Money III: Liquidity Trap

If you have been following along with our Money and Money II posts, you know that we have been deconstructing the idea that money is a store of value, at least for any length of time. In fact, we would go so far as to say that if money itself becomes a long-term store of value, then the economy will be bad. One way this can happen is if the economy falls into the "liquidity trap."

The trap arises out of a widespread desire to hold onto one's money rather than spend it or even invest it. The value of money rises over time (that is, there is deflation) and the money in circulation goes down. The money supply may or may not dwindle, depending on whether the cash stuffed under mattresses is counted or not. Either way, however, economic activity goes down, aggregate pay goes down, and unemployment goes up.

The reasons for the desire to hold on to cash--what is, in effect, a decline in confidence--can be many things, but the reasons are related to expectations. If people expect that cash will be hard to get in the future, they will save it now.

Since people generally prefer cash to financial instruments in a liquidity trap, there is an effect on strategies with respect to debt. These strategies differ depending on one's economic strength relative to others. The rich will tend to pay off debts and lend less. (This is where the central bank role in the liquidity trap comes in. The central bank can add reserves to the banking system, but the rich are reluctant to lend and many are reluctant to borrow at all economic levels. The extra liquidity does not really help the economy.)

Some of the poor, being closer to the edge and needing to obtain a minimum amount of cash right now, might try to cut their own costs even more. Also they might try to work extra hours, take lower pay, work multiple jobs, and emulate the rich as well as they can by paying their debts. This is the so-called "race to the bottom," an attempt by workers to compete with one another, follow society's rules, and find out just how little a human being can live on. This is not a road to prosperity, though the rich will speak very well of such people. The rich will honor their determination, honesty, integrity, and dedication to hard work. The rich generally do not praise them for their intelligence, however.

On the other hand, other poor people might throw society's rules out and borrow as much as possible, figuring that it is better to have the money in hand now than to worry about how to pay off debts in the future. Naturally, lenders are not happy with this attitude and approach, so they fight them with as many social weapons as they can, including legal sanctions as far as possible. The rich punish them with poverty (that is, austerity), blame, and by socially marginalizing them. (In today's world, think of the Greeks, how they are treated and how they are spoken about.)

A liquidity trap therefore is generally an advantage for the rich. In particular because the government, which does want its people to be as successful and productive as they can be, cannot pull its people out of the trap using monetary policy and may not be able to use fiscal policy to do the job. (Because of politics and its own financial situation.) A stubborn ongoing liquidity trap is one reason why the Great Recession in the US has had such long-lasting effects.

Under the tosoc.org system, liquidity traps will not happen in the internal markets. That is, millions of people will not lose their jobs, their houses, and much of their savings simply because banks become reluctant to lend. Cash will not be allowed to become the preferred store of value in the internal markets. No one will have to be concerned where the money for their livelihoods--their basic needs--will come from.

Of course, if the rich want to create liquidity traps in their own markets, we would not want to stand in their way. Support tosoc.org.

The way capitalism should be.

Socialism for the socialists and capitalism for the capitalists.

TheOtherSideOfCapitalism (admin@tosoc.org)

Copyright © 2014 TheOtherSideOfCapitalism

Money II: Store of Value

Last week in our Money post we talked about the functional definitions for money. We made the argument that for our purposes, four of the five definitions are related to the value of money over time, barring some quibbling over the definition of money as a unit of account. Therefore it is reasonable to collapse all the definitions related to the future value of money into one: money as a store of value.

That naturally raises the question, is money a good store of value? Or, from a pragmatic viewpoint, does it make sense to save and store money as money for retirement? What are your chances of maintaining the purchasing power of your money that way for thirty or forty years? The answer is: almost zero.

Granted, as Robert Storm Peterson said (and apparently NOT initially Yogi Berra), "It's hard to make predictions--especially about the future." In any given period, money may actually gain purchasing power over time, more than maintaining its "value." However, given that the Fed tries to keep some inflation going all the time (about 2%), after a period of 30-something years, your first year of savings in money will only have half the purchasing power that it did in when it was earned.

Another danger to your pile of savings in the form of money is that there may be periods of enormous currency manipulation between now and the time you retire. In the US, for example, this was done during the Civil War. In the 1930's, the Roosevelt administration passed laws to keep gold out of the hands of US citizens. There is still debate whether the idea worked or not, but the idea was to encourage Americans to stop hoarding and start spending as a way to work their way out of the Great Depression.

Finally, something we mentioned in last week's post, saving money as money for retirement assumes that population demographics or other physical phenomena will not significantly change the prices in certain vital markets. For example, the price of food can become exorbitant if a true famine arises. We also pointed out that if the retiring Baby Boomer health care workers are not replaced, and the numbers of them not actually increased, then health care for retirees could also become exorbitantly expensive. Your cash savings may not be enough.

Therefore almost no one saves a significant amount of cash over long periods of time. Instead we invest. We buy things that we think have a better chance than cash does of maintaining value for our retirements. In a sense, therefore, the idea of money as a store of value is false. In many respects, money is just a medium of exchange that we use to purchase things that we prefer to cash over the long term. "Saving" is not about saving money for any length of time. "Saving" is about buying stores of value with our excess cash.

More next week.

The way capitalism should be.

Socialism for the socialists and capitalism for the capitalists.

TheOtherSideOfCapitalism (admin@tosoc.org)

Copyright © 2014 TheOtherSideOfCapitalism

Money

Thomas H. Greco Jr is another author who writes about multiple currencies, alternative currencies, and complementary currencies.  (We noted Bernard Lietaer's work last week.)  See Greco's 2009 book The End of Money and the Future of Civilization as well as his 2001 book Money: Understanding and Creating Alternatives to Legal Tender (with Karen Kerney and Vicki Robin). If you want a good explanation of "What is money?" read his Chapter 4 from the 2001 book Money for an explanation.  The title of Chapter 4 is in fact, What is Money?

Today we are particularly interested in the functions of money that Greco lists in his Chapter 4. As he says, these make up the functional definition of money. Here they are.  Money is:

1. a medium of exchange,
2. a standard of value,
3. a unit of account, 
4. a store of value, and
5. a standard of deferred payment.

Our readers could already guess that we think of currencies and the money representations of those currencies more in terms of the medium of exchange function than the other functions, especially if you have read our post Theory of Wealth.  However, let us think about some of the other functions here. Note that the wikipedia article on money lists "standard of value" and "standard of deferred payment" as being the same function.  "Standard of deferred payment" is further defined as the unit in which debts are denominated. This then bleeds over into the "unit of account" function.

We think the "standard of value/standard of deferred payment" function also bleeds over into the "store of value" function. Most money is designed to have value in the future as well as in the present. This property is inherent in a standard as well. The point of a standard is to maintain some characteristic or quality over time. It would be absurd to call something a standard if it changed frequently. Therefore if money is a "store of value" over time, then it can also serve as a "standard of value/standard of deferred payment" as well.

If money were not relatively good as a "standard of value", then the comparison of corporate performance from quarter to quarter would be quite difficult. What would the comparison of quarter to quarter results mean if the accounting unit for this quarter was significantly different from the one for last quarter?

The trouble with believing that money is a standard of value and store of value is that it has not really worked very well in times of technological advances, population changes, national emergencies, and etc. It may work pretty well from quarter to quarter, but what about longer periods of time?  For example and in particular, what does it mean to save money for retirement? If money were really a store of value over longer time periods, then it would be enough just to stuff cash in a mattress and keep it there until it was needed. That may have worked well in certain periods of history, but no one tries to do that today.

The problem with saving cash for retirement is inflation. Inflation means that it takes more cash in the future to pay for things than it does now. This happens even in ordinary conditions. Thus people today do not save for retirement by hoarding cash. Instead they buy investments that are expected to grow or otherwise mitigate the effects of inflation. That way, when they need cash to pay their bills, they can convert their investments to enough cash to accomplish that. So much for the idea of cash as a store of value for the long term.

Then there is inflation that occurs in extraordinary conditions, such as in time of war. We might have invested well enough to protect our retirements funds from ordinary inflation, but the requirements of war might make our calculations useless. Even investments might not be good enough.

Finally, there are population demographics. Health care costs are inflating at, say, 4 to 6 percent per year already, far faster than the 2 percent or so for the wider economy. That would be hard enough to save for, but consider also that the doctors in the Baby Boom generation are retiring in increasing numbers. If the supply of health care professionals is inevitably going to decline, then there will just not be enough of them. Even if we have invested well, we may be in an era of declining health care services that no reasonable amounts of retirement money can overcome.

We have run out of time today, so we must leave you with a teaser. Keep the weaknesses of money as a store of value in mind, and check back with us later.

The way capitalism should be.

Socialism for the socialists and capitalism for the capitalists.

TheOtherSideOfCapitalism (admin@tosoc.org)

Copyright © 2014 TheOtherSideOfCapitalism

Cooperative Currencies

Of course tosoc.org is not the only proponent of multiple currencies. Bernard Lietaer, Belgian civil engineer, economist, author, professor, and former hedge fund manager, has been writing about multiple cooperative currencies for over ten years. See his and Jacqui Dunne's 2013 book Rethinking Money: How New Currencies Turn Scarcity into Prosperity (BK Currents), for example. In it he lists many existing cooperative currencies and tells the stories of a select few. The major use of cooperative currencies seems to be to provide a medium of exchange when it is difficult to obtain ordinary currencies. That is, in economic downturns.

Lietaer's success stories do not surprise us. They are what we would expect since we would advise similar measures as those taken in the stories.

Similar measures, but not the same. In particular, we do not see in his analysis a need to firewall the rich away from the poor using exclusive currencies. The need appears to be present in several of his success stories, however, because several successful cooperative currencies were terminated by legal action to enforce the central bank's monopoly on currencies. There lies one weakness of cooperative currencies. It is relatively easy for the rich to outlaw them. Alternatively, the rich could simply buy them and manipulate them.

Thus for all the effort and thought that Mr Lietaer and his associates are putting into cooperative currencies, we doubt it will have any lasting effect. Exclusivity is also required in our currencies.

The way capitalism should be.

Socialism for the socialists and capitalism for the capitalists.

TheOtherSideOfCapitalism (admin@tosoc.org)

Copyright © 2014 TheOtherSideOfCapitalism

Monkey Trials

Science threatens religion not so much because it disproves religious belief, but because the output of the scientific method tends to bring scientists to consensus. For example, Satyendra Nath Bose and Albert Einstein collaborated on quantum statistics in the 1920's despite the fact that they were from very different cultures. They produced what is now called "Bose-Einstein statistics." The scientific method defines a way for thinkers to agree with one another no matter what their backgrounds. Scientific thinking converges. For example, despite a temporary defeat, the court of reality ultimately overturned the human court's decision in the original "Scopes Monkey Trial."

The output of religious thinking, on the other hand, seems to affect religious thinkers in the opposite way. Religious thinkers seem to look for ways to disagree with one another. As a result, the world is filled with different religions, denominations, sects, and splinter groups. One would think that if religious belief had any connection with an underlying reality, then the trend of religious thought would converge rather than diverge.

We bring this up in order to highlight the divergent nature of economic thinking. One result of the Great Recession was to paste a big "Epic Failure" sign on the backs of all our economists. After decades of study and effort, meetings and arguments, published reports and reviewed papers, none of them were able to predict a major, world-shaking economic event like the Great Recession in such a way as to convince most other economists of the danger.

Like religious thinkers, current economists cannot even agree on a way to agree with one another. The result is that we can find reputable economists who will take opposite sides on most any question. This allows politicians to pick the economic policies they want and then find economists to support them rather than use any rational basis for their decisions.

The point is not that we at tosoc.org think we have a truly scientific approach to economics that has the power to convince most other economists of the value of our proposals. The point is that after the Great Recession, current economics is no longer reputable. The Great Recession exposed the fact that devising economic policies today is, at best, a guessing game that anyone can play. Today's economics lost its trial in the court of reality. It is time to challenge conventional economic wisdom, and that is what we are doing at tosoc.org.

(Please note that once again, we are trying to shorten our posts so we can work on our book.)

The way capitalism should be.

Socialism for the socialists and capitalism for the capitalists.

TheOtherSideOfCapitalism (admin@tosoc.org)

Copyright © 2014 TheOtherSideOfCapitalism

Demon Profit

We have all heard that money is the root of all evil, or perhaps that the love of money is the root of all evil. Some people equate profit with the love of money and therefore with evil. As a result, many of those who speak about "profit" and the "profit motive" load the word "profit" with negative connotations.

At tosoc.org we do not have feelings one way or the other about profit because one of our principles is that those who can produce more than they consume should do so. Or, if you prefer, we should all make more than we spend so that we can build up savings. Savings, which is profit in the accounting sense. See our post Theory of Wealth.

While we think that the word "profit" has an undeserved bad reputation, the rich do tend to increase their own profits at times when the poor are losing their savings. For example, hedge fund manager John Paulson is said to have earned, personally, almost $4 billion in 1987 by using credit default swaps to hedge against the US housing market. Mr Paulson and his investors were raking it in while the rest of us were suffering. Yet Mr Paulson and investors like him did nothing illegal or even overtly immoral as far as we know.

Even so, there is currently an economic ratchet effect in which the rich get richer in good times and bad times while the rest of us lose our savings in bad times. (See also our post Left for Dead.) Unstopped, the ultimate result of this trend will be that the rich will end up with almost everything and the rest of us will end up with almost nothing. Ever-greater income and wealth inequality is not sustainable. It is a harbinger of the breakdown of the social contract between the rich and poor in the US.

See also our posts The Capitalist Road To Serfdom, No Sauce for the Gander, The Guilty Innocents, and our very first post, The Other Side of Capitalism.

So what is the real problem here? Are profits good or evil? Should profit be our goal or not? The tosoc.org answer is that profit should be our goal, but only in the context of balanced competitive markets. Right now the markets are not as balanced or competitive as they should be. Mr Paulson and his investors made extraordinary profits only because he and other rich people were able to hedge against our home loans, while, in effect, the rest of us were not.

If we are to feel that our toil is really leading to a better society instead of being, as we wrote in another post, The Capitalist Road to Serfdom, then when we build up savings, they should not be so vulnerable and so easily destroyed by the worldwide financial shenanigans of the rich. But how can we do that when the rich make the markets and have direct access to our savings; our invested profits? We cannot.

Again, the only solution is to deny the rich direct access to our markets and thus to our invested profits. That is what tosoc.org's plan of multiple exclusive markets and currencies is all about. So yes, we want profits. We need to produce more than we consume so that we are not stuck in lives of mere subsistence, of bare survival. We need the extra resources so we can increase our capital and at the same time, build an ever-better, ever-wealthier society. But it is pointless to do that when the capital that we build up is so vulnerable to mistakes, thoughtlessness, or even ill-will on the part of the rich. Support tosoc.org.

The way capitalism should be.

Socialism for the socialists and capitalism for the capitalists.

TheOtherSideOfCapitalism (admin@tosoc.org)

Copyright © 2014 TheOtherSideOfCapitalism

Brutal on the Population

See the Wall Street Journal opinion piece Mi Amor, I Shrunk the Peso by Mary Anastasia O'Grady (February 2^nd, 2014). The article is about Argentina's devaluation and history of devaluations, but there are also notes from an interview with Irish Finance Minister Michael Noonan. Here is what caught our attention:

"Marking down the currency is the least-painful path for the state when it cannot meet its obligations. But as Mr. Noonan pointed out, it's brutal on the population. Devaluation reduces the purchasing power of the nation. Real wages and the real value of nest eggs belonging to ordinary people are cut from one day to the next. 

What is worse, Mr. Noonan observed, is that few countries go through a mega-devaluation only once. 'It becomes a habit.'"

We suspect that the rich in Argentina keep their wealth in commodities or in external financial instruments denominated in strong currencies. Or perhaps they own strong external currencies outright. Otherwise we do not see how they could remain rich in global terms. Owning the Argentine peso is clearly not the way to secure one's wealth.

To us this is yet another example of the rich using arbitrage to transfer our wealth to themselves. See for example our post Take from the Poor about how this is done. Based on what we see in Ms O'Grady's opinion piece, the rich in Argentina have been playing this game and "brutalizing" the Argentine population (to use Minister Noonan's word) for about two hundred years.

This means that the rich marginalize themselves. They "raise" themselves "above" local populations, becoming more citizens of the world than citizens of any particular nation. It is a side-effect of putting oneself in a position to take advantage of arbitrage.

Several points come out of this line of thought. First, if one is concerned about the stratification of society, it already exists. The rich think of themselves as being on a higher level. Therefore the issue is not so much how to prevent stratification but how to structure it in a reasonable way to prevent abuse.

Second, multiple worldwide currencies and markets already exist. The problem once again is how to structure them in reasonable ways to prevent abuses like the ongoing "brutalization" of the Argentine population.

Third, capitalism as it is now conceived will not fix itself. Capitalism is working as designed. We see in Ms O'Grady's article that the rich in Argentina have been taking advantage of that for a few hundred years.

One way to see the central problem is that the rich want to elevate themselves above the rest of us, but not so far that they cannot still control our economies for their own profit. Tosoc.org says that we should complete the separation by moving them into their own markets with their own currencies. Then we will be able to negotiate with the rich on a more equal basis and prevent abuses like the Great Recession and the devaluation in Argentina.

The way capitalism should be.

Socialism for the socialists and capitalism for the capitalists.

TheOtherSideOfCapitalism (admin@tosoc.org)

Copyright © 2014 TheOtherSideOfCapitalism