Redistribution Worsens a Depression

A common theme of government attempts to 'turn this troubled economy around' is merely redistribution: taking money from taxpayers, and giving it to selected recipients; taking toxic assets, and replacing them with Treasury bills; taking private companies, and nationalising them (to some degree or other). In one way or the other, this process represents capital and income forcibly moved from one possessor to another.

For example: Ben Bernanke, Federal Reserve Chairman, recently announced that he is going to expand the Fed's balance sheet as much as necessary (scroll down to the speech's fifth paragraph from the bottom). He also said that the balance sheet would have to shrink in the future... but not to worry about such things now (same link, third paragraph from bottom).

This amounts to simply moving a problem hither and thither, rather than actually solving it. By definition, this is Lemon Socialism: taxpayer money reallocated by the government to support failed or failing enterprises. In essence, lemon socialism takes the bad decisions of a few, and forces the majority to pay for, and suffer the consequences of, those decisions.

As these enterprises have proven unsustainable, such 'zombie-ification' represents considerable misallocation of capital. This, in turn, means that incomes will be generally forced lower by the disruptive economic effects of the 'zombie' enterprises. Falling incomes are part and parcel of all depressions, and so such misguided government bailouts will only serve to worsen the 2007 Depression. Lemon socialism shenanigans are doomed to failure; however, Mr. Bernanke's Soviet-style speech makes clear he will try it anyway.

President-elect Barack Obama comes from a different bent. His economic recovery plan is redistributive from a populist perspective, meaning he will look to prop up the lifestyles of the broadest majority of people at the cost of a few. The simplest demonstration of this is by lowering taxes on 'the poor,' and simultaneously raising taxes on 'the rich;' one can throw in another tax rebate cheque or two for good measure. In a way, one can think of populist redistribution as the opposite of lemon socialism.

A more specific example, though, is the Hubbard-Mayer plan: if passed by Congress next year, this plan will make available to any house-buyer a 30-year mortgage of up to 95% of the house's value, all for a low, low 4.5% fixed interest rate. Estimates put the up front cost of this program at conservative $3 trillion.

Though the mortgage plan is certain to be broadly popular, it is a very, very bad idea: mortgage interest represents someone's income. It's not a fanciful thing, because the interest a bank charges does eventually become someone's means of living. By lowering the 30-year fixed rate mortgage from 6.1% (this year) to 4.5%, money is being pulled out of the economy, lowering income, and since falling income is the essence of a depression, this will exacerbate the 2007 Depression. The math: take 4.5% from 6.1%, and one gets a difference of 1.6%. Take 1.6% of $3 trillion, and one sees that this program alone will take away $48 billion of real income per year. Poof.

How Likely is Hyperinflation in the USA?

Hyperinflation is certain in Zimbabwe, but can such a thing happen in the USA? Typically, hyperinflation occurs quickly when economies are under extreme stress such as during wartime. The USA had that experience during its Revolution, and many European countries did so during and after the World Wars, and after the collapse of the Soviet Union and its satellites.

Are present economic conditions suitable for the formation of hyperinflation in the USA? The use of paper money creates chronic inflation, but what speeds up inflation to the point where doublings of prices occur not over decades, but weeks?

Typically two factors occur to induce hyperinflation. The first is when governments spend money well beyond their ability to collect taxes. This can occur when spending increases significantly (such as for a war). The second is when tax receipts fall significantly such as during a depression, and the government is unable to borrow money, and yet the government maintains, or even increases, spending.

Clearly, the first factor may come into play since the USA is presently engaged in expensive military campaigns abroad, and is undertaking a nationalisiation of the financial system. More subtly, the federal government has liabilities of over $60,000,000,000,000 (or $200,000 per person) - and growing. There is no way to tax the population sufficiently to honor this commitment in full, so 'printing up' money will be a temptation. Whether debasing the currency will continue at a fairly moderate pace, or will get out-of-control, waits to be seen.

The second factor has come in to play only so far as tax receipts are falling and spending is increasing. The USA still maintains its ability to borrow, at least for a time. Three things may come to pass that may end that privilege. First is the unwillingness of lenders - though at present that seems unlikely since Treasury Debt and Federal Reserve Notes are highly regarded. The second is the incapacity of lenders. As foreign trade crashes, foreign central banks and other corporations will simply have less money to invest in the USA. Increasingly poor domestic investors will be similarly unable to buy. Finally, the knowledge that increasing public borrowing at the expense of private investment (e.g. more money for unemployment benefits and less money to dig new oil wells) would likely make the Depression worse, may prompt the government to 'print' rather than borrow.

We do not care to make specific predictions of how much prices will rise and how quickly. We do believe that hyperinflation in the USA is a definite risk, as the 2008 Depression causes increasing income loss. At the moment, hyperinflation is not imminent, but stand by for further updates.