MONEY CHANGES EVERYTHING: The Assent of Money (as Credit) is a Descent into Total Madness
Money, money changes everything. We think we know what we’re doing. That don’t mean a thing. ____ Cyndi Lauper
Money should be at the center of economic analysis, yet it is exogenous (outside) most major economic models, where its influence is merely assumed to be neutral and benign. For various reasons (some nefarious) mainstream economists (neoclassical abetted by neoliberal) have maintained that the money system is the subway “third rail”.” Even otherwise open-minded and progressive economist, Paul Krugman, once told a classmate at MIT (who went on to become a Belgian central banker) “never touch the money”. Maintaining their mythology regarding the neutrality of money and banking provides a thick smoke screen over their most fundamental contradictions (e.g. supporting “socialism for the rich and free enterprise for the poor”). Mainstream economists have gone to great pains to build their pseudo-science upon an elaborate set of falsehoods. For example, despite not one iota of anthropological evidence, they maintain an origination myth that money simply grew out of “barter”. They also add a number of pure prevarications such as credit being delimited by “loanable funds” (e.g. bank deposits). Furthermore, they continually obfuscate the fact that extreme instabilities are hardwired into the systems of money and banking. They would rather sustain their delusions of a Newtonian clockworks, when it is exceedingly clear that the economy is much more a matter of “transrational” institutions buffeted by nonlinear dynamics (e.g. cascading systemic risks). More importantly, mainstream economists provide a powerful apologia for those who exploit the inherent turbulence and profit greatly from the monumental misallocations of wealth. Their ideological predilections reinforced by fake science makes it impossible for them to forecast pending financial crises and virtually insure that the future will be increasingly cataclysmic. We are still suffering through the global financial meltdown that began in 2007, and now the pandemic is ushering in more of the same ill-suited policy mechanisms that already failed so dismally.
Despite this willful ignorance, money is and has always been the most critical feature of the US economy. Ben Franklin maintained that the American revolution was mostly the result of the colonies being denied their own coinage. Pitched political battles were fought, over the character of money during the ensuing years. Twice the provision of an independent central bank fashioned after the notorious Bank of England, failed. The third time (the Federal Reserve) only became the charm after J.P. Morgan held secret meetings at his lodge at Jekyll Island, and it was pushed past a depleted Congress just before Christmas in 1913. This state sanctioned banking cartel known as “the Fed” (little more governmental than Federal Express) presided over the monetary madness of the 1920s, made the Great Depression really great, and botched the post-war global financial re-order (Bretton Woods).
It is often astonishing to layperson that the vast majority of money comes into being as private bank debt. It is simply “double entry” book keeping. A loan creates an asset for the bank. It has little to do with deposits on hand, and only regulated banks are required to maintain a “fractional reserve” of approximately 10%. Legalized counterfeiting really goes wild with debt money. It can be repackaged into various insecure securities and used to collateralize multiple layers of leverage. The continued significant of the City of London or (just “the City”), England’s Wall Street, is substantially explained by their allowing “rehypothecations” (loans on loans) at as much as 100 times over. Moreover, vast nominal sums can be generated by unregulated insurance products (e.g. credit default swaps) which bet that variegated piles loans and bonds (with questionable investment ratings) will never be repaid.
On only a couple of occasions in US history did the Treasury attempt to reclaim its right to create its own “debt free” money. One was when Lincoln refused to pay usurious interest to the eastern bankers to finance the Civil War, and created the famed “Greenbacks”. His plans to continue to use them to pay for the Reconstruction and give freed slaves “40 acres and a mule”, died with him. The other was John F. Kennedy’s “silver certificates”, in the roll-up to the Vietnam War. But he and his program met a similar fate. This is not presented to fuel conspiracy theorists; they need no help, especially of late. It is merely to point out that challenges to debt money are relatively ephemeral. Moreover, when economists contend money is so irrelevant, it is easy to ignore. Plus, when an extremely well-funded ideological cult (neoliberalism) captured most of the profession and moved to the halls of power with Reagan and Thatcher, they made government produced anything (except maybe military misadventures) a taboo akin to incest.
A WORLD OF DEBT
Since the 1980s, therefore, debt money was put on steroids. Neoliberal indoctrinated politicians were amazing successful at dismantling of New Deal financial safeguards, as well as crippling anti-trust enforcement. The deluge of debt also intensified via a series of curious events, which Former UN economic development executive and managing editor of the Harvard Business Review, Joel Kurtzman, labeled The Death of Money. These events included:
Nixon’s unilateral abandonment of the post-war global financial arrangements (Bretton Woods) and elimination the Gold Standard, as well as opening up China for US investment and trade;
Computational advances and the complete digitizing of currencies, and relaxation of restrictions on global capital flows;
Dramatic increases in mergers and acquisitions via increased use of degraded assets and “junk bonds”;
Vast expansion of of “Shadow Banking” (hedge, private equity, and venture capital firms, as well as mortgage lenders and insurance companies) that work hand in glove with major banks;
A breathtaking increase in creative accounting practices (often fraudulent) and corporate shell games; and,
An explosion in the number of increasing complex derivatives (bets on bets) generated from faulty mathematical assumptions (e.g. the Gaussian Copula).
Kurtzman warned that “megabyte money” (generated at will by private entities) would amplify financial instabilities to catastrophic levels. It would also accelerate job off-shoring, enable stock manipulations, and engender firm conditions altogether divorced from any realistic metrics or proven management practices.
His warnings were not only unheeded, they became the playbook for the brave new hyper-financialized economy. “Shareholder Primacy”, which actually meant that CEOs began burdening their firms with unsustainable debts to pay dividends and jack-up their stock prices, became the prime managerial directive. Many previously productive enterprises were quickly converted into mere platforms for “financial engineering” by “pirate” equity funds and “vulture” capitalists. Recall what the unreformed Edward did for a living in the popular movie Pretty Woman. The Savings and Loan Crisis, costing tax payers 150 billion (back when a billion not chump change), became a dress rehearsal for much more massive bank bailouts and land grabs to come. Congress proceeded to pass laws that prevented regulators from even looking at derivatives and the final brick in the firewall between commercial and investment banking (Glass-Steagall) was removed. From 1950 to 2006, private debt in advanced economies grew from 50% to 170% of national income, and in 2008 outstanding derivate contracts were approaching 500 trillion dollars (about 7 times the GDP of the planet).
FINANCE UBER ALLES
Meanwhile, a single hedge fund (Long Term Capital Management) was allowed to build a vast web of systemic risk with layers of counterparties, playing on the fame of its two Nobel economists and their famed Black Scholes model. LTCM was so over-leveraged that it would have destroyed the entire global financial system, were it not completely bailed-out (dress rehearsal # 2?). Nevertheless, the Fed has merely proceeded to move the economy from one huge unproductive asset bubble to the next, via the “Greenspamer”, “Helicopter (but only over wealthy neighborhoods) Ben” Bernanke, and “Bailen-Yellen”. And now we have the new “Put King” Powell, who believes that ultra-shadowy shadow bankers should be allowed to push past the member banks to belly up at the Fed window. He is also suggesting giving direct aid to “zombie corporations” (already near receivership well before the pandemic). Quantitative easing (QE) may now be extended to purchase preposterously overpriced stocks (e.g. high-tech unicorns). In their ill-fated attempt to keep the good times rolling for the 1%ers, central bankers across the globe are adding astronomically (billions everyday) to their balance sheets to buy up much of their own stock markets. Clearly the “assent of money” (in the form of debt) has descended into self-reinforcing lunacy.
It would be a mistake, nonetheless, to assume that all these ultra-wealthy bankers (or wankers, if prefer) and their fellow travelers have no idea what they are doing. Financiers were the prime movers of most of the periodic “Panics” (prolonged recessions) in US history. I remember a friend, who worked in the City of London, calling with his hair on fire when Fed decided to stop publishing the M3 (the only indicator that included re-purchase agreements) composite measure of the Money Supply in Nov. of 2005. These “repo” or overnight lending mechanism were the first to freeze up before in the meltdown of 2008. It indeed might be the case that certain financial entities have what Thorstein Veblen would call “a pecuniary interest” in crashing the economy every generation or so. Of late the intervals have merely shorted. What an insider trading advantage it would be if one knew in advance when banks were going to withdraw liquidity and one could really make a killing scooping all that foreclosed real estate. Trump cronies (e.g. Mnuchin, Ross, Schwarzman, etc.) were especially adept at navigating the fire sales in the FIRE (finance, insurance, and real estate) industry. As Hyman Minsky pointed out the debt money system not only predictably breeds intensifying instability, it is like a Ponzi (pyramid) scheme, with regularized collapses. It was very interesting to hear Wall Street types, who claimed ignorance of Minsky, nevertheless, acknowledged having a “Minsky Moment” the very day the proverbial poop it the fan.
UNSUNG HEROES
As suggested above, modern economists have mostly decided to ignore the influence of money and banking. In fact, at many major US universities, one could get a Ph.D. in economics without a single course in macro. This has not always been the case. Various heroic figures were literally drummed out of the canonical core of economics several decades ago. They include, but are not limited to, Henry George, Thorstein Veblen, Irving Fisher (despite being the father of econometrics), and Hymen Minsky. My personal favorite is Veblen, and his classic chronicle of a previous Gilded Age, The Theory of the Leisure Class, should be required reading for anyone who wants understand the basis of our economy. His patterns of speech, however, are euphonious and archaic, thus I would recommend starting with Ken McCormick’s Veblen in Plain English. In his various works he contends that economies evolve distinct configurations: “natural, money, and credit”, and the “credit economy” is the most precarious by far. It promotes firms to “sabotage” productive activity. In their recent (2020) book, Sabotage: The Hidden Nature of Finance, two European econoclasts, Anastasia Nesvetailova and Ronen Palan, evoke Veblen to explain our on-going financial malaise.
Another, European (well Brit) Lord Adair Turner, who took over as Chair of the UK’s Financial Services Authority the day after Lehman Brothers was thrown under the bus. He draws upon the above forgotten scholars and well as wealth of contemporary experience, in one of the best books I’ve read on the current state of financial affairs, called: Between Debt and the Devil: Money, Credit, and Fixing Finance. It has not nearly received the attention it desires. Turner’s introductory chapter is entitled “Too Important to be Left to the Bankers”. He maintains that contrary to economist’s claim that “financial deepening” (an increase in the ratio of private debt to GDP) is more efficient, the opposite is more often true. In fact, excessive credit growth undermines economic growth. Furthermore, the misplaced commitment to so-called free-markets (except at bailout time) “can generate more trading activity than is socially beneficial”. When left to their own devices, “financial markets can make money without truly adding value”, as in “rents” (unproductive wealth). It is important to explain that unearned wealth and rents were once a major focus for classical economists (Smith, Mill, Ricardo, etc.), yet they are completely ignored today. When Adam Smith spoke of free markets he actually meant free from rent extraction.
As lucrative as “excessive debt” and reckless speculation (back-stopped by central banks) are for an exceedingly narrow elite, they bring ruination to the 99%. In line with Irving Fisher and the original (1933) “Chicago Plan” (favorable revisited by the Bank of International Settlements in 2012), Turner contends that “debt deflation” is crucial. The key problem, according to Lord Turner, “lay in the specific nature of debt contacts, and in the ability of banks and shadow banks to create credit”. Essentially, debt money, especially when used to fuel brute asset inflation, dramatically increases inequality, and it is both cause and effect in a stagnant economy.
But wait, Turner’s heresy does not stop there. He outlines a set of policy proposals that have been beyond the pale for decades. This type of thinking probably cost him his place in the line for Governor of the Bank of England. Among other things, he calls for:
Substantial transaction taxes, and additional measure to re-channel investments into growth in the “real economy”;
Increasing fractional reserves dramatically, and reducing the ability of banks, specially of the shadow variety, to create money; and,
Treating excess debt as type of negative externality (like environmental pollution) to be judiciously regulated.
Plus, where he really becomes radical is when the above measures are insufficient. He suggests that when deep economic downturns occur, it is the debtors not creditors who need a bail out. Central bankers, like the Fed, not only need to redress the “moral hazard” of incentivizing recklessness, they should join with their Treasury Departments to intervene mostly on behalf of main street, rather than Wall Street and the City. This is extremely difficult in the US, where a significant number of treasury officials are drawn from the top ranks of the too big to fail (TBTF) banks (especially Goldman Sachs). Nonetheless, Turner, holds out hope that money can be wrestled away from the banks.
More radical yet, in the spirit of John Maynard Keynes (now seldom read) he believes it is perfectly acceptable for governments to print money to stave off secular stagnation and kick start flagging aggregate demand. And, this can be done without necessarily producing run-away inflation. This last notion is an irredeemable cardinal sin among mainstream economists, but it is finding a home among a small, yet growing, fringe group known as Modern Monetary Theory (MMT). In general, they and Turner contend that if a country controls its own currency, then public debt (e.g. investments in infrastructure and productive activities) is not nearly as worrisome as policies which divert public resources toward maintaining the mammoth private debt overhang, not to mention insuring that the 1% will never lose a dime.
In way of a final comment, I would like to dedicate this piece to the memory of David Graeber who passed away on Sept. 2, 2020. He was only 59. He was a brilliant economic anthropologist, who in his opus, Debt: The First 5000 Thousand Years, documented how reciprocal gifting and social cooperation existed for the vast majority of human history without debt money, and concluded that economists invented the “barter myth” to defend their preoccupation with “cold-blooded calculations”. As for the rest of their ill-founded edifice, he would probably have agreed with Veblen (who coined the derisive term “neoclassical”) and attribute it to a deep seeded desire to pander to predators.
