$700 Billion "bailout" denied!

Thanks, the more I read it explained the more it sinks in, and I suspect I have developed some key insight into economics through this exchange. Just to recap, from reading his book "Human Action", Ludwig Von Mises wrote about a multiplier effect, albeit in a different context to John Maynard Keynes' multiplier effect, which in the case of the later, is simply an initial change in aggregate demand (usually from government expenditure), causing a change in aggregate output that is a multiple of the initial amount invested. This was and is still argued to occur, due to the flow on affect of consumer spending that results, increasing other peoples incomes and they then spending too, effecting other peoples incomes and spending (but which will decrease at each stage with each new increment). The Keynesian multiplier can vary (has even been affirmed by many modern day economists to not be as potent as initially contended) and can suffer "leakage" through taxes or people importing foreign rather than local goods, mitigating its potential.

In Austrian Economics (unless they are criticizing Keynesian Economics specifically, which is also common in all their literature) the multiplier effect is concerned more with Fractional Reserve Banking, allowing an increase in the money supply to eventuate through the money creation process that results, through its very operation. So the two of these “multiplier” concepts are slightly different and could (at least accordingly to my understanding) potentially function at the same time, even exacerbating the effects of each other. However the Austrian multiplier is made far more potent when central banks, take the responsibility off private banks, to hold strong reserves by fixing a low or even nonexistent, reserve requirement ratio. A practice that if followed as policy without a central banks protection, would not allow private banks to last long in a truly free market, as a banking panic would cause widespread insolvency every time, forcing banks to hold strong reserves. Indeed according to Austrian Economists, we have not had free market capitalism since 1913 when the Federal Reserve Bank was created, so people blaming the free market may want to think about that perspective.

Essentially Austrian Economics tends to focus more on the inflationary (defined here simply as an increase in the money supply) effects of the Fractional Reserve System, but interestingly does not seem to take the deflationary effects of the same system as seriously? Yet it seems to me that the deflationary potential may even be more significant than its inflationary potential, especially thinking now in retrospect. And while I certainly need to research this aspect more, I get the impression that it is a weak spot or underestimated portion in 'Austrian Business Cycle Theory’. In this case it seems that private companies deleveraging in a fractional reserve environment, is far more potent in force than a large increase in the money supply, namely because an increase in money does not ensure lending to the market or encourage spending, so may explain why expected inflation is held in check. While it has been a while since I read Milton Freidman’s "Free to Choose" this was what the term "Helicopter Money" was originally in reference to, I.e. the realization that lending money from banks may not always be desirable and so sometimes giving out gift money from a helicopter (in order to generate velocity of spending) may be required. I don’t see this policy working in this instance though, at least not when the problem is on a scale of this magnitude and especially where deleveraging continues as an important part of the process and fiat currency is essentially losing its value the more they print and attempt to use it.

because an increase in money does not ensure lending to the market or encourage spending, so may explain why expected inflation is held in check. [/quote]

this is the 'you cant push on a string' concept

I said:


You then said:


You see while I take that criticism on board and you are right in regards to my statement not being absoultly true, I am starting to realize that economics is far more about understanding dynamic processes, and so I think you will agree in most instances when policy makers inject large amounts of fiat money into the economy, it tends to have an immediate effect on the currency losing it's value and various exchange rates shifting around the world as a consequence. But it is only temporary, because the deleveraging and deflation absorbs it almost immediately, soon after, which is what both orthodox Austrians and myself need to take on board.

Just as fiat currency losing its value each time they print it is not an absolute condition, neither is deflation being universal across the economy an absoulte condition. As you say, some commodities are increasing in value and this is actually explained n ‘Austrian Business Cycle Theory’ and really well at the beginning of America's Great Depression by Murray N. Rothbard, if you should ever desire a good place to read it. However I also realize that this shift into commodities is not universal and is the part that ABCT is probably missing. I feel like if we break up recessions into processes and ascribe at each stage, which one is more powerful in power, we may be able to state with a little more accuracy, which force will win out against another in the changing dynamic.

To me I suspect we can expect to see inflation but it all depends on whether the effects of deleveraging will spiral out of control as some people fear, or will eventually level out. It is at this stage where we can then expect to see too much money, chasing few little goods and THIS then become the dominant force.


This actually confirms John Maynard Keynes’ "liquidity preference of money theory" and implies that while each of the general theories has its flaws, each protagonist added portions of truth or merit to economics as a field of study. Be liquid with a little exposure to gold, in order to hedge against inflation, so some of the more ‘clued up’ people have been saying.



I am not that pedantic, you will notice I have never mocked anyone on here about their spelling or grammar, if I had to choose between 100% correct grammar and truth, I would choose truth every time.

yeh thats pretty much how I see it. the tussle is on.

tho theres also the flow on into the real economy , reduced demand etc which acts a dampener for quite some time.

Just to explain the Austrian 'multiplier effect' it depends entirely on the set reserve requirement by the central bank. So, to calculate the impact of the multiplier effect on the money supply, we start with the amount banks initially take in through deposits and divide this by the reserve ratio. If, for example, the reserve requirement is 20%, for every $100 a customer deposits into a bank, $20 must be kept in reserve. However, the remaining $80 can be loaned out to other bank customers. This $80 is then deposited by these customers into another bank, which in turn must also keep 20%, or $16, in reserve but can lend out the remaining $64. This cycle continues - as more people deposit money and more banks continue lending it - until finally the $100 initially deposited creates a total of $500 ($100 / 0.2) in deposits. This creation of deposits is the multiplier effect spoken about by Ludwig Von Mises and Hayek et al.

So the higher the reserve requirement, the tighter the money supply, which results in a lower multiplier effect for every dollar deposited. The lower the reserve requirement, the larger the money supply, which means more money is being created for every dollar deposited.

So this doesn't seem good Peat because the world has typically had low reserve requirement ratios. So if we apply the 'multiplier effect' in the opposite direction, i.e work out the deflation caused by deleveraging, the money supply should contract sharply.

only if someone wants to borrow it tho.

Correct, but under normal conditions it's really a mater of probability that it will be borrowed. Unless of course we have a financial crisis and in which case......

I'm going to post this link in this old thread as it seems relevant here more than anywhere else - its difficult to decide where to post stuff these days....


Kim Hill's Saturday morning programme interviewed Nomi Prins , who used to work at Goldman Sachs ,

http://podcast.radionz.co.nz/sat/sat-20091114-0905-Nomi_Prins_backroom_bailouts-048.mp3

and she suggested and I think this is a good idea which I havent heard stated quite so explicitly, that yes the bailouts should have happened but only after a re-introduction of Glass Steagall. Then the stimulation effects could have been targeted to the real economy more accurately.

Govt loans/capital injections etc should have been made to banks participating in real deposit and lending functions but not to investment/trading banks. Seems pretty obviously a good idea now she's said it like that .