Macro-nonsense

The Indian government is planning some kind of “fiscal stimulus” package. Vipin explains why it is a bad idea. Meanwhile, Sauvik says that the government should pay attention to policing the criminals, not entrepreneurs. A couple of days back, Peter Klein of O&M had a post on stupid journalists and their fixation with the “credit crunch”; its not a bad thing he says.

All of them are on the same page – basically saying that governments and “experts” requesting government intervention in the economy based on theories that concentrate on the “whole” (the economy) rather than the “part” (the individual) don’t know shit. Aggregation is nonsense. And taking steps based on that idea – even more so.

Former Ayn Rand associate, Nathaniel Branden says something very interesting in “The Foundations of a Free Society”

Some years ago, shortly before the collapse of the Soviet Empire, I was an invited speaker at a conference of company CEOs and presidents in Acapulco, Mexico. Another of the speakers was Gennady Gerasimov, who you may remember was Gorbachev’s spokesperson to the West. I went to hear his talk, which he opened with a joke. And the joke went like this: The Soviet Union has invaded and successfully conquered every country on the planet, with one exception: New Zealand. The Soviet Union has chosen not to invade New Zealand. Question: Why? Answer: So we would know the market price of goods. And of course everybody in the audience got the joke, and everybody laughed, and I sat there stunned.

My mind went back 40 years to when I met Ayn Rand, who directed me to the works of Ludwig von Mises, the economist who first pointed out the impossibility of economic calculation under socialism and ex-plained why a socialist system would have to end in economic collapse. And I thought of my first years at the University of California at Los Angeles, when I attempted to explain Mises’s argument, and the ridicule that I encountered. I recall one professor in particular, a professor of government, who told me, “The trouble with you is you’re just prejudiced against dictatorships.”

Now, 40 years later, a representative of the Soviet Union is acknowledging the truth of Mises’s observation in a joke, and it’s treated as self-evident.

The Mises work that Branden refers to is this – Economic Calculation In The Socialist Commonwealth. Yuri Maltsev writes in the foreword to the work-

[T]he actual implementation of socialism showed the complete validity of [Mises’] analysis. Socialism attempted to replace billions of individual decisions made by sovereign consumers in the market with “rational economic planning” by a few vested with the power to determine the who, what, how, and when of production and consumption. It led to widespread shortages, starvation, and mass frustration of the population. When the Soviet government set 22 million prices, 460,000 wage rates, and over 90 million work quotas for 110 million government employees, chaos and shortages were the inevitable result. The socialist state destroyed work ethic, deprived people of entrepreneurial opportunity and initiative, and led to a widespread welfare mentality.

Socialism produced political monsters like Stalin and Mao Tse-Tung, and led to unheard-of crimes against humanity in all communist states. The destruction of Russia and Kampuchea, the humiliation of the Chinese and Eastern European people, are not “distortions of socialism” as the defenders of this doctrine would like to convince us: they are inevitable consequences of the destruction of the market which started with an attempt to replace the economic decisions of free individuals by the “wisdom of the planners.”

The real character of the so-called centrally planned economy is well illustrated by a quip I heard several years ago by Soviet economist Nikolai Fedorenko. He said that a fully balanced, checked, and detailed economic plan for the next year would be ready, with the help of computers, in 30,000 years. There are millions of product variants; there are hundreds of thousands of enterprises; it is necessary to make billions of decisions on inputs and outputs; the plans must relate to labor force, material supplies, wages, costs, prices, “planned profits,” investments, transportation, storage, and distribution. These decisions originate from different parts of the planning hierarchy. They are, as a rule, inconsistent and contradictory to each other because they reflect the conflicting interests of different strata of bureaucracy. Because the next year’s plan must be ready by next year, and not in 29,999 years, it is inevitably neither balanced nor rational. And Mises proved that without private property in the means of production, even with 30,000 years of computer time, they still couldn’t make socialism work.

The West, and India, claim to have embraced the free market economy, and probably wouldn’t dream of adopting Soviet style socialism. But they simply cannot keep their hands to themselves. In their view, markets are good as long as they are “fair”; and government policies are meant to keep a check on the market. But they fail to see that howsoever “good” their intentions might be as regards intervention, governments cannot objectively know anything about demand and supply. Its only by violently brushing aside the fact that its individuals who demand and its individuals who supply based on such demand; only by relying on mindless aggregates like GDP, GNP, GNI, growth rates, figures on job losses etc; can they intervene. But the bigger picture they look at is tragically flawed, because they fail to consider Bastiat’s “Broken Window”.

About “good” intentions and government. Among the many “razors” – pithy statements – is Hanlon’s razor – “Never attribute to malice that which can be adequately explained by stupidity.” I don’t subscribe to it. No one can be so stupid as to continue to follow broken theories. Therefore, malice, and not stupidity or incompetence, lies behind the “good intentions” of all governments.

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Comments

  • Allan Wallace  On December 7, 2008 at 7:56 pm

    I added this to stumble upon – well said!

    All I would add is that governments can not even do malice consistently well – although they do try hard.

  • Aristotle The Geek  On December 8, 2008 at 3:16 am

    Thank you for doing that. Got quite some visitors that way but no comments; maybe everybody agrees with me.

    Both incompetent and malicious? Possible. But for the people who suffer as a result of such “good intentions”, the reasons – stupidity, or malice, or both – probably don’t matter.

  • blr_p  On May 6, 2009 at 2:50 am

    basically saying that governments and “experts” requesting government intervention in the economy based on theories that concentrate on the “whole” (the economy) rather than the “part” (the individual) don’t know shit. Aggregation is nonsense. And taking steps based on that idea – even more so.

    I think the govts actions are based on stimulating credit back to life again. Because thats where the fuel for growth comes from. Note when i say this i’m referring specifically to the US.

    How else do you do this without a stimulus ?

    • Aristotle The Geek  On May 6, 2009 at 5:19 am

      “Credit” cannot happen without “savings.” If Crusoe and Friday are on an island, with Crusoe being an expert fisherman (who can’t build anything) and Friday an expert craftsman (who can’t fish), Friday can only get credit (fish) if Crusoe “saves” any. What can a government do on the island to stimulate credit if Crusoe gobbles up all the catch?

      The same thing applies in the real world. The only thing that changes in the real world is that “money” replaces barter. If government “stimulates” the economy either by printing money and going on a buying spree, or increasing the multiple which allows banks to lend more on a low deposit base (it can’t do anything else – it has no “productive” capacity), what happens is more “fictitious” money chasing fewer “real” goods – a recipe for inflation, which is a hidden tax on money.

      Another issue – credit is not something banks give, it something the one who is in need of a loan has. So nothing substantial really changes, whether in normal times, boom times or recessions. A recession occurs because of what the Austrians call “malinvestment.” If the government interferes, the recession is only prolonged (see ABCT). So when the banks are short of funds (the central bank can drive the multiple higher and higher but you then risk hyperinflation), some projects will not be funded. Its a difficult choice that has to be made if the government wants to continue meddling in the economy.

      # “How else do you do this without a stimulus ?”
      I would let the market find its own level based on real savings in the economy. The government always messes up, its illusions of grandeur notwithstanding. It has, again.

  • blr_p  On May 7, 2009 at 12:54 am

    # Friday can only get credit (fish) if Crusoe “saves” any.

    Why can’t Crusoe make out an IOU for later ?

    So long as Crusoe catches some fish in the future and repays then all is fine.

    # What can a government do on the island to stimulate credit if Crusoe gobbles up all the catch?

    Same thing :)

    ..as i cannot think of how to gobble up ALL the catch.

    # what happens is more “fictitious” money chasing fewer “real” goods – a recipe for inflation, which is a hidden tax on money.

    Agreed, and done responsibly its manageable but what about the other effects of this action ?

    Ie. ppl irrationally believing the next quarter just might be better than the past one, so loosening up the purse strings.

    The hidden tax manifests itself if the money isn’t put to work. Unfortunately, thats a side effect of the current system. So you see, good times or bad, money must be put to use in some way or it cannot maintain its value vs. inflation.

    # So nothing substantial really changes, whether in normal times, boom times or recessions
    That’s the point tho isn’t it, that one-that-wants-a-loan for some activity cannot get, during a recession or its much harder.

    # I would let the market find its own level based on real savings in the economy.
    Isn’t this pretty much what the world did during the great depression ?

    And they had to as all were tied to the gold system.

    What was the aftermath ?

    And how will this one be different in hindsight ?

    • Aristotle The Geek  On May 7, 2009 at 11:16 pm

      # “Why can’t Crusoe make out an IOU for later ?”
      I think you meant Friday – Friday gets fish from Crusoe in lieu of an IOU. What if Crusoe doesn’t have any? If he catches three fish a day, by hand, and eats them all?

      Crusoe Economics is a great way to attack nonsensical “macro” ideas. Let’s see where it leads.

      If Friday is incapable of mastering fishing, he will starve with a catch of probably one fish/day. Crusoe fares better – he can make do with two, but catches three to stuff himself. Friday can offer to make Crusoe a fishing net – a job that will require a week – in lieu of two fish/day for three weeks. This will mean that Crusoe will have to work a couple of hours more every day till the net is ready, to catch the fourth fish. And Friday needn’t worry about spending 8 hrs with a half empty stomach to show for that effort.

      Both agree. Crusoe is thus “saving” and providing an “advance” to Friday for one week while the net is being prepared, and is making the rest of the payment over the next two weeks. The fourteen fish that Crusoe catches – seven that he normally does, and seven through more work – is his “capital” which he “invests” so that he gets a net in return. The net will catch more fish in a shorter period of time, thus leaving additional hours of leisure at Crusoe’s disposal. This is division of labor which helps improve the quality of life of all the participants of the island economy.

      Note that if Friday didn’t work on the net but spent his time fishing instead, the “total” catch of the island would still be four fish, but its Friday who would be starving. He will never be able to make good on his IOU if he simply keeps borrowing the third fish from Crusoe. The IOU is nothing but a worthless piece of paper.

      # “Agreed, and done responsibly its manageable… “
      Why should you do it – control the economy?

      # “what about the other effects of this action?”
      What people do – spend money now, or a month later – is their problem. If everyone in India all of a sudden demanded Tata Nanos, a “pure businessman” will sell it to the highest bidder. That’s how markets work – supply and demand.

      # “The hidden tax manifests itself if the money isn’t put to work.”
      I assume you mean investing it for interest. But interest hardly prevents the effects of inflation. In a government controlled economy, interest rates are generally always below the rate of inflation – the creditor, and investor, always suffers. That’s why one should never live off the interest – you are effectively eating into capital when you do that.

      # “one-that-wants-a-loan for some activity cannot get, during a recession or its much harder.”
      If there is no savings, wishes will have to remain wishes. If Crusoe didn’t save, he won’t get a fishing net even if he prayed for it.

      # “Isn’t this pretty much what the world did during the great depression ?”
      The great depression carried on because of Hoover’s and then FDR’s interventions. If they had kept quiet, it would no longer have been a depression. There is no point blaming gold here. America dumped the standard in the early thirties since it couldn’t inflate under the standard. WWI was responsible to a great extent for what happened in the twenties in Britain, America and Germany.

      # “And how will this one be different in hindsight ?”
      This one will be rememberd as a recession “caused” by the free market, when it was the Fed which fiddled with interest rates, Mae and Mac, and Congressmen like Frank who allowed, and forced banks to make doubtful loans, and monopolistic rating agencies who gave AAA ratings to junk bonds.

  • blr_p  On May 8, 2009 at 1:02 am

    # Crusoe is thus “saving” and providing an “advance” to Friday for one week while the net is being prepared, and is making the rest of the payment over the next two weeks.

    That’s what i meant by Crusoe giving Friday an IOU. But in reality they exchange an IOU each since neither has the total agreed to right away. So both get busy.

    I don’t see Crusoe saving right away, as he has nothing to save, but he might have more time once the net is completed. Now if Crusoe found a way to ensure his fish took longer to spoil then he would be further ahead :)

    # Why should you do it – control the economy?
    The whole idea is to keep the economy moving. Not too fast or too slow. In the ideal scenario it benefits the max number of ppl and this ultimately determines whether a govt. stays in power come the next election.

    I think the word ‘control’ may be too generous, maybe ‘influence’ is closer. Because it takes time for the effects to become apparent. There is only so much that can realistically be done.

    # That’s how markets work – supply and demand.
    Unless there is demand, supply goes to waste. If ppl feel confident about the next quarter, demand encourages supply to keep up. This way the economy grows. You can say we produced more than last year. It’s been a productive or good year. The GDP or aggregate measure is less important compared to the individual balance sheet come end of the year.

    # I assume you mean investing it for interest. But interest hardly prevents the effects of inflation.
    Investing it for a return, can be anything. Putting it to work as if its hoarded it does no one any good.

    # you are effectively eating into capital when you do that.
    Only if outgoings exceed income. There should be a cushion factored in.

    If there is no savings, wishes will have to remain wishes. If Crusoe didn’t save, he won’t get a fishing net even if he prayed for it.
    Would reword as so long as Crusoe is willing to fish he can have anything Friday can fashion :)

    Assuming Crusoe has not invented a way to ‘save’ his fish.

    There is no point blaming gold here. America dumped the standard in the early thirties since it couldn’t inflate under the standard.
    Exactly, they watched the Brits who let go a year earlier and the results were enough to convince them to proceed on the same route.

    The great depression carried on because of Hoover’s and then FDR’s interventions.
    What about the heightened protectionism that followed ?

    The equiv of the last November’s G-20 held in 1933 resulted in a lot of shouting and everyone withdrawing into a protectionist mould. Whatever interventions had a much more reduced impact for everyone over a more coordinated approach.

    So the lessons Bernanke would have us remember are, that interventions are required sooner rather than later preferably with global coordination and a promise behind closed doors not to go protectionist.

    Will this work ?

    Time will tell.

    # This one will be rememberd as a recession “caused” by the free market
    Socialists will be shouting that line for a long time to come. Even after market confidence returns and regulations get jettisoned until the next big one :)

  • Aristotle The Geek  On May 9, 2009 at 12:01 am

    # “I don’t see Crusoe saving right away, as he has nothing to save,”
    What is happening in the scenario I described is-
    * Crusoe wants to reduce the time spent fishing while maintaining his present nutritional level.
    * The “only” way he can do that is by forgoing present consumption, thus “saving” resources. Such savings becomes capital. (“Saving” and “spoiling” aren’t related – I don’t mean drying fish so that they can be consumed later. That’s a different issue. As long as the consumption you forgo gets you something concrete as a reward, you “are” saving.)
    * By creating a capital of 14 fish, and paying the remaining cost of the net – 28 fish – out of future income – he created a productive asset.
    * The benefit Friday receives is – for 21 days, he can have a full meal without fishing, instead improving his skills by preparing the net.

    This is the island economy – a “real” economy where you see savings, capital formation, credit (both ways) etc. That’s what I was hinting at. Here, the government can do nothing to “stimulate” growth. Unless it has some “real” goods to offer, Crusoe and Friday don’t need the government, or its stimulus, or paper.

    The same is the case with the real world – US, UK, India etc. When the government fiddles with the economy, its taking something from X and giving it to Y. It’s not creating “any” value. Only “real” production based on “real” demand and financed by “real” savings can leave people better off. Not monetary policy, or fiscal policy, or Krugmania. What these succeed at doing is place a treadmill under everyone’s feet and force them to run according to the speed determined by the government. Inevitably, someone will have a “great fall.”

    Once it has decided to set its head on fire, the government shouldn’t ask for directions on how to do that without harming its head – its not possible.

    “Growth” means a productive individual is better off today than he was yesterday – this principle applied universally. The definition of government doesn’t allow for such growth.

    # “Unless there is demand, supply goes to waste.”
    In a free market, supply always keeps pace with demand. Its in a command economy where high value is placed on circus economics (can’t find that post on irrational expansion) that such mismatch can happen, like in the case of the housing market. Government intervention distorts the market’s signaling mechanism and leaves entrepreneurs in the middle of a fog with no fog lamps on their car – they then have to drive by relying on their “instincts,” or stay where they are till the fog clears up, hoping that someone else doesn’t hit them while following “his” instincts.

    # “Only if outgoings exceed income.”
    Take a regular basket of goods – milk, rice, vegetables, fruits and petrol. Say one unit of this basket costs rs. 200 today. Assume you invest rs. 200 in a bank. A year later, if the basket’s price is rs. 230 (a general increase in the price level due to monetary expansion), and the bank pays out rs. 220 (@ 10% interest), you have lost money without spending a single rupee. This is what has happened for 100 years. Investments in “money” terms – fixed deposits etc – are loss makers, always. The only amount you should spend, if you don’t want to eat into capital = interest – tax on such interest – loss of purchasing power due to inflation.

    # “so long as Crusoe is willing to fish”
    Fishing is Crusoe’s production – income. You can only save out of income.

    # “What about the heightened protectionism that followed ?”
    That too was responsible. And its happening again. If the government manages the economy, there will be no shortage of candle makers.

    # “Will this work ?”
    Time has already passed a judgment. A fully functioning command economy is a theoretical impossibility. It will always face booms and busts. There is no avoiding it. After a huge feast, a stomach ache follows. The dogs know that you should starve the next day. The politicians don’t.

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