How Government Inaction Ended The Depression Of 1921

Authored by Lew Rockwell via Mises Canada,

As the financial crisis of 2008 took shape, the policy recommendations were not slow in coming: why, economic stability and American prosperity demand fiscal and monetary stimulus to jump-start the sick economy back to life. And so we got fiscal stimulus, as well as a program of monetary expansion without precedent in US history.

David Stockman recently noted that we have in effect had fifteen solid years of stimulus — not just the high-profile programs like the $700 billion TARP and the $800 billion in fiscal stimulus, but also $4 trillion of money printing and 165 out of 180 months in which interest rates were either falling or held at rock-bottom levels.

The results have been underwhelming: the number of breadwinner jobs in the US is still two million lower than it was under Bill Clinton.

Economists of the Austrian school warned that this would happen. While other economists disagreed about whether fiscal or monetary stimulus would do the trick, the Austrians looked past this superficial debate and rejected intervention in all its forms.

The Austrians have very good theoretical reasons for opposing government stimulus programs, but those reasons are liable to remain unknown to the average person, who seldom studies economics and who even more seldom gives non-establishment opinion a fair hearing. That’s why it helps to be able to point to historical examples, which are more readily accessible to the non-specialist than is economic theory. If we can point to an economy correcting itself, this alone overturns the claim that government intervention is indispensable.

Possibly the most arresting (and overlooked) example of precisely this phenomenon is the case of the depression of 1920–21, which was characterized by a collapse in production and GDP and a spike in unemployment to double-digit levels. But by the time the federal government even began considering intervention, the crisis had ended. What Commerce Secretary Herbert Hoover deferentially called “The President’s Conference on Unemployment,” an idea he himself had cooked up to smooth out the business cycle, convened during what turned out to be the second month of the recovery, according to the National Bureau of Economic Research (NBER).

Indeed, according to the NBER, which announces the beginnings and ends of recessions, the depression began in January 1920 and ended in July 1921.

James Grant tells the story in his important and captivating new book The Forgotten Depression — 1921: The Crash That Cured Itself. A word about the author: Grant ranks among the most brilliant of financial experts. In addition to publishing his highly regarded newsletter, Grant’s Interest Rate Observer, for more than thirty years, Grant is a frequent (and anti-Fed) commentator on television and radio, the author of numerous other books, and a captivating speaker. We’ve been honored and delighted to feature him as a speaker at Mises Institute events.

What exactly were the Federal Reserve and the federal government doing during these eighteen months? The numbers don’t lie: monetary policy was contractionary during the period in question. Allan Meltzer, who is not an Austrian, wrote in A History of the Federal Reserve that “principal monetary aggregates fell throughout the recession.” He calculates a decline in M1 by 10.9 percent from March 1920 to January 1922, and in the monetary base by 6.4 percent from October 1920 to January 1922. “Quarterly average growth of the base,” he continues, “did not become positive until second quarter 1922, nine months after the NBER trough.”

The Fed raised its discount rate from 4 percent in 1919 to 7 percent in 1920 and 6 percent in 1921. By 1922, after the recovery was long since under way, it was reduced to 4 percent once again. Meanwhile, government spending also fell dramatically; as the economy emerged from the 1920–21 downturn, the budget was in the process of being reduced from $6.3 billion in 1920 to $3.2 billion in 1922. So the budget was being cut and the money supply was falling. “By the lights of Keynesian and monetarist doctrine alike,” writes Grant, “no more primitive or counterproductive policies could be imagined.” In addition, price deflation was more severe during 1920–21 than during any point in the Great Depression; from mid-1920 to mid-1921, the Consumer Price Index fell by 15.8 percent. We can only imagine the panic and the cries for intervention were we to observe such price movements today.

The episode fell down the proverbial memory hole, and Grant notes that he cannot find an example of a public figure ever having held up the 1920–21 example as a data point worth considering today. But although Keynesians today, now that the episode is being discussed once again, assure everyone that they are perfectly prepared to explain the episode away, in fact Keynesian economic historians in the past readily admitted that the swiftness of the recovery was something of a mystery to them, and that recovery had not been long in coming despite the absence of stimulus measures.

The policy of official inaction during the 1920–21 depression came about as a combination of circumstance and ideology. Woodrow Wilson had favored a more pronounced role for the federal government, but by the end of his term two factors made any such effort impossible. First, he was obsessed with the ratification of the Treaty of Versailles, and securing US membership in the League of Nations he had inspired. This concern eclipsed everything else. Second, a series of debilitating strokes left him unable to do much of anything by the fall of 1919, so any major domestic initiatives were out of the question. Because of the way fiscal years are dated, Wilson was in fact responsible for much of the postwar budget cutting, a substantial chunk of which occurred during the 1920–21 depression.

Warren Harding, meanwhile, was philosophically inclined to oppose government intervention and believed a downturn of this kind would work itself out if no obstacles were placed in its path. He declared in his acceptance speech at the 1920 Republican convention:

We will attempt intelligent and courageous deflation, and strike at government borrowing which enlarges the evil, and we will attack high cost of government with every energy and facility which attend Republican capacity. We promise that relief which will attend the halting of waste and extravagance, and the renewal of the practice of public economy, not alone because it will relieve tax burdens but because it will be an example to stimulate thrift and economy in private life.

 

Let us call to all the people for thrift and economy, for denial and sacrifice if need be, for a nationwide drive against extravagance and luxury, to a recommittal to simplicity of living, to that prudent and normal plan of life which is the health of the republic. There hasn’t been a recovery from the waste and abnormalities of war since the story of mankind was first written, except through work and saving, through industry and denial, while needless spending and heedless extravagance have marked every decay in the history of nations.

Harding, that least fashionable of American presidents, was likewise able to look at falling prices soberly and without today’s hysteria. He insisted that the commodity price deflation was unavoidable, and perhaps even salutary. “We hold that the shrinkage which has taken place is somewhat analogous to that which occurs when a balloon is punctured and the air escapes.” Moreover, said Harding, depressions followed inflation “just as surely as the tides ebb and flow,” but spending taxpayer money was no way to deal with the situation. “The excess of stimulation from that source is to be reckoned a cause of trouble rather than a source of cure.”

Even John Skelton Williams, comptroller of the currency under Woodrow Wilson and no friend of Harding, observed that the price deflation was “inevitable,” and that in any case “the country is now [1921] in many respects on a sounder basis, economically, than it has been for years.” And we should look forward to the day when “the private citizen is able to acquire, at the expenditure of $1 of his hard-earned money, something approximating the quantity and quality which that dollar commanded in prewar times.”

Thankfully for the reader, not only is Grant right on the history and the economics, but he also writes with a literary flair one scarcely expects from the world of financial commentary. And although he has all the facts and figures a reader could ask for, Grant is also a storyteller. This is no dry sheaf of statistics. It is full of personalities — businessmen, union bosses, presidents, economists — and relates so much more than the bare outline of the depression. Grant gives us an expert’s insight into the stock market’s fortunes, and those of American agriculture, industry, and more. He writes so engagingly that the reader almost doesn’t realize how difficult it is to make a book about a single economic episode utterly absorbing.

The example of 1920–21 was largely overlooked, except in specialized treatments of American economic history, for many decades. The cynic may be forgiven for suspecting that its incompatibility with today’s conventional wisdom, which urges demand management by experts and an ever-expanding mandate for the Fed, might have had something to do with that. Whatever the reason, it’s back now, as a rebuke to the planners with their equations and the cronies with their bailouts.

The Forgotten Depression has taken its rightful place within the corpus of Austro-libertarian revisionist history, that library of works that will lead you from the dead end of conventional opinion to the fresh air of economic and historical truth.

More Spending Does Not Drive More Employment

It is almost universally asserted today that consumer spending drives employment.

This thesis gives support to the general Keynesian idea that government should “stimulate” the economy when it is suffering from a recession, whether it is through fiscal or monetary policy.

Glorious Spending

At the core, the idea is that if spending on goods and services goes up, then more people are needed in their production. And, as a consequence, more people are able to get jobs, earn a wage, and thus buy goods and services. In other words, it doesn’t matter if government wastefully increases spending — even if it is borrowed money — because the economic wheels start turning and as growth picks up we’ll be able to deal with debt, deficits, and so on.

Not to mention the human suffering through involuntary unemployment and poverty that is averted by such a single act!

Government spending in a recession is therefore seen as an almost costless solution that we simply cannot afford not to make as much use of as possible.

So it is easy to understand why Keynesians are at best confused by those arguing against government stimulus, and would likely call them “evil” for opposing something so grand.

The problem is while the logic is easy to follow, it is based on an utterly false assumption. There is no such relation between consumer spending and employment as Keynesians believe is obvious.

The Economy Backwards

Treating the economy as demand driven is placing the cart before the horse. It is easily done if one does not include entrepreneurship or have a conception of what entrepreneurs do in an economy, as is commonly the case in the formal modeling of modern economics.

If we think of the economy in terms of equilibrium, then there is no reason to consider the entrepreneur. As a result, as Schumpeter noted, economics has become Hamlet without the Danish prince: a system view of the economy devoid of both actors and action.

But such a mechanistic view of the economic system is necessary to successfully argue for government intervention as a means to improve economies. The economic organism, in contrast, will always produce unintended consequences that undermine and make impossible such interventionism.

Furthermore, viewing the economy as a mechanistic system is also necessary for the very possibility of establishing and running a socialist economy. Indeed, the market socialists’ attempted rebuttal of Mises’ calculation argument implicitly assumes this mechanistic view. But Mises’ original argument does not — it is based on the view that entrepreneurship is the driving force of the market.

In a mechanistic, circular-flow view of the economy, too little spending is a problem as that causes a general glut, which in turn forces employers to cut costs and lay off workers. This is not how the real economy works, however. As Ricardo noted, "[the actual problem is that] men err in their productions, there is no deficiency of demand.".

The Role of Entrepreneurship

Economists prior to the Keynesian avalanche, which contemporary Say’s Law scholar Steve Kates argues was all about dismissing the organic view of the market economy, had the same understanding of the economy as Mises. What drives the economy is not demand or spending, but entrepreneurship and production.

Indeed, JS Mill famously notes that "Demand for commodities is not demand for labour" in his fourth fundamental proposition on capital. While this statement is subject to much debate and most modern economists cannot make sense of it, it is in effect very straight-forward if one recognizes the role of entrepreneurs.

What is it that entrepreneurs do? They produce in anticipation of being able to sell their goods and services. Whether there "is" demand for the individual entrepreneur’s undertaking depends on people’s valuations of the goods when they are offered. It also depends on what other goods and services they can choose to buy instead. Also relevant is how consumers view the world, because in some situations they will find saving instead of consuming the best course of action.

In other words, entrepreneurs bear the uncertainty of their enterprise. They anticipate that consumers will value their goods and, based on this, estimate the price. That price, in turn, determines what costs the entrepreneur can reasonably expect to cover in production, which means the entrepreneur’s actual choice is for the cost structure in production – the price is an anticipation of consumer value.

Spending Is Inconsequential

What this means is that entrepreneurs speculate about the future in which they will offer their intended goods for sale. Consequently, the investment to produce happens whether or not there “is” spending in the market. Entrepreneurs do not make decisions based on what is, but based on what they anticipate about the future. Production, of course, takes time, so what is at the time the decision is made is not very relevant for what will be when the production process is concluded.

This fundamentally undermines the Keynesian view of the economy, because the entrepreneur will employ people before demand is known — in fact, even before demand can be known.

When the entrepreneur is successful, which means the goods are eventually sold at a price that covers the cost of production, there is a relationship between spending (on those goods) and the profitability of the enterprise.

But if the entrepreneur fails, which means there is not sufficient demand to generate revenue to cover the costs, the enterprise still employed workers. Granted, if the entrepreneur does not believe the situation will change, those workers may lose their jobs. But the point is that the jobs are created whether or not there is spending.

The case of the successful entrepreneur actually only strengthens the argument that spending does not drive employment. If the entrepreneur realizes there is a much greater quantity demanded than he dared hope for, does this not drive employment? Not necessarily: there is nothing saying that the entrepreneur must employ more workers.

Rather, if this demand is anticipated to remain in force (it is still speculation), the entrepreneur will invest to increase production. This can be done by simply doubling down on the existing processes, but it is more likely that investments are made in automation. Higher production volumes make it easier to cover fixed upfront cost of machinery, and profits would suffer from relying on variable cost such as wages. Also, employing more people will require training of the workers — also an upfront investment.

But even if we disregard the observation that capital replaces labor (by making it more productive) and instead assume the entrepreneur simply doubles down on the initial production process, the Keynesian demand-driven view still falls. The investment to increase production volume is still in anticipation of future demand — not a response to existing demand.

There is no escaping the fact that production precedes consumption in a very real and fundamental sense: that entrepreneurs endeavor in production before they know that they will be able to sell the goods produced.

Spending is a possible outcome of entrepreneurial production, but not the other way around. The former does not employ people, but the latter does.

Japan GDP Surges 4%, Most In Two Years, On Jump In Government Stimulus Spending

Japan"s economy grew by 1% sequentially, and 4% on an annualized basis in Q2, smashing expectations of a 2.5% print and well above the upward revised 1.5% in the first quarter; it was also the the highest quarterly growth since a 5% print in Q2 2015, Japan"s Cabinet Office reported, and the 6th consecutive quarter of expansion for recently embattled Prime Minister Shinzo Abe, who has plunged in the polls following a series of corruption scandals.

The unexpectedly strong GDP print was driven by a 9.9% jump in private non-residential investment as well as an striking 21.9% annualized surge in public investment as some of the public works spending included in last year’s economic stimulus package starting to emerge; meanwhile exports declined.

On a sequential basis, GDP rose 1.0%, above the 0.6% expected, up from the 0.4% in Q1 and the highest print in just over two years.

Annualized private demand soared by 5.3%, or 1.3% higher compared to the first quarter, an impressive jump from the previous quarter’s rise of 0.2%. Private consumption rose 0.9% in Q2, more than double the 0.4% reported for the first quarter.  Aside from the clearly "one-time" surge in public investment, which in the second quarter exploded by an annualized 21.9% as some of the public works spending included in last year’s economic stimulus package have started to emerge, private non-residential investment climbed 2.4% from 0.9% in Q1, while government consumption grew 0.3%, bouncing from a 0.1% contraction in the prior quarter.

Finally, spoiling the otherwise pristine report was the unexpected drop in exports of goods and services which dropped 0.5% on a quarterly basis and -1.9% annualized, the lowest export number since Q2 of 2016. The plunge in net exports dragged Japan"s headline growth figure down 0.3% points.

Ahead of the number, Goldman"s Japan analyst Naohiko Baba said that "we estimate Apr-Jun real GDP growth of +2.4% qoq annualized, up from +1.0% in Jan-Mar. While we expect net exports to turn to a negative contributor, we think private-sector demand was strong for personal consumption and capex. We also expect double-digit growth for public capital formation, with some of the public works spending included in last year’s economic stimulus package starting to emerge. We think Apr-Jun GDP will show a clearer tilt toward domestic demand led growth. "

Separately, Barclays analysts said that "looking forward, we expect real GDP to rise an annualized 1.3% in Q3, 0.9% in Q4, and 1.0% in Q1 2018 on a q/q basis,” they wrote. “For Q3, we believe external demand will reverse to a positive contribution and anticipate a continued economic boost from last fiscal year’s second supplementary budget of 11 October 2016?.

Considering the absolute non-reaction in markets, where the USDJPY is up barely 20 pips in a delayed response to Japan"s "best" economic report in over two years, either nobody puts any credibility in this number, or just as likely, fundamental economic data no longer matters to any investing decisions.

Finally, as some commentators put it best on Twitter, "yen climbs on nuclear war. yen falls on strong GDP. good"

yen climbs on nuclear war. yen falls on strong GDP. good

— Lee Saks (@Lee_Saks) August 14, 2017

JPMorgan's Head Quant Doubles Down On His "Market Turmoil" Forecast: Here's Why

After getting virtually every market inflection point in 2015, and early 2016, so far 2017 has not been Marko Kolanovic"s year, whose increasingly more bearish forecasts have so far been foiled repeatedly by the market, and the same systematic traders that he periodically warns about. As a reminder, his most recent warning came last week, when he cautioned that even a modest rebound in VIX could lead to dramatic losses for vol sellers. As a reminder, here is the punchline from his latest note:

Days like May 17th and similar events "bring substantial risk for short volatility strategies. Given the low starting point of the VIX, these strategies are at risk of catastrophic losses. For some strategies, this would happen if the VIX increases from ~10 to only ~20 (not far from the historical average level for VIX). While historically such an increase never happened, we think that this time may be different and sudden increases of that magnitude are possible. One scenario would be of e.g. VIX increasing from ~10 to ~15, followed by a collapse in liquidity given the market’s knowledge that certain structures need to cover short positions.

So in light of a market that refuses to post even the smallest of drawdowns (we are not sure if the words "selling", "correction" or "crash" have been made illegal yet), has Kolanovic thrown in the towel and declared smooth seas ahead? To the contrary: in a note released late last night, he echoes warnings made recently by both Citi and BofA, and predicts that receding monetary accommodation from ECB and BOJ will likely lead to "market turmoil, and a rise in volatility and tail risks" and just in case there is some confusion, he reiterates what he said last week, namely that the "key risk of option selling programs is market crash risk."

In terms of near-term catalysts, what is Kolanovic most worried about? The same thing that Matt King warned about this week when he explained why he believes "markets will flounder as central banks try to exit" and showed the following chart:

Now it"s Kolanovic" turn to make essentially the same warning:

Equity Volatility has been suppressed by relentless supply via yield generating strategies, macro decorrelation and inflow into passive and quantitative strategies....  Risky assets have been rallying for years, and market volatility is near record lows. Valuations are high, arguably supported by low interest rates and record pace of central bank monetary expansion. However, this may change in the near future. In the US rates are rising and monetary accommodation from the ECB and BOJ is expected to recede. Medium term, this is likely to lead to market turmoil, and a rise in  volatility and tail risks.

Indeed, and by now we can only assume that the rest of the actively trading community is well aware of these very risks. And yet, stocks refuse to budge, which either confirms what Kolanovic said recently, namely that only 10% of all market decisions are made by human traders, or that as King speculated, the market is now so broken it can no longer discount the future, especially if the event to be discounted is precisely the one that broke it in the first place.

Below are some additional excerpts from Kolanovic"s latest note, explaining why he is doubling down on his "market turmoil" call:

The landscape: Volatility is low across the board

Volatility across asset classes is near all-time lows. We have written extensively about the drivers of current low volatility which we summarize below.

Current pace of the Global recovery does not warrant a high volatility regime. Global growth is tracking ~3%, with disinflationary drag receding. In the US, slow and steady growth have alleviated fears of imminent US recession and China hard landing risk has been contained by PBOC easing and large Government stimulus. Medium term, as rates in the US rise and balance sheets of global central banks recede, this positive growth narrative will likely increasingly come under pressure.

While fundamentally volatility should not be high, it is clear to us that the current macro environment does not warrant all-time low volatility either. For instance, our analyses point that in equities, implied and realized volatility may be suppressed by 4-8 points by various structural drivers.

Selling of volatility across asset classes is one of the key parts of risk premia/smart beta programs. Selling of volatility is a yield generating strategy that can be benchmarked against bond yields. The key risk of option selling programs is market crash risk. Global central banks have helped in both aspects by lowering yields and reducing crash risks, increasingly inviting strategies that sell volatility outright or implicitly.

Figure 2 below shows changes in global central banks’ assets (6-month change), and volatility of global equity markets (6-month volatility of MSCI World). One can see that in the 2007-2013 time period, central bank asset purchases leaned against major increases of market volatility and thus reduced market tail risk (see here). The current wide gap – with a near record pace of central bank balance sheet expansion (highest since 2011) and record low levels of market volatility – poses significant market risk. This risk is likely to materialize as the balance sheets of global central banks are pared in 2018 as described below.

G4 Central Banks have resorted to “unconventional” policy measures to stoke the global economy in the wake of the 2008 financial crisis. Various QE programs from the Fed, BoE, BoJ and ECB resulted in central bank balance sheets ballooning from $6Tr in 2009 to $14Tr at the end of 2016. G4 QE should expand by a further $2Tr this year. However, 2018 will mark a major shift in this dynamic according to our Economic team’s forecast, as G4 QE programs should fall off a “cliff” (Figure 2). This will notably be due to the ECB and BoJ scaling down their large scale asset purchases (by $950Bn and $500Bn, respectively), and the Fed actually shrinking the size of its UST/MBS holding (by $330Bn). Such a disengagement from central banks could facilitate disruptive market moves.

We think that the current low levels of volatility are not a new normal and will not last very long given the amount of leverage, rising rates, and the approaching reduction of central bank balance sheets. While we don’t know when the next recession will happen, every Fed hike is bringing us closer to it. Increasing allocation to hedges, specifically tail hedges, may be prudent.

One day, Marko"s magic will return. For now, however, the relentless drift higher continues.

Productivity Myths Shattered: Is Productivity Rising Or Falling? Why?

Authored by Mike Shedlock via MishTalk.com,

The debate over productivity rages on. Some believe productivity is understated. Others believe it is overstated.

Janet Yellen believes a lack of strong productivity gains may be responsible for tepid wage gains.

Financial Times writer Edward Luce is confused, as are many others. Luce discusses The Mystery of Weak US Productivity.

Osborne on Productivity

In 2105, then UK chancellor George Osborne made boosting UK Productivity a Priority.

“Let me be clear: improving the productivity of our country is the route to raising standards of living for everyone in this country,” he said. “Our future prosperity depends on it.”

Greenspan on Productivity

In an Interview with Gold Investor Alan Greenspan blamed the aging of baby boomers.

We have been through a protracted period of stagnant productivity growth, particularly in the developed world, driven largely by the aging of the ‘baby boom’ generation. Social benefits (entitlements in the US) are crowding out gross domestic savings, the primary source for funding investment, dollar for dollar. The decline in gross domestic savings as a share of GDP has suppressed gross non-residential capital investment.

Output per hour has been growing at approximately 1⁄2% annually in the US and other developed countries over the past five years, compared with an earlier growth rate closer to 2%. That is a huge difference, which is reflected proportionately in the gross domestic product and in people’s standard of living.

As productivity growth slows down, the whole economic system slows down. That has provoked despair and a consequent rise in economic populism from Brexit to Trump. Populism is not a philosophy or a concept, like socialism or capitalism, for example. Rather it is a cry of pain, where people are saying: Do something. Help!

Yellen on Productivity

On May 22, 2015, Janet Yellen pointed a finger at the recession while also blaming low productivity for lack of wage growth in her Outlook for the Economy.

I have mentioned the tepid pace of wage gains in recent years, and while I do take this as evidence of slack in the labor market, it also may be a reflection of relatively weak productivity growth.

Economists debate how optimistic to be about our nation’s productivity prospects. Some argue that the decade starting in the mid-1990s was exceptional, with unusually large advances in information technologies, and that the more recent period provides a better guide to the future. Others are more optimistic, suggesting that recent technological innovation remains as impressive as ever, and that history shows it may take some years to fully reap the economic benefits of such innovations.7 I do not know who is right, but I do believe that, as a nation, we should be pursuing policies to support longer-run growth in productivity.

It also is possible that a portion of the relatively weak productivity growth we have seen recently may be the result of the recession itself.

G7 Productivity 1975-2015

Chart from the Resolution Foundation.

Myth #1 Shattered

Yellen blamed the recession and lack of productivity for poor earnings growth. Greenspan blamed the aging of baby boomers.

Given real earnings have been nearly flat since 1979 while real output is up 94.9%, those theories are obviously faulty.

Doesn’t the Fed bother to test their theories against actual data? You have the answer.

The Fed is puzzled over rising income inequality. It ought to look in the mirror. Its bubble-blowing tactics and insistence on 2% inflation in a technological price-deflationary world are to blame.

Myth #2 Shattered

Economists and writers are puzzled by the decline in productivity. I can explain in a series of charts.

The decline in overall productivity is tied to a slowdown in manufacturing productivity. This too should not be hard to figure out.

Despite all the talk of burger robots, trucking robots, Amazon robots etc, productivity enhancements in the service sector are very slow

1. We need the same number if not more teachers, policeman, firefighters, etc.


2. We need an increasing number of nurses due to aging and poor diets.


3. We have not seen any enhancements in trucking or limo services.


4. Amazon likely boosted productivity but that is at the expense of a decline in productivity at brick-and-mortar stores. It takes a minimum number of people just to open the doors.

Why the Slowdown in Manufacturing?

In the first quarter of 1979, there were 17.465 million manufacturing employees. The index of real output was 69.789.

In the fourth quarter of 2016, there were 12.235 million manufacturing employees, a decline of 5.23 million jobs. Meanwhile, the index of real output jumped to 86% 129.665.

The law of diminishing returns is in play. Robots are not going to eliminate every job.

Profit Warning

Manufacturing shipments are down vs the index of aggregate wages. This is a strong profit warning.

Productivity Overstated or Understated?

Many believe productivity is understated. They cite cell phones and other technological advances.

That’s actually a reason to believe productivity is declining. People are tied to their phones for work. How many hours do people spend on the phone while on vacation, on weekends, or on their days off answering corporate emails?

There are no numbers on the above, nor are there any numbers on the hours that supervisors at McDonald’s, Target, Macys etc, put in. Given performance pressures on big box retailers, pressures to work more than 40 hours while getting paid for 40 hours must be intense.

Myth-Shattering Conclusions

1. Declining productivity is not responsible for tepid wage gains as many, if not most economists believe.


2. Declining overall productivity is directly tied to declining manufacturing productivity.


3. Service sector productivity is likely overstated due to off-hours work by email or phone.


4. The Fed’s serial bubble blowing efforts, bank bailouts, and insistence on 2% inflation in a deflationary world are to blame for stagnant real wages.


5. The Fed cannot do a damn thing to increase productivity other than to get the hell out of they way. Abolishing the Fed would be an excellent start.

Those who are baffled by productivity never bothered to put their theories to rudimentary tests.

Nonetheless, Greenspan is correct on some things, especially social benefits crowding out genuine investment. Thus, those proposing some sort of guaranteed minimum living wage are totally off base.

Entitlements are already a massive problem, let’s not make them worse.  Massive handouts have never solved any economic problems, and never will.

Missing Data

Unfortunately, there is no data prior to 1979 for my Myth #1 chart.

It is quite possible, if not highly likely, the productivity mess that appears to have started in 1979 has its actual roots in 1971 when Nixon closed the gold window.

Regardless, the above charts show the secular stagnation theory of Larry Summers and Brad DeLong is highly suspect.

Secular Stagnation Thesis

Brad DeLong discusses Larry Summers’ “secular stagnation thesis” in Three, Four… Many Secular Stagnations!

DeLong list 17 reasons and his number one reason is “High income inequality, which boosts savings too much because the rich can’t think of other things they’d rather do with their money.”

Pin the Tail on the Donkey

At no point does either DeLong or Summers pin the tail on this donkey. Neither can, because income inequality is a symptom of the problem.

That problem started the moment Nixon closed the gold window. The event is now described as “Nixon Shock”.

Indeed it was. Unencumbered by a need to redeem gold, credit exploded.

Credit Market Before and After Gold Window Closed

Gold Window Synopsis

1. Total credit exploded from $1.7 trillion to $63.5 trillion at the end of 2015.


2. To service that growing pile of debt, the Fed had to keep slashing interest rates.


3. Instead of allowing consumers to benefit from technological advances that are inherently price deflationary, the Fed sought to increase inflation. This is to the benefit of the banks and already wealthy.


4. A policy of 2% inflation coupled with no restraints on trade deficits (thanks to removal of the gold window), encouraged the outsourcing of jobs.


5. After the dot-com bubble burst in 2001, the Greenspan Fed stepped on gas blowing the biggest housing bubble on record. Then the Fed bailed out the banks, the asset holders and the wealthy. This chain of events left the median person being worse off than before.


6. Given that executive pay is based on performance, rising share prices further benefited the top 1%.


7. Fed policy itself, coupled with a rampant expansion of credit thanks to Nixon closing the gold window is totally responsible for the rising income inequality from 1971-present.

Attacking Symptoms

Instead of attacking the symptoms of the problem, as Summers and DeLong do, let’s be honest about the real problem. Let’s also be honest about the alleged scourge of deflation.

My Challenge to Keynesians “Prove Rising Prices Provide an Overall Economic Benefit” has gone unanswered.

There is no answer because history and logic both show that concerns over consumer price deflation are seriously misplaced.

The BIS did a study and found routine deflation was not any problem at all.

“Deflation may actually boost output. Lower prices increase real incomes and wealth. And they may also make export goods more competitive,” stated the BIS study.

For a discussion of the BIS study, please see Historical Perspective on CPI Deflations: How Damaging are They?

The final irony in this ridiculous mix is central bank policies stimulate massive wealth inequality fueled by soaring stock prices.

Grasping Reality With Both Hands

Delong’s blog is entitled “Grasping Reality With Both Hands“. It would behoove, Delong, Summers, and Ben Bernanke to do just that.

A good starting point is “why” income inequality is rising as opposed to investigating ridiculous wealth-transfer schemes and government stimulus projects in a fool’s mission to fix a problem that Summers, DeLong, Bernanke, Krugman, and Yellen all fail to understand.

Finally, it would be a good idea to consider what happens when service sector productivity picks up (and it will, led by driverless trucks).

Here’s a hint for Yellen: Millions of workers will be displaced and demand for jobs will pick up. Wages pressures will be to the downside, the opposite of what Yellen believes.