Re: investment and unemployment

["ÁÎ×Ó¹â Henry C.K.Liu ¹ù¤l¥ú" <hliu@xxxxxxxxxxxxxx>]

GGard97342@xxxxxx wrote:

> I make no apologies for regarding the first duty of a government to be to
> prevent deflation.

This seems to me to be a very sound statement.  One only wishes that the Fed
feels the same way.
Unfortunately, the Fed has always considered it its sacred duty only to fight
inflation.  Still, there was a time it forced on the economy the pains of
fighting inflation only after inflation had appeared.  Now Greenspan is
shadow boxing phantom inflation based on theoretical anticipatory inflation
from the wealth effect of a low inflation market bubble.  Deflation has
practically destroyed the farming and several other commodity sectors in the
past decade. This deflation has not been market induced as much as it was
policy determined.  The Fed's fixation on driving inflation lower, regardless
of consequences, has caused unseen damage to the economy.  It is an economic
truism that near zero inflation for the entire economy can only be achieved
by driving certain sectors into deflationary levels.  Businesses in these
unfortunate sectors are held in a state of protracted if not perpetual loss
to face bankruptcy and liquidation.  This Greenspan accepts happily as
Scumpetrean "creative destruction".  Pockets of deflation and bankruptcy are
integral parts of disinflation which inevitably produces losers who allegedly
made wrong bets. The stable value of money is to be maintained at all cost,
except for growth which is translated into high share prices.  Rising share
prices are not measured as inflation, a rationale which I have never
understood.

But the negatives of deflation are considered secondary and acceptable system
wide.  These losses at various phases have included farmers, the oil patch,
the timber industry, the mining sector, the manufacturing sector,
transportation and even defense.  In 1984-85, deflation became a fundamental
disorder in the economy.  Income losses and shrinking collaterals squeezed
debtors facing fixed nominal levels of debt that required appreciated dollars
to repay.  Raw material cost fell by 40% from their peaks in 1980.  That was
a repeat of the 1920s of selective economic damage.  Overall prices
throughout the 80s as reflected by the CPI remained around 3% or less and the
economy expanded moderately and continuously. What actually happened was a
structural shift of wealth distribution towards polarization od rich and
poor. A split level economy was instituted by government policy, between the
favored and the dispensable.  In the 1880s and again the 1890s, similar
developments produced political agrarian revolts that historians call
American Populism.

Paul Volker's monetary policy was identical to that of Benjamin Strong who as
President of the all powerful NY Fed, whose stewardship of which was hailed
by Milton Freidman as the era of "high tide" for the Fed.  The policy was:
save the banking system at all cost, including the health of the economy.
Depressions will eventually recover, but a banking system is like Humpty
Dumpty, all the king men cannot put it together again once it collapses.  The
stable value of money is a defining ingredient of economic order, a sine qua
non..  In both times, the Fed not only forced deflation on parts of the
economy to maintain overall low inflation, it managed monetary policy to
ensure perpetual surplus capacity to suppress prices and wages. In the 1980,
one of the high growth areas of the service sector was bankruptcy law and
distress debt restructuring. Vulture funds such as Apollo,  and corporate
raiders like Carl Icahn and LBO firms such as KKR prospered. Post bankruptcy
DIP financing (debtor in possession) were highly profitable and the bank that
pioneered it, Chemical of New York, became such a power house from its
dominance in this lucrative activity that eventually enabled it to take over
Manny Hanny and Chase.

Yet stable money is ultimately an illusion, a statistical artifact.  In the
quest for monetary order, stable money in reality creates economic disorder
in the real economy. Within the conservative political context of capitalism,
stable money produces a complacency of moral satisfaction. The winners are
credited with financial genius and rewarded with the right to practise
conspicuous consumption, taking on celebrity status.  The losers are
condemned for their own mistakes. It fits neatly into Spencerian Social
Darwinism of survival of the fittest, notwithstanding that the criteria for
fitness have been defined by policy. The tilted market is hailed as the
indiscriminate crucible of perpetual economic revitalization.

Deflationary pressure does force management to downsize and cut cost, cutting
out the weak and the marginal.  But the central effect is the consolidation
of ownership through mergers and acquisition.  M & A has been the driving
force of the growth of capitalism since the late Middle Ages.  With
globalization, we are heading towards an economic order in which every sector
can accommodate only 5 mega firms, two real players, market leaders as they
are called, in carefully choreographed condominium that appears to be managed
competition to stay on the good side of antitrust laws, with three minor
players permitted to survived for appearance sake.

The essence of monetary policy, like all policies, despite technical
complexities, is ultimately reduced to social values that determine goals and
priorities.  It comes down to welfare economics and political power.  Yet,
the Fed operates on ideology exclusively.  As Preston Martin declared more
than once in the 80s: a growth recession is a real threat.

The Reagan administration by its second term discovered an escape valve from
Volker's stable value money domestic policy. In an era of growing
international trade, the mini-globalization before the collapse of the Soviet
Block, a market has been developed for foreign exchange by Nixon's
abandonment of the Gold Standard and the Bretton Wood regime of fixed
exchange rates in 1973.  The exchange value of the dollar became a matter of
national security and as such fell within the authority of the Presidency
that required the Fed's patriotic support.  CEA Chairman Martin Feldstein had
advocated a strong dollar in the Reagan first term, concluding that the loss
to American manufacturing was a fair cost for national pride.  By the second
term, it became undeniable that US policy of a strong dollar was doing much
damage to the US economy. Baker and Darman, with the support of corporate
interest, then adopted an interventionist exchange policy to push the
overvalued dollar down.  A truce was called between the Fed and the Treasury,
though each quietly work toward opposite policy aims, much like the current
situation in 2000 on interest rates.

So a deal was struck to allow Volker his battle against inflation while the
overvalued dollar would be pushed down by the Plaza Accord of 1985 with a
global backing off of high interest rates.  The trend did not reverse until
1997 when the Asian financial crisis brought about a rise of the dollar by
default.  The paradox is that in order to have a stable valued dollar
domestically, the Fed had to permit a destabilizing appreciation of the
foreign exchange dollar internationally.  For the first time foreign exchange
consideration becomes part of the Fed's monetary policy deliberations. The
net result is the dilution of the Fed's power to dictate to the economy and a
blurring of the monetary and fiscal policy distinctions.

Inflation damages the rich more than the poor because it erodes asset value.
But it also equalizes wealth distribution.  It enables the middle class to
raise it standard of living faster through borrowing that can be paid back
with depreciated dollars.  Inflation negates the fatalist American folklore
that the rich get richer and the poor get poorer.  Sometimes we forget that
before 1913, there was no central banks in the US to bail out troubled banks.
The House of Morgan held the power to decide what banks survived and which
one failed.

Henry C.K. Liu

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