Saturday, July 26, 2014

Do conservatives actually create socialism?

It is a double irony: Conservatives’ and Libertarians’ deadly fear of socialism and the resulting obsession with anti-government policies, (especially deregulation and its cousin, de-supervision), results over time in the very society and economic situation most feared; and at the same time the deliberate, persistent resistance to all effective uses of government money in the economy, and any legitimate reigning in of the financial industry’s excesses, prevents the bulk of the private sector from having the kind of robust growth they (and in fact all) desire.

The tragedy is that this obsession over the evils of socialism has created a massive blind spot to the real causes of economic devastation so prevalent over the past few decades. Rather than addressing the real causes of economic crises, extreme wealth disparity, declining real wages, and systemic unemployment, these very problems have been exacerbated via a flawed economic framework that creates and sustains this destructive environment.

How does this happen? There is a clear progression that stems from a fatal misunderstanding of monetary systems and the role of government money in a healthy capitalist economy. 

An important note before we begin: this is not a promotion of "socialism" as it is commonly understood (or misunderstood). I am addressing the understanding of money, not how we should or shouldn't use it once properly understood, although I do believe most need to rethink what the best uses are once they gain a proper understanding of its operations. Our political parties give us mostly all the wrong choices. 

The destructive cycle

It starts a meme along these lines: “socialism is the greatest threat to our liberty!” which then leads to the following three beliefs:

  1. the government does nothing well (exceptions are always made for the military which somehow isn’t viewed as “the government”?);
  2. the private sector does everything better (this is a rather dishonest assessment – another myth that’s been debunked, but never mind that for now);
  3. regulation holds back the private sector from otherwise good growth that benefits everyone. (I.e. if we can just get the government off our backs we would all prosper again.)

From this set of beliefs, a sequence of events unfolds as follows (you can trace this repeatedly in history if you study the past 100 years alone). 

  • The nation elects representatives who share this view, and these officials proceed to pass legislation to remove or weaken regulations (look up the repeal of the Glass-Steagall Act for a stunning example that is directly tied to our last three financial crises).
  • As “pro-business”, anti-government, anti-regulation fervor grows, mounting pressure is placed on the remaining regulators and agencies to stop “harassing” businesses (i.e. stop the supervising that is their job) and rather trust in the "self-regulation" of industry (i.e. industry has all the right incentives to do the right thing...BP? JP Morgan?...hmmm…)
  • With less oversight, many large financial institutions and corporations can and do take on more risk, driven by the short-term financial incentives provided to their CEOs.
  • Financial sector, corporate and other private wealth at the top grows rapidly. With the increased wealth and influence, control of the political process increases.
  • Unethical and immoral (and in many cases corrupt and fraudulent) behavior begins to increase. Regulators are given favors; insiders are placed in oversight positions; opposition voices are out-lawyer'd and out-lobbied.
  • A form of Gresham’s Law takes effect where bad morals drive out good business practices. Those who don’t play the game are replaced by those who do, driven by short-term greed and a reckless disregard for the longer-term consequences.
  • Supporting business practices and compensation structures become normative through self-reference to each other (e.g. the “market” has determined we have to give CEOs enormous wealth based on short term results, and they keep it all even if shareholders lose big shortly afterward).
  • With political influence, laws are changed to further legitimize wealth extraction & decriminalize previously immoral or fraudulent behavior.
  • Private sector excesses and abuses have now become virtuous (Gordon Gekko’s “Greed, for lack of a better word, is good” is gospel). Fraud goes un-prosecuted. Government intervention is frowned on. Regulators who identify problems are demonized, discredited and sidelined.
  • Excessive credit expansion and risk taking reach their pinnacle in a financial asset bubble (e.g. stock market, real estate, commodities speculation). By now there is typically a large unsustainable debt burden underlying everything – people investing with borrowed funds and without capital. Minsky calls this the Ponzi stage – where more debt is needed just to pay the interest on the maturing debt.
  • Then comes the inevitable economic bust where the first domino falls in the “non-payable debt chain” ("debts that can't be paid, won't be"). Usually there’s a trigger such as a large bankruptcy, rising default rates, a foreign debt crisis, or a ponzi scheme exposed.
  • The economy, nation, and more often the world is plunged into recession, economic crisis, job losses and unemployment, falling or stagnant wages…millions fall into the government safety net (food stamps, unemployment, disability). 
  • The banking system is in disarray as no one trusts anyone else and so inter-bank lending freezes, requiring the Central Bank to step in as lender of last resort. (Priority is always given to rescue the banking system first as it is viewed as the necessary heart of the whole economy - in reality, there are ways to address liquidity and extend credit to going-concern business needs without bank "bailouts" - but politicians get scared and look for the bankers for how to deal with the very problems they often created in the first place).
  • Businesses and consumers retrench. Efforts to “tighten the belt” exacerbate the crisis, and as it drags on, social problems increase (businesses cut more jobs, systemic unemployment, depression, lost medical benefits, general anxiety, …)
  • Deficit spending increases without any Congressional action simply due to the “automatic stabilizers” of social protection programs and falling tax receipts.
  • Misplaced fears of rising deficits and national debt lead to calls for "austerity" and "shared sacrifice" to reign in government spending, reducing what helpful inflows to the private sector were helping offset the private sector collapse. 
  • Dependence upon the government social net increases, and the number of people relying on "socialism" grows. Deficits keep growing naturally. 
  • In the next election cycle, many more voters are dependent and, not seeing any alternative, continue to seek government solutions to their dire economic and social challenges.

As the political groups fight over stimulus "funded by taxing the rich" versus tax and spending cuts, the economy struggles, unemployment stays high, growth stalls, investment slows, and the cycle continues. This undesirable outcome was not the result of deliberate policies promoting socialism but rather the destruction of a healthy private sector by bad economics and the policies they promote. 

Meanwhile, the banks and the very wealthy sweep in on the misfortunes of the populace to pick up assets inexpensively – most of whom will have liquidated their stocks before the crash since they have the knowledge of what is happening with the troubled assets well before and in greater detail that the retail investor. 

In summary

The economic framework held by so many today and the political strategies that accompany them have directly led to an increased dependence upon government (in the kind of ways we all would prefer were less if possible) and a steady destruction of the private sector through the concentration of wealth and political power in the hands of a handful of powerful financial institutions, large corporations and the individuals behind them.

While I have focused on the political “right” above, both major parties have contributed to this deadly cycle over the past 30+ years, and both are greatly misguided in their approach to macro-economic policy. Both hold the country back. 

There is a different way

I am convinced that most Americans, (despite the faux left-right political debate), love their country, seek justice, care about people, and want a good future for their children. This tide will turn soon, as one by one we walk away from the side-show of politics, talk radio, social media hysteria and all the other clamoring voices sowing fear and discord with their illusory economic views.

As we choose a more hopeful path forward, looking for solutions and guided by a proper framework of how things work, this generation will lead the nation forward to a prosperous and equitable future. To get there, we need a new approach:

  • Government money (through tax policy and budgets/spending) can and should play an important role in providing for the full employment of its citizens, and also in ensuring the nation is investing in the capital development desired to provide for a prosperous future and strong economy. More on this in future blogs, but this surely involves leading edge infrastructure in transportation, sustainable & affordable energy, world-class education, knowledge development, research & development, health, and provision for the elderly and needy. This does NOT necessarily mean government does all these things but it has a role to finance them.  
  • Appropriate regulation of the privileged banking industry is essential for the long-term health of the economy. Banks have a special role to play in providing the finance needed for the real economy, especially for productive capital. They have an exclusive privilege to create money for this purpose. Their services of underwriting and due diligence are valuable and necessary. Government backing of the banking industry for depositors is a good thing. Banking activity that extends beyond the arenas that serve the public good (speculation, exotic financial instruments, etc.) should be at the full risk of the investors and not backed by the government or central bank. 
  • These are two of the "biggies" - we can discuss others and more specifics going forward.

Full credit goes to Bill Black for his insightful exposition of the deregulation cycle. Read more herehere, here.