A matter of interest – part 4

Make do and mend

Continued from Part 3.

That the development of a situation where an over-proportion in the assembly of higher-order capital combinations vis-à-vis the amount of desired end-goods in the shops is a thoroughly unnatural one can be seen in any number of totalitarian extremes involving crash industrialisation – whether in the cabbage queues of Stalin’s Russia; in the ‘Guns or Butter’ forbearance forced on those living in Hitler’s Germany; in the mass starvation inflicted in Mao’s ‘Great Leap Forward’; or in the restrictionism and personal privation which accompany any episode of wartime socialism. Similar, if less brutal, instances can be found when a country labours under a mercantilist regime, or falls prey to a Listian ‘infant industry’ doctrine of protectionism. Asia’s post-war development – with its intrinsic element of favouring the interests of producers, rather than those of the consumers they are supposed to be serving – again shows evidence of the milder forms of compulsion, this time taking the form of ‘forced saving’ (a phrase now morphing into the more contemporary ‘financial suppression’).

The use of state violence – up to and including the condemnation to the firing squad for ‘black marketeers’, ‘hoarders’, and other so-called ‘economic saboteurs’ – as well as the resort to rigged institutions (captive savings schemes and regulated interest rates) is a clear sign that something is wrong: that people are earning money wages they cannot fully enjoy (meaning their effective real incomes are being curtailed) since the goods they would spend these on are not being churned out as they should be, but are instead being locked up in potentially redundant plant, equipment, and concrete.

If you pay people for building pyramids instead of canning factories and leather tanneries, you can expect them to get a little restive when their wives come back empty-handed from the weekly shopping trip. Since the pyramids release no socially useful product during or after their construction, they, too, are a form of exhaustive, not regenerative, consumption and rather than building capital, they are in the business of destroying it. Moreover, you do not have to be a Pharaoh to commit this sin: set interest rates too low and credit terms too easy through the actions of the central bank; award a tax- or debt-financed government contract to a green energy boondoggler; award public subsidies to keep one’s constituents in sub-marginal employment in the car business; buy up the refiner’s or farmer’s unwanted output for the ‘strategic’ national stockpile; cover the land in barely occupied shopping malls and traffic-free superhighways – all of these are, in their own way, means to build pyramids every bit as wasteful as the giant mausolea of Giza.

Ironically, of course, a determinedly prodigal, public emulation of King Cheops tends to be what the Keynesians strenuously advocate as the cure for the evils of the lesser, private potentates’ sterile monumentalism. Accompanying this, they argue, the central bank should abandon all restraint and intervene in the market as forcefully as possible to cheapen credit.

Sadly, a lowering of interest rates with the aim of promoting yet more end consumption simply will not answer. The problem is that we have been seeking to consume too much, not too little, in relation to an incoherent capital arrangement which was brought about only because interest rates were too low to begin with. Re-ordering is what is needed, however painful that may be, and to attempt to postpone it by encouraging a greater accumulation of debt in the books of those already unable to pay their way in the world can only delay the resolution of the problem since it encourages the retention of capital and labour in the hands of the failures while exacerbating the divide between the money so paid out and the end goods still lacking in supply.

With the full weight of bureaucratic tyranny being brought to bear on it subjects, this enervating profligacy can be carried on beyond the point of economic exhaustion, when zombie companies populate the landscape, the state finances are impossibly burdened, the state’s pet banks are insolvent, and a mass expropriation looms which will be effected by resort to either of the opposing evils of wholesale default or galloping inflation.

Should the regime quail at such a prospect and resolve finally to give the populace its head, it will find the majority of its members will not continue to forgo their own gratification simply so that their industrial overlords can realize their grandiose schemes of expansion (not that anyone will recognise this for what it is). We reiterate the point made above: when this occurs, a not insignificant majority will quit their post at the aluminium smelter or the crane manufacturer in order to help satisfy this long pent-up need, taking their skills and their savings along with them. As they do so, they will inevitably alter the capital structure to the disadvantage of their old employer, his suppliers, and probably his lower-order, but still intermediate, customers.

Though unavoidably painful, this is still the lesser of all evils: much less debilitating than it is to suck the whole productive edifice, inch by painful inch, down into the engulfing quicksand of deficit-finance and expanded state tutelage; much less socially corrosive that the slow death of faux austerity, with its toxic mix of still-lavish public outlays nonetheless too small to satisfy the dole addict’s cravings combined with ever greater impositions on the shrinking residuum of untapped private income and unencumbered wealth; much less devastating than the inflationary holocaust to which both of these can all too easily lead.

Old wine in new bottles

Though a quarter of century of financial market experience and more than fifteen years of study of these phenomena have convinced your author of the overall validity of the diagnosis, there are still those who quibble. Not all busts are caused by rising prices and ‘Ricardo effects’ – Hayek’s formulation of the loss of complementary factors to the reinforced demands of the end-consumer – they say. Or, stepping into the realm of policy prescription, they allow that one would do well to be ‘Austrian’ in the boom, but a Keynesian in the bust – as if the state, once having expanded its budget and hence added to its ruling elite’s clamouring horde of voter-dependants, will ever again lose its taste for deficit spending.

It is undoubtedly true that much of the institutional setting of Mises’ Theory of Money and Credit (written, after all, exactly one hundred years ago) is now out of date, but that does not render his ground-breaking development of what we might call the Wicksellian Process similarly anachronistic in its fundamentals.

Clearly, we have no gold standard to impose discipline on either the ruling elite or the bankers who are their political symbionts; granted, we have a wider range of non-bank and other credit instruments to confuse the issue (though the differences here are not as absolute as some like to pretend); yes, we have the provision on a large scale of consumer and residential mortgage – as opposed to producer – credit in a manner unknown until at least the 1920s; and, alas, we all groan under a monstrously larger deadweight of soft-budget interference from the state. Each of these changes has clearly helped reshape the development of both boom and bust, but none of them alter the fact that investment is best undertaken when both the money and the means corresponding to that money have been voluntarily set aside to finance it, or that, conversely, investment is worst entered upon when it is launched on a soon-cresting wave of counterfeit capital, conjured up by the banks or the government printing press.

If all this means that we have fewer projects underway at any one time, so be it: we will waste far less of what we hold scarce and end up holding fewer things as scarce as we do now. If that means equity comes to replace debt and that it is much more difficult to transmute created credit into money, so be it, too: we will have better stewardship of wealth; more involved management of business; less leverage and so less vulnerability to the unknown unknowns; less inflation and so less regressive and arbitrary variability of outcomes; less fiscal laxity and so a more representative government better held to book by a more closely informed electorate; less focus on speculation and on front-running the political cycle and more emphasis on innovation and accelerating the product cycle.

The Garden of Eden may well be denied us, but that does not mean the only remaining choices are the debtor’s gaol or the soft totalitarianism of de Tocqueville’s worst imaginings.

To sum up in terms of our initial example: Australia’s danger is not so much that the world is suddenly awash in iron ore and coal as that its people have decided that they have better things to do with either their wealth or their incomes than to contribute these to the miners (as well as to those who will buy their product, and to their customers in their turn, etc.) in sufficient quantity and at a low enough price to make it likely that the extraction of those minerals will show the return required on the investment needed to dig them up. It has been this industry’s double misfortune that the miners’ principal customers have themselves been caught up in an orgy of malinvestment such as the world had not seen these past 150 years and that, with little viable outlet for several tens of percent of their vastly- increased capacity, these customers only remain in business thanks to the politically-mandated pliancy of their bankers and by way of the egregious exploitation of those financially-repressed small savers who buy the cynically-misnamed ‘wealth management products’ emanating in such profusion from those same banks.

If none of these things – if none of these complementary factors – were more scarce than the mining entrepreneurs had foreseen, or if the products to which the miners were contributing were truly well aligned in both the composition of the goods and the schedule of their delivery with what Mrs. Smith and Mrs. Li want when they go shopping, there would be no problem completing these projects. The reason this is not the case is because of the false signals as to the relative urgency of demand for such factors in all their competing uses given off by artificially low interest rates. The fact that it is not the case – and that this is now throwing the whole interlocking series of enterprises into jeopardy – is the very essence of the Austrian Theory of the Business Cycle.

It is also the crux of the case to be made against the unprecedented assault which the world’s hubristic central banks have launched upon the market process. Fixated with using their illusory ‘wealth effect’ to avoid a full realization of the losses we have all suffered in a boom very much of those same central bankers’ creation – or else cynically trying to achieve the same denial of reality by driving the income-poor into accepting utterly inappropriate levels of financial risk – they are destroying both the integrity and the signalling ability of those same capital markets which are the sine qua non of a free society.

If we are to salvage any residue of our liberty, restore any semblance of our prosperity, and again secure to ourselves the right to enjoy our property, this attack must be ended before it consumes not just our capital, but the entire life-giving legacy of the Enlightenment along with it.