I’d just like to double down on Ben Bernanke’s comments on why he is optimistic about the future of human economic progress in the long run:

Pessimists may be paying too little attention to the strength of the underlying economic and social forces that generate innovation in the modern world. Invention was once the province of the isolated scientist or tinkerer. The transmission of new ideas and the adaptation of the best new insights to commercial uses were slow and erratic. But all of that is changing radically. We live on a planet that is becoming richer and more populous, and in which not only the most advanced economies but also large emerging market nations like China and India increasingly see their economic futures as tied to technological innovation. In that context, the number of trained scientists and engineers is increasing rapidly, as are the resources for research being provided by universities, governments, and the private sector. Moreover, because of the Internet and other advances in communications, collaboration and the exchange of ideas take place at high speed and with little regard for geographic distance. For example, research papers are now disseminated and critiqued almost instantaneously rather than after publication in a journal several years after they are written. And, importantly, as trade and globalization increase the size of the potential market for new products, the possible economic rewards for being first with an innovative product or process are growing rapidly. In short, both humanity’s capacity to innovate and the incentives to innovate are greater today than at any other time in history.

My reasons for optimism for the long run are predominantly technological rather than social. I tend to see the potential for a huge organic growth in the long run resulting from falling energy and manufacturing costs from superabundant alternative energy sources like solar, synthetic petroleum, wind, and nuclear, as well as decentralised manufacturing through 3-D printing and ultimately molecular manufacturing.

But Bernanke’s reasons are pretty good too. I see it every day. Using Twitter, the blogosphere and various other online interfaces, I discuss and refine my views in the company a huge selection of people of various backgrounds. And we all have access to masses of data to backup or challenge our ideas. Intellectual discussions and disputes that might have taken years now take days or weeks — look at the collapse of Reinhart & Rogoff. Ideas, hypotheses, inventions and concepts can spread freely. One innovation shared can feed into ten or twenty new innovations. The internet has built a decentralised open-source platform for collaborative innovation and intellectual development like nothing the world has ever seen.

Of course, as the 2008 financial collapse as well as the more general Too Big To Fail problem shows greater interconnectivity isn’t always good news. Sometimes, greater interconnectivity allows for the transmission of the negative as well as the positive; in the case of 2008 the interconnective global financial system transmitted illiquidity in a default cascade.

But in this case, sharing ideas and information seems entirely beneficial both to the systemic state of human knowledge and innovation, and to individuals like myself who wish to hook into the human network.

So this is another great reason to be optimistic about the long run.

According to Genesis in the Old Testament, in ancient Egypt, Joseph son of Jacob warned the Pharaoh that his dreams foretold seven years of abundant harvest to be followed by seven years of poor harvests. Farming in the Nile delta depended on good rainfall in the highlands of central Africa to flood the delta area with water and fertile topsoil. Without good rainfall, Egypt was susceptible to famine.

Joseph told the Pharaoh to store a surplus of grain during the first seven years so that the country would have grain during the drought. During the time of plenty, Joseph ordered the storage of 20 percent of farmers’ output in the Pharaoh’s granaries.

This was a countercyclical fiscal policy millennia before Keynes. If we are to be historically correct, Keynesianism might be better known as Josephianism. And although Joseph’s coat-of-many-colours might arouse the suspicions of certain homophobic critics of Keynes, it is noted that Joseph’s wife bore him two sons.

Keynes’ notion of disequilibrium was a reaction against an idea that only grew wings roughly 130 before Keynes with the industrial revolution — Say’s Law, the notion that “products are paid for with products”, that ”a glut can take place only when there are too many means of production applied to one kind of product and not enough to another” and that subsequently “a rational businessman will never hoard money; he will promptly spend any money he gets “for the value of money is also perishable.”

Say’s Law is empirically false. Under certain conditions — including the present condition —  savings levels can soar uncontrollably even while interest rates languish at zero, and while unemployment is elevated. In fact, Say himself foresaw the possibility of massive involuntary unemployment and like Keynes and Bastiat, advocated public works programs to decrease unemployment. Indeed perhaps Say’s Law — at least in its post-Keynes incarnation — is more reflective of the ideas of Nassau Senior or David Ricardo than Jean-Baptiste Say.

Although the human sphere has always been driven to disequilibrium by the divergency of human plans and imaginations, prior to the industrial revolution — like in the time of Joseph and the Pharaoh — the possibility of involuntary unemployment (and starvation, etc) arising out of flood, robbery, famine, plague, drought, barbarian raids or some other externality was everywhere. The difference between the modern breakdowns in the Great Depression and the Post-2008 Depression and pre-industrial breakdowns of production is that the cause of the former is psychological (investors become grossly fearful of markets, etc, allowing resources to sit idle rather than being reallocated to productive uses) while the cause of the latter is actual material scarcity. But in the worst case the result is the same — needs and wants go unsatisfied and skills and trades stagnate. The outcomes of pre-industrial scarcity can seep into the post-industrial world through the channel of human psychology.

Keynes’ and Joseph’s recommendations on saving in the fat years to spend in the lean ones are ultimately apolitical in nature and apply just as much to the private sector as to the public sector. There is a widely-held conception that spending in the slump and saving in the boom is statist and favours central economic planning. This is not necessarily true. If a stateless society — let’s say, a future moon colony led by radical libertarians — becomes depressed, unemployment rises and resources lie idle, one solution to lift economic activity would be voluntary private infrastructure and capital spending. While Keynes himself rather unfortunately noted that “the theory of aggregated production… can be much easier adapted to the conditions of a totalitarian state”, infrastructure spending of private origin would be just as helpful in a depression in a stateless economy.

Yet Keynes sometimes pushed his arguments too far. Keynes suggested that “digging ditches is preferable to doing nothing” and proclaimed that the dawn of the Second World War meant that “the end of abnormal unemployment is in sight”. But wasting idle resources on unwanted projects like ditches or giant space lasers to repel a nonexistent alien invasion, or actively harmful projects like wars even though it may raise aggregate demand is still wasting resources. If the point of countercyclical policy is to avoid excessive levels of stagnation, it seems self-defeating to take idle resources and spend them on something entirely unwanted and unwarranted. Spending labour and capital on a destructive life-ending and infrastructure-destroying war rather than on useful infrastructural and scientific projects is akin to Pharaoh spending grain in a famine to support a war where just as many Egyptians die fighting as would have died in the averted famine.

So for successful countercyclical policy, I think it is important to emphasise quality projects that people actually want rather than simply emphasising aggregate levels of spending. In  Pharaoh’s Egypt, that was a store of grain…

The contributions of Jevons and Menger were multiple, yet each of them took aim at a central postulate of economics shared by everyone from Adam Smith to the socialist left: the notion that labor is a—if not the—source of value. Though adumbrated in the idiom of prices and exchange, the labor theory of value evinced an almost primitive faith in the metaphysical objectivity of the economic sphere—a faith made all the more surprising by the fact that the objectivity of the rest of the social world (politics, religion and morals) had been subject to increasing scrutiny since the Renaissance. Commodities may have come wrapped in the pretty paper of the market, but inside, many believed, were the brute facts of nature: raw materials from the earth and the physical labor that turned those materials into goods. Because those materials were made useful, hence valuable, only by labor, labor was the source of value. That, and the fact that labor could be measured in some way (usually time), lent the world of work a kind of ontological status—and political authority—that had been increasingly denied to the world of courts and kings, lands and lords, parishes and priests. As the rest of the world melted into air, labor was crystallizing as the one true solid.

There are, of course, great parallels between the Nietzschean subjectivism, and the subjectivism of Menger in particular.

Nietzsche:

Whatever has value in our world now does not have value in itself, according to its nature—nature is always value-less, but has been given value at some time, as a present — and it was we who gave and bestowed it.

And Menger:

Value is therefore nothing inherent in goods, no property of them, but merely the importance that we first attribute to the satisfaction of our needs, that is, to our lives and well-being.

Robin sees these theories as being anti-Marxist, anti-socialist, and anti-labour-theory-of-value in their origins as well as in their modern implications:

By the time the marginalists came on the scene, the most politically threatening version of the labor theory of value was associated with the left. Though Marx would significantly revise and recast it in his mature writings, the simple notion that labor produces value remained associated with his name—and even more so with that of his competitor Ferdinand Lasalle, about whom Nietzsche read a fair amount—as well as with the larger socialist and trade union movements of which he was a part. That association helped set the stage for the marginalists’ critique.

Admittedly, the relationship between marginalism and anti-socialism is complex. On the one hand, there is little evidence to suggest that the first-generation marginalists had heard of, much less read, Marx, at least not at this early stage of their careers. Much more than the threat of socialism underpinned the emergence of marginalist economics, which was as opposed to traditional defenses of the market as it was to the market’s critics. By the twentieth century, moreover, many marginalists were on the left and used their ideas to help construct the institutions of social democracy; even Walras and Alfred Marshall, another early marginalist, were sympathetic to the claims of the left. And on some readings, the mature Marx shares more with the constructivist thrusts of marginalism than he does with the objectivism of the labor theory of value.

On the other hand, Jevons was a tireless polemicist against trade unions, which he identified as “the best example…of the evils and disasters” attending the democratic age. Jevons saw marginalism as a critical antidote to the labor movement and insisted that its teachings be widely transmitted to the working classes. “To avoid such a disaster,” he argued, “we must diffuse knowledge” to the workers—empowered as they were by the vote and the strike—“and the kind of knowledge required is mainly that comprehended in the science of political economy.”

Menger interrupted his abstract reflections on value to make the point that while it may “appear deplorable to a lover of mankind that possession of capital or a piece of land often provides the owner a higher income…than the income received by a laborer,” the “cause of this is not immoral.” It was “simply that the satisfaction of more important human needs depends upon the services of the given amount of capital or piece of land than upon the services of the laborer.” Any attempt to get around that truth, he warned, “would undoubtedly require a complete transformation of our social order.”

Finally, there is no doubt that the marginalists of the Austrian school, who would later prove so influential on the American right, saw their project as primarily anti-Marxist and anti-socialist. “The most momentous consequence of the theory,” declared Wieser in 1891, “is, I take it, that it is false, with the socialists, to impute to labor alone the entire productive return.”

Whatever the originators and developers of the subjective theory of value — whether we mean Nietzschean cultural value, or Mengerian economic value — thought of the politics of the idea is rather irrelevant to me. The basic idea is correct and explanatory — that is, value is entirely in the eye of the beholder, and price is a function of a negotiation process fuelled by the conceptions of value — and any and all political conclusions are secondary to this fact. There were great political and social implications to the heliocentric model of the solar system — after all, that was just as controversial and politically divisive idea in its origins — but those political and social impllications have no bearing on whether the Earth travels around the Sun or vice versa. The same is true for the subjective theory of value and its ideological and political context.

But with great intellectual upheavals comes great resistance. Many so-called disciples of subjectivism have attempted to resurrect more objective approaches to value. That is, subjectivism’s greatest enemies may not have been advocates of the labour theory of value so much as self-described subjectivists who were repulsed by the supposed nihilism of subjectivism.

The neoclassical descendants of Walras and Jevons like Samuelson developed toybox mathematical models based around unrealistic (or semi-realistic) assumptions — rational preferences, utility maximisation, perfect competition, informationally efficient markets, etc. These act as an framework to objectify and rationalise human behaviour ruled not by static rationality but by fleeting, inconsistent subjectivity.

Equally the Austrian descendants of Menger like Mises and Hayek sought to depict the market as a framework as much for organising human morality — rewarding what they conceived of as good behaviour, and punishing what they conceived of as bad behaviour — as for allocating resources. As Hayek noted:

Until 130 or 150 years ago, everybody in what is now the industrialized part of the Western world grew up acquainted with the rules and necessities of what are called commercial or mercantile morals, because everyone worked in a small enterprise where he was equally concerned with, and exposed to, the conduct of others. Whether as master or servant or member of the family, everybody accepted the unavoidable necessity of having to adapt himself to changes in demand, supply, and prices in the marketplace. A change began to happen in the middle of the last century. Where previously perhaps only the aristocracy and its servants were strangers to the rules of the market, the growth of large organizations in business, commerce, finance, and ultimately in government, increased the number of people who grew up without being taught the morals of the market which had been developed in the course of the preceding 2,000 years.

For probably the first time since classical antiquity, an ever-increasing part of the population of the modern industrial state grew up without learning in childhood that it was indispensable to respond as both producer and consumer to all the unpleasant things which the changing market required. This development coincided with the spreading of a new philosophy, which taught people that they ought not to submit to any principle of morals which could not be rationally justified.

To a Nietzschean — or any subjectivist — notions of good behaviour and bad behaviour are as much in the eye of the beholder as the values of commodities. Indeed, that is their crux — humans act in the human spheres of morality and commerce because humans are value-creating! Living out our subjective desires, painting or judging the world with our subjective morals and ethics, and meeting our subjective goals is not a matter of hedonism, but the inevitable consequence of humanity.

These two groups of prescriptive counter-revolutionaries — the Samuelsonian neoclassicals and their objectifying assumptions, and the Misesian Austrians and their moral absolutism — may have turned back the subjectivist revolution to a great degree, but their victory has not been absolute. Some neoclassical economists like Hal Varian seem to have reversed Samuelsonian optimisation into “doing whatever an agent wants”, which is entirely compatible with a subjectivist conception of value. And some Austrians and Post-Keynesians like Ludwig Lachmann and George Shackle have explored subjective economics deeply, looking at the role of discordant expectations and imaginations as a fuel for disequilibrium.

Most importantly, behavioural economics — which is largely descriptive — seeks to understand economics not from the basis of preordained theory and assumptions, but in terms of how agents and systems actually behave in various situations. Ultimately, through the nonjudgmental study of human action we may finally arrive at an economics that reflects value as it really is, and how it was understood by Nietzsche and Menger — as a product of the minds, eyes and hearts of humans.

Niall Ferguson’s misunderstanding of Keynes led me to the question of how humans should balance the present against the long run?

It’s hard for us primates to have a real clue about the long run — the chain of events that may occur, the kind of world that will form. In the long run — the billions of years for which Earth has existed — modern human civilisation is a flash, a momentary pulsation of order imposed by primates on the face of the Earth — modern cities, roads, ports, oil wells, telecommunications and so forth built up over a little more than a century, a little more than two or three frail human lifespans.

Human projections of the direction of the future are notoriously unreliable. Professional futurists who devote careers to mapping the trajectory of human and earthly progress are often far wide of the mark. And in the realm of markets and economics, human projectional abilities are notoriously awful — only 0.4% of money managers beat the market over ten years.

As humans, our only window to the future is our imaginations. We cannot know the future, but we can imagine it as Ludwig Lachmann once noted. And in a world where everyone is working from unique internal models and expectations — for a very general example, Keynesians expecting zero rates and deflation, Austrians expecting rising rates and inflation — divergent human imaginations and expectations is an ingredient for chaos that renders assumptions of equilibrium hopelessly idealistic.

A tiny minority of fundamental investors can beat the market — Keynes himself trounced the market between 1926 and 1946, for example by following principles of value investing (like Benjamin Graham later advocated). But like in poker, while virtually everyone at the table believes they can beat the game in the long run — through, perhaps, virtues of good judgement, or good luck, or some combination of the two — the historical record shows that the vast majority of predictors are chumps. And for what it’s worth, markets are a harder game to win than games like poker. In poker, precise probabilities can be assigned to outcomes — there are no unknown unknowns in a deck of playing cards. In the market — and other fields of complex, messy human action — we cannot assign precise probabilities to anything. We are left with pure Bayesianism, with probabilities merely reflecting subjective human judgments about the future. And in valuing assets, as Keynes noted we are not even searching for the prettiest face, but for a prediction of what the market will deem to be the prettiest face.

This means that long run fears whether held by an individual or a minority or a majority are but ethereal whispers on the wind, far-fetched possibilities. It means that present crises like mass unemployment have a crushing weight of importance that potential imagined future crises do not have, and can never have until they are upon us. As the fighters of potential future demons — or in the European case, self-imposed present demons — suffer from high unemployment and weak growth in the present (which in turn create other problems — deterioration of skills, mass social and political disillusionment, etc) this becomes more and more dazzlingly apparent.

But in the long run, the historical record shows that crises certainly happen, even if they are not the ones that we might initially imagine (although they are very often something that someone imagined, however obscure). Human history is pockmarked by material crises — unemployment, displacement, failed crops, drought, marauders and vagabonds, volcanism, feudalism, slavery, invasion, a thousand terrors that might snuff out life, snuff out our unbroken genetic line back into the depths antiquity, prehistory and the saga of human and prehuman evolution. While we cannot predict the future, we can prepare and robustify during the boom so that we might have sufficient resources to deal with a crisis in the slump. Traditionally, this meant storing crops in granaries during good harvests to offset the potential damage by future famines and saving money in times of economic plenty to disburse when the economy turned downward.  In the modern context of globalisation and long, snaking supply chains it might also mean bolstering energy independence by developing wind and solar and nuclear energy resources as a decentralised replacement to fossil fuels. It might mean the decentralisation of production through widespread molecular manufacturing and disassembly technologies. In the most literal and brutal sense — that of human extinction — it might mean colonising space to spread and diversify the human genome throughout the cosmos.

Ultimately, we prepare for an uncertain future by acting in the present. The long run begins now, and now is all we have.

I have written at length in the past about Britain’s unequal recovery — how the vast majority of the gains from quantitative easing having gone to the top 5% of households.

It seems as if the same is true in America. The big gains have accrued mostly to the wealthy. Little is trickling down.

Bloomberg recently reported that the top 1% has taken 93% of income growth as the rich-poor gap has widened:

The earnings gap between rich and poor Americans was the widest in more than four decades in 2011, Census data show, surpassing income inequality previously reported in Uganda and Kazakhstan. The notion that each generation does better than the last — one aspect of the American Dream — has been challenged by evidence that average family incomes fell last decade for the first time since World War II.

A recent Pew study on inequality had similar findings:

The U.S. economy has recovered for households with net worth of $500,000 or more, a new study shows. The recession continues for almost everyone else.

Wealthy households boosted their net worth by 21.2 percent in the aftermath of the recession, according to the study released today by the Pew Research Center. The rest of America lost 4.9 percent of household wealth from 2009 to 2011.

And Evan Soltas notes that if stock markets had recovered at the same speed as unemployment, the Dow Jones Industrial Average would be around 8,000 rather than above 15,000. 

One goal, of course, of the Federal Reserve since the quantitative easing programs began was to reinflate stock markets through a transmission mechanism of bond purchases. 38% of the value of the stock markets is estimated to be held by the top 1%. So central bankers engaging in asset purchases have been pursuing policies with goals that implicitly favour the wealthiest.

More recently, the Fed has targeted the unemployment rate more explicitly, pledging while inflation stays low to buy bonds until unemployment falls. The theoretical justification for this is Okun’s Law, but empirical evidence from the United Kingdom shows that asset purchases in the context of austerity — the so-called “expansionary austerity” championed by policy advocates including David Beckworth and Ramesh Ponnuru — has not managed to lower unemployment.

As I noted last month, “expansionary austerity” as a means to tackle unemployment and deficits in depressionary conditions is being discredited by the UK experience:

First, since expansionary austerity policies began, real growth has been tepid and real GDP remains far below its 2007 peak. Second, unemployment remains high and is now higher than it is in the United States. Third, while stock markets have soared, the Bank of England calculates that the overwhelming majority of gains have gone to the top 5% of households, exacerbating wealth inequality. Fourth, budget deficits remain persistently high even in spite of per capita spending reductions.

Policymakers on both sides of the Atlantic urgently need to look for policies that do not exacerbate income and wealth inequality. This not only means reconsidering the fiscal and monetary balance — it seems to be true that the time for austerity at the Treasury is the boom, not the slump —  it also means that monetary policy needs a new transmission mechanism that does not implicitly favour the wealthiest. 

But as soon as I heard Ferguson’s remarks, I re-read Keynes’ famous quote in full:

But this long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is long past the ocean is flat again.

Keynes is actually saying the opposite of what Ferguson implied he was saying. Keynes is saying that economists who say that in the long run unemployment will fall and markets will move back toward equilibrium are making themselves useless. That unemployment will sooner-or-later fall is almost inevitable — eventually storms end, and rough seas become calm again.

But when unemployment has been high for years, and when the unemployed become so discouraged that they drop out of the labour force in vast numbers it is useless to merely quip that sooner or later markets will restore equilibrium. Having soaring unemployment, discouraged workers, rusting skills, dilapidated infrastructure, weak growth and idle capital now and potentially for years to come is a grossly and grotesquely irresponsible position. The effects of mass unemployment are damaging and lingering to families:

The stress of unemployment can lead to declines in individual and family well-being (Belle & Bullock, 2011). The burden of unemployment can also affect outcomes for children. The stress and depressive symptoms associated with job loss can negatively affect parenting practices such as increasing punitive and arbitrary punishment (McLoyd, 1998). As a result, children report more distress and depressive symptoms. Depression in children and adolescents is linked to multiple negative outcomes, including academic problems, substance abuse, high-risk sexual behavior, physical health problems, impaired social relationships and increased risk of suicide (Birmaher et al., 1996; Chen & Paterson, 2006; Le, Munoz, Ippen, & Stoddard, 2003; Verona & Javdani, 2011; Stolberg, Clark, & Bongar, 2002).

And damaging to wider communities:

Widespread unemployment in neighborhoods reduces resources, which may result in inadequate and low-quality housing, underfunded schools, restricted access to services and public transportation, and limited opportunities for employment, making it more difficult for people to return to work (Brisson, Roll, & East, 2009). Unemployed persons also report less neighborhood belonging than their employed counterparts, a finding with implications for neighborhood safety and community well-being (Steward et al., 2009).

Keynes’ point in the quote Ferguson was discussing was that economists should seek ways and means to minimise such damaging long-term effects. So whether or not we agree with Keynes’ philosophical and political conclusions, it is absolutely misleading to claim that “in the long run we’re all dead” was a call for hedonism or economic irresponsibility.

Any serious criticism of Keynes’ thought requires that critics have actually read and understood Keynes and not just absorbed second-hand caricatures of his ideas.

Back in 2011, both China and Russia made a lot of noise about dumping US debt, or at least investing a lot less in it. Vladimir Putin said:

They are living beyond their means and shifting a part of the weight of their problems to the world economy. They are living like parasites off the global economy and their monopoly of the dollar. If [in America] there is a systemic malfunction, this will affect everyone. Countries like Russia and China hold a significant part of their reserves in American securities. There should be other reserve currencies.

And China were vocally critical too:

China, the largest foreign investor in US government securities, joined Russia in criticising American policymakers for failing to ensure borrowing is reined in after a stopgap deal to raise the nation’s debt limit.

People’s Bank of China governor Zhou Xiaochuan said China‘s central bank would monitor US efforts to tackle its debt, and state-run Xinhua News Agency blasted what it called the “madcap” brinkmanship of American lawmakers.

But just this month — almost two years after China blasted America for failing to cut debt levels — China’s Treasury holdings hit a record level of  $1.223 trillion.  And Russian treasury holdings are $20 billion higher than they were in 2012. So all of those protestations, it seems, were a lot of hot air. While it is true that various growing industrial powers are setting up alternative reserve currency systems, China and Russia aren’t ready to dump the dollar system anytime soon.

Now, the Federal Reserve has to some degree further enticed China into buying treasuries by giving them direct access to the Treasury auctions, allowing them to cut out the Wall Street middlemen. Maybe if that hadn’t happened, Chinese Treasury ownership would be lower.

But ultimately, the present system is very favourable for the BRICs, who have been able to build up massive manufacturing and infrastructural bases as a means to satisfy American and Western demand. In that sense, the post-Bretton Woods globalisation has been as much a free lunch for the developing world as it has been for anyone else. And why would China and Russia want to rock the boat by engaging in things like mass Treasury dumpings, trade war or proxy wars? They are slowly and gradually gaining on the West, without having to engage in war or trade war. As I noted in 2011:

I believe that the current world order suits China very much — their manufacturing exporters (and resource importers) get the stability of the mega-importing Americans spending mega-dollars on a military budget that maintains global stability. Global instability would mean everyone would pay more for imports, due to heightened insurance costs and other overheads.

Of course, a panic in the Chinese mainland — maybe a financial crash, or the bursting of the Chinese property bubble — might result in China’s government doing something rash.

But until then it is unlikely we will see the Eurasian holders of Treasuries engaging in much liquidation anytime soon — however much their leaders complain about American fiscal and monetary policy. Actions speak louder than words.

The actual cause of the desire to save rather than consume or invest is uncertain. Perhaps this is a demographic trend — with more people closing in on the retirement age, they seek to save more of their income for retirement. Perhaps it is a psychological trend — fear of investment in stock markets and bond markets, due to fear of corruption, or market crashes or a general distrust of corporations. Perhaps it is a shortage of “safe” assets — by engaging in quantitative easing, central banks are removing assets from markets and replacing them with base money, and deleveraging corporations are paying down rather than issuing new debt. Perhaps it is anticipation of deflation — people expecting that saved money will increase its purchasing power in future. Perhaps it is a combination of all these things and more. But whatever it is, we know that there is an extraordinary savings glut.

There have been a lot of assertions that interest rates at present are unnaturally or artificially low. Well, what can we expect in the context of such a glut of savings? Higher interest rates? Based on what?

There was a clear negative association between savings and interest rates up until interest rates fell to zero, while the savings rate continued to soar. Theoretically, lower interest rates ceteris paribus should inhibit the desire to save, by lowering the reward for doing so. But interest rates cannot fall below zero at least not within our current monetary system — there exist some theoretical proposals to break the zero bound using negative nominal interest rates, but these remain untested and controversial. Even tripling the monetary base — an act that Bernanke at least believes simulates an interest rate cut at the zero bound — has not discouraged the saving of greater and greater levels of the national income.

In the long run, the desire to save increasingly massive percentages of the national income will cool down. Sooner or later some externality will jolt the idle resources in the economy into action. But that is the long run. In the short run saving keeps soaring. Investors are not finding better investment opportunities for their savings and the structure of production does not appear to be adjusting very fast to open up new opportunities for all of that idle cash.

To emphasise that, look at the correlation over the last year:

Of course, in the past the two haven’t always been correlated. Here’s the relationship up to 2000:

So there’s no hard and fast rule that the two should line up.

My belief is that the gold price has been driven by a lot of moderately interconnected factors related to distrust of government, central banks and the financial system — fear of inflation, fear of counterparty risk, fear of financial crashes and panics, fear of banker greed and regulatory incompetence, fear of fiat currency and central banking, belief that only gold (and silver) can be real money and that fiat currencies are destined to fail. The growth in the monetary base is intimately interconnected to some of these — the idea that the Fed is debasing the currency, and that high or hyperinflation or the failure of the global financial system are just around the corner. These are historically-founded fears — after all, financial systems and fiat currencies have failed in the past. Hyperinflation has been a real phenomenon in the past on multiple occasions.

But in this case, five years after 2008 these fears haven’t materialised. The high inflation that was expected hasn’t materialised (at least by the most accurate measure). And in my view this has sharpened the teeth of the anti-gold speculators, who have made increasingly large short sales, as well as the fears of some gold buyers who bought a hedge against something that hasn’t materialised. The global financial system still possesses a great deal of systemic corruption, banker greed and regulatory incompetence, and the potential for future financial crashes and blowups, so many gold bulls will remain undeterred. But with inflation low, and the trend arguably toward deflation (especially considering the shrinkage in M4 — all of that money the Fed printed is just a substitute for shrinkage in the money supply from the deflation of shadow finance!) gold is facing some strong headwinds.

And so a breakdown in the relationship between the monetary base has already occurred. Can it last? Well, that depends very much on individual and market psychology. If inflation stays low and inflation expectations stay low, then it is hard to see the market becoming significantly more bullish in the short or medium term, even in the context of high demand from China and India and BRIC central banks. The last time gold had a downturn like this, the market was depressed for twenty years. Of course, those years were marked by large-scale growth and great technological innovation. If new technologies — particularly in energy, for example if solar energy becomes cheaper than coal — enable a new period of spectacular growth like that which occurred during the last gold bear market, then gold is poised to fall dramatically relative to output.

But even if technology and innovation does not produce new organic growth, gold may not be poised for a return to gains. A new financial crisis would in the short term prove bearish for gold as funds and banks liquidate saleable assets like gold. Only high inflation and very negative real interest rates may prove capable of generating a significant upturn in gold. Some may say that individual, institutional and governmental debt loads are now so high that they can only be inflated away, but the possibility of restructuring also exists even in the absence of organic growth. A combination of strong organic growth and restructuring would likely prove deadly to gold.

The advocates of “austerity now!” are talking about Sweden.

Last year Fraser Nelson wrote in The Spectator:

When Europe’s finance ministers meet for a group photo, it’s easy to spot the rebel — Anders Borg has a ponytail and earring. What actually marks him out, though, is how he responded to the crash. While most countries in Europe borrowed massively, Borg did not. Since becoming Sweden’s finance minister, his mission has been to pare back government. His ‘stimulus’ was a permanent tax cut. To critics, this was fiscal lunacy — the so-called ‘punk tax cutting’ agenda. Borg, on the other hand, thought lunacy meant repeating the economics of the 1970s and expecting a different result.

Three years on, it’s pretty clear who was right. ‘Look at Spain, Portugal or the UK, whose governments were arguing for large temporary stimulus,’ he says. ‘Well, we can see that very little of the stimulus went to the economy. But they are stuck with the debt.’ Tax-cutting Sweden, by contrast, had the fastest growth in Europe last year, when it also celebrated the abolition of its deficit. The recovery started just in time for the 2010 Swedish election, in which the Conservatives were re-elected for the first time in history.

So, how is the Swedish economy doing?

Well, the good thing about assessing the Swedish economy is that Sweden remains monetarily sovereign, meaning that its economy is not dependent upon the monetary policy of a foreign agency like the ECB. This means that it can be fairly assessed side-by-side with other Western monetary sovereigns like Britain, America and Japan.

The thing that austerians are so excited about is that Sweden currently has low debt and is running balanced budgets:

But that hasn’t meant that unemployment has been low. In fact, right now it’s worse than American, British and Japanese unemployment:

And while Sweden’s low debt and balanced budgets may have resulted in low rates, its rates are not significantly lower than Britain and America, and are higher than Japan who carry the highest debt load of all:

But to be fair real GDP growth in Sweden since the crisis has been relatively decent — although notably still below its pre-2008 trend — beating the other three countries who all performed poorly:

I think that Sweden is benefiting less from its actions during the slump and more from its actions during the boom.

In my view, Sweden’s focus on bringing down deficits in the years from 2004 until the crisis in 2008 was very responsible and prudent. Sweden had no wasteful expansionary spending in the mid 2000s on things like occupying Iraq. It was not enacting expensive legislation like No Child Left Behind, Medicare D and unfunded tax cuts that bloated government budgets.

Coming into the crisis with a low debt-to-GDP ratio is very healthy because it gives the government additional fiscal space to cut taxes, and spend money on infrastructure, public goods and tax rebates to bring down the unemployment rate, which is the one aspect of the Swedish macroeconomy with significant room for improvement. An unemployment rate approaching 9% is undeniably unhealthy, and it is disappointing that the Swedish treasury with so much wiggle room is not doing more to assist the private sector in bringing down unemployment. And even though Sweden has had more growth than other Western countries, it has still not caught up with its pre-2008 growth trend.

Sweden’s unemployment woe illustrates that Sweden is not a paradigm of the supposed virtues of austerity in all seasons. Austerity in the slump just frees up resources while the economy is already suffering from a high degree of slack in resources — capital (high savings, low interest rates) and labour (high unemployment). Sweden illustrates this just as much as other Western nations.

The lesson we should take from Sweden is that a countercylical spending policy — less spending in the boom, more spending in the slump — is preferable.