Jan. 24, 2008
Proving once again that public debate in this country is invariably about appearances rather than substance, everyone in Washington has been tripping over themselves trying to push their way to the front of the crowd demanding “swift action” to rescue our ailing economy. No sooner had world stock markets started indicating that the crash was finally at hand than we saw Hillary Clinton calling for a $70 billion stimulus package. Barack Obama, not to be outdone, presented his own $75 billion proposal. And President Bush, fiscal conservative that he is, trumped them both with a $150 billion package, including $100 billion in tax rebates.
Forgetting about the actual numbers for a moment, let’s think about what this all really means. As I have argued in a previous blog, many of the superficially appealing but fundamentally flawed notions that we hear about the economy are based on a basic misapprehension of the nature of money. The failure of the public and our elected leaders to understand what money really is has led to one wrong-headed policy after another. The only long-term solution is for the public to become better educated, so that they won’t fall for the kind of shenanigans that the folks in Washington are hoping will convince us that the coast is clear and that we should all run out and purchase another 110″ flat-screen TV.
So, let’s analyze the logic of a tax rebate a little more closely. First off, let’s simplify the language a little bit. Rather than call it a tax rebate, let’s call it what it really is – i.e. free money. The question, though, is whether its actually possible for the government to create free money.
Since the suspension of convertibility into gold, paper currency has had no “intrinsic value”. The only reason why we are all willing to give real goods and services in exchange for these worthless pieces of paper is because everyone else does likewise. The money itself has no actual value – it is simply a vehicle for facilitating the exchange of valuable goods and services. And, this is the key point for understanding why the government’s free-money policy can’t possibly work.
Let’s imagine a simplified economy consisting of just two people. Due to some combination of superior skill and greater cunning, Person A has managed to accumulate 95% of the total wealth in the system. Unfortunately, due to the fact that Person B has so little wealth at his disposal, both participants suffer, since Person B doesn’t have enough resources to pay Person A to engage in productive activity. If, in this case, Person A were to make a gift of 10% of his wealth to Person B, this would have a stimulative effect on the economy, since Person B would have a greater ability to engage the services of Person A, which would further increase Person A’s ability to purchase from Person B, and so on.
Returning from our theoretical example to the real world, let’s ask ourselves what it means for the government to give away free money. The key distinction to note is that, unlike Person A in the example, far from having excess wealth available, the U.S. Government is the largest debtor in the history of the planet. Yes, the government happens to control the printing presses and can churn out as much of this worthless paper as it wants, but the net result of this additional money cannot be stimulative unless it represents real wealth, which in this case it obviously doesn’t.
To further illustrate the principles involved, let’s imagine that, instead of going through the time and expense of sending out checks to every American citizen, the government decided to make things simpler by just telling everyone to take a number-two pencil and cross out the numbers on all of their dollar bills and double them. In one fell swoop, the government would have doubled the amount of money in circulation. Does anyone imagine that this would have any effect on the real economy other than to cause everyone to double the prices of everything? And, this is exactly the effect that the government’s current free-money policy is likely to have. Since the government doesn’t have any real wealth to put in people’s hands, the only long-run effect this action can have is to accelerate the declining value of the US dollar and push us another step closer to a hyperinflation that is seeming more and more likely with each passing day.