Subsidizing Badness

Mr. Rockwell writes in his piece "The Myth of Good Government": "If ... money is used to prop up failing companies, that's particularly bad since it is an attempt to override market realities, an attempt that is about as successful as trying to repeal gravity by throwing things up in the air."

Redirecting the market economy to have resources flow out of relatively sound lines of production and into relatively unsound lines of production cannot possibly speed along the recovery. As Henry Hazlitt said, doing this will drive capital and labor "out of industries in which they are more efficiently employed to be diverted to an industry in which they are less efficiently employed. Less wealth is created. The average standard of living is lowered compared with what it would have been."

Government interventionism that does this, in essence, rewards those who have used their resources and money unwisely and punishes those who have used their resources and money wisely. No sound economy can work on this principle without bad consequences.

When you think about this, it becomes apparent that this is how almost all statist interventions work. Many of the government's operations work on a principle that has the effect of rewarding losers and punishing thrifty individuals. Jeffrey Tucker's wonderful article "Good Kids, Bad Kids" does a great job illustrating this point; a point that I have been recently talking about to a friend.

As a young man I have seen how public education reacts to students who should not be there. If you are around my age (or younger), then you know what I mean. In no sense should these specific youngsters be at school. But compulsory education forces them to be there, despite their loutish behavior and almost complete uninterest in academic work. On net they contribute more negative than positive to the environment.

Instead of a system that expels them (punishes them), and thereby forces them into the workforce to develop productive and civilized skills, the system practically allows them to get away with their conduct and/or places them into "special education." This not only brings down the environment, and thus hurts students that should/can be there, but it additionally has a bad impact on these youngsters as well. They are allowed to "free ride" the system and do not get their just ejection which would have forced them to mature. As a whole, society is hence made worse off. This entire system sets into motion an increase of uncivilized behavior and decrease of civilized behavior.

To return to Mr. Tucker's article, he mentions that inflation is a prime example of how the State "discourages goodness and subsidizes badness." That it is. Nothing is so forcefully fused into the market economy than monetary socialism.

Money, as you all know, is what makes the market work. It is what allows transactions to develop without the need to constantly pray and hope for a double coincidence of wants. Money integrates the economy. It is similar to language. Furthermore, it is what allows the vital importance of cost accounting (calculation) to develop.

Thus to impose socialism in this vital area----the economy's "lifeblood"----is only asking for trouble. And, yes, trouble is what we have got from this arrangement. Financial incompetence is what monetary socialism rewards. Society becomes a credit card society. "It rewards," Tucker writes, "short-term thinking and punishes long-term thinking. It rewards debtors and punishes savers. To that extent, it degrades our characters and causes cultural decline."

One of the side effects of inflation is the distortion of cost accounting. Murray Rothbard wrote in What Has Government Done To Our Money:

“By creating illusory profits and distorting economic calculation, inflation will suspend the free market's penalizing of inefficient, and rewarding of efficient, firms. Almost all firms will seemingly prosper. The general atmosphere of a 'sellers' market' will lead to a decline in the quality of goods and of service to consumers, since consumers often resist price increases less when they occur in the form of downgrading of quality. The quality of work will decline in an inflation for a more subtle reason: people become enamored of 'get-rich-quick' schemes, seemingly within their grasp in an era of ever-rising prices, and often scorn sober effort. Inflation also penalizes thrift and encourages debt, for any sum of money loaned will be repaid in dollars of lower purchasing power than when originally received. The incentive, then, is to borrow and repay later rather than save and lend. Inflation, therefore, lowers the general standard of living in the very course of creating a tinsel atmosphere of 'prosperity.'”

Why, this is (sadly) easy to apply to today's situation.

What's more, monetary socialism leads to chaotic booms-and-busts in the economy. Jim Cox writes in The Concise Guide To Economics:

“When an artificial increase in the money supply through the banks occurs, this increases the available money in savings and depresses the interest rate, thereby encouraging an artificial increase in spending which is highly sensitive to the interest rate--capital spending. This run-up in the capital goods industry is the boom, and the subsequent depression results when consumers reestablish their consumption to saving ratio--thus revealing that the capital goods boom was indeed artificial. The only way to prevent the depression is to pump another dose of new money into the system to maintain the higher savings ratio, but eventually this must end or there will be a runaway inflation.

“The artificial increase in the money supply therefore is a government subsidy--through monetary policy--to the capital goods industry. Naturally the subsidy stimulates production in the capital goods industry. Once that subsidy is removed by consumers reestablishing their preferred saving ratio, there is a crash in the capital goods industry.”

Dr. Cox gives the popular analogy of a drug addict. Meaning, we as a society are a bunch of drug addicts when it comes to credit. (This is what monetary socialism brings about.) It is the Federal Reserve's pumping of credit into the market that brings the "high." Sustaining this high requires more and more pumping. However, as the author mentions, there is a limit to this. Near the end of the road either this pumping must be stopped or hyperinflation will occur. When the pumping stops pains of withdrawal occur.

These necessary pains are when the market adjusts back to reality, and away from the artificial high. As the credit (money) expansion flows through the entire economy, the real consumption-saving ratio will be reasserted (with men spending this new money) and the government-generated bubbles and distortions then dissolve.

A (general) deflationary credit contraction is another possible ("secondary") happening in a recession/depression. To be concise, this occurs----besides the (specific) unsound naturally falling----because banks are generally more conservative during this time, and this thereby lowers the supply of money. Additionally, demand for money generally increases. This happening is actually a good thing. It increases the speed of the recovery since it helps reverse inflationary effects. Thus it gives an additional push for men to save and invest more in capital production, and helps to purge malinvestments. (On deflation, read Deflation and Liberty [pdf] by Jörg Guido Hülsmann. And read Rockwell's latest article "The Force Is With Us": "falling prices are an important means for flushing economic error out of a system that is rife with malinvestments generated during boom times." If this deflation will last, is another question...)

In terms of our current economic predicament, not only has the Federal Reserve's Soviet-like management of the economy created massive misallocations (which brought us to where we are today) but the economy's ill-health has been further augmented by the moral hazard created by government protected (and created) Fannie Mae and Freddie Mac and the forcing of banks to engage in uneconomic affirmative action policies. Government, because of this, created a competitive field where it became necessary for banks to engage in bad loaning practices. In other words, the State encouraged bad behavior and discouraged good behavior. Realizing this does not require reading a 1,000 page economic treatise.

For today's economy to be healthy it goes without saying that government should not be subsidizing badness. So exactly what should it do? The answer is nothing. Doing something is what brought us here. Doing nothing would let the market's pricing system, and its checks and balances (which the government ceaselessly attacks), rediscover what is truly sound and what is truly unsound, and let men act accordingly. As Mr. Tucker says: "Laissez-faire is sometimes seen as an 'anything goes' philosophy. It might more accurately be described as a 'reap what you sow' philosophy."

The government, nevertheless, can help the adjustment process along by cutting spending, regulation, and taxation across the board. These actions would be compatible with it "doing nothing." Ending monetary socialism, especially, would be a great thing to do. It would prevent future bubbles. The allocation of resources in higher and lower order industries would be untainted with artificial tamperings of the interest rate.

The last thing the government should do in this period of market correction, according to Rothbard in America's Great Depression (a must read), is to "prevent or delay liquidation," "inflate further," "keep wage rates up," "keep prices up," "stimulate consumption and discourage saving," or "subsidize unemployment." Any of these interventions will only prolong and deepen the adjustment process. These things promote badness, and therefore can turn a year recession to a ten year depression.

Not that the government is likely to listen to those who predicted today's mess, viz., the Austrians and Austro-libertarians. But we all can hope.

To use the lines of libertarian activist Ernest Hancock: "Freedom is the Answer. What's the Question?"

It is freedom, and freedom alone, that brings us financial affluence.

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See the Following:

• "The Austrians Were Right" by Ron Paul.
• "How the Government Wrecked the Economy": Rockwell interviews Peter Schiff on why we are here and what is to come. (A must listen.)
  
• "Von Hayek in 1975": An interview with Hayek on inflation. (Keynesian nonsense is all over this interview, e.g., trading off unemployment for inflation.)
• The Depression Reader at LRC.
• The Bailout Reader at Mises.org.