Does money exacerbate unemployment?

Paul Davidson (economics prof. at the University of Tennessee) suggests as much. He says (in green):

“… one wants to explain the empirical fact that involuntary unemployment is only associated with money-using contractual economies. In other words, real economies that do not use money and money labor contracts to organize production (e.g., feudalism, slave economies, South Sea Islanders discovered by Margaret Meed, etc) may possess important nonlinearities and even an uncertain future — but there is never an important involuntary unemployment problem. Slaves are always fully employed as well as are serfs in feudalism…….Finally it should be noted that herds of animals, schools of fish, etc organize together to solve the economic problems of What? How? For Whom? Without using money, contracts or markets, these animals still face complex nonlinear problems in their search for food and interaction with other herds. Yet animals never suffer from involuntary unemployment!”

I have doubts. My hunch is that as economies become more complex, barter becomes impossible, so money has to be used. And unemployment rises. But unemployment results from the complexity, not from money I think.

To illustrate with reference to a simple Robinson Crusoe economy… Crusoe lands on desert island where there are about ten families who eat fish, and make grass skirts to wear and mud huts to live in. Crusoe’s speciality is fishing. So he does that, which means the price of fish in terms of grass skirts and huts will drop. But that increases demand for fish, so everyone is employed. (That’s Say’s law at work – at least as I understand Say’s law).

But if the same economy used money, much the same thing would happen: the price of fish would drop, etc etc. You get the picture.

So the introduction of money does not exacerbate unemployment. And here’s another illustration.

Suppose the US or European economies tried to abandon money and employ barter instead, the result would be complete chaos, including (I suggest) far more unemployment than exists at the moment.

Conclusion: money doesn’t exacerbate unemployment. However, complex economies HAVE TO employ money, and unemployment is associated with complex economies.

H/t to Mike Norman.

The cartoon that inadvertently sums up Western economists’ ignorance.

The cartoon, which appears at the top of an article by Martin Wolf says it all. It shows Bernanke offering free money to industry and banks, with the latter moving at a snail’s pace to make use of the offer.

The reason for the snail’s pace is obvious to just about everyone apart from allegedly “sophisticated” Western economists, though some economists, professional and amateur (mainly the latter) have tumbled to the reason for the snail’s pace.

The reason is that if firms are not falling over themselves to borrow and invest when interest rates are zero or near zero, then there’s a shortage of viable investments at current levels of demand. I.e. what needs boosting is demand: and the ultimate source of all demand is the consumer (i.e. Main Street not Wall Street). So those piles of money that Bernanke and other central banks have at their disposal needs channelling into consumers’ pockets (plus public spending could be boosted – depending on your political preferences.

Some of the economists who do and don’t “get it” are as follows.

Martin Wolf himself doesn’t seem to get it to judge by the article under the cartoon – which is odd because I think he is normally smart.

Lawrence Summers doesn’t get it.

J.K.Galbraith get’s it. He said “firms borrow when they can make money and not because interest rates are low”.

Advocates of Modern Monetary Theory get it. And Simon Jenkins gets it.

Lawrence Summers’s IMF speech.

Summers made a speech at the IMF on 8^th November claiming we might be in for a Japanese style lost decade unless we start thinking about “how we manage an economy in which the zero nominal interest rate is a chronic and systemic inhibitor of economic activity, holding our economies back below their potential.”

MMTers will be falling about laughing, and for the following reasons.

If interest rates are at or near zero, obviously it’s difficult to lower them any further: though a small negative rate is not impossible. But note the word “small”: that is, serious problems arise with a LARGE negative rate.

So for those who think the only way of regulating demand is interest rate adjustments, clearly the zero rate poses a problem. But of course there is an alternative and phenomenally simple way to raising aggregate demand: print money and feed the money into consumers’ pockets, and/or raise public spending.

What's the economy for?

Plus… what’s an economy for? It’s to provide consumers with what they want, both as expressed by what they do with their credit cards, and as expressed at election time when they vote for sundry forms of public spending.

Thus even if interest rates were substantially POSITIVE, it’s far from clear that it makes sense to raise demand by cutting interest rates. That is, and to repeat, the BASIC PURPOSE of an economy is to supply what consumers want. So if an economy is producing less than it could, the obvious solution is to . . . wait for it . . . give consumers more of that which enables or encourages them to buy what they want: i.e. money.

But returning to zero rates, the MERE FACT that rates are near zero is an indication that employers and other borrowers have little use for more capital equipment. And that in itself is an indication that a straight rise in consumer spending and/or public spending is a better solution than attempting to lower rates any further.

Martin Wolf.

As distinct from MMTers, others have taken Summers’s message with complete seriousness, including Martin Wolf in the Financial Times.

Now Martin Wolf isn't any old economics commentator: he is the FT’s chief economics commentator. Plus he is my personal favourite economics commentator. So let’s examine Wolf’s arguments in detail.

Wolf starts by referring to three “relevant features of Western economies”. That’s very ambiguous: some readers will take that to mean features which make a rise in demand difficult. He isn't clear on that. Anyway, I’ll assume he IS ARGUING that these features make a rise in demand difficult.

The first feature is that demand has remained sluggish despite “ultra-expansionary monetary measures”. Yes . . er . . the fact that QE hasn’t had much effect does prove much does it? QE consists of simply swapping one asset (government debt) for a more liquid asset (money). QE is widely regarded as having a finite, but not dramatic effect. So the fact that QE is not a potent weapon for raising demand does not prove it’s difficult to raise demand. In particular, there is a simple and much more effective way of raising demand (set out above): increase consumer and public spending.

Wolf’s second “feature”.

This is that prior to the crises we had an asset bubble, but no excess inflation, indicating that the bubble was not serious enough to cause excess demand. And since the crises we’ve had large dollops of fiscal stimulus, and that also has not brought anything like excess demand.

Well frankly that’s a bizarre argument, isn't it?

As to bubbles, some are excessive and some relatively mild. The fact that a particular bubble brought a finite but no grossly excessive increase in demand does not prove (again) that increasing demand is difficult or impossible.

And much the same goes for the fiscal boost: that boost, at least in the US, was nowhere near as large as the advocates of fiscal boost wanted.

Wolf’s third “feature”.

This is that interest rates were low before the crisis, and that didn’t bring excess demand. Yet again, that doesn’t prove that other measures can’t bring substantial additional demand.

Next, he claims that “merely restoring a degree of health to the financial system” won’t bring much additional demand. Well that simply repeats the above mentioned false logic: the fact that A, B and C can bring extra demand does not prove that D,E,F, etc cannot.

Moreover, I’d actually argue that improving the “financial system”, if by that means tighter bank regulation of the sort favoured by Wolf, will actually REDUCE demand!! That is, better bank regulation almost inevitably means less bank lending, which in turn means reduced demand. But what of it? That can be compensated for simply by feeding money into consumers’ pockets and/or raising public spending.

The savings glut.

Next, Wolf refers to the savings glut of recent years. Fair enough: that’s just an example of a phenomenon pointed out by Keynes 80 years ago: his “paradox of thrift”. That is, an increased desire to save up stocks of money rather than spend that money tends to reduce demand (pretty obviously).

But the fact of a higher than normal desire to save does not prevent demand being raised. Let’s take a simple illustration.

Suppose the government / central bank machine prints extra money and advertises jobs for accountants, truck drivers, computer programmers etc in the public sector. Now what are unemployed accountants, truck drivers and computer programmers going to react? Are they going to go fishing in response those job vacancies? Nope: they apply for the relevant jobs. Hey presto: additional demand has created additional jobs (funded by the above new money).

As to feeding some of that additional money into consumers’ pockets, when people see their incomes rise (revelation of the century this) the empirical evidence is that they spend more. That creates more private sector jobs.

Plus there is the fact that that additional money satisfies the above mentioned elevated desire to save.

Conclusion.

Well now, we’re only half way thru Wolf’s article, but hopefully I’ve shown that it contains numerous mistakes, and that Wolf in backing Summers is backing the wrong horse.

Despite that, Martin Wolf has such a good track record of producing quality articles that he remains my favourite economics commentator.

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P.S. (7^th Jan. 2014). Two months later, Summers withdraws his secular stagnation idea in the Financial Times and Washington Post. So next time Summers spouts nonsense I won’t bother contradicting him: I’ll just wait till he contradicts himself.

C*ck ups by clever clogs in high places which I’ve noticed in the last 48 hours.

1. Bank of England has no idea what happened to QE money according to this source.

2. One of the central ideas in this article by the governor of the French central bank, Christian Noyer, in the Wall Street Journal is that “structural reform” will do wonders for the Euro economy. Trouble is he doesn’t tell us what “structural reform” actually consists of.

Please, please, M.Noyer: let’s have the details. We’re all ears.

3. Paul Flowers, the drug and porn addicted head of the Co-op bank in the UK when asked what the total assets of his bank were, answered £3bn, when the real figure was in fact £47bn.