Government Sets Us Up for the Next Bust
Market Interference Disguises and Aggravates the Underlying Problems
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Filed Under: Give Me a Break!
Tags: bailout • inflation • interest rates • monetary policy • Too Big To Fail
If an athlete injures himself and suffers great pain, we recognize the shortsightedness of giving him painkillers to keep him going. The pain might be masked, but at the risk of greater injury later.
That’s a good analogy for the inflationary policies now pursued by Washington. These policies may temporarily “stimulate the economy,” but they also disguise and aggravate the underlying problems. We will all pay a serious price.
Policy makers have thrown caution to the wind. Twelve-digit dollar figures are tossed about casually. Late last year, after then-Treasury Secretary Henry Paulson changed course—yet again—and announced that the Federal Reserve would commit $800 billion more in “new loans and debt purchases,” the New York Times reported, “Fed and Treasury officials made it clear that the sky was the limit.”
The total federal commitment as of that date was over $7 trillion.
The Fed had given up trying to make it easier for banks to lend to each other. Now, the Times reported, it “is directly subsidizing lower mortgage rates . . . doing so by printing unprecedented amounts of money, which would eventually create inflationary pressures if it were to continue unabated.”
No kidding.
When we hear that the U.S. Treasury is doing this or the Federal Reserve is doing that, we should remember that these agencies are run by mere mortals, and as such, they cannot know how to “fix” something as complex as an economy. But they certainly are capable of wrecking one.
That’s what their inflationary policies will do.
In a free market, prices do more than tell us what we have to pay for things. They are messages emitted by an intricate communications system that inform us of the relative scarcity of resources, labor and consumer goods, and the relative intensity of consumer demand. Thanks to prices, we can tell producers how we rank our preferences, and they in turn can arrange production according to our priorities. Without prices, economic coordination is impossible, which is why attempts at state planning produce, in Ludwig von Mises’ words, “planned chaos.”
We associate inflation with a rising price level, but equally important, relative prices change when new money is created. That garbles the messages. As Mises writes, “The additional quantity of money does not find its way at first into the pockets of all individuals; . . . [P]rice changes which are the result of inflation start with some commodities and services only. . . . [T]here is a shift of wealth and income between different social groups.”
The Fed gives money to AIG or Citicorp, but not to Lehman Brothers, or you and me. The new bank reserves also push interest rates below what the market would have set, further distorting production by encouraging investment plans to be made on the basis of artificially low rates.
How can the economy straighten itself out if it is being systematically skewed by government interference with prices?
We are in the mess we’re in precisely because of earlier government interference. Easy mortgage terms and guarantees contrived a housing boom and irresponsible lending that could not be sustained. The consequences have shaken the foundation of the financial industry. But instead of freeing the market and allowing the errors to be corrected, the government is seducing the economy into a whole new set of errors. That will lead to the next bust.
“But doesn’t the government have to act?” people ask. “We can’t just let financial companies fail!”
I say, “Why not?”
Jim Rogers, the successful investor and author, puts it well: “Why are we bailing out Citibank? Why are 300 million Americans having to pay for Citibank’s mistakes? The way the system is supposed to work [is this]: People fail. And then the competent people take over the assets from the failed people, and then you start again with a new, stronger base. What we’re doing this time is . . . taking the assets from the competent people, giving them to the incompetent people, and saying, ‘OK, now you can compete with the competent people.’ So everybody’s weakened: The whole nation is weakened, the whole economy is weakened. That’s not the way it’s supposed to work.”
Comment by Daniel McLaughlin on 3 March 2009:
Applying pain killers to the injured athlete is about the best analogy I have seen on the stimulus nonsense. Thanks, John. I wish there was a way to wake people up.
Comment by rich on 8 March 2009:
How about them debating what color band-aid to put on the cancer sore.
Comment by Bruce Koerber on 8 March 2009:
Dear John Stossel,
Thank you for your integrity and your entrepreneurial spirit. You are alert to what is going on and strong enough in character to speak out.
I sure hope that your reputation and status will enable you to educate the starving audience. Not only is the economic intervention of the government unethical but so is its deliberate propagandizing which includes minimizing access to true economics, represented by Ludwig von Mises and others in the classical liberalism tradition.
Comment by Rick Toone on 8 March 2009:
You are the most philosophical and best informed major media journalist in publication today. Thank you for continuing to share your perspective on developing events.
Comment by Mirand Sharma from Florida on 8 March 2009:
Thank you Mr. Stossel for your journalistic work in a world otherwise filled with political and economic insanity.
Please keep it up, as it is so important in these time.
Comment by Oscar on 8 March 2009:
John, you’d make a great cabinet member in a Paul/Schiff presidency in 2012!
Comment by YerMawm on 8 March 2009:
Mr. Stossel,
I have long appreciated your work, which has always seemed firmly grounded in common sense. You are a shining example for your peers to follow.
Too big to fail = Too big to save!
Comment by Jim on 9 March 2009:
Thanks John for being a real reporter. What I don\’t understand is how all these other reporters on television can continue to report the lies and false realities that they spue out of their mouths everyday. Either they are too dumb to care about what\’s happening in our great REPUBLIC, or are they are making to much money to really care or are they afraid of losing their hi paying jobs.
I\’m not a very educated person. I have been working since I was 13 years old and I\’m still working at age 64. But my wife and I raised our children to be hard working, just like us, but now everything is being stolen from all of us, you, me, and everyone else that worked so hard to be successful.
Please Keep Up The Good Reporting, it might help to inform the populas and wake them up. Thanks Again
Jim
Comment by Azam Mansha on 9 March 2009:
Thank you John for sharing this kind of information.
Comment by Blonduxo on 9 March 2009:
John,
Thanks for this article and the sunshine on Ludwig von Mises…Keynes is not the only economist who ever had an idea!Please now go back and tell us about the last bust….the one that occured on September 18,2008 when $550 Billion was withdrawn from Money Market accounts in 90 minutes before the Fed caught on and intervened (and then the next day all the bankers were called in and forced to take the crisis-based loans and then Congress was threatened with martial law, remember Rep. Marcie Kaptor talking about that?). See Senator Kanjorski discuss this on c-span if you are not familiar. Who was behind it? Soros? The evil axis? No one is touching this. A top notch investigative reporter is needed for some truth telling, and that would be you. Please look into it. If not you then who? I aleady wrote to Bill Moyers….
Comment by L.A. - In Florida on 9 March 2009:
Thanks John,
I love to see the idea’s of free markets and true liberty in the media….I just seldom do. You, like Ron Paul & Peter Schiff seem to be the loudest voices allowed by the MSM to be heard.
Thank You.
Don’t stop the rEVOLution
http://www.campaignforliberty.com
Comment by Chris Klingler on 9 March 2009:
Great message and so true! Keep on the fight against big government and non-free markets John Stossel!
Comment by greg on 9 March 2009:
What??? you didn’t get FLAMED???
… and no one was flamed for their comment???
what does this mean???
it would be really spiritually deflating if the American Empire went the way of past Empire with all of their examples of what not to do.
Comment by sally on 9 March 2009:
How do we finally get rid of the establishment war-hawks and big spenders……do we have to endure a bloody revolution or is there any way at all to wake up the American voters to what is going on?????
Comment by Selph on 9 March 2009:
The bailout was a mistake but the current economic actions are being made by a completely different regime. Stop treating the government like it’s homogenus thing.
Comment by Bryan on 10 March 2009:
Mr Stossel,
Thank you for some fine thoughtful insight concerning our current financial crisis. More government and the Federal Reserve System is the problem not the solution.
Comment by Josh Messer on 11 March 2009:
Thank you,Mr. Stossel, for speaking the Truth as you always do. Unfortunately, many of your colleagues in the media only perpetuate the myth that Keynesian economics works.
Keep up the good work – maybe one day people will wake up. I have. Others have and are, and slowly others will begin to get it.
Comment by David T on 13 March 2009:
Not a single negative post? That tells me that you are preaching to the choir here. So, what are we going to do about this? We need an anti-tax, anti-government rebellion, but it will never happen as long as all the fat cats on Capitol Hill are doling out the money via earmarks and everybody thinks they can get more “free government money” for their pet interest.
I think that eliminating earmarks has got to take some of the incentive away from Congressmen who use our tax money like it’s part of their reelection campaign. Obama says he wants to deal with earmarks, but what is he actually planning to do?
What else can we do?
Comment by Johnny Dangereaux on 13 March 2009:
I wish you would focus on slicing the serpent at it\’s head….. http://www.endthefed.us
Only then will change come about………
Comment by Mike Purnell on 14 March 2009:
Cutting off its head… Naw! How about climbing up the serpents a–? I don\’t believe anything will happen until the electricity and heating fuel gets too expensive.
Comment by kyle on 16 March 2009:
You are the first major media figure i’ve seen to even mention Mises. I hope you can convince your “colleagues” to do the same.
Keep up the good work
Comment by Al E. on 17 March 2009:
Stupid policies are purely maintained by their moral intentions and the dread that most of us won’t be nice to each other without a gun at our heads. I think we need to show, and you, Mr. Stossel are doing “the Lord’s work” here, that stupid policies have immoral results.
Comment by Mark Reiter on 20 March 2009:
John,you are right on target, sadly for the rest of us. The laws of economics will prevail and silly programs and posturing by the Fed or government cannot change them. Bad companies will fail and our attempts to revive them are merely prolonging the agony of their deaths and filling the pockets of those involved in the bailout, be they the politicians or the recipients.
Please keep on bringing up Austrian economics and Mises. Our nation is bereft of truth in economics, having sold it’s soul in the university and the market to Keynesian theories.
It is precisely the manipulation of the interest rates by the Fed and interference by the government that lead us to these watershed moments, when history will be determined. If we could but translate the losses and costs down to the personal level, maybe American would understand how horribly it has been raped.
Comment by Ignatius Crumwald on 22 March 2009:
Given the reality that insurance endeavors are nothing more than Quazi-legal Ponzi schemes aimed at milling capital by using existing wealth as leverage, I think a better analogy in the case of AIG would be using a defibrillator on a heartless patient.
I am unsure as to why we are playing into this illusion that anyone holding an insurance policy backed by AIG sees it as still having any value or how we haven\’t simply come to grips with the fact that AIG is long dead. They are a middle man, a service, they have no manufacturing power and no true-assets other than real estate, All that is left of them is contracts and promises they cannot keep. Their entire operation is effectively in complete default and yet the economy is functioning without it.
I think what people are having trouble putting their head around is the idea that no one has lost any money at all. In fact, the money simply never existed in the first place. It was at best, a mistake; at worst, a total lie. Instead of allowing investors to reconnect and reassess their place in the market, they\’re raising the economic water level in attempt to rescue a sunken ship effectively drowning the weakest survivors in the process.
By making the cure so closely mirror the disease, it completely legitimizes AIG & Co.\’s out and out sorcery over sound economic policy all but guaranteeing a repeat.
I realized a log time ago that no one man can tell the flowers how to grow – And it\’s a good thing, too. Otherwise I would have descended in to abject paranoia and donned a tinfoil hat by now.
Comment by Matt Fig on 10 April 2009:
The problem is more complex than whether or not to, for example, let Citibank fail. Unfortunately, Americans are not now paying for a mistake Citibank and others made. It is my understanding that Fannie and Freddie, as agents of the Federal government, guaranteed the bad loans at the heart of the problem in order to further a social agenda. As such, Citibank and others did what they should have done with the incentives and constraints facing them. It was not their mistake, it was a mistake that the Federal Government made in not understanding the incentives created by their policies. Thus we the taxpayers are not bailing out the banks. We are following through with the promises made by our surrogates to back these loans.
What a mess.
The real lesson here is to watch what your representatives are doing to the market. How are their moves affecting the conditions, incentives and constraints facing the actors in the market? Unfortunately it is easier to blame the actor than the manipulator.
Comment by JS Mesc on 14 April 2009:
what should those who only act the souls they ban from being should not get the blame of not being able to clone without the evil intentions which make everything go wrong? and instead call those the blame with only the motivation to have their ambitions stolen by those who like to sell others make believe ambitions like scams before anything better can sold…. uhmmm interesting… one day you\’ll have to explain it to me so it makes sense… i can be a bit SLOW.
You do have a point though about who should never claim blame for anything they do protecting others from their dangerous minds competing like heresy against perfection.
Comment by mark of zorro on 8 May 2009:
John,
Thank you for your continuous level headed reporting.
I am writing you to ask if you or anyone reading knows the origin of mark-to-market accounting (FAS 157). Who was behind its re-emergence and why… A good topic for further research and reporting… A seemingly good idea with dire unintended consequences.
This accounting rule had its revived inception in 2007 and in my opinion it was a prime catalyst which caused the collapse of financial institutions in 2008.
Remarkably, in November 2007, CFO magazine stated quoting a Bloomberg report:
Morgan Stanley has the equivalent of 251 percent of its equity in Level 3 assets, Goldman Sachs has 185 percent, Lehman Brothers has 159 percent and Citigroup has 105 percent, according to Bloomberg.
In the fair value hierarchy, Level 1 is simple mark-to-market, whereby an asset’s value is based on an actual price. Level 2, known as mark-to-model and used when there aren\’t any quoted prices available, is an estimate based on observable inputs, Bloomberg explains.
Level 3 consists of unobservable inputs, such as those that reflect the reporting entity’s own assumptions about what market participants would use to price the asset or liability (including risk), developed using the best information available without undue cost and effort, according to FASB. There is no verification requirement if the assumptions are in line with those of market participants.
From another article on THIS WEBSITE (Foundation for Economic Education publisher of Freeman magazine):
“Franklin Roosevelt suspended it (mark to market) in 1938, and between then and 2007 there were no panics or depressions. But when FASB 157, a statement from the Federal Accounting Standards Board, went into effect in 2007, reintroducing mark-to-market accounting, look what happened…”
Brian S. Wesbury is chief economist,
and Robert Stein senior economist,
at First Trust Advisors in Lisle, Ill. They write
a weekly column for Forbes.
Clearly, FAS 157 did not “cause” the current economic state alone, however it was the tipping point of the banking collapse due to bank decapitalization. This in turn brought about the subsequent spiraling downturn in the economy due to a ruined credit market. It was one of the factors in an economic “perfect storm”. Bad loans (based on relaxed govt standards and manipulated credit ratings of mortgage-backed securities) combined with the AIG swindle (that insured the junk loans) to undermine bank capital reserve positions and thus caused the panic.
The banks had their reserves in AAA rated junk. When everyone \"realized\" that it was junk and so was the insurance, the mortgage backed securities market evaporated and the junk (the banks\’ reserves.. aka capital) became worthless.
The panic of the Fall of 2008 wiped out trillions of dollars in capital. I read a statement (don’t remember where..) claiming that as much as $16 trillion of loans would not be made because of the capital losses in the banks. Compare the economic impact of those losses against the $1-2 trillion that the government now is spending to prop up the economy? The govt can spend itself blind on the consumption side and never recoup that scale of lost “money”. So much for Keynes…!
Comment by jack on 6 June 2009:
Excellent article and I couldn’t agree with you more. Problem is we are dealing with incompetent politicians who are in this mess up to their eyeballs. They will promise everything to everybody in an attempt to deflect responsibility from themselves. The damage they have reeked on our economy is incalculable. They are willing to pay the price of hyperinflation and perhaps the country itself to save themselves.
Jack Harry
mls
Comment by Terri B on 21 June 2009:
Thank you for your consistent message. I am always happy to see a column by you or a television show in which you attach the received wisdom.
I have been reading books about the Great Depression recently including New Deal or Raw Deal? by Burton Folsom, Jr. and The Forgotten Man by Amith Schlaes. This current situation looks a lot like deja vu to me. It is really frightening.