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After Great Recession: A Bleaker Employment Recovery than after the Great Depression

Posted on September 5, 2011 | 4 comments

By Eric Tymoigne

The last employment numbers provide yet another disappointing bit of news for millions of households all around the country. No net employment gain. However, I am afraid that this is only the very tip of the iceberg because a long-term view shows a much bleaker picture.

Figure 1 shows how long it took for the employment level to return to its peak level after a recession, and how much job loss occurred relative to that peak. The employment numbers exclude people that were employed in the WPA, NYA and CCC, and focuses on individuals employed in nonfarm activities.

During the Great Depression, the employment level declined for 4 years and almost 10 million jobs were lost compared to the peak employment level that prevailed in August 1929. It took 136 months (over 11 years) to return to this level of employment, but, without the avoidable 1937 recession, the full recovery would have occurred after 102 months (8.5 years) if one takes the trend of recovery that prevailed from 1933.

The Great Recession led to a loss of almost 9 million jobs compared to the peak employment level of January 2008. The loss of jobs occurred at a faster rate than the Great Depression but employment recovered sooner and started to rise after 2 years. However, once the employment recovery started, it occurred at a slower rate than during the Great Depression. If the recovery continues at the same pace, AND assuming that no recession occurs during the recovery phase, it will take about 9 years to return to the employment level of January 2008. Thus, given everything else, it will take longer for employment to fully recover than during the years prior to the 1937 recessions.

The picture is even bleaker today if one included New Deal employment programs. Figure 2 shows that those programs allowed employment to recover fully after 80 month (less than 7 years) and only three years after the New Deal Programs were implemented. The timid Bush and Obama stimulus have barely made a dent in the employment problem over the past two years.

This, once again, suggest a powerful employment policy to help the economy. Instead of concentrating its efforts on tax rebates and bailing out banks, and waiting for them to lend to businesses, the federal government should directly hire people and involve them in activity that benefited the entire country. We do not need a temporary stimulus; we need a permanent institutionalized and decentralized government program that hires anybody willing to work and unable to find a job in the private sector. By sustaining income and the productivity of workers, a government employment program would tremendously helps to sustain the employability of workers and would improve the confidence of private business, which would in turn improve private employment.

Figure 1. Difference between peak employment level and current employment level. Nonfarm payroll employment, seasonally adjusted, millions of people.

 

Sources: BLS (Current Employment Survey), Federal Reserve Bulletin (June and September 1941).
Note: People employed in the WPA, NYA and CCC are not included.

Figure 2. Same as Figure 1 with New Deal Federal Employment Programs.

Sources: Federal Reserve Bulletin, Social Security Bulletin.

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Today’s Modern Money Primer

Posted on September 5, 2011 | 1 comment

This week’s primer deals with IOU’s denominated in the national money of account. So before you go out spending your hard earned dollars on burgers and beer, take a glance at how they actually function as IOU’s in our modern monetary system.

And of course, have a safe and relaxing Labor Day!

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MMP Blog #14: IOUs Denominated in the National Currency: Government and Private

Posted on September 4, 2011 | 22 comments

By L. Randall Wray

In the past two weeks we took a bit of a diversion the case of so-called commodity money consisting of precious metal coins. We also briefly discussed the gold standard. I argued that even on a gold standard, the currency is really the government’s IOU backed by taxes. And that remains true even if the sovereign stamps the IOU on a gold coin. So those precious metal coins were really what is often derided as a “fiat money”. The typical dichotomy posed between “fiat money” that has “nothing” backing it versus a “hard money” or “commodity money” with gold or silver behind it is actually false. All “modern money” systems (which apply to those of the “past 4000 years at least” as Keynes put it) are state money systems in which the sovereign chooses a money of account and then imposes tax liabilities in that unit. It can then issue currency used to pay taxes.

In the introduction to this Primer I had promised not to delve too much into history—first because our main purpose is to explain how money works today; and second because the past is admittedly cloudy (“mists of time” as Keynes said). However, I felt it was necessary to explain how things worked on the gold standard and with metal coins (as best as we can determine) in order to argue that those who think that “fiat money” systems are something strange, unnatural, and of recent vintage, are confused. Governments of the past and present can choose to tie their hands, so to speak, by standing ready to convert their currencies to precious metal or foreign currencies. Fixed exchange rate systems stand at one extreme of the modern money continuum. They are a policy choice. There is nothing “natural” about them. They do, however greatly reduce fiscal policy space—in ways to be discussed more later in the primer. The US and other sovereign countries could choose to tie policy in that manner. But they would not thereby return to some mythical utopian past with a natural self-regulating commodity money. In truth, domestic fixed exchange rate systems usually bring on more problems than they resolve, and they are typically short-lived. And international fixed exchange rate systems—such as the sterling system or the Bretton Woods system fared no better.

This week we return to our analysis of the operation of today’s monetary system, examining the denomination of IOUs in the state money of account.

IOUs denominated in national currency: government. In earlier blogs we have noted that assets and liabilities are denominated in a money of account, which is chosen by a national government and given force through the mechanism of taxation. On a floating exchange rate, the government’s own IOUs—currency—are nonconvertible in the sense that the government makes no promise to convert them to precious metal, to foreign currency, or to anything else. Instead, it promises only to accept its own IOUs in payments made to itself (mostly, tax payments, but also payments of fees and fines). This is the necessary and fundamental promise made: the issuer of an IOU must accept that IOU in payment. So long as government agrees to accept its own IOUs in tax payments, the government’s IOUs will be in demand (at least for tax payments, and probably for other uses as well).

On the other hand, when government promises to convert on demand (to foreign currency or precious metal), holders of the government’s liabilities have the option of demanding conversion. This might in some cases actually increase the acceptability of the government’s currency. At the same time, it commits government to conversion on demand—which as discussed earlier requires that it have accumulated reserves of the foreign currency or precious metal to which it promises to convert. Ironically, while it might be able to find more willingness to accept its currency since it is convertible, it also knows that increasing currency issue raises the possibility it will not be able to meet demand for conversion. For this reason, it knows it should limit its issue of a convertible currency. Should holders begin to doubt government will be able to convert on demand, the game is over unless government has sufficient access to foreign currency or precious metal reserves (either its hoards, or to loans of reserves). It can be forced to default on its promise to convert if it does not. Any hint that default is imminent will ensure a run on the currency. In that case, only 100% reserve backing (or access to lenders) will allow government to avoid default.

We repeat that convertibility is not necessary to ensure (at least some, perhaps limited) demand for the domestic currency. As discussed above so long as government can impose and collect taxes it can ensure at least some demand for a nonconvertible currency. All it needs to do is to insist that taxes be paid in its own currency. This “promise to accept in tax payment” is sufficient to create a demand for the currency: taxes drive money.

Private IOUs denominated in the domestic currency. Similarly, private issuers of IOUs also promise to accept their own liabilities. For example, if a household has a loan with its bank, it can always pay principle and interest on the loan by writing a check on its deposit account at the bank. Indeed, all modern banking systems operate a check clearing facility so that each bank accepts checks drawn on all other banks in the country. This allows anyone with a debt due to any bank in the country to present a check drawn on any other bank in the country for payment of the debt. The check clearing facility then operates to settle accounts among the banks. The important point is that banks accept their own liabilities (checks drawn on deposits) in payments on debts due to banks (the loans banks have made), just as governments accept their own liabilities (currency) in payments on debts due to government (tax liabilities).

Leveraging. There is one big difference between government and banks, however. Banks often do promise to convert their liabilities to something. You can present a check to your bank for payment in currency, what is normally called “cashing a check”, or you can simply withdraw cash at the Automatic Teller Machine (ATM) from one of your bank accounts. In either case, the bank IOU is converted to a government IOU. Banks normally promise to make these conversions either “on demand” (in the case of “demand deposits”, which are normal checking accounts) or after a specified time period (in the case of “time deposits”, including savings accounts and certificates of deposits, known as CDs—perhaps with a penalty for early withdrawal).

Banks hold a relatively small amount of currency in their vaults to handle these conversions; if they need more, they ask the central bank to send an armoured truck. Banks don’t want to keep a lot of cash on hand, nor do they need to so in normal circumstances. Lots of cash could increase the attractiveness to bank robbers, but the main reason for minimizing holdings is because it is costly to hold currency. The most obvious cost is the vault and the security guards, however, more important to banks is that holding reserves of currency does not earn profits. Banks would rather hold loans as assets, because debtors pay interest on these loans. For this reason, banks leverage their currency reserves, holding a very tiny fraction of their assets in the form of reserves against their deposit liabilities.

So long as only a small percentage of their depositors try to convert deposits to cash on any given day, this is not a problem. However, in the case of a bank run in which a large number of depositors tries to convert on the same day, the bank will have to obtain currency from the central bank. This can even lead to a lender of last resort action by the central bank that lends currency reserves to a bank facing a run. In such an intervention, the central bank lends its own IOUs to the banks in exchange for their IOU—the bank gets a reserve credit from the central bank (an asset for the bank) and the central bank holds the bank’s IOU as an asset. When cash is withdrawn from the bank, its reserves at the central bank are debited, and the bank debit’s the depositor’s account at the bank. The cash held by the depositor is the central bank’s liability, offset by the bank’s liability to the central bank.

Next week: we will begin with an analysis of how banks clear accounts among themselves, by using central bank reserves. This also leads to a discussion of “pyramiding”: in modern economies that leverage liabilities, it is common to make one’s own IOUs convertible to those higher in the debt pyramid. Ultimately, all roads lead back to the central bank.

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A Preview of Thursday’s Jobs Speech: He’s Got Nothin’

Posted on September 2, 2011 | 31 comments

Three months ago, when the May employment report revealed that the economy added just 54,000 jobs, President Obama urged the American people “not to panic.” (I urged the opposite here.)  Now the August report is in, and oh what we wouldn’t give for 54,000 new jobs. The Republicans blame it all on uncertainty — employers are worried about the threat of new regulations and higher taxes, so they won’t risk parting with their mountains of (record-high corporate) profits (Mike Norman debunks the Republican argument here.). Obama essentially agrees with the Republicans.

First he blamed the doomsdayers for pointing out that the recovery was faltering, saying that their dismal warnings only hamper confidence, causing people to spend less and save more. Then he blamed lackluster job growth on the uncertainty that was created during the standoff over raising the nation’s debt-ceiling limit. Striking a deal to cut trillions in future demand (oops – I mean nasty deficits) was supposed to restore confidence among sellers. Like the Republicans, President Obama (is it really necessary to distinguish the two any longer?) also believes that red tape and regulation are major deterrents to the recovery and that ratifying some free trade deals and overhauling our patent laws will provide a substantial boost to the economy. Unlike the Republicans, the president also wants to see more spending on infrastructure and an extension of the payroll tax cut (possibly to include employers this time), but there is nothing truly bold or imaginative in any of this — certainly nothing that is going to prevent a double-dip (if it hasn’t happened already), and nothing that’s going to create millions of jobs within any reasonable time frame.

So what will we hear on Thursday?  Look mostly for carrots with small price tags.  Probably a lot of talk about confidence, (un)certainty and incentives.  (Don’t make a drinking game out of it, or you’re liable to miss the second half of the speech.)   
Fortunately, there’s plenty of time to craft something different.  Here  — courtesy of Warren Mosler — is a great template.  It’s the speech Warren says he would deliver if he were president.  (Hey, there’s an idea.)
My fellow Americans, 
let me get right to the point.

I have three bold new proposals to get back all the jobs we lost, and then some.
In fact, we need at least 20 million new jobs to restore our lost prosperity and put America back on top.

First let me state that the reason private sector jobs are lost is always the same.
Jobs are lost when business sales go down.  
Economists give that fancy words- they call it a lack of aggregate demand.

But it’s very simple.  
A restaurant doesn’t lay anyone off when it’s full of paying customers, 
no matter how much the owner might hate the government, 
the paper work, and the health regulations.
  
A department store doesn’t lay off workers when it’s full of paying customers,
And an engineering firm doesn’t lay anyone off when it has a backlog of orders.

Restaurants and other businesses lay people off when their customers stop buying, for any reason. 
So the reason we lost 8 million jobs almost all at once back in 2008 wasn’t because all of a sudden 
all those people decided they’d rather collect unemployment than work.
The reason all those jobs were lost was because sales collapsed.  
Car sales, for example, collapsed from a rate of almost 17 million cars a year to just over 9 million cars a year.
That’s a serious collapse that cost millions of jobs.

Let me repeat, and it’s very simple, when sales go down, jobs are lost, 
and when sales go up, jobs go up, as business hires to service all their new customers.

So my three proposals are specifically designed to get sales up to make sure business has a good paying job for anyone 
willing and able to work.

That’s good for businesses and all the people who work for them.

And these proposals are bipartisan.  
They are supported by Americans ranging from Tea Party supporters to the Progressive left, and everyone in between.

So listen up!

My first proposal if for a full payroll tax suspension.
That means no FICA taxes will be taken from both employees and employers.

These taxes are punishing, regressive taxes that no progressive should ever support.
And, of course, the Tea Party is against any tax.  
So I expect full bipartisan support on this proposal.

Suspending these taxes adds hundreds of dollars a month to the incomes of people working for a living.
This is big money, not just a few pennies as in previous measures.

These are the people doing the real work.  
Allowing them to take home more of their pay supports their good efforts.
Right now take home pay is barely enough to pay for food, rent, and gasoline, with not much left over.
When government stops taking FICA taxes out of their pockets, 
they’ll be able to get back to more normal levels of spending.
And many will be able to better make their mortgage payments and their car payments,
which, by the way, is what the banks really want – people who can make their payments.
That’s the bottom up way to fix the banks, and not the top down bailouts we’ve done in the past.

And the payroll tax holiday is also for business, 
which reduces costs for business, 
which, through competition,
helps keep prices down for all of us, which means our dollars buy more than otherwise.

So a full payroll tax holiday means more take home pay for people working for a living,
and lower costs for business to help keep prices and inflation down,
so sales can go up and we can finally create those 20 million private sector jobs we desperately need.

My second proposal is for a one time $150 billion Federal revenue distribution to the 50 state governments 
with no strings attached.  
This will help the states to fill the financial hole created by the recession, 
and stay afloat while the sales and jobs recovery spurred by the payroll tax holiday
restores their lost revenues.

Again, I expect bipartisan support.  
The progressives will support this as it helps the states sustain essential services, 
and the Tea Party believes money is better spent at the state level than the federal level.  

My third proposal does not involve a lot of money, 
but it’s critical for the kind of recovery that fits our common vision of America   
My third proposal is for a federally funded $8/hr transition job 
for anyone willing and able to work, 
to help the transition from unemployment to private sector employment.
The problem is employers don’t like to hire the unemployed, 
and especially the long term unemployed.
While at the same time, 
with the payroll tax holiday and the revenue distribution to the states,
business is going to need to hire all the people it can get.
The federally funded transition job allows the unemployed to get a transition job,
and show that they are willing and able to go to work every day,
which makes them good candidates for graduation to private sector employment.

Again, I expect this proposal to also get solid bipartisan support.
Progressives have always known the value of full employment, 
while the Tea Party believes people should be able to work for a living, rather than collect unemployment.

Let me add here that nothing in these proposals expands the role or scope of the federal government.
The payroll tax holiday is a cut of a regressive, punishing tax, 
that takes the government’s hand out of the pockets of both workers and business.

The revenue distribution to the states has no strings attached.  
The federal government does nothing more than write a check.

And the transition job is designed to move the unemployed, who are in fact already in the public sector,
to private sector jobs.

There is no question that these three proposals will bring the increase in sales we need to 
usher in a new era of prosperity and full employment.

The remaining concern is the federal budget deficit.  

Fortunately, with the bad news of the downgrade of US Treasury securities by Standard and Poors to AA+ from AAA,
a very important lesson was learned.

Interest rates actually came down.  And substantially.

And with that the financial and economic heavy weights from the 4 corners of the globe 
made a very important point.

The markets are telling us something we should have known all along.
The US is not Greece for a very important reason that has been overlooked.
That reason is, the US federal government is the issuer of its own currency, the US dollar.
While Greece is not the issuer of the euro.

In fact, Greece, and all the other euro nations, have put themselves in the position of the US states.
Like the US states, Greece and other euro nations are not the issuer of the currency that they spend.
So they can run out of money and go broke, and are dependent on being able to tax and borrow to be able to spend.

But the issuer of its own currency, like the US, Japan, and the UK, 
can always pay their bills.
There is no such thing as the US running out of dollars.
The US is not dependent on taxes or borrowing to be able to make all of its dollar payments.
The US federal government can not go broke like Greece.

That was the important lesson of the S and P downgrade, 
and everyone has seen it up close and personal and they all now agree.
And now they all know why, with the deficit at record high levels, interest rates remain at record low levels.

Does that mean we should spend without limit and not tax at all?
Absolutely not!
Too much spending and not enough taxing will surely drive up prices and inflation.

But it does mean that right now, 
with unemployment sky high and an economy on the verge of another recession,
we can immediately enact my 3 proposals to bring us back to 
a strong economy with good jobs for people who want them. 

And some day, if somehow there are too many jobs and it’s causing an inflation problem,
we can then take the measures needed to cool things down.

But meanwhile, as they say, to get out of hole we need to stop digging,
and instead implement my 3 proposals.

So in conclusion, let me repeat these three, simple, direct, bipartisan proposals
for a speedy recovery: 

A full payroll tax holiday for employees and employers
A one time, per-capita, $150 billion revenue distribution to the states
And an $8/hr transition job for anyone willing and able to work to facilitate 
the transition from unemployment to private sector employment as the economy recovers.

Thank you.

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Responses to Blog 13: The Modern Money View of Gold and Gold Coins

Posted on August 31, 2011 | 18 comments

Thanks for the comments, which were very tightly focused on gold and gold coins. I want to reiterate my summary: gold coins are not an example of a “commodity money” such as the sea shells supposedly chosen by Friday and Crusoe. Rather, they were a “fiat money”, government IOU that happened to be stamped on precious metal. These coins almost always circulated far above the value of the embodied metal; however, that value set a minimum below which the coin’s value could never fall.

That proved handy when a crown was overthrown; or when the coins circulated beyond the crown’s reach. I argued it is not a coincidence that the gold standard, precious metal coins, Mercantilism, wars for foreign conquest, and internecine European wars evolved together. The rise of the modern state, with its ability to conscript warriors and enforce taxes made all of that oh-so-Medieval. Precious metal coins were banished to the dustbins of history.

Yet, today’s goldbugs want to bring it all back. Presumably they love the outfits—anyone for the Society for Creative Anachronism? You too can wear tights and pursue damsels in distress with all the accouterments.

OK more seriously, on to the questions and comments.

Q1: It appears that markets do behave as if gold is money. Is this irrational? Does it reflect rational concern with the stability of fiat money? What is gold if it is not money? Is all this speculation just a “greater fool” theory? And what determines the price of gold, anyway?

Answer: All good questions. First, let me remind you that gold is only one of 25 commodities going through a tulip-bulb type speculative hysteria. Indeed, since 2004 we have lived through the greatest commodities bubble in human history—bar none. Please see my Levy Institute piece http://www.levyinstitute.org/publications/?docid=1094.

Now you will notice the date—2008—and you might think it is all outdated. From 2004 to 2008 we had the previous all-time biggest bubble. Then Lieberman and Stupak initiated an investigation into Goldman Sachs (oh, you know it had to involve Goldman) and pension funds (say what?). Yours truly played a walk-on part (I worked behind the scenes with their staffs). I was the only economist they could find willing to say “it is not supply and demand” (it never is—and butlers never commit the murder, either). I wrote the piece you can read at their invitation. Pension funds got scared sh*tless. Their members would blame them for the $4 gas at the pumps. They pulled one third of their funds out. Commodities’ prices collapsed (remember oil fell from approx. $150 to $49 a barrel). Then the financial crisis and the government deficit hysteria and Frank Dodd and all manner of other diversions diverted Congress’s eye away from the ball. Given that real estate was no longer a good speculative cake walk, Goldman induced pensions and other managed money back into commodities. And there you go. $4 gas. They boomed. They bubbled. They exploded. The mother of all tulip bulb hysterias.

And gold is dragged out (again) as the hedge against Chairman Bernanke’s helicopters that will surely induce hyperinflation. (If there was ever a sure bet, the bet against USA inflation has got to be it. But that is a topic for another day.)

The gold shoe will drop. Remember, inflation adjusted gold is still below 1980 levels. Gold has never been a good “investment” against inflation. It is a purely speculative bet because gold has no inherent return. Sure, it is somewhat limited in supply and industrial demand (as well as the demand for bright shiny stuff to attach to bodies) grows. But, still, like all other commodities it suffers from a dangerous predicament: mining technologies improve. OK, maybe not enough to halt rising (nominal) prices over time. But enough to make gold a sucker bet.

Besides, governments have locked a huge portion of the world’s gold supply behind bars. They can let gold out anytime they damned well please–for “good behavior” or just to screw the gold bugs. Whether they will is all political. Betting on politics is a fool’s bet, too. Our gold bug in chief (Greenspan) has been put out to pasture. Don’t count on the Bernanke-Geithner team to continue to boost gold prices. (I won’t go into the rumors that Greenspan helped to stabilize gold prices—using the President’s stabilization fund, yes the same one apparently used to bail out Euro banks so that the money market mutual funds wouldn’t “bust the buck”—as that is a bit too close to UFOs and alien abduction. But I can report that reputable commodities markets experts believe it.) The point is that gold is a tiny market and governments are big players. Remember silver? A bigger market that the Hunt brothers managed to almost corner. Those were two Bush W-like cowboy offspring of a Texas oilman. Do you really want to bet that the world’s central bankers have the interests of gold bugs at heart as they make decisions about the proper price of gold? The US government crushed the Hunt brothers as if they were ants. End of silver boom.

So, no, gold is not money and never has been money. It is a commodity, like Tulip bulbs. Remember what happened with tulip bulbs? Think USB drive sticks. They multiplied. Production costs fell. Prices collapsed. Everyone sold, sold, sold. Yes, central banks will end up with egg on their faces. For most of them, it will be no worse than the Fed’s purchases of toxic waste MBSs. Paper losses, covered by Treasury.

If you’ve got some unused gold, sell it now. You will never regret the decision. (Disclaimer: I do not provide investment advice. If you want investment advice, go to Goldman. They can professionally advise you how to lose your life’s earnings. To them.)

Q2: Didn’t use of gold coins reduce forgery?

Answer: Undoubtedly. But it then led to clipping, weighing, Gresham’s Law dynamics, and so on as discussed last week.

Q3: Can you pay taxes in gold?

Answer: Seriously doubt it. Give it a try. But I’ll give you $32 an ounce and you can use the dollars to pay your taxes. Ship it to me, c/o UMKC (better insure it). And, yes, a dollar is always worth a dollar in tax payment. Much better than gold—you never know what that will be worth when it comes time to pay. So ship gold today!

Q4: Was crying down coins inflationary or did it lead to hoarding and thus was deflationary?
Answer: As discussed, there would be some Gresham’s Law dynamics: you hoard heavy coins and push the light ones in payment. Any coins cried down would be pushed (not hoarded). At the public pay offices (where you paid fees, fines, and taxes) you would experience inflation (deliver more coins to pay your tax debt). From what I understand, the impact on prices in “markets” would not be quite one-to-one. In other words, prices would not necessarily rise fully to take account of the lower value at the public pay offices. But I would say that these historical reports are not conclusive. Still we can surmise that the coins that were cried down probably would fall in value so we’d see some market price inflation in terms of these coins. And “velocity” of them would probably increase as everyone tried to offload them. Coins that were not cried down would get hoarded. But that effect was probably not huge—the historical reports are that crying down was well-understood and even more-or-less accepted as a legitimate means of increasing the tax burden. The story is that the population accepted it so long as it was not done too often. Finally recall that coins had no nominal value printed on them—so the crown had to announce the value at which they’d be accepted. And recall that entire coinages would frequently be called-in for recoinage. It is highly misleading to focus on coins. They were rarely important. Most taxes were paid in tallies (which could not be cried down since the nominal value was cut into stock and stub) and most private transactions took place in bills of exchange or as credits and debits (bar tallies, for example)—again all nominal.

Thanks, again, for comments. Next week: IOUs denominated in the domestic currency: government and private.

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A Tale of Three Germanys: Is Germany Preparing to Exit the Euro?

Posted on August 30, 2011 | 4 comments
Hans-Olaf Henkel’s piece in today’s Financial Times is making waves. Okay, Henkel is an odious man, but my view, which was once considered borderline crazy, is now getting more serious consideration. The Germans were willing to go into a currency union because by construction that agreement removed the weapon exchange rate depreciation from its competitors. German real wage discipline, labor productivity gains, and engineering innovation could not be undercut at the stroke of a pen. Recall that there are basically 3 Germanys:



Germany #1 being the Bundesbank and “finanzkapital”, which retains huge phobias about the recurrence of Weimar-style hyperinflation, and retains an almost theological belief in “sound money”.  It is the Germany of closet gold bugs and Austrian economists, who believe in hard money, “responsible” fiscal policy and the like, and who were basically always antithetical to the euro as a big and broad union.  Then you had the “Europeanists”, led by Kohl who essentially argued that you solve the “German problem” by binding Germany ever more fully into a pan-European framework, the currency union being a key part of that.  The swing vote was Germany #3, Industrial Germany which bought into the idea of the currency union precisely because it locked Germany’s industrial competitors at a fixed exchange and removed the expedient of devaluation.

It seems to me, however, that the swing vote is beginning to have 2nd thoughts, as they wrongly consider the “costs” to the country through these repeated bailouts.  This concern seems to be overriding the obvious benefits of having “profligate” Mediterranean countries buying yet more German imports.  It is striking to me that Henkel, a big player in the German industrial complex, is now leading the charge for withdrawal.  It might suggest that an important political dynamic in Germany has shifted. German policy makers would have to conclude there is no plausible exchange rate for the Neuro and the Pseudo (or Soro?) that would cause a problem for their current account surplus and their export led growth strategy. Or they would have to conclude that is the “least worst” option given the political backlash of more subsidized loans to Greece, Portugal, etc.
The other point is this:  Multinationals don’t care about where demand comes from as long as it is increasing somewhere and they are allowed to go after it. Labor arbitrage is the additional icing on the cake.  So policies that build unsustainable imbalances between countries and have bad social outcomes are fine with them as long as they can roam the globe freely to take advantage of the demand wherever it pops up.  

This probably remains true so long as the ultimate price of these polices don’t get shared with the multinational (in the form of taxation or additional regulation). So far the multinationals have it good in that costs are falling disproportionately on others. That could well change if there was a “solidarity” tax imposed on profits instead of the populace.

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The Washington Mutual Wish List: Optimizing a Criminogenic Environment

Posted on August 30, 2011 | 3 comments

By William K. Black

(Cross-posted from Benzinga.com)

On November 7, 2007, the Financial Services Roundtable released its “The Blueprint for U.S. Financial Competitiveness.” I explained in a three-part series of columns how Federal Home Loan Bank Board Chairman Ed Gray and Office of Thrift Supervision Director Tim Ryan led crackdowns on the “control frauds” that caused the S&L debacle. I emphasized how Gray did so in the face of enormous political opposition from the Reagan administration, Speaker of the House Jim Wright, a majority of the House of Representatives, and the “Keating Five.” One of the odd moments during these political attacks was that a Republican Representative from the Dallas area requested a meeting with Gray when Speaker Wright’s attacks on Gray’s reregulation of the industry and actions against the control frauds were becoming public an notorious. In my naiveté, I thought that Bartlett requested the meeting to support his fellow Republican, Gray. Of course, Bartlett’s purpose was the opposite. He was enraged by our efforts against the Texas control frauds and wanted us to back off. Years later, after a stint as Dallas’ mayor, the Financial Services Roundtable made Bartlett its head, a position he continues to occupy.

Naturally, Bartlett learned nothing productive from being proven disastrously wrong about the S&L debacle. The financial industry chose him as its lead representative because he never learned. He remains an implacable anti-regulator.

The Blueprint describes and situates this anti-regulatory effort, which was the product of a “Blue Ribbon Commission” co-chaired by “Richard M. Kovacevich, Chairman, Wells Fargo & Company; and James Dimon, Chairman and CEO, JPMorgan Chase and Co.”

“Within the past year, three reports on U.S. financial competitiveness—including the Bloomberg-Schumer Report—have called for a system of principles-based regulation. Last March, Treasury Secretary Henry M. Paulson, Jr. said, “[W]e should also consider whether it would be practically possible and beneficial to move to a more principles-based regulatory system as we see working in other parts of the world.”

The Blueprint was part of a coordinated anti-regulatory effort with Goldman Sachs alums at the U.S. Treasury Department and the Chamber of Commerce.

“Three major studies – the bipartisan report by New York Mayor Michael R. Bloomberg and New York Senator Charles E. Schumer (D-NY), the U.S. Chamber report, and the study by the Committee on Capital Markets – have concluded that the United States is losing its position as the world’s leading financial marketplace.1”

The text of the footnote shows the “race to the bottom” rationale that characterized each of these purportedly “independent” “studies.”

“1 Michael R. Bloomberg and Charles E. Schumer, Sustaining New York’s and the US’ Global Financial Services Leadership, January 2007 at www.nyc.gov; hereafter, Bloomberg-Schumer Report. See also Michael R. Bloomberg and Charles E. Schumer, “To Save New York, Learn from London,” Wall Street Journal, November 1, 2006, p. A-18; Committee on Capital Markets Regulation, Interim Report, November 2006 at www.capmktsreg.org; hereafter, Interim Report; Commission on the Regulation of U.S. Capital Markets in the 21st Century (U.S. Chamber of Commerce), Report and Recommendations, March 2007 at www.uschamber.com; hereafter, U.S. Chamber Report.”

“To Save New York, Learn from London.” Mayor Bloomberg and Senator Schumer (D. NY) urged the U.S. to adopt the UK’s approach to financial regulation, which during this era was the three “de’s” – deregulation, desupervision, and de facto decriminalization. Henry Paulson was confirmed by the Senate as Bush’s Treasury Secretary on June 28, 2006. Paulson’s top priority was deregulation. In particular, he worked to weaken Sarbanes-Oxley (SoX) on an urgent basis. Paulson’s strategy was to generate a series of anti-regulatory studies and proposals that would serve as the basis for a broad legislative assault on what remained of financial regulation. He was gearing up to propose this assault when the markets collapsed. This led to the March 31, 2008 roll out of the Treasury’s incoherent “reform” package. The Paulson plan was incoherent for an excellent reason. His plan’s analysis consisted overwhelmingly of an embrace of the standard anti-regulatory “race to the bottom” dynamic contained in the Blueprint, the Bloomberg-Schumer writings, and the Chamber of Commerce, married to a grudging concession that financial regulation had been too weak. This made no sense, for the U.S. and most of the Western world had just run a real world experiment in which the three “de’s” had once again proven intensely criminogenic precisely because they invariably lead to the “bottom.” Paulson’s plan was dead on arrival.

By late March 2008, the absurdity of embracing the anti-regulatory “race to the bottom” – and then admitting that the dynamic was disastrous – was so obvious that the public reacted with scorn to the Paulson plan. The Blueprint’s analytics presented in support of the race to the bottom were even worse than the analytics presented by Paulson, for they did not contain any concession that such a race must cause regulation to become catastrophically weak and lead to crises. The Blueprint was very late in the game – November 2007. The bubble had collapsed over a year ago. Most large mortgage banks had failed – catastrophically. Nonprime mortgage defaults were surging. The secondary market in nonprime mortgages collapsed. The authors of the Blueprint knew that the central dynamic they were embracing – the purported “need” to “win” the anti-regulatory race to the bottom – had again proven disastrous.

“More recently, the liquidity crisis and ensuing credit crunch in several significant capital markets sectors has revealed weaknesses in the regulatory system. Many homeowners have been confronted with the prospect of foreclosure, and U.S. financial markets have been roiled by problems that can be traced to aggressive practices by some firms, gaps between national and state regulation of the U.S. mortgage industry, and opaqueness in some structured financial instruments innovations. Many of these problems also have impacted the broader credit and capital markets, both domestically and globally.”

The passage illustrates the Blueprint’s authors’ refusal to be honest with the reader. They embraced euphemisms for fraud (“aggressive practices”) and gravely understated the financial crisis that was sweeping like a tornado through the financial markets. They ignored how the industry had deliberately ignored the FBI’s September 2004 warning that the developing “epidemic” of mortgage fraud would cause a financial “crisis.” They ignored how the fraud epidemic, generated overwhelmingly by lenders and their agents, hyper-inflated the largest bubble in financial history. But all of this pales against the Blueprint’s fundamental dishonesty. Why were there “gaps” between national and state regulation? The mortgage lending industry deliberately cultivated a race to the bottom by creating regulatory black holes and because the industry successfully urged Fed Chairmen Greenspan and Bernanke not to use their statutory authority under HOEPA to ban fraudulent “liar’s” loans. Why were “structured financial instrument innovations” “opaque?” The financial industry demanded passage of the Commodities Futures Modernization Act of 2000 for the specific purpose of making the credit default swap (CDS) market wholly opaque. The express goal of the Act was to prevent all federal and state regulation of CDS. The Act, as the industry intended, created a regulatory black hole. The Fed economist who testified to Congress premised the Fed’s support for this obscene Act on the purported need to win the race to the bottom in competition with the City of London.

The problem that the Blueprint identified was the insane idea that because the UK, Germany, Ireland, and Iceland were racing toward the anti-regulatory bottom and creating an extraordinarily criminogenic environment the U.S. should respond by creating an even more criminogenic anti-regulatory environment so that more of the accounting control fraud would take place in the U.S. and cause even more catastrophic losses here instead of in Europe. The Blueprint is bizarre primarily because it calls for the U.S. to embrace even more fully the anti- regulatory bottom – even though the disastrous consequences of doing so were obvious at the time the Blueprint was published. The Blueprint (implicitly) identified the problem (the anti-regulatory race to the bottom to “win” global competitiveness – and called it the solution. This was significantly insane.

The Blueprint, having found that the anti-regulatory race to the bottom was suicidal, urged the U.S. to run faster.

“External factors threatening the competitive position of U.S. financial firms and the stability of financial markets include the relentless growth in international financial services competition, rapidly expanding foreign financial markets, and foreign regulatory regimes purposefully designed to adjust quickly to market developments.”

This is nonsensical. The “competitive position of U.S. financial firms” would have been aided immeasurably by competent financial regulation, of the kind we employed in 1990-1991 to forbid S&Ls to make liar’s loans. The actions that most impaired the competitive position of U.S. financial firms were the three “de’s.” Our firms would have had a decisive competitive advantage over European banks, to an extent not seen since the early post-World War II years, had we not destroyed effective financial regulation.

Note the lack of logical coherence in the sentence quoted above. The Blueprint concedes that Europe’s race to the bottom “threaten[s] … the stability of financial markets.” That concession is true and it has enormous analytical importance (that escaped the authors). It means that the Europe’s anti-regulatory race to the bottom does not “threaten” “the competitive position of U.S. financial firms.” Indeed, it must do the opposite. The European banks are inherently destroying themselves as competitive threats when they destroy effective financial regulation because such an action is so criminogenic. The Blueprint’s fundamental incoherence leads the authors to recommend anti-regulatory policies that are the opposite of what their logic (if made internally consistent) would recommend. The authors’ total blindness to the internal inconsistency of their logic is revealed in this sentence.

Similarly, if Europe’s anti-regulatory race has led to “regulatory regimes” that serve as cheerleaders (“adjust quickly”) for criminogenic lending practices (“market developments”) then this is the last thing the U.S. should emulate. The way to enhance both U.S. competitiveness and financial stability, particularly if our competitors are racing to the criminogenic bottom, is to employ effective financial regulation. It’s a lot like every mother advises her child: “And if Johnny jumps off a cliff do you think that you should also jump off the cliff?”

We all know that the CEOs who co-chaired the “Blue Ribbon” group that produced the Blueprint did not write the Blueprint. Who actually produced this blueprint for creating an even ore criminogenic environment sure to produce recurrent, intensifying financial crises?

“The Roundtable is grateful for the outstanding guidance provided throughout this project by William A. Longbrake of Washington Mutual, Inc., who also is the Anthony T. Cluff Senior Policy Advisor to The Financial Services Roundtable.”

Yes, unintentional self-parody remains unbeatable. The Financial Services Roundtable, with 100 massive members, chose as its “Senior Policy Advisor” and go-to guy on the Blueprint a WaMu’s Vice Chairman. Longbrake served as the Chairman of The Financial Services Roundtable’s Housing Policy Council during the hyper-inflation of the housing bubble. When you need expertise on creating the most intensely criminogenic environment possible it only makes sense to go to a bank that made, purchased, and sold hundreds of thousands of fraudulent mortgage loans. Longbrake’s bio describes his work for WaMu.

“From 1982 to 1994 Longbrake was chief financial officer of Washington Mutual except for a two-year stint when he was the principal executive responsible for retail banking and home lending. When he returned to Washington Mutual from the FDIC in 1996 he resumed the position of chief financial officer until 2002 when he became the bank’s first chief enterprise risk officer. In 2001, Longbrake was named CFO of the Year in the Driving Revenue Growth category by CFO Magazine. From 2004 until retirement he served in a non-executive position as the company’s liaison with regulators, legislators, and industry trade organizations.”

Kerry Killinger, WaMu’s Chairman and CEO, was a member of the “Blue Ribbon” group that created the Blueprint for disaster.


Bill Black is the author of The Best Way to Rob a Bank is to Own One and an associate professor of economics and law at the University of Missouri-Kansas City. He spent years working on regulatory policy and fraud prevention as Executive Director of the Institute for Fraud Prevention, Litigation Director of the Federal Home Loan Bank Board and Deputy Director of the National Commission on Financial Institution Reform, Recovery and Enforcement, among other positions.

Bill writes a column for Benzinga every Monday. His other academic articles, congressional testimony, and musings about the financial crisis can be found at his Social Science Research Network author page and at the blog New Economic Perspectives.

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Matchmaker, Matchmaker Find Me a Job

Posted on August 29, 2011 | 15 comments

By Stephanie Kelton

Good news. Republicans have just unveiled a bold new plan (see below) to create jobs in the private sector. Don’t worry, it isn’t another “wasteful” stimulus package that hires people to repair roads and bridges or helps state and local governments hold onto their teachers and firefighters. This one won’t cost the government a dime! It’s a simple idea, really. A good old-fasioned meet-and-greet, where throngs of unemployed Americans can claw their way through a crowd of equally desperate men and women looking to land the perfect mate. I mean a reasonable match. I mean any job whatsoever.

Are these people delusional? (rhetorical) What, exactly, is it that prevents them from understanding the root of the problem? Econ 101. Sales Create Jobs. Income Creates Sales. So easy a caveman can do it.

We don’t need to introduce employers to the unemployed — they can throw a rock and hit one every 10 feet. We need to introduce employers to new customers. Sales create jobs. The problem, as Cullen Roche points out again today, is that too many households are still struggling with high debt levels. As Cullen said, “spenders have become savers,” and this is hurting the economy. Until households finish de-leveraging (restoring balance sheets by paying down debt), there will be no new source of demand — i.e. customers — to support private businesses.

The government could provide that demand — directly, through a job guarantee program modeled on the WPA, or indirectly, through a full payroll tax holiday and another round of revenue sharing for the states. But it looks like the deficit owls are the only ones prepared to support those kinds of bold initiatives. Until then, Congresswomen like Lynn Jenkins (my own “representative,” by the way) will settle for a pathetic event that promises to pair hundreds of potential employers with thousands of job seekers.

Dear Ms. Kelton,
It is my pleasure to announce the 2nd Annual Kansas 2nd District Jobs Fair.  If you are a job seeker looking for employment or an employer looking for employees, I invite you to join us on Thursday, September 1st at the Topeka Expocentre Agriculture Hall.  
As a CPA, I know the key to turning the economy around is not more government spending, but working with the private sector to create jobs. In order to get our economy back on track, we must first get America and Kansas back to work.  
This Jobs Fair will provide an unique opportunity to meet with some of the leading job creators in the state of Kansas.  There are retailers and manufacturers, service industry representatives, members from healthcare and not-for-profit companies, cities and universities, as well as financial services providers all gathered to help you find employment.  There will be over 60 companies looking to fill hundreds of jobs! 
Unlike many Jobs Fairs, participation is free of charge for both businesses and job seekers. I am hopeful that this event will prove an invaluable resource for you, your friends, and family. Please bring your resume and come explore job opportunities.
Congresswoman Lynn Jenkins’ 2011 Jobs Fair
Thursday, September 1st 
10am – 1pm
Topeka Expocentre Agricultural Hall
One Expocentre Drive
17th & Topeka Blvd
Topeka, KS
Over 1,000 job-seekers came out to last year’s Jobs Fair– providing a great opportunity for employers and job-seekers to meet. Whether you are looking for a full-time, part-time, or temporary position, do not miss this great opportunity to connect with local employers who are hiring. 
I hope to see you there! 
Sincerely,

Lynn Jenkins, CPA
Member of Congress

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Today’s Modern Money Primer

Posted on August 29, 2011 | Comments Off on Today’s Modern Money Primer

The second part in Wray’s discussion on the origin of coins is now available. If you are new, check out the Modern Money Primer. You’ll find part one of this series, as well as the most thorough introduction to MMT, short of enrolling at UMKC as a grad student.

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MMP Blog #13: Commodity Money Coins? Metalism versus Nominalism, Part Two

Posted on August 28, 2011 | 20 comments

By L. Randall Wray

Last week we examined the origins of coins, arguing that coinage is a relatively recent development. From the beginning, coins did have precious metal content. We examined a hypothesis for that, because from the MMT view, the “money thing” is simply a “token” or record of debt. If that is true, why “stamp” the record on precious metal? For thousands of years, debts were recorded on clay or wood or paper. Why the switch? We argued that the origins of coins in ancient Greece must be placed in the specific historical context of that society. Use of precious metal was not a coincidence, but also was not consistent with the commodity money view. While it is true that use of precious metal was important and perhaps even critical, this was for social reasons and was tied to the rise of the democratic polis. This week, we examine coinage from Roman times to the present in Western society.

Roman coins also contained precious metal. But there is very little doubt that Roman law adopted what is called “nominalism”—the nominal value of the coin is determined by the authorities, not by the value of embodied metal in the coin (termed “metalism”). The coin system was well-regulated and although precious metal content changed across coinages, there was no significant problem with debasement or inflation. In Roman law, one could deposit a sack of particular coins (in sacculo) and when repaid demand the same coins to be returned (vindication). However, if one were owed a sum of money (rather than specific coins), one had to accept in payment any combination of coins tendered that were “money of the realm”—officially sanctioned coins with payment enforced in court (condictio).

This practice continued through the early modern period, in which one deposited for safe keeping either sealed sacks of coins (and could demand exactly the same coins back in the still-sealed bag) or loose coins (in which case, any legal coins had to be accepted). Hence, “nominalism” prevailed in the general, although what appears to be a form of “metalism” applied to specific coins in sacculo.*

In reality, it had more to do with the view that coins were a “moveable chattel”, something the owner had a property interest in. However, once the owner’s loose coins were mixed with other coins, there was “no earmark”—no way of determining specific ownership and hence the claimant only had a claim to be repaid in legal money—the legalis moneta Angliae, for example in England, which was stipulated to be a sum of “sterlings”. There was no sterling coin (indeed, England did not even coin the Pound, its money of account), rather, the debt was paid up by providing the appropriate sum of coins declared lawful money by the Crown—and could include foreign coins—at the nominal value dictated by the King.

The authorities that issued coins were free to change the metal content at each coinage; penalties for refusing to accept a sovereign’s coin in payment at the value stated by the sovereign were severe (often, death). Still, there is the historical paradox that when the King was paid in coin (in fees, fines and taxes), he would have them weighed—and reject or accept at lower value the coins that were low weight. If coins were really valued nominally, why bother weighing them? Why did the issuer—the King—appear to have a double standard, one nominalist, one metalist?

In private circulation, sellers also favored “heavy” coins—those that weighed more, or that were of higher fineness (more precious metal content). They certainly did not want to find themselves in the situation of trying to make payments to the Crown with low weight coins. Hence, a “Gresham’s Law” would operate: everyone wanted to pay in “light” coins, but to be paid in “heavy coins”. There was thus obvious concern with the metal content of coins, and fairly accurate (and quite tiny) scales were manufactured and sold to weigh coins individually. This makes it appear to modern historians (and economists) that “metalism” reigned: the value of coins was determined by metal content.

And yet we see in the courts rulings indications that the law favored a nominalist interpretation: any legal coin had to be accepted. And we see Kings who imposed long prison terms (the sentence was usually to serve “at the King’s pleasure”—a nice way of putting it! One can just imagine the King’s pleasure at holding indefinitely those who refused his coins.), or death, for refusing any coin deemed legal. It all appears so confusing! Was it nominal or was it metal?

The final piece of the puzzle appears to be this: until modern minting techniques were invented (including milling and stamping), it was relatively easy to “clip” coins—cut some of the metal off the edge. They could also be rubbed to collect grains of the metal. (Even normal wear and tear rapidly reduced metal content; gold coins in particular were soft. For that reason they were particularly ill-suited as an “efficient medium of exchange”—yet another reason to doubt the metalist story.)

This is why the King had them weighed to test for clipping. (As you can imagine the penalty for clipping was severe, including death.) If he did not, he would be the victim of Gresham’s Law; each time he recoined he would have less precious metal to work with. But because he weighed the coins, everyone else also had to avoid being on the wrong side of Gresham’s Law. Again, far from being an “efficient medium of exchange”, we find that use of precious metals set up a destructive dynamic that would only finally resolved with the move to paper money! (Actually, even paper is less than ideal; perhaps some readers have experienced problems getting older paper money accepted—as I did even in Italy before it adopted the euro—due to Gresham Law dynamics. Thank goodness for computers and keystrokes and LEDs.)

Kings sometimes made those dynamics worse—by recanting his promise to accept his old coined IOUs at previously agreed upon values. This was the practice of “crying down” the coins. Until recent times, coins did not have the nominal value stamped on them—they were worth what the King said they were worth at his “pay houses”. To effectively double the tax burden, he could announce that all the outstanding coins were worth only half as much as their previous value. Since this was the prerogative of the sovereign, holders could face some uncertainty over the nominal value. This was another reason to accept only heavy coins—no matter how much the King cried down the coins, the floor value would be equal to the value of the metallic content. Normally, however, the coins would circulate at the higher nominal value set by the sovereign, and enforced by the court and the threat of severe penalties for refusing to accept the coins at that value.

There is also one more aspect to the story. With the rise of the Regal predecessors to our modern state, there were the twin and related phenomena of Mercantilism and foreign wars. Within an empire or state, the sovereign’s IOUs are sufficient “money things”: so long as the sovereign takes them in payment, its subjects or citizens will also accept them. Any “token” will do—it can be metal, paper, or electronic entries. But outside the boundaries of the authority, mere tokens might not be accepted at all. In some respects, international trade and international payments are more akin to barter unless there is some universally accepted “token” (like the US Dollar today).

Put it this way: why would anyone in France want the IOU of France’s sworn enemy, the King of England? Outside England, the King’s coins might circulate only at the value of precious metal contained in them. Metalism as a theory might well apply as a sort of floor to the value of a King’s IOU: at worst, it cannot fall in value much below gold content as it can be melted for bullion.

And that leads us to the policy of Mercantilism, and also to the conquest of the New World. Why would a nation want to export its output, only to have silver and gold return to fill the King’s coffers? And why the rush to the New World to get gold and silver? Because the gold and silver were needed to conduct the foreign wars, which required the hiring of mercenary armies and the purchase of all the supplies needed to support those armies in foreign lands. (England did not have huge aircraft to parachute the troops and supplies into France—instead they hired mainland troops and bought the supplies from the local outfitters.) There was a nice vicious circle in all this: the wars were fought both by and for gold and silver!

And it made for a monetary mess in the home country. The sovereign was always short of gold and silver, hence had a strong incentive to debase the currency (to preserve metal to fund the wars), while preferring payment in the heaviest coins. The population had a strong incentive to refuse the light coins in payment, while hoarding the heavy coins. Or, sellers could try to maintain two sets of prices—a lower one for heavy coins and a high one for light coins. But that meant toying with the gallows.

The mess was resolved only very gradually with the rise of the modern nation state, a clear adoption of nominalism in coinage, and—finally—with abandonment of the long practiced phenomenon of including precious metal in coins.

And with that we finally got our “efficient media of exchange”: pure IOUs recorded electronically. Precious metal coins were always records of IOUs, but they were imperfect. And boy have they misled historians and economists!

Admittedly, I have not yet made a thorough case that money must be an IOU, not a commodity. We need some more building blocks first.
References

* I thank Chris Desan, David Fox, and other participants of a recent seminar at Cambridge University for the discussion I draw upon here.

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