As the papers are filled with ‘will he, won’t he’ stories over Bank of England chief Mark Carney’s potential future in the job, a moment should be spared to consider the total irrelevance of who occupies his post.
Largely, whoever has occupied the post has done the same thing, because they were educated in the same way. (This is where the Left start raging about Goldman Sachs and the conspiracy of the 1%). They have a point about GS – in that there seems to be a revolving door between the large financial houses and in particular the Federal Reserve in the USA, and to a degree Government on both sides of the Atlantic. That is not helpful, because these institutions are not the real economy – that’s High Street and Factory Britain. But unfortunately the policy of the MPC (Monetary Policy Committee) certainly favours the former over the latter.
But why is that, and why do they have it so wrong?
When the Bank of England was made ‘Independent’, it had an inflation target set at 2%. That meant that every year, it’s aim was to make your savings 2% smaller. Seems an odd thing for the MPC and government to want to achieve? Well not if you’re heavily in debt, and aim to always live beyond your means. But we were already past the point of no return at that stage, because we were living in the era of the Greenspan ‘Put’ – the massive monetisation of US deficit spending of the late 1980’s and 90’s. Deficit spending was the narcotic of the western world. It could bring governments the option to promise anything they liked and hope to deliver it – while the bill came later.
Of course, they had a ready client – you the voter. Who votes to have less of anything, or have to pay a higher bill for it? Retail politics is only possible in an age of deficit spending, otherwise someone has to pay, and in that same economic cycle. That was the designed constraint of the Bretton Woods System, where money was ‘solid’ – pegged to a dollar that was redeemable at $35 to the Ounce of Gold. But after August 15th 1971, that was all gone. Nixon closed the Gold Window, money became ‘Fiat’ – in that it was simply a medium of exchange rather than a store of value. This removal of an effective brake on government spending then helped to cause a decade of stagflation in the USA with its effects being felt here in the UK too, where industrial relations set a desperate backdrop for a decade of turmoil. We had already been forced to devalue the Pound due to deficit spending and the balance of payments in the 1960’s – the lie that the ‘Pound in your pocket’ was unchanged was just that – a total lie. It was made smaller, but it kept the plates spinning.
The Keynsians have been in charge all over the western world almost unbroken since FDR and the ‘new deal’. But this hasn’t led to prosperity, at least not for the majority, though it did take a while for it to reach its ultimate conclusion, which is where we are now.
Economies expand and contract. It’s a very normal process, and a vital one. In a contraction, the market is normally responding to an over supply of one commodity or another (or many). When someone invents a product and a demand for it appears, then new entrants try to ride the new trend until eventually the market is saturated. Then it falls back and finds a sustainable level. The productive capital that is surplus is then channelled into something else, and the process repeats. This is simply the market sending out the correct signals. Keynsians look at the other side of the balance, Demand. They want to keep demand level by adjusting monetary supply, and therefore smooth the economic cycle.
In a recession, prices for goods no longer in demand should fall until they find a market (or the product simply disappears and the capital is reallocated). This kind of deflation is difficult for governments because it raises the value of the currency in your hand – its spending power increases. But of course, the tax take falls too, when denominated in that same currency. (A TV costs £50 less, then the sales tax falls accordingly for example). This is a nightmare for overspending government, because if the value of the currency rises, then so does the difficulty of carrying and expanding the debt. Taxes would have to rise.
So to remove Deflation, a good thing in a truly free market, they simply raise the money supply to pump demand. This way, the constant devaluation of the currency provides government with two opportunities. Firstly it spends that money first, so it spends it at its full value. By the time the money gets out into the hands of the people, it’s already devalued. Secondly, they can pay back their debts with this devalued paper, which is easier than having to pay it with real ‘money’ (i.e. something that has real intrinsic value). The proof is there – A dollar in 2012 was worth just FOUR CENTS spending power of the dollar in 1913.
So time and time again, government pulls the lever of cheap money (low interest rates) to boost the economy. The first time it works, because debt in the economy is low and therefore the average man can borrow. The second time, the result is less because main street is already a bit leveraged. But the effect of extra money chasing real assets has already boosted asset prices, so the home owner can leverage more currency against his rising asset value and he feels wealthy again. He’s still spending.
The third time, he goes for the credit card maybe, and starts to live a month or two in arrears. But now borrowing from the future is getting harder, and the future is getting closer. He can’t go much further down this route before he defaults. Payday lenders step in for the moments when he gets a bit close to the edge.
And then there’s a shock to the system, and Mr and Mrs indebted of the high street can no longer spend – they can only just afford the repayments they already have. Monetary policy is already just about tapped out now, but government cannot afford for the voter to lose his asset (the home which has risen in paper value only due to the paper being largely worthless). They’ve been tapping that well for a generation now, while real wages have fallen so that they can continue to live beyond their means. But the political imperative is keep the plates spinning.
So off we go to ZIRP – Zero Interest Rate Policy – where the currency price mechanism is eradicated from the market entirely. Now the debtor might be able to pay to maintain his asset (home), but he cannot improve his situation as the currency in his pocket is worth less and less every year. But it’s even worse for the next generation, assetless they have no store of wealth and no way to save as their earnings will never be enough to get any assets to use as hard collateral in the price removed market. They are the lost generation, held hostage by their forebears stupidity and largess.
And that’s where we are today folks. The One Percent are doing great, because you keep supplying them with ‘Free’ gambling chips to ramp the financial markets. The Squeezed middle survive while they can pay their existing debts under ZIRP. All this so that ‘government’ can spend more than it taxes and appear to be generous while in fact it is stealing from you (as Kings of old did when they cropped coins).
There is no real cost to money at the front of the economy because it’s all very short term loaning – day trading, 24 hour style cash flow economics. One day an investment bank borrows, the next it cashes in and lends. It’s a cushy little number. It plays the markets with the printed money, and takes the profit. Of course, real investment in plant and machinery is long term and more risky – and the rates for that aren’t linked to the 24 hour carry trade. You my friend, cannot sip at the well for free, for there is real risk, and risk has a price. Capital is continually miss-allocated into assets whose value bear no resemblance to the wider economy, and that capital is locked away from productive use. The real economy, starved of investment, stagnates.
Real investment requires saving. If I make an instrument today, and don’t consume the profit from it immediately, I can store capital and invest it later into new machinery. Therefore I can raise productivity, and the economy is larger. There are more goods available for the same capital input, I just didn’t consume it immediately. Saving is the driver of productivity, and productivity is the driver of real wealth. But when the price mechanism is skewed, and saving is simply done at a loss (inflation runs ahead of savings rates), there is no encouragement to save. And of course, if you’re running to stand still you have no excess to save in the first place. And government wants you to consume NOW – so that it can tax NOW, and keep the plates spinning.
And there you have it, Britain’s GDP has constantly risen because it has printed money, (and imported the labour and goods to utilise it). But productivity is flat and has been for more than a decade, so therefore more of the same will not work. Productivity is the key factor. But with the monetary system as it is, the price mechanism that drives investment and therefore productivity gains is hopelessly distorted, and all monetary policy can do is attempt to drive consumption by the already asset wealthy by increasing their access to more currency.
It’s going to end. And when it does, all hell is going to break loose for a while. And then, it will finally get better for High Street Britain. Removing Mark Carney won’t change a thing. The market will eventually correct itself whomever is in charge, because the Bank of England’s MPC (and the Fed) will simply have no capacity left to keep the plates spinning. Any shock might bring that about, and that’s why Brexit scared the B of E so much.
The facts of life are often said to be ‘Conservative’. It is not true. The Facts of life are Austrian.