October 8th 2016


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Articles from this issue:

COVER STORY Reaper mows down first child in the Low Countries

CANBERRA OBSERVED Coalition still gridlocked despite foreign success

EDITORIAL Trump v Clinton: choice between bad and worse

GENERATION RENT The economics behind political unrest

SAME-SEX MARRIAGE Kevin Andrews: defend marriage on principles

WA DRUG POLICY Forum told intervention works with cannabis, ice

OPINION "Deconstruction" fosters contempt of its object

POPULATION POLITICS Philanthropy as a weapon of mass destruction

SUPERANNUATION Take away the number you first thought of ...

HISTORY Germany and its long history of immigration

CINEMA The online madding crowd: Nerve

BOOK REVIEW Tale of forestry dynasty not quite pulp quality

BOOK REVIEW Roman refresher

LETTERS

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LETTERS




News Weekly, October 8, 2016

Learning the lessons of history

I begin by offering my apologies to Colin Teese. In referring to the risks of assuming that “creating additional currency and credit will energise the economy” I was expressing only a general concern about the soundness and sustainability of what today is almost universal conventional wisdom.

Whether we look at the history of private-sector economic initiative or public-sector economic initiative haven’t we seen runaway debt expansion and the squashing of interest rates lead to the crisis of a bursting bubble more often than an energising of the economy (or economies) concerned? Perhaps the most spectacular example of this is the inflation and bursting of the Mississippi Bubble in France during the early 1700s.

Among other things this bubble was an outright demonstration about how a runaway debauchery of the currency is more likely to lead to a disaster in speculative investment than an energising of the “real economy”.

Given such precedents government needs to show an exceptional level of infallibility if future spending is to succeed in this energising. After all if there is unused surplus capacity within the economy will subsidies restore its economic relevance or does its idleness indicate a need to adapt to a changing environment?

Governments have to be particularly careful here because whatever initiatives they put in place are, by law, made compulsory. Retreat from errors in this area can be extremely difficult within the political arena unless overturned by an obvious crisis such as the old wool Reserve Price Scheme.

At the same time, despite the current phenomenon of “negative interest rates”, government debts have to be serviced and repaid. The more of these costs that have to be subtracted from revenues the less government has to spend on anything else. Perhaps this is worth bearing in mind, particularly if governments are later relying on inflation to help “write off” the debt.

Alternatively, whether or not one considers gold and the existence of a gold standard significant there are at least two pertinent issues to bear in mind.

The first is that for thousands of years the likes of gold and silver have been pretty universal voluntary choices as a reliable store of value. The second is that where paper (or digital?) money is redeemable in precious metals (or any other agreed substance) this is a proven restraint on inflationary runaway credit expansions by greedy lenders who care not for, or are ignorant of, the cliché: If you owe $100,000 and you can’t pay, you have a problem. If you owe $100,000,000 and you can’t pay, the bank has a problem.

In comparatively recent times central banks and governments have shared spectacular levels of support and bailouts to stave off a diversity of financial implosions resulting from major debt collapse. None of these have led to the system as a whole being seen to have “turned the corner”.

Contrary to that there seems to be a discreet but spreading understanding that continuing to accept the U.S. dollar as a reliable world reserve currency is getting beyond being merely an exercise in “admiring the emperor’s new clothes”. A possible alternative option that is apparently being considered is to resort to having the current runaway world financial system backed up by the issue of Special Drawing Rights (SDRs) through the International Monetary Fund (IMF). Only time will tell if this will actually work – and if so how well.

In the meantime it is hardly surprising that some countries, notably China and Russia, are busy accumulating gold reserves as a contingency against the “financial unexpected”. As are some of the better known big private investors.

Apparently there is yet to be universal acceptance that gold is merely a “barbarous relic” – or the status quo sustainable.

Alix Turner,
Wayo, NSW

 

I am grateful for the chance of an exchange with Mr Turner.

I have read the material he sent me on the gold standard. Frankly, I am puzzled by it. My understanding of the gold standard is based on what has happened in practice.

Until the 1930s we had a gold standard when the pound sterling was the currency for international trade and it was tied to gold at a fixed price. It failed during the Great Depression because Britain could not maintain it.

Then the Bretton Woods agreement provided for the U.S. dollar to become the currency of international trade for the West. The United States agreed to provide an ounce of gold to anyone who presented $US32 to the U.S. government.

The trouble is that the price of gold in the real world was not fixed. It was a commodity traded on world markets. Once its price moved out of the range of $US32 an ounce the U.S. could no longer afford to sell it to anyone at that price (that is, $US32 an ounce). There were other problems as well, but basically it is impossible to have a gold standard unless the price of gold can be fixed at some price.

More fundamentally, I think the real problem is that we have not yet found a way to conduct international trade between countries with their own currencies.

As to the wider issues, I think Mr Turner and myself are somewhat at cross-purposes about how money works.

Might I suggest that he watch a Youtube by U.S. academic L. Randall Wray entitled “The way a sovereign currency ‘works’”. It demonstrates the reasoning I follow.

Another piece on the internet by the Bank of England report for the first quarter on 2014 explains how banks lend money in the real world, which differs from what we are taught in economic textbooks.

Colin Teese,
Toorak, Vic.




























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