Category: Commentary

Several times recently, I have circulated some personal concerns as to what is the “net impact” of the massive infusions of fiat currencies – liquidity – into national and global economies.  Has it mostly helped those who own capital assets, especially financial assets, do better and better, without breaking a sweat or taking a risk?

Our friend, Lord Robert Skidelsky, recently expressed similar concern in a column for Project Syndicate.

I am most honored to be in his company, as he has written a noted biography of John Maynard Keynes.  He may be the only independent in the British House of Lords.

He has kindly given us permission to send to you his commentary.

His thoughts on “where has all the money gone?” are here:

Quantitative easing risks generating its own boom-and-bust cycles and can thus be seen as an example of state-created financial instability.  Governments must now abandon the fiction that central banks create money independently from government and must themselves spend the money created at their behest.

LONDON – Amid all the talk of when and how to end or reverse quantitative easing (QE), one question is almost never discussed: Why have central banks’ massive doses of bond purchases in Europe and the United States since 2009 had so little effect on the general price level?

Between 2009 and 2019, the Bank of England injected £425 billion ($588 billion) – about 22.5% of the United Kingdom’s 2012 GDP – into the UK economy.  This was aimed at pushing up inflation to the BOE’s mandated medium-term target of 2%, from a low of just 1.1% in 2009. But after ten years of QE, inflation was below its 2009 level, despite the fact that house and stock-market prices were booming and GDP growth had not recovered to its pre-crisis trend rate.

Since the start of the COVID-19 pandemic in March 2020, the BOE has bought an additional £450 billion worth of UK government bonds, bringing the total to £875 billion or 40% of current GDP.  The effects on inflation and output of this second round of QE are yet to be felt, but asset prices have again increased markedly.

A plausible generalization is that increasing the quantity of money through QE gives a big temporary boost to the prices of housing and financial securities, thus greatly benefiting the holders of these assets.  A small proportion of this increased wealth trickles through to the real economy, but most of it simply circulates within the financial system.

The standard Keynesian argument, derived from John Maynard Keynes’s General Theory, is that any economic collapse, whatever its cause, leads to a large increase in cash hoarding.  Money flows into reserves and saving goes up, while spending goes down.  This is why Keynes argued that economic stimulus following a collapse should be carried out by fiscal rather than monetary policy.  Government has to be the “spender of last resort” to ensure that new money is used on production instead of being hoarded.

But in his Treatise on Money, Keynes provided a more realistic account based on the “speculative demand for money.”  During a sharp economic downturn, he argued, money is not necessarily hoarded, but flows from “industrial” to “financial” circulation.  Money in industrial circulation supports the normal processes of producing output, but in financial circulation it is used for “the business of holding and exchanging existing titles to wealth, including stock exchange and money market transactions.”  A depression is marked by a transfer of money from industrial to financial circulation – from investment to speculation.

So, the reason why QE has had hardly any effect on the general price level may be that a large part of the new money has fueled asset speculation, thus creating financial bubbles, while prices and output as a whole remained stable.

One implication of this is that QE generates its own boom-and-bust cycles.  Unlike orthodox Keynesians, who believed that crises were brought on by some external shock, the economist Hyman Minsky thought that the economic system could generate shocks through its own internal dynamics.  Bank lending, Minsky argued, goes through three degenerative stages, which he dubbed hedge, speculation and Ponzi.  At first, the borrower’s income needs to be sufficient to repay both the principal and interest on a loan.  Then, it needs to be high enough to meet only the interest payments.  And in the final stage, finance simply becomes a gamble that asset prices will rise enough to cover the lending.  When the inevitable reversal of asset prices produces a crash, the increase in paper wealth vanishes, dragging down the real economy in its wake.

Minsky would thus view QE as an example of state-created financial instability.  Today, there are already clear signs of mortgage-market excesses.  UK house prices increased by 10.2% in the year to March 2021, the highest rate of growth since August 2007, while indices of overvaluation in the US housing market are “flashing bright red.”  And an econometric study (so far unpublished) by Sandhya Krishnan of the Desai Academy of Economics in Mumbai shows no relationship between asset prices and goods prices in the UK and the US between 2000 and 2016.

So, it is hardly surprising that, in its February 2021 forecast, the BOE’s Monetary Policy Committee estimated that there was a one-third chance of UK inflation falling below 0% or rising above 4% in the next few years.  This relatively wide range partly reflects uncertainty about the future course of the pandemic, but also a more basic uncertainty about the effects of QE itself.

In Margaret Atwood’s futuristic 2003 novel Oryx and Crake, HelthWyzer, a drug development center that manufactures premium-brand vitamin pills, inserts a virus randomly into its pills, hoping to profit from the sale of both the pills and the antidote it has developed for the virus.  The best type of diseases “from a business point of view,” explains Crake, a mad scientist, “would be those that cause lingering illness […] the patient would either get well or die just before all of his or her money runs out.  It’s a fine calculation.”

With QE, we have invented a wonder drug that cures the macroeconomic diseases it causes.  That is why questions about the timing of its withdrawal are such “fine calculations.”

But the antidote is staring us in the face.  First, governments must abandon the fiction that central banks create money independently from government.  Second, they must themselves spend the money created at their behest.  For example, governments should not hoard the furlough funds that are set to be withdrawn as economic activity picks up, but instead use them to create public-sector jobs.

Doing this will bring about a recovery without creating financial instability.  It is the only way to wean ourselves off our decade-long addiction to QE.

Robert Skidelsky, a member of the British House of Lords, is Professor Emeritus of Political Economy at Warwick University.  The author of a three-volume biography of John Maynard Keynes, he began his political career in the Labour party, became the Conservative Party’s spokesman for Treasury affairs in the House of Lords and was eventually forced out of the Conservative Party for his opposition to NATO’s intervention in Kosovo in 1999.

The ESGX platform is a new associate of the Caux Round Table.

At noon (CDT) on Tuesday, September 28, it is presenting a discussion about “Democracy in Decline: Impact Investing to Reverse Global Trends” and you are invited to join us.

I will be one of the discussants.

The questions raised by ESGX are:

The success of many developed economies has depended on strong and reliable rule of law – and on the reliability of democracy itself – as both provide critical reassurance to investors.  And yet, around the world, democracy appears to be in decline, threatened both by the rejection of science, logic and reason, as well as by political activists seeking to replace long-trusted power structures with new regimes.

In this special episode, we’ll explore the threats to democracy globally and how we can act to combat them.  We will discuss the following questions:

-Which countries provide the most free and fair labor markets?
-Are companies domiciled in more democratic countries at an advantage and more investible?
-What are the links between culture, values and democracy?
-What positive role can individuals, companies, investors and governments play? 

My perspective is a traditional one: the quality of a democracy is driven by underlying social, cultural and economic conditions.

If those fall short, democracy cannot thrive.

In June 59 BC, in writing to his friend Atticus on the rising threats to Roman constitutionalism from the triumvirate of Pompey, Crassus and Julius Caesar, Cicero noted that “virtue” had evaporated among many Romans.  His phrase was virtutuem adligatam – “virtue is in chains.”  It was a straight run from there to the collapse of the Roman Republic not too many years later.

Some of you may recall the quip of Benjamin Franklin on walking out of the meeting hall having just signed the proposed constitution for the new independent North American colonies.  He was challenged by a Philadelphia matron of some distinction: “Mr. Franklin, what kind of a government have you given us?”

Franklin replied: “A Republic, madam, if you can keep it.”

Karl Marx famously linked constitutional democracy as a political system to economics – to the rise of a middle class.  The corollary to his syllogism is “Lose your bourgeoisie and you will lose your constitutional democracy.”

We should also note what my professors Samuel Beer and Barrington Moore, a Marxist, taught me that a bourgeoisie is habits of mind and heart, as well as having an economic function to perform for society.

For more information or to register, please click here.

I do hope you can join us.

A number of our fellows met for their quarterly meeting by Zoom back on September 7 to consider our times. The proceedings of their discussion follows:

On the cusp of a new era, do events in Afghanistan presage a shift in the Geist – the world spirit providing absolute meaning? Is the time of the West, with its faith in a common ground enthused by the human spirit, individualism, rationality and the rule of law, over? Are we one community at scale or an unhappy ferment of smaller collectivities unable to adjudicate a simple, but not simplistic framework to embrace the scale of all of our lives and our futures? What conditional hypotheses about the future should occupy our minds and test the quality of our educational institutions?

The comments took the thought that our time might be one of transition.

A concern was tabled that diplomats need courage and civilizations need co-existence. This presumes there is no widely accepted, authoritative, world order of peace among nations and peoples supported by societies open to economic growth for all and political participation for all. Such a world order was the promise of the 1941 Atlantic Charter and of the United Nations.

One driver of unease was growing awareness of climate change on an existential scale. The need is to do something, but the fear is that we don’t know what to do.

An answer might be local adaptation, with local ownership of the environment to avoid the “tragedy of the commons,” where no one is responsible for the common good.

People seem more at a loss to answer the question: “How can I get control of my life?”

The nature of our system seems increasingly threatening, its nature being to make us victims and inconsolable. Futility seems a reasonable response.

The nature of the current system is a contentless civilization floating on words without content, detached from reality.

Some words have become fetishes – tribal gods, priestly incantations promising security and control. Words without deep principles invoking strong values keep us on the surface of life, as if we are sliding around on thin ice. Reality has become nominal and words permit our personal realities to be invented and other, uncomfortable, realities ignored.

Populist nationalism has its place, where words and perceived realities intersect.

In the U.S., there is mostly instrumental reasoning, a preference for the tactile and the immediate, with an allergy to ideas. But content comes from character. Yet it takes courage to keep content front and center, to hold others to standards.

A lesson from the past is investing in social capital, in community and in shared values.

Yet, our lives are still grounded in relationships, where there should be order, justice, duty, responsibility.

There is decadence, the regime losing internal moral order as the beginning of a transition to a new order.

There are lessons in the past. A critical mass of 20% could make for a tipping point with creative destruction and innovation coming forth.

Prevention is an ethic; foresight provides content and grounds for reasoned action.

Another dynamic most worthy of note and concern is trust – we are not building trust: 1) work in the pandemic is more and more just transactional without community; 2) crypto currencies destabilize expectations; and 3) there is no trust in leaders.

Just recently, I sent to you some graphs which cause me concern, as they seem to associate government injections of liquidity into the U.S. economy with rising fortunes for the very well-to-do.

Last Saturday, Andy Kessler in the Wall Street Journal documented something similar – associating very high nominal stock prices with the Federal Reserve’s monetary manipulations.

Kessler wrote:

Joby Aviation, which plans to begin an electric air taxi service in 2024, is worth more than Lufthansa, EasyJet or JetBlue.  Does that seem right?  In this market, why not?  Heck, earlier this year, Tesla was worth more than the next nine car manufacturers combined, though now only the next six.  Beyond Meat, made with pea protein, is worth more than the entire market for peas eaten globally—like the bumper sticker says: Imagine whirled peas.  Do fundamentals even matter?

I can go on.  Used-car sales platform Carvana is worth more than Volvo, Honda, Ford or Hyundai.  Airbnb is worth more than Marriott and Hilton combined.  Crypto-exchange Coinbase is worth more than the Nasdaq.  I live at the intersection of innovation and disruption, but when companies are worth more than any possible reality, watch out.

…

AMC Entertainment’s stock was scraping $2 at the end of 2020.  It is now $50 thanks in part to Robinhood speculators and the company has smartly raised cash.  But what about fundamentals? Theaters are still sparse and Disney and others are willingly putting blockbusters directly onto their streaming services—ask Scarlett Johansson about Black Widow’s ticket sales.  Theaters are the new roller rinks.

Venture capital is cuckoo.  After investing $120 billion in the 2000 dot-com frenzy and just $16 billion in 2002, U.S. venture capital invested $130 billion in 2020 and then $140 billion in the first half of 2021.  Startups these days raise money as “the Uber of gardening” or “Space as a Service.”  Oh wait, the latter was WeWork’s pitch, whose founder Adam Neumann declared in 2017, “Our valuation and size today are much more based on our energy and spirituality than it is on a multiple of revenue.”

…

And check this out: In June, an Italian artist auctioned an invisible statue for $18,000—in reality it was an empty box the artist claimed was a “space full of energy.”  WeWork energy?  Yeah, maybe fundamentals are a quaint relic of a bygone era.

The Federal Reserve deserves most of the blame.  Near-zero interest rates means the market has no true north to help compare stock valuations with reality.  We are navigating turbulent seas with a spinning compass.

Until yesterday afternoon, I was quite myopic in my thinking about the terrorist attacks on the Twin Towers in New York City and the Pentagon in Washington, D.C. on September 11, 2001.  I had put the crime too narrowly in a very parochial American context, limiting its implications for our global community.

As I understand it, the terrorists claimed to act in place of a God who governs all of us when they intentionally killed people innocent of all crimes in any court of law anywhere.  The terrorists were self-appointed agents of divine justice on earth.

Those who had given them a base of operations in Afghanistan, the Taliban, similarly then and now, claim justification for their use of power to kill and oppress others in that same divine mission of making humanity righteous.

When thinking of such intolerant religious and ideological extremists, I am reminded of the old phrase fiat justicia, ruat coelum – “Let there be justice though the Heavens may fall.”

This begs the question of who among us truly knows the will of God or the purpose of the cosmos?  Such conceit flies in the face of nihilism, but nonetheless champions a narcissism that purports to unite us with the divine in a pagan fashion.

This way of looking at how best to work for justice presents a problem for all of us, no matter what nationality, ethnicity, class, gender or religion.

The Caux Round Table asserts no such justification in promoting its ethical principles for business and government.  Our arguments are more failable and humane, subject to debate and seeking to avoid hubris.

A few years ago, I was invited to share some thoughts on religion and terrorism at Qatar University, College of Sharia and Islamic Studies.  I offered, as a non-Muslim, some observations on the text of Quran.  I was most humbled by the warm reception given to my approach by the audience.

My point was to apply to terrorists the Qur’anic guidance on seeking to be God’s equal, the making of ourselves a partner of God.  It is God, in his power and majesty over creation, who decides all things, Qur’an tells us.  It is God, not us, who decides who is righteous, who falls short; who lives and who dies.  God may ever show mercy and compassion.

Assuming to so elevate ourselves to have the power of deciding on life and death might just possibly be a great sin in Islam.  It would be Shirk.

Those who planned and executed the 9/11 attacks committed Shirk, in my judgment.  If so, they will be punished by the God who stands behind Qur’anic revelations.  But who am I to know?

You may read my paper on religion and terrorism, written about five years ago, here.

Fifty years ago, President Richard Nixon ended the gold standard so that the market value of a dollar was no longer tied to a fixed price for gold, but only to whatever price the market was willing to pay.  Since then, the dollar was only a fiat currency, having only the government’s order that it could be used as legal tender to support its value and subject to government decisions as to how many dollars would be in circulation.

According to one commentator:

With inflation on the rise and a gold run looming, Nixon’s administration coordinated a plan for bold action.  From August 13 to 15, 1971, Nixon and fifteen advisers, including Federal Reserve Chairman Arthur Burns, Treasury Secretary John Connally and Undersecretary for International Monetary Affairs Paul Volcker (later Federal Reserve Chairman), met at the presidential retreat at Camp David and created a new economic plan.  On the evening of August 15, 1971, Nixon addressed the nation on a new economic policy that not only was intended to correct the balance of payments, but also stave off inflation and lower the unemployment rate.

The first order was for the gold window to be closed.  Foreign governments could no longer exchange their dollars for gold; in effect, the international monetary system turned into a fiat one.  A few months later, the Smithsonian agreement attempted to maintain pegged exchange rates, but the Bretton Woods system of fixed exchange rates for currencies ended soon thereafter. The second order was for a 90-day freeze on wages and prices to check inflation.  This marked the first time the government enacted wage and price controls outside of wartime.  It was an attempt to bring down inflation without increasing the unemployment rate or slowing the economy.  In addition, an import surcharge was set at 10 percent to ensure that American products would not be at a disadvantage because of exchange rates.

Shortly after the plan was implemented, the growth of employment and production in the U.S. increased.  Inflation was practically halted during the 90-day wage-price freeze, but would soon reappear as the monetary momentum in support of inflation had already begun.  Nixon’s new economic policy represented a coordinated attack on the simultaneous problems of unemployment, inflation and disequilibrium in the balance of payments.

Since then, the federal government – Congress, President, Treasury and the Federal Reserve – have flooded our economy with trillions of dollars.  To whose benefit?

Consider these facts:

Currency in circulation per person has ballooned:

The assets held by the Federal Reserve, a mark of the amount of liquidity the government has provided to the private sector, have ballooned, as well:

The amount of money provided to the economy by the Federal Reserve, measured as M2, increased, as well, after 1980:

The spending of the federal government not covered by revenues (deficits) have also hit new highs.  Federal government debt is money added to the economy through expenditures:

Who has benefited most from having access to all this money created by the government?  Mostly those who own financial assets.  Consider the rising value of the stock market.  Those who have benefitted from rising prices for financial assets are those who were able to invest in stocks, bonds, options, etc.:

Government creation of liquidity has helped float the top 10% and especially the top 1% of Americans to possession of more and more wealth:

Since 1971, incomes for the top 5% and 20% of Americans have grown much more than the earnings for all the other families:

The global growth of central bank assets has similarly contributed to a floating of the boats of the wealthy around the world: