2008-09-30»
confidence tricksยปI studied economics at college at a time when the two great questions of economics was: How Did Stagflation Happen? and How the Fuck Did Monetarism Manage To Fix It When Most of Us Still Believe that Strict Monetarism Was Just Mad Monkey Moon-Juice?
Stagflation is when you have rampant inflation, and low growth. It isn’t supposed to happen. Monetarism isn’t supposed to happen either. Britain and America tried it briefly in the early eighties, and it almost broke the economy, but when things recovered, the stagflation had gone away too.
In some significant ways, you can argue that inflation is a state of mind. Or at least, stagflation was. People had grown so used to inflation in the Seventies that they factored it into their future models of the economy, especially when asking for raises. People would envisage inflation being 10%, so they’d ask for 15% more money this year. Unfortunately, one of the key engines of inflation are wage increases. You can see where this is going: even if inflation was actually going down, the expectation of it caused workers to demand more money, which caused inflation to rise, which made it a self-fulfilling prophecy.
That inflation is largely generated by the belief that it already exists is not a shocking statement for economists to make. Still, it’s surprising to me how rarely they say it out loud. Instead, economists (especially those employed by central banks) spend a lot of time really loudly declaring how inflation is their number one enemy, and that they will do anything to reduce it. The monetarists were particularly emphatic about that. I hope you can see why doing this plays a key part in reducing inflation; why it worked for the monetarists, and why it works now. If you tell everyone you’re going to do everything to reduce inflation, and people believe you, you’ll reduce one of the key engines of inflation. (Especially if you also wipe out the unions and hitch up unemployment so no-one dares to ask for better wages, but that’s another story)
It was the great trick of Reagan and Thatcher to use their ideological fixation to convince the markets that, by gum, they were going to reduce inflation, even doing so meant riots, mass unemployment, and destroying their industrial base. It’s sort of like proving you’re serious by carving “FOR REAL” on your arm in blood.
What I’m trying to get to here, is an explanation for this line from Forbes that has been banded around so much recently:
In fact, some of the most basic details, including the $700 billion figure Treasury would use to buy up bad debt, are fuzzy.
“It’s not based on any particular data point,” a Treasury spokeswoman told Forbes.com Tuesday. “We just wanted to choose a really large number.”
That sounds incredibly, upsettingly, vague, doesn’t it? But here’s the thing: the main job of the bailout package is to convince the markets that everything is going to be okay, and that if the foreclosures go on, the US government will pick up the tab. If the markets believe that, there’s a vague chance that they’ll stop panicking about the foreclosures, and the economy will unfreeze. If it does that, there’s a chance that the foreclosures won’t happen, because the economy won’t suck as much as it might have done, people won’t lose their jobs, and they can keep up the payments.
In the same way as inflation only goes away if a government can convince everyone that it really is going to do everything to diminish it, so a bailout of this size only works if the government can convince everyone that it’s willing to do anything to save the market.
If the markets don’t believe the bailout is sufficient (or there’s no bailout at all), the markets could collapse in neurotic self-pity, the economy will tank, and the foreclosures will happen. And if the half-baked bailout is around, then the government will have to pay for all those foreclosed mortgage risks.
It is therefore really important that the number be very very big. Insanely big. Far bigger than will actually be necessary. If it’s any smaller than that, then no-one will believe it will be enough to save them, so the market will collapse, and whatever amount it is, it will be necessary, because we’ll have foreclosures up the wazoo. Better to say “Don’t worry, capitalism, my darling, I will save you, even if I have to pay you a quadrillion gazillion dollars”, and successfully reassure the current neurotic marketplace, than say “My darling capitalism, I will save you, but the taxpayers say I can only lend you a fiver.” Chances are in the second case, you will lose your lovely capitalism and your fiver.
No-one says from the administration or Congress, because they can’t, just as no-one could have said at the time “Look, just between you and me, the only thing holding up the Eighties deflation is everyone’s believe that Reagan and Thatcher’s would eat a baby on live TV rather than see inflation go up again”.
That lone Treasury spokeswoman was speaking the truth, but she wasn’t supposed to.
Now, say what you like about Bush, he is capable of displaying Thatcher/Reagan-like pigheadedness when needed, and that’s exactly what is needed right now.
Unfortunately, Bush is the President that cried Wolf. As the Daily Show pointed out perfectly, Bush has already managed to convince the American people to trust him to do something radical, without him really spelling out the reasons why — in Iraq. Now, no-one trusts him, which means that no-one really trusts his bailout package, which means there is no party unity, which means that the bailout plan can’t weave its magical confidence spell.
There’s a reason FDR said that the country had nothing to fear but fear himself. And there’s a reason why FDR refused to help the lame duck Hoover in the months leading up to his inauguration. To truly pull off a return to confidence when the country has lost confidence in almost everything, you need to have a sharp break, a clean pair of hands, with a message of hope, and a figurehead whose job is largely just to calm everyone down.
I have to say that America may be fairly screwed right now, but if it votes the right way this election, I think it may be in with a chance. Looking at the polls and the current choice, I can see why Bismarck once said that “a special Providence protects fools, drunkards, small children and the United States of America.”
Or at least, I hope I can.