Monetary History in Ten Minutes

submitted by jwithrow.
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Journal of a Wayward Philosopher
Monetary History in Ten Minutes

August 23, 2016
Hot Springs, VA

Money, moreover is the economic area most encrusted and entangled with centuries of government meddling. Many people – many economists – usually devoted to the free market stop short at money. Money, they insist, is different; it must be supplied by government and regulated by government. They never think of state control of money as interference in the free market… If we favor the free market in other directions, if we wish to eliminate government invasion of person and property, we have no more important task than to explore the ways and means of a free market in money.”Murray Rothbard

The S&P closed out Tuesday at $2,183. Gold closed at $1,343 per ounce. Crude Oil closed at $46.81 per barrel, and the 10-year Treasury rate closed at 1.58%. Bitcoin is trading around $585 per BTC today.

Dear Journal,

Little Maddie is rapidly approaching her second birthday, and I swear she is going on twelve. Like her mother, Madison is quite adept at the art of talking, and she communicates with us very well. This makes life so much easier when she tells us exactly what she wants for dinner; it makes life just a touch more difficult when she wakes up in the wee hours of the morning and tells us she wants to watch Mickey Mouse.

While this seems terribly inconvenient to her parents now, I can only imagine how immaterial it will seem when Maddie is a teenager and we just hope she comes home before the wee hours of the morning. Nevertheless, it all makes perfect sense when she looks up at us with her blue eyes shining bright and says I love you sooo much!

Moving on to finance… Continue reading “Monetary History in Ten Minutes”

The Folly of the Fed’s Central Planning

by Ron Paul – Ron Paul Institute for Peace and Prosperity:Ron Paul

Over the last 100 years the Fed has had many mandates and policy changes in its pursuit of becoming the chief central economic planner for the United States. Not only has it pursued this utopian dream of planning the US economy and financing every boondoggle conceivable in the welfare/warfare state, it has become the manipulator of the premier world reserve currency.

As Fed Chairman Ben Bernanke explained to me, the once profoundly successful world currency – gold – was no longer money. This meant that he believed, and the world has accepted, the fiat dollar as the most important currency of the world, and the US has the privilege and responsibility for managing it. He might even believe, along with his Fed colleagues, both past and present, that the fiat dollar will replace gold for millennia to come. I remain unconvinced.

At its inception the Fed got its marching orders: to become the ultimate lender of last resort to banks and business interests. And to do that it needed an “elastic” currency. The supporters of the new central bank in 1913 were well aware that commodity money did not “stretch” enough to satisfy the politician’s appetite for welfare and war spending. A printing press and computer, along with the removal of the gold standard, would eventually provide the tools for a worldwide fiat currency. We’ve been there since 1971 and the results are not good.

Many modifications of policy mandates occurred between 1913 and 1971, and the Fed continues today in a desperate effort to prevent the total unwinding and collapse of a monetary system built on sand. A storm is brewing and when it hits, it will reveal the fragility of the entire world financial system.

The Fed and its friends in the financial industry are frantically hoping their next mandate or strategy for managing the system will continue to bail them out of each new crisis.

The seeds were sown with the passage of the Federal Reserve Act in December 1913. The lender of last resort would target special beneficiaries with its ability to create unlimited credit. It was granted power to channel credit in a special way. Average citizens, struggling with a mortgage or a small business about to go under, were not the Fed’s concern. Commercial, agricultural, and industrial paper was to be bought when the Fed’s friends were in trouble and the economy needed to be propped up. At its inception the Fed was given no permission to buy speculative financial debt or U.S. Treasury debt.

It didn’t take long for Congress to amend the Federal Reserve Act to allow the purchase of US debt to finance World War I and subsequently all the many wars to follow. These changes eventually led to trillions of dollars being used in the current crisis to bail out banks and mortgage companies in over their heads with derivative speculations and worthless mortgage-backed securities.

It took a while to go from a gold standard in 1913 to the unbelievable paper bailouts that occurred during the crash of 2008 and 2009.

In 1979 the dual mandate was proposed by Congress to solve the problem of high inflation and high unemployment, which defied the conventional wisdom of the Phillips curve that supported the idea that inflation could be a trade-off for decreasing unemployment. The stagflation of the 1970s was an eye-opener for all the establishment and government economists. None of them had anticipated the serious financial and banking problems in the 1970s that concluded with very high interest rates.

That’s when the Congress instructed the Fed to follow a “dual mandate” to achieve, through monetary manipulation, a policy of “stable prices” and “maximum employment.” The goal was to have Congress wave a wand and presto the problem would be solved, without the Fed giving up power to create money out of thin air that allows it to guarantee a bailout for its Wall Street friends and the financial markets when needed.

The dual mandate was really a triple mandate. The Fed was also instructed to maintain “moderate long-term interest rates.” “Moderate” was not defined. I now have personally witnessed nominal interest rates as high as 21% and rates below 1%. Real interest rates today are actually below zero.

The dual, or the triple mandate, has only compounded the problems we face today. Temporary relief was achieved in the 1980s and confidence in the dollar was restored after Volcker raised interest rates up to 21%, but structural problems remained.

Nevertheless, the stock market crashed in 1987 and the Fed needed more help. President Reagan’s Executive Order 12631 created the President’s Working Group on Financial Markets, also known as the Plunge Protection Team. This Executive Order gave more power to the Federal Reserve, Treasury, Commodity Futures Trading Commission, and the Securities and Exchange Commission to come to the rescue of Wall Street if market declines got out of hand. Though their friends on Wall Street were bailed out in the 2000 and 2008 panics, this new power obviously did not create a sound economy. Secrecy was of the utmost importance to prevent the public from seeing just how this “mandate” operated and exactly who was benefiting.

Since 2008 real economic growth has not returned. From the viewpoint of the central economic planners, wages aren’t going up fast enough, which is like saying the currency is not being debased rapidly enough. That’s the same explanation they give for prices not rising fast enough as measured by the government-rigged Consumer Price Index. In essence it seems like they believe that making the cost of living go up for average people is a solution to the economic crisis. Rather bizarre!

The obsession now is to get price inflation up to at least a 2% level per year. The assumption is that if the Fed can get prices to rise, the economy will rebound. This too is monetary policy nonsense.

If the result of a congressional mandate placed on the Fed for moderate and stable interest rates results in interest rates ranging from 0% to 21%, then believing the Fed can achieve a healthy economy by getting consumer prices to increase by 2% per year is a pie-in-the-sky dream. Money managers CAN’T do it and if they could it would achieve nothing except compounding the errors that have been driving monetary policy for a hundred years.

A mandate for 2% price inflation is not only a goal for the central planners in the United States but for most central bankers worldwide.

It’s interesting to note that the idea of a 2% inflation rate was conceived 25 years ago in New Zealand to curtail double-digit price inflation. The claim was made that since conditions improved in New Zealand after they lowered their inflation rate to 2% that there was something magical about it. And from this they assumed that anything lower than 2% must be a detriment and the inflation rate must be raised. Of course, the only tool central bankers have to achieve this rate is to print money and hope it flows in the direction of raising the particular prices that the Fed wants to raise.

One problem is that although newly created money by central banks does inflate prices, the central planners can’t control which prices will increase or when it will happen. Instead of consumer prices rising, the price inflation may go into other areas, as determined by millions of individuals making their own choices. Today we can find very high prices for stocks, bonds, educational costs, medical care and food, yet the CPI stays under 2%.

The CPI, though the Fed currently wants it to be even higher, is misreported on the low side. The Fed’s real goal is to make sure there is no opposition to the money printing press they need to run at full speed to keep the financial markets afloat. This is for the purpose of propping up in particular stock prices, debt derivatives, and bonds in order to take care of their friends on Wall Street.

This “mandate” that the Fed follows, unlike others, is of their own creation. No questions are asked by the legislators, who are always in need of monetary inflation to paper over the debt run up by welfare/warfare spending. There will be a day when the obsession with the goal of zero interest rates and 2% price inflation will be laughed at by future economic historians. It will be seen as just as silly as John Law’s inflationary scheme in the 18th century for perpetual wealth for France by creating the Mississippi bubble – which ended in disaster. After a mere two years, 1719 to 1720, of runaway inflation Law was forced to leave France in disgrace. The current scenario will not be precisely the same as with this giant bubble but the consequences will very likely be much greater than that which occurred with the bursting of the Mississippi bubble.

The fiat dollar standard is worldwide and nothing similar to this has ever existed before. The Fed and all the world central banks now endorse the monetary principles that motivated John Law in his goal of a new paradigm for French prosperity. His thesis was simple: first increase paper notes in order to increase the money supply in circulation. This he claimed would revitalize the finances of the French government and the French economy. His theory was no more complicated than that.

This is exactly what the Federal Reserve has been attempting to do for the past six years. It has created $4 trillion of new money, and used it to buy government Treasury bills and $1.7 trillion of worthless home mortgages. Real growth and a high standard of living for a large majority of Americans have not occurred, whereas the Wall Street elite have done quite well. This has resulted in aggravating the persistent class warfare that has been going on for quite some time.

The Fed has failed at following its many mandates, whether legislatively directed or spontaneously decided upon by the Fed itself – like the 2% price inflation rate. But in addition, to compound the mischief caused by distorting the much-needed market rate of interest, the Fed is much more involved than just running the printing presses. It regulates and manages the inflation tax. The Fed was the chief architect of the bailouts in 2008. It facilitates the accumulation of government debt, whether it’s to finance wars or the welfare transfer programs directed at both rich and poor. The Fed provides a backstop for the speculative derivatives dealings of the banks considered too big to fail. Together with the FDIC’s insurance for bank accounts, these programs generate a huge moral hazard while the Fed obfuscates monetary and economic reality.

The Federal Reserve reports that it has over 300 PhD’s on its payroll. There are hundreds more in the Federal Reserve’s District Banks and many more associated scholars under contract at many universities. The exact cost to get all this wonderful advice is unknown. The Federal Reserve on its website assures the American public that these economists “represent an exceptional diverse range of interest in specific area of expertise.” Of course this is with the exception that gold is of no interest to them in their hundreds and thousands of papers written for the Fed.

This academic effort by subsidized learned professors ensures that our college graduates are well-indoctrinated in the ways of inflation and economic planning. As a consequence too, essentially all members of Congress have learned these same lessons.

Fed policy is a hodgepodge of monetary mismanagement and economic interference in the marketplace. Sadly, little effort is being made to seriously consider real monetary reform, which is what we need. That will only come after a major currency crisis.

I have quite frequently made the point about the error of central banks assuming that they know exactly what interest rates best serve the economy and at what rate price inflation should be. Currently the obsession with a 2% increase in the CPI per year and a zero rate of interest is rather silly.

In spite of all the mandates, flip-flopping on policy, and irrational regulatory exuberance, there’s an overwhelming fear that is shared by all central bankers, on which they dwell day and night. That is the dreaded possibility of DEFLATION.

A major problem is that of defining the terms commonly used. It’s hard to explain a policy dealing with deflation when Keynesians claim a falling average price level – something hard to measure – is deflation, when the Austrian free-market school describes deflation as a decrease in the money supply.

The hysterical fear of deflation is because deflation is equated with the 1930s Great Depression and all central banks now are doing everything conceivable to prevent that from happening again through massive monetary inflation. Though the money supply is rapidly rising and some prices like oil are falling, we are NOT experiencing deflation.

Under today’s conditions, fighting the deflation phantom only prevents the needed correction and liquidation from decades of an inflationary/mal-investment bubble economy.

It is true that even though there is lots of monetary inflation being generated, much of it is not going where the planners would like it to go. Economic growth is stagnant and lots of bubbles are being formed, like in stocks, student debt, oil drilling, and others. Our economic planners don’t realize it but they are having trouble with centrally controlling individual “human action.”

Real economic growth is being hindered by a rational and justified loss of confidence in planning business expansions. This is a consequence of the chaos caused by the Fed’s encouragement of over-taxation, excessive regulations, and diverting wealth away from domestic investments and instead using it in wealth-consuming and dangerous unnecessary wars overseas. Without the Fed monetizing debt, these excesses would not occur.

Lessons yet to be learned:

1. Increasing money and credit by the Fed is not the same as increasing wealth. It in fact does the opposite.

2. More government spending is not equivalent to increasing wealth.

3. Liquidation of debt and correction in wages, salaries, and consumer prices is not the monster that many fear.

4. Corrections, allowed to run their course, are beneficial and should not be prolonged by bailouts with massive monetary inflation.

5. The people spending their own money is far superior to the government spending it for them.

6. Propping up stock and bond prices, the current Fed goal, is not a road to economic recovery.

7. Though bailouts help the insiders and the elite 1%, they hinder the economic recovery.

8. Production and savings should be the source of capital needed for economic growth.

9. Monetary expansion can never substitute for savings but guarantees mal–investment.

10. Market rates of interest are required to provide for the economic calculation necessary for growth and reversing an economic downturn.

11. Wars provide no solution to a recession/depression. Wars only make a country poorer while war profiteers benefit.

12. Bits of paper with ink on them or computer entries are not money – gold is.

13. Higher consumer prices per se have nothing to do with a healthy economy.

14. Lower consumer prices should be expected in a healthy economy as we experienced with computers, TVs, and cell phones.

All this effort by thousands of planners in the Federal Reserve, Congress, and the bureaucracy to achieve a stable financial system and healthy economic growth has failed.

It must be the case that it has all been misdirected. And just maybe a free market and a limited government philosophy are the answers for sorting it all out without the economic planners setting interest and CPI rate increases.

A simpler solution to achieving a healthy economy would be to concentrate on providing a “SOUND DOLLAR” as the Founders of the country suggested. A gold dollar will always outperform a paper dollar in duration and economic performance while holding government growth in check. This is the only monetary system that protects liberty while enhancing the opportunity for peace and prosperity.

Article originally posted at The Ron Paul Institute for Peace and Prosperity.

Capitalism and Creditism and Corporatism, Oh My!

submitted by jwithrow.The Fed

Journal of a Wayward Philosopher
Capitalism and Creditism and Corporatism, Oh My!

December 26, 2014
Hot Springs, VA

The S&P opened at $2,084 today. Gold is flat around $1,198 per ounce. Oil is still checking in at $56 per barrel. Bitcoin is at $326 per BTC, and the 10-year Treasury rate opened at 2.24% today.

All is quiet in the markets this holiday season. We may look back on this time period in a few years and say that we were presented with a tremendous opportunity to buy beaten down energy and commodity stocks during the tax-loss selling season of 2014. We probably will say that we had a great opportunity to accumulate some gold throughout 2014 as well. Just be sure to follow your asset allocation model if you decide to capitalize on these opportunities.

Yesterday we examined our current economic circumstances and realized that we were employing capitalism but we had no capital! Today we must ask the question: How can you have capitalism without any capital?

The obvious answer is you can’t. It’s like making potato soup without potatoes – try as you might it just won’t work.

So if we don’t have capitalism then what do we have? My answer is that we have some weird blend of creditism and corporatism. Governments have colluded with large corporate interests, especially in the commercial banking sector, to rig the economy in their favor.

Though we could go back further, let’s start our story (from the American perspective) at the end of World War II. Prior to the war governments didn’t think they could do everything they wanted due to financial constraints. That didn’t stop them from doing half of what they wanted to do but it forced them to make a choice. Did they want guns (warfare) or butter (welfare)?

The U.S. came out of WWII looking like gold… literally. The U.S. economy was the least damaged by the war which ravaged Europe and it came out holding the world’s largest stash of gold reserves. This relative economic strength gave U.S. politicians the wrong idea: they started to think they might not need to make any choices. Then President Lyndon Johnson came along and he wasn’t shy about it – guns and butter it will be!

So we got the Vietnam War and the Great Society together! And gold steadily flowed out of the U.S. Treasury until President Nixon pulled the switch-a-roo in 1971 and closed the gold window. All of a sudden the international monetary system became elastic. With no more gold restraint, dollars and yen and pounds started to pile up as central banks and commercial banks discovered they could conjure money into existence largely at will. But this was a different kind of money than the gold-backed variety – it was credit-based.

This credit-based money was extremely popular and the money supply grew 50-fold between World War II and 2008. Everyone got used to a constantly expanding money supply and now both the economy and asset prices are dependent upon it. It is the expansion of credit, not real capital, that supports all of the federal spending programs, all of the wars in the Middle East, the mass imports from China and Vietnam, the new housing developments and shopping malls in Middle America, the massive car lots across the country, most of the skyscrapers dotting the city skies, and current real estate and stock market valuations.

Here’s a fun example: do you know how much debt is still owed on the tax-funded Meadowlands Sports Complex in New Jersey? I’ll tell you: more than $100 million is still owed on the facility. Oh, and I am talking about the old Meadowlands Stadium that was closed and demolished in 2009 to make way for a new $1.6 billion facility now known as MetLife Stadium. New Jersey taxpayers are still on the hook for $100 million on a sports complex that no longer exists! New Jersey built the stadium, used the stadium, and demolished the stadium but never bothered to pay for it.

Such nonsense can only occur in a world of ever-expanding credit-based funny money.

This applies to the massive bank bailouts and banker bonuses that one side of the fictitious aisle rails against just as it applies to the massive welfare programs that the other side of the false political-divide takes issue with. None of it exists without perpetual credit expansion; none of it exists without creditism and corporatism.

Capitalism would have nothing to do with any of it.

It is important to understand that we have only seen one side of the credit cycle within the current monetary system. Credit has been expanding constantly for more than forty years now. But if we look around our world we can clearly see that nothing expands forever. Waves rise then fall. Trees grow then mature. Balloons inflate then pop.

One day credit will have to contract; it is inevitable. What happens when that day comes? Ludwig von Mises, the late Austrian School economist, offered some insight:

“There is no means of avoiding a final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion or later as a final and total catastrophe of the currency system involved.”

Was he right? Time will tell.

More to come,
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Joe Withrow
Wayward Philosopher

For more of Joe’s thoughts on the “Great Reset” and the fiat monetary system please read “The Individual is Rising” which is available at http://www.theindividualisrising.com/. The book is also available on Amazon in both paperback and Kindle editions.

The First American Socialists

submitted by jwithrow.Pilgrims

Journal of a Wayward Philosopher
The First American Socialists

November 25, 2014
Hot Springs, VA

The S&P is hanging around $2,070 today. Gold is checking in at $1,196. Oil is floating around $76 per barrel in anticipation of OPEC’s big meeting on Thursday. Bitcoin is still at $380 per BTC, and the 10-year Treasury rate is 2.30% today.

All remains quiet in the financial markets as we turn our attention to the wonderful holiday season upcoming. Thanksgiving is a day of family, food, and fellowship in honor of the legendary first American Thanksgiving celebrated back in the 17th century.

Most Americans are familiar with this story of the Pilgrims and the Indians sitting down together for the first Thanksgiving, but did you know the Pilgrims were the first American socialists? The Pilgrims’ original financing contract stated that all colonists would get their food, clothing, and provisions from the colony’s “common stock and goods” and any profits would go into the “common stock” for the first seven years. The agreement required each person to submit his production to the common stock and the governor was to distribute provisions out to each family according to need. There was to be no private property for at least seven years.

The Pilgrims landed in America on December 21, 1620 and the first winter wiped out half of the population. The following harvests of 1621 and 1622 were miniscule. Governor William Bradford documented the problems stating that the hardest working men found it unjust that they received no more food than the weakest workers, the young men resented working without compensation, and the wives resented doing household chores for other men who were not their husband. How dare them!

The Pilgrims wised up in 1623 and abandoned the socialist model. Governor Bradford documented the transition stating that families became very industrious once they were required to grow their own food with women and children taking on significantly more responsibilities for the family unit. Three times the amount of corn was planted once socialism was abandoned and the colonists actually exported a substantial surplus in 1624. The Pilgrims thereafter purchased back all of the colony’s stock and completed the transition to private property and free markets.

How fortunate we are that the Pilgrim’s experiment with socialism was largely forgotten over time!

What if Woodrow Wilson understood the Pilgrim’s story? There would be no Federal Reserve System, no
income tax, and no centrally planned war-time economy!

Imagine if Franklin Delano Roosevelt had been familiar with the story. Why, Americans would have gotten no New Deal! There would be no Public Works Administration, Resettlement Administration, Rural Electrification Administration, National Youth Administration, Forest Service and Civilian Conservation Corps, Tennessee Valley Authority, Agriculture Adjustment Administration, Federal Crop Insurance Corporation, Farm Security Administration, Federal Housing Administration, Homeowners Loan Corporation, Federal Deposit Insurance Corporation, or Works Progress Administration. There would be no food stamps, no Social Security, and probably no labor unions. Americans would have to settle for the old deal where they had to work hard, make their own decisions, provide for their own financial security, and save with gold coins instead of paper bills. Who wants to do that?

Of course there is a big difference in scale between the first American socialists and the newer variety. The Pilgrims’ experiment was limited to a small colony so when the model failed the damage was limited to the tiny colonial economy. The ill-effects of the newer forays into socialism modeled after Wilson and FDR’s examples are not contained within a tiny economy – they run rampant through a massive modern economy consisting of hundreds of millions of people.

We never seem to learn the lesson today, either. The Pilgrims abandoned the socialist model when the results clearly indicated failure. Today we implement a new public policy when the results indicate failure. We are always just one public policy fix away.

As we discussed last week in our journal entry examining macroeconomic trends, the sustainability of Pax Americana based on socialist programs is likely coming to an end. Will a transition back to free markets and private property be the solution?

More to come,
Signature

 

 

 

 

 

Joe Withrow
Wayward Philosopher

For more of Joe’s thoughts on the “Great Reset” and regaining individual sovereignty please read “The Individual is Rising” which is available at http://www.theindividualisrising.com/. The book is also available on Amazon in both paperback and Kindle editions.

Hormegeddon Excerpt

submitted by jwithrow.

The following is a particularly truthful yet entertaining excerpt from Bill Bonner’s new book titled “Hormegeddon: How Too Much of a Good Thing Leads to Disaster”. For more information on the book, go here: http://pro.bonnerandpartners.com/BBLHORMV2P/WBBLQ800?h=true.

Today, truly independent thinking isn’t illegal, but it is rare. Psychologists have done a number of studies proving that most people will ignore obvious facts and conclusions in order to remain steadfast with the group. That is, they prefer solidarity to truth. They prefer public information to private information, even though the former lacks meaning, cannot be verified and often is contradicted by personal observation and experiences. That is why people stand in line in airports watching an old lady get patted down by TSA agents, even though everyone knows perfectly well the old gal poses no threat.

It is also why most people can see little difference between a sporting event and a war. In both instances an instinct—developed over thousands of years—causes them to support the home team without quibble or equivocation. Their brains are not adapted to the kind of abstract thinking required to separate one competition from the other. For 99% of our time on earth there was no need.

These instincts make people easy to deceive, especially when they are out of range of the herald’s voice. They are encouraged to believe that the collective projects are beneficial, whatever they are. Often, in a spirit of solidarity, they go along with the gag—for decades—even as the evidence from their daily lives contradicts its premises and undermines its promises. How else do you explain WWI, in which all major combatants continued making extravagant investments in a war, year after year, with no positive return? By the time the war ended there were 37 million casualties and the leading participants were bankrupt. What was the point? What was at stake that would justify such an investment of resources? Apparently, nothing. Nor did the Russians or Chinese readily give up their experiments with communism even when their schemes disrupted the private plans of nearly a billion people over three generations. And already, America’s War on Terror has loomed over us for more than 10 years, even though there have been far more sightings of Elvis and Jimmy Hoffa than actual terrorists.

Not everyone goes along, however. First, a few “out of the box” thinkers question the program. Then, the masses begin to grumble and complain. Unfortunately, that’s when the planners make even more plans. Typically, they urge people to make sacrifices. They promise that it will all turn out right in the end. “You can’t make an omelet without breaking some eggs,” said Lenin. People go along with breaking a few eggs for a while, particularly if the eggs belong to someone else. But ultimately, the problem is not the eggs, it’s the omelet. It has the right shape, it appears sensible and rational. It should taste good. But it’s disgusting. When you cut into it, it’s burnt and runny. There are things inside you didn’t order. There’s probably a hair. And that’s when you realize that you never wanted an omelet. You just wanted some eggs.

Hormegeddon-book

What We Forgot About Free Market Capitalism Part 1

submitted by jwithrow.Rothbard Capitalism

One of the most important elements of free market capitalism is the price system. The capitalist price system provides information on supply and demand in the marketplace and individuals make business and investment decisions based on this information.

The economic system that America now employs is not free market capitalism and there are legions of regulations in place that distort the market pricing system every step of the way.

The most insidious price distortion is the suppression of interest rates.

Interest rates are simply the price of money. Like everything else in the market economy, interest rates are self-regulated by the forces of supply and demand. If there is a high quantity of capital in the system available for lending then interest rates will naturally be low. Low interest rates will entice borrowers to engage in long term financing – purchasing homes, expanding businesses, etc. Interest rates will then naturally rise as the capital available for lending diminishes. High interest rates are not attractive to borrowers so individuals and businesses will focus more on short term projects. This will lead to increased capital formation within the system which will gradually trigger falling interest rates.

But what happens when a central bank suppresses interest rates and keeps them near zero for an extended period of time? Well, this destroys the entire pricing system and distorts the entire market system.

Artificially suppressed interest rates send a false signal – which is exactly why they were suppressed in the first place. Artificially suppressed rates still entice borrowers to take engage in long term financing but this is a Keynesian trap. The problem is that there is not sufficient capital formation in the economy to warrant the low interest rates and thus there is not a true demand for all of the long term projects undertaken.

This is called mal-investment.

“If you build it, they will come” is a great catch phrase in the movies but it’s just not how the real world works.

Despite what the economics textbook says, there is no such thing as a ‘mixed economic system’. There is simply no room for the suppression of interest rates or the distortion of prices in a capitalist system.

There are only two choices:

  1. Free markets
  2. Central planning

Free market capitalism presumes an honest and functional price system that is not manipulated by a central bank.

Oh, we should probably mention how interest rates are suppressed.

The Federal Reserve creates currency units out of thin air and uses them to buy long term Treasury bonds at low rates. What could possibly go wrong?

By the way, you can read more on this topic here, here, and here.