My friend Brent Mattis (Finance Professional and student of Austrian Economics) wrote:
From where I am standing, it seems like leading up to and during financial crises, some Austrians seemed to be making contradictory statements. On one hand, several Austrians predicted that an imminent disaster was near, that nothing could stop the coming crash, and that any attempt to do so would lead to dire consequences (hyperinflation, dollar crash, Japanese-style “lost decades”, etc).
On the other hand, Austrians were against every action taken by the Fed and Treasury during the crisis. According to Austrians, all the Fed/Treasury predictions of calamity, cascading cross-defaults, and death spiral, were mostly scare-mongering to expand federal power.
Put another way, when the Fed and Treasury started saying “we need to take major action, because the end is nigh,” the Austrians said, “No, just allow the insolvent entities to fail and let the chips fall where they may, capital will move from weak hands to strong hands and we’ll be better off for it.”
Take one specific example: last Fall, a Money Market fund broke the buck when Lehman collapsed. It started a run on supposedly safe investment vehicles like commercial paper. The Fed arrested the run by backstopping all MMF’s. Suppose instead of bailing out AIG and backstopping all MMF’s and short-term paper, they’d followed the Austrian prescription of letting insolvent entities fail. In the ensuing run, the consequences would be difficult to predict, but would have likely gone beyond the Austrian idea of the ‘short but sharp recession.’ One can try to trace the linkages. In sequential order, the CP markets fail, corporate bond markets go crazy, businesses dependent on rolling paper fail, and banks fail en masse. This would be pretty traumatic. Would America be better off in the long run if we’d watched the majority of the banking, shadow banking, insurance, and other levered entities collapse? I’m not being facetious. I’m legitimately curious on this one.
Austrians can differ about the severity of the consequences if one firm or another were not bailed out. But I don’t think that the only good case for opposing a particular bailout would be to show that there would not be much pain involved if the bailout were averted. You might think that a serious downtown would occur without efforts to defuse it, and yet still be opposed to a bailout because the bailouts would only make things worse. If we’re not going to make an argument against all bailouts on ideological grounds, then lets compare all of the costs of a particular bailout against the benefits.
Some advocates of bailing out financial institutions (not necessarily Austrians) think that the credit crisis is the problem, and that by preventing firms from failing we can solve/avoid/fix the problem. If it were that simple, then those Austrian ideologues who are against all bailouts look pretty mean-spirited and narrow-minded.
Where Austrians differ is that we see the boom as the problem — where the price system was disrupted and capital was misallocated — and the bust as the way that the problem gets fixed. The only way to return the economy to sustainable growth is to go through a bust. The cost of bailouts in general is that, to the extent that they “work”, they prevent the price system from working to reorganize the capital structure and to prolong the period of waste. Because bailouts are an attempt to preserve fictitious prices.
One of the strongest arguments against bailouts is that they don’t fix anything, they only pushes the adjustment process off into the future. More or less the same adjustment process will have to occur sooner or later. Once firms have run out of their bailout funds, the price system will continue to put pressure on them to liquidate their malinvestments, write down their balance sheets, go bankrupt, or adjust by whatever means the correction needs to occur. By keeping a corrupt and inefficient system in place, bailouts may create moral hazard and attract more entrants into the race to waste capital.
Let it unravel now or let it unravel later? Political systems generally try to push pain off into the future, but the better choice might be to get it over with, return to a sound basis of savings-financed growth, and have a better future. But if a bailout can push the adjustment process off into the future, why not have a series of bailouts and delay the day of reckoning forever? This can’t be done: there will come a point where we don’t have a choice – we will have to face some kind of consequences. Either the economy will be progressively socialized, which amounts to a permanent depression, or something more dramatic will occur: hyperinflation, a currency crisis, or a systemic failure that is large enough that the enough resources simplly cannot be confiscated to paper it over.
Can we pick and choose among the bailouts, only implementing those that prevent some kind of domino-chain systemic crisis and letting other firms fail? I’m not sure that anyone knows how to tell which are which. However, a point that speaks in favor of a more moderate consequences is that the “collapse” of financial entities does not wipe them out of existence; if we had rule of law it would only transfer their good assets to the bond holders. The good parts of these firms still have their employees, their brand, their physical assets, and whatever parts of their balance sheet are worth owning. As Ben Stein told Peter Schiff, Merrill Lynch is an “astonishingly well run company”. He was right, that is, when talking about their retail business. … It was their entry into the mortgage securities market with excessive leverage brought them down. The other firms you mention – MMFs, CP, corporate bonds, all represent something real if you follow the paper trail far enough. These securities would not all disappear, they would only get repriced. A key to this process working would be the efficiency of the bankruptcy process in transferring assets and settling claims.
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“Can we pick and choose among the bailouts, only implementing those that prevent some kind of domino-chain systemic crisis and letting other firms fail? I’m not sure that anyone knows how to tell which are which.”
Even if we (meaning they) could tell which are which, the monopolistic and secretive nature (sorry I mean the “independence”) of the central bank is such that the governors can and will help their friends and screw their enemies – and to hell with objective evaluations of the public interest. There is no other reason for creating such a powerful and secretive monopoly. It is a mechanism whose first and only purpose is to go against the economic factors which determine “which are which” and tilt the table in a different direction.
Were Austrians being consistent because they know that cure will seem worse than the disease? Just a drunk will be worse off in the short term by going cold turkey so too will society be rather worse off in the short term as a great many business rely on the current financial/political structure.
Mises on forecasting: “It may sometimes be expedient for a man to heat the stove with his furniture. But if he does, he should know what the remoter effects will be. He should not delude himself by believing that he has discovered a wonderful new method of heating his premises. (p. 654) The economist [Austrian, that is] knows that such a boom must result in a depression. But he does not and cannot know when the crisis will appear. This depends on the special conditions of each case. Many political events can influence the outcome. (p.870) [E]conomists do not dispense any reliable information about things to come. (p.872) Understanding is always based on incomplete knowledge. (p.112) Praxeological knowledge makes it possible to predict with apodictic certainty the outcome of various modes of action. (p.117) [Understanding is the only appropriate method of dealing with the uncertainty of future conditions. (p.118) “In order to see his way in the unknown and uncertain future, man has within his reach only two aids: experience of past events and his faculty of understanding.” (–HUMAN ACTION
With many Keynesian “economists,” even one with a Nobel prize in his pocket, arguing that government intervention is absolutely required to stave off a financial and economic calamity on par with the Great Depression, it is understandable why Mr. Mattis would ask, “Would America be better off in the long run if we’d watched the majority of the banking, shadow banking, insurance, and other levered entities collapse? I’m not being facetious. I’m legitimately curious on this one.”
Would Mises allow that intervention may sometimes be expedient? (I picture him saying, “Yes, but I can’t imagine such circumstances where it would be.”
If economics is eqivocal on the question of intervention, morality is not. Government can only intervene in the economy with OPM (sounds like opium, is equally addicting, stands for other people’s money). In order to obtain the resources to intervene, government resorts to taxes, forcing or coercing some unoffending people to cough up their wealth for the direct use and benefit of others. That is extortion, but the tax collectors won’t be prosecuted because they have been granted immunity. And the OPM will be shared among politicians, bureaucrats and whosoever in the private sector those scoundrels favor or owe, often including Goldman Sachs.
So the question I would ask Mr. Mattis is this: Do you want to throw your hat in the ring with looters and interventionists (aka, Keynesians), or would you rather join those who are trying to stop them (Austrians)? The looters have the upper hand at the moment, and are spreading gobs of OPM on many of their friends and supporters. If you’re seeking popularity and a bit of the illicitly obtained lucre, go with the Keynesians. But if you would retain your integrity, self respect and peace of mind, stick with the Austrians. In the long run, people who steal, though they may seem to get away with it, pay dearly for their deeds.
Bail andFail
The FED actions are only prolonging the inevitable. They are taking money away from the winners to prop up the losers. They are setting up the dollar to become the next failed fiat currency. Historically, all fiat currencies have eventually failed.
Assuming every economic activity that takes place in the free market takes place better than in any other circumstances, then it would obviously be better to let the free market reign, rather than attempt to interfere with an inevitable market reaction. It’s easy to argue this. It requires no thought whatsoever, because it is true.
Still, taking the argument that that assumption is accurate clearly requires many more assumptions, principle among them the assumption that a man’s property are best managed by himself, both because he deserves freedom and because he alone knows what he wants, and no other man can recommend a better choice than whatever he decides in the pursuit of his own goals.
To the extent that people make bad decisions, though, let the market punish them. To the extent that people in large companies make bad decisions while managing the finances of most of the country, let the market do its work, effectively halting credit flow until new companies can take the field, however long that may take without credit flow. It would be longer and more painful in any other circumstances, as was expertly deduced by Austrian economists.
The market will not be desperate enough for revival that untrustworthy people would be allowed to fill the gap. It will not tolerate secrecy and lies just to restart the financial markets. We know this because the market can be described by the rational behavior of individuals, and individuals just don’t make those kinds of short-sighted mistakes–certainly not on a large scale or for important things.
Thus, it is proven rationally that the markets should not be interfered with, and the facts bear that out: every possible intervention would be of the sort that has been attempted, and what has been attempted clearly has been a corrupt giveaway. So, it is a sure thing that any other intervention would have resulted in similar corruption and failure.
In all the areas of human thought and reason, there is no other truth held with less doubt by kind-hearted smart people: the free market is always and everywhere the best solution to any problem, moral or otherwise.
Of course it was neither good nor bad thing as the rise and collapse of the whole economy was also tied to government.
It WOULD have been a good move if the government had said at the same time: OK let’s make clear it’s the last time. Now, we take progressive measures to end the FED, and restore Gold standard. That would have given the idea someone is in control. There’s (some) real hope.
The contrary happened. Therefore it’s part of a bad policy…leading to worse problems nobody even dares to think about.
Actually those 2 lines of thought are not necessarily inconsistent.
For example, the austrians predicting doom and gloom to which this fellow is referring were really referring to what would happen if there WERE massive federal intervention such has been going on now.
The other statements about the Fed scare-mongering to convince people it should do something, and Austrians saying that we should not be afraid of liquidation? The Austrian response of being optimistic is in relation to free enterprise performing its function of moving unproductive assets into the hands into productive enterprises.
In short, doom and gloom predictions are when Austrians see government intervention, while optimistic ones are were Austrians think of the outcome when the government MOVES THE HELL OUT OF THE WAY.
No Austrian will deny that things will get hairy (very very very hairy) in the short term. Let us recall what happened in the 1920-1921 recession. If I am not mistaken, capital values fell by roughly 33-40 percent in the span of like a month ( i am not sure if that is entirely correct, someone please correct me if I am not). But they rose back to equivalent levels in only about a year after bust. The economy came back on a sound footing in a very short period of time when free enterprise was allowed to do the job of liquidation.
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