The Fed’s Richard Fisher Needs to Read Irving Fisher Again and Again
Posted by Michael A. Kamperman on May 24, 2009
Misconceptions about the concept of creative destruction could deepen the depression as the global economic collapse continues unabated. The WSJ just ran an article quoting Dallas Federal Reserve Board Governor Richard Fisher saying “At heart, Mr. Fisher says he is an advocate for letting markets clear on their own. ‘You know that I am a big believer in Schumpeter’s creative destruction,’ he says referring to the term coined by the late Austrian economist. ‘The destructive part is always painful, politically messy, it hurts like hell but you hopefully will allow the adjustments to be made so that the creative part can take place.’ Texas went through that process in the 1980s, he says, and came back stronger.” Mr. Fisher’s world view is also formed by his experiences at the Treasury in the late 1970’s where he witnessed first-hand how high inflation rates wrecked the Presidency of Jimmy Carter. This combination of belief and experience means unfortunately that Fed Governor Fisher is nothing but a general fighting the last war who is to slow to see how the world has rapidly and dramatically changed around him. My purpose is not to pick on Mr. Fisher who I’m sure is a good man. It is to highlight the mindset he has that is currently pervasive in elements of our leadership. We are not in the midst of a near return to high inflation rates. What we are witnessing in the economy with companies such as GM is not creative destruction. And the Texas experience of the late 1980’s can only serve as a guide to the severity of our situation, not as a guide on how to weather the storm and steer the ship safely into port.
This is no time for laissez-faire thinking. We are not witnessing the positive innovative process of creative destruction where new technologies like a refrigerator replace ice boxes. Take for example the auto industry. GM has seen a series of poor management decisions over the last three decades lead it to a weakened state. But the reason GM is on the verge of bankruptcy is not because someone has invented a replacement for the automobile. It is not even because someone has developed a superior version of the automobile. GM is in trouble because we are in the collapsing phase of a debt-induced asset bubble and the credit market GM relies on to sell cars is broken. Only half the people that qualified for a new car loan two years ago can qualify for one today. Sales for GM’s large foreign competitor Toyota are down over 40% from a year ago and Toyota is now hemorrhaging money as well. If we were witnessing creative destruction, then Toyota’s sales would be up to replace the GM sales that are down. In fact, the broken credit markets are severely limiting access to fresh capital for entrepreneurs delaying the next innovation that could provide true creative destruction. Inflation is the product of too many dollars chasing too little supply. We currently have massive oversupply in the world of autos and shrinking access to dollars to drive demand. We are in a deflationary environment and we are not on the verge of re-inflation despite the cries of wolf from the same crowd that assured us less than two years ago the economies of the world had decoupled from the U.S. economy.
Irving Fisher is the economist who introduced the concept of connecting the downward spiral of asset prices in a high debt society to the eventual downward spiral in goods prices primarily from the natural economic urge to hoard money thereby reducing the velocity of money in the economy. We are living in the Irving Fisher world of the 1930’s and not the Richard Fisher world of the 1970’s. According to Jeremy Grantham a couple of years ago it is estimated that approximately $50 trillion in U.S. asset prices supported $25 trillion in U.S. debt. Today, the assets are worth closer to $30 trillion. Texas went through this debt-induced asset bubble popping in the late 1980’s and lived to tell about it. But that was because Texas had vibrant businesses that had growing customer bases outside of Texas. I know this for a fact because I was a banker in Texas in the 1980’s and witnessed 9 of the 10 largest banks go out of business. Also, people flocked to Texas from California and New York to scoop up cheap real estate. Texas received a life line that wasn’t available to the U.S. in the 1930’s. Similarly Japan has received a life line of global trade from growing economies in the U.S. and China that wasn’t available in the 1930’s either. Where is our life line Fed Governor Fisher? The German and Japanese economies are in worse shape than ours. Mexico is in a serious depression. We cannot export our way out of this crisis and massive amounts of foreign money will not be coming to our shores to snap up bargains. They have bargains in their own backyards. In short, the only way out of this crisis is to monetize the debt. We need massive quantitative easing and we need it yesterday. If we don’t monetize the debt the federal government will have to reduce spending. If that happens then we could see asset prices in aggregate fall below the amount of the total outstanding debt.
Badtux said,
The most important paragraph of the above tome, I believe, is:
“Irving Fisher is the economist who introduced the concept of connecting the downward spiral of asset prices in a high debt society to the eventual downward spiral in goods prices primarily from the natural economic urge to hoard money thereby reducing the velocity of money in the economy. We are living in the Irving Fisher world of the 1930’s and not the Richard Fisher world of the 1970’s.”
Indeed. Money is the lubricant of an economy. Hoarded money — money stuffed under mattresses (or into Federal Reserve virtual vaults by banks unwilling/unable to lend) — does nothing, zero, to create economic activity, economic activity being defined as “instances where goods or services change hands in exchange for money”. But the problem is that people have deflationary expectations — they see the price of their assets going down (whether the asset is their 401k or their home), they see the possibility of their job vaporizing, and because of these deflationary expectations they believe that their money will have more value in the future than today. So they save rather than spend, and the money they save gets shoved into the Fed’s vaults rather than loaned out because of a) a shortage of qualified borrowers (who are also similarly saving rather than borrowing/spending), and b) the general insolvency of the banking industry.
I do, however, disagree with your notion that simply printing more money will be sufficient to get us out of this. In an era of deflationary expectations, all that freshly-printed money ends up doing is making mattresses plumper. The money has to do something that causes economic activity, it’s not good enough to just print it. Swapping the bad loans on banks’ books with freshly-printed banknotes is one possibility that the Fed should definitely explore, because there *is* still a banking solvency problem. But if the majority of people continue to have deflationary expectations, that will not be sufficient, because they won’t borrow. A functioning financial marketplace is a necessary, but not sufficient, precondition for economic activity. People need *jobs* to have inflationary expectations for their future, and to have jobs, something needs to “prime the pump”. Thus why I continue to state that we need continued massive fiscal policy spending on the part of the U.S. government and government as a whole. The nation’s infrastructure has been crumbling for years because of the pervasive underinvestment of almost 30 years of Republican domination of U.S. politics dating back to the election of Ronald Reagan, so it’s not as if there’s nothing to use as the target for this fiscal spending. We need roads, bridges, new high-speed rail and mass transit systems to deal with the fact that oil is running out and the automobile will not continue to be a viable means of transportation at some point within the next 20-30 years, we need a new electrical grid to replace the current collapsing one and new power plants to produce the power that will power the transportation infrastructure of the future, we need investment in basic science and research especially in how to do agriculture in the future once easy petrochemical access is lost due to peak oil (otherwise there will be a *lot* of hungry Americans and we aren’t likely to survive as a nation), there are just so many things that fiscal policy could be used for that not only help re-inflate the money supply, but result in actual valuable infrastructure and products in the future. Simply cranking up the printing presses won’t do all of this, it’ll just make the mattresses plumper and the Fed’s (virtual) vaults plusher.
Furthermore, we can do more to drain those mattresses and get the economy back to work. Nationwide we are raising consumption taxes — sales taxes, use taxes, etc. — higher and higher, which dissuades people from spending, while giving tax breaks for stuffing mattresses by reducing income taxes, thereby encouraging people to stuff rather than spend. It’s crazy, when we’re in a consumer spending slump, to tax spending higher. But that’s what we as a nation are doing.
Sad to say, I’m not seeing this sort of stimulus spending, and the tax situation… well. You get morons waving teabags around when you even whisper of the possibility of taxing excess income, income that is not contributing to economic activity because it’s being stuffed into (virtual) mattresses rather than spent. We have become a nation of dolts and idiots from top to bottom, reduced to inchoate expressions of outrage upon demand, and the stupidity seems to be wearing off even on people who I generally respected for their intelligence, such as President Obama. Sigh.