Miscellany: 6/28/14

Quote of the Day

Murphy's Third Law: In any field of scientific endeavor, anything that can go wrong will go wrong.

Image of the Day

Via Independent Institute

Via Libertarian Republic

Awesome David Stockman Essay: Sarajevo Is The Fulcrum Of Modern History: The Great War And Its Terrible Aftermath

For my own part, my course is taken. In view of all the facts of our situation; of all the terrible experiences of the past, both at home and abroad; and of the united testimony of the wisest and bravest statesmen who have lived and labored during the last century, it is my firm conviction that any considerable increase in the volume of our inconvertible paper money will shatter public credit, will paralyze industry and oppress the poor; and that the gradual restoration of our ancient standard of value will lead us, by the safest and surest path, to national prosperity and the steady pursuit of peace. -  James Abram Garfield (R-OH)

I think it safe to assert that every commercial crisis can be traced to an unnecessary inflation of the currency, or to an improvident expansion of credit... I speak within the limits of all authority when I say that the most pronounced cause of all crises has been the redundancy of money resulting from issues of paper by government itself, or by banks chartered by government.  - William Bourke Cockran (D-NY)

Not what you were taught in American history: I haven't had an opportunity to read The Great Deformation from which I expect this essay is excerpted, but it is a compelling narrative that shows you what an unmitigated disaster the Federal Reserve has been. It is highly readable on its own, and I encourage readers, but I want to underscore a few points in an interactive series of excerpts.

One of the key points is the importance of convertible currency, which kept a country's currency honest by tethering any paper currency to hard assets, like gold. A country which tried to print its way out of debt would soon be "attacked" by customers or trade partners demanding said asset redemption for watered down paper currency. Sound money policies during the Gilded Age were compatible with unprecedented economic growth, a rising standard of living and rising wages:

This liberal international economic order—that is, honest money, relatively free trade, rising international capital flows and rapidly growing global economic integration—-resulted in  a 40-year span between 1870 and 1914 of rising living standards, stable prices, massive capital investment and prolific  technological progress that was never equaled—either before or since.
During intervals of war, of course, 19th century governments had usually suspended gold convertibility and open trade in the heat of combat.  But when the cannons fell silent, they had also endured the trauma of post-war depression until wartime debts had been liquidated and inflationary currency expedients had been wrung out of the circulation. This was called “resumption” and restoring convertibility at the peacetime parities was the great challenge of post-war normalizations.

Without a central bank, the American economy did experience a few short panics/corrections; I've explained some of these were the result of dysfunctional regulations (for example, a protectionist unit banking system that ruled out regional diversification that could ride out, say, harvest time cash crunches and self-defeating asset restrictions that required backing of a shrinking supply of Treasury obligations--yes, this country once upon a time actually paid down on its debts). So how did the private sector deal with these issues? Well, capitalists refused to bail out banks and others whose issues weren't simply liquidity but a failing business model and/or reckless speculation:

This market clearing function of money market interest rates was especially crucial with respect to leveraged financial speculation—such as margin trading in the stock market.  Indeed, the panic of 1907 had powerfully demonstrated that when speculative bubbles built up a powerful head of steam the free market had a ready cure.
In that pre-Fed episode, money market rates soared to 20, 30 and even 90 percent at the peak of the bubble. In short order, of course, speculators in copper, real estate, railroads, trust banks and all manner of over-hyped stock were carried out on their shields—-even as JPMorgan’s men, who were gathered as a de facto central bank in his library on Madison Avenue, selectively rescued only the solvent banks with their own money at-risk.

The Fed started out with modest ambitions: a decentralized system that was to replace the role of Morgan and others in providing liquidity of last resort to worthy institutions adversely affected by economic shocks instigated by the excesses of others, not to mention the fact that government's interventionist policies had to directly compete with the private sector for funding:

The new Fed system was to operate decentralized “reserve banks” in 12 regions—most of them far from Wall Street in places like San Francisco, Dallas, Kansas City and Cleveland.  Their job was to provide a passive “rediscount window” where national banks within each region could bring sound, self-liquidating commercial notes and receivables to post as collateral in return for cash to meet depositor withdrawals or to maintain an approximate 15 percent cash reserve.
Accordingly, the assets of the 12 reserve banks were to consist entirely of short-term commercial paper arising out of the ebb and flow of commerce and trade on the free market, not the debt emissions of Washington.  In this context, the humble task of the reserve banks was to don green eyeshades and examine the commercial collateral brought by member banks, not to grandly manage the macro economy through targets for interest rates, money growth or credit expansion.

The Fed soon engaged in macro follies, including propping up foreign imports of American goods and excessive domestic capacity ill-equipped to handle a global recession. In essence, the Fed provided a blueprint for Chinese bankers to emulate over the past 3 decades:

In fact, over the period 1914-1929 the U. S. loaned overseas customers—-from the coffee plantations of Brazil to the factories of the Ruhr—-the modern day equivalent of $3.5 trillion to prop-up demand for American exports. The impact was remarkable. In the 15 years before the war American exports had crept up slowly from $1.6 billion to $2.4 billion per year, and totaled $35 billion over the entire period.  By contrast, shipments from American farms and factors soared to nearly $11 billion annually by 1919 and totaled $100 billion—three times more—over the 15 years through 1929.
So this was vendor finance on a vast scale——reflecting the exact mercantilist playbook that Mr. Deng chanced upon 60 years later when he opened the export factories of East China, and then ordered the People’s Bank to finance China’s exports of T-shirts, sneakers, plastic extrusions, zinc castings and mini-backhoes via the continuous massive purchases of Uncle Sam’s bonds, bills and guaranteed housing paper. In truth, China’s $3.8 trillion of reserves are a gigantic vendor loan to its customers. This is a financial clone of the $3.5 trillion equivalent that the great American creditor and export powerhouse loaned to the rest of the world between 1914 and 1929.

Stockman points out how rapidly the Fed engaged in scope creep during WWI, essentially monetizing the war debt: you want to buy a Liberty Bond but have no savings or collateral? No problem. We'll lend you the money...

This sets the stage for a more interventionist Fed, and the New York Fed Gov. Ben Strong, whom Stockman contemptuously titles 'Bubbles Ben 1.0'  (vs. the implied Bubbles Ben Bernanke 2.0). Strong pushed down interest rates through purchases of government bonds (justified on grounds of combating post-war deflation), helping prop up the British pound while keeping the dollar from strengthening, which could hurt American exports, speculators hoping to profit from higher-yielding foreign bonds. But manipulative cheap credit not only resulted in excess capacity but in rampant, unsustainable speculation:

Crucially, the overwhelming portion of this unprecedented contraction was in exports, inventories, fixed plant and durable goods—the very sectors that had been artificially hyped.  These components declined by $33 billion during the four year contraction [1929-1933] and accounted for fully 70 percent of the entire drop in nominal GDP. So there was no mysterious loss of that Keynesian economic ether called “aggregate demand”, but only the inevitable shrinkage of a state induced boom.

Go figure... In the aftermath of the stock market crash, "After [auto] sales peaked at 5.3 million units in 1929, they dropped like a stone to 1.4 million vehicles in 1932." Demand hadn't disappeared, but much of that 5.3M in sales was an artifact of an artificial boom induced by a megalomaniac Fed, say, by cash-flush Wall Street traders able to buy the latest, greatest car off their unsustainable profits; these car buyers vanished in the aftermath of the stock market crash. See any parallel in a booming housing bubble over the turn of the century, given an aging, slowly-growing population and struggling household incomes? The Fed is not unlike a nauseous person trying to stave off dreaded vomiting, only finally forced to succumb in the end. Blame the greedy? It's like inviting people to a party and then accusing them of eating too much cake.

Stockman doesn't discuss it here, but it is clear that he thinks that the Chinese, by imitating the Fed manipulators, have failed to learn the lessons of the Great Depression. Among other things, an artificially cheap yuan is devastating to the average Chinese citizen, e.g., in food and energy costs, and for imported resources and parts to Chinese businesses. There are factories running on paper thin margins, which will catch a cold if their global customers get a case of recessionary sniffles. Without a true market, how do the State planners know how to allocate resources? It's hubris. In the following clip, you hear about the construction of ghost cities, etc.; string-pushing central planners don't have a clue...



Cherokee Lizzie, the Koch Brothers and Disingenuous Politics

Hypocrisy is never flattering on a political whore. While the Dems are self-righteously trying to regulate political speech via a Constitutional amendment, allegedly based on corporate influence in politics, who are they fooling? Which party has dominated one or both chambers of Congress almost continuously since 1930? Which party is responsible for a radically expanded budget and convoluted tax/regulatory regimen, rife with special interest exceptions? Do you want a seat at the table of a powerful Congressional committee chair or President (say, for a new healthcare initiative involving hundreds of millions of dollars in taxpayer money) or at the table of a Tea Party reformer whom vows to alleviate the regulatory burden particularly hurting your upstart competitors and a simplified tax code taking away hard-won tax gimmicks favoring your company or industry?

While Democrats rail about corporations buying elections and demonize the libertarian Koch brothers, here's a reality check:

OpenSecrets.org tallied the top donors in federal elections between 1989 and 2014. Koch Industries -- privately owned by the Evil Koch Bros -- is on the list, to be sure, but doesn't appear until the 59th slot, with $18 million in donations... So who occupies the 58 spots ahead of the Evil Koch Bros? Six of the top 10 are ... wait for it ... unions. They gave more than $278 million, with most of it going to Democrats, These are familiar names: AFSCME ($60.6 million), NEA ($53.5 million), IBEW ($44.4 million), UAW ($41.6 million), Carpenters & Joiners ($39.2 million) and SEIU ($38.3 million). So, if money is the measure of evil in American politics and the Evil Koch Bros only come in 59th, who is really the most evil donor ever? Turns out it's Act Blue, with just short of $100 million in contributions during its lifetime, which only started in 2004

What exactly do the Dem-agogues believe that the Evil Koch Brothers are trying to buy off with their $18M?  They oppose big budgets, interventionist foreign policy and a large defense department, they don't have a stake in healthcare, entitlements or other billions in expenditures...

Mazorra has another excellent post, which I'll briefly excerpt here:

Straight-talking Elizabeth Warren says the economy is “rigged” against average Americans. Do big company bigwigs pay for political favor? Well, yeah! Think about which party is the culprit (or the primary culprit) in this exchange. Again, who’s primarily to blame, the private sector actors or the public servants? Warren is after the bigwigs, when she should be after the recipients of the bribes—the legislators of the favors.

Do you think that Democrats are thinking of the taxpayer's wallet when they demand federal infrastructure projects pay union-favored (higher) pay scales? Or when they stick expensive "buy American" provisions in stimulus funding measures? There are alternative sources of corruption, including reelection support.

Mazorra points out the politics on a condo board where others wonder a corrupt relationship between contractors and the board, especially if there is a hefty price tag on the projects in question. But their discontent is not with the contractors, whom have no power to do any work without board approval. But in Cherokee Lizzie's view of the universe, the board is being manipulated by wily contractors...

Mazorra points out that Lizzie has no scruples about putting in a plug for a Massachusetts medical device company, arguing that taxes on said medical devices would adversely impact the company's sales and employees.

He then takes Lizzie's position and then rewords it in the context of minimum wage legislation favored by Lizzie (but in terms of consistency should oppose):

When Congress raises the cost of a specific input, as raising the minimum wage does to employers of low-skilled individuals, it disproportionately impacts the small companies with the narrowest financial margins.

Political Cartoon

Courtesy of Steve Breen and Townhall

Musical Interlude: My Favorite Vocalists

Dan Fogelberg, "Leader of the Band"