Posts Tagged free market economics
China Eclipsed the U.S. as the Biggest Trading Nation. Questions to ask from an Austrian Perspective
Last month one of the Bloomberg’s headline news was titled “China Eclipses the U.S. as Biggest Trading Nation”. There seems to be of concern China’s 2012 reported trade of $3.87 trillion surpassing the U.S. report of $3.82 trillion. For the full article click here.
The concern arises with the fact that…
China’s growing influence in global commerce threatens to disrupt regional trading blocs as it becomes the most important commercial partner for some countries. Germany may export twice as much to China by the end of the decade as it does to France, estimated Goldman Sachs Group Inc.’s Jim O’Neill.
Why worry so much about an Olympic athlete that had worked hard for many years to win the gold medal? The benefits of twenty and some years of manufacturing and producing real capital in the world are evident and well deserved. As far as Germany increasing its exports to China there should be no big surprise. Germany, one of the few productive economies left in the EU, needs to find a strong trading partner with whom to exchange goods and services. The key word is “strong”, financially strong. Who else should Germany trade with? France, Spain, Italy, Greece, countries which are literally economically insolvent?
O’Neill goes on saying that…
“For so many countries around the world, China is becoming rapidly the most important bilateral trade partner. At this kind of pace by the end of the decade many European countries will be doing more individual trade with China than with bilateral partners in Europe.”
So, what’s wrong with that? If I owned a company and found that my best consumers for my product are on another continent, I would not hesitate. In addition, knowing that my consumers are financially capable of buying my products gives me even more reasons to target that market. Why settle for local consumers heavily in debt who can’t afford my products and/or would have to acquire more debt to afford it? Competition and free markets are key components of growth and success. At this point, those European countries should pay serious attention and do whatever it takes to become competitive in the market.
Then, under the chapter U.S. Leadership, we’re finding out that…
When taking into account services, U.S. total trade amounted to $4.93 trillion in 2012, according to the U.S. Bureau of Economic Analysis. The U.S. recorded a surplus in services of $195.3 billion last year and a goods deficit of more than $700 billion, according to BEA figures released Feb. 8. China’s 2012 trade surplus, measured in goods, totaled $231.1 billion.
The U.S. economy is also double the size of China’s, according to the World Bank. In 2011, the U.S. gross domestic product reached $15 trillion while China’s totaled $7.3 trillion. China’s National Bureau of Statistics reported Jan. 18 that the country’s nominal gross domestic product in 2012 totaled 51.93 trillion yuan ($8.3 trillion).
“It is remarkable that an economy that is only a fraction of the size of the U.S. economy has a larger trading volume,” Nicholas Lardy, a senior fellow at the Peterson Institute for International Economics in Washington, said in an e-mail. The increase isn’t all the result of an undervalued yuan fueling an export boom, as Chinese imports have grown more rapidly than exports since 2007, he said.
As far as services versus goods provided this is a clear sign that the U.S. does not provide enough goods. Goods are of two kinds. Consumer goods (those items we shop for such as cars, furniture, toys, clothing, jewelry, etc) and capital goods (which are the machinery and equipment with which consumer goods are being produced). Maybe the U.S.’s protectionist agenda, taxation, heavy unionism in conjunction with a national trend of favoring a socialist, if not fascist, economic system did not help after all. Maybe the corporate bailouts and Quantitative Easing did not in the end help the private manufacturing sector.
If I were in a position of power I would wonder – and would want to find out – how come my country with a GDP of $15 trillion has a trade deficit higher than my competition, which has a GDP half of my country’s GDP. Could it be that too much of our GDP is comprised of 1. the growing of the federal government, and 2. military exposure all over the world? Could it be that such a big economy has little to justify its big number considering its producing capacity is in a less than desirable stage? Mr. Lardy addresses such a question but he seems surprised. But the small businessman in America is hardly surprised. Why? Because it’s become very hard for the small business owner to compete with the government subsidized corporations when he has to jump government imposed barriers in form of rules and regulations, when he’s coerced with providing health insurance coverage to his employees, and when he’s faced with minimum wage restrictions. Then Mr. Lardy brings up a good point. China’s imports are now replacing its exports. The answer is: Think of the U.S. back during the 1980’s, when it was the largest manufacturer in the world and the largest creditor. There seems to be a role reversing going on.
The article goes on…
The U.S. emerged as the preeminent trading power following World War II as it spearheaded the creation of the global trade and financial architecture. Protectionist policies in the 1930s had exacerbated the global economic depression. At the same time the U.K., the leading trading nation of the 19th century, began to dismantle its colonial empire.
Wait a minute, did I read that right? It says that Protectionist policies in the 1930’s had exacerbated the Depression. Wasn’t Goldman Sachs concerned with Germany not trading locally within the E.U. territory? What Germany is doing is simply trading in a free market exchange. Why use protectionism to stifle it?
If the article referred to the U.K. as a colonial empire what makes today’s U.S.A. different than Great Britain during the beginning of the last century?
China began focusing on trade and foreign investment to boost its economy after decades of isolation under Chairman Mao Zedong, who died in 1976. Economic growth averaged 9.9 percent a year from 1978 through 2012.
After a long period of central planning and economic regression under the communist system China recognized that hard work and free markets are the answer to economic prosperity.
China became the world’s biggest exporter in 2009, while the U.S. remains the biggest importer, taking in $2.28 trillion in goods last year compared with China’s $1.82 trillion of imports. HSBC Holdings Plc forecast last year that China would overtake the U.S. as the top trading nation by 2016.
This begs the question: Is the U.S. consuming too much and producing too little?
The article continues with claims from a few banking institutions that China’s export figures could be manipulated. Maybe or maybe not. What I know is that wherever I shop in the U.S. , whether Walmart or JC Penney, I can’t help noticing the “Made in China” tags.
Eswar Prasad, a former International Monetary Fund official who is now a professor at Cornell University in Ithaca, New York, says…
“The U.S.’s bilateral trade deficit with China, which peaked in 2012, could remain a flashpoint of tension between the two countries.”
Why tension? Is it mutual from both countries, or unilateral? The question of who benefits the most out of the trading partnership at this time has not been addressed enough. What would happen to American people if Chinese goods imports would stop over night? Has the American politician explained how the lifestyle of the average American would be impacted? Has it been argued that an unemployed American may suffer drastic changes? The typical comment out there is “let’s build American”. Sure, I am all for it but with what? There is no savings to produce the capital required to produce goods. Or should we borrow more and increase our debt? Should we allow unions to force manufacturers to keep wages up? If we do, it means that we should also expect to pay double, if not triple for a product that otherwise would have cost us less if it were imported from China.
On the other side would China and its people be affected as much? Do they need the U.S. to consume its products? Maybe. But what if the Chinese renminbi is allowed to freely float? If that happens, the Chinese people’s purchasing power is increased. If their currency goes up it means their people would be able to afford more. With a population of more than 1.3 billion I would think there would be a large enough market to consume the locally manufactured products. Not to forget the rest of the countries in the region, some with affluent residents (such as Singapore) and some emerging countries with growing industries and growing wealth (Indonesia, Malaysia, Vietnam, etc).
Mr. Prasad continues…
“This trade imbalance is not representative of the amount of goods actually produced in China and exported to the U.S., but this perspective tends to get lost amidst the heated political rhetoric in the U.S.”
If it’s not indicative of the productive nature of China then what does it represent? The answer is just that. China: Large production and little consumption. U.S.A.: Little production and large consumption.
Goldman Sachs’, O’Neill, is concerned with…
“the trade figures underscore the need to draw China further into the global financial and trading architecture that the U.S. helped create. One way or another we have to get China more involved in the global organizations of today and the future despite some of their own reluctance. To not have China more symbolically and more importantly actually central to all these things is just increasingly silly.”
Why bring China to be part of the Wall Street game? So that it becomes part of the Debt web and contributes further to the global economic instability? No, it’s not silly to be sovereign. No, it’s not silly to be self-sufficient. And it’s not silly to be rewarded for hard work leading to production of real goods. Better than Goldman Sachs’ paper derivatives. Common sense, if applied, should lead us to think of this as an advance warning. Maybe it’s time America starts producing real hard assets instead of Wall Street paper assets.
Good news about private enterprise. Despite fervent attempts to have it destroyed it will survive. Not only that but it will win in the long run. Some may not see it now due to, what it may seem to be, incompetence and lack of efficiency at the public sector level. Some, whose views are still blurred, continue to be convinced the private enterprise brought the economy down to its knees. Nevertheless, private enterprise will triumph. It always did even under repressive systems whether known as the black market or the underground market.
I often shop at Walmart. I have always been satisfied with my local Walmart’s customer service. It’s not just the prices or convenience that draw me back there often but their recent addition of chic clothing lines, variety of cosmetics, and (so far) qualified electronics advise. I even bought a pair of cross-trainers for $19.99 which I found myself wearing just about everywhere not just at the gym. Yes, they are made in China, but what isn’t made in China nowadays? We ought to give big thanks to the national government and its policies of destroying manufacturing in our country but that’s another story.
Walmart has certainly come a long way. Once in a while I even use their money services such as a couple of weeks ago when I purchased a money order. As you may be aware many public entities don’t accept personal checks for payment of services so this was my case when dealing with a government office. My situation was simple. I made the money order payable to the wrong government office and it was sent back to me along with a rejection of the service I was in need of. Never mind I got the instructions directly from their website.
So I needed my problem solved. I needed to cancel the money order with the wrong name, get a credit for the dollar amount, and have a new money order issued. Never had to deal with anything like this before so I thought it would be a tough one to solve. I went back to Walmart for help. Sure, I had to wait in line about 15 minutes and I know that for someone who is in a hurry that may not be that convenient. However 15 minutes was worth the wait to accomplish my mission.
When I wait I usually have the habit to observe, whether it’s people or events. Donuts, soda pop, and processed foods in a shopping basket are not the emblem of healthy aging, for example. I see it as a direct ticket to the hospital. Store cleanliness invites me back to the store. Watching elderly couples gives me hope that wisdom has meaningful purpose in our world. I then proceeded to watch the employee who was going to help me. Blond, blue eyed, and young; about 27 years of age in my estimation. He helped four people who were ahead of me in line. He helped his manager who needed his help. He multi tasked. He kept his calm no matter how overwhelming his responsibilities were becoming. By the time my turn came I expected to see a sign of a break down. His face was like I was his first customer for the day, no sign of distress. I explained my concern with the money order. I did not have a receipt with me. If I did I would have made his life easier because he would have been able to track down the transaction faster. My mistake. But he did find a way to help me. It took longer time and most importantly knowledge how to do it. He went the extra mile, no commission, no bonus as incentive, he just did the right thing. He had all this and more yet how many people take the time today to recognize such values from a Walmart employee?
In my case the Walmart employee was better qualified to solve problems than the government office which had wrong information on their website. The government office employs people, just as Walmart does. What is then the difference between the two of them? Hiring qualification guidelines. To a private enterprise, an employer’s requirement is that an employee knows how to solve problems. For a private enterprise, the customer is always right.
Not so with a government entity. Their guidelines come from a higher level. Their positions are secure as long as there are tax payer money to “fund” them. Their positions are not based on productivity or efficiency. Bureaucrats punch in and punch out. Just as in the former centralized systems like the communist countries of the Eastern Block or China, we have seen that such a system is not sustainable and thus its lifespan is limited.
There is a battle between the public system and the private enterprise. The good news is that it is the people of private enterprise who will assure the victory. Whether it’s Walmart or any other business whose people are competent to solve your problem be sure to let him know you appreciate it. I did and he blushed with humility.
By Ron Paul
If it’s not accepted that big government, fiat money, ignoring liberty, central economic planning, welfarism, and warfarism caused our crisis we can expect a continuous and dangerous march toward corporatism and even fascism with even more loss of our liberties. Prosperity for a large middle class though will become an abstract dream.
This continuous move is no different than what we have seen in how our financial crisis of 2008 was handled. Congress first directed, with bipartisan support, bailouts for the wealthy. Then it was the Federal Reserve with its endless quantitative easing. If at first it doesn’t succeed try again; QE1, QE2, and QE3 and with no results we try QE indefinitely — that is until it too fails. There’s a cost to all of this and let me assure you delaying the payment is no longer an option. The rules of the market will extract its pound of flesh and it won’t be pretty.
The current crisis elicits a lot of pessimism. And the pessimism adds to less confidence in the future. The two feed on themselves, making our situation worse.
If the underlying cause of the crisis is not understood we cannot solve our problems. The issues of warfare, welfare, deficits, inflationism, corporatism, bailouts and authoritarianism cannot be ignored. By only expanding these policies we cannot expect good results.
Everyone claims support for freedom. But too often it’s for one’s own freedom and not for others. Too many believe that there must be limits on freedom. They argue that freedom must be directed and managed to achieve fairness and equality thus making it acceptable to curtail, through force, certain liberties.
Some decide what and whose freedoms are to be limited. These are the politicians whose goal in life is power. Their success depends on gaining support from special interests.
If your life revolves around real estate you’re probably wondering when will the real estate market bounce back. And even if you’re not directly involved in real estate you’re most likely wondering when will you be able to sell your property for a price above your loan balance.
So, if you’re like most people and listen to the news you would have heard this. The Federal Reserve has lowered the interest rate to revive the depressed real estate sector. Low rates would get people to buy and others to refinance. Buying would lead to more housing demand thus helping builders and realtors. Refinancing would help consumers increase their net disposable income. Therefore, these folks would start spending which in turn triggers demand in other consumer areas and blah, blah, and blah.
It may not be obvious to the untrained eye that our Keynesian anti-free market government and its media disciple have it backwards. What they don’t seem to understand is that in order for people to buy houses they must be financially able. Not only that but they also must have the security that their job will be there and their employer will still need them for a while. When nine out of a hundred people (or more realistically seventeen out of a hundred) are jobless, the majority of folks don’t think about the “American Dream”. They think about how they’ll be able to keep food on the table and keep a roof, any kind of roof, above their heads.
Then we have the Joe Smiths who may want to move and buy a new home but they can’t just seem to be able to sell their current ones. Their homes are either under water or there is no demand to buy at the price they think is fair. So the Joe Smiths will have not much of a choice but to stay where they are.
Reality is that few people today have a sense of prosperity. As a landlord myself I see how my tenants are suffering through this economy. As a commercial mortgage broker I can’t help noticing the challenges some of my clients experience. Heck, my work and my investments are affected by the people I work with, my tenants and my clients. As you can see there is a Domino Effect that impacts all of us. So, what is the solution then?
Get rid of Regulations
In order for the real estate market to get better there are some underlying fundamentals that must occur. First, we must see a business friendly environment encouraged by the government. In this case the government’s job is to slash most of the burdening regulations so that entrepreneurs can put their creative minds into action and bring new enterprises to life. We definitely need the small business and the wonderful benefits of competition. This will create employment and will fill commercial real estate vacancies.
Secondly, we need lower taxes not only for businesses but for all taxpayers. The businessman must profit in order for him to stay in business. Otherwise there is no incentive for him to take such challenge and risk. As far as the individual, he knows best how to spend his money, he doesn’t need the government to do it for him. When the individual has more disposable income he can then direct the spending in the areas he finds it most beneficial.
Get rid of Moral Hazard
Then we have the all so predominant Moral Hazard. The Wikipedia defines moral hazard as “a situation where a party will have a tendency to take risks because the costs that could incur will not be felt by the party taking the risk. Moral hazard arises because an individual or institution does not take the full consequences and responsibilities of its actions, and therefore has a tendency to act less carefully than it otherwise would, leaving another party to hold some responsibility for the consequences of those actions.” What I am referring to is the corporate welfare which entails the “generosity” of the government when bailing out insolvent corporations.
This matters because when Fannie and Freddie get bailed out it doesn’t allow the market to work in its natural course of events. It matters because when the Fed buys the banks’ bad assets it takes away the banks’ incentive to efficiently discard those properties to investors for the prices established by the market. Thus we have banks sitting nonchalantly on portfolios of foreclosed and non-foreclosed (but non-performing) assets. Why such behavior? Because they already sold their bad loans for a higher (than what the market dictates) price to the Fed. They have the money in reserves so why hurry? Ask a realtor who sells foreclosures or short sales what it’s like to work with the banks and you’ll get the real picture.
That’s it, folks, this is what must happen before we dare to even think of a real estate market recovery. Without getting rid of regulations, without lowering taxes, and without eliminating the corporate/bank welfare I don’t care what the laymen journalists say or predict. It’s all wishful thinking.
A final note. Implementing one or two of those requirements would somewhat improve the real estate market but in no way will bring it to a full recovery.
To many people, the slumlord — alias ghetto landlord and rent gouger — is proof that man can, while still alive, attain a satanic image. Recipient of vile curses, pincushion for needle-bearing tenants with a penchant for voodoo, perceived as exploiter of the downtrodden, the slumlord is surely one of the most hated figures of the day.
The indictment is manifold: he charges unconscionably high rents; he allows his buildings to fall into disrepair; his apartments are painted with cheap lead paint, which poisons babies; and he allows junkies, rapists, and drunks to harass the tenants. The falling plaster, the overflowing garbage, the omnipresent roaches, the leaky plumbing, the roof cave-ins and the fires, are all integral parts of the slumlord’s domain. And the only creatures who thrive in his premises are the rats.
The indictment, highly charged though it is, is spurious. The owner of ghetto housing differs little from any other purveyor of low-cost merchandise. In fact, he is no different from any purveyor of any kind of merchandise. They all charge as much as they can.
First consider the purveyors of cheap, inferior, and secondhand merchandise as a class. One thing above all else stands out about merchandise they buy and sell: it is cheaply built, inferior in quality, or secondhand. A rational person would not expect high quality, exquisite workmanship, or superior new merchandise at bargain rate prices; he would not feel outraged and cheated if bargain rate merchandise proved to have only bargain rate qualities. Our expectations from margarine are not those of butter. We are satisfied with lesser qualities from a used car than from a new car. However, when it comes to housing, especially in the urban setting, people expect, even insist upon, quality housing at bargain prices.
But what of the claim that the slumlord overcharges for his decrepit housing? This is erroneous. Everyone tries to obtain the highest price possible for what he produces, and to pay the lowest price possible for what he buys. Landlords operate this way, as do workers, minority group members, socialists, babysitters, and communal farmers. Even widows and pensioners who save their money for an emergency try to get the highest interest rates possible for their savings.
According to the reasoning that finds slumlords contemptible, all these people must also be condemned. For they “exploit” the people to whom they sell or rent their services and capital in the same way when they try to obtain the highest return possible.
But, of course, they are not contemptible — at least not because of their desire to obtain as high a return as possible from their products and services. And neither are slumlords. Landlords of dilapidated houses are singled out for something that is almost a basic part of human nature — the desire to barter and trade and to get the best possible bargain.
The critics of the slumlord fail to distinguish between the desire to charge high prices, which everyone has, and the ability to do so, which not everyone has. Slumlords are distinct, not because they want to charge high prices, but because they can. The question that is therefore central to the issue — and that critics totally disregard — is why this is so.
What usually stops people from charging inordinately high prices is the competition that arises as soon as the price and profit margin of any given product or service begins to rise. If the price of Frisbees, for example, starts to rise, established manufacturers will expand production, new entrepreneurs will enter the industry, used Frisbees will perhaps be sold in secondhand markets, etc. All these activities tend to counter the original rise in price.
If the price of rental apartments suddenly began to rise because of a sudden housing shortage, similar forces would come into play. New housing would be built by established real estate owners and by new ones who would be drawn into the industry by the price rise. Old housing would tend to be renovated; basements and attics would be pressed into use. All these activities would tend to drive the price of housing down, and cure the housing shortage.
If landlords tried to raise the rents in the absence of a housing shortage, they would find it difficult to keep their apartments rented. For both old and new tenants would be tempted away by the relatively lower rents charged elsewhere.
Even if landlords banded together to raise rents, they would not be able to maintain the rise in the absence of a housing shortage. Such an attempt would be countered by new entrepreneurs, not party to the cartel agreement, who would rush in to meet the demand for lower priced housing. They would buy existing housing and build new housing.
Tenants would, of course, flock to the noncartel housing. Those who remained in the high-price buildings would tend to use less space, either by doubling up or by seeking less space than before. As this occurs it would become more difficult for the cartel landlords to keep their buildings fully rented.
Inevitably, the cartel would break up, as the landlords sought to find and keep tenants in the only way possible: by lowering rents. It is, therefore, specious to claim that landlords charge whatever they please. They charge whatever the market will bear, as does everyone else.
An additional reason for calling the claim unwarranted is that there is, at bottom, no really legitimate sense to the concept of overcharging. “Overcharging” can only mean “charging more than the buyer would like to pay.” But since we would all really like to pay nothing for our dwelling space (or perhaps minus infinity, which would be equivalent to the landlord paying the tenant an infinite amount of money for living in his building), landlords who charge anything at all can be said to be overcharging. Everyone who sells at any price greater than zero can be said to be overcharging, because we would all like to pay nothing (or minus infinity) for what we buy.
Disregarding as spurious the claim that the slumlord overcharges, what of the vision of rats, garbage, falling plaster, etc.? Is the slumlord responsible for these conditions?
Although it is fashionable in the extreme to say “yes,” this will not do. For the problem of slum housing is not really a problem of slums or of housing at all. It is a problem of poverty — a problem for which the landlord cannot be held responsible. And when it is not the result of poverty, it is not a social problem at all.
Slum housing with all its horrors is not a problem when the inhabitants are people who can afford higher quality housing, but prefer to live in slum housing because of the money they can save thereby.
Such a choice might not be a popular one, but other people’s freely made choices that affect only them cannot be classified as a social problem. If that could be done, we would all be in danger of having our most deliberate choices, our most cherished tastes and desires characterized as “social problems” by people whose taste differs from ours.
Slum housing is a problem when the inhabitants live there of necessity — not wishing to remain there, but unable to afford anything better. Their situation is certainly distressing, but the fault does not lie with the landlord. On the contrary, he is providing a necessary service, given the poverty of the tenants.
For proof, consider a law prohibiting the existence of slums, and therefore of slumlords, without making provisions for the slum dwellers in any other way, such as providing decent housing for the poor or an adequate income to buy or rent good housing. The argument is that if the slumlord truly harms the slum dweller, then his elimination, with everything else unchanged, ought to increase the net well-being of the slum tenant.
But the law would not accomplish this. It would greatly harm not only the slumlords but the slum dwellers as well. If anything, it would harm the slum dwellers even more, for the slumlords would lose only one of perhaps many sources of income; the slum dwellers would lose their very homes.
They would be forced to rent more expensive dwelling space, with consequent decreases in the amount of money available for food, medicines, and other necessities. No. The problem is not the slumlord — it is poverty. Only if the slumlord were the cause of poverty could he be legitimately blamed for the evils of slum housing.
Why is it then, if he is no more guilty of underhandedness than other merchants, that the slumlord has been singled out for vilification? After all, those who sell used clothes to Bowery bums are not reviled, even though their wares are inferior, the prices high, and the purchasers poor and helpless. Instead of blaming the merchants, however, we seem to know where the blame lies — in the poverty and hopeless condition of the Bowery bum.
In like manner, people do not blame the owners of junkyards for the poor condition of their wares or the dire straits of their customers. People do not blame the owners of “day-old bakeries” for the staleness of the bread. They realize, instead, that were it not for junkyards and these bakeries, poor people would be in an even worse condition than they are now in.
Although the answer can only be speculative, it would seem that there is a positive relationship between the amount of governmental interference in an economic arena, and the abuse and invective heaped upon the businessmen serving that arena. There have been few laws interfering with the “day-old bakeries” or junkyards, but many in the housing area. The link between government involvement in the housing market and the plight of the slumlord’s public image should, therefore, be pinpointed.
That there is strong and varied government involvement in the housing market cannot be denied. Scatter-site housing projects, “public” housing and urban renewal projects, and zoning ordinances and building codes, are just a few examples. Each of these has created more problems than it has solved. More housing has been destroyed than created, racial tensions have been exacerbated, and neighborhoods and community life have been shattered.
In each case, it seems that the spillover effects of bureaucratic red tape and bungling are visited upon the slumlord. He bears the blame for much of the overcrowding engendered by the urban renewal program. He is blamed for not keeping his buildings up to the standards set forth in unrealistic building codes that, if met, would radically worsen the situation of the slum dweller. Compelling “Cadillac housing” can only harm the inhabitants of “Volkswagen housing.” It puts all housing out of the financial reach of the poor.
Perhaps the most critical link between the government and the disrepute in which the slumlord is held is the rent control law. For rent control legislation changes the usual profit incentives, which put the entrepreneur in the service of his customers, to incentives that make him the direct enemy of his tenant-customers.
Ordinarily the landlord (or any other businessman) earns money by serving the needs of his tenants. If he fails to meet these needs, the tenants will tend to move out. Vacant apartments mean, of course, a loss of income. Advertising, rental agents, repairs, painting, and other conditions involved in re-renting an apartment mean extra expenditures.
In addition, the landlord who fails to meet the needs of the tenants may have to charge lower rents than he otherwise could. As in other businesses, the customer is “always right,” and the merchant ignores this dictum only at his own peril.
But with rent control, the incentive system is turned around. Here the landlord can earn the greatest return not by serving his tenants well, but by mistreating them, by malingering, by refusing to make repairs, by insulting them. When the rents are legally controlled at rates below their market value, the landlord earns the greatest return not by serving his tenants, but by getting rid of them. For then he can replace them with higher-paying non-rent-controlled tenants.
If the incentive system is turned around under rent control, it is the self-selection process through which entry to the landlord “industry” is determined. The types of people attracted to an occupation are influenced by the type of work that must be done in the industry.
If the occupation calls (financially) for service to consumers, one type of landlord will be attracted. If the occupation calls (financially) for harassment of consumers, then quite a different type of landlord will be attracted. In other words, in many cases the reputation of the slumlord as cunning, avaricious, etc., might be well-deserved, but it is the rent control program in the first place that encourages people of this type to become landlords.
If the slumlord were prohibited from lording over slums, and if this prohibition were actively enforced, the welfare of the poor slum dweller would be immeasurably worsened, as we have seen. It is the prohibition of high rents by rent control and similar legislation that causes the deterioration of housing. It is the prohibition of low-quality housing by housing codes and the like that causes landlords to leave the field of housing.
The result is that tenants have fewer choices, and the choices they have are of low quality. If landlords cannot make as much profit in supplying housing to the poor as they can in other endeavors, they will leave the field. Attempts to lower rents and maintain high quality through prohibitions only lower profits and drive slumlords out of the field, leaving poor tenants immeasurably worse off.
It should be remembered that the basic cause of slums is not the slumlord, and that the worst “excesses” of the slumlord are due to governmental programs, especially rent control. The slumlord does make a positive contribution to society; without him, the economy would be worse off. That he continues in his thankless task, amidst all the abuse and vilification, can only be evidence of his basically heroic nature.
Currently there are about $1.2 trillion in “excess reserves” in the banking system, an amount held by banks above and beyond their reserve requirements (needed to “back up” their existing customer checking account balances.) Commercial banks are free to lend it out to their customers however most banks keep their excess reserves parked at the Fed, and get paid by the Fed an annual percentage rate (APR) of 0.25 percent (25 “basis points.”) This means that the banks’ excess reserve balance grows annually by 25 basis points, a convenient way for banks to earn interest by incurring no risk. Whenever money is lent out there is a risk associated with it even if the underlying asset and the borrower are outstanding. If you’ve been wondering lately why banks are so picky with their lending guidelines you will find your answer in this article.
Few economists (mostly Austrian) pay attention to the Fed’s chairman fine print where Bernanke frequently mentions the Fed’s ability to offer higher interest rates on excess reserves. The question is why would Bernanke be prepared to entice commercial banks with higher rates to keep their money parked at the Fed?
To best answer this question we need to address the high probability of an increase in the prime rate (what commercial banks charge their best clients). So far the Fed has been able to keep this rate at extremely low levels however rising prices on commodities will most likely force the market to adjust and increase the cost of money. When rates go up the banks will want to start using their excess reserve to make new loans. The higher the rate the more eager the banks will be to earn profits from making new loans. Yet, Bernanke is prepared to do whatever it takes to stop those reserves from being used for lending.
The motive behind the Fed’s determination to keep banks from lending is hiding behind the complexity of the monetary base and its sinister expansion since the 2008 financial crises. There is a lot of talk today about the Fed’s creation of new money (out of thin air) but not enough is known – or talked – about its repercussions. Monetary expansion distorts the markets by pushing interest rates below their natural market level, it dilutes the value of currency, and it causes inflation or worse, hyperinflation.
As mentioned earlier there are $1.2 trillion in excess reserves currently parked at the Fed. The fractional-reserve banking system allows a bank to lend out $10 for each dollar it has in excess reserves. The problem is that the $10 being used for credit purpose is technically newly created money and is listed on the bank’s balance sheet. This action increases the monetary base when the credit issued in form of loans is being monetized. What Bernanke knows is that the $1.2 trillion in excess reserves could ultimately translate into an estimated $11 trillion in new money created by the banks, as they pyramid new loans on top of the base money he has injected.
Currently the money stock (M1) is at $1.9 trillion. If banks start lending out at their full potential the money stock can be increased by a factor of six. The effects of such an increase would be devastating to most Americans. If you think $4 per gallon at the pump is too much you’d rethink it if the price turns into six times $4. Can you imagine for a barrel of oil to jump from $100 to $600 in a relatively short period of time? I can and it’s not pretty! When oil prices rise the prices of all commodities usually follow. Keep in mind that salaries and wages would not follow such a huge increase in the cost of living.
So far, we haven’t seen a massive price inflation, because the banks are making very few loans. But the battle between the market and the Fed will soon show who the true winner is. The universe will prove that it is more powerful than the men at the Fed. And when the Central Bank loses its ability to suppress the rates, the commercial banks will begin using their excess reserves (currently parked at the Fed) by making new loans to their customers. When that happens, Bernanke will need to act fast to prevent banks from lending out their reserves.
History and the economic laws tell us that after long periods of discount rate suppression it is not surprising for the prime rate to escalate to 10%. In such a case banks will most likely not have a hard time deciding whether to keep their excess reserves at the Fed (for a safe .25%) or to draw them and make new loans at 10%. Substantially higher returns will be a great incentive. The Fed knows it and thus it will be willing to bribe the banks to keep them from drawing their reserves by increasing the yield it pays. Bernanke does not necessarily have to increase the yield to match the prime. If he offers a 7.25% to keep their reserves parked at the Fed, the banks would most likely accept the offer due to its ability to earn higher yields while taking no risk whatsoever.
For one thing, Bernanke and Geithner are praised for saving the financial system. Yet on the other hand, Bernanke admits that if banks started to lend out that money, he would offer them even more to stop. But by offering more money to banks the Fed’s income will substantially decrease and in this case it will remit less money to the Treasury. So, let’s do the math. On a balance of $1.2 trillion, if the Fed had to pay 7.5 percent interest, that would translate into $90 billion in annual payments to the banks. Last year the Federal reserve earned about $81 billion in net income. Out of this amount it remitted $78 billion to the Treasury. It is obvious that the $90 billion the Fed would pay the banks to not make loans would not be sufficient to cover the entire amount. What would happen in such an event not only the Treasury would stop receiving the billions from the Fed but will have to create more money to satisfy the bribe. This event would increase the federal deficit and the taxpayers would ultimately be the ones paying bankers to not give them loans.
This solution to “solve” the problem is one of the very few the Fed has at this time. Bernanke appears to be more inclined to go with this one versus the other two (pulling the reserves out of the system or change the fractional reserve banking system to a full reserve system.) Yet those “remedies” would cause the economy to fall into a depression much sooner. His approach does not necessarily mean that an economic depression could be avoided. All it does is to postpone the inevitable and defer it for a later time. With the elections being just around the corner the Fed (and the politicians) need to make us believe that everything is OK. Therefore the more subtle solution is to prevent banks from lending their excess reserves by paying them a yield. The yield is currently very low (.25%) but if needed, as always the taxpayers will come to the rescue. Ultimately people will pay the banks to not make them loans.
By Carolyn Cui The Wall Street Journal, Monday, May 9, 2011 After silver suffered its worst one-week drubbing in three decades, one of the biggest silver bulls gave a pep talk to hundreds of followers on Monday. "Silver will be a currency just like gold. It's logical to expect silver prices to go much higher," said Eric Sprott, chief executive officer of Sprott Asset Management LP, which oversees a $1-billion silver fund that was $327 million larger at the beginning of last week. As for the recent plunge, Mr. Sprott pointed at speculative short-sellers as the prime culprit, eliciting applause from the crowd of nervous believers. Silver skidded 27% last week, but poor man's gold leaped 5.2% today, underscoring its rodeo-like allure. Mr. Sprott, a big advocate for precious metals, trotted out familiar themes to back up his points: the Federal Reserve's loose monetary policies, relentless bank failures, and the fragile housing market. Continue to read HERE