Column by George F. Smith.
Exclusive to STR
On Thursday, May 16 Pope Francis delivered a short speech on economics and finance, blaming the “cult of money” for the millions of people suffering in poverty. He addressed the New Non-Resident Ambassadors to the Holy See, calling for “financial reform along ethical lines.”
He describes the problem thusly:
"While the income of a minority is increasing exponentially, that of the majority is crumbling. This imbalance results from ideologies which uphold the absolute autonomy of markets and financial speculation, and thus deny the right of control to States, which are themselves charged with providing for the common good."
This is taken to mean the world is at the mercy of “unchecked capitalism” (Guardian), and States therefore “should impose more control over their economies . . . to provide ‘for the common good’.” (Telegraph)
It’s hardly novel for a world leader to blame economic crises on the free market. When was the last time you heard one cast aspersions on government deficits and central banking? But this intellectual defect isn’t limited to leaders. Browsing the comments posted on the Pope’s speech, I have yet to find one that finds fault with his assertion that “the absolute autonomy of markets” is the devil driving more people into misery.
The cult of fiat money and central banking
There is indeed a growing disparity between the haves and have-nots, and there is indeed something like a “cult” of money ruling the economies of the world. If “cult” is taken to mean a movement at odds with the beliefs of the larger society and membership in which is closely guarded, then today’s central banking/fiat money systems could be viewed as a cult. As the existing order’s most important institutions, central banks are not in this sense very cult-like. But as secular altars erected against the market’s retribution, with secret meetings and an aura of mystery surrounding their pronouncements, they bear a close likeness to cults.
And this brings us to a crucial point, so obvious it hurts to mention it: Central banks are not free market institutions. Nor are they a kind of pacemaker that protects the market from shocks. On the contrary, because central bank operations are essentially a counterfeiting process that quite intentionally distorts prices, they are the creators of shocks. In today’s world they are a government-enforced cartel with a monopoly on the production of money, specifically paper money or its digital equivalent. Left to the market, money becomes a store of value; consigned to a monopoly producer, money undergoes a reverse transubstantiation and becomes a way of stealing value.
Banks once issued banknotes as a way of certifying ownership of a certain weight of precious metal, usually gold or silver. Banks have never liked precious metals because their supply cannot be increased at will. Metal put a practical limit on loans, which in turn limited profits. It also safeguarded the value of a worker’s wage. In fact, real wages increased under a metal standard because of gains in production efficiency. Under the federal reserve system, the redemption requirement was removed yet the Fed still issued notes called “money.” The former bank substitutes - banknotes - became money itself, by fiat. Economist Guido Hulsmann explains:
"The suspension of payments that turns banknotes into paper money entails various “reverse transubstantiations”—an expression we use because the phenomenon at issue bears a certain resemblance with the central liturgical event of the Catholic mass. We have to speak of a reverse transubstantiation, however, because the transubstantiation that results from human hands in the economic sphere cannot be said to sanctify things or otherwise improve them in any sense.
Where there are central banks we don’t have free markets, and central banks sit at the center of virtually every economy on earth."
The political way is not the market way
Everyone understands that central banking only works with the coercive power of government behind it, yet almost everyone insists we have a market that’s free. Perhaps we can clear this up with the aid of a catechism:
Q: What is the free market?
A: Murray Rothbard, the foremost advocate of a free market, tells us that “free market” is a summary term for the array of voluntary exchanges that take place in society. “Trade, or exchange, is engaged in precisely because both parties benefit; if they did not expect to gain, they would not agree to the exchange.” Mercantilists old and new argue that trade involves exploitation, that there are always winners and losers. “We can immediately see the fallacy in this still-popular viewpoint: the willingness and even eagerness to trade means that both parties benefit. In modern game-theory jargon, trade is a win-win situation . . .” Both parties benefit from an exchange because each “values the two goods or services differently, and these differences set the scene for an exchange.”
"But exchanges are not necessarily free. Many are coerced. If a robber threatens you with "Your money or your life," your payment to him is coerced and not voluntary, and he benefits at your expense. It is robbery, not free markets, that actually follows the mercantilist model: the robber benefits at the expense of the coerced . . . .
"Government, in every society, is the only lawful system of coercion. Taxation is a coerced exchange, and the heavier the burden of taxation on production, the more likely it is that economic growth will falter and decline. Other forms of government coercion (e.g., price controls or restrictions that prevent new competitors from entering a market) hamper and cripple market exchanges, while others (prohibitions on deceptive practices, enforcement of contracts) can facilitate voluntary exchanges."
Q: What is a central bank?
A: In the U.S., the federal reserve, as Rothbard notes, is a government-created and -sanctioned cartel device that allows the nation's banks to inflate in a coordinated fashion. It was sold to the public as a way "to provide the nation with a safer, more flexible, and more stable monetary and financial system," according to the Fed's website. What can we say about the Fed's stewardship when the dollar has lost 96 percent of its buying power over the last century?
Establishing a central bank requires coercion and gross deception. It is a grant of privilege from government to special interests - large commercial banks - that are seeking protection from market forces.
Q: What market forces?
1. Competition. Through its government-privileged monopoly to print money, a central bank in effect becomes a monopoly counterfeiter. Printing money is a regressive tax, meaning the poor suffer the most. But people within the jurisdiction of the government are not allowed to choose a better money, as government attacks on market alternatives such as Bitcoin, e-gold, and the Liberty Dollar have made clear.
2. Protection from losses. A free market implies the possibility of profits and losses. A market where government protects businesses from losses is not free.
Commercial banks choose to operate on a fractional-reserve basis, meaning they normally loan much more money than they actually have. Clearly, it is both a shady and a shaky operation. In the absence of institutional protections, if a fractional-reserve bank gets too extravagant in its loans, it can fail. The failure of one bank can create a panic that shuts the doors of other banks. Banks could abandon fractional reserve banking, but they don’t because it can be very profitable, in the same way counterfeiting can be profitable for the counterfeiter.
A central bank takes control of the reserves of all banks within its system, so that one bank won’t over-inflate and bring the roof down on the others. Governments also provide deposit insurance to ease the minds of the depositors. (In the U.S., banks insured by the FDIC “are required to place signs at their place of business stating that ‘deposits are backed by the full faith and credit of the United States Government.’”) Deposit insurance and the central bank also ease the minds of bankers, who are freed from a significant degree of market retribution.
3. Has this system worked?
Until 2008 it seemed to most observers to be working effectively for all market participants. The FDIC had kept depositors from scrutinizing their banks’ activities, and the government, by redefining the dollar as a piece of paper, had given the Fed a green light on the creation of money. The result was a boom in financial markets and housing that most pundits thought was sustainable.
4. What happened in 2008?
The banking system, released from the discipline of market forces and ordered by government to issue a mortgage to any applicant with a pulse, experienced a meltdown.
The government and the Fed then did something.
According to Bloomberg news, as of March 31, 2009, the U.S. government and the Federal Reserve "spent, lent or committed $12.8 trillion," an amount that approached the GDP of the year before, “to stem the longest recession since the 1930s.”
Has this massive intervention worked? The Washington Post, May 31, 2013:
"American households have rebuilt less than half of the wealth lost during the recession, leaving them without the spending power to fuel a robust economic recovery, according to a new analysis from the Federal Reserve.
"From the peak of the boom to the bottom of the bust, households watched a total of $16 trillion in wealth disappear amid sinking stock prices and the rubble of the real estate market. Since then, Americans have only been able to recapture 45 percent of that amount on average, after adjusting for inflation and population growth, according to the report from the St. Louis Fed released Thursday.
"In addition, the report showed most of the improvement was due to gains in the stock market, which primarily benefit wealthy families. That means the recovery for other households has been even weaker."
Call it cronyism. Call it corporatism. Call it interventionism. Call it mercantilism. Call it a system rotten to the core.
But don’t call it free market capitalism. That’s the last thing these guys want.