UNDERSTANDING ECONOMICS IN ONE HOUR
1 – Overview
Looking about us, what we see is the passing show. Despite every appearance of reality, it is ephemeral, ever-changing. It is Prospero’s “insubstantial pageant”. What we see is a “result” of something else, always a manifestation rather than a “cause”.
It is difficult to discern the real that lies behind and beyond the passing show – which therefore seems hardly the place in which to discover the permanent and immutable laws that govern the economic workings of society. The operation of these laws is subtle. They may be discerned, but they are never obvious.
This duality – the seen and the unseen – underlies all major disciplines, and the science of economics is no exception. As the economist Henry Hazlitt put it: “Many things that seems to be true when we concentrate on a single economic group are seen to be illusions when the interests of everyone, as consumer no less than producer, are considered. To see the problem as a whole, and not in fragments: that is the goal of economic science.”
The prosperity of any community rests on observance of four guiding economic principles: free people; free trade; sound money; and small government.
To understand them in a practical sense we need to drop down a level and begin by considering the operation of production and consumption.
2 – Production & Consumption
Now, before we get going, I must warn you not to get sidetracked by this thing called “demand”. What is demand, anyway? It is an inexhaustible feature of the human condition: there is always something we require, want, need, desire. Demand is therefore a transitory abstraction – more of a feeling than a commanding “economic actor”. It can be satisfied only by consumption – and that’s what matters. Demand has economic meaning only when linked to a product (or service) that will satisfy it.
But without production there can be nothing to consume. Demand can never be satisfied by anything that has not been produced: production must precede consumption.
The 18th Century French classical economist, Jean-Baptiste Say, who was heavily influenced by the writings of Adam Smith, is chiefly remembered for formulating this law. It has become known as “Say’s Law”, or “Law of Markets”.
This may be expressed very simply: People produce things so that they can buy other things: production must therefore precede consumption.
[Now don’t bring money into it at this stage. People don’t produce and sell things “for money”. Money merely facilitates the exchange of goods and services that have value. Money is no more than the conduit. We’ll consider money a little later.]
If all this is blindingly obvious to you, bear in mind that it has been the subject of intense disputation between mainstream economists ever since John Maynard Keynes postulated his theories of “demand management”. These tried to prove that production is brought into action by stimulating demand, and not the other way round
Take a topical example. Which comes first – production of a driverless car, or demand for one? Until such a thing actually comes into being, it can’t possibly be demanded. In fact no one knows that it amounts to anything more than a figment of a designer’s dreams – let alone that it exists, and is available.
But once it’s in production, seen to function and is available at an affordable price, there is a measurable demand for it. Only now does demand have economic significance: the ability to satisfy it exists!
[There may have been earlier musings such as “wouldn’t it be a great idea if….”. There may even have been some market research – but the history of technology is littered with brilliant ideas that went nowhere.]
Yet Keynes seriously urged politicians to kick-start a sluggish economy – not by tackling the underlying causes of economic sluggishness, but by stimulating demand – even to the point of paying workers to dig holes in the ground, then paying them again to fill up those holes. He even devised mathematical equations to prove he was right!
Not surprisingly, this graphic piece of advice has found its place in economic folklore. To this day it underpins much popular thinking on jobs and welfare. Keynes’s theory is that putting money in the hands of the “hole-diggers/fillers” will give them purchasing power to buy goods and services, and this new demand will “get production going”, and lead to the employment of other workers too. If it sounds too good to be true, that’s because it is too good to be true!
Keynes’s clever theory ignores the fact that the digging and filling of holes is nothing but a gratuitous distraction from what is really happening, as follows:
Purchasing power is being gratuitously dispensed despite the fact that (i) neither its recipients, nor anyone else, has earned it; (ii) the grant of purchasing power was based on neither current production nor past savings, having been conjured up out of thin air; (iii) it has, in the process, inflated the money supply, causing prices to rise; (iv) it has in effect inflicted a tax on every member of the population whose purchasing power has been diminished by this insidious illusion; and (v) it has devalued the currency by creating debt that the debtor can never repay.
[Now check this point: Do you find this reference to “debt” puzzling? How does paying people to dig, then fill, holes create “debt”?
Well, let’s assume that, in return for your digging and filling, the government pays you £20. Look at the £20 banknote you have just been given and read what it says: “I promise to pay the bearer on demand the sum of twenty pounds.” It is signed by the “Chief Cashier for the Governor and Company of the Bank of England”.
You are holding in your hand a sworn declaration, from no less eminent a source than the Governor of the Bank of England on behalf of the Treasury, that he owes you £20. So the “debt” is his, not yours!
What a bargain! In return for the worthless act of digging, then filling, holes, he, as agent of the Treasury, has magically made you “£20 richer”. But note this: the £20 was not the Governor’s to give in the first place. It didn’t belong to him before he gave it to you. That’s because it didn’t exist – until he had it specially printed for you! That’s called counterfeit. You have been suckered!
I also said in (v) above that this is a debt “the debtor can never repay”. Can this be right? After all, the government’s sole justification for putting Keynes’s theory of “demand stimulus” into effect was to kick-start production. So surely future production can be used to repay the debt?
The answer, however, is an emphatic “NO”. Future production must pay for its own costs. Past debts can be repaid only from past production – which is impossible, because there wasn’t any! That’s the whole point.
Check this too: Note also, from point (iv) above, that this theft of purchasing power is the equivalent of a tax on every member of the population. So, although the debt is owed by the signatory to the promise, the Governor of the Bank of England, not by you, it is you, and everyone else, who finish up paying it in the end!
This is one of the oldest “con tricks” in the world. Every act of government that devalues the currency is, by definition, a theft of purchasing power and therefore has exactly the same effect as a tax – levied by sleight of hand, not statute. I repeat: that reward you received for hole-digging/filling is counterfeit!]
Question: Do you suppose that Keynes’s crude “digging & filling” proposal is any different, in principle or effect, from the following government practice: (i) instructing the Treasury to print IOUs (called “government bonds”); (ii) arranging for its banking arm, the Bank of England, to buy those bonds out of its unlimited overdraft facility with the Treasury; and (iii) instructing the Bank to flood the financial institutions with the ill-gotten proceeds of this grotesque monetary distortion?
Answer: Yes. There is one small difference: instead of describing this action as the counterfeit it surely is, the Treasury has given it the grandiose title of “quantitative easing”, which suggests that, even if not rocket science, it is something really clever that will save us from dips in the “economic cycle” that threaten to engulf us.
But what they themselves don’t recognise is that these mad practices, all carried out in the name of “stimulating the economy into growth mode”, are a repeat of the very actions that brought on the last credit crisis. You have heard this phrase: “This time it’s different”. Bear in mind that a lunatic is someone who does the same thing, but expects a different result!
The above is a classic description of short-termism that backfires. Yet there is hardly a central bank anywhere that has not made a devil’s pact with its own treasury to create debt out of thin air, then “monetise” it into circulation and swamp the financial markets with it.
Although the USA and the UK are no longer actively pursuing it, the European Central Bank (ECB), charged by the European Commission to bail out any member of the EU that reneges on its debt repayments, is even now printing away at the rate of 50 billion euros per month! The ECB is awash with euros just waiting to be funnelled into the rescue of some profligate south European state. Just last week the EC announced plans for a multi-billion facility to grant interest-free loans to member states in crisis due to “external shocks”. The inflationary consequences hardly bear thinking about.
As Henry Ford put it: “It is as well that the people of the nation do not understand our banking and monetary system for, if they did, I believe there would be a revolution before tomorrow morning!”
[“Fractional reserve banking” is another grand euphemism for counterfeit, yet it draws far less attention than the more blatant forms of monetary expansion like “quantitative easing”. This is probably because it has been going on for so long that it has become an unquestioned banking norm. It relies on the fact that depositors are unlikely to act in concert when it comes to taking their money out of their bank, and so the bank can safely keep only a small proportion of your money to allow for withdrawals, and lend out the rest.
Control over the entire monetary system is entrusted to the perpetrators of this scam. Under fractional reserve banking only a small percentage of deposits is held in reserves. The rest is lent out at double the rate of interest. But note: those loans will, in turn, be deposited somewhere and the process repeated, creating yet another tranche of money that represents nothing but the thin air from which it was conjured.]