Price-Coordinated Economy and The Central Bank

I have mentioned in several of my previous articles that there seems to be a whole lot of blame to go around these days, especially with Obama in the White House.  It is always someone else’s fault for negative results – except Osama Bin Laden – Mr. Obama wants to be loud and clear on who approved of the operation!  I appreciate the President continuing the efforts started under President Bush.  Nevertheless, the last thing Obama would like to take credit for is the economy and the “structural issues” holding it back.  I would like to expound on those structural issues from two perspectives: One, is the concept of prices in a market economy, and second, ability to obtain capital (money).  The economy can be dissected in numerous ways, but I would like to contrast these two facets for this article.

First, I mentioned prices and their role in a market economy.  What are prices?  That seems like a incredibly self-apparent question. Of course prices are what the consumer trades for a good or service, but prices are also the end result of an incredible amount of economic activity.  Do prices create the most efficient economy?  Is there some other mechanism that can do it better?  I would argue there is not.  I could run through the manufacture of practically any good or service produced and be able to break-down all the price coordination that occurred to deliver that product to the market. Every resource used for one product is also connected to any other product that requires the same resource.  Raw material such as wood, concrete, iron ore, oil, electricity, etc. are the easiest examples of such a sector-wide good.  Obviously the world is finite in the amount of each of these materials – so the supply of each is scarce (limited).  The consumers of a given material competitively bid for these materials, thus creating the demand.  This is the natural equilibrium created in the Classical Economics form.  A superb illustration of this discipline is a short story titled, I, Pencil, written by Leonard E. Read.  It was originally published in 1958, but still rings true today.  The premise of the argument is that no one individual, or group of enlightened individuals, have the knowledge capable to understand how to coordinate anything – as illustrated by the simple production of a wooden pencil.  This “unplanned” economy is the only means of achieving efficient allocation of scare resources, there is no exception.

The opposite pole to a price-coordinated economy is a centrally-coordinated economy.  This system, of course, was exemplified in the Soviet Union.  There – the allocation of resources were handled centrally through State planners down to the amount and destination.  Too often however, in Soviet Russia, the allocation of resources were to the military first then the people second.  Also under this system, prices were not allowed to fluctuate. If they were – the State’s only function would be rendered to that of an accountant, recording the changes in the prices of every good exchanged.  Price controls were the result of an attempt to lead the way on what the price “should” be.  I don’t need to explain that this results in inept management of resources.  It was not uncommon in the Soviet Union to have such surpluses of some good that they spoil and likewise have shortages in other areas because there was no material available for production.  The State reaction too this would often invert the situation – never capable of meeting the demand.  This was because the supply was disconnected from the market – there was no feedback.  I could write a novel on the evidence that supports a price-coordinated economy over a centrally-planned economy, but I will leave that to you and your pursuits.  There is a great book written by Thomas Sowell titled Basic Economics.  You may be beginning to ask how I plan to tie the second topic into the discuss?  Well, I happen to believe that prices, in their sum-total, amount to the capital required to produce goods and services being brought to market – the demand of money over the economy as a whole.  So where does the supply come from?  Who sets the scale?  This is a very crude explanation to a very complicated order of operations, but I find it best to break these issues down to a very basic level to try and understand their behavior.

In the United States, the Federal Reserve System (the Fed), is the central bank that determines the amount of money available to the economy – the supply.  The Fed was created in 1913, during the Wilson Administration.  This was at the heart of the Progressive Era’s ascendance to power, peaking during Roosevelt’s New Deal policies.  It should not be a surprise as to the implications of the Fed’s power over the economy – hence the desire of power-hungry Progressives to implement such a system.  I digress back to my point, basically the Fed is the “independent” controller of Monetary Policy.  Monetary Policy is essentially the act of controlling the supply of money in the economy.  This is typically done with the control of interest rates.  The change in interest rates, by the Fed, has a ripple effect over every capital lending institution.  Monetary Policy changes are made to promote economic growth and stability.  This is a textbook understanding – an ideological perspective. The concept of centrally planning the interest rate is as intriguing as centrally planning prices across the economy.  As such, the dynamics of the central planning model are universal.  The untimely control of interest rates impact the economy inefficiently and the Fed’s injection into the market is always reactionary to market conditions – a guess.  They are always behind the curve – no matter the analysis predictions or the IQ of the Suits in the Board Room. ‘Tis the nature of human behavior and comprehension.

Perfect examples of this is the handling of Monetary Policy since the market crash of 2007.  The Fed calculated “stimulus” to the markets to sure-up liquidity.  That did not work – the markets still corrected the imbalance by using that money to strengthen the banks bottom line, not lend to promote economic growth (business loans, capital improvements, etc.).  The Fed then tried a series of increases in money supply, dubbed Quantitative Easing.  These were attempts at increasing the money supply to give more banks the incentive to lend.  This was coupled with interest rates being held at prime+ ~0% (free money essentially).  This sounds great but there is no incentive for a bank to lend money it is not going to make money on.  Ergo, stagnate economic activity.  No surprise here! Just another example of narcissistic humans failing to understand their limitations.  After all they have had nearly 99 years to understand these things! We can see these limitations occurring in the news over the past week.

A article from AFP.com out of Canada suggests that Policy makers are “leaning towards more stimulus action ‘fairly soon’ unless economic data turns around”.  The Heritage Foundation issued a brief last month describing Ben Bernanke’s congressional testimony into “three simple themes:

  1. The economy is doing much worse than anticipated, 
  2. The Fed is exploring additional Lilliputian measures it might take to help the economy, and
  3. A huge threat facing the economy is Congress’s inaction on Taxmageddon – the $500 billion tax hike set to slam into the economy on 1 JAN 2013.”

I further this argument by seguing into political intentions.  Governor Romney, along with many economic conservative/libertarians, have expressed ardent disdain for Ben Bernanke’s chairmanship of the Fed.  Most recently, Romney has expressed intentions to remove Bernanke as Chairmen of the Federal Reserve System – Wall Street Journal video article [~7:30].  The interest of self-preservation being what it is, there is no surprise that the Fed actions will be suited to the re-election of Obama first – improve the economy second.

A recent Breitbart Big Government article highlights these back-door dealings very well.  Essentially the Fed can be guaranteed to do what it can to get the economy improving to aid Obama on 6 Nov.  Good thing they really do not have that much control to “flip the switch on”.  I am sure that is something they are seeking to rectify.

I understand that all this financial talk is for the bird for some people.  I would certainly love to kick back and not have to worry of such things.  Unfortunately too many people for too many generations did just that.  We have accepted the surface level argument that government agencies were looking out for the little guy (me).  We can see how that has worked out.  In this particular instance, the Fed has de-valued the dollar to unprecedented levels and there is serious risk of hyper-inflation when outsiders begin to understand American can not borrow to infinity.  There is no reprieve for ignorance on this issue or any other for that matter.  Our money is being stolen from us to attempt to pay off debt held by our governmental institutions.  Legalized theft in my mind! Expect these issues to be thrown out like grenades in a war zone to scare you as we approach November.  It is time to call their bluff.  Use your head, read a little, exercise your sovereign authority, and remember who has been in charge and promised to fix things!  He sure fixed them – to fundamentally transform American and for re-election!

-MLP

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