| sep 02 2007 | | Crack-up Boom. | Because the people who run the economies of the world have a time horizon that stretches no further than the next election, it should come as no surprise that they lack the courage to make policy that is vital to the prosperity of their nation when they know it will cause pain to the electorate in the short-term. Therefore, with extremely few exceptions, these politicians offer ‘bread and circuses’ to the plebs, in order to get re-elected and maintain their place at the trough. In the process they destroy the fabric of their nations but the plebs get the government they deserve.
Ludwig von Mises (1881-1973) (pronounced Meesez) was born in the Austro-Hungarian empire. Hard money advocates and free market economists consider him to be the greatest economic thinker in history. He believed in limited government, the gold standard, sound money, capitalism and personal freedom. If you have never heard of him, it's time you learned more.
Among other things, Mises was able to show that inflation was no more than taxation and redistribution of wealth; that prices will most often fall without government induced money injections; that increases in the money supply, e.g. a sudden doubling of everyone's money holding benefits society not an iota and in fact only dilutes purchasing power; that only growth in the factors of production, land, labor, plant and equipment will increase production and standards of living.
He argued that a credit-induced boom must eventually "lead to a crack-up boom." He wrote, "The boom can last only as long as the credit expansion progresses at an ever-accelerated pace. The boom comes to an end as soon as additional quantities of fiduciary media are no longer thrown upon the loan market. But it could not last forever even if inflation and credit expansion were to go on endlessly. It would then encounter the barriers which prevent the boundless expansion of circulation credit. It would lead to the crack-up boom and the breakdown of the whole monetary system."
He warned, "The credit expansion boom is built on the sands of banknotes and deposits. It must collapse." He stated that, "If the credit expansion is not stopped in time, the boom turns into the crack-up boom; the flight into real values begins, and the whole monetary system founders. Continuous inflation (credit expansion) must finally end in the crack-up boom and the complete breakdown of the currency system."
Another way to describe a crack-up boom is a period when the value of the currency you hold your wealth in becomes “suspect” and you wish to exchange it for something you have more “faith” in, to hold its value. In previous episodes of Fiat money and credit creation the offending country was an isolated outlier, while the majority of their peers continued to pursue more fudiciarily sound monetary practices.
Whereas Argentina, the Weimar republic and Zimbabwe, could destroy their own currencies, while the countries around them continued to practice good banking and currency policies. So there was always a place to run to for safety. Today, with most industrialised countries engaged in this current episode of irresponsibility have turned this contagion global in nature.
Mises was aware that a credit excess could spill over into stock and bond speculation. But even he would be surprised at today's unprecedented level of credit-induced speculation. He would be depressed by the astonishing levels of public and private debt, government borrowing, central bank market interventions, trade deficits, non-bank credit growth, money velocity, illiquidity, over-consumption and foreign indebtedness. The magnitude of these excesses seemingly without penalties would appear to be rewriting the laws of economics as expressed by Mises. Trade deficits fail to harm the dollar. The stock market outperforms the economy. Capital gets used up by government and consumers at the expense of investment. Yet business rolls along. Savings are depleted but interest rates stay low. The boom seems unending, the bust postponed indefinitely. Can these phenomenon persist?
Absolutely not says Mises. "Credit expansion is not a nostrum to make people happy. The boom it engenders must inevitably lead to a debacle and unhappiness."
"The final outcome of the credit expansion is general impoverishment. Some people may have increased their wealth; they did not let their reasoning be obfuscated by the mass hysteria, and took advantage in time of the opportunities offered by the mobility of the individual investor....but the immense majority must foot the bill for the mal-investments and the over-consumption of the boom episode."
Mal-investment means building shopping centers rather than factories. Over-consumption means a borrowing and spending boom by consumers that depletes savings and reduces capital investment.
In the early thirties, Austrian school economics was on the verge of carrying the day. But in England, the publication of John Maynard Keynes, "General Theory of Employment, Interest and Money," provided the rationalizations necessary for politicians and government to spend and inflate endlessly. Until that moment virtually the entire body and history of economic thought stood against such theories. But, Keynes theories fit hand in glove with the mentality of intervention and statism. It rationalized politicians, economists and governments jumping in bed together to expand their power and influence.
Mises puts it, " A further expansion of production is possible only if the amount of capital goods is increased by additional saving, i.e., by surpluses produced and not consumed. The characteristic mark of the credit-expansion boom is that such additional capital goods have not been made available."
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