Monday, November 8, 2010

Ok... Well, I DID Sit Here Typing All Night

Oh well...

I was trying to explain to a particular Facebook buddy that, contrary to his unwaivering belief in his government, TARP bailouts & the various "stimulus" packages have made our situation worse, not better. At the time, I followed this up with simply pointing out the different response the US Government had in the case of the 1920 stock market crash, vs. the response they had in 1929 or today.

Originally, I was happy to just leave him with the following video of Tom Woods' wonderful discussion of the subject:

Then something funny happened.

This guy, "Len", made the following comment:
Um, two things, Sean: (a) You neglect to support your own point that the bailouts were harmful to the economy. (b) The stock market crash took place in 1929, not 1920.


You evidently have no schooling in economics. Why not leave those discussions to those of us who know what we're talking about. There's a good lad. Now run along.
Man you gotta love the sweet, sweet irony!

I mocked him for being an idiot briefly, and suggested that he too watch the video I had linked above. But he responded by still demanding that I go back and support my point about the bailouts... But he also tried to make a few claims I'm getting perennially bored by - namely:
  1. That Bush deregulated everything, and that caused the crisis. (Ugh.)
  2. "The market crash that ran from the 3rd quarter of 1919 to the 2nd half of 1921 lost 55.72 points or 46.6% of the DJIA. By comparison, the initial crash in October 1929 lost 182.5 points or or 47.9% -- far more devastating than 1920"... (Uh... What?! A decline of 47.9% is "far more devastating" than 46.6%?)
  3. The Great Depression lasted so much longer than the depression in 1920! They're incomparable... (Uh... Duh.......)
Anyway... Not that I didn't really have anything better to do, but I often take these opportunities to respond in these situations... So what follows, after claiming that I didn't have time to sit here all night and answer in detail, is my slightly edited reply:

First off, what Len conveniently omitted in his little spiel above was that the government's response to the 1920 crash vs. their response to the 1929 crash were radically different. And the whole point I made, and which economic historian Tom Woods discussed at length in the lecture video I linked (the one above that Len clearly did not watch), is that it was the RESPONSE that created the long term harm...

The 3 years of "free fall", and the 14 years following, were filled with all kinds of market interventions that distorted the market and prevented recovery in literally hundreds of different ways.

Please review the Tom Woods piece if you haven't already.

And then... Perhaps read up on the history of the era a little more perhaps with:
At any rate... Since Len started his little narrative in the middle (with the crash) instead of at the beginning (the boom), let me explain what he was missing...

The question you haven't bothered to answer, or even ask for that matter, is "where did the credit come from in the first place?"

How did the bubble actually get created... now, or in the 20s?

For that, you actually have to have a more complete understanding of the business cycle and understand what effects a centrally planned money supply & interest rate has on the economy.

Further reading on the ABCT:
For instance... between 1917 and 1920, the money supply in the United States was increased (to pay for WWI) by about 75%, thennnnnn.... CRASH.

If you understand why a rapid expansion of the money supply of a nation causes misallocation of resources then it shouldn't come as a big surprise that when the government expanded the money supply further 30% from about $35 B to $45 B between about 1925-1929 we had yet another massive crash.

In a nutshell: Artificially increasing the supply of money leads to the creation of artificially cheap/available credit, which in turn gets consumed rapidly - low interest rates encourage consumption over savings, after all. However, because the glut of credit isn't "real", (i.e. not borne from actual capital savings and underconsumption) the real-world resources and production cannot keep up with the glut of demand for them and the whole thing eventually collapses.

I explained all this in more detail sustainable economic growth in my recent essay "Wealth Means Production" (to be fair, a hell of a lot of this post can be summed up by Say's Law).

I also wrote about popular myths and currently developing mythologies for the Mises Institute, in my article "Deliberately Misplaced Blame", and by the way - here's George Reisman (who literally wrote the book on "Capitalism") on the Boom & Bust Cycle.


Now, of course Len had to repeat the old stand by meme of "deregulation", which I have to say, is idiotic.

Bush was one of the biggest regulators in the history of government. The man presided over the addition of almost 15,000 pages of new "economically significant" regulation, and the financial industry is already easily the most regulated industry in the United States or really anywhere around the world.

Aside from the big stuff like Sarbanes-Oxley, you also have to contend with entirely new divisions in the executive branch like the TSA or Department of Homeland Security - both of which actually included immense new regulatory powers over the financial sector.

You might argue that the "wrong" regulations were in place, but this bullshit of "deregulation" really needs to be put to bed. It's pure nonsense.

Deregulation did not cause this problem.

Also see economist Veronique de Rugy on Bush era regulatory policy (her specific focus as a professional economist at GMU's Mercatus Center, incidentally enough).

Oh... and me... ages ago.... on this very blog, discussing the history of bailouts and economic interventions.


FINALLY... Now that I've gone back and covered how we got here, and maybe more importantly, what didn't get us here. I didn't actually answer Len's question yet. So.......... Bailouts.

Here's the problem.

In the short term, bailouts prevent the economy from recovering by propping up the businesses which ultimately need to die and who's assets need to be sold off to a more efficient, properly operating organization.

They create what we now call "Zombie" Businesses.

When there is a gigantic misallocation of resources as tends to happen in artificial credit-induced bubbles - a lot of businesses get built around producing products for which there is not actually substantial demand - or for which the demand that exists is only a by product of the government-created credit.

They are producing the WRONG things... and all the resources & labor they are currently employing to produce whatever it is (for example, housing), is going to need to *STOP* going towards those products if the economy is to get back on track.

The sooner we correct the mistake in allocation of our resources, the sooner those resources can be employed to create goods & services consumers actually need/want.

A further consequence is that the people who ran their businesses well - and should be rewarded by (for instance) buying off the assets of their failed competitors at a good price, are not only barred from the opportunity to grow (we're actively punishing the good guys!) but they are now actually competing in an environment where all the big players can basically never die off.

Take a guy like Andy Beal who's bank in Texas made really smart decisions in the run up to the collapse... He could have bought off the assets of local branches of bailed out banks in the area... But nope! The government didn't allow it.

In the LONG term, however... Bailouts are WAY worse! They typically reward the biggest, most well-connected firms for bad behavior.

In the financial sector, that's particularly damaging... Their profits are free & clear, but their losses are subsidized by the tax-payers - and this promise has been around and in play for decades in America! So what seems like "risky" behavior - all those wild (not) "deregulated" credit instruments - ISN'T RISKY AT ALL!!

Bankers know this... Major businesses know this.

The moral hazard in play is setting up future catastrophes, and no matter how many politicians promise that we'll not bail anyone out again, they have proven over many years that this is nonsense and not to be trusted... Ever.

Sp please don't be fooled by the garbage economics that goes into "supporting" bailouts and broken-window fallacy ridden stimulus packages. These things are give-aways to favored corporations at the expense of economic liberty and the taxpayer's wallets. Nothing more.

And by the way, at some point, everyone really needs to read Henry Hazlitt's "Economics in One Lesson", and of course, Ludwig von Mises' classic, "Human Action".

Educate yourself on these topics, and they will make sense... Continue regurgitating the childish versions of history & economics you were taught in school, or what the government would like for you to believe - and you will be forever perplexed by the results of policies you support. And honestly, if we don't change course pretty radically in the very near future... It really will be too late.

...At least I won't be surprised when the other shoe falls. As if that's a meaningful consolation...

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