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Source link: http://archive.mises.org/11525/illusions-of-the-age-of-keynes/

Illusions of the Age of Keynes

January 25, 2010 by

You remember last January — change was on its way. We had a new rock-star president and he was going to get us out of the mess that Wall Street had got us into. The guy running the Federal Reserve is an expert on the Great Depression. FULL ARTICLE by Doug French

{ 7 comments }

fundamentalist January 25, 2010 at 8:57 am

Very interesting! Thanks! It advertises the fact that while mainstream economists claim to be empiricists, they completely ignore empirical evidence that contradicts their ideology.

Also, the article made me wonder how much Japan’s stimuli contributed to the US stock market and housing bubbles. Japan was famous for its carry trade, borrowing in yen and investing in dollars and other currencies. The Japanese flooded the world with paper yen, much of which was invested in the US, and as with most traditional cultures, the Japanese probably preferred real estate investments in the US. They did that once before in the 1980′s before their bubble popped, they bought massive amounts of US real estate and got burned in a smaller bubble collapse back then.

A. Viirlaid January 25, 2010 at 9:44 am

Thank you, Sir Doug French.

Very well explained. Concise. Elegant.

I am posting your essay’s link to a blog at one of our Canadian province’s (Ontario) educational TV sites (the station is known as TVO = TV Ontario):

http://www.tvo.org/cfmx/tvoorg/theagenda/index.cfm?page_id=3&message=commentAdded&blog_id=323&type_data_id=&action=blog&subaction=viewpost&post_id=11746&flag=&0=0

I am encouraging one of our best known educational programs “The Agenda” to undertake at least one episode to try to explain to TVO’s viewers exactly what you have in your article.

Many thanks again!

p.s. by the way, the link from your article (at the bottom) INTO the Blog does not work — it just brings back your article.
I had to go through the BLOGS tab and then I got to your Blog Page. Cheers!

Deefburger January 25, 2010 at 1:54 pm

Great article. The blog comments link is wrong, it’s self referential.

Stephen Grossman January 25, 2010 at 2:18 pm

>The blog comments link is wrong, it’s self referential

So is Keynsianism! He wanted an economy with “good” intentions and “In the long run, we’re all dead.” Mises said that in the long run, we’re suffering from the Keynsian long run. See Mark Skousen’s excellent, _Structure of Production_ on production over time. Ayn Rand discussed this in “Egalitarianism and Inflation.”

A. Viirlaid January 25, 2010 at 2:37 pm

Deefburger and Stephen Grossman, I like what you came up, between the 2 of you…

Keynesian Thinking is Recursive.

You try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work…

A. Viirlaid January 26, 2010 at 12:18 am

Dear fundamentalist, I totally agree with your first point — how can people like Krugman ignore the evidence that is right in front of their noses — as Doug French writes, Krugman has to go through painful contortions with his logic to just hang ‘by a thread’ with his mental fingernails to his beloved Keynesianism — if only he considered the Austrian view — he could avoid doing his contortions AND avoid using his mental fingernails — too much to ask, I guess, and not likely to happen.

As to your second point:

Also, the article made me wonder how much Japan’s stimuli contributed to the US stock market and housing bubbles. Japan was famous for its carry trade, borrowing in yen and investing in dollars and other currencies. The Japanese flooded the world with paper yen, much of which was invested in the US, and as with most traditional cultures, the Japanese probably preferred real estate investments in the US. They did that once before in the 1980′s before their bubble popped, they bought massive amounts of US real estate and got burned in a smaller bubble collapse back then.

The main point is not really problematic — just how you expressed yourself (IMHO).

Like America is doing today, and Japan has been doing all along (since 1991 or thereabouts) — both countries are now offering their ‘money’ at basically NO CHARGE — that is, interest rates for borrowers indicates almost FREE MONEY.

It is not so much Japan or the Japanese that took out loans at home and then sent that money to America to help the financial shenanigans that took place on this side of the Pacific Ocean —- instead it was Americans, Brits, and others who borrowed from Japan and brought Japan’s HOT MONEY here.

It was our hedge funds, market and real estate speculators (sometimes via financial intermediaries) who took out loans in Japanese yen and converted those funds to our local currencies. Our folks KNEW that Japan would DO ANYTHING to avoid letting the YEN appreciate relative to say, the American dollar. That made the so-called currency exchange risk very slight. Otherwise borrowers might have thought twice, if there was a bigger chance in losing on the exchange rate when repaying their loans (in appreciated YEN). But our ‘smart’ borrowers here understood that Japan was, and is, so wedded to their Export Model, that the Japanese will DO ANYTHING to ensure that the value of the YEN does not rise to a level that might harm their Export Engine and thus ‘harm’ (in their eyes) their overall Economy — I have a different opinion on this, but Japan is not asking for my opinion and besides that is not my main point here.

Just an aside — what you suggest can however often happen — this is when for example Hot Money is invested by the West in say Developing Asian Nations (DAN). This is what the ‘Asian Contagion’ was all about — the Western ‘investors’ decided, en masse, to repatriate their ‘investments’ — and we had a near-collapse in the East.

Getting back to my main ‘thread’…
Under normal circumstances when we borrow YEN and then convert to say to American currency in very large amounts over a long time (all other things being the ‘same’, which they never are), we might logically eventually expect the YEN to appreciate relative to the dollar.

Initially the reverse would be true, since the YEN is being used to ‘demand’ American money and the YEN itself is not being used or ‘demanded’ by the marketplace. But as the flows reverse and in Net Terms the loans BEGIN to be PAID BACK to Japanese lenders in YEN, the demand (and price) for YEN will start to rise.

Of course, as I suggested “all other things being the same” is actually never the case. One country will be printing paper, fiat money at a rate that is different than the other country. So the demand-for-money behaviors that I am describing can be influenced by these other factors and vice versa — the demand behaviors can influence the relative valuations of paper currencies.

In the case of Japan, the case was that yes indeed, as it appeared that the Carry-Trade was Being Wound Down, the YEN did appreciate relative to the dollar. Especially during the first phases of the GFC (Great Financial Collapse or Contraction — “takes your pick”) in 2007-2008.

At first The FED’s Money Presses kicked into high gear perhaps even higher than the BOJ’s (Bank of Japan’s). This would cause, all other things being the same, the value of the American Greenback to DROP relative to the Japanese YEN.

This made the YEN (along with reason of the repatriation of some of the Carry-Trade Borrowed Money back to Japan) rise relative to the dollar. Of course there is always the ‘background’ reason for the YEN to rise relative to the American Dollar, and that is the fact that Japan runs perpetual Trade Surpluses with America, as do so many other countries, like China. So how come, a reasonable person might ask, don’t all of those Trade Surplus Incurring Nations have their currencies Appreciate Relative to American money? Yes, and therein — that is, in the answer to that question — is the reason for all the Imbalances we have in the Financial World today. If you play around with Paper Fiat Currencies you can make all kinds of Weird Things Happen — in Voodoo Land, in the Looking Glass — nothing is as it seems. And of course with that horsing around we will as a collective trading world commit Economic Suicide.

Now it would appear that Uncle Sam has met its match in the determination-level of the Japanese. Both countries are in a race to see which nation can depreciate their currency faster. Thus both countries are now a source for the rest of the world, as a source of Hot Money — provided that other nations borrow these currencies — or allow ‘investors’ who here borrow those currencies to invest in those countries. Now what is happening is that ‘genius’ speculators are borrowing BOTH currencies and are using them to invest EVERYWHERE where it looks like the investing is ‘good’.

For both America and Japan, the idea being of course, that if you depreciate, in Keynesian terms, you gain some relative advantage in the Export Side of Your Economy.

What a Joke!

A Race to the Bottom!

But now as you suggest, these Carry Trades are creating Bubbles everywhere else — or at least in countries where it looks like their Central Banks are not as intent on destroying their currencies as the Japanese and Americans are.

I agree with your implication that these New Bubbles will end no less damagingly and indeed IMHO far more damagingly than the Housing and Financial Instruments’ Bubbles that burst here in the West.

Then there is the Bubble That Is China — that is a BUBBLE of a different order of Magnitude — let’s just call it the Double Bubble of Super Trouble.

A. Viirlaid January 28, 2010 at 7:30 pm

I should have been a little kinder to Keynes and his devotees.

I should have written:

Keynesian Thinking is Recursive.

There is a LDT (Little Down-Turn).
You try a Keynesian ‘Solution’. Problem ‘avoided’. But a bit more debt accumulated, a bit more Malinvestment incurred.

There is another LDT.
You try a Keynesian ‘Solution’. Problem ‘avoided’. But a bit more debt accumulated, a bit more Malinvestment incurred.

There is another LDT.
You try a Keynesian ‘Solution’. Problem ‘avoided’. But a bit more debt accumulated, a bit more Malinvestment incurred.

There is another LDT.
You try a Keynesian ‘Solution’. Problem ‘avoided’. But a bit more debt accumulated, a bit more Malinvestment incurred.

There is another LDT.
You try a Keynesian ‘Solution’. Problem ‘avoided’. But a bit more debt accumulated, a bit more Malinvestment incurred.

There is another LDT.
You try a Keynesian ‘Solution’. Problem ‘avoided’. But a bit more debt accumulated, a bit more Malinvestment incurred

By Now, there is quite a BIT of Debt, quite a BIT of Malinvestment.

That is when the next stage starts for Keynesians (where we are today) — hey, and who can blame them for following this next recursion?

No one, because the previous steps all seemed to ‘work’!?

You try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,
so you try Keynesian ‘Solutions’, they don’t work,

and so on…

How long will Japan stay in her current slump?
Just how long will she stay on her current course?

Exactly how long can you keep any Recursion going?

We will let the BOJ tell us the answer to that “Are you smarter Than a Fifth-Grader” question.

We can see that we are predestined to do the same thing.

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