Keynesians, Ganja & Hawaiian Shirts

An amusing piece from John Hempton at Bronte Capital that tries to get to the heart of the mess:

The Federal Reserve has too much credibility. Each time it increases the money supply it buys some asset (say a government bond or even a foreign security) and issues cash. And people hold the cash because it is a reasonable store of value. And it is a reasonable store of value because they trust – at the end of this cycle – that the Federal Reserve will eventually take its vault full of assets, sell the assets for hard cash (which it will destroy) and will thus suck the excess liquidity out of the system.

If people really believed the cash was trash they would all try to get rid of it (i.e. buy something) but collectively they could not get rid of it (every time they buy something it would have a new owner) and the result would be inflation. Inflation would then reduce the real value of the money stock to a level where people were comfortable holding it.

To get inflation you need to damage the Federal Reserve’s credibility. You need the Federal Reserve to make a credible promise to be reckless.

And Ben Bernanke – despite the helicopter speech in which he outlined this view of the world very clearly – is not your man. Maybe it is the facial hair – but he looks – well, just too responsible.

[Bernanke] should not only announce that the Fed is buying Italian debt. He should do it whilst wearing an Hawaiian shirt and carrying a marijuana pipe. (I would even buy him the pipe…)

I agree with Hempton, but for all the wrong reasons. Firstly, the Fed has way too much credibility, because of the popular (but utterly wrong) idea that the Fed is capable of successfully managing the economy (and ending recessions) through monetary policy.

The problem is that most of the problems inherent in America and the West are non-monetary, and that at best, all that monetary policy can do is kick the can, in the hope of giving society and governments more time to address the systemic problems. The Krugmanite solutions that Hempton advocates — i.e. 6 or 7 years of 6% inflation and 2% interest rates, won’t solve the underlying systemic problems because they choose to ignore the systemic problems by instead focusing on money. I call it money-centrism.

As I wrote back in August:

These troubles are non-monetary: military overspending, political corruption, public indebtedness, withering infrastructure, oil dependence, deindustrialisation, the withered remains of multiple bubbles, bailout culture, systemic fragility, and so forth.

Since I wrote that I have moved toward the idea that the major problem at the core is systemic fragility. Simply, the high levels of interconnected leverage mean that one default (like Lehman brothers or AIG) can trigger many, many others, causing the system to collapse. The solution to this has been that monetary policy has taken on another task: the abolition of (large-scale) default. This has been done through two mechanisms, one local and one systemic.

At the local level, whenever a crisis hits and a “systemically important” institution comes under pressure, it is bailed out. A the systemic level, there has been the abolition of deflation.

These mechanisms have made can-kicking the rule, rather than the exception. The trouble is that can-kicking means that a major depressive influence on economic growth (excessive inter-connected debt and leverage) is not cleansed from the system, as it would be by a full crash and collapse. This is the process that Japan has experienced for the past twenty years. I call it zombification — failed banks, and failed systems live on as zombies on state (monetary and fiscal) life support. The problem is that this sucks productive capital (via taxation and money printing) away from productive endeavours, and toward sustaining a failed and failing mess.

Simply, I believe that the financial zombies have to be liquidated. If that means the system fails, and most of the debt is defaulted upon, well then that is great. That means that productive capital — instead of going toward paying down debt — can go toward new productivity, new investment and new innovations — things that will help ease the other problems, like America’s oil dependency (alternative energy), withering infrastructure, and deindustrialisation.

So as the system zombifies, Bernanke’s credibility will eventually be eroded by the reality that we are not having a recovery. That is because the debate is entirely focused on monetary factors, and not focused at all on the real-world factors — industry, technology, productivity, energy, food security that are the real economy — and which are the factors which need to be addressed to achieve long-term economic prosperity.

Hopefully the debate will eventually move away from money and monetary policy, and toward the real world economy. I see a lot of green shoots from both ends of the political spectrum in that regard: the Occupy movement is finally talking about joblessness, and the Tea Party have long talked about American deindustrialisation and dependence on Arab oil and Chinese industry.

The truth is, Bernanke might as well have been wearing Hawaiian shirts every day for the last five years, and rolling and smoking some fat joints. His economic policy has saved the failed system that has caused and perpetuated many of the problems. Perhaps he thought he was buying time for the political establishment to deal with the “bigger-picture” problems. If he did, then he seriously over-estimated their abilities.

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26 thoughts on “Keynesians, Ganja & Hawaiian Shirts

  1. I agree with you on this but I think it’s worth considering why these failures aren’t being allowed to happen. If you consider the collapse of all these debt instruments (bonds) due to widespread default, what you are going to have is many, many, many baby boomers who see all their retirement savings and pensions evaporate. And they are the prime voting block now (seniors). But we, the jilted generation(s), have had probably about all we are going to take of caring for the Baby Boomers feelings. I mean, c’mon, after 60 years can it be someone else’s “me” generation. I think this is why we are going to see a pretty ugly age based civil war a la The Burning Platform’s Bad Moon Rising post (
    Still, the Baby Boomers are probably going to try to kick the can down the road until they kick the bucket. I won’t be shocked to see the Baby Boomers helped along their way off the planet by generations who have potential lives ahead of us.

    • I hate to engage in or encourage inter-generational warfare (the family is surely the most concrete kind of social structure) but there’s a reason my sub-headline is “Economics for the Jilted Generation”, and not “Global Economic Analysis” or something similarly bland.

      Simply, Japan is a more extreme case of what we have here. “Nothing can be defaulted upon, because that would hurt those on fixed incomes”. Well, the problem there is that a whole lot of boomers have bought into a bullshit system of rolling their money via government when really they should roll it by investing in stocks and bonds in their children’s businesses. The reality is that the boomer’s capital is desperately needed — instead of financing the endless can-kicking (and endless wars) it needs to go to productive endeavours.

      Maybe the problem is that the boomers trust the government (even at record-low rates) more than they trust their children and grandchildren. But if we don’t get any opportunities to learn how to run a business, market a product, or create jobs then we’ll never learn.

      So rather than inter-generational warfare, perhaps we should promote inter-generational trust: boomers’ send capital to Gen Y and X, and we create more wealth so the boomers can sustain their standard of living, while younger people can increase theirs.

      I need to write a full piece on this…

    • Thanks for the burning man link. I forwarded it to the Australian Prime Minister. Government jobs are a form of Kleptocracy. You have to go to the right schools to be able to write verbose policy documents.

  2. “So rather than inter-generational warfare, perhaps we should promote inter-generational trust: boomers’ send capital to Gen Y and X, and we create more wealth so the boomers can sustain their standard of living,”

    With oil exports declining for years and the decline set to accelerate it is not going to happen.
    The party is over.

    • Oil is hardly the only energy source we have on this planet that can facilitate economic growth or long-range prosperity.

      I am extremely bullish on solar (decentralised, robust, ubiquitous) and readers keep throwing up petty objections like “it doesn’t work at night” or “there’s no way to store it”.

      Well take this, peak oil fanatics (neo-Malthusians):

      The world’s first solar power station that can work all through the night has been officially opened near Seville in southern Spain.

      More than 2,600 mirrors at the Gemasolar installation concentrate the sun’s rays to create superheated liquid salt during the day, and that retains enough energy to generate power throughout 15 hours of darkness.

      Human ingenuity triumphs again.

  3. Can the things you mentioned happen without the US defaulting on its whole portion of debt? I mean, without an outright US default the boomers’ capital rushing out of Treasuries, government RPs, etc. will immediately cause the rates to spike, making it practically impossible for the US government to finance new debt.

  4. @Azizonomics, what do I call this group of economic collapse forecasters (which includes you):

    * azizonomics
    * BoomBustBlog
    * Marc Faber Blog
    * Mish’s Global Economic Trend Analysis
    * SHTF Plan – When It Hits The Fan, Don’t Say We Didn’t Warn You
    * Sovereign Man: Finance, lifestyle design, Offshore Business and Expat news
    * TF Metals Report
    * ZeroHedge

    Do you guys have a nickname, like the ‘Dollar Doom Crew’, or something snappy? I want to share you all with friends, and I’m not sure how to describe you all.

    • We’re all quite different. I suppose the biggest thing we have in common is that we all believe that the system is fundamentally unsustainable due to high debt load. That sets us apart from most of the economic establishment (e.g. the IMF) who seem to presume the can can be kicked indefinitely, and no tipping point will ever be reached.

      Another unifying factor is that we all to some degree or another believe in black swans, and are therefore highly suspicious of mathematical modelling (while some of Keynes’ ideas are useful, my suspicion of mathematical modelling is what sets me apart from paleo-Keynesians like Hyman Minsky, etc)

      On those grounds I’d call us all Anti-Debt/Anti-Leverage Prophets (I considered Anti-Debt Doomers, but I am not really into doom and gloom — i am actually very optimistic about the Earth in the long run, and I see the destruction and rebirth of the global economic system as a fundamentally positive thing).

      • Anti-Debt/Anti-Leverage Prophets

        It’s a good description, but I’m not sure it’s got MSM appeal ;-)

        I don’t read all of those blogs regularly, so forgive me if I’ve got the economics wrong, but how about ‘Neo-Capitalists’? Isn’t it time to reclaim the C-word from the banksters, cronies and corporate welfarists?

      • Hmm. The term neo-capitalist has been used before (I Googled it.). It’s also a bit vague in my mind. If the focus is on tangible assets, and not paper/debt, then something similar to ‘assetists’ (is that a word?) might be better. Except, that word sounds terrible.

        Also, there isn’t a reflection of the 1% vs the 99% (you guys vs conventional Western economics) in either of those descriptions. I think its important to make it known that your movement is swimming against the flow. A term worthy of a clash between David vs Goliath is one that I believe would be worthy of your group of thinkers. One that conjures a new world being born from a destroyed one.

        Naming a movement is a good first step towards embracing it, don’t you think?

        • After some more thought, I have hit on another aspect here. Everyone in this “movement” has an aversion to central planning, and an understanding that the modern economic thought and planning and central banking and bailouts cannot change the laws of nature. That’s where the neo-capitalism comes in — markets contain far too much information for a central planner to plan effectively for unseen consequences, black swans, etc, and therefore decentralisation and freedom to choose are favoured, because when decisions are localised they tend to reflect more of the reality on the ground.

          A term worthy of a clash between David vs Goliath is one that I believe would be worthy of your group of thinkers. One that conjures a new world being born from a destroyed one.

          Yes — for me, the key is fragility — the fragility of the old world inevitably crumbling and being replaced. Creative destruction.

          I like neo-capitalism because it reflects the choice that we are going to have to face post-collapse in constructing a new economic system — and certainly those who foresaw the collapse should have a good hand in reconstructing the system. Either it will be based on individual freedom, open markets, transparent government, etc, or we are going to see statism or nationalism reborn. I want to see freedom triumph in that contest, and it damn well deserves to mostly because it works.

          I suppose the term neo-capitalism doesn’t quite capture the David vs Goliath thing. A problem is that though we (although not I) have made a whole lot of “hyperinflation is coming tomorrow” bullshit predictions that have been totally wrong. As Mish put it a while back, the only people who have got the inflation picture right are debt deflationists, Austrians who have incorporated debt deflation into their theories, and (ugh) Paul Krugman. My reason for not predicting hyperinflation is because in the past it has been a non-monetary phenomenon (i.e. not enough production/imports to satisfy needs/demand).

          A name will come. Perhaps my favourite is Creative-Destructionists, but that isn’t as catchy as I might like. Neo-capitalists will do well, because it’s simplified and catchy.

    • Neo-capitalists? So you would bastardise a bastardisation because the bastards had bastardised the original meaning of capitalism?

      What about freemarketists? Rather than in the laissez-faire, unregulated mould, free as in being unencumbered by regulation, monopolists or rent-seekers; as in “ensuring a free market”. It is of course no coincidence that it hasn’t been used before as I have never seen an actual “free” market.

      I’m with you guys though – a level playing field for all. Besides, if you want popular support, then I doubt “destruction” is a word you want in your title.

        • I recently defended Ron Paul against a pissed-off voluntarist who told me that Paul needed to “watch his mouth about calling himself a voluntarist; voluntarists don’t vote, and they sure as hell don’t run for office.”

    • I will go with the Neo-Capitalists too.

      I will tell you a story about Neo Capitalism. An old man would sell organis fruits and other preserves and pickles, nuts etc, by the side of the highway, on a rest reserve. He was ordered to move along by the council. Apparently the local Supermarket chain made a complaint.

      Sop here is a new venture capitalist, driving to another state to source organic locally grown food, and sell it in an area designed for rest and refreshment for weary highway travellers. And he is shut down.

      I say we need Neo Capitalism, and boycott the big end of town. Hand made clothes, presnts and food is the way to go. Cottage industry where unemployed people can find a new sense of pride and hope.

      I saw this in Ukraine 6 years ago. From the rubble of Communism came new ventrures, but now the Oligarchs are banning the famers markets so people go to their “Supermarket”. They learnt from the West!

  5. Aziz, you mentioned “The Krugmanite solutions that Hempton advocates — i.e. 6 or 7 years of 6% inflation and 2% interest rates, won’t solve the underlying systemic problems “;

    But the Fed’s backers are treading water, while we all drown.

    Simple Voters prefer Keynesian economics. It is complicated and says it will manage the economy. It employs Bureaucrats to manage it. I wish I thought like the Greeks and got a Government job. I thought about an economics job at the end of my studies, but the thought of a Government job back then, was that it was for insecure types, not “Go Getters”.

    The best solution is to campaign, so that the general public wants a return to Neo-Classical Economics. Marxists have had their run, and it has imploded. Their beating drum has a tear in it.

  6. @Gavin,

    you said: “Naming a movement is a good first step towards embracing it, don’t you think?”

    Read Hitlers Mein Kampf. When you ignore the white supremist fantasy and dribble, and read about how the political system is take over by bureaucrats, kleptocrats and down and out imbociles, you get a good idea of how to start an organisation. Hitler favours using clubs to meet clubs. He also gives a paragraph to discuss the importance of naming an organisation.

    • Beyond the antisemitism, white supremacism, etc, Hitler didn’t believe in the free market. He was a corporatist. He understood the problems with bureaucracy and technocracy, and then decided to replace one form (Weimar) with another arguably worse form (IG Faben, Eichmann, etc).

      • I agree that the Corporations were guided into a war production (e.g. Daimlers tank engines) and this was a similar meddling in the economy, but he had a point that bureaucratic vested interest will not allow a nation to kickstart itself, during a severe depression. If he was not so evil (The holocaust etc) then the German cities would have had order and symmetry (Germania), and high tech devices. It is kind of like the Zeitgeist movement in vision. You have to admit the German economy was a model of study. Many people came to see how Germany was faring after the 1929 collapse. For example if Obama spent all the money on revitalising the infrastructure of the USA 3 years ago, we would see progress. Instead we have economic collapse and huge debt with nothing to show for it.

        He was a very angry man, even at a young age. Maybe because MK was written in prison (Not a nice place to write), but at least he wanted a Nation of strength, unlike today’s wimpy Politicians. Because the Nazis killed my family I don’t agree with his final solution policies. But I have studied it to come to terms with his actions.

        Sometimes angry people are the people who care the most. It is weird, but they are frustrated because nobody sees their point. Like a lover yelling at their addicted partner to stop taking drugs. They want to help them because they love them. But the partner runs to the sympathetic drug dealer.

        But in this age we need a re-birth, a new vision, similar to what you are advocating (New Technology solar generators, health research etc). Otherwise the Generation Y and Z will be very angry at the legacy left. The West will end up like the Arab Spring. Revolt, celebration, sober reality and continued decay.

  7. Aziz,

    You said: “That’s where the neo-capitalism comes in — markets contain far too much information for a central planner to plan effectively for unseen consequences, black swans, etc, and therefore decentralisation and freedom to choose are favoured, because when decisions are localised they tend to reflect more of the reality on the ground.”

    Spot on. I think you have nailed the problem. With a new name, and constant propaganda (In a good sense), the public will say yeah I agree. Mathematical Geeks (Keynesians) have no idea. Leave it to Venture Capitalists. Mathematic models can’t predict real world events. Smaller clusters of decision makers are akin to a network of PC’s if one goes down the other reroute the economy. Relying on one poorly maintained and dusty Mainframe is economic suicide.

    I think Trust busting is wrong. If someone has a business model so successful that they become a Monopoly then so be it. If they get too greedy and take too much then the public always has the option of the Guillotine!

  8. Pingback: Catastrophe or Liberation? « azizonomics

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