionable to anyone looking at modern buildings (my house and many others in my neighborhood were made in the 1920-40's, for example, and could easily last an equal number of additional years).  Beyond property improvements, among other capital goods there are 707s and 727s made in the 1960's that are still flying today. A lot of machine tools have or will last well more than 50 years, as will large parts of power plants, and it seems reasonable to expect hand tools are more likely to be lost than wear out in that time. Sculpture and other art works, musical instruments, and irrigation canals. I purchased my bicycle in 1978, and don't expect it to fall apart 17 years from now.

Mosler seems to equate government spending with personal spending (p. 58), which conflation makes him confused about what the effect of savings really is. Savings is what allows for investment - if you consume everything you produce there is nothing left over for anything else. The investment adds time (and ideas and material and labor) to the production cycle and the result is doing more with less - it is not a zero sum game, so his financial accounting logic has limited usefulness in explaining what actually happens in the economy.

The broad challenge is in facing up to the fact of scarcity of the resources that go in to that production - time, material, labor - in all their varied characteristics and suitability for difference purposes. Our response to this scarcity depends on the object and our potential uses we might put it to;  things we value more we will bid up in price, and forego (or economize) on other things as the trade-off.  The things that make our lives comfortable and safe are not features of the natural world which just appear in final form. We have to make choices about which ones are of value, and not just in rough abstract terms but in hundreds of concrete decisions every single day, renouncing almost everything to have the few things we value most.

The great thing about living in society is that we reap the benefits of the disparate values of those around us. The fact that we all have different talents allows us to specialize in production to the benefit of others, and that we all prefer different things means when we choose to make exchanges that both parties come away in a better position.

But it appears that Mosler thinks all this can arise by changing bookkeeping entries in the government account.

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For more of this discussion, see the following posts concerning the other frauds

Introduction

1 - Government Spending

2 - Debt

3 - Budget deficits

4 - Social Security

5 - Trade deficits

6 - Investment and savings

7 - Future effects

Wrap-up

Modern Monetary Theory - Fraud 3 - Budget deficits

July 20th, 2012

This is the third part of a critique of some of the thoughts expressed by Warren Mosler in his booklet "Seven Deadly Innocent Frauds of Economic Policy"

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"Deadly Innocent Fraud #3: Federal Government budget deficits take away savings. Fact: Federal Government budget deficits ADD to savings."

My first complaint with this section is the characterization that the deficit equals increased monetary savings (p. 42). I grant that when people purchase such securities they are putting aside those resources, so those purchases represent savings, but it is a mistake to conclude that there is an increase in savings because of this. The dollars put into US government securities would have been put elsewhere if the government had not been selling low-risk bonds (full faith and credit and all that, guaranteed by taxes and inflation) - elsewhere such as investment into productive enterprises, or spending on consumer goods and services.

I offer a few challenges to the discussion surrounding the numbered points (p 43-44):

a) firstly is the failure to acknowledge that the same sort of money flow arrangement does not also happen with private lending, which comes back to my prior objection that Mosler ignores the unseen - that which would have been done with those same resources had the government not entered the market.  It is obvious that any money that is loaned out is eventually spent by the recipient, which of course becomes income and possible savings or further spending.  However it is a mistake to mix up the originating circumstances - there can be no original loan except of what has been previously saved, i.e. held back from consumption (more on this point in my post on Fraud 6)

b) next is failure to account for winners and losers in this situation. Time and again it is the politically connected banks who benefit from these arrangements, illustrated recently by the sweetheart deals that allow the likes of Goldman-Sachs to buy those financial instruments at next to nothing and sell them immediately at a profit (here is a January 2011 description in the NYT).  National Affairs (Jason Thomas, Fall 2010) put it this way:

The banks had an additional motive for buying federal debt. As a result of the credit crisis and the flagging economy, the rate at which banks lend to one another hovered near 0.25% for much of 2009, while ten-year Treasury notes yielded 3.5%. This meant that banks could borrow from other banks cheaply, and then use that money to buy Treasury securities, which would earn them more than 3% in net interest income. The ability to obtain such wide margins without the assumption of much credit risk obviously increased the appeal of Treasury securities.

[Here is a related article found in econbrowser that describes more recent plans in the Fed for further manipulations of the credit markets, in which they buy long term debt with newly created money - i.e. they make loans, and borrow an equivalent amount back at short term rates.  This might keep the wheels from falling off for a bit longer, but it is playing with fire to risk those rates flipping like they have for all sorts of other lending institutions.]

An inflationary effect of Federal government borrowing can be seen by how it actually works in practice.   The Treasury issues debt obligations, private parties purchase those securities, then the Federal Reserve banks repurchase the securities from those parties, thereby "monetizing the debt" - increasing the number of dollars in the system as a direct result of the debt securities created by the Treasury.  A similar mechanism is when the banks that originally purchase those Treasury securities use them as collateral when borrowing from the Fed.  These processes have been going on since the years leading up to the 1929 crash, if not also since the inception of the Fed.

c) then there's the topic of "the usual things government spends its money on" - so often foreign and domestic wars, there is no reason to encourage it.

d) Mosler makes a similar error, but in reverse, in reference to a budget surplus, suggesting that the only way for private savings is through government securities. Of course a surplus either goes to paying down the debt or lowered taxes; both return dollars to the checking accounts of the community, where they can be spent, saved, or invested as people see fit. 

e) and finally there is a fundamental error to not differentiate between demand deposits (savings accounts) and the purchase of debt instruments such as Treasury securities - the funds are not available in the latter until the term is up (which could occur gradually if the loan is amortizing). The buyer of those securities can not treat them as a savings account, to be withdrawn at any time.

The Al Gore story (p 45-6) falls to the error (d) above, by implying that the only thing to buy with personal savings is Treasury securities. If a surplus were monetized by tax reductions, does Mosler really think that people would not find their own ways to save or invest or spend the difference? And if the surplus went to buy down the debt, would not the sellers of those securities now have the proceeds to spend in other ways? In what way does this "drain our savings", except by the incorrect equating of debt obligations with demand deposits?

The Robert Rubin story (p 46-7) falls to the error (e) above.

For a comprehensive analysis of US money and banking history, see Murray Rothbard's History of Money and Banking in the United States (available in different forms through Mises.org)

There is quite a bit more to the national debt than the fact that normal accounting equates it in magnitude to the non-government accounts at the Federal Reserve Bank. In addition to the point (e) above, the debt does not treat all citizens equally, as purchasers of those securities take the advantage of very low risk investments, made possible by the future taxes or inflation to be paid by everyone else [covered in (b) above].

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For more of this discussion, see the following posts concerning the other frauds

Introduction

1 - Government Spending

2 - Debt

3 - Budget deficits

4 - Social Security

5 - Trade deficits

6 - Investment and savings

7 - Future effects

Wrap-up