Will increased government involvement in the healthcare industry cause more or less corporate lobbying? Both mandated-private and single-payer, nonprofit insurance proposals will likely increase wasteful lobbying. FULL ARTICLE

According to Treasury Secretary Timothy Geithner, Federal Reserve policy was “too loose for too long.” Some of us see Geithner’s remark as both a mea culpa on the part of the federal government and a confirmation of Austrian business-cycle theory. A more general examination of Geithner’s remarks on the subprime boom and bust, however, reveals the influence of Keynes, rather than Hayek. FULL ARTICLE

The US government will swap debt for equity and take at least half ownership in GM. This amounts to socialization of a large part of the domestic means for automobile production. The UAW will swap debt for equity to cancel out the debt “owed” by GM to a union-run trust. Worker ownership of 39% of this company is syndicalism, plain and simple. FULL ARTICLE

Today is Earth day, and a week ago we “celebrated” tax day. It is fitting, in a sense, that Earth Day and Tax Day are only one week apart. Those who blame global warming on human activity see taxation as an effective and desirable means of preventing environmental global catastrophe. In a recent publication, former Bush advisor Greg Mankiw has extended an “open invitation to join the Pigou club” by embracing the idea of regulating greenhouse gases with corrective taxes. FULL ARTICLE

Obama’s tax cut does not shift resources into the private sector, as a true tax cut would. What Obama is proposing is deferred taxation. He wants to spend now and tax later. The Obama deficits will increase the interest payments by the federal government, draw money in capital markets away from private investment, and ultimately result in higher future tax rates. FULL ARTICLE

Professor Samuelson has, in this case, misinterpreted an insufficiently small set of data to arrive at conclusions that square only with his own personal value judgments. He claims that his intellectual opponents (F.A. Hayek and Milton Friedman) give bad advice when they promote laissez-faire. FULL ARTICLE

The Federal Reserve has not actually stumbled into either a Keynesian or Krugman-type liquidity trap. The Federal Reserve has actually created an “inflation trap,” whereby today’s low interest rates have set us on a course of a future inflationary credit boom, which will be followed by either higher interest rates or hyperinflation and a subsequent crisis. Fortunately, banks have not unleashed the massive amount of reserves that now exist in the banking system. FULL ARTICLE

Several weeks ago the Southern Economics Association held its 78th annual meeting. At the close of the Presidential Address several hundred economists made their way to the escalators. There were two running upwards, but for some reason everyone was packing into the nearest one, the more distant of the two being six inches further left. In Austrian terminology the empty escalator represented an unexploited opportunity for gain. None of these mainstream economists were alert enough to recognize that they could get to where they were going faster by taking one step to the left.

A Neoclassical economist might explain this situation as a rational response to unavoidable costs. The switching costs of taking one step to the left could have been too great to bear. Perhaps there was a “first mover problem” in coordinating the formation of a whole new line. Or maybe imperfect capital markets rendered the financing of such a move impossible!

As is often the case the Austrian explanation makes the most sense. After a minute or so of trying to pack into one escalator somebody finally noticed that there was a second one only one step away. After one alert person stepped to the left others followed, and the second elevator filled up. Here we can see the importance of entrepreneurship. As Israel Kirzner has pointed out many times, some people are more alert to opportunities for gain than others. Less alert persons can remain in a state of ignorance, even regarding fairly simple adjustments in their actions. Entrepreneurs lead the way in adopting new means towards greater satisfactions of our ends. To put it simply, the failure of most of these economists to notice a simple and seemingly obvious opportunity suggests that Professor Kirzner is right in his assertion that relatively few people possess the characteristic of alertness.

$30 $22

The more notable entrepreneurial moves lead to major improvements in consumer well being, and such opportunities are typically difficult to discern. In the above example gain is so obvious and easily realized that one must wonder how such a highly educated crowd (PhD economists) did not all notice it immediately. Furthermore, we should ask why most of these very same people downplay the importance of entrepreneurial alertness, and instead teach a paradigm of economics where entrepreneurship plays no significant role.

In a recent post on Mises.org Doug French argued that we should not worry about deflation. There are some sound theoretical reasons to favor deflation. Since increasing productivity brings prices down deflation is a sign of progress. Furthermore, the common arguments against deflation are not well founded. For example, some say that deflation could cause consumers to hold back on spending, and this could slow down the economy. The weakness in this argument is that people only change the rate at which they spend money if the price level is changing rapidly. During a hyperinflation people spend money as soon as they earn it because waiting to spend means losing much value. Conversely, if we had a hyper-deflation whereby prices fell 50% per day, then people might hold off on spending as their money gained significant purchasing power. Those who worry about deflation per-see ignore the fact that gradual deflation resulting from rising productivity has no effect on the timing of consumer purchases.

Why then should we worry about deflation? The answer is simple: because minimum wage laws combined with deflation result in rising unemployment. It is already the case that minimum wage laws cause high unemployment among teenagers and other low productivity workers. Minimum wages currently keep unemployment for teens in double digits. In some instances teenage unemployment rates have exceeded forty percent.

Deflation would automatically increase the real minimum wage, and with it unemployment. This is not only economic theory, we have seen this happen in US history. FDR imposed a system of 515 minimum wage rates for different categories of workers. Deflation during the Great Depression combined with these minimum wages rates to cause mass unemployment. FDR also used more informal means of raising wages. FDR exempted industry from anti-trust laws on the condition that they would keep wages high. Herbert Hoover also pressured industry leaders to resist nominal wage cuts. The efforts of Hoover and FDR to sustain high money wages resulted in economic disaster. It should also be noted that deflation during the Great Depression effectively increased US tariff rates. Deflation at this time would reproduce the results of the Great Depression because the government is still involved in rigging money wages.

A free banking system can function effectively, and such a system would likely produce a gradual decline in the price level, under the right conditions. The problem with advocating free banking and deflation at this time is that such proposals often do not go far enough. Deflation works only within the context of markets with freely adjusting prices and wages. The most obvious lesson therefore is that price and wage floors, in this case the minimum wage, make free banking unworkable. We need free banking and freely adjusting prices and wages. The larger lesson is that partial efforts to deregulate the economy usually have serious unintended consequences. Partial deregulation can open the way to new and potentially serious problems stemming from remaining controls.

The dilemma we face is simply this: partial acts deregulation and privatization are the easiest to enact, but the most likely to generate deleterious unintended consequences. It makes no sense to advocate limited reforms that will surely end in failure. On the other hand, we need more comprehensive reforms, but the task of raising popular support for bolder privatization programs is obviously difficult. What this all means is that the likelihood that we will see real solutions to our economic problems in the immediate future is low. However, the case for sweeping deregulation is strong, and public opinion can change.

The views of this paper do not reflect official views of The Coast Guard

Bibliography

Beny Ada Wages and Employment in the United States National Industrial Conference Board
MacKenzie, DW Mythology of the Minimum Wage- in Taking Sides: Clashing Views on Economic Issues McGraw-Hill Contemporary Learning Series 2007
Rothbard, Murray: 1972 Herbert Hoover and the Myth of Laissez-Faire, in: Radosh, Ronald, and Murray Rothbard, A New History of Leviathan (NY: Dutton,), pp.111-145.
Rustici, Thomas: 1985 A Public Choice View of the Minimum Wage The Cato Journal pp 109-131
Vedder, Richard K. and Gallaway, Lowell E. 1997 Out of Work: Unemployment and Government in Twentieth Century America New York University Press

Justice Posner has himself failed to consider the extent to which government intervention caused the recent crisis, among others. Hayek and Mises were ahead of the curve back in the 1920s when they identified governmental intention, particularly credit expansion, as the cause of the business cycle. Most of the economics profession came to blame government for the Great Depression only gradually, and much of the general public has yet to learn this lesson. FULL ARTICLE

Numerous politicians have used the financial crisis as an excuse for increased regulation of financial markets. For example, House Oversight Chairman Henry Waxman recently moved to regulate the credit default swap market.

Credit default swaps are a form of insurance against bond default, except that you can buy a CDS without actually owning the bonds in question. The problem with the idea that this market is in need of regulation is that it has not actually failed. For example, the CDS market weathered the 72 billion dollar Lehman storm well. The Credit Default Swap market did face a crisis when Lehman failed, but private investors in that market managed this crisis without any help from government regulators.According to Eraj Shirvani at Credit Suisse “over the last 18 months, the CDS market, not the bond market, has been the only functioning market that has consistently allowed market participants to hedge or express a credit view”. This is an interesting comment. In 1948 FA Hayek pointed out how competition “is a process of formation of opinion … It creates views that people have about what is best and cheapest”. Mr. Shirvani has pointed to the function of competition that Hayek detailed in his 1948 essay on The Meaning of Competition. Traders in financial markets, or any markets, form opinions based on their experience in these markets, based on their knowledge of the conditions that prevail in those markets. It is through unregulated competition that markets work efficiently to form prices that reflect the most astute interpretations of available data.

In contrast to the market process, the regulatory process works according to empty conjecture and perverse political incentives. Congressmen like Henry Waxman and Barney Frank are determined to enact more regulation, but who knows more about the markets in question, these Congressmen or the traders to buy and sell in these markets routinely? Mr. Frank and Mr. Waxman do understand a few points clearly: increased regulation increase their power as politicians. They surely also understand that increased power over markets translates into increased ability to raise campaign contributions.

Economist Fred McChesney has examined the phenomena of rent extraction in detail. Rent extraction is the practice of using regulatory powers to pressure private interests into donating money to politicians or political parties.

Some critics of credit default swaps claim that their unregulated nature is dangerous. One NPR story blames credit default swaps for the financial crisis. AIG bet on the wrong side of the housing market through credit default swaps, and lost. NPR business correspondent Adam Davidson claims that the size of the CDS market makes the failure of AIG a threat to the global economy. Mr. Davidson should take note of the relative stability of the CDS market during this crisis. Mr. Davidson also worries that ‘nobody knows exactly who has them (CDS’s) and where they got them from’. In reality the participants to CDS contracts each know exactly who they are and who they are trading with. There is no problem with identifying the participants to these contracts, at least as far as the market itself is concerned, and this market is functioning well.

AIG failed not because the CDS market failed, it failed because they made bad decisions in the CDS market. That is the way this market works, if you make the wrong bets, you lose.
The truth of the matter is that the credit default swap market does not need regulators or politicians; it is the other way around. Politicians and regulators see a need for regulation in the credit default swap market because it is in their political interests to extend regulation to as many markets as they can. The success of this market is also something of an embarrassment to them. Every time a market succeeds without regulation, it makes advocates of greater regulation appear foolish, and regulators themselves appear useless at best. This is not just a matter of concern to investors. Given the relative success of this relatively unregulated financial market, the usefulness of government regulators and activist politicians to the general public is questionable. It seems that we do not need to fear unregulated competition. The only thing we have to fear is the fear that demagogues like Henry Waxman want to instill in us. They want to scare us into accepting new regulations that serve their political interests at the expense of our economic interests.

The views expressed in this paper do not reflect official views of The Coast Guard.

Sources
The Meltdown that Wasn’t, in The Wall Street Journal November 15th 2008
AIG and the trouble with Credit Default Swaps. NPR September 18th 2008
The Meaning of Competition, by FA Hayek in Individualism and Economic Order 1948
Money for Nothing: Politicians, Rent Extraction and Political Extortion by Fred McChesney 1997

Most people would find it strange to hear about potential problems with a booming economy these days. After all, we are in the midst of a recession and some people fear the onset of a depression like deflationary collapse. It is however, worth noting that the Federal Reserve Banks has cut The Federal Funds Rate half a point to 1%. This is the lowest level for this rate since 2004. The Fed is moving aggressively supposedly to save the economy from its current dire condition. What the Fed is actually doing is interfering with adjustments in markets previous cuts in interest rates. It is setting the stage for another boom in the economy, to be followed by a recession. The business cycle does follow a fairly discernable pattern, in the aggregate. The Fed finances booms with bank reserve expansion and reduced interest rates. As inflation becomes more obvious the Fed then hits the breaks, thus causing yet another perceived crisis.

What we need to recognize is that the actions of the Fed today are not correcting markets and saving us from further failure. The manipulation of interest rates by the Fed are distorting capital markets, this manipulation is preventing capital markets from sorting out the last set of errors that the Fed created with the artificially low interest rates it set back in 2004 (among other times).

The real solution to the problem of the business cycle is to recognize the true function of interest rates. The Federal Reserve is being run according to the Keynesian idea that interest rates function as a mechanism for stimulating or chocking off aggregate demand. Now that aggregate demand appears insufficient, Ben Bernanke is moving to stimulate the economy. At some point some years from now Chairman Bernanke or his successor will find that aggregate demand is excessive, and will raise interest rates to a point where capital markets will crash and a recession will ensue. What is missing in Chairman Bernanke’s analysis is the idea, developed by Mises and Hayek, that interest rates coordinate the planning of future economic activity among and between individual households and businesses. Interest rates and credit markets facilitate exchange between savers and borrowers as people plan out future production and consumption. Interest rate manipulation does not simply choke off or stimulate aggregate demand, it causes dis-coordination between individuals who trade in credit and capital markets.

Ben Bernanke is now charting a course that will lead to yet another boom, a corresponding period of perceived prosperity only part of which is real, and yet another crash and recession. Hopefully the next recession will do less undeserved damage to the reputation of capitalism and free markets. Better still we can hope that more people will realize that it is Federal Reserve policy, based on faulty Keynesian economic reasoning, that is to blame for the business cycle.

(DW MacKenzie teaches economics at The Coast Guard Academy. The views of this paper do not represent the official views of The Coast Guard Academy.)

The recent financial crisis has been a source of new hope for those who despise capitalism. The Democratic presidential candidate has gone out on a limb by declaring that the current crisis is the result of deregulation during the Bush presidency.According to Jacob Weisberg, the current crisis is the result of the lack of new regulations rather than the shredding of old regulations. While Weisberg is not as obviously wrong as Obama, his claims are unsubstantiated, poorly argued, and false. FULL ARTICLE

The Bush administration is going beyond its well-established record of intervention by implementing partial socialization of numerous financial firms. It does seem that we are at the crossroads. Will we move in the direction of Lange’s market socialism, or will we opt for greater freedom and prosperity?

Why would anyone have confidence in the federal government’s ability to direct matters of finance and investment? One need only look at the federal deficit and the burden of unfunded entitlements like Social Security to gauge the ineptitude of federal financial management.FULL ARTICLE

The idea that we should think globally and act locally has superficial appeal, but careful examination of this proposition reveals that it derives from thinking that is both utopian and mediocre or unimaginative. The idea that we should think locally or selfishly and act globally might seem counterintuitive — in some sense small minded and greedy and in another sense absurd. However, competition in the market system does result in the unintended consequence of promoting general interests through individual actions, whether they appear greedy or altruistic. FULL ARTICLE

The presidential debate was revealing. Obama took it upon himself last night to “Correct history”. According to Obama “the biggest problem in this whole process was deregulation of the financial system”. “Its not enough to help those at the top, Prosperity is not just going to trickle down”. We therefore need a middle class tax cut. Obama further claims that “A year ago I went to Wall Street and said we need to reregulate”. The solution to our problems is therefore “much better regulations in the financial system”.

Can Mr. Obama name even one act of deregulation signed into law in the past eight years? The fact of the matter is that financial markets are among the more regulated areas of commerce in the USA. While Obama seems oblivious to this fact, it might be reasonable to assume that he does not believe his own words.

Unfortunately the candidate of the other major party appears no better on these issues. According to McCain “The system in Washington is broken”. How is it broken? Special interest money has corrupted Washington. What McCain does not understand is that politics works largely through special interest lobbying. In other words, special interest bias is in the very nature of large activist government. Special interests are easier to organize than broader more encompassing interests. Given the relatively high cost of organizing ‘the people’, we should expect special interest bias in politics. The system is not broken, it is working as badly it should. Given that we have a system that delivers bad results when it is working as it should, it does not need to be fixed, it needs to be deconstructed.

One woman asked both candidates “How can we trust either of you with our money when both parties got us into this crisis?” This is an excellent question. It would seem that the answer is that we should not trust either candidate. Obama wants to exploit the current crisis to promote new regulation. He must therefore blame the current situation on mythical deregulation. Obama rails against the failed policies of GW Bush. However, he is proposing a tax cut, some new spending, and new regulation. This is roughly the same set of policies that Bush delivered. If Obama knows that he is misrepresenting the facts, then he is a demagogue whom we cannot trust. If he believes his own words, then he is deluded to the point of being dangerous. Either way, we should expect further trouble from an Obama presidency.

McCain is proposing more regulation and spending, including the recent bailout. McCain also gained notoriety for saying that interest rates should be zero. The boom that led to our current crisis was produced largely by artificially low interest rates, courtesy of the Federal Reserve Bank. Neither candidate is speaking to the real issues at stake in this election because both are wedded to the policies that are to blame. McCain believes that Washington is broken because he is an idealist. He is enamored with an idealistic vision of democratic governance. We can therefore expect little or nothing in terms of positive change from a McCain presidency.
It is sometimes said that there isn’t a dimes worth of difference between the two major parties. This saying has never been more true than in this election.

While the current financial crisis has received much attention, another crisis has led to calls for government intervention. The Maryland blue crab population has dropped sharply in recent years. Some senators are urging that the crab crisis be declared a federal disaster, so that Chesapeake crabbers can receive $20 million in aid. FULL ARTICLE

The recent collapse of financial giants Lehman and AIG have led to new calls for regulation. Nobel Prize winning economist Joseph Stiglitz has proposed a six point plan to deal with the current financial situation. He believes that the government needs to “correct the incentives for executives” by requiring that bonuses be paid on five year returns, rather than on annual returns. We need a “financial products safety commission”. We need a “financial systems stability commission” to overview the entire financial system. We need to impose regulations like “speed bumps” to limit excessive lending. We need regulation to limit predatory lending. Finally, we need better competition laws. Firms that are “too big to fail” ought to be broken up.
Absent from this list are any calls for reforming the Federal agencies that currently exist. Professor Stiglitz insists that “financial institutions are at the center of blame”. Stiglitz does admit that the Fed mismanaged policy, but makes no mention of other authorities. The Federal Reserve created this problem with “a flood of liquidity” that caused a “housing bubble” and low household savings. These are interesting observations. The idea that inflationary monetary policy should cause an investment boom in housing and dearth of household savings (i.e. a consumption boom) that leads to a crash is highly consistent with the explanation of business cycles that earned Friedrich Hayek his Nobel Prize in economics. Professor Stiglitz is hinting at Austrian Business Cycle Theory.

Unfortunately, professor Stiglitz has learned the wrong lessons from this experience. He has jumped to the conclusion that private markets and “lax regulation” are to blame. While it is surely the case that private investors and CEO’s have committed errors, it could hardly be the case that Federal Regulators are blameless. At a minimum, Federal authorities failed to prevent the current crisis. Professor Stiglitz does note that “the ingenuity of those in financial markets means that regulations will be circumvented. Indeed, he admits that past regulations came to be ineffective, and uses this as an excuse for more regulation. This supports the theory of regulation advanced by Ludwig von Mises in his 1940 book on Interventionism. Regulations lead to unforeseen and unintended consequences that require more regulation, if we insist upon governmental controls instead of regulation by true competition.

The current crisis should be viewed as a failure of several large organizations, only some of which are private. The difference between private failure and public failure is that, as Milton Friedman put it, “If you start a program that is a failure and you are in the private market, the only way you can keep it going is by digging into your own pocket. That is your bottom line. However, if you are in the government, you have another recourse. With perfectly good intentions and good will nobody likes to say “I was wrong” you can say, “Oh, the only reason it is a failure is because we haven’t done enough”. This crisis is shutting down some private firms, like AIG, yet culpable public sector organizations will continue their operations, perhaps without any reforms at all. We may also get more of these public regulatory organizations. This is the true failure of a system, failure to reform itself. Capitalism reforms itself through bankruptcy, but government has no such automatic mechanism for change and reform. ON the contrary, public institutions use crises as justifications for their expansion, even where these public institutions are at least partly to blame for the crisis in question. We can, however, learn from the recent crisis by putting it in the proper perspective. Mises and Hayek arrived at the right answers largely because they thought about capitalism and government in evolutionary terms. We can arrive at the rights answers to the problems of our time by thinking about them in the same way.

Advocates of government planning often cite China as an example of economic success. China supposedly achieved success by adopting a mixed economy.

According to Joseph Stiglitz, the Chinese government has avoided the deficiencies of capitalism and communism by allowing a limited amount of private competition, while also retaining strong governmental controls over investment. Chinese GDP statistics seem to support the case for government regulation of markets, but there is a problem with this data. The problem with the statistics that the Chinese have reported on GDP is that they are exaggerated. At the end of last year the World Bank published a report on Chinese GDP. World Bank economists used the standard method of Purchasing Power Parity to measure Chinese GDP in terms of US dollars. The result of this study is that Chinese GDP is lower than previously believed. FULL ARTICLE

The movement towards socialized medicine is strong but widely misunderstood. Many ordinary people see health care as a right and complain that it is too expensive. Some economists also see problems with the existing health care system and propose public-sector alternatives. One serious problem with those who want socialized medicine is that they fail to see the problems that already exist with governmental involvement in health care.

Economists Steven DeLoach and Jennifer Platania claim that employer-provided health care affects the economy adversely. The logic of the DeLoach/Platania argument is relatively straightforward. Since health insurance is a fixed cost per employee, employers have an incentive to increase output by increasing hours worked per worker, rather than by hiring additional workers. Since labor productivity declines as workers work longer, it would be more efficient to hire more workers, rather than to have the same workers work longer…

The primary problem with DeLoach and Platania is that they do not sufficiently account for the effects of existing governmental intervention. FULL ARTICLE