Thursday, September 2, 2010

An Administration Keynesian Speaks of Failure, Failure and Failure (And an Alternative Examined)

WaPo's Dana Bank reports on the remarkable departing words of the chairman of President Obama's Council of Economic Advisers, Christina Romer. This is a must read as this honest lady lists the failures of the Keynesian economists in the White House:
Lunch at the National Press Club on Wednesday caused some serious indigestion.

It wasn't the food; it was the entertainment. Christina Romer, chairman of President Obama's Council of Economic Advisers, was giving what was billed as her "valedictory" before she returns to teach at Berkeley, and she used the swan song to establish four points, each more unnerving than the last:

She had no idea how bad the economic collapse would be. She still doesn't understand exactly why it was so bad. The response to the collapse was inadequate. And she doesn't have much of an idea about how to fix things.

What she did have was a binder full of scary descriptions and warnings, offered with a perma-smile and singsong delivery: "Terrible recession. . . . Incredibly searing. . . . Dramatically below trend. . . . Suffering terribly. . . . Risk of making high unemployment permanent. . . . Economic nightmare."

Anybody want dessert?

At week's end, Romer will leave the council chairmanship after what surely has been the most dismal tenure anybody in that post has had: a loss of nearly 4 million jobs in a year and a half. That's not Romer's fault; the financial collapse occurred before she, and Obama, took office. But she was the president's top economist during a time when the administration consistently underestimated the depth of the economy's troubles - miscalculations that have caused Americans to lose faith in the president and the Democrats.

Romer had predicted that Obama's stimulus package would keep the unemployment rate at 8 percent or less; it is now 9.5 percent. One of her bosses, Vice President Biden, told Democrats in January that "you're going to see, come the spring, net increase in jobs every month." The economy lost 350,000 jobs in June and July...

Romer's farewell luncheon had been scheduled for the club's ballroom, but attendance was light and the event was moved to a smaller room. Romer, wearing a green suit, read brightly from her text - a delivery at odds with the dark material she was presenting. When she and her colleagues began work, she acknowledged, they did not realize "how quickly and strongly the financial crisis would affect the economy." They "failed to anticipate just how violent the recession would be."

Even now, Romer said, mystery persists. "To this day, economists don't fully understand why firms cut production as much as they did or why they cut labor so much more than they normally would." Her defense was that "almost all analysts were surprised by the violent reaction."
If ever there was a real world clue of the failure of Keynesian economics, it is this departing speech by Romer. She admits that Administration economists (all Keynesians) missed forecasting the economic crisis and its severity, failed to implement policies that halted the downturn, and that the Administration has no clue what will happen next.

It should be made clear that this was not a failure of economics, but of Keynesians economics.

As the crisis developed,  while viewing the economy through an Austrian perspective, I wrote in July 2008:

After growing at near double digit rates for months, money growth has slowed dramatically. Annualized money growth over the last 3 months is only 5.2%. Over the last two months, there has been zero growth in the M2NSA money measure.

This is something that must be watched carefully. If such a dramatic slowdown continues, a severe recession is inevitable.

We have never seen such a dramatic change in money supply growth from a double digit climb to 5% growth. Does Bernanke have any clue as to what the hell he is doing?
Again in July 2008, I wrote:

I have previously noted that over the last two months money supply has been collapsing. M2NSA has gone from double digit growth to nearly zero growth .

A review of the credit situation appears worse. According to recent Fed data, for the 13 weeks ended June 25, bank credit (securities and loans) contracted at an annual rate of 7.9%.

There has been a minor blip up since June 25 in both credit growth and M2NSA, but the growth rates remain extremely slow.

If a dramatic turnaround in these numbers doesn't happen within the next few weeks, we are going to have to warn of a possible Great Depression style downturn.

In August 2008, I wrote:

After growing at near double digit rates, Fed money supply growth over recent months has slowed dramatically. Three month annualized M2NSA money growth is at 2.8%. If money growth remains this low we will be in a recession in no time.
On September 4, 2008, I wrote:

ALERT: MUST READ Money Growth Plunges To 1.8%

The M2 money supply growth rate continues to plunge.

Data released today by the Fed show the annualized growth rate for the thirteen weeks ending August 25, 2008 for M2 is now at 1.8%. As we have emphasized, this is after early 2008 M2 money supply growth at double digit rates.

If the Fed doesn't reverse engines real fast, the economy will plunge into Depression-like conditions within months, if not weeks.

Extreme caution should be exercised with regard to all long term business decisions. Within six months the economy could look much different. Preserve cash.

I also wasn't fooled by the disastrous Keynesian attempt to pull the economy out of the Great Recession, in August 2009, I wrote:

Although the Fed is calling what they are doing "credit easing", what they really mean is keeping short-term interest rates down. There is very little focus on actual credit or money supply. How could there be, since most of these measures are either in decline or have stopped climbing? Does Bernanke really want this situation, or does he believe he is "easing credit" simply by keeping rates low and adding to balance sheets, even though the banks aren't lending the money out.

These are very unusual times, tread carefully. Given the current situation, a double dip recession appears very likely, with an accompanying decline in the stock market.
Even in January of this year, the Administration and Fed were still clueless about a double dip. I wrote:

The FOMC meeting minutes for the December 15-16, 2009 period are out.

In the longest worded minutes that I can recall, the Fed goes into extensive detail on various sectors of the economy. They clearly see upticks across the board. Since the board appears to be nothing more than mere trend followers, a double-dip will clearly catch them by surprise. For them it's, "Hey, the economy was up last month, maybe it will be up next month also."
This isn't the first time I have understood things in a clearer fashion than the Keynesians. In 2004, two New York Fed economists, McCarthy and Peach, published a paper denying the housing market was in a bubble. I replied to their paper:

...the record climb in housing prices is, indeed, a bubble... the Federal Reserve study fails to consider past declining interest rates as a cause of the bubble. The faulty conclusions reached by Federal Reserve economists Jonathan McCarthy and Richard W. Peach may make many potential new home buyers comfortable about a purchase, when, in fact, we are very near the top of a housing market that will experience substantial declines in prices...

They reach the conclusion that because of ....[the] "fundamental factor" of low nominal interest rates, higher housing prices are justified.

But does this mean real estate prices will not drop? Our answer is decidedly no. Indeed, McCarthy-Peach report that "since 1995, real home prices have increased about 36 percent, roughly double the increase of previous home price booms in the late 1970's and late 1980''s." We view this increase as largely the result of the Federal Reserve's lowering of interest rates and the pumping of liquidity into the banking system, thus producing the byproduct of higher housing prices. But by incorporating falling nominal interest rates as a "fundamental factor" that can not be a cause of a bubble, McCarthy-Peach have literally defined the cause of the current bubble from being taken into consideration....

Further, the current structure of many mortgage loans whereby no money down is acceptable and/or adjustable rate mortgages are popular, sets up the possibility that many may walk away from current mortgage commitments down the road as interest rates begin to climb. Indeed, as ARM's rates become more and more burdensome and as housing prices begin to decline, walk away situations are likely to become quite prevalent, thus adding even more downward pressure to the housing market.

It is our conclusion, then, that by defining nominal interest rates as a fundamental factor and not as the Fed induced causal factor of the real estate boom, and by completely ignoring the structural features of current mortgage loans, McCarthy and Peach have blinded themselves to the real estate bubble that does exist. They have set themselves up for perhaps making the worst economic prediction since Irving Fisher declared in 1929, just prior to the stock market crash, that "stocks prices have reached what looks to be a permanently high plateau."
Apparently, McCarthy and Peach thought my reply was funny and included this quote from me in their power point presentation, when they went around the country declaring there was no housing bubble. Under the headline Opposing View, they would flash this quote from me:
The faulty analysis by Federal Reserve economists McCarthy and Peach may go down in financial history as the greatest forecasting error since Irving Fisher declared in 1929, just prior to the stock market crash, that stocks prices looked to be at a permanently high plateau.
This is the only known case of Fed economists responding to a Fed critique from a blogger. They clearly picked the wrong blog post to respond to. As I have said before, they aren't using that power point presentation anymore.

That wasn't my only warning about the real estate crash. I also wrote An Ex-Girlfriend, a Construction Worker and My Landlord and A Letter to a Friend on the Logic of Real Estate Investing.

Bottom line: I have no crystal ball that allows me to make these forecasts. It is simply consistent application of Austrian Business Cycle Theory, which views the economy in terms of interest rate manipulations and money flows that originate from central banks. This is in direct contrast to Keynesian aggregate demand analysis which looks at only one half (one side) of money flows, fails to understand the direction of money flows to get an economy going (savings produces product that increases the standard of living of a country, consumption simply consumes production) and completely fails to understand that government deficit spending is simply a transfer of income from producers to non-producers.

Romer's remarkable farewell speech touch bases on all these problems with Keynesian economics and why it fails.

The real key to advancing the economy is for more and more people to understand that Romer's speech is, indeed, about Keynesian failure, that governments throughout the world operate on the failed Keynesian theories (No wonder it's a global crisis), but that there is an alternative method to view the economy, which makes it easy to see the policy errors that governments are making, and also points to a direction to end business cycles. That direction is by ending the money manipulations of central banks and return to a sound money, gold, that can not be manipulated by governments and central banks.


  1. It's weird how just before you posted this I was going to shoot you an email to put the Ex-girlfriend housing bubble call on your "Noteworthy posts" section.

  2. Wenzel,

    Here's what "economist" Joe Biden said back in November, 2009 on The Daily Show with Jon Stewart:

    "We inherited one heck of a mess, as you well know. The GDP was a -6.3%, 740,000 people lost their jobs before I lowered my hand after taking the oath... We're making progress. The GDP's growing, we're going to be producing jobs by the beginning of next year, in the first quarter of next year... it took us a long time to catch up.
    Here's the deal, we have now, of that recovery act, we've been in business 7, 8 months, the one thing you haven't seen... is those big wasteful projects. No one has come up with anything like, 'You went out there and spent $2-million on something that didn't exist.'
    First of all, the kind of jobs we're trying to create are not make-work jobs. We're trying to build a new platform, Jon [Stewart], for the 21st century. We're investing in energy, we're investing in education, we're investing in healthcare... these are the kinds of things that are going to provide these guys with real, live jobs that aren't exportable, that are going to be able to be kept here
    Jobs are going to lag behind growth in this country from somewhere between 12 to 18 months... Everything is growing now... We'll be creating jobs by February or March of next year."

    ~Vice President Joe Biden, as appeared on Comedy Central's The Daily Show With Jon Stewart, November 17, 2009

    Hahahhahahahahhahahaha... I'm still laughing! Hahahahhahahahahahahahahahahahha

  3. We need to stop calling it Keynesian "economics". It's been shown to be wrong. It has nothing to do with "economics", and everything to do with politics. We should call it Keynesian Politics, and all those that support it politicians.

  4. Romer said: "To this day, economists don't fully understand why firms cut production as much as they did or why they cut labor so much more than they normally would."

    This statement says it all. It is ECONOMISTS who do not understand. But anyone who is not insulated from reality, who has the pulse of the business community can tell you why: the disastrous policies of this administration, and especially its plans for the future. Duh. Business leaders are scared to death.

    This is why you absolutely cannot turn over the management of the economy to elistists who have their own pet agenda in mind, an agenda untested by reality. I mistake -- this particular agenda has been tested over and over again, and shown to be a failure. But I guess economists these days never study history.

  5. Economists and politicians take a stimulus and government spending sledge hammer to the economy and then measure it with a regression microscope for signs of improvement.

    Sounds not unlike reading tea leaves to me. Maybe we should go back to leeching sick patients as well.

    Popular but totally fallacious and ineffective ideas like Marx, Freud and Keynes have incredibly long half lives. We wonder where the world would be without them.

  6. Keynesian ideology is the correct moniker.

  7. @Ash-

    Funny, I just asked RW today to see about a follow up with his ex-GF and landlord, and see what their thoughts are. Then I see this post- synchronicity!

    Dale Fitz

  8. Formerly Lenin-Marxism, rebranded Lenin-Marx-Keynesian ideology to be more precise.

  9. Dr. L.A. Hahn stated: For it [the Keynesian view] presupposes an economy whose members do not see through the changes brought about by monetary or fiscal manipulation or as some might say, the swindle. Above all, it presupposes that people are blinded by the idea that the value of money is stable by the "money illusion."

    Indeed, Keynesian Economics and its derivatives are little more than the Economics of Illusions, but it appears that those illusions have been so pervasive and obviously persuasive that few in their ranks question its validity. The concrete proof of the illusionary nature of these economic theories is the economy itself; it is the product of such nostrums. As such, it is impossible to believe that based on the illusionary nature of these theories and the application of those theories that a healthy economy can be produced by the policies that emanate from them. It the assumption is incorrect, the results of those assumptions will also be incorrect.

    Keynesian Economics was created to create problems and not offer solutions. That seems to be a radical statement however, when you judge that statement in the light of the writings of those who knew John Maynard Keynes and his economic theories, it becomes apparent that they were well aware of the effects that Keynesian Economics would have on the well-being of the economy and that those effects would create the need for an ever-increasing amount of government intervention. Perhaps the clearest explanation of the effects of Keynesian Economics can be found in the writings of Keynes’ contemporary and Socialist Comrade John Strachey. Strachey stated that Keynesian Economics was “an indispensable step in the right direction. The fact that the loss of objectivity, and the intrinsic value of the currency which is involved (i.e., inflation) will sooner or later make necessary, on pain of ever- increasing dislocation, a growing degree of social control . . . for the partial character of the policy will itself lead on to further measures. The very fact that no stability, no permanently workable solution can be found within the limits of this policy will ensure that once a community has been driven by events to tackle its problems, in this way, it cannot halt at the first stage, but must of necessity push on to more thorough going measures of re-organization."