Monetary Policy
This is a very compelling video mashup of Ron Paul and monetary policy, including lots of clips from CNBC and elsewhere. My guess is you’ll probably find it worth the 10 minutes of your time it’ll take.
While I don’t share Paul’s view of coming doom to the extent he does, you can’t evade reality forever. And, he’s right about one thing: the core problem is not money creation through credit (in and of itself). The core problem is the spending (enabled, of course, by the credit, so it’s true there’s a big link). In the simplest terms I can think of, imagine the argument as to whether you ought to use credit cards, or not. Well, they enable you to live beyond your means, so in that sense, it’s not responsible use in keeping with the reality of things. On the other hand, millions of small businesses have been created by entrepreneurs who had no source of capital other than credit cards. Yep, lots of ’em go bust, and my company has helped a lot of them get the mess cleaned up afterwards. My point is that credit, like many things, can be a fabulous resource when used properly.
That said, given the nature of the existing state and practical politics, it may very well be that the only way to manage the federal budget responsibly is to tie it to gold (or some precious commodity), because you sure aren’t going to get politicians to stop spending whatever they can.
I’m also sympathetic to the argument that regardless of global free markets — where it is actually quite possible to profit handsomely from the dollar’s decline if you’re willing to spend the time and have some tolerance for risk and volatility — people have a reasonable expectation that their currency not be devalued through actions of a force-backed state (to be distinguished from assets losing value due to voluntary market action).
In the end, Paul is advocating a reasonable approach to unwinding this thing. Just have competing currencies, like gold and silver coin and notes. See how it goes.
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"The flaw in the premises of the gold-buggers is that they think the money supply must remain fixed."
Right, it's deflationary. And 100% reserve, which is primitive and crippling. It renders a bank the equivalent of grandpa and grandma using their life savings to write hard-money-loan 2nd mortgages. In fact, that's exactly what 100% reserve is: hard-money lending, and that kind of money is very expensive precisely because one one person can use it at one time.
Check this comment at by Robert Abbott in which some good points are made.
"Absolute pettifoggery! The Gold Standard lead to the first prolonged depression in American history, from 1873-93, because it was profoundly deflationary in its effects. That is, relatively fixed amounts of gold and gold-backed currency were chasing rapidly increasing volumes of goods and services, meaning that prices had to be reduced to get consumers to reach into their pockets. That we should go back to such a regime is simplistic in the extreme. When the panic of 1907 came along and people began demanding gold at their bank, JP Morgan organized a consortium to create a stabilization fund that banks could draw on. This is partly the reason the Federal Reserve was created so that public policy could be taken out of private hands. Moreover, Mr. Llosa misses one of the chief features of banking, that is the effect of the multiplier on the money supply. That is, if 80% of any bank deposit can be loaned out and deposited in a new account and 80% of that deposit can be loaned out, etc., you have a theoretical expansion of the money supply of up to five times. The formula is "1/the percentage reserve requirement." This is partly the reason that the US can run a $13 trillion economy on about $1 trillion in cash. If you want to really destabilize our economy just do what Mr. Llosa suggests. Let individuals open their own banks and issue their own currency and you'll have rampant inflation and another bank panic followed by a depression. The politicians have sometimes missed the boat, as in the case of the savings and loan implosion of the 1980's , but Senator Glass and others have generally served us well. Money and banking are not simple issues and we are not well-served by people who suggest they are."
…by the way, I don't agree with that comment in total, but the part about deflation is correct, as well as the part about the multiplier.
"the argument as to whether you ought to use credit cards, or not."
I look at it this way: use credit cards for production, not consumption. In other words, never use credit except when it will be backed by the asset it buys, and when that asset is producing income. They are just like fire, great for cooking, not so great for home remodeling. The same logic would apply to larger scale credit as well. Modern society is impossible without it, but it will kill any society that uses it to buy consumables. When used for production, it is essentially infinitely sustainable.
The one exception is to use credit short term for dampening of cash flow fluctuations, but doing that is indicative of an underlying issue that needs correcting.
As to money, tying it to gold or some other asset does not negate the ability to use credit, nor the ability to increase the money supply organically to meet the requirements of an expanding economy. What it does is apply market discipline to that expansion. When the supply of money (gold, etc.) is insufficient, the market will demand more production of it via higher prices.
The flaw in the premises of the gold-buggers is that they think the money supply must remain fixed. That is a recipe for disaster as great as that of a purely fiat currency growing without restraint. The money supply *must* increase, but it must only increase proportional to the expansion of the economy, i.e., by the amount of new production.
Less is as bad as more – and less arguably hurts the poorest people more, while inflation affects those more able to adjust (and to profit from it). Inflation is a tax on accumulation, deflation is a tax on production. But of course, hampering either eventually hampers the other, so in the long run it's little difference.
"If you want to really destabilize our economy just do what Mr. Llosa suggests. Let individuals open their own banks and issue their own currency and you'll have rampant inflation and another bank panic followed by a depression."
Apparently Mr. Abbott is well versed in monetary theory, but utterly ignorant of market theory.
And I think his multiplier formula is wrong. I believe the number in his example would be greater than 5X – which would be the answer if only 80% of the initial deposits were loaned out. I think that an 80% reserve requirement means that the total amount that could be loaned out on, say, $100, would be .8 X 100 + .8 X 80 + .8 X 64 … Converging on something over $300 in circulation for the $20 (+$4 + $.80 etc.) that is actually on deposit. This is modified by the "velocity" number, which describes how fast that loaned money comes back to be re-loaned.
Yea, I was focussed on the multiplier effect itself, not the actual number. It's been some time, but as I recall, a 10% reserve requirement comes out to not a factor of 10, but 100 once you churn through the thing.