Cash vs Wealth

Via C.J., Megan McArdle writes,

This is Keynes' famous argument that all spending is someone else's income. If we (hypothetically) decide to eliminate takeout from our menu and eat tuna sandwiches instead, we are saving money. But the restaurant loses it. By foregoing spending, we are pulling money out of the economy. This is the insight behind the liquidity trap--if everyone tries to hoard money by selling more goods and services while buying fewer, the total demand for goods and services will drop, and we will make ourselves worse off.

Isn't there a difference between cash and wealth? The amount of cash in an economy could double overnight and it wouldn't change how wealthy everyone is. Yet, Keynesian economics seems to imply that cash is the answer to everything; it drives the economy. Make sure it keeps moving and growing or else the economy will stall.

I've heard people joke recently, "I spent $5 on X; I'm doing my part to keep the economy going." Does spending really make the economy grow? I don't see it. It may divert demand from one place to another, or from later to the present, but overall, I don't see how it makes an economy grow. Economies grow when people come up with ways of making things more cheaply and with fewer resources. (Then again I'm not an economist.)

Let me propose another theory: Sure, people, banks, and companies are saving for self-serving reasons but the economy as a whole will eventually benefit as a result. This is not a prisoner's dilemma. The players are waiting till the dust clears. Those who made poor choices and took part in risky investments will either be liquidated or swallowed up by those who made better choices. The economy will benefit when the former have less say and the latter have more clout in the decisions of the economy. The future is very uncertain and thus, cash is king. When the instability passes, that cash will be very valuable and the time to spend will come. Better to "hoard" now and reap the benefits later instead of making risky spending decisions and investments now.

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Get Me Some Bastiat ASAP!


If we (hypothetically) decide to eliminate takeout from our menu and eat tuna sandwiches instead, we are saving money. But the restaurant loses it. By foregoing spending, we are pulling money out of the economy.

No, no and no! This is classic Broken Window Fallacy.

The money not spent on takeout is either spent on something else or it is saved/invested. If it spend on something else, then of course nothing has been taken "out of the economy." It has merely be diverted from one agent to another.

If the money is saved/invested, then it will (eventually) be deployed by the receiving institution (bank, firm, etc.) in some form (i.e., it will be "put back into the economy"). So again, nothing whatsoever has been "taken out of the economy." The "liquidity trap" is a metaphysical impossibility over any meaningful time horizon.

KipEsquire, A Stitch in Haste

Normally I'd agree...

...and so would most economists these days. No one, AFAIK, is arguing that the paradox of thrift holds generally. Nor is the paradox exactly equivalent to the broken window fallacy (though you're right that there are similarities).

Megan's argument, I take it, is that while normally saving money means that the bank reinvests it, thereby spurring growth, in this particular crisis, that's not happening. Because of some really crummy investments, bank balance sheets are in the toilet. They are badly overleveraged, and thus need bigger cash reserves to shore up balances. As a result, they are lending much less out -- in effect, the banks are saving, too. So we're not getting the normal returns from saving money. Because of a rather unique set of circumstances, we're in danger of being back to the days in which hoarding cash really could slow the economy.

Competition means the failures fail

Because of some really crummy investments, bank balance sheets are in the toilet.

Money needs to be invested well. "Investing" money in money pits is not investment, it is waste. Throwing good money after bad is not "shoring up" anything, it is accelerating the problem.

If bad investments lately have been destroying wealth - and they have (which is the problem) - then the people who have been making those bad investments need to stop making investments. What is the point of reviving a wealth-destroying machine?

I don't disagree

This sounds like a good argument against TARP, which I, too, thought was a pretty giant mistake.

It's less clear to me, though, that this is an argument against a stimulus bill per se. That's a different critter entirely from a bank bailout. The idea (which, admittedly, is more theory than practice) is that we find the good investments (to which money has clearly not been flowing) and pump some money into them.

I didn't mean to imply that I'm arguing for a bank bailout. I'm not. Citibank should be broken up and sold for parts. BOA probably should be, too. And I think the same should probably happen to at least GM and Chrysler. Probably a lot of other stuff as well. A stimulus bill isn't (or shouldn't be, anyway) a bailout of zombie firms. I don't see any good arguments for that.

Finding good investments

The idea (which, admittedly, is more theory than practice) is that we find the good investments (to which money has clearly not been flowing) and pump some money into them.

But if it is so obvious that these are good investments, then why isn't money flowing into them? It's not as though there isn't any money flowing at all. This is a huge economy and there is a ton of money flowing through it. The current stimulus is some small fraction of GDP. The stimulus is apparently to be spent over years, so we're talking GDP over several years. Is it really credible that there are good investments so obvious that even ignorant voters and politicians can see them but no private investors are interested? That sounds ridiculous.

I have money in the stock market. It's invested right now. If there is some great new thing that I should be investing in, then I'll sell some of my stock and buy in. But if, alternatively, these good investments are actually not any better than what I'm invested in now, then why is it so critical that government invest in them? Why shouldn't government just invest in the businesses that I and other private investors are already invested in. But then again, considering how huge the private investment in those companies is, why do we need government to add its drops to our ocean of investment?

If private investors are reluctant to invest in X, then that is probably because of uncertainty about the future of X. I think that there is good reason to be uncertain about the future of many businesses. We are in a period of great uncertainty about the future. It makes good sense to refrain from plunging our wealth into large investments if we are sufficiently uncertain about the future value of those investments. This is true both privately and publicly. It does neither the investor nor society generally any good if he throws his money into a money pit.

Anyway, government is unlikely to invest in anything but boondoggles. That is its specialty. So we need a government stimulus to the extent that we need a boondoggle. Keynes argued for boondoggle spending - paying people to dig holes and fill them up. Boston's Big Dig - the very definition of boondoggle - is a literal example of Keynes's recommendation. If you want to argue for a Keynesian approach, then it seems to me that you are polluting your argument with anti-Keynesian impurities and thus creating confusion with your talk of "good investments." As I have pointed out, distinguishing good investments from bad investments is the strength of the market economy, not the government economy, and the Keynesian recommendation siphons wealth away from the market economy and into the government economy, so it is directly opposed to the immediate end of making good investments. You may, therefore, want to argue for bad investments, thereby clarifying the underlying logic of the Keynesian position you are defending. You may argue that by making bad investments, you are pushing money around, and that by the magic of the multiplier those small bad investments will, indirectly, turn into large good investments.

If you want to argue for a

If you want to argue for a Keynesian approach, then it seems to me that you are polluting your argument with anti-Keynesian impurities and thus creating confusion with your talk of "good investments." As I have pointed out, distinguishing good investments from bad investments is the strength of the market economy, not the government economy, and the Keynesian recommendation siphons wealth away from the market economy and into the government economy, so it is directly opposed to the end of making good investments. You may, therefore, want to argue for bad investments, thereby clarifying the underlying logic of the Keynesian position you are defending.

I must confess that this puzzles me. I'm not sure if I'm being unclear or if you're misreading my intentions, but either way, this strikes me as a strange argument.

The line that I've been advancing isn't that Keynes is right and we should all ditch the Austrians and go back to Keynesianism. That would be a crazy position to argue anywhere, and certainly a futile one to advance at DR, of all places.

No, my argument is rather that, given a particular set of circumstances, a Keynesian-style solution might be right. I'm not sure why that should commit me to defending everything that Keynes himself says. Surely we needn't think that we're required to take our economic theories all-or-nothing. Nor, as far as I can tell, are we obligated to ditch every part of a theory simply because some (or even most) of the various parts are flawed. (If we do, then that sucks for Hayek; I'm pretty sure that the road to serfdom got derailed somewhere back when Europe continued to be socialists but refused to turn into nasty prison camps. That doesn't mean that Hayek wasn't right about a lot of other stuff, though.)

But if it is so obvious that these are good investments, then why isn't money flowing into them? It's not as though there isn't any money flowing at all. This is a huge economy and there is a ton of money flowing through it. The current stimulus is some small fraction of GDP. The stimulus is apparently to be spent over years, so we're talking GDP over several years. Is it really credible that there are good investments so obvious that even ignorant voters and politicians can see them but no private investors are interested? That sounds ridiculous.

Well, I suspect we're going to disagree on at least part of this, because I think that there are some genuine public goods problems and that government sometimes is the best of a bunch of bad options for solving them. So I'd be willing to argue that investments in various infrastructure projects (like, say, fixing widely-used roads and bridges or shoring up rail lines) are stimulative, good investments and legitimate uses of tax money anyway. I know that most DR readers will disagree with that, though.

But more troubling is that your response seems intent on ignoring basic facts about the world.

  1. The economy is currently contracting, not expanding.
  2. There are enough good investments out there to get the economy moving forward again. (This one, I'll admit, is something I take on faith, but I'd imagine we agree on it.)
  3. Money is not currently flowing into these investments. (follows from 1 & 2).

You seem to want to argue that the free market will ensure that money flows into good investments (i.e., that (2) will happen without any prompting). But what I (and, I take it, Megan and Krugman) have been arguing is that there might be good reason to think that money is not in fact going to flow into these investments, even if, in principle, they are good investments. Normally this wouldn't be the case. But, for the reasons I laid out in my earlier post, it does seem to be happening in this case. And the argument is further bolstered by the fact that money isn't flowing into good investments.

Now, there might be perfectly good reasons why each particular investor won't want to invest. But that, really, is the exact point that I'm making. It is, as you point out, rational for me to hold out. But when we all do that, it makes all of us worse off. The paradox of thrift is a problem precisely because it's a collective action problem. We sometimes call those market failures. And I'm arguing that this is an instance.

I know you're not going to like that. And I also know that liberals scream "market failure!" in a whole lot of cases where the real problem is not enough market. But I also know that libertarians are prone to digging in their heels and insisting that there is no such thing as an actual instance of market failure. That seems to be the tactic you're adopting in this case.

I'm not at all suggesting that the current stimulus bill is the solution. I'm arguing that if it really is the case that we face a collective action problem, then there isn't anything morally wrong with a stimulus. Solving collective action problems (I put defense and a minimal safety net into this category) is pretty much the only reason I see for governments to be in business. We can certainly argue about what form a stimulus should take. And I'm open to the argument that any attempt to solve the collective action problem will result in making things worse. Nevertheless, I think that there is in fact a collective action problem here and that it exists for reasons that Keynes happened to get right (even if for the wrong reason). I'm still unsure, though, why that should somehow commit me to everything in The General Theory.

Is it?

I must confess that this puzzles me.

Your thinking derives from Keynes. You have not thought every last detail through. No, you have not. Neither have I. You are leaning on Keynes. Keynes put a lot of thought into his own thinking, probably more than you have. Keynes understood what his proposals entailed and he was ready to bite the bullet. He was ready to say, yes, let us pay someone to dig holes and someone else to fill them in, because the multiplier will work anyway. You have convinced yourself that Keynes was right in part by failing to see what Keynes saw, by failing to realize that there was a bullet here that needed to be bit. You think we can have our cake and eat it, whereas even Keynes himself did not think that.

I'm not sure why that should commit me to defending everything that Keynes himself says.

Your own thinking has been superficial and half-baked. Hey, so has mine. But we are both leaning on economists who put one hell of a lot more thought into these things than we did. We are forgetting a ton of things but trusting that the great economists on whom we rely have thought about those things for us. Keynes is your great economist. He thought about those things. He understood that he needed to bite the bullet of recommending bad investments - paying people to dig holes.

You have gestured vaguely in the direction of a certain theory of economics. You are committed, yes you are, to the theory that you vaguely gestured in the direction of. You don't get to pretend that the embarrassing bits of it don't exist.

1. The economy is currently contracting, not expanding.
2. There are enough good investments out there to get the economy moving forward again. (This one, I'll admit, is something I take on faith, but I'd imagine we agree on it.)
3. Money is not currently flowing into these investments. (follows from 1 & 2).

It is not enough that there are good investments. There need to be knowably good investments. If you take it on faith that there are good investments then you are admitting that you yourself do not know what these investments are. And if you do not know, then perhaps these are not knowable - at least, not knowable to the likes of Congress, which is probably much stupider than you or me when it comes to economics and business. So the fundamental problem here seems to be a problem of knowledge. And that is not a problem that will be solved by throwing money randomly at stuff, which is the best we can expect from Congress.

Furthermore, an overall contraction does not stop money from flowing from one part of the economy to another, so an overall contraction does not stop investors from shifting what remains of their shrinking investment from one area to another. Thus money certainly can flow "into these investments" even in the middle of a contraction.

You seem to want to argue that the free market will ensure that money flows into good investments (i.e., that (2) will happen without any prompting).

That is a caricature of my argument. I have challenged you to explain why the government is better able to discern good investments than private individuals are. This does not require any belief on my part that the market is infallible. It requires distrust of government, but surely distrust of government is not the same thing as belief in the infallibility of the market.

You are not addressing the knowledge problem. You are assuming that there are knowably good investments that will lead to economic recovery. Keynes, wisely, apparently realized that he needed to acknowledge that the knowledge problem was a real problem and that he had to bite the bullet and say, yeah, okay, government is going to spend the money on boondoggles but that's okay, my plan will still work anyway - i.e., that any investment whatsoever even bad ones will lead to economic recovery. Keynes realized he needed to maintain this. You, who are relying on Keynes, don't want to acknowledge what Keynes acknowledged. You want to assume that government can direct investment wisely, and this assumption is like whipped cream that makes the Keynesian proposal less unpalatable to you.

Now, there might be perfectly good reasons why each particular investor won't want to invest. But that, really, is the exact point that I'm making. It is, as you point out, rational for me to hold out. But when we all do that, it makes all of us worse off. The paradox of thrift is a problem precisely because it's a collective action problem. We sometimes call those market failures. And I'm arguing that this is an instance.

But private investors already have a ton of wealth invested in companies right now - and they can shift their investment at a moment's notice by selling and buying stock so that their money flows "into these investments" - the ones you have faith exist and that would lead to economic recovery. In order for them to refuse to shift their investments to other investments, it must be the case that these other investments are not as profitable as their current investments. And you acknowledge this: you are acknowledging that (say) McDonald's is a good investment and that (say) Trillian Gismos is a bad investment in the current environment but would be a good investment in an environment which would be produced by investing enough in Trillian Gismos, but we are currently in an environment where I'm not selling my McDonald's stock and buying Trillian Gismos stock. You believe that if enough investors invested in Trillian Gismos then that would change the environment and the better environment would, in turn, make Trillian Gismos a better investment. I'm just trying to clarify your claim with a hypothetical concrete version.

Sheer speculation. How is government supposed to know that Trillian Gismos (or any specific investment or set of investments) would be a good investment if enough money was invested in it? And why wouldn't private companies make the investment? Pfizer is about to acquire Wyeth. These are huge companies. Gobs of money are going to be spent, 68 billion dollars - a significant fraction of the stimulus, as a matter of fact. And Pfizer is one company in a much vaster private economy (quick googling suggests total capital value of the US economy is 50 trillion dollars). Evidently the private economy is capable of spending gobs of money on stuff. If willing to spend many billions acquiring a company, why not spend many billions building a new company? Uncertainty about the future? But you speculate that there is a knowably good investment that would work if enough money was thrown at it.

Nevertheless, I think that there is in fact a collective action problem here and that it exists for reasons that Keynes happened to get right (even if for the wrong reason).

I doubt you know it was the wrong reason. I don't know that. What part of your argument does not come from Keynes? If his reasons were wrong, then chances are your reasons are wrong.

But we are both leaning on

But we are both leaning on economists who put one hell of a lot more thought into these things than we did. We are forgetting a ton of things but trusting that the great economists on whom we rely have thought about those things for us. Keynes is your great economist. He thought about those things. He understood that he needed to bite the bullet of recommending bad investments - paying people to dig holes.

You have gestured vaguely in the direction of a certain theory of economics. You are committed, yes you are, to the theory that you vaguely gestured in the direction of. You don't get to pretend that the embarrassing bits of it don't exist.

This is a really strange position to take. It's not clear to me why on earth we should think that believing some parts of a theoretical model to be accurate commits us to accepting every single part of the model.

Let's take a different sort of example. As it happens, I believe that force is equal to mass times acceleration. Now, I haven't studied this as fully as many people; I'm no more (indeed, I'm actually far less, if such a thing is possible) a physicist than I am an economist. I've read Principia Mathematica and I kind of understood most of it. At one point, I followed the math well enough to understand why F=ma. I couldn't derive the equation any longer, but I nevertheless still believe that if I step in front of a truck, I will be hit with a force that is equivalent to the product of the truck's mass and its change in velocity.

Now, having said all that, it would be strange indeed if you were to then accuse me of rejecting relativity. I mean, after all, Newton was way smarter than I. And he thought his theory through far more fully than I ever have or indeed could. And Newton believed that F=ma held in every set of circumstances. So, since I believe that stepping in front of a truck would result in a force equal to its mass times its acceleration must clearly commit me, like Newton, to believing that F=ma holds at all times and for all places. Right?

Of course, that would be a crazy accusation. It's not at all inconsistent for me to believe that the force imparted by a Mack rumbling down U.S. 50 is calculated differently from the force imparted by a Bussard ramjet 6 months into its acceleration curve. I can, IOW, believe that Newton is right in certain cases and also believe that Einstein is right in other very different cases. Arguing that X is a case where Newton applies hardly commits me to the belief that Newton is always and forever right about all things physics.

But it appears to me that it's precisely analogous to the accusation you've leveled against me. Because Keynes was really smart and better understood this stuff than I, any agreement with Keynes about any particular application of the theory must therefore commit me to all of it. It's a strange argument.

And, indeed, I wonder if it's one that you'd still be willing to make in the face of statements like this:

Keynes is brilliant as a historian of thought when praising but almost always wrong when criticizing.

Or this:

Although Keynes died more than a half-century ago, his diagnosis of recessions and depressions remains the foundation of modern macroeconomics. His insights go a long way toward explaining the challenges we now confront.

The first of those is from Tyler Cowen. The second is Greg Mankiw. I suspect that they'll both be surprised to hear that they are really closet Keynesians.

You also write:

You, who are relying on Keynes, don't want to acknowledge what Keynes acknowledged. You want to assume that government can direct investment wisely, and this assumption is like whipped cream that makes the Keynesian proposal less unpalatable to you.

This seems equally to be a caricature of my position. I don't deny that governments invest in boondoggles. I don't even deny that governments frequently invest in boondoggles. But I also don't deny that all government investments are by definition boondoggles. Indeed, as bad as the actual stimulus bill is (and I think it's really quite bad), it still remains the case that some very good economists at the CBO seem to think that it'll work as short-term stimulus. (Whether it's a good idea in the long run will depend on the extent to which anyone is willing to address future spending. I'm pessimistic about that, which is why I'm not really all that excited about the stimulus package as proposed.)

If even a crappy bill will work, then it doesn't seem all that strange to think that a better bill (which is at least a conceptual, if not a political possibility) might have an even better effect.

Really?

It's not clear to me why on earth we should think that believing some parts of a theoretical model to be accurate commits us to accepting every single part of the model.

I am asserting that Keynes recognized a truth about a certain cost that you apparently do not recognize. Keynes said essentially that the benefit outweighed the cost. In contrast, you are neglecting the cost. Take this as an assertion. I am here agreeing with Keynes that the Keynesian proposal has that cost, and you are, apparently, disagreeing with Keynes. I am pointing out that Keynes understood the problems with the proposal better than you do. He apparently understood that government can hardly be relied on to spend wisely. I agree. He apparently believed that the multiplier would compensate for this cost. I disagree with him on this point. Or more precisely, I do not agree but I try to be open to arguments, but I continually find them seriously lacking.

Insofar as you refuse to "accept this part" of Keynes, then the difference between your model and his is that you have even greater faith in the power of government to do good than Keynes did.

But I also don't deny that all government investments are by definition boondoggles.

I think you want to re-word that statement. Read it carefully.

Indeed, as bad as the actual stimulus bill is (and I think it's really quite bad), it still remains the case that some very good economists at the CBO seem to think that it'll work as short-term stimulus.

That's not the issue. The issue is whether it would be a net benefit. "Stimulus" is not "benefit". If people are "stimulated" to do wasteful unnecessary work, that's not a net benefit while still being a stimulus.

No costs?

In the very post to which you're commenting, I write:

This seems equally to be a caricature of my position. I don't deny that governments invest in boondoggles. I don't even deny that governments frequently invest in boondoggles. But I also don't deny that all government investments are by definition boondoggles. Indeed, as bad as the actual stimulus bill is (and I think it's really quite bad), it still remains the case that some very good economists at the CBO seem to think that it'll work as short-term stimulus. (Whether it's a good idea in the long run will depend on the extent to which anyone is willing to address future spending. I'm pessimistic about that, which is why I'm not really all that excited about the stimulus package as proposed.)

What part of that fails to recognize that there are costs to a stimulus, exactly? Over the short term, it will increase GDP and reduce unemployment(according to CBO). Over the long term, it will depress GDP and employment, in that it adds massively to debt. So a stimulus would require some serious trade-offs somewhere. Moreover, I admitted that some of the spending will go toward boondoggles. But suggest that it might be worth doing anyway, precisely because some of it won't, and that some will be enough (again, according to CBO) to get the economy rolling again.

I think that your response here has shifted the goalposts from your initial complaint. And I think that this one has even less merit, as I actually do the very thing you're accusing me of not doing in the post to which you're responding. If you're not going to actually give me credit for what I do so, but respond instead to some caricature liberal strawman, then it's hard to see how this is going to be a productive conversation.

Though in this case:

But I also don't deny that all government investments are by definition boondoggles.

You're right. That's not what I meant to say. Nice catch. Clearly I need an editor. :-)

As for your claim here:

That's not the issue. The issue is whether it would be a net benefit. "Stimulus" is not "benefit". If people are "stimulated" to do wasteful unnecessary work, that's not a net benefit while still being a stimulus.

The CBO says that the stimulus will increase GDP. That strikes me as a good thing. But maybe you've a different way of measuring benefits under which increased GDP doesn't count as one (or, perhaps more charitably, under which stimulus-spurred GDP growth is outweighed by other costs)?

Economic forecasts

The CBO says that the stimulus will increase GDP.

Someone being paid top dollar to dig holes and fill them in is counted as part of the GDP exactly as much as someone being paid the exact same amount to do something worthwhile, but it's obviously not actually production of anything valuable. GDP is often a reasonable measure of genuine productivity, but this assumes that the amount paid is reasonably closely related to the value of the product, and this assumption needs to be relaxed precisely when it is government spending that we're talking about.

But maybe you've a different way of measuring benefits under which increased GDP doesn't count as one

Government predictably wastes money on projects worth far less than what they cost. Therefore an additional contribution by government to GDP is predictably larger than its additional contribution to actual wealth creation.

A large part of why I bothered discussing this in the first place was the statement that "Megan's argument seems pretty solid." I saw the argument and it looked like it had more holes than swiss cheese. I tried to push against this argument, but now I see you citing authorities in favor of your view, which is utterly uninteresting to me, because it does nothing to shore up Megan's argument in the sense I was anticipating, since by "solid argument" I did not take you as meaning "people with impressive credentials agree with Megan."

In the meantime your attempts to distance yourself from Keynes have left me bewildered as to what your argument even is. It's a bit like you arguing that force equals mass times acceleration, only the mass needs to be a well-invested mass, not a boondoggle mass. And then when I say, you know, Newton didn't specify that it had to be a well-invested mass, his statement was universal, that was kind of the whole point and by violating that point you're just making an unrecognizable mess of it, you reply, why should accepting one part of Newton's theory of mechanics force you to accept all parts.

Here's an example of the confusion: you cite the authority of the CBO as evidence in your favor. But the CBO claims that the stimulus bill improves GDP. How is this evidence in your favor? It is evidence in Keynes's favor. The wasteful stimulus bill illustrates Keynes's advice to spend money even on digging holes and filling them in. But you claimed over and over in response to me that you reject that aspect of Keynes's view. The view which is illustrated by the wastefulness, which you yourself have admitted, of the stimulus bill.

You say:

bad as the actual stimulus bill is (and I think it's really quite bad), it still remains the case that some very good economists at the CBO seem to think that it'll work as short-term stimulus.

That is not much different from saying: bad as it is to pay people to dig holes and fill them in, even that will work as a short-term stimulus.

So you in fact are in effect asserting the stronger form of the position that I suggested you assert. Remember, I had suggested the following, which you ran away from:

You may, therefore, want to argue for bad investments, thereby clarifying the underlying logic of the Keynesian position you are defending.

Which is what you are now doing in citing the CBO's predictions about the effects of the "really quite bad" (your own words) stimulus bill. You have taken my advice while damning me for giving it.

in effect, the banks are

in effect, the banks are saving, too. So we're not getting the normal returns from saving money.

Excellent point -- I wish it were more widely understood. That has to happen before we can begin to recover. Once the banks have rebuilt their cash reserves, they will resume lending. In the meantime, keep saving. That's how it seems to my little non-economist brain at any rate.

Correct in Spirit but Wrong in Fact

I agree with this statement with one caveat.

Some banks might be doing actual saving, if their increased cash is backed by actual increases in goods. I don't think this is a very big percentage if you look at the numbers because most of the increases in bank reserves was via bailouts, and that is unbacked savings.

The Fed printing up banknotes to buy crap assets isn't exactly creating wealth. In reality the banks were bankrupt and thus not saving, but losing money.

Certainly you got the spirit correct. We need actual savings and that can't happen via the Fed.

not an economist?

Maybe you ought to be an economist. Your summation is better than most of the crap that "economists" argue, anyways...

Humbug. Donald wears the

Humbug. Donald wears the pants around here.

Now das real

Hoarding Money

From Megan's article, and my comment in response:

"There's a problem with this crude, version, of course: it's only true if we hoard the money in the form of cash. "

The liquidity trap a.k.a. paradox of thrift is stupid regardless. To believe even this much requires a complete misunderstanding of economics.

Agrarian economies are all about hoarding. In order to save up for the winter people need to "hoard". There are two ways to do this.

1) Every person buys all the goods they need to get them through the winter during fall harvest. In which case each person needs their own storage equipment for every different kind of good. They need to store fuel, food, clothing, etc. Which means they cannot specialize. Hows a baker suppose to bake bread when wheat is distributed evenly to the entire population.

2) They can hoard cash and let the producers of these goods hoard their products. Then the producers can specialize in storage. Over the winter the people deplete their stores of cash while the producers their stores of goods. By spring the producers have the cash to employ people in planting.

The second option is far more efficient than the first because everyone specializes. In fact "hoarding" money is all about keeping the wheels of the economy rolling.

What we are experiencing now is not due to hoarding cash. It's due to fractional reserve banking. A pyramid scheme of grand proportions is unwinding.

In fact, the solution to the problem at this point is precisely "hoarding" or as it is otherwise non-disparagingly known as, saving.

The other antidote to the problem is price deflation. Another thing the economically ignorant fear will harm the economy.

I could write an entire book on all the economic fallacies that play into this idea that hoarding is bad for the economy.

You know that scene in Planet of the Apes where the astronaut realizes that none of the humans can speak. It dawns on him that he might as well be living with a bunch of monkeys. Well that's how I feel about the competence of 99% of people when it comes to economics.

Frankly, I don't know how anyone can be so stupid as to believe that saving money in the form of cash is a bad thing. They call it the "paradox" of thrift precisely because any idiot should be smart enough to see it isn't. Exactly in the sense of Zeno's paradox.

As everyone knows we can move about freely despite Zeno's "proving" it's impossible. What's more likely, that he made a mistake or that there is a paradox?

Keynes was like Zeno, a smart guy who was prone to logical errors. Someone who argued for the most ridiculous ideas. The guy who believed that counterfeiting money and throwing it out of helicopters was good for the economy.

BTW, Banks have not "stopped" lending. Lending rate merely leveled off, and never dropped. My son just took out a loan and I'm about to for a car. No problem.

What's happening is a bunch of rich fat cats are currently trying and succeeding in unloading their bad "investments" on the taxpayer. That and a bunch of pork barrel spending.

This is how a bank run looks with a central bank, fiat currency, FDIC insurance, and a bunch of crooks running the country.

Wait till that Ponzi scheme called Social Security blows up in our faces.

Cash v. Weath

Jonathan: that's a fair point. You're certainly right that cash in and of itself doesn't have much to do with wealth.

I guess maybe the worry is less about keeping the cash supply growing and more about keeping it flowing. You're right that we don't increase wealth by increasing cash supply. But in a modern economy, it's not clear to me that you can increase wealth without some cash flow -- at least not on a large scale. If cash/credit completely froze, I couldn't implement my new, way-more-efficient manufacturing process or upgrade my computer system in order to cut down on inefficiency or build my new time-saving device. IOW, it's not my $5 purchase of X that stimulates growth; it's what the manufacturer of X does with my $5 that (may) stimulate growth.

Maybe a shorter way to put the point is that while moving cash around is not a sufficient condition for economic growth, it is a necessary one.

Cash needs to stop flowing

I guess maybe the worry is less about keeping the cash supply growing and more about keeping it flowing.

Cash flow is not wealth creation. If cash flows into a money pit, a boondoggle, that is not wealth creation but wealth destruction. If a lot of cash has been flowing into money pits lately - and it has - then that flow needs to be stopped.

If cash/credit completely froze, I couldn't implement my new, way-more-efficient manufacturing process or upgrade my computer system in order to cut down on inefficiency or build my new time-saving device.

If cash keeps flowing into money pits then it can't flow into your superior manufacturing process. The hemorrhaging of money into money pits needs to be stopped in order for that money to start flowing where it needs to flow. Flows of money as such are not a good thing.

Keep in mind that money is flowing. It's just flowing less. That's pretty much what we would expect if wasteful flows made up a large fraction of the flow and if those wasteful flows have stopped.

Wasteful flows of cash are not just flows of cash but are payments to people to do work. That work has been getting wasted, so it has been the equivalent of digging holes in the ground and then filling them up again. When the wasteful flows of cash dried up, a lot of these people lost their jobs. That's not unexpected or even, on the whole, a bad thing. If someone's job is to kick you in the head and if they have specialized and become quite good at it, then it's not, on the whole, a bad thing if they lose their job. Right now they need to figure out - we all need to figure out - what to do that actually needs doing and is not a waste of effort. That's going to take time.

I'm aware of the idea that may actually be a good thing for money to be thrown into money pits. Either Keynes or an expositor came out and said that it can be a good thing to pay people to dig holes and then fill them up, because of indirect effects on the economy. I'm not disputing that idea here (though I am not agreeing with it either). All I am doing in this comment is bringing up the distinction between good spending and bad spending, which distinction was missing from your discussion of cash flow. It's a really important distinction, especially in the current situation because it was bad spending that got us into this mess. Any argument you want to make for a stimulus needs to recognize it and deal with it, rather than ignore it. Whatever your position, I don't think you or anyone is denying that bad spending got us into this mess in the first place (you yourself specifically brought up crummy investments as a causal factor), and that bad spending needs to be reduced. And I don't think anyone, if they are forced to look at the reality of it, will deny that if you are proposing to throw good money after bad then you are doing precisely the opposite of reducing bad spending, so you need a damn good argument that the benefits will outweigh the obvious and sizable cost. Remember that up to now we have been throwing good money after bad and it got us into this mess.

Money is not money

When Keynes was writing "money" was gold and silver. The folding paper theoretically represented metals being held by the govt. One could take a silver certificate to a Federal Reserve Bank and trade it for money. people used real silver dollars in slot machines.

The stuff we call "money" are defacto IOUs that can be traded for goods and services. The only difference between my IOU and the govts IOU is the "full faith and credit" stuff. No one has faith in my credit except Amex, Discover et alia.

But in either case there is no purpose in keeping IOUs under the bed. Better to loan them to a bank or credit union.

Wealth, Illth, Money, and the Financial Crisis

You might want to check out my Nolan Chart column, "Wealth, Illth, Money, and the Financial Crisis":

http://www.nolanchart.com/article5480.html