Category Archives: Economics

Soap Operas in the News

We find ourselves in the middle of a well-known curse, for it is true that we live in interesting times. Common sense has fled, as has basic numeracy, and our media fails us yet again, for the story isn’t about what is going on, but about the cut and thrust of competing sound-bites.

Truly, this is an era — internationally, federally, provincially and municipally — where soap opera has taken over all programming.

Delays of Our Lives

Does one hand know what the other hand is doing? Can anyone count? The current contre-temps in Ottawa is Conservative claims that the Senate (dominated by the Liberals) is hold up their spending bills, while, at the same time, Liberals claim the Conservatives could move faster. Go figure.

Do any media hosts point out that the bills in question arrived in the Senate only last Thursday and that they are already in committee? No, they do not. Instead, the story becomes the current line of “they’re not pulling EI changes out”. Good heavens, an ever-shifting target — on both sides of the aisle — is all that is deemed newsworthy now. It is the game of “he said, she said” and no logic applied.

As The Stomach Churns

Then there’s the meme of the “ever worsening economic conditions”. Does anyone ask why any of us should expect that anything done to intervene could have made a difference when it is historically established that monetary policy changes take nine months minimum, and as much as eighteen, to work their way into the economy and make a difference? Fiscal policy changes are typically a year or more into the future as well, yet the charge is “not good enough, do more” mere days after action is taken.

We are staring at an abyss, mostly brought about by our own bad policy decisions. So far, in listening to the English-language news, only the Australians (ABC Radio National) seem willing to actually add up the days, challenge the wisdom of doing more until the last actions have had a chance to work, etc. But in most of the rest of the world, no one is asking the question: they simply echo the Opposition’s standard mantra of “not good enough” (wherever they are). It is certainly no different here.

Meanwhile, of course, we are not solving the underlying issues. It is now clear that systematic embezzlement and pyramiding of risk was undertaken, yet we seem determined as international policy to leave it all in place. No wonder there is no confidence. Do you hear anything of this in the stories? No.

General Horses**t

Meanwhile, of course, we all stumble down the same paths while blaming other governments. “It’s not our fault, it’s theirs” has become as much of a meme as “they’re not doing enough” has across the aisles of our legislatures.

Let’s be clear: just because everyone else wants to, lemming-like, be an idiot, why does this require you to be one?

Countries (the UK, Germany) are already having trouble selling their government debt. In the case of Germany, this is the strongest part of the EU: we are not dealing with minor nations here. US debt demand is crowding out everyone else — including corporate needs, as businesses closing around the world because they can’t sell their debt at any price shows — and yet everywhere, from profligate provinces to spendthrift nations, there is an assumption that this paper can just “be placed” — and at rock bottom interest rates, too.

Again, where is the media, adding up the deficit numbers and asking where the placement money will come from? That might actually require the ability to add 2 + 2 and get 4, so forget that. Far easier to put on competing talking heads yelling at each other, isn’t it?

Beast-Enders

Here is where this sorry story will end: governments will fail. Provinces and states will have no choice but to wholesale chop their core programs for lack of funds. Nations will have no choice but to let inflation loose — and it will rise as interest piles up on the debt they’ve added. Trade deficits will lead to protectionism and further reductions in economic activity, as will the disappearance of more and more companies and with them their activity.

Where will what’s left of the media (for it is not immune to this) be? Carrying the screaming and reporting on the riots — but never, never pointing out how we’re headed toward this due to our choices today.

After all, the talking heads won’t point that out, and the idea of putting a story in context died a long, long time ago.

Constipated Street

The refusal of the media to do its job had its roots in the ease with which they could put talking heads on the air. Real investigation, and working out how to make it approachable for readers, listeners and viewers, costs more money than opening the phone lines or letting people shout at one another does. If today the media is looking at its irrelevance and shrinking audiences, it has only itself to blame — well, that and the theory (advanced by the media) that concentration of ownership was a good thing, especially using debt to make the concentration work.

The refusal of politicians to tell the truth to the people — to treat them as citizens, not as consumers — is also a key part of this. Anyone with two brain cells to rub together can look at the banking “industry” (there’s your first sign of failure: banking is a “utility” and thus requires utility-style regulation) in the US, UK, etc. and see that the old Glass-Steagal and pre-Big Bang rules served those nations well — and that the current regime, of collateralized debt obligations, mark to market securities, liar-loan risk on mortgages, etc., has not. We might disagree about how to fix the situation, but the source of the problem is clear. It’s even bipartisan: the Conservatives made it happen in the UK and Labour has extended it; the Democrats made it happen in the USA and the Republicans extended it. Yet the issue cannot be spoken of — and the media only speaks of it in partisan terms.

No wonder our countries are dying. Systematic mediasclerosis and the big lie sound-bites will see to that. No wonder, too, the average person now has no confidence in the political system, the fixes on offer, or the news and reporting they see, hear and read.

No wonder, too, that so many dedicated bloggers have lost interest in blogging lately (myself included). There’s a feeling of ennui abroad that the train wreck is inevitable.

This is what happens when politics and the news and analysis work of the media degenerates into entertainment — and nothing more.

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Why a Deficit is Immoral

Conventional wisdom has it that governments must spend, spend and spend some more to dig the country — and the globe — out of the current downturn.

Conventional wisdom is dead wrong. All of this deficit spending will barely — if at all — make a difference in the near-term, and it will pile up problems not for the long-term, but for the medium-term: years in the middle of the next decade, at best.

A Little Bit Pregnant

First, let me say that I am not a deficit fanatic. I would like my government(s) to run balanced budgets: budgets that they expect to come in close to break even. Perhaps they have a good year and tax receipts are higher than expected? Then we have a surplus. Perhaps it was a tough year and receipts were lower? Then we have a slight deficit: exactly the same as the commissioned sales person or self-employed contractor who draws the same amount month after month for living expenses and could either end up with money left over as savings at year’s end, or has to dip into his savings to balance the books.

So a little red ink, from time to time, doesn’t worry me. In fact, it worries me far less than do massive surpluses because every line item, every department, every program has had contingency funds up the yin-yang. These are a recipe for bad decisions at the end of the fiscal year, otherwise known as utter waste, within the departments — and sloppy handouts, ill-thought-out programs and the like in the hands of politicians.

On the other hand, structural deficits — situations where the budget is planned to be in deficit annually (and where, as in the mess inherited from Trudeau and Turner by Mulroney, the deficit deepens annually as the interest pile up takes over everything) — are an incredibly stupid idea, on the same plane and of about the same moral quality as liar loans being written to create fees knowing they can’t be repaid.

Now, to be even-handed about this, none of our politicians are calling for a return to permanent structural deficit. No, all of them claim that we just have a crisis to solve now: we run up serious amounts of red ink for just a few years, and then we can return to fiscal prudence. So they say.

But when was the last time a government program was terminated, its workers fired, its office leases broken, with not one penny more to be spent on that again, ever? I can’t recall one. I can recall occasional shrinkages — rare moments, those — but in general, once a department or Ministry has a mandate, it never gives it up, and it never stops funding it.

For every dollar of “stimulus”, some civil servant handles it. Someone else supervises them. Someone else manages them. Someone else develops policy for the effective use of the money — and they have supervisors, managers, directors, too. Someone else audits them, supports them technically, prepares their briefs to Treasury Board, procures their supplies. All of these have management chains, too. Every one of these increments becomes permanent, because pay grades are based on the number of people — and number of dollars under administration — associated with a job. So every new initiative does two things: it adds to the pile of spending that is “Ottawa”, “Victoria”, etc., never to be removed — and it siphons 20¢ of every dollar spent off the top to pay for itself (on average).

Now do you see why I believe any planned deficit is an almost automatic route to structural deficits? At the risk of offending people, the planned “stimulus” deficit is like getting pregnant. The plan is to abort the pregnancy. Instead everyone delays — there are so many reasons not to act — and the child comes to term.

You can’t be a little bit pregnant. You either are — or you’re not. When it comes to the dangers of structural deficits, “not” — don’t spend, by intention, beyond your means — is the best public policy course.

Deficits Avoid Decisions

Governments that say they’re making the hard decision to forgo all the hard work of sweating down the last structural deficit and to take action “as it’s needed now” miss the point. Choosing to run a deficit is avoiding the decisions that do need to be taken.

How many old programs — all those civil servants and their management trees, chasing ever smaller returns in their program areas — could be outright eliminated to find the funds required for your “stimulus”, if, indeed, it is needed. (That’s a separate question that has as much to do with vote buying as anything else. Another day, perhaps.) Yes, that’s the harder decision, for almost every one of those programs has some advocate in the country who will scream bloody murder if it’s touched in any way.

Nevertheless, MPs and MLAs are elected for the express purpose of making decisions. If you don’t want the job, resign. (Regardless of party, voting your party line likewise is avoiding a decision. Each MP has a personal moral responsibility to decide issues on their merits. The House and Senate need far more Chuck Cadmans and far fewer trained seals.)

It would have been nice if we’d had a cap in place on spending ages ago: something along the lines of “Federal spending is, by law, not to exceed $5,000 per capita”. Budget growth then becomes a function of population growth. Otherwise, to start something new, you have to wind up something old. Perhaps the people who point at Olympic Gold Medals and demand more spending on amateur sport would be upset if the whole Department of Amateur Sport & Fitness (or whatever bureaucratic monicker it is using today) was summarily axed, along with all its spending, because GM and Chrysler need the money. But a cap would have trained our politicians to cut, and to do so regularly. At the moment they don’t have the habit trained. So they reach for deficits. It’s easier.

Why This Deficit Matters More than Previous Ones

There are many opinions out there today about what the future holds, and I’m not going to chew through all of them now. Suffice it to say there are three things on the immediate horizon that make running deficits a bad idea now — as I think you see, I think Trudeau-era deficits were an equal problem, but we had the time to fix that problem, and at the moment it doesn’t look good for the “ability to fix” this one out in the 2010s or 2020s.

You might remember Canada was the only G7 country running surpluses, and the only one retiring its national debt. This — and the price to get there was higher than it needed to be because of so many previous bad decisions (and so many bad ones made in reversing our disastrous structural deficit course) — was a benefit that would have made the 2010s and 2020s truly “easy street” for Canadians relative to other parts of the world. That’s what we’re giving up later this month, for it seems apparent that the Conservative Government will introduce a deficit-laden budget (and if they don’t, their successors will).

The three worries I have for the future are:


Demographics
The demographic bulge of the Baby Boomer generation is coming to “retirement”, and even with them continuing to work that work is likely to be part-time, both for personal reasons and as employers seek to reduce labour costs and revitalise their workforces. This reduces income tax receipts and employment tax receipts at the same time as pension demands increase. In other words, this was why we were working so hard to reduce the debt, knowing we were about to have a hole knocked permanently in government revenues. (Everyone who will work and pay taxes in Canada in the next twenty years is already alive, and we are singularly inept at maximising the return on our investment in immigration, aka “doctors and engineers driving cabs for a minimal income”.)

Liveable Infrastructure
This refers to the complex effects of energy costs on transportation, delivery, work and schooling, effectiveness of the housing stock, etc. Our current city-sprawl and choice to have goods — such as food — shipped thousands of kilometres so that we can enjoy the same diet year round is a infrastructure for living that probably is unsustainable into the future. That, in turn, implies spending a great deal of money to retrofit our human environment to deal with issues of affordability and cost, for it would be even more expensive to abandon what we have and build anew. What will be needed isn’t altogether clear yet, nor is how much of this must be done privately, what must be public:private in partnership, and where government intervention might be helpful. That it will need doing, though, is at the same level of clarity as a long-range winter forecast for cold and snow just about everywhere in Canada.

Unsustainable Program Transitions
This last refers to the entitlement programs already in effect in Canada — some federal, some provincial — that are slowly but surely eating us out of house and home. The public medical system in Canada, for instance, is in decay in most provinces, while simultaneously chewing through one dollar in two of the provincial budget (or more). Eventually the combination of decay, delisting of procedures and reductions in service capability that have been the norm ever since the provinces restricted medical school enrolment coupled with Paul Martin’s balancing of the Federal budget by slashing transfers to the provinces in the 1990s will bring the system teetering to the point of collapse. Throwing more money at these systems is probably not the answer; figuring out how to restructure the entire system is — but the longer we wait to tackle these hard questions, the fewer options we’ll have and the more likely we’ll toss money we don’t have at the time at the problem. After all, the auto makers wouldn’t have “needed” a handout now if they’d tackled their problems a decade ago.

All three of these argue that at some point in the next few years the Government’s freedom of manoeuvre will be deeply curtailed. Balanced budgets en route to that point would ensure we continued to hold the line on interest expenditures (which, as with our own personal budgets — a $10.00 pizza bought on a credit card at 24% interest and paid off by minimum payments turns into an over $220.00 pizza by the time it is discharged — is a pure waste of money). Practice at real decision making rather than sloughing the problem off into deficit spending would prepare the way for much harder decisions to come.

Oh, and I haven’t yet noted that the next years are likely not to be growth years. Indeed, except for the twentieth century, the norm in economic life is a balance of inflationary (growth) and deflationary (consolidation) years. After a sixty year continuous inflation, we should reasonably expect at least a decade-long deflationary consolidation. Instead, central bankers and politicians around the world think just slopping cash around in as many forms as possible will allow us to escape back to the abnormal conditions from 1945 to 2008. Bad thinking, at least from this student of economic history’s point of view.

So there you have it. These are the arguments for not going into deficit. Such a move robs our future, impoverishes our children, and probably is like standing, in the grand tradition of Canute, in the way of the tide. But there are few moral thinkers in Parliament today. Instead, I expect the calculation of votes, the bribing of we citizens with our own money, the unrighteous indignation of most days in the Commons and the subordination of the strategic to the tactical to continue.

This is, after all, Canada, a nation of whingers, who even as they manage their own money well will demand that their government do anything but.

Deflation is the Name of the Game

You are worried about your job. There are rumours of layoffs; your in-laws’ pensions might be at risk because the company they worked for for years is teetering on the edge of bankruptcy. Meanwhile, as the malls empty, sale prices abound. Sitting there on the table in front of you is a pile of credit card bills, mostly priced at something over 18% interest …

Is it any wonder you’d be taking any spare cash, and any “stimulus cheques” (like the carbon tax offset in BC, or the ones sent out earlier this year in the US), and paying down that debt? That you’d be cutting back on your own spending (“it’ll be cheaper still in a bit”) and, after years of not worrying too much, socking upward of 15% monthly into your own personal rainy day fund?

Now, tell me: if Jack Layton’s beloved “ordinary Canadians” are smart enough to figure all this out, why can’t professional economists and politicians?

This morning I arose to find the Prime Minister’s musings on opening our wallets to spread cash around. As with most “professional” economic thinkers, the answer to deflation is deemed to be ever more liquidity and cash injected into the system, to get people to spend. Slightly more sensible — but note the word slightly — was the view of the economists working for those paragons of greed, the banks. The sensible part is building infrastructure for the future; the really silly part is using borrowed money to do it, rather than doing what Joe and Jane Canadian are doing: cutting out unnecessary expenditures, making choices between this and that, getting in the black and conserving cash.

Ah but, Monty Python style, the Sensible Party has morphed into the Silly Party overnight — with the Really Silly, Outrageously Silly and Perpetually Offended and Deeply Silly Parties sniping from the corners. I don’t know what the headline writers will do with Prime Minister the Rt. Hon. Tarquin Fintimlimbimlimbimwhimbimlin Bus Stop Ftang Ftang Olay Biscuit Barrel, but that’s where we’re headed. Probably call him Oil of Olay for having slid one by us all in the last election or something.

One would think that eighteen years of experience in Japan since 1990 might have provided a note of caution before Canadian policy makers had rushed to the “throw money at the problem and worry tomorrow about how to pay for it all” school of economics — the real Keynes would rise up in righteous anger at this misuse of his ideas if so many experts weren’t piled higher and deeper upon his grave — but after all, if you’re liberal in your thinking, history is bunk and means nothing. (Besides, didn’t Japan recently call on the rest of the world to copy their 0% interest rate and 180% of GDP debt ratio policy on the grounds that “it hasn’t worked for us, but maybe in 2008 it’ll work now for no good reason”? Don’t they call it insanity when you try the same thing again and again in an unchanged environment and expect the results to differ “this time”?) The words of others, however, loom large: “they’re doing it, so we should, too”.

Lemmings walking off a cliff into the sea couldn’t do a better job. Or are our political figures all locked in their high-school years, where peer pressure can outweigh almost any consideration of rational and moral behaviour?

What is far more likely to happen, should we walk off this cliff, is the sort of thing James Howard Kunstler has often written about in his blog, Clusterfuck Nation. People praise Franklin Delano Roosevelt for the New Deal: they forget that the Great Depression was intensified as he spent the US Treasury bare, didn’t get results, and was forced to trim back and increase the tax bite simply to stand still back in 1937. We have been suffering from an excess of money creation via credit and prices and M3 (money in circulation including credit) must reset for the economy to improve. We can try to forestall this, in which case the deflation drags on and on, the damage gets worse and worse, our public finances go back into the toilet and down the drain, Canadians become ever-more impoverished … or we can change the way we live to recognize that the era of excess finance we have lived through is gone forever.

Government, as we know it, to survive, will shrink — or we’ll just end up doing away with it. Money, as we know it, to survive, cannot be inflated to a fraction of its current value — or we’ll create some non-government money and go “off the books”. Communities will have to be more local and more self-reliant: big corporations, big unions, big governments and big continental scale anything is a function of cheap and abundant resources, and while there’s lots of resources left the cheap and easy to get ones are mostly used up. (Don’t be fooled by the recent collapse in oil prices — that was the blowing up of the bubble in commodities as yet another haven in the markets from the last destroyed bubble in real estate — look instead at the supply and demand situation.)

In a deflationary period — common in the nineteenth century, rare in the twentieth, and now present in the twenty-first — you keep real interest rates high enough to make savings and investment pay; you minimize unnecessary expenditures, you focus your resources, you encourage initiative and new sources of economic activity rather than prop up old ones and you make money into a stable store of value.

Unfortunately, for those who drew the lesson that you flood the system with ever more bail out money and “liquidity” when the problems are ones of insolvency, radical misallocation of resources and too much unproductive activity draining the real economy, ramping up the printing presses and dropping bales of cash by helicopter is just too tempting. Besides, for the power-lovers, who gets the handout, and on what terms, holds far more reward than does their own restraint.

In the words of W.B. Yeats, in his poem The Second Coming:

Things fall apart; the centre cannot hold;
Mere anarchy is loosed upon the world,
The blood-dimmed tide is loosed, and everywhere
The ceremony of innocence is drowned;
The best lack all conviction, while the worst
Are full of passionate intensity.

Sauve qui peut!

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Mark that Economics Assignment an “F”

Much has been made of the Rt. Hon. Stephen Harper, PC, MA, MP’s background in Economics. Today, in his response to the Speech from the Throne, the outgoing Leader of the Opposition, Stéphane Dion, laid the blame for pending deficits and a bare cupboard in Ottawa not on the world economic situation but at Stephen Harper’s doorstep.

And the Hon. Dr. Stéphane Dion, PC, PhD, MP, although his degrees are in political science and sociology, has the right of it. The Harper Government has failed Economics. Today Dion may have spoken as a partisan — but he also spoke the truth, and it would be wise for the Conservatives to pay attention.

I have written previously on the dramatic increases in spending since Harper took power — not even Paul Martin, in his attempt to hang on to power in late 2005, has sloshed money around as Harper’s Conservatives have. The goal, of course, was to empty the proverbial cupboard, thus protecting against changes of course should they lose the 2008 election. Those of us who understand and support fiscal conservatism have been appalled at this. Now these decisions are turning to bite the Government. Witness Raphael Alexander’s rightful indignation at deficits as an intention (and this is not the first time he has called the Conservative Government on the carpet for a failure to deliver on their promise to, well, you know, actually be fiscal conservatives).

We should all look at the destruction this slopping cash around like a drunken sailor in port after a year at sea has created. Had we actually built something permanent with that money — some $40,000,000,000.00 over three years — perhaps there would be no issue. Forty billion dollars would buy a lot: it would buy a fair bit of new high-speed electrified rail line on key transportation corridors; it would buy a fair bit of rapid transit and interurban transit for our metropolitan areas; it would buy a host of other and useful things for the future. Alas, what we got were a basket of slops — some here, some there, a handout for this and a package for that — instead of anything that represented stewardship of the country for the future.

Weren’t the many programmes in Industry Canada, Heritage Canada, HRSDC, and so on created and left over from the Chrétien years enough? Weren’t the buckets of spending from the Martin years enough? (Almost all of these carry on, of course, now part of the base budget and headcount of official Ottawa, even though most of them had completed their task to a reasonable point long, long ago.)

Look, the NDP weren’t going to counsel restraint; they’re against tax cuts, and they favour operating programmes that require annual money and employ lots of people in the public sector. The Liberals had no sense of restraint in this area, either. If someone (like me) wanted fiscal rectitude, then that left the Conservatives, who preach it in their principles but fail to deliver in their practice.

Stephen Harper talks of pragmatism. I look at the neo-con that he was and see a right-wing liberal. I look at his track record and see a Liberal — worse still, a big spending one who could comfortably stand in Trudeau’s shoes — and it shames me to have Dion be the one to bell the cat.

But so be it: it is what it is.

So where next? Certainly economic changes in the global economy are tearing at the Canadian economy: commodity prices are sinking as the general world of finance capitalism lets the air out of its balloons, dragged down by weakening demand and the driving out of speculators forced to liquidate to deal with other losses. That impacts the West. Meanwhile, as loss of access to credit imperils the remaining industrial companies of North America, the branch plant and subsidiary supplier economy of Ontario and Québec get slammed as well. So it is not entirely true to say that our current fiscal capacity woes in Ottawa are entirely Harper’s fault.

Still, if he is an economist, he ought to have been able to recognize the bubbles for what they were — and somewhere in his undergraduate years he must have studied recessions, the Great Depression, and the concept of liquidation to reset pricing anomalies. My degrees are in philosophy and I could see it coming way back in the 1990s. Why can’t he?

Of course, for that matter, why can’t the Department of Finance?

Liquidation is needed to lead to capitulation: the point at which a firm footing for the future is possible. (Trying to stave off this — as the G-20 are and as the concerted efforts of Central Bankers is — merely makes it worse.) Now that our old fearless pundit, Garth Turner, is talking clearly for himself rather than trying to straddle the requirements of being a party member (and MP) with his desire to communicate the things he sees coming at us, his blog has become a sign of our near future (and worth reading for that alone). Paradoxically, he’ll do far more good for Canadians as an extra-Parliamentary voice than in it.

Now Garth calls the future as follows: major home “value” resets in multiple markets, upward of 50% or more. Why? The “rules for prudent lending” — much more important when the capital is tied up and not recycled through exotic mortgage-backed securities — are based on a century or more of experience. They proved themselves through the Great Depression and every up and down since. Those say maximum term 25 years, initial equity a minimum of 20%, and a maximum debt service ratio of 36%. Unstated — because before the downturn of the 1970s it didn’t need to be — is that that 36% can be met on one salary. Your beat up Kitsilano home going for around one million dollars is a thing of the past. The faster the crash to sustainable prices at 25/20/36 comes about, the more quickly the real estate market unlocks. You can read the rest of his projections at his site.

Paying down debt was a good thing; real tax relief was a missed opportunity; slopping money around like drunken Liberals of the past was a sheer waste. That’s the 2006-2008 track record to date.

A deficit now may well be needed, but it needn’t have been. That’s the 2008-2010 reality.

Trying to “soften the blows”, “keep the doors open” (take your demand for money elsewhere, auto industry: you make far more cars than there is a market for, anyway — and that market will shrink, not grow, so, yes, you do need to close down at least one company and many plants) and the like just wastes money we will borrow. Borrowing to build for the future, on the other hand, leaves us with assets — assets we will need in the near future and for many years to come.

So I hope, Mr. Harper, that you are deadly serious about reviewing the Ottawa that exists, because if you’re not willing to outright terminate a lot of the past programmes and slop chests and focus on investing in our futures appropriately then there is no reason to vote for you or your party in the future. After all, if you’re all going to be socialists and redistribute what was once wealth and is now only depreciating cash, making no difference between you and others in your “pragmatism”, then I might as well vote NDP.

After all, they’re honest about their intentions — and know that they can’t be too profligate. Unlike the man who spoke truth to power today and his party — and you and yours.

Enough Bailing, Let’s Move Forward

There’s a view we all — at one time or another — come to hold: “things shouldn’t change”. For the religious, this line may be drawn where the society has become increasingly post-religious. For the neighbourhood, this line may be drawn where the sense that things are changing for the worse has erupted, and NIMBYism takes hold (“not in my back yard”, a close cousin to BANANA — “build absolutely nothing anywhere near anyone”). For the employer, it becomes the cry to bail them out.

This morning on CBC Newsworld the thoughts of Oshawa-area (GM plant) employees were heard. “Don’t let Oshawa [the town] die. GM doesn’t deserve a handout. We’re all driving vehicles that should never have been produced and that’s got to change. But don’t kill the city.” Unfortunately, if Oshawa is GM, bailing out acknowledged mismanagement at GM would seem to be the order of the day.

Well, let it go. Yes, life in Oshawa may get tougher. How was it for the workers whose jobs were sent to the US — to Mexico — to China? You can either roll over and slowly fade away, or you can roll up your shirt-sleeves and start creating local employment again, under local control, that meets real local needs (so moving to tourism, for instance, is not what I’m talking about).

What’s being said in the calls for bailout money is the following:

For the province, it’s McGuinty saying “I don’t want to have to make tough decisions, so just fund all this and I can continue to pretend all is well”.

For the city, it’s its mayor saying “Oh, God, we can’t afford to exercise our responsibilities for the essentials and I have a whole programme of frills anyway, so bail out the employer and I won’t have to deal with it”.

For the worker, it’s “save my job” on the one hand, and “let all my company stock that infests my pension savings go up” on the other. Heavens forfend that managing risk should have been his or her responsibility. (How many families, too, have both parents and often the eldest child working for the same firm that their savings are tied up in, and their home’s asset value depends upon?)

There is a limited amount of tax revenue available — and an infinite set of demands upon it. Choices must be made. (If you don’t want to deal with choices, get the hell out of politics: it’s what came with your election.)

For instance, making it possible (through zoning change) to densify neighbourhoods with laneway and coach houses, authorised “mortgage helper” basement apartments, and the like would help people retain their homes even if they are laid off — or find a place to live by creating new rental space. More zoning change would put local services in local neighbourhoods, making shopping a walking experience — and supporting more alternative forms of employment locally. So, too, would allowing more businesses to operate from residential areas.

This, in turn, would make investments in transit infrastructure pay off. Electrify the system (trolley buses, trams, interurban rail) and it survives and thrives in oil supply uncertainty (which is coming, and quickly). The net effect is that the town becomes a place to come to, not a place to flee from.

Of course, if you’re GM, or Ford, or Chrysler, the idiots in middle management and in the executive suites who ignored reality for years need a good housecleaning — also a function of not bailing them out and forcing them to deal with their bankrupt state. I say “idiots” because playing bureaucratic games with each other was far more important to addressing the obvious. After all, if Toyota, Honda, BMW, etc. can make quality products that sell for list because they don’t have to be discounted to shift the goods, and can have unionised employees do this, doesn’t it say clearly that management let the North American auto industry down?

Whether it’s banks, automakers, or whatever, risk should not be pushed off on the taxpayer while profits accrue to the managers and shareholders. Resist the urge to bail out, and instead make choices about investment. (This, by the way, is also required with existing government programmes at all levels: clean house and free up resources.)

If Canada, its provinces and its cities did exactly that, we’d have the leverage point to go with our natural resources and sensible anti-deficit financing model of the last decade, and the twenty-first century truly would belong to Canada.

Or we can be idiots and follow the Americans, the Brits, etc. down a rathole. Choose!

Common Sense about Deficits and Spending

Well, it didn’t even take as long as I might have thought for the political consensus to change. All of a sudden, deficits are back in fashion in Canada. I suppose for those of us who want this country to be more like ones they deem “successful” the idea of piling debt upon debt and never making hard choices would be validated, in some perverse way, by the fact that these other nations haven’t fallen into even deeper trouble — yet. For those of us who would prefer Canada to chart a common-sensical course of its own, however (as we had been doing since the mid-1990s, spending less than we took in in taxes and paying down the accumulated inheritance from the previous generation shoved onto our shoulders to bear) this development is one of the most gloomy in a year that has had no shortfall in mood swings, financial fallout and decay.

Paul Martin, of course, has been talking to any outlet that would print his musings in the past forty-eight hours about how poorly the Harper Government has done — because they’re not sitting on that slush fund formerly known as “massive Federal surpluses”. There is a minor consideration here: had the Conservatives not consciously set out to balance the Federal books there would be a huge surplus available to throw into relief measures without the possibility of a deficit. Of course, Martin himself never saw these surpluses as feedstock for a rainy-day fund (i.e. not to be spent) — and that’s the major consideration. Martin, like Chrétien before him, was an over-taxer who saw to it that slush money was available to throw around.

At least Harper has ensured that the slush capability is gone. Far better, of course, would have been to lower taxes and let Canadians keep their hard-earned gelt — to balance the Federal budget by reducing intake to match outflow — than by sloshing around money at an even faster rate than either of his Liberal predecessors (and they were outright masters, never seeing a “priority” that didn’t need funding).

The Keynesian proposition was that it was the proper role of government to provide a counter-weight to the economic trend: if the economy slowed and hardship rose, the government should use deficits (if it did not have an accumulated rainy-day fund for the purpose) to create new activity and thereby relieve the hardship. Once the next upswing took hold, however, the government was to retire the debt it has accumulated and restock its rainy-day provisions for a future downturn.

Well, it only took the first downturn to move into the post-Keynesian consensus: “there’s no need to pay off the debt because we owe it to ourselves”. This is the source of the notion, expressed by Gordon Campbell (no lightweight in the wasteful spending department himself) of BC about how deficits create the desire for “a little more deficit, please” — and the Mulroney Government’s discovery that once an entitlement or handout is created, taking them back is the devil’s own job.

Give a grudging credit (a somewhat tarnished penny would be about right) to Chrétien and Martin for having finally faced up to the reality of a generation’s worth of indisciplined spending by balancing the budget and then beginning to retire the accumulate debt. It’s not much credit precisely because their hands were being forced: the country’s credit rating was at risk, and interest payments on the debt were more than 33% of Federal spending. (Indeed, Mulroney and Wilson managed operating budgets that were balanced — what a business calls EBIT [earnings before interest and taxes] — but ran deficits to cover the interest payments, causing them to grow annually as a percentage of spending.) Doing something that needs doing earns credit; doing it before you’re forced to is the real accomplishment.

Now a Federal deficit waits in the wings, as tax receipts are projected to fall. But the problem isn’t that income will drop below outflows. The problem is that outflows were not reduced while we had the chance. Now, as with Chrétien & Martin, we’re going to have to do it while times are tough.

The reality of this country is that taxes are too high, because we will not make hard choices.

I can recall saying, earlier in the year, that I’d cut off the whole Department of Sport and Amateur Fitness. An outcry ensued bemoaning my hard-heartedness towards the dreams of athletes, and the joy the country would feel as Canadians mounted the podium to receive their medals. Well, in a choice between panem and circenses, I choose bread over circuses. I know amateur athletes, and I know how hard they work and how little support they get today. But this is not a priority and I am willing to make hard choices about that, to say rather than “too little spread too thinly” to make a difference, “none” would be better. If times were better (or about to be so: as I’ve previously written, there are structural reasons they won’t be) I’d be more willing to spend “well and focused”. But we must choose, not try to have it all and defer the costs into a future even less able to pay for than we have been for the lavish waste of Trudeau and his followers.

Common sense would say that, if times are going to be structurally hard — especially if they are deflationary — cash is king, but only if it is in the hands of Canadians. Now we could tax it away, only to send it back as entitlements — but that comes at an average cost of 20% “lost” paying for the bureaucracies that do this under best circumstances (as I have previously written about). Far better to reduce tax receipts and leave the cash in the hands of Canadians with no losses due to it passing through Ottawa.

That, in turn, would require that programme spending be cut, so that outflows would once again match inflows (at a new, permanently lower level). In other words, we would choose what was better done by central redisbursement (with all its friction costs), and what was better done locally, as a matter of local choice.

But common sense comes at a steep price. It requires politicians that not only have the courage of their convictions to push an unpopular change through the din and clatter of every two bit agitator, opposition member, interest group, media “personality”, etc. claiming that the end of the world is nigh and that those taking action are heartless bastards who don’t give a damn about anyone but themselves; it requires that we learn to change our expectations. Governments aren’t in the growth business, and they’re not mummy coming to kiss every little mishap better. They aren’t here to pay for things we won’t pay for ourselves, and to support causes we think other people ought to support.

They’re in the business of peace, bien-être and good (i.e. prudent) government, and nothing else, when the chips are down. The result of that is order, including a society where subsidiarity lets decisions take place close to the action — and the closest place to the action is in each of our homes, not in some Palais des fonctionnaires off in a capital somewhere.

Common sense has been in very short supply. Call it Conservativism if you like; I call it Toryism — another capacity in very short supply. But I hope, as Harper’s 1,000th day in office approaches, he and his team can find it, and the courage to pursue it.

Reality in the Economy

The central bank is an institution of the most deadly hostility existing against the Principles and form of our Constitution … Bankers are more dangerous than standing armies … (and) if the American people allow private banks to control the issuance of their currency, first by inflation and then by deflation, the banks and corporations that will grow up around them will deprive the People of all their property until their children will wake up homeless on the continent their Fathers conquered.
—Thomas Jefferson

The vast majority of Canadians are woefully unprepared for the world that is emerging around them. This is not simply because the savings rate in the country has fallen, year by year, nor is it because their financial assets have been shredded and diminished by the market meltdown taking place over the last five weeks.

Simply put, it is because they have never known an era where the value of money was not destroyed a little bit at a time. (We call this inflation.) As a result, the deflation which is now spreading is alien to them, and the moves they will make are likely to be exactly the wrong ones.

Worse still, even as deflation spreads, inflation continues to work its way through the system in a blow-off, so, unless you check your presumptions at the door, leave all ideology behind, and learn to actually look at the facts on the ground, you’ll miss what is happening.

Deflation: Killer of Debt

Our money supply need not be inflated by the Bank of Canada rolling the printing presses (despite the endless shots of sheets of currency coming off the press that the CBC — Newsworld and The National — have been using this week). Furthermore, since we are not running a deficit, and have not for years, we are not “printing” via the issuance of debt instruments of value greater than tax receipts (as are all our major trading partners).

Instead, inflation in the Canadian economy is created through the hidden magic of fractional reserve banking. In other words, that “so-called” friendly monolith found on all four corners of most major intersections in the downtowns of Canadian cities and towns are the agents of monetary destruction.

Here’s how: debt is used in the economy to jump-start activity, to allow asset growth to occur in advance of actually having the money to capitalise the start. Whether this is to allow you to buy a house, or whether it is to allow a business to begin and grow, debt is the accelerator.

When banks must maintain full reserves to pay off depositors, only a limited amount of lending can ever take place (loans of a duration less than the time depositors have committed their funds to the bank). Acceleration of debt creation occurs when fractional reserves are allowed: the bank must maintain only a percentage of its maturing deposits against its loan portfolio. Gearing ratios in fractional reserve banking today (depending on jurisdiction and strength of the institution) from 5-6% to as high as 11-12% (as is common in the USA and why it is in such trouble now).

Send too much debt into the market, and too much money chases productive economic activity. This in turn causes prices to drift upward — “too much money chasing too many real estate opportunities and not enough housing stock”, for instance, something we have lived through this decade — and for risk to be taken on and not acknowledged (high leverage mortgages, investments in marginal business plans, etc.). The resulting day of reckoning does help reduce the floating money supply and deflate things slightly, but in general this is not a universal situation. When it is, recession (if mild) or depression (if not) is the result, and deflation emerges into sight (cash becomes more valuable; prices drop to find buyers, etc.) for a while.

Central Banks Must Increase Debt

So, really, the only lever the Central Bank has is to increase debt, which it does through interest rate adjustments (as an indicator: for the actual interest rate the economy is using, see the treasury bill discount rate and the inter-bank lending rate — central banks cannot impose an interest rate despite all the rhetoric) and, less frequently but with more impact, by changing reserve requirements.

The reason a central bank — any central bank — wants more debt is because debt already taken out becomes a drag on the economy. A portion of earnings must now go into loan servicing (and, one hopes, repayment), plus, with a loan issued, a lender has restricted room to create new loans (and hence, new money). Today it takes between $5.00 and $6.00 in new debt to generate $1.00 in economic activity — activity which must provide for living expenses, continuity of on-going operations (both family and business), debt servicing, etc. In other words the crisis in Federal and Provincial Finances that led to revulsion at the thought of running a deficit was an early warning signal of the degree to which ordinary people and businesses are “tied down” now.

This is why Governor Carney of the Bank of Canada keeps dropping interest rates — he gets the effect of sinking the Canadian Dollar (and, eventually, even more takeovers of Canadian companies as they become “cheap”).

But eventually banks start to realise the combined risk their loan portfolio represents: typically, this comes as lay-offs begin and as more and more repayments default to interest only or monthly minima as inflation outpaces income growth. At first they raise their loan loss provisions, eating into earnings. When this becomes an unpalatable number — for the earnings per share of their stock is also an issue — they restrict further lending. This is why prior interest rate cuts in 2008 did not lead to looser credit, why the banks had to be jaw-boned into “passing on” the Bank of Canada’s changes, and why credit remains very tight.

Lag Times in Inflation

Price signals tend to lag policy changes by 9-18 months. As a result, even while the underlying economy is deflating (making existing debt more expensive in terms of the ability to service it) prices continue to escalate. Products and services which are easily avoided or substituted see this end sooner than those which are more difficult to move away from: this is why energy and food could accelerate, and why house prices crested but stubbornly fall only slowly. It is why financial assets (which, for many Canadians, are held in unit trusts, mutual funds and pension funds rather than directly) have remained invested in the market only to suffer the effects of rapid decline recently as other forced liquidations have moved the markets downward for lack of new buying.

This suggests that responding to the opportunity to take on new debt at this time is likely to be a very expensive, potentially ruinous move. The unwilllingness to borrow, of course, means that the inflation multiplier is also broken for a “lack of customers”.

Therefore, for a number of years to come, prices will fall, markets will fall, asset values will not recover, debt will be harder to service — and cash will be king.

An Interesting Knock-On Effect

Oddly enough, this supports another emergent situation: the end of cheap energy and easy-to-produce commodities. Our debt-based system depended on growing supplies of cheap, easy-to-extract and refine commodities to maintain its growth: take that away merely by requiring more expensive production and tightened (not reduced) supply and growth as we have known it becomes impossible. Environmentalists are right (but not always for the reasons they advance) in saying the environment controls the economy. A better way to put it is “nature always bats last”. Take the cheap stuff and consume it, and it gets harder to carry on.

With that in mind, we should be winding down our current financial system and moving toward one which allows for more of a steady-state environment, where growth comes slowly but from real production and advancement rather than from a “natural subsidy” (a robbing of the future to pay for the present no different in kind from running a deficit and leaving the cleanup to the next generation). Our policy makers do not always understand this: it means that firms must be allowed to die and be replaced with new kinds of work, for instance. All money thrown at companies to “keep them going” is lost money — debts that will never be repaid. Our Finance Minister got one thing right earlier this year in eliminating the 0% down/40 year mortgage (a debt creation engine designed to take on high risk, non-performing loans), just as he did in taxing income trusts. Other moves, though, have not been well-grounded. It is because the understanding of how reality works in the economy isn’t there; neither is the philosophical thinking to work out the interrelationships.

Now you are started on this journey. May it help you preserve yourselves and prosper. This transition will not be pleasant: there will be much pain. But working out the deflation and reinventing the system is what is needed. Nothing less will do.

We can start by closing down the Bank of Canada, before it impoverishes us all into decades of penury and recovery. More at a future date on what to do without it.