Topic: Economics
The Current Credit Crisis Why this is happening from an Austrian economics point of view.by Edward Townes
(libertarian)
Sunday, December 30, 2007
As you probably know, there is a large amount of money currently being lost in the credit markets and specifically the sub-prime mortgages. I thought some of you might be interested in the reason why this is happening from an Austrian perspective.
You might have seen people blaming the money lenders for making stupid loans. That criticism is partly right, the loans are stupid, but it's not the money lenders who are to blame. The money lenders make these risky loans because the price of borrowing money was cheap and there was a large enough spread that it was worth the risk. And why was the money so cheap to borrow? Because the central banks set artificial interest rates. If you set artificial interest rates, you set a false price on borrowing money, and thus give misinformation to the market place. That is why the mal-investments were made, money lenders would not have taken the risk had the money not been cheap, and thus the potential profits so large. The trade-cycle directly stems from this. An economic "boom" is often, and almost always at least partly, because the central banks flood the markets with cheap money that gives a false illusion of prosperity. An economic "bust" is simply the re-liquidation of that badly invested money. Usually the central banks try to fix this problem by reinflating the money supply yet again which simply builds more bad investment on top and distracts people with the illusion of prosperity again. The only way to fix it is to let the bad investment liquidate. If we see the metaphorical economic house of cards come down in the next year or two, it would not surprise me in the least.
A post note on the English bank run; This is because the banks do not hold 100% reserves for their deposits. It's basically warehouse fraud, again enabled by the erosion of our banking system by crooks. People realise that their money in the bank has been lent out ten times over to other people and rush to withdraw theirs before anyone else. The bank quite literally doesn't have your money anymore. As I said, it's fraud, but you will always see people defend this system, either because that's all they know or because of political manipulation. So what the government did was bail out the company to the tune of... i think £27 billion. Whether they did that with tax revenues or by printing more monopoly money, ultimately everyone in the country pays for it (£500 per capita that is).
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Posted By: Jahfre Fire Eater
Date: 2007-12-30 12:16:34
Thanks for contributing some basic economics here. I believe one cannot divorce economic liberty from individual liberty. The current events in our banking/credit/monetary industries are historically significant for their size and scope.
Here in the US we have already reached the breakdown point of your explanation. While artificial interest rates are being set lower and lower by our central bank, the loans are not being made by the commercial banks. This is of monumental significance and will have consequences for much of the human race.
Why? Because the 'full faith and credit" of the United States of America depends on the GDP growth. For many quarters now our GDP growth has been merely representing the effects of inflation. This inflation is a result of the easy credit you described serving as the mechanism for increasing the money supply. No matter how much liquidity the Fed and our corrupt congress desire, or require, to keep our GDP advancing, it cannot happen if people stop borrowing. Recession is the inevitable result...except there are worse things than recession. In the sense of economic cycles, recession can be seen as a safety net or as bumpers to keep us from veering too far off course. I believe we (the world economy and central banking in general) have generated too much economic momentum for the safety net of recession to prove to be an effective means of correction. The historic proportions of this current debacle will rip that safety net from its moorings as easily as if it didn't exist at all.
The only real question that interests me from here on out is the nature of the collapse. Will it be a domino effect or will it be a house of cards effect? Personally I'm hoping for the house of cards effect. This is usually complete and total, immediate collapse of every connected piece. The domino effect will create relative advantages at various points of time as the chain of collapse gains momentum. I see this as a far more dangerous global environment than if everyone finds themselves in the same situation at basically the exact same time.
I agree. There are two basic types of recession, the 'v' shape, and the 'u' shape. This is with respect to time obviously. The 'v' shape is much healthier and decisive, quickly liquidating the bad investment. The 'u' shape is always created by government intervention trying to prevent that and drawing out the process.
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