Steil and Hinds Resurrect the Golden Anchor
Though the mainstream media perhaps glossed over its meaning, an exciting monetary development occurred a little over two weeks ago in New York. Economists Benn Steil and Manuel Hinds were awarded the prestigious Manhattan Institute's (note: the Manhattan Institute is a RealClearMarkets sponsor) 2010 Hayek Prize for their groundbreaking book, Money, Markets and Sovereignty.
While skeptics unaware of the book's content might have expected a boilerplate and very academic promotion of the floating money status quo, in their acceptance speeches the authors essentially called for a return to the commonsense currency policies of the 19th century during which money had a gold definition. Seen by many elite thinkers as a barbarous relic of a not-so-glamorous past, gold-defined money is once again part of the respectable economic discussion, and the Manhattan Institute is to be congratulated for this development.
Of course the excellent talks given by Steil and Hinds weren't solely limited to the chaos wrought by unstable money values. Both happily used their time at the podium to make plain their displeasure with a modern policy framework meant to banish failure, not to mention naïve attempts to steer us around recessions. For that, Steil and Hinds should be congratulated, and one can only hope that politicians and commentators were made privy to their talks.
Regarding the quantitative easing that our Fed is so naively foisting on the economy, Steil likened it to a suddenly burst pipe out of which no water will shoot. Rather than fixing the burst pipe, quantitative easing presumes that more water will mitigate the reduced flow. Both Steil and Hinds stressed that money creation itself is not a source of economic energy despite the protests of so many at the top of our central-banking pyramid.
Many well-reasoned thinkers sought to blame mark-to-market accounting for the banking crisis of not long ago, but as Steil implicitly revealed, a lack of mark-to-market has turned small and medium sized banks into the "walking dead". About this, it should be remembered that loans themselves are not marked to market by banks, nor are they required to be.
The result, as Steil relayed, is that the non money-center banks that smaller businesses rely on for credit are "unable to lend because their balance sheets are littered with bad commercial and real estate loans made during the boom years." Mark-to-market was said to have crushed the larger banks with securitized loans on their books, but the financial institutions that were able to avoid a more realistic accounting of their balance sheets have shown how problematic it is to let bad decisions fester. They can hardly lend at all.
On the subject of TARP and bailouts more generally, Steil thankfully decried it for banks missing an opportunity "to disgorge bad assets." The latter would have in Steil's words "repaired the credit pipes." Instead, nearly all bailed out banks are significantly impaired, and the implications according to Steil are that "most banks will only lend to borrowers with vastly greater collateral and at much higher real interest rates than before the bust."
Banks were said to be too important to be allowed to fail, but not said enough way back when was that it is precisely because banks are important that they should be allowed to fail on the way to their assets reaching wiser hands.
Hinds hit on the above in a major way in his brilliant talk. As he noted, in "the nineteenth century, markets used bankruptcy to get out of recession."
To understand why, Hinds reminded attendees that in the past bankruptcy "liberated troubled assets", and those "assets became useful again." More important, and this is why recessions are to be embraced, they're the painful but necessary process whereby "Loss-making activities and firms" cease to exist, thus "liberating resources for economic growth."
Fast forward to today, and as Hinds noted, much like during the Great Depression, "society has refused to allow the market to follow its course." The sad tradeoff has been that "Resources keep flowing toward loss makers" and "insolvent debtors." Hinds calls for non-intervention that will allow markets to clear on the way to real economic growth.
Most important of all, of course, was their discussion of money. Hinds reminded attendees that we began the 20th century with "a global monetary system that met the common citizen's idea that a currency should keep its value through time and space." Basically, before World War I, currencies served what Adam Smith deemed their sole purpose, which was to facilitate the exchange of goods.
More modernly, money has had ascribed to it previously unknown powers. Money became the source of economic energy rather than the facilitator of same, and the result according to Hinds, is that "we've gotten ourselves into a horrendous monetary mess."
Steil referenced the above as the "great seduction of Keynesianism", that the "flagging animal spirits of the inscrutable entrepreneur need only be compensated for, quickly and painlessly, by government money-printing and spending." Hinds noted that these acts of pressing the monetary spigot don't spur economic growth, rather they distort it on the way to credit misallocations that invariably lead to recession.
Our mistake this time, in addition to relying on money creation over human ingenuity, is that when the inevitable monetary crack-up revealed itself, we did not allow market forces themselves to heal the myriad errors foisted on us by hubristic monetary authorities the world over. The answer, according to both, is a return to commonsense money that is defined in terms of gold.
And while there may be disagreements there about how to resurrect the golden monetary anchor (Steil seeks a classical version where economies adjust to dollar/gold flows, my preferred version would be to simply define money in terms of the commodity on the way to stable money values), a return to credible money is more realistic now thanks to economic heavyweights such as Steil and Hinds bringing the discussion back into the mainstream. For that we must once again thank the courageous authors, along with the Manhattan Institute for rewarding their essential work.