monitoring the abyss

It's important to remember that the monetary system is just an arbitrary symbolic method of encouraging production and allocating the resulting production. It's a highly imperfect system. Underlying this totally "fictitious" system -- its reality is merely a social perception -- is an actual productive capacity. We should not lose sight of the fact that human beings have vast over-capacity to produce the goods and services they truly NEED. And, that much of human productivity is engaged in producing purely useless items as part of the "allocation scheme."

If we understand that money is merely a symbolic talisman, can we arrive at a sufficient understanding as to how to restore productivity?

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In our study of money, we realize that the manipulative impact of money occurs only at the instance of money creation and money destruction. Why?

Recall in our examples that when people holding money exchange it for "value", it is essentially a barter transaction. The person holding actual money exchanges it for goods and services. The person who receives the money exchanges it for goods and services as well, and so on. The level of "productivity" this achieves will be based on the actual underlying ability of the participants to "do work" and on the speed at which the talisman (money) can change hands.

Where this is not true is first, at the money creation side of the formula. Newly created money injected into the system is the sole transaction in which a party to the transaction does not give any effort in return for the money.

Let's illustrate this. My two subsistence farmers on adjacent land do not have any talisman to exchange and therefore do not assist each other with work. They do not therefore gain the productivity benefit of "group effort." To the extent they are not presently "fully employed" working their own land, they also lack productivity.

So, I arrive on the scene with my "talisman" -- a $20 bill. I offer it to farmer A in return for food. I end up with "value" for my $20, despite the fact that the farmer giving me value has no idea how I obtained my $20. Perhaps I printed it -- which for this example, I did. I got something for nothing.

Farmer A did not get the $20 for nothing, he got it for the "cost" of producing the food. Let's say that was roughly an hour's work. So, he proceeds to barter with his neighbor, Farmer B, for an hour's work and from thereon, the $20 bill flows back and forth between farmers. They gain the efficiency benefit of productivity that arises from working together. They also gain the productivity benefit of being encouraged to work hours that they might otherwise have "gone fishing," due to their raised expectations of the rewards they can achieve by "earning" the $20 and thereafter "buying" goods and services from the other.

It sounds silly, doesn't it? And, in fact, it is an "emperor's new clothes" type arrangement. If either farmer suddenly comes to his senses and says, "why am I working for the 'reward' of exchanging this piece of paper back and forth," the value of the $20 ends. The farmer is out his last hour's work by which he earned the $20 bill and it ceases circulating.

Now, if I not only printed the money but I am willing to use force to insist upon its return, then I can prevent this sudden "lack of interest" in my money. I simply tell the farmers that I am "the government" and on December 31, they must pay me $20 taxes. I have now created a game of musical chairs, as whomever is holding the $20 on December 31 will be able to pay his taxes and the other will be facing the coercive forces of my government for not having the $20.00.

Well, what is the professed reason by which I am entitled to taxes? If I am the coercive "state" and have the force to back up my threat, my rationale doesn't matter. If I was "elected" and set up a basis for taxation that seemed to have logic, then perhaps I set the rate as 1/20th of your earnings.

But, let's see how this works -- each time the $20.00 exchanges hands, I (the government) am entitled to $1 from the recipient as "income tax". When the $20.00 has exchanged hands 20 times, I am entitled the entire $20 -- $10 from each farmer. But, one farmer has the entire $20. He can pay the $20 tax, while the other farmer cannot pay any of his tax. He is going to jail.

Note that the result is the same if I call the tax "sales tax". Each transaction, I am still owed 1/20 of the transaction.

This whole system will only work if I have injected enough money into the system that (a) each party has enough money to pay their taxes; and (b) there will still be currency in circulation when the taxes have been paid.

If, for instance, I had put $40 into circulation, then I would have received $40 of goods and services that I did not earn -- and each of farmer A and farmer B might be holding $20 at tax time. Which is all well and good if by my tax structure neither owes more than $20 on tax day. But again, I am measuring the "tax" based on the number of transactions. If the two farmers never engage in trade, then the tax is "0". If they engage in rapid trade, the tax may be enormous.

Ultimately, as the taxing authority, my goal is to maximize the number of transactions -- because what I want is not a percentage of little pieces of paper, what I want is a percentage of the actual physical work my two farmer citizens are performing.

If we extrapolate this system to a much larger society, it becomes apparent that there is virtually no "micro" way to manage monetary supply, because there are two many variables. What is farmer B perceives there is value to putting his $20 in his mattress? Suddenly productivity falls to zero, as there is no money in circulation.

Which is the second side of the equation. Just as "creating" money is a manipulative transaction, so is "destroying" money. And, putting the money under one's mattress at least temporarily "destroys" the money, since it takes the money out of circulation and renders it useless as symbolic tool to drive productivity.

And ... ironically, it makes me equivalent to a counterfeiter when I decide to put it back into circulation. When I took it out of circulation, I had rendered value for the money -- and I had in effect "written off" receiving any return on my effort for the period of time I kept the money stashed under my mattress. But, at the moment I bring that currency back into the marketplace, the effort I rendered to obtain it is long since collectively "forgotten" and I may as well have just printed the money on my own printing press.

So, as the economist manipulating the money supply, we have an enormous number of variables affecting the overall monetary supply. Many are outside of our control. How do we achieve a productive society?

Our tool is to maintain liquidity. But, if we print too much money, then the amount of money in circulation exceeds the potential productivity of our society. We create asset "bubbles" as the money gets routed to "acquiring assets" since there is no actual labor to be purchased with the money. But, this has the destructive impact of making resources too expensive to be acquired for normal productivity. So, my asset bubble will inevitably be counter-productive.

The countervailing force should be inflation -- the money has to go somewhere, so it circulates into society and although the assets have "gone up in [nominal] value, the public's ability to pay for those assets has likewise gone up.

But, I don't really want to have rampant inflation, either. It simply means I have poured too much money into the system. I will therefore destabilize the perceived value of money, which will affect productivity. To avoid this, I want to maintain gradual changes in the money supply.

So, what creates a "bubble" economy? If vast quantities of money are pouring into the system, we can expect prices to nominally go up -- but if the money is circulating, that should drive inflation and while the prices are nominally higher, a reasonably large segment of the population should be able to pay them. Therefore, conditions must exist whereby the money does not circulate.

Money disappears a number of places. Some of it literally goes under mattresses. Some of it is temporarily in cash drawers and piggy banks. But more importantly, some of it goes to other countries. This would not make much difference with sufficient integration, since it would flow into a common social fund. But, if you have consistent trade imbalance, then newly created money will fuel "one-time" purchases, followed by disappearance of the money from the market.

The trade partner will then be sitting on a lot of money -- but should it put the money back into the original market by increasing trade, the nominal value of the asset will go down -- the inflation that should previously have existed will now occur.

Inflation, of course, will have a serious dis-balance. Those with an access to money will have relatively equal buying power. Those without access will find the price of everything beyond reach.

So, let's look at the US-China relationship. As we have seen, money is a symbolic talisman that fuels human productivity. The "communist" experiments in collectivity and government allocation of resources failed because the paradigm does not adequately mirror the mental sensibilities of the human mind. As a result, although a government entity can propose completely achievable goals of production, workers cannot be compelled to achieve those goals. The mental stimulus to create "incentive" to be productive does not exist.

There is no particular logical reason this should be so. But, we can observe that the experiment failed. And, that there is a certain universality to monetary systems, suggesting that the symbolic system of "money" somehow reflects an inbred genetic propensity to respond to this type of stimulus.

In an agrarian society, most of society's members are closer to the actual food production. In an urbanized society, vast portions of the population have no relationship to the food production (or supply chain) at all. Since they are not engaged in producing the food supply, socially we need a method of allocating shares of food to that society's members.

The symbolic barter must be that the food producers will receive something that improves their lives in order to encourage them to produce food beyond their immediate needs. Without incentive, why work harder?

The incentive need not directly appeal to the actual food producers, because we can put the "ownership" of the food production beyond the hands of the workers. So, our barter with the workers is simply to control how much work they have to engage in to receive a share of the crop their own effort produced. But, whomever ultimately controls the food must receive an incentive to part with it. And, while this system grows up haphazardly, it ultimately becomes the "allocation system" for all productivity.

In the home market, goods and services command a particular price. If China wanted to obtain American goods and services, it needed to establish an "exchange rate" that made its goods and services competitive with local production in the US. Why buy goods produced in China when the same goods can be produced in the US? The answer is that if China offers its labor at below the accepted rate of labor exchange in the US, then Chinese goods can compete in the US market.

For the exchange to succeed, China cannot allow the two monetary markets to become homogenized. In other words, the inflow of dollars cannot be spread among the workers, because that would cause labor inflation, removing the competitive advantage and causing US buyers to revert to buying US made goods.

Maintaining an artifical exchange rate, however, means accumulating dollars. Spending the dollars means creating inflation, which means the US prices for things that China wishes to purchase go up. So we can see that those doing trade in dollars have access to US products and technology, but those doing trade in yuan are artificially prevented from a fair exchange for their labor.

The whole system operates to make people in the middle very wealthy -- on both sides of the monetary exchange. But the devil is in the details, since the money exchangers are walking a tightrope. Sufficient monetary flow must be maintained at both ends to keep the workers engaged in productive. But, the capital flow cannot be so great as to allow too large a percentage of either society access to capital. That would reduce the control over goods that concentrates wealth in a few hands.

While I have commented on the US/China trade, the same principles will be at work in every international exchange.

A similar problem exists internally as well. A well-functioning system must find ways to allocate capital to people in all regions. Typically, this is resolved by migration -- people will move away from an area that has no productive ability to engage in trade and migrate toward areas that have a competitive productive ability.

There is a general perception that immigration "takes our jobs" but the opposite may be entirely true -- that restricting migration works solely to the benefit of those who can control trade and monetary exchange. A Guatemalan peasant may be willing and able to live on pennies a day in Guatemala, but those expectations change upon arriving in the US and assimilating to any degree into the US society.

But, governments also affect the need to migrate by the allocation of various forms of spending. When tax revenues are moved from a more wealthy part of the country and expended in a less wealthy area, this reduces the need for migration. It also has the benefit of increasing overall productivity. So, contrary to the parochial thinking of the taxpayers in the wealthy area, the spending may actually benefit THEM as well as the others to whom they complain the money is being transferred. It can be a net "WIN-WIN" transaction. Selfishness can be self-defeating.

What does all this mean for monetary policy decision-making? First of all, for most of us it means that we are incapable of affecting a totally artificial and symbolic system that has genuine economic impact on our daily lives. Even though "opting out" would be the most sane choice, opt-out is not an alternative without a critical mass of trading partners who opt out along with us. Historically in the US, there was a certain amount of "opt-out" occasioned by the ability to homestead cheap land and live a self-sufficient lifestyle. But, such a lifestyle also restricts the level at which one can engage in contemporary society because to travel and to purchase commercially available products, one must acquire the currency to do so. (Or have products that can be successfully bartered.) In a mechanized world and one with little or no "free land," the ability to opt-out in this manner is largely gone. There are various attempts at social opt-out systems, but I am not aware of any that are highly successful. Worldwide, it doesn't appear that any country as a unit has greatly succeeded in some alternate form of production allocation.

To the extent we have input at all into the governmental decisions that affect monetary policy, the primary choices would be policies that prevent wealthy "globalists" from controlling monetary exchange. In one book, George Soros explained the defects of the international monetary system. He explained that these were the tools that allowed him to make the profits that his organization was able to make. But, he also suggested governments would be wise to close the door(s).

Legislators that do not understand monetary policy cannot possibly make policy choices that have the correct impact. Many choices that have apparent "popular appeal" work precisely to further increase the misery. The more entities that can "create money" and engage in various forms of monetary manipulation, the more variables exist and the less difficult the system is to control. An uncontrolled system descends into the sort of chaos we are experiencing worldwide.

On the other hand, a centrally controlled system leaves a great deal of power in a tiny number of hands. Those of us with any experience in watching the internal workings of any governmental or even non-governmental organization realize that the decision-making process serves many special interests; and most of the time, these special interests do not coincide with the public's best interests. (As I've noted before, human over-capacity leaves room for a great deal of theft without it being readily apparent or even destabilizing the system.)

Lastly, we should look at the effect of natural resources. Human productivity is highly impacted by technology and by resources. Oil is a major multipler of human effort. Many commentators have suggested that peak oil -- and indeed, peak everything else, such as iron ore and the like -- can massively reduce productivity. In such an instance, human beings can go from having the massive overcapacity I have referred to, to having little or no overcapacity. A system that involves massive and ongoing "theft" at its very center will be destabilized by a loss of productive capacity because the percentage impact of the theft becomes larger and larger via "business as usual" in a world that can no longer sustain that "business as usual."

It's difficult to say to what extent "peak oil" has impacted the current situation. A downturn in productivity will have the same magnifying effect, whether it is a loss of productivity through loss of resources, or through gyrations of the economic system itself. It is rational to assume that resource depletion and destruction will inevitably lead to economic chaos. My personal opinion is that "peak resources" and the like are not at work in the present economic crisis. The crisis was entirely predictable based on operative monetary and social policies (though its timing was not).

Nevertheless, good resource husbandry is essential -- since sooner or later it will wreak chaos on even the most equitable resource allocation system. And, of course, the elephant in the room is population. "Population control" has an Orwellian ring to it. But, it is fair to say that a great deal less misery would exist in the world if world population were not out of control. The huge population explosion exists only because of the "vast overcapacity of human productivity) even though the largest mass of population is allocated only the tiniest share of resources. For example, Africa did not seem to have a population problem in pre-colonial times. Exploitation also brings a certain amount of charity.

In my view it's neither necessary nor desirable to have coerced population control. Wealthy societies curb their population without any coercion whatsoever. It would help, though, to counterbalance the many social forces that affirmatively encourage massive childbearing; and to offer positive alternatives to young adults. Resource husbandry and "quality not quantity" childrearing should be ongoing topics in every forward-thinking household.

That is, if we don't want our future determined entirely by cataclysmic forces.