(This is Part 3 of a continuing series. Go back to Part 2.)
Let's turn to another area now, the area of finance, and see how our distinction betweens symptoms and causes might apply in this area.
Fundamentally, a society grows wealthier by savings and investment. By saving money from productive enterprise and then investing it in further productive enterprise, real wealth is created. It's an organic process that takes place over time, like a plant growing.
But human beings being what we are, we tend to look for shortcuts. And in the financial arena that means creating new money and credit artificially and then allowing the new money to disperse through the economy.
When this is done, at first the society seems to be getting something for nothing. After all, "prosperity" increases; business expands. What's not to like?
The thing to grasp is that excessive creations of money and credit are to an economy what drug stimulants are to a body. This stimulation of extra money and credit at first creates a primary effect—increased "prosperity".
But as with stimulants applied to a body, no new financial energy is actually being created. Yes, economic activity picks up—just as a stimulated body seems to have greater energy—but underneath, troublesome structural problems begin to develop.
First of all, easy money and credit create large distortions in the economy over time. Mal-investment abounds as many projects get funded that are not economically sound.
We see this particularly in China today, where all sorts of uneconomic projects get funded because local officials want them and because easy money is available. Over time, this has created severe dislocations—and has made the four biggest banks in China all technically bankrupt.
Second of all, artificial stimulation through excessive money and credit creation eventually brings about inflation. Every inflation in history has been caused by large increases in the money supply.
Two thousand years ago the Roman emperors debased the
denarius coin from 99% silver to .001% silver over a couple of centuries and thus were able to create vastly more money which the emperor could spend. A raging inflation then took hold in the Roman empire. Commerce eventually ground to a halt and soldiers could not be paid—in my opinion, the primary reason why Rome fell.
In the modern era a new tool is used—ever-increasing creation of credit. But of course new credit entering the economy is new money entering the economy. The net effect is the same.
What we're witnessing now is the largest credit bubble in history, world-wide. The U.S. and world economy is being juiced and stimulated by huge injections of credit on both the fiscal and financial sides, and as with any addiction the amount of the drug must keep increasing to get the same effect.
Because we're now at the end-stage of this process, it takes larger and larger amounts of credit to keep the game going. Even though we have the easiest money conditions in two generations, the economy is still laboring to gain traction. Meanwhile, asset inflation has been soaring, first in stocks and now in housing—soon to be followed by goods inflation.
Credit is the easiest I've ever seen or even read about. Phenomena such as 40-year mortgages and 7-year car loans are showing up. No-money-down for houses and $3000 to $6000 "cash-backs" to sell vehicles are now commonplace.
A friend of mine needed to be denied a loan by a bank in order to get an advantageous loan from a college on behalf of her daughter. She figured that was no problem;
she's unemployed. The bank approved her anyway. She called up the bank and said, "You don't understand; I'm unemployed." The bank said they didn't care and couldn't help but approve her.
(This is the end of Part 3. Go to Part 4.)
—jim sloman, 9.19.04 for Dec 16
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