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Dumb Policy Decisions

Denying the "human" in that human action called economics...

BEN BERNANKE seems to think you can create wealth simply by buying government bonds with money that didn't previously exist, writes Greg Canavan for The Daily Reckoning Australia.

The Fed chairman doesn't realize that wealth is created from the bottom up, not the top down. In good time, he will find out otherwise.

One man who really understood economics and markets was the great Ludwig von Mises. He called his magnum opus Human Action.

The following is from the foreword to the fourth edition:

"Mises' contribution was very simple, yet at the same time extremely profound. He pointed out that the whole economy is the result of what individuals do. Individuals act, choose, cooperate, compete and trade with one another.

"In this way Mises explained how complex market phenomena develop.

"Mises did not simply describe economic phenomena – prices, wages, interest rates, money, monopoly and even the trade cycle – he explained them as outcomes of countless conscious, purposive actions, choices and preferences of individuals, each of whom was trying as best he or she could under the circumstances to attain various wants and ends and to avoid undesired consequences.

"Hence the title Mises chose for his economic treatise, Human Action."

That the market is simply the collective 'human' action of millions of individuals is lost on most economists. But that's hardly surprising given Mises doesn't even get a mention in undergraduate education these days.

Not long ago I was speaking to an economics student at the University of Sydney. One of his subjects was Economic Theory. I asked whether Mises popped up in the text. Nope. Nothing.

That one of the giants of one of the most insightful schools of economic thought (the Austrian school) can't make it into a history of economic theory textbook is disturbing.

But they're churning out thousands of these economists and analysts every year. If you're handy with a spreadsheet and have solid 'quantitative skills', you've got a job with an investment bank. Most of the finance world believes all of human action can be reduced to equations, numbers and spreadsheets. Good luck with that.

By the way, if anyone knows of any 'mainstream' university that actually teaches anything related to Austrian economics, we'd be glad to hear of it. And here's something to ponder for today. Could falling unemployment in the US be bad for the stock market? That sounds a little wacky but let's think about it for a minute.

The US stock market has strongly outperformed the Aussie market (and many others) over the past year. Yet their unemployment rate is roughly twice as high as ours.

One of the reasons for the strong market performance is the decent earnings numbers of US corporates. Of course, when you've cut your largest cost – labor – big time, it's going to do wonders for margins and profitability.

And with analysts expecting these fat margins to last into perpetuity, no wonder US stocks are on a tear.

But with the global economy 'recovering' (or juiced up on stimulus, more to the point) won't US firms need to start hiring again? And when they do, won't this start to chip away at profit margins?

We think yes.

But on the other side of that coin, you will obviously have more wages and purchasing power floating through the economy. This will be the initial bullish interpretation of better employment numbers.

The market hangs on the non-farm payrolls number every month. We're in a situation now where the market considers any number to be good news. Weak employment data (which is the post-credit-crisis reality) means lower interest rates for longer and more stimulus measures. Better numbers mean higher wages and more spending. It's all good!

But won't this mean the stock market will have to wean itself from artificial support? After all, Bernanke is buying government bonds with money that wasn't there in the hope that this will boost employment.

If jobs are somehow created from this hare-brained scheme, he will have to turn the monetary taps off. The market will have to learn to operate without constant injections of 'liquidity'.

How will it cope?

Anyway, the whole discussion may be fruitless. The US labor market is in a deep ditch because the US economy is structurally flawed. Years of excess credit has created mal-investment on a grand scale.

Dumb investment decisions create high unemployment. Dumb stimulus programs won't solve the problem.

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Greg Canavan is editorial director of Fat Tail Investment Research and has been a regular guest on CNBC, ABC and BoardRoomRadio, as well as a contributor to publications as diverse as and the Sydney Morning Herald.

See the full archive of Greg Canavan.

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