Invitation to a Debate: Are the Austrians Right about the Real Bills Doctrine?

Over the years, I have found that my ideas and those of the Austrian classical economists are in sync for the most part. We believe in the gold standard, in the constitutional robustness of the unfettered free market, in the dismal prospects for even the kindest-hearted versions of socialism, and in the innately evil ulterior motives of the political class - to which unfortunately some very prominent modern economists have applied for admittance these days. (See, e.g., my hammering of Paul Krugman here.)

However, there is one notable area where I can't decide where I stand. It has to do with what is called the "Real Bills Doctrine." To make my conundrum as short and sweet as possible for those who don't know what I'm talking about, let me explain below under HISTORY. For the others who are already informed, please skip below to THE DEBATE.



HISTORY

The banking industry has gone through various evolutionary stages over the millennia, and the Austrians tend to believe that it has gone through at least one step too many. I advise any newcomers to economics to read my posts here, most particularly Economics Lessons 1 through 4, in order to get up to snuff on the background stuff. (It's easy and hopefully amusing reading, so don't let the word "economics" scare you.)

To continue with the story, back just after the cave man days, one of the first clever ideas potential lenders of money discovered was the notion of interest. Interest is not immoral, actually, in spite of what you may think instinctively. In fact, the first lenders were people like you and me; there were no bankers.

After all, it makes sense: Any person, willing and able, through his own industriousness, to forego consumption now - say of a fourth meal, or another piece of jewelry, or a third house - in order to help someone else create something of use to himself, is doing that person a favor. If lots of people do it, then lots of people benefit, which raises our standard of living. Wouldn't you agree? There is no reason the lenders should not share in a small portion of the extra benefits, in proportion to their - uh - "selflessness." Interest, therefore, is not really evil. It is simply an equitable reward, a sharing where sharing is due.

Good bankers, as it happens, and in spite of their historically negative reputation, are mainly professionals who happen to be very astute at bringing savers (lenders) and borrowers together in a kind of symbiotic anonymous partnership; and because they do perform this very useful service, there is no reason they should not also share in the rewards.

All well and good. Thus, bankers learned over the centuries that they could not only lend out the money of those who entrusted them with their savings, but they could make a good living at it as well (much to the chagrin of their covetous rulers, churches and less savvy neighbors.) Being smart and observant, they also learned that they could sometimes lend out more money than they really had in their coffers... AND survive, IF they did it wisely. People would continue to have confidence in their judgment as loan brokers, because savings were not only kept safe, they were remunerated, without fail and on time. (Or at least they were by the scrupulous bankers. Of course, those with poor judgment or devious intent were soon out of business.) Thus was born the various ways and means of money lending, among which, I believe, is the well refined art of sound commercial banking.

THE DEBATE

I maintain that a rule of thumb for wise, experienced commercial bankers evolved over time, through trial and error, which rule now says this, more or less:

A commercial banker may loan an amount equal to any gold he has in his safe, plus an amount that he can VERIFY as representing goods on their way to market that his solid loan customers have pre-sold.

Furthermore, I tend to believe that the money a wise commercial banker lends out over and above the gold in his reserves is valid, non-inflationary purchasing media, the key condition being that all such loans must be paid off, thereby retiring the non-gold-backed money from circulation - canceling it out, as it were as soon as the goods are delivered to the marketplace and are paid for as promised.

The Austrians disagree with this assessment. As is illustrated by this article at the Mises.Org website, they believe that the above-described banking tactic is dangerously speculative, and that it invites the over expansion of the money supply circulating around, leading in turn to corrosive inflation. (For newcomers, see my articles here and here regarding how inflation happens and why it is dangerous, and I do believe that it is, fatally so.)

I can understand why the Austrians might be correct in today's fiat money environment (i.e. no gold standard to maintain the value of currency); but I can't really see the danger in a more stable gold-convertibility situation where (a) any banker with a code of ethics, a survival instinct and a distaste for jail would be forced to withdraw any excess inflationary bills from circulation as soon as the resulting higher price of gold on the market encouraged customers to turn their under-valued bills back in to that banker, thereby forcing him to hand over his gold at the bank's lower standard gold exchange rate; and where (b) any unwise bankers making too many loans to unsound producers of goods would be eliminated from the marketplace by going bankrupt.

May we open the debate?

PS: On a different subject, I resisted delving into the Kelo case (see excellent write-up here), because I am too emotional about it. Unless this very poor Supreme Court decision is overturned within the next few years, we surely have here the beginning of the end of property rights and thus of the American Constitution. On the other hand, I try to remind myself that there is no beginning and no end to human societal evolution. It's simply a long eroding and rebuilding process; and when the tension gets too strong for the people, they will rise up, even if it has to be done over and over, again and again. It happened without a drop of blood in Berlin and the Ukraine. Hopefully, we here in the Western Hemisphere can follow their courageous example when the time comes.

The Exception that Proves the Rule

Several of my recent blogs have explained the reasoning behind my opinion that big government is deleterious not only to our health, but to the underpinnings of the natural laws of economics themselves; and furthermore, that any enthusiasts of Big Brother Gov have not done their homework. See most particularly these posts:

One of 'em

'Nother

I also explained here and here that some central planning fan clubs even include people who claim to be economics scientists, but who, as I see it, are merely priests of a semi-socialist progressive religion. As one of my commentators once so aptly explained, economics is no different from any other social science - indeed from the academic and/or scientific community as a whole - in that it has become a morass of political special interest. (NB: I define "special interest" to be any one person or group of people who advocates political action from a self-centered short-sighted concern for their own ass as contrasted to the long-term future good of society as a whole.)

Partly to prove how fair-minded I am, and partly out of admiration, I will point out to you someone who is a true scientist in spite of being a confessed Democrat (and therefore by definition a progressive.) In my humble opinion, he has done the impossible, and a most unpartisan thing. He has paid attention to his research, even when it conflicted with his politics.

His name is William Lewis, and he is director emeritus of the McKinsey Global Institute. He has written a most interesting book, "The Power of Productivity: Wealth, Poverty and the Threat to Global Stability." Read a summary of his research here.

I am humbled by the honesty and courage of this man. I take my hat off to this leftist-with-a-difference, and wish there were more like him.


(That's not me; it's Carol Haney in Steam Heat, Pajama Game.)

Increase in 1929-Style Millionaires - an Ominous Sign?

According to a recent Wall Street Journal article, the ranks of millionaires in the US and Europe has gone up in 2004, all of 21% in the US, according to a survey released by Spectrem group of Chicago. It also says that the rich earn only about 1/3 of their wealth from their salary and compensation. 1/3 comes from investments, and 1/3 from "businesses, inheritances and other sources." (The word "speculation" isn't used, although it might be appropriate in the present economic climate.)

I can't seem to find out whether these figures take inflation into account. (See my article here about how inflation is very poorly defined and measured today.) For that reason, I suggest this warning: Watch out before you throw any stones at these 'nouveaux riches,' because you just may be among them within a few years through no particular effort of your own.

Inflation does that. It DEFLATES our purchasing power, diminishes our dollar, and makes paper millionaires out of us all sooner or later - though 'lotta good it does us. Remember those photos of early 20th Century Germans pushing their German marks around in wheelbarrows just to buy a loaf of bread? - I'm serious!


The price of a German stamp in 1923 - that's right, 5 billion marks. No joke. Copyright by R. Lingens at www.world-postal-history.com

On the inflation front, there are those who believe the real estate market bubble will burst some time in the not too distant future. I personally do not have that good of a crystal ball; but I do find it interesting to read the bears' thoughts on the subject. Some say the central governments are manipulating the price of gold, that by now an ounce should be worth $750 or so. See this article here and those linked therein for some interesting reading. Who knows how much weight to give to their contentions? I certainly am not in a position to pooh-pooh them. Are you? Goodness knows history won't contradict them.

Once more, we learn that you can't beat the classics

Why is it that we are constantly having to face up to the fact that Daddy and Mommy Know Best, that History Repeats Itself, and that There Is Nothing New Under The Sun?

I just reread this piece by Von Mises at their website, and once again had to face the fact that we are all frothing at the mouth full of ideas we think are original, only to learn that, as usual, those wise old thinkers of the past have beaten us to it, this time by about 65 years.

Read Von Mises's wisdom if you want a perfect argument in support of the free market and against modern progressivism, otherwise known as Creepy Crawly Socialism.

Progressivism (whether it be Democrat or Republican, American or German or Japanese) is nothing but the enslavement of natural economic forces - and the people who embody them - for the selfish purposes of politicians. It is the violation of the common people by mealy mouthed Pide Pipers. It makes no difference whether Mr. or Ms. Piper is well-meaning or not, whether he/she is a criminal or an idealist; violence of innocence is always a crime. It's just a question of degree.

Read these wise old economists if you want to re-envigorate your enlightenment and courage to confront the illogical, emotion-driven and/or conniving priests of economic slavery.