Unfortunately, much of the policy advice offered recently by commentators, including many economists, is shockingly superficial. It is reminiscent of the simple prime-the-pump ideas of the early Keynes and does not acknowledge Keynes’s own cautions and qualifications after the General Theory was published, especially in his advisory work for the UK Treasury in the 1940s.
Activities that prevent or inhibit the re-allocation of resources out of their bubble-induced misdirected uses will only prolong the current recession. This kind of stimulus is not better than nothing. It is worse than nothing. FULL ARTICLE
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Dr. Rizzo,
More wise and insightful thinking. Thank you.
3. Stimulus should create net economic value and not destroy it.
Apparently, what is meant by stimulus is the creation of money out of thin air.
If that is the case, then it is IMPOSSIBLE to create net economic value in this way.
The reason is simple, and is enough to destroy the entire Keynes doctrine.
When money is created out of thin air, THE GOODS AND SERVICES that are supposed to be the result of the stimulus DO NOT YET EXIST.
Therefore, the very act of creating money out of thin air causes more money to be held against the ALREADY EXISTING goods and services.
Since money is the measure of value of anything, this causes A FALL OF THE VALUE of goods and services.
Therefore, IT IS IMPOSSIBLE to create economic value through stimulus.
Low interest rates did not lead to the housing boom. The housing boom was due to overspeculation in 4 markets in the US – Florida, CA, AZ and NV. These buyers purchased real estate to capture gains and would pay any interest rate just to be in the game. Regular buyers that were purchasing homes to live in were just taken along for the ride and paid for speculator excesses. And those of us outside these markets did not see the price run up but are seeing prices fall as buying fell nationwide.
The run up in oil is a good example of this problem. Oil prices ran up on nothing more than over speculation, it had nothing to do with supply and demand. As oil peaked, a few speculators started to pull out and short oil, leaving the majority of buyers holding contracts with hopes of recovering. And then the price collasped leaving the majority of the players holding the bag.
The other factor that is present in the run up in real estate and oil is leverage. This high level of leverage increased the rapid fall in prices as players were force with margin calls and needed to liqidate at any price.
I agree that the market forces need to correct this problem, but we need to set new rules to how the future markets are played.
Greg, What might induce speculators to ‘overspeculate’ en masse? Animal spirits? Why would the animals choose housing in particular? There were/are a zillion other endeavors to speculate on. Interest rates damn well matter and this society is victimized by the Fed’s manipulations.
Greg wrote
And then the price collasped leaving the majority of the players holding the bag.
The futures market is a zero-sum game – for every contract there is winner and a loser.
but we need to set new rules to how the future markets are played.
Which cretins should make these rules – the SEC? Barney Frank? Christopher Dodd? Chuck Schumer? Ben Bernanke? Hank Paulsen or Tim Gietner?
Walt,
Futures is a zero sum game, however there are less than 5% winners and the rest are loosers. And yes, there must be rules set in these markets. With only 5% winners, some people will work outside the limits to be one of the few that come out on top. A rule I would love to see is if you buy a futures contract you need to be in position to take delivery. The futures market was developed to allow suppliers and users to hedge their positions to help stabilize their operations.
Reason,
There is several factors that led to over speculation:
1. Media driven.
2. Exchanges creating new trading markets that allow a greater number of players. On housing, the fact you could play the Case-Shiller index is a good example.
3. As more people can play in these markets, the masses push prices higher and people chasing greater returns continue to pile on.
4. If you experience huge price increases beyond the basics of supply and demand, there is a good chance that the herd of sheep buying into the market is pushing the prices higher.
5. Playing in the futures markets you are highly leveraged and it is this leverage that magnifies the volume on both sides of the trade.
When I play in the futures market I have one rule. If a dog breed becomes desirable and the value increases, it is too late to start breeding dogs.
Investing in these markets is a game and all games must have rules to protect the property rights of all that are playing.
Reason,
As a person that built over 200 homes in the last 22 years, I can say interest rates don’t matter and was never a factor in my decision to build a spec.
When we go into the bank for a construction loan, the house gets appraised lets say $200,000. The bank will loan me $175,000. My hard cost is $165,000 which includes an interest reserve. So at closing, the bank gave me a check for $10,000 to build the house.
My decision to build a house was always driven by my best guess that we could sell the house within 9 months of starting. Plus, every spec should generate at least one custom contract.
I was selling homes when interest rates were 12% and when the rates hit 10%, the world was right again. But it isn’t the current rate that drives buyers, it is the idea that rates are going up that will move buyers into the market. If they feel rates are falling, they will hold off. The same applies with the current fall in prices, there are buyers out there, they are just waiting for all the dust to settle.
I currently do not have any specs and there is a reason. My decision to build specs is based on lot cost, lumber prices, labor cost and concrete, all which have a larger impact on the bottom line. When those prices went beyond my threshold, I stopped building specs. Interest rates as a percentage of cost is just not that big of a deal! And yes, it was overspeculation that drove those cost too high.
Greg there has been a mountain of empirical studies, evidence, and data which directly contradicts the assumptions you have concluded out of your own state of affairs.
I guarantee you that if interest rates had been at 20% people would reconsider in investing in an extra house or two.
No amount of media hype or tricky slick sales tactics will convince an entire population to over-speculate. It is only when people have the perception that they can afford such luxuries will they take the risk.
Ultimately however your argument cannot be backed by any statistical data or studies and will be refuted by just about every economic study done in the past 100 years by most schools of economic thought, not just Austrians. If you want a place to start reading here are a few links below.
http://www.nber.org/
http://www.shadowstats.com/
http://mises.org/daily/3128
This article alone challenges you to produce better data to defend your argument.
http://mises.org/daily/3130
This entire website in fact has repeatedly provided information for you.
There is a reason why producers/consumers who are experts in their respective industries are not automatically experts in economics. Because they often take personal experiences and try to rationalize on larger economic issues from them. You must first ignore your own personal experiences and do some serious objective concrete research first. That doesn’t mean your personal experiences are irrelevant but that you may only be seeing one side of the big picture. If you constantly use yourself as a witness however you will always be considered bias by default. Being bias doesn’t really help support any argument you present.
greg wrote:
If they feel rates are falling, they will hold off. The same applies with the current fall in prices, there are buyers out there, they are just waiting for all the dust to settle.
So then you agree with us that interest rates play a roll in a buyers decision to purchase a home, and that they are speculating on it’s value just as a stock trader speculates on the future value of his stocks. As a speculator, if the rate is higher then the risk involved in this investment is equally higher discouraging the risk in the first place.
greg says:
“With only 5% winners, some people will work outside the limits to be one of the few that come out on top. A rule I would love to see is if you buy a futures contract you need to be in position to take delivery. The futures market was developed to allow suppliers and users to hedge their positions to help stabilize their operations.”
this is nonsense. futures markets serve only to transfer risk (of course it’s a zero-sum game!) from hedgers to speculators. without the gearing, speculators are not going to participate; liquidity would dry up.
stick to what you know best, house construction, and leave futures to those who actually have worked in the industry and know what they’re talking about.
I agree with greg – the interest rates have negligent impact at best…
Here is an example – who cares if the interest rate on a mortage is 6.125% or 5.0% for as long as one is qualified, and the loan is spread out over significant time period…
I was always wondering myself how on earth can Fed’s Fed Fund and Discount rate cut alone cause all this mess??!!
And also, why nobody is talking about PMI – Private Mortgage Insurance? What happened to teh insurers? I haven’t heard of a single private mortgae insurer who went bust due to the housing crisis… Remember, all the subprimes and Net/ARM mortgaes had PMI’s on them… So weird…
“I believe that recent experience supports the claim that the economist and political philosopher Friedrich Hayek made in The Road to Serfdom in 1944. Democracy and central planning are incompatible or, at least, in deep tension.”
However democracy and central planning are directly compatible. It is individual liberty and central planning that are at odds. Hayek used the wide brush of the word “democracy”, meaning the individual freedoms we have/had.
Still and excellent essay!
If I understand this right, the fed interest rate is not as important as the “amount” of funds supplied. A low interest rate only benefits the fed’s favored banks if the money supply is also low. by the time the money gets to the consumer the interest could be very high.
On the other hand, if the rates are low and the supply of money is high, banks must compete for loans by offering low rates to consumers.
We would definately be better off with market interest and no monetary meddling but when in history has that actually ever occurred? Gold standards were better but governments and kings were always messing with them.
I think the entire financial system is out of control. there is no basic competition in the capital markets, they are all monopolized in one way or another.
To pbergn:
“Here is an example – who cares if the interest rate on a mortage is 6.125% or 5.0% for as long as one is qualified, and the loan is spread out over significant time period…”
Actually I cared very much about the interest rate. Someone that doesn’t care about it either has more money than they need, or they don’t care about paying more each month for the mortgage, or they don’t care about paying thousands of dollars more over the life of the loan.
You see, I can also use my personal experience as a gauge for how economics works, but that’s really quite absurd. Just because you don’t care about interest rates doesn’t mean the rest of the world doesn’t care, and it doesn’t change the natural reactions of all other consumers out there.
Interest rates have a HUGE impact on many, many things in the economy, as many articles on this site have so beautifully pointed out.
Cheers,
David
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