The cry for more regulation and new government bail-outs is growing...
JOSEPH STIGLITZ, Nobel Prize winner in 2001 for his work on the economics of information, recently attended the World Economic Forum in Davos, Switzerland.
There he wrote an article published on February 5th, 2008 entitled Sub-prime crisis has led to the humbling of America. It highlights how:
- Those who think that globalization, technology, and the market economy will solve the world's problems seemed subdued;
- If we know the price of cream and the price of skim milk, we can figure out the price of milk with 1% cream, 2% cream, or 4% cream. There might be some money in repackaging, but not the billions that banks made by slicing and dicing sub-prime mortgages into packages whose value was much greater than their contents;
- Stiglitz also argued that central bankers also got it wrong by misjudging the threat of a downturn and failed to provide sufficient regulation. They waited too long to take action. Because it normally takes a year or more for the full effects of monetary policy to be felt, central banks need to act pre-emptively, not reactively;
- This is the third US crisis in the past twenty years, after the Savings & Loan crisis of 1989 and the Enron/World.Com crisis in 2002. Deregulation has not worked. Unfettered markets may produce big bonuses for CEO's, but they do not lead, as if by an invisible hand, to societal well-being.
Until we achieve a better balance between markets and government, in short, the world will continue to pay a high price says Stiglitz. But for any economic problem, it’s interesting how Keynesian economists always find the greedy bankers guilty, the public innocent, and the government responsible for prevention AND a cure through regulation.
Joseph Stiglitz correctly explains how the subprime problem started. However he failed to point out the root cause. It was not globalization, deregulation, technology, or free markets. It was greed.
The bankers were greedy to lend to earn interest, while the public were greedy to borrow money and spend on things they couldn’t afford.
So the lenders didn't jam the money down our throat or force us to sign the dotted line, did they? So we can't blame the government for not regulating the lending industry. People chose to borrow of their own free will. But government actions with good intentions often have unintended consequences.
Should the government be more proactive in lowering interest rates and early bailouts as Stiglitz suggests, this would amount to loosening monetary policy – or to put it more bluntly, money printing. This is a wealth transfer by stealth, diluting the savings of others to aid debtors who tried to live beyond their means.
Those who study the history of money – and not least those who compare today's system with asset-backed currencies such as the Gold Bullion Standard – understand that the cause of the current debt bubble is composed of two factors:
The centralized interest-rate model and the fractional reserve system.
The Fed unilaterally sets the national US interest rate, which indiscriminately applies to Bob, Jane, Derek and everyone else. The economy endured several years of unprecedented, historic low interest rates below 3% since 2001. Low interest rates encourage excessive borrowing, and ultra low interest rates like 1% exacerbate the problem even more.
Through the fractional reserve banking system installed in 1913, banks can print money out of thin air and lend to earn an interest. This magic of making something from nothing leads to lax lending standards. The fractional reserve banking system is also directly responsible for gasoline prices going from a few cents per gallon in 1910 to today's $4 a gallon.
The solution is less regulation, not more, whatever Messrs Stiglitz or Obama have proposed. Set the market truly free. Let every individual lender, not the Fed, decide what interest rate to apply to each of his borrowers. Eliminate fractional reserve banking and phase out the Fed; this will restore confidence in the Dollar, restricting excessive spending by all levels of government and consumers, fixing the money supply and preventing frivolous lending.
Remove all government sponsored enterprises, as well as all other government-guaranteed bailout programs. These programs and agencies only distort markets, offering a false sense of security and contributing further to inequality.
We can't regulate the patient who wants to overdose on painkillers. We shouldn’t over burden all banks with piles of rules designed to prevent a few reckless borrowers either. Remove the government as the safety net and return responsibility back to the people. Let the careless and the weak fall; isn’t that what capitalism, evolution, and free markets are all about?
Until then, the Dollar will continue to lose value while oil and Gold Prices will continue to rise.
For those who are interested in the gold and resource market, a good introduction will be to visit for free, the world’s best-attended resource investment conference, hosted by Cambridge House this February 9th through 10th in sunny Phoenix, Arizona.