Best of the Week
Most Popular
1. US Housing Market Real Estate Crash The Next Shoe To Drop – Part II - Chris_Vermeulen
2.The Coronavirus Greatest Economic Depression in History? - Nadeem_Walayat
3.US Real Estate Housing Market Crash Is The Next Shoe To Drop - Chris_Vermeulen
4.Coronavirus Stock Market Trend Implications and AI Mega-trend Stocks Buying Levels - Nadeem_Walayat
5. Are Coronavirus Death Statistics Exaggerated? Worse than Seasonal Flu or Not?- Nadeem_Walayat
6.Coronavirus Stock Market Trend Implications, Global Recession and AI Stocks Buying Levels - Nadeem_Walayat
7.US Fourth Turning Accelerating Towards Debt Climax - James_Quinn
8.Dow Stock Market Trend Analysis and Forecast - Nadeem_Walayat
9.Britain's FAKE Coronavirus Death Statistics Exposed - Nadeem_Walayat
10.Commodity Markets Crash Catastrophe Charts - Rambus_Chartology
Last 7 days
Johnson & Johnson (JNJ) Big Pharma Stock for Machine Learning Life Extension Investing - 2nd Jul 20
All Eyes on Markets to Get a Refreshed Outlook - 2nd Jul 20
The Darkening Clouds on the Stock Market S&P 500 Horizon - 2nd Jul 20
US Fourth Turning Reaches Boiling Point as America Bends its Knee - 2nd Jul 20
After 2nd Quarter Economic Carnage, the Quest for Philippine Recovery - 2nd Jul 20
Gold Completes Another Washout Rotation – Here We Go - 2nd Jul 20
Roosevelt 2.0 and ‘here, hold my beer' - 2nd Jul 20
U.S. Dollar: When Almost Everyone Is Bearish... - 1st Jul 20
Politicians Prepare New Money Drops as US Dollar Weakens - 1st Jul 20
Gold Stocks Still Undervalued - 1st Jul 20
High Premiums in Physical Gold Market: Scam or Supply Crisis? - 1st Jul 20
US Stock Markets Enter Parabolic Price Move - 1st Jul 20
In The Year 2025 If Fiat Currency Can Survive - 30th Jun 20
Gold Likes the IMF Predicting a Deeper Recession - 30th Jun 20
Silver Is Still Cheap For Now - 30th Jun 20
More Stock Market Selling Ahead - 30th Jun 20
Trending Ecommerce Sites in 2020 - 30th Jun 20
Stock Market S&P 500 Approaching the Precipice - 29th Jun 20
APPLE Tech Stock for Investing to Profit from the Machine Learning Mega trend - 29th Jun 20
Student / Gamer Custom System Build June 2020 Proving Impossible - Overclockers UK - 29th Jun 20
US Dollar with Ney and Gann Angles - 29th Jun 20
Europe's Banking Sector: When (and Why) the Rout Really Began - 29th Jun 20
Will People Accept Rampant Inflation? Hell, No! - 29th Jun 20
Gold & Silver Begin The Move To New All-Time Highs - 29th Jun 20
US Stock Market Enters Parabolic Price Move – Be Prepared - 29th Jun 20
Meet BlackRock, the New Great Vampire Squid - 28th Jun 20
Stock Market S&P 500 Approaching a Defining Moment - 28th Jun 20
U.S. Long Bond: Let's Review the "Upward Point of Exhaustion" - 27th Jun 20
Gold, Copper and Silver are Must-own Metals - 27th Jun 20
Why People Have Always Held Gold - 27th Jun 20
Crude Oil Price Meets Key Resistance - 27th Jun 20
INTEL x86 Chip Giant Stock Targets Artificial Intelligence and Quantum Computing for 2020's Growth - 25th Jun 20
Gold’s Long-term Turning Point is Here - 25th Jun 20
Hainan’s ASEAN Future and Dark Clouds Over Hong Kong - 25th Jun 20
Silver Price Trend Analysis - 24th Jun 20
A Stealth Stocks Double Dip or Bear Market Has Started - 24th Jun 20
Trillion-dollar US infrastructure plan will draw in plenty of metal - 24th Jun 20
WARNING: The U.S. Banking System ISN’T as Strong as Advertised - 24th Jun 20
All That Glitters When the World Jitters is Probably Gold - 24th Jun 20
Making Sense of Crude Oil Price Narrow Trading Range - 23rd Jun 20
Elon Musk Mocks Nikola Motors as “Dumb.” Is He Right? - 23rd Jun 20
MICROSOFT Transforming from PC Software to Cloud Services AI, Deep Learning Giant - 23rd Jun 20
Stock Market Decline Resumes - 22nd Jun 20
Excellent Silver Seasonal Buying Opportunity Lies Directly Ahead - 22nd Jun 20
Where is the US Dollar trend headed ? - 22nd Jun 20
Most Shoppers have Stopped Following Supermarket Arrows, is Coughing the New Racism? - 22nd Jun 20

Market Oracle FREE Newsletter

AI Stocks 2020-2035 15 Year Trend Forecast

The Reserve Bank of Australia gets it Wrong on Financial Markets

Interest-Rates / Global Financial System Aug 20, 2007 - 08:07 PM GMT

By: Gerard_Jackson

Interest-Rates Last week the Reserve Bank of Australia raised interest rates. Glenn Stevens, the Reserve's governor, told the house of representatives standing committee on economics, finance and public administration that he did not regret the decision. He said: “It has been a little bit difficult to read what the current trend in inflation is over recent quarters”. Let me see if I can help out here. Inflation, Mr Stevens, is a monetary expansion.


Unfortunately, Mr Stevens, along with the heads of just about every other central bank on the planet, thinks rising prices are what define inflation. These are the same people who warn us about cost push inflation. In this case it was wage rises not backed by productivity increases. When this happens, Mr Stevens, we call the result unemployment, not inflation. Of course, he and his supporters will say that such increases are passed on in higher prices. But how can this be if aggregate incomes remain unchanged? They can then respond that increased velocity would account for maintaining the level of employment as wage rates were pushed above their market clearing rates.

This is voodoo. There is no velocity of circulation because money does not circulate. It exchanges hands for goods and services, and as we can only spend our weekly or monthly — or whatever — income once, irrespective of changes we might make in our pattern of expenditures, it follows surely as night follows day that any wage push would only lift the level of unemployment and lead to what the late Professor Hutt aptly termed “withheld capacity”. As Ludwig von Mises trenchantly pointed out:

The mathematical economists are at a loss to comprehend the causal relation between the increase in the quantity of money and what they call “velocity of circulation”. (Ludwig von Mises Human Action ,3rd edition, Henry Regenery Company, 1966, p. 427).

In any case, defenders of Stevens' view cannot use the concept of velocity without bringing into the argument Fisher's “equation of exchange”. But if this is done then money becomes the dominating factor. Fisher's formulation has, unfortunately, served to discredit monetary explanations of inflation and the trade cycle. Benjamin M. Anderson's damning indictment of the quantity theory summed the situation up:

It is one of the great vices of the quantity theory of money that it tends to check investigation of underlying factors in a business situation.(Benjamin M. Anderson Economics and the Public Welfare , LibertyPress, 1979, p. 70).

To be fair, our economic commentariat also shares Stevens' views on inflation and costs, which accounts for the lousy economic commentary that the media is continually serving up. But that's no reason why our politicians should remain willfully ignorant. (Anyone who has talked economics with Liberal Party politicians cannot but be struck by their total ignorance of the subject. The same goes for their staffers and advisors). What has this got to do with interest rate and the current state of the financial markets? A lot Since Howard first became Prime Minister currency has expanded by 116 per cent, bank deposits by an astonishing 160 per cent and M1 by a remarkable 146 per cent. What Stevens and our economic commentators are saying is that these figures are absolutely irrelevant. So irrelevant, in fact, that they don't even bother to acknowledge their existence.

And yet these intellectual prodigies have proven incapable of linking the housing boom to our booming money supply. They cannot even make the link between the Reserve's gross mismanagement of monetary policy with our foreign debt and current account deficit. So much as hint at the possibility that the Reserve's criminally loose monetary policy combined with an over-valued dollar may have reduced manufacturing as a share of GDP and they'll immediately label you as a crank.

But this idea is based on the observation — supported by economic theory — that if a country's currency is devalued then import prices will rise and export prices will fall. Hence there will be a tendency for manufacturing to become more export oriented. It follows that the reverse must also be true. If a country maintains an over-valued exchange rate for some years then its export of manufactures will become uncompetitive. This means that these companies will either have to move offshore, close down or become more oriented toward domestic consumption. I guess the possibility of this situation emerging is too complicated for the Reserve and our economic commentariat to grasp.

Economics commentators have been waffling on for several years about how cheap Chinese imports have helped keep inflation low. More garbage. By exchanging dollars for Chinese goods we were in effect exporting our own inflation. This enabled the Reserve to make the ludicrous claim that inflation was under control. Bernie Frazer, a former governor of the Reserve Bank of Australia, stated that

If demand runs ahead of capacity, it will spill over into imports and widen the current account deficit (CAD). This is what happened in 1989-90 when the deficit reached 6 per cent of GDP. On this occasion the CAD is not expected to increase to the very high levels reached during the lat 1980s. ( Reserve Bank Annual Report , 1994).

It seems that Bernie at least had a better grasp of the consequences of a loose monetary policy on our trade account. The technical side of the problem has been compounded by China's massive increase in the demand for our commodities which has helped to over-value dollar. I've said before that this is an unsustainable position and sooner or later there must be a monetary correction to bring the dollar in line with its domestic purchasing power. It's absurd to think that any country — no matter how powerful it is economically — can run our kind of monetary policy and still avoid a devaluation.

The international financial crisis that has panicked markets has also seen the Australian dollar drop. As soon as this was reported I thought that it won't be long before someone will tell us that devaluations are inflationary. And sure enough, someone did. St George Bank head of economic research, Steven Milch, claimed that any further falls in the Australian dollar could be inflationary. That this financial turmoil, including a falling dollar, is the fruit of inflationary policies by central banks is something that Mr Milch has evidently never given a thought to. Mr Milch is another economist who has no understanding of how loose monetary policies distort the pattern of international trade. Gottfried Haberler made this fact very clear when he wrote:

... the process of inflation always leaves behind it permanent or at least comparatively long-run changes in the volume of trade and in the structure of industry. The impact effect is a change in the direction of demand. At he points where the extra money first comes into circulation purchasing-power expands; elsewhere it remains for a time unchanged. (Gottfried Haberler The Theory of Free Trade , William Hodge and Company LTD, 1950, p. 54, first published 1933).

Nevertheless, we must be kind Mr Milch. After all, he is only echoing the conventional wisdom. So let me state my position once more: a massive monetary expansion, mainly in the form of credit expansion, has left the world in a financial mess. But how are we to deal with such messes if the vast majority of economists are truly clueless about the monetary roots of these crises? We can't, is the answer. Until the economics profession and the economics commentariat come to understand that money really does matter there will be no stopping these monstrous monetary roller-coaster policies.

Gerard Jackson
BrookesNews.Com

Gerard Jackson is Brookes economics editor.

Gerard Jackson Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules