Why hasn’t the Fed’s loose monetary policy since the financial crises led to inflation?

Since the financial crises of 2008, the Federal Reserve has expanded its balance sheet from about $850 billion to about $4.5 trillion. In other words, the Fed has created $3.6 trillion of new money, representing more than 20% of U.S. GDP.

Back in 2008 and 2009 lots of smart people assumed that money printing of that magnitude would surely cause serious inflation, if not hyperinflation. And yet, with all that new money, inflation, at least as represented by the Consumer Price Index (CPI) has remained below the Fed’s target of 2%. Why? Why hasn’t the Fed’s extraordinarily loose monetary policy led to significant inflation?

In no particular order, here are seven possible explanations. Which ones are true? All of them.

1. Banks have not lent the money

Of all the reasons for why the Fed’s extraordinary monetary policy hasn’t led to inflation, this one is both the most obvious and the least controversial.

The mechanism of monetary policy is for the Federal Reserve to buy securities (e.g. government debt) from banks with newly created money. This newly created money is then available for banks to lend to businesses and consumers. Since banks historically earned no interest income on this idle money (“excess reserves”), banks should have incentive to lend the money in order to earn interest income.

The fable told in economics textbooks is that of the money multiplier and the reserve requirement. The story goes that once reserves are created on a bank’s balance sheet, the bank will then lend out all of it except the portion it is legally required to hold. For example, if $100 of new money is created by the Fed and deposited in a bank, and if the reserve requirement is 10%, then the bank will lend out $90. But that’s not the end of the story.

That $90 can then be used to buy machinery or hire workers or build a house, and that $90 will ultimately be deposited back at another bank (or the same bank, it doesn’t matter) by the receiver of the money (the machinery vendor, the worker or the homebuilder). Now the banking system can lend out another 90% of that $90, or $81. This process continues indefinitely ($100+$90+$81+$73+$66, etc.) and ultimately, $1000 of money is created, equal to the original amount divided by the reserve requirement (in our example, $100/.01). In other words, the money multiplier is 10, since 10x the Fed’s original deposit is created.

If this was the way the world really worked, then the $3.6 trillion created by the Fed would have really led to something like $36 trillion of new money (the reserve requirement in the U.S. is 10% on most balances). This would equate not to 20% of annual GDP but 200% of GDP. With that amount of newly created money, it is a near certainty that inflation would have followed.

Clearly, that hasn’t happened. Massive inflation hasn’t followed because the banks haven’t lent the money. The so-called multiplier effect simply hasn’t occurred. Instead, banks have kept most of the excess reserves on their own balance sheets, to the tune of $2.5 trillion. There are a number of reasons why.

First, the Fed, beginning during the financial crises began paying interest to banks on excess reserves. Hence, since banks do earn some income on unused reserves, they have less of an incentive to lend. Second, thanks to extraordinarily low interest rates set by the Fed (the Fed is targeting an interest rate when it buys securities with newly created money), banks earn relatively little interest income on the funds that they do lend. Why earn only a little income on risky lending when you can earn only a little bit less income without taking risk?

Third, banks are still repairing their balance sheets that never fully recovered after the financial crises of 2008. And given the severity of the last financial crises, banks now realize that they had better keep more reserves ahead of the next (inevitable) crises. Fourth, the Fed and other bank regulators, through various regulations and “stress tests” have significantly increased the amount of capital banks are required to have, and curtailed the amount of risk banks can take.

Lastly, and most importantly, banks haven’t lent because they can’t find very many creditworthy borrowers that want to borrow. Consumers, as a group, are still over-indebted. And businesses are facing the twin hurdles of global oversupply and “disruption” from easy-money fueled technology companies. With this onslaught, it is no wonder why most businesses have no appetite to borrow and to invest.

Before we move on, let’s revisit the stated purpose of easy monetary policy: to encourage banks to lend. As I said above, that banks aren’t lending all the money that the Federal Reserve created is common knowledge. And as I also mentioned, the Fed and other government regulators are actively forcing large banks to reduce risk. Seems a bit contradictory, doesn’t it?

This begs the following question: what is the true purpose of easy money, if not to directly stimulate the economy through increased lending? To recapitalize (bail out) banks? To raise asset prices? To simply appear to be doing something to help the economy, so that you’re not blamed for the next downturn?

2. The money has flowed overseas

Textbook economics dictates that the Fed can at least influence, if not control the level of inflation. By lowering interest rates and printing money, the Fed can stimulate lending, which stimulates businesses activity, which results in increased employment, which results in increased aggregate demand, which puts pressure on wages and ultimately prices.

However, as we’ve already discussed, banks aren’t lending as much as the Fed would like to U.S. consumers and U.S. businesses. But perhaps they are lending the money overseas? This is what is known as the “carry trade.” Made famous over the past two decades involving the Japanese Yen, it applies equally well to the United States. Simply put, borrow where interest rates are low (e.g. Japan and the U.S.) and then lend the money in emerging market countries where both interest rates and growth prospects are higher. In other words, freshly printed (digitally, that is) Federal Reserve money winds up not in the U.S. as intended, but instead financing Spanish real estate or Brazilian mines or Chinese factories.

So perhaps the textbooks are correct that low interest rates and new central bank money will lead to higher GDP and ultimately inflation. But in a world of free-flowing capital, that higher GDP and even inflation can just as easily occur in other countries rather than the country in which the money was created. In other words, in the small, closed economies of the ivory tower, perhaps an all knowing central authority can indeed control inflation. In the real world, perhaps not.

3. The CPI is understated

Like all government created economics statistics, the CPI is an enormously complicated statistical measure that very few people understand. To quote Wikipedia, the CPI is “a statistical estimate constructed using the prices of a sample of representative items whose prices are collected periodically.” But what are those representative items? What I buy and what you buy might not be the same. And what prices should be used? Prices in New York? In Detroit? In rural Alaska? And how should we collect these prices? And how often?

Yet those are probably the easy questions. There are much harder ones. What about quality changes? How should new cellphone features be factored into the price index? How about safer cars? Or less legroom when flying? And how about substitution effects? If the price of steak goes up, I might switch to chicken, which is cheaper. Since I no longer buy steak, should the price index only account for chicken? But if I really prefer steak, isn’t that really a reduction in my utility, and hence similar to a quality decline in my food consumption?

Perhaps the most controversial input in the CPI is how it accounts for housing, the single largest expense for the average consumer, and thus the largest component of the CPI. Rather than directly include the change in the price of houses, like it does for other consumer goods, the CPI takes into account something called “owner’s equivalent of rent” (OIR). This is a measure, based on surveys, for how much monthly rent homeowners believe that could get if they were to rent out their homes.

Leading up to the financial crises, housing prices where increasing at a rate double that of OIR. Many have suggested that the Federal Reserve ignored the obvious signs of the housing bubble because they were focused on inflation indices such as CPI, which vastly understated the inflationary impact of rising house prices.

The CPI is truly a black box, and I will be the first to admit that I have little understanding of what exactly is contained in that black box, or how that black box is constructed. And to be fair and truthful, you can find plenty of economists who will argue that the CPI overestimates true inflation (mostly due to quality increases) rather than underestimates inflation.

However, one thing is undeniable. As much as I hate to sound like a conspiracy theorist, I would be remiss to point out that the government has a huge incentive to understate the CPI, for at least two reasons. First, because many government entitlement programs, most notably social security are tied to cost of living increases. The lower the official inflation rate, the lower the entitlement payments the government is obligated to make. Second, inflation is a key component of reported economic output (i.e. GDP). The lower the inflation rate (in this case the GDP deflator), the higher the headline real GDP figure. All the better for incumbent politicians.

Long story short, given the government’s bias for lower inflation, I would guess that true inflation is perhaps 1-2% higher than the reported CPI number. But whether I am right or not, here’s the most important thing to remember. Measuring inflation is enormously complicated and messy. Even without a bias, this is art not science. So why should a central bank rely on such a figure, a figure who’s margin of error is probably at least a full multiple of itself, to justify printing trillions of dollars? To me, this is unwise, unscientific, undemocratic and bordering on criminal.

4. Asset prices are inflated

Take someone off the street (Main or Wall) and ask them what they think of the Federal Reserve. Assuming they know what the Federal Reserve is, they might say the Fed is doing a good job or a bad job. They might say that the Fed should do more to help the economy or less. They might say that the Fed should lower interest rates further or raise them. But if you ask them, regardless of their economic beliefs, to state one criticism of the Fed, I’d bet most would say the following: the Fed contributes to rising asset prices and to asset bubbles.

Remember the discussion of owner equivalent of rent from above? Just in case you don’t, we said that the housing component of the CPI reflects an estimate of changes in housing’s rental price rather than its sales price. Why is that? Because renting a home is considered consumption while buying a home is considered investment. The CPI is meant to measure consumption. Not investment. And therefore, not asset prices.

The Fed won’t admit they they create asset bubbles. But they do. Easy money in the 1990’s led to the first tech bubble. Easier money in the 2000’s led to the worldwide real estate bubble. Even easier money now has led to a bubble in all financial assets. Stocks, bonds, real estate, art, wine, you name it.

Let’s talk finance 101. Mathematically, the flip side of a low interest rate (technically, a low cost of capital) is a high valuation. In fact, the Fed has explicitly stated that they believe in what is known as the “wealth effect.” If your stock portfolio is higher and the value of your house is higher, then you are more likely to spend money, which should help the economy. Whether or not this wealth effect is real is irrelevant here. What is relevant is that higher asset prices are both a mechanical consequence AND a desired outcome of central banking’s loose monetary policy.

While the CPI might not reflect inflation, asset prices do. And the more risky the asset, the more the asset has been inflated. If this sounds scary, it should. Sooner or later, asset bubbles burst. When they do, financial crises tend to follow.

What asset inflation also means is that investors are paying more today for income tomorrow. We see this looking at metrics like Price/Earnings on stocks (very high) or Capitalization Rates on real estate assets (very low). These two metrics (essentially inverses of each other, hence the opposite direction) reflect, respectively, the high price paid today for a dollar of earnings from public companies or a dollar of cash flow from real estate investments.

Said another way, paying a high price now means that future rates of return on financial assets will likely be much lower than they have been in the past. This is great for today’s sellers of assets, who are receiving very high (inflated) prices. Sellers can use that money to consume, theoretically helping the economy (another impact of the wealth effect). However, buyers of financial assets pay more now, and will receive lower cash flows later on, reducing future consumption. So, not only does asset inflation result in those dangerous asset bubbles, it also pulls consumption forward, meaning lower economic growth in the future. Not to mention, you’re killing the business models of insurance companies and pensions, which rely on investment income to meet future obligations. Truly a disaster waiting to happen.

Long story short, while the $3.6 trillion the Fed has printed (and the corresponding reduction in interest rates) may not have led to very high CPI figures, it has helped lead to asset inflation. And the riskier the assets, the more inflated they are. This has gotten the world into trouble before. It will do so again.

5. Inflation is much higher for the wealthy

When we were talking about the CPI, I mentioned that there are many assumptions that have to be made in order to construct such an index. For instance, what products to include. Also, who to survey. In reality, the government folks (the Bureau of Labor Statistics or “BLS”) who are responsible for publishing the CPI do construct several different indices based on who they survey. For example, they have separate price indices for urban consumers and rural consumers. They also have a price index for consumption by the elderly.

To my knowledge, none of those price indices show inflation levels that would worry the Fed. However, I believe there is a subset of American (and global, for that matter) consumer that is experiencing inflation on a level that should concern the central banks of the world. That consumer is the wealthy.

Whereas the CPI has been running under 2% for many years running, I believe that a properly measured index for wealthy consumers would show inflation running at somewhere between 6-10% annually. In other words, perhaps 3-5 times the CPI. And the richer the consumer, the higher the inflation.

What has happened to this segment of consumer is a classic wage/price spiral. In a textbook wage/price spiral, money printing heats up the economy causing prices to rise. Workers seeing prices rise, demand higher wages. Higher wages result in businesses raising prices to offset higher wage costs. Higher prices cause workers to demand even higher wages, etc, etc, etc.

In today’s world, that is what is happening but the money first flows through Wall Street, and then flows to the owners and operators of high risk assets, such as hedge funds, tech entrepreneurs and public company CEOs. Those “workers” see their cost of living go up (e.g. housing prices in Manhattan or Greenwich, CT) and demand higher compensation and the cycle continues.

I freely admit that I don’t have hard data to back up my contention. However, observation and intuition says that the annual increase in the cost of living in a “1%” city like New York or San Francisco has clearly increased well beyond 2%. So have the costs of eating in a 4-star restaurant, imbibing a grand cru burgundy, staying in a Four Seasons hotel, paying full-fare for an Ivy League education (or buying your kid’s way into Harvard) and many more such worldly pursuits.

To be clear, I’m not advocating that you feel sorry for the rich. Not at all. For incomes of the wealthy have increased correspondingly. Remember, the point of this article is to explain why the Fed’s loose monetary policy hasn’t led to inflation, at least as measured by the CPI. However, in my view, it has led to very high inflation for this subset of consumers. Moreover, the asset inflation that I talked about above, plays a large role here too. For who owns most of the financial assets in the world? The wealthy. So just as there is price inflation for the 1%, there is massive wealth inflation.

If this sounds to you like I’m blaming the Federal Reserve for the enormous increase in income inequality over the past few decades than you are exactly correct. Regardless of intention, good or bad, the money that the Fed, and other central banks have printed has, for the most part, not flowed to Main Street. And it has not flowed to the middle class. Instead, it has gone to the wealthy, the super-wealthy, and the uber-wealthy. It has gone to Wall Street and to New York. It has gone to Silicon Valley and to San Francisco. It has gone to hedge funders and investment bankers, to tech entrepreneurs and venture capitalists, to CEOs and star athletes and perhaps worst of all, to politicians or at least ex-politicians.

6. The Fed is chasing its own tail

The next explanation for why the Fed’s easy monetary policy hasn’t led to inflation is what I will call the Fed chasing its own tail. What I mean is that contrary to intention, cheap money actually leads to lower prices rather than higher prices.

Let’s once again review the textbook rationale for easy monetary policy. Printing money and lowering interest rates leads to more lending and borrowing, and therefore to more investment and more spending than would otherwise happen without easy money. The implicit assumption is that the economy is operating under capacity (i.e. there is unemployment) and therefore, that the additional spending and investment expands the economy until it reaches full capacity, at which time inflation should occur.

Other things equal, I agree that low interest rates and easy money leads to more investment and, especially to more riskier investment. However, like everything in the real world, other things are not equal. As I wrote about extensively here, I believe that a substantial portion of the investment fueled by easy money actually retards economic growth, lowers employment and reduces overall prices (though not to the wealthy, as discussed above).

The prime (get it?) example I used in my previous article was of Amazon (see, “Amazon Prime”???). Amazon is a company that absent cheap money would likely not exist since it has no ability to actually make money. Yet, it has “disrupted” traditional retailers, resulting in hundreds of thousands of lost jobs, a multitude of retail bankruptcies and yes, lower prices.

This trend is prevalent throughout the economy with few companies or industries spared from Fed subsidized tech disruption. In other words, easy money does indeed spur some (i.e. tech) investment. But when taking into account the disruptive secondary effects, we find that overall investment, employment and economic activity are actually lower. Prices are lower too, contrary to what the textbook models state. Consumers benefit from lower prices for the time being. But mostly, the benefits accrue to a handful of venture capitalists, tech entrepreneurs and highly skilled developers, all part of the 1%.

7. Deflation is winning

I now present to you one final explanation for why central bank money printing has not led to inflation: it is being offset by deflation.

Let us remember why the Federal Reserve and the other central banks of the world are pursuing extraordinary monetary policy, to the tune of trillions of dollars created and zero or even negative interest rates. They are doing these things in response to the financial crises of 2008 and the global “Great Recession” that followed. Governments and central banks were, and are, desperate to prevent falling prices. This fear has led to a money experiment never before seen in 5000 years of recorded history.

We need to ask ourselves why did the financial crises happen in the first place. Obviously many, many books have been written about the causes of 2008. Unfortunately, nearly all of them have been wrong. As briefly as possible I’ll try to summarize the true causes.

The financial crises, like all financial crises, was a natural, market reaction to an economic bubble fueled by cheap money, subsidized risk and the perverse, short-term incentives that stem from cheap money and subsidized risk. What made this crises worse than most in recent history was that the market was trying to correct not years of financial mismanagement, but decades.

Erroneously believing that monetary policy could (and should) smooth out the business cycle and prevent recessions, the Federal Reserve has repeatedly printed money, set interest rates below their market rate and bailed out banks and other financial services firms. Each time it has done this, it has led to an even larger asset bubble and further reinforced the message that risk takers will be bailed out. Naturally, each bailout has been larger than the one before. 2008 was very large. Yet, the Fed, continued and wildly expanded its playbook, still believing that the cure for too much money is more money.

Unfortunately, the cure for too much money is not more money. Money needs to be extinguished. Oversupply needs to be reduced. Companies without profitable business models need to disappear. Over-leveraged banks, regardless of size, need to fail. Investors who took stupid risks need to learn painful lessons. This is the only way a free market can work. And this is the only way an economy can grow over the long-term.

Even though the central banks of the world have created trillions of dollars of new money, that new money is still fighting against gravity. That gravity is a massive deflationary current worldwide stemming from decades of easy money. So in one sense, what the Fed is doing is working. Prices are not declining, and are, in fact not far from the Fed’s target of 2% inflation. Moreover, we are not, at least officially, experiencing “depressionary” conditions.

Why hasn’t trillions of new dollars caused inflation? It has, but we don’t notice in measures such as the CPI because it is fighting the gravity of deflation. Sooner or later, however, gravity wins. It always does.

Conclusion – what comes next?

The past eight or so years have seen the central banks of the world print trillions of dollars. We see negative interest rates in parts of Europe and in Japan, something that has never happened before in human history. Now we hear calls from many mainstream economists for central banks to raise their inflation targets even higher, and louder and louder shouts for “helicopter money.”

Yet, inflation remains “stubbornly” below the target set by the Federal Reserve and most of the world’s central banks. Meanwhile, the world’s economies are growing slowly, if at all. And while the stock market and other financial asset prices continue to rise, income inequality continues to worsen, as does the political unrest that income inequality fosters. We see unemployed young people with student loans they will never repay. We see unprecedented amounts of homeless on our city streets. We see anti-capitalist, socialist and fascist politicians worldwide gaining votes and gaining power.

From this mess there are two conclusions one can draw: either central banks aren’t doing enough or what they are doing isn’t working. Mainstream economists have concluded the former. Print and spend, is what they say. How much to print and spend? Until it works. What if it still doesn’t work? Then print and spend some more.

However, one need only look at Japan to see this folly. More than two decades of extraordinary money printing and extraordinarily low interest rates have done nothing to awaken Japan from a generation-long depression. Meanwhile, Japan’s population ages and shrinks, an effect, not a cause of a stagnant economy.

I said it earlier and I will say it again. Easy money and subsidized risk cannot solve the problem of an economy ailing from decades of easy money and subsidized risk. But central banks and politicians will continue to try it. Because they have no understanding of what truly ails the economy and know no other way.

So what happens next? With no end in sight to more money printing and continued low interest rates, is inflation ultimately inevitable? Not necessarily. The U.S. and the rest of the developed world can continue limping along with slow growth, low inflation, continued income inequality, worsening demographics. We are all Japan.

Sooner or later, another financial crises will hit. Perhaps months from now, perhaps years, perhaps even decades. Will the central banks be able to save us again? For sure, they will try. But eventually they will fail. Whether the endgame is massive deflation or hyperinflation is unknowable and probably immaterial.The result will be the same. Crises. Depression. Ultimately, a financial reset.

It will be very painful. But it is, unfortunately, very necessary. And just maybe, 100 years from now, historians will look back and ask themselves how could we have been so primitive, so unwise, so naive to think that printing money is a good idea.

Mainstream Economics Myth 3: Insufficient aggregate demand causes recessions

In this series of articles, I use the term “mainstream economics” to illustrate what I believe to be the consensus views of economists and the ideas taught at most universities and found it most economic textbooks. However, for this post, I want to be a bit more specific about what I mean by mainstream economics. Perhaps more than anything else, what defines a mainstream economist today is the belief in Keynesian economics, or more precisely a Keynesian explanation of economic downturns and a Keynesian solution to economic downturns.

This view has dominated mainstream economic thought since the 1930s with a brief interruption in the “stagflation” days of the 1970s.  Ever since the global financial crises of 2008-2009, the Keynesian view has effectively monopolized economics.  Certainly in the U.S., and in most of the world, virtually all tenured economics professors, columnists, political advisors and central bankers adhere to the Keynesian religion.

Before we go any further, let me very briefly explain the Keynesian (and mainstream) tale of economic recessions.  First, what do mean by the term “recession?”  Conceptually, let’s call a recession a widespread (or economy-wide) reduction in economic activity (i.e. GDP) accompanied by high or rising unemployment.

The economy is merrily galloping along at full employment and in equilibrium.  Economic growth is robust and everyone who wants a job has a job.  Then, BOOM, out of the blue comes some unpredictable “shock” to the economy.  This shock causes consumer confidence to decline, which results in consumers spending less money than they should, which results in businesses having to cut investment and layoff workers.  With fewer employed workers, consumers as a whole spend even less money, businesses invest even less, layoff even more and  there is a vicious spiral leading to poor (or negative) economic growth and high unemployment.

In econ-speak, the economy suffers from “insufficient aggregate demand.”  That is to say, consumers are not spending enough money to keep the economy running as it had been prior to the “shock.”  In contrast to a free market view of  a self-correcting economy, due to somewhat mysterious structural reasons, such as sticky wages, the Keynesian economy now gets “stuck” in an “equilibrium” of less than full employment.  Finally, the economy cannot get “unstuck” and back to full employment without the aid of government (fiscal and/or monetary) stimulus.

In the next post in this series, Myth #4, we’ll discuss the Keynesian viewpoint that government (especially through monetary policy) can both prevent recessions and get us out of them.  Here, however I want to focus on the first part of the story, the Keynesian myth that insufficient aggregate demand is the cause of recession.

Now, let’s return to the mainstream, Keynesian story of recession.  To believe the Keynesian explanation requires four major assumptions, all four of which are unsatisfactory and/or false.  The first assumption is that the “shock” to the economy, that is the proximate cause of recession, is unpredictable. The second assumption is that the post-shock amount of aggregate demand is below the “correct” or so called “equilibrium” level. The third assumption is that the reduction in aggregate demand is due to “confidence” issues.  The fourth and final assumption is that it is demand, rather than supply that is the key driver of the economy (at least in the short-term).

Let’s start with the first assumption, that the “shock” is unpredictable.  In a small or undiversified economy, it is reasonable to say that some unexpected event might cause an economy-wide downturn.  For example, an economy highly dependent on agricultural output might experience recession due to drought.  An economy dependent on a single commodity (oil, for example) might experience recession if there is a decrease in the global price of that commodity.

However, in a large, diversified economy such as the United States, recessions are not caused by some unpredictable, exogenous shock.  They are caused by an unsustainable expansion of money and credit leading to an unsustainable expansion of investment.  When the “unsustainable” becomes realized, you get a recession.   In the old days, much wiser people than today’s economists and politicians understood that what we now call “recessions” where part of a business cycle.  And not for nothing did they call it a “boom-bust” cycle.  You don’t have the bust without the boom.

The second key erroneous assumption made by mainstream economists is that in a recession, the level of aggregate demand drops below what had been the “natural” or “equilibrium” level.  Of course, there is no question that demand drops from previous levels in a recession. However, if you believe that modern recessions always follow credit and investment booms, as I do, then you should understand that the previous (boom) level of aggregate demand was actually higher than it should have been and not some natural or equilibrium level.  Incidentally, whether equilibrium even exists (preview:  it does not) is something we will cover in Myth #9.

The third foundation of the Keynesian view of recession is that aggregate demand is reduced due to issues of “confidence.”  To paraphrase Keynes himself, “animal spirits” of both consumers and businesses in an economic downturn are depressed.  No doubt this is true.  But poor confidence is a cop-out reason for weak economic activity.  For low confidence is a symptom, not a cause of recession.

The fourth and final problem with the Keynesian explanation of recessions relates to the focus on demand rather than supply.  As we’ve stated already, the “boom” part of the economic cycle is a result of an unsustainable expansion of money, credit and investment.  This investment boom results in over-supply, whether it be over-supply of houses or factories or stores or mines or social networking apps.  When the investment bubble bursts, as it inevitably must, this over-supply must be pruned before robust economic growth can once again return.  It is the painful pruning of over-supply, through bankruptcies, layoffs, closures and investment cuts that is the true driver of the recession part of the cycle.  Hence, it is far more intellectually honest to refer to the cause of recession as excess aggregate supply (stemming from the boom) rather than insufficient aggregate demand (stemming from low confidence).

Long story short, I believe that the mainstream or Keynesian explanation for recessions is positively wrong.  Recessions are not caused by some unpredictable shock which leads a positive feedback loop of poor confidence and low aggregate demand.  Instead, recessions are the inevitable result of an economic boom fueled by an expansion of money, credit and investment.  More or less, this is the story espoused by the non-mainstream economists known as the Austrian school, and in future posts, I’ll cover this explanation in much greater detail.

Finally, as we have done and will continue to do in each of the articles in this series of mainstream economic myths, let’s ask ourselves why this topic is of vital importance.  Once again, we answer that what matters is not so much the explanatory, but the remedies inferred from the explanatory.

If recessions are indeed caused by insufficient demand then government can “cure” recessions by artificially creating more demand (i.e. spending) through the use of monetary or fiscal stimulus.  This is exactly the Keynesian prescription and exactly what economists have advised, and governments have implemented since the Great Depression of the 1930s and in unprecedented scale since the financial crises of 2008/9.

However, if the true cause of recession is the inevitable aftermath of an investment boom fueled by money and credit, then further stimulus is exactly the wrong thing to do.  Stimulus, among many other deleterious things, exacerbates the problem of oversupply, delays the inevitable correction and encourages the kind of risk-taking that caused the boom in the first place.

So as I hope you can see, understanding the root cause of recession is of vital importance to the long-term health of the economy.  And unfortunately, today’s consensus explanation is utterly wrong, and has caused immeasurable damage to the global economy.  We must fight to remedy this.

Mainstream Economics Myth 2: Market failures are common

I freely admit that I have a faith in free markets that few possess.  Yet anyone who believes that markets are perfectly efficient or result in an optimal condition or some kind of utopia is utterly naive.  Such conditions don’t exist in the real world.  However, it is equally wrong to believe that market failures are common, an assumption made by mainstream economists today.

There are two problems with the mainstream view that market failures are common.  The first problem stems from the mainstream definition of a “market failure.”  Economists define a market failure as anytime an outcome is less than perfectly efficient.  Perfection is a pretty high bar.  And I’m sure you can also appreciate that equating the word “failure” to anything less than utter perfection is a little bit unfair, demonstrating both mainstream economics’s misunderstanding of markets and its inherent anti-free market bias.

The second problem is to identify a “market failure” in situations where no market actually exists.  As we’ll see in a minute, this is more frequently the case when discussing so-called market failures such as externalities and public goods.

What do economists mean by market failures?  There’s a number of broad categories and I’ll very briefly address the ones that are most common.  First, that individuals are irrational.  As I’ve already discussed in Myth #1, this is viewed as a market failure justifying government action.

A second type of market failure is what is knows as information asymmetry.  For example, if I am a used-car salesman and you are in the market to purchase a used car, I clearly have more information about the cars I have to sell than you have about the car you might buy.  That I might be less than scrupulous and sell you a lemon of a car is considered a market failure and justifies to most economics government involvement in this transaction through regulation.  Yet, there are plenty of free market solutions that do a much better job than the government of dealing with information asymmetries.  These include reputation, branding and marketing, consumer agencies, consumer reviews, civil/tort law and insurance.

Simply put, information asymmetry is the every day state of the world.  It is impossible (except in silly economic models) for all parties in a transaction to have perfect information.  But as long as a transaction is fully voluntary to all involved parties, information asymmetry does not represent a market failure.

Another commonly assumed market failure is the natural monopoly.  Monopoly is indeed the enemy of free markets.  Yet, in a free market, there is no such thing as a natural monopoly.  Over the long-term (and that long-term need not be very long), the free market will always provide incentives for innovation that will result in substitutes and break a short-term monopoly.  This is true even for industries requiring substantial investment and exhibiting substantial economies of scale, such as transportation (e.g. roads and railways), utilities and telecommunications networks.  The only monopolies that can subsist are those that are government created, government sponsored, government subsidized or government itself.

A fourth category of market failure about which economists are fond of speaking is externalities and public goods.  A prime example of an externality is over-fishing, which is sadly all too common in waters that have no ownership.  Paradoxically, inefficiencies cause by over-fishing is viewed by economists as a market failure when it should be viewed as a failure of government to create a market.  You cannot have a market failure when you have no ownership of the underlying assets.  Timber is a good example.  Where forests have no private ownership you see over-foresting.  Where forests are owned by private enterprises you do not.

There is no question that externalities such as over-fishing, environmental damage, pollution and global warming are big issues to communities large and small.  But to use these examples to shout “market failure” in the absence of a market is wrong and unfair.

That last type of market failure that I’ll briefly mention is the economy’s ability to recover from an economic downturn.  That the economy does not return to full employment is viewed by mainstream economists as another failure of free markets.  We’ll discuss this issue in greater depth later on, but as a preview, I note that this view incorporates three errors:  1) not understanding the true cause(s) of the downturn, 2) not appreciating that government intervention inhibits the market from recovering and 3) faith in a very silly economic concept called equilibrium.

Before I leave this post, I want to answer the question, “so what.”  Why does it matter whether something represents a market failure or a failure to have a market?  It matters not so much in the classification of economic phenomena, for that is semantic, but in the remedies proposed.

Anytime economists spot what they believe to be (correctly or more than likely incorrectly) a less-than perfect economic outcome, they immediately point to government as the savior, usually in the guise of more regulation.  They rarely ask themselves whether a much better outcome would be to create a market where none existed.  And even in cases where that might not be possible, they infrequently bother to ask, or properly analyze, whether the government “solution” would result in even worse efficiency or outcome than the supposedly market failure itself.  But that’s a story for another post.

Mainstream Economics Myth 1: People are irrational

I know what you are thinking.  Did I make a typo here?  Don’t most economists believe in perfect rationality?  So isn’t the myth that people are rational?  No and No.

It is true that up until 10 or 20 years ago, the assumption of mainstream economics was of rationality.  Yet thanks (or no thanks) to the explosion of the (sub)field of behavioral economics, mainstream economists today operate with the assumption that individuals make all sorts of “irrational” decisions.  And economics use this assumption of irrationality to explain all sorts of so called “market failures” (see Myth #2) and to justify all sorts of government intervention to counteract these irrationally fueled market failures.

The truth is that individuals are indeed rational, yet neither the economists of yesteryear nor the economists of today get it right because they both are using a poor definition of the word “rational.”  The correct definition of a rational decision is one that you believe will make you best off (to be technical, that you believe will maximize the present value of your future utility).  It is not necessarily the decision that you believe will maximize your income or wealth.  It is not necessarily the decision that you believe will maximize your current utility or happiness.  It is not necessarily the decision that will actually make you best off.  You may make a poor decision for lack of information, due to miscalculation, stupidity or any other reason, but as long as you believe you are making the best decision for you, you are acting rationality.

Virtually all of the so-called “anomalies” to rational behavior that behavioral economics have “discovered” in recent decades are not truly “anomalies” if you use the proper (and colloquial) definition of rationality.  In other words, behavioral economics, though sometimes mildly interesting, is hardly worthy of the attention it has received.

And by the way, financial bubbles (which can and do exist) have absolutely nothing to do with investor irrationality.  I’ll have a lot more to say about the subjects of utility and rationality in a future post, but in the meantime remember to be skeptical whenever you hear economists justify government intervention in markets due to “irrational behavior.”

10 Myths of Mainstream Economics – Introduction

I am of the opinion that mainstream economics gets most things wrong.  Mainstream economists pretend to be scientists when they are not, use unrealistic assumptions to create simplistic models, confuse correlation with causation, ignore history, are biased towards action over inaction and favor the short-term over the long-term.  Perhaps more importantly than anything else, mainstream economics has forgotten the lessons of Adam Smith and fails to appreciate what a free market really means, and does not mean.

My criticisms are not original.  In fact, many if not all of them are held, though not widely held, by those outside the economics community.  Naturally, if economists were like all other members of the social sciences, these criticisms would be, well, academic, just like economists are supposed to be.

But economists are not just academics.  To paraphrase Keynes, policy makers are, “usually the slaves of some defunct economist.”   Economists have escaped from the ivory tower and have become entrenched in both government and finance.  In fact, economists have come to influence our world more than members of perhaps any other profession.  Worse, they have become the policy makers, but with less oversight and more power.

This has not been to the world’s benefit. I will go as far to say that economists, especially through their role as central bankers, have done more damage to the world than anything since World War II.  And not because they are malicious or evil like Hitler or Stalin.  Economists mean well.  They believe they are helping.

No, it is because they are clueless.  Not simply clueless to the damage they have caused (for they will of course deny this), but clueless to even the power they possess. And not because they are dumb.  On the contrary, they are mostly smart.  In many cases very smart.

Modern society fetishizes intelligence.  We are educated to believe and thus take for granted that smart people make the right decisions.  This is wrong.  It is not high intelligence that is the making of good policy, but wisdom.

Wisdom requires self awareness.  You must know what you don’t know.  Wisdom requires humility.  You must be able to admit what you don’t know.  Wisdom requires an understanding of history.  You must be able to see and appreciate the bigger picture.  Wisdom requires an understanding of human nature.  You must be able to interpret what fundamentally motivates people.

Economists don’t lack intelligence.  But they do lack wisdom. They have a false understanding of what drives decision making.  They are required to learn no history in their economic studies.  They act before they understand.  And most importantly, they take for granted what they should question.  It is not simply that they rely on assumptions that are unrealistic or wrong.  It is that they make assumptions that they don’t even realize they are making.

Over the next ten posts, I will highlight, in no particular order, what I believe are the ten largest myths of mainstream economics.  These are assumptions that I believe economists get wrong because they are unwise.  And the world is much worse-off because they get these assumptions wrong.  On many of these myths, I will have much more to say in the future.  But for now, I ask you to settle for rather short explanations.

Myth 1: People are irrational

Myth 2:  Market failures are common

Myth 3:  Insufficient aggregate demand causes recessions

Myth 4:  Central banks can micromanage the economy and prevent recessions

Myth 5:  Deflation is always bad

Myth 6:  Moderate inflation is good

Myth 7:  Liquidity in financial markets is always good

Myth 8:  There is such a thing as fundamental value

Myth 9:  Equilibrium exists

Myth 10:  Entrepreneurship is always good

Bonus Myth:  “In the long run we are dead”

Does the Federal Reserve’s loose monetary policy actually hurt employment?

It goes without saying that the Federal Reserve’s monetary policy has been extraordinarily loose since the financial crises of 2008.  The Fed has had a zero interest rate policy (ZIRP) for 7 years now, not to mention its 3 rounds of quantitative easing (QE).  The Fed’s balance sheet has grown over this time period from approximately $800 billion to $4.5 trillion.  And even if the Fed raises rates 0.25% as it is expected to do in December 2015, it will be years (or perhaps generations) before we see anything like normal monetary policy.

There are many, many reasons to criticize the money printing policies of the Federal Reserve (and all the other central banks of the world).  They blow serial asset bubbles.  They create moral hazard.  They favor borrowers over savers.  They cause future inflation.  They bail out undeserved banks. They create “too big to fail” conditions.  They encourage risky investment and speculation.  They contribute to income inequality.

Even supporters of easy monetary policy, a group to whom nearly all mainstream economists and politicians belong, will admit to some, if certainly not all of these risks.  But, they would argue that these risks are worth it.  Worth it to help the economy recover from financial crises.  More specifically, worth it to help employment.

As you might know, when it comes to monetary policy,  the Federal Reserve has two congressionally mandated goals.  One is stable prices.  The other is maximum employment.  Since inflation, at least as measured by the Consumer Price Index (CPI), has been quite benign, the Fed has felt compelled, or at least free, to focus on helping employment.  Hence the policy of low interest rates and printing money.

Related post: Why does loose monetary policy help employment (the mainstream argument)?

Low interest rates and printing money should lead to more borrowing, more consumption, more investment and more jobs.  But, and this is a big BUT, what if that’s not what happens? Put simply, what if the Fed’s policy of easy money is actually destroying jobs, not creating them?  That’s what I think is happening.  Let me explain why.

The Subsidy to Growth

First, recall one of the most fundamental principles of finance: the value of any asset, such as a company or its stock, is inversely related to its cost of capital. In other words, the cheaper a company can access money, the higher its valuation. Since interest rates are the primary driver of a company’s cost of capital, the Fed’s loose monetary policy acts as an enormous subsidy to all companies and all asset classes.

But, the Fed’s valuation subsidy does not impact all companies equally.  By suppressing interest rates the Fed has encouraged and even forced investors to take on incrementally more risk.  Or in technical parlance, risk premia have been compressed. The higher the risk of the investment, the more that the risk premium has been reduced, and the greater the increase in asset value.  So while all assets have received a valuation “subsidy” due to easy monetary policy, high risk companies have received a proportionally larger one.

You may be thinking, how can the Fed “force” investors to take on risk. We live in a free country.  Nobody is forced to invest in risky assets, right?  Not exactly.  Consider an insurance company or pension fund that has future liabilities that it must fund.  If the insurer or pension fund cannot meet its necessary investment return from safer assets then it has no choice but to take on more risk. The same concept holds for any investor that requires investment income, either now or sometime in the future.  Need a 6% return but very safe assets pay nothing?  Take on more risk.

In fact, risk premia are compressed not only by artificially low interest rates.  They are suppressed even further by another central banking policy, known as the “Greenspan put.”  Simply put (no pun intended), the Federal Reserve has made it very clear, since at least the stock market crash of 1987, that it will provide liquidity to support asset prices in the event of market “dislocation.”  Hence, with the implicit promise of a bailout, risk premia are even lower and valuations even higher.

By encouraging risk and suppressing risk premia, the Fed has subsidized high risk companies.  Who are these high risk companies?  More than anything else, these are high growth tech companies.  We see this subsidy through the high public valuations and trading multiples of the Facebooks, Twitters and Amazons of the world.  We see it through the private valuations of the “unicorns” such as Uber, Airbnb and Dropbox.  And we see it through the basic business model of venture capital where a higher and higher valuation for a winning investment can support more and more losing ones.¹

Creative Destruction or Subsidized Disruption?

Why is it a problem that the Federal Reserve is subsidizing high growth, high risk companies at the expense of lower growth, lower risk companies? Isn’t that a good thing and isn’t that exactly what the Fed should be doing to help grow jobs?

Unfortunately, the answer is no. High growth/high risk companies, as best exemplified by the tech industry are not adding to overall U.S. employment. In fact, in today’s world, high growth companies are typically net destroyers of jobs, not creators.  To use the trendy term, tech companies are “disrupting” traditional employers.

There is no better example than the internet retailer, Amazon. Amazon is great (at least in the near-term) for consumers.  You can shop in your pajamas, pay rock bottom prices and get fast, free delivery. And certainly, Amazon’s stock performance has been great for its investors and its management. But has Amazon’s enormous growth really benefited the U.S. economy? In terms of employment, the answer is clearly no.

As you can see in the table below, Amazon had about $100 billion of revenue over the past twelve months and accomplished that with approximately 154,000 employees. So in one sense Amazon created 154,000 jobs, or about 1.5 jobs for each $1 million of revenue.

Sounds like that’s great for the economy, right?  But that’s not the whole story.  For the most part, Amazon’s revenues come at the expense of traditional retailers.  So the question to ask is how many people would traditional brick-and-mortar retailers have employed if they, and not Amazon had generated those revenues.

Again, looking at the following table, we can see that Amazon’s competitors, such as Walmart, Barnes & Noble and Toys R Us employ far more people for each dollar of revenue.  A simple average of this metric for 6 traditional retailers indicates about 4.9 employees per $1 million of revenue, far higher than Amazon’s 1.5.  And this figure is probably understated since smaller privately held retailers probably have even more employees per dollar of revenue.

So for each $1 million of Amazon’s revenue, around 3.4 jobs in the U.S. economy are lost or never created.  Based on its most recent twelve months of revenue, Amazon is directly responsible for the destruction of more than 300,000 jobs.


Amazon destroys jobs


Now you may be thinking, doesn’t this sound like capitalism at work, like creative destruction? Old companies and old technologies being replaced by new companies and new technologies? The automobile replacing the horse and buggy?  The digital replacing the analog?

In a proper world with normalized interest rates, you would be correct. Investors would make discriminating decisions on where to invest their money based on a company’s business model, its projected profitability and cash flows, and its perceived risks. Let the company with the better product or the more efficient operations win, and if that company happens to be more productive and employ fewer people, so be it.

But thanks to the Federal Reserve, we don’t live in such a world. We live in a world where the cost of capital especially for high growth companies is much, much lower than it should be. This is a world where companies are too easy to start and money is too easy to raise. A world where growth trumps profitability and where not even a plan for revenue, let alone actual revenue is a prerequisite for an IPO or a multi-billion dollar valuation.

This is a world where established companies with real business models and real profits are “disrupted” by an endless wave of companies, large and small, with full bank accounts and empty business models. Facing this subsidized onslaught, good companies, those that are profitable (or would otherwise be), forego hiring or worse, are forced to shrink or go out of business.

Amazon, with about 20 years of operating experience, has yet to show that it can be consistently profitable. Given the total absence of barriers to entry in Internet retail, it likely never will. Absent easy money, Amazon would probably not exist, and certainly would not be the disruptive retailing giant that it is.

But this phenomenon of Fed-subsidized job destruction is not limited to the retail sector. It is happening in nearly all sectors of the economy.

Profitless companies like Twitter and Pinterest along with a near infinite number of money-losing Internet content providers have decimated the journalism and print media industries with their free content to the tune of significant job loss.

So-called “sharing economy” startups like Airbnb, a company with a $25 billion valuation and a business model based substantially on flouting local occupancy laws is doing its Fed-subsidized best to disrupt traditional hotel companies such as Starwood and Hilton, companies that employ hundreds of thousands.

Stock market darling but profit-challenged Netflix, a company with about 2000 employees, having put video retailer Blockbuster (60,000 jobs) out of business some time ago now has its well-funded sights set on disrupting the TV and Cable industries.

These are just a few prominent examples of Internet companies that probably shouldn’t exist, fueled by cheap money, eliminating American jobs.


Traditional critics of the Federal Reserve’s extraordinarily loose monetary policy cite the blowing of serial asset bubbles, potential future inflation and “moral hazard” as cautionary tales. But as we’ve seen, the Fed’s actions have a much more direct and immediate effect on the economy. Current monetary policy is hollowing out the economy by subsidizing companies that destroy jobs, to the benefit of a few fortunate investors and entrepreneurs, and to the detriment of many working Americans.

Monetary policy is also an example of the failure of mainstream economics.  That is, the failure of mainstream economic models to reflect the complexities of the real world.  Textbook models assume that printing money encourages risk taking.  This is correct.  They further assume that risk taking will lead to investment and job creation.  This is also correct. But they fail to realize that much of this new investment competes with established businesses and many of these new jobs come at the expense of a substantially higher number of existing ones.

To be fair, normalizing monetary policy will be a very painful process. In the short-term, many startups and even large tech companies will fail. Asset prices, including real estate and the stock market will decline.  It is highly likely that the economy will fall into a recession. Politically this is very hard to stomach. But stomach it we must if we ever want to return to a vibrant economy with real and sustainable job growth.



¹ Assume a venture capital firm requires a 20% annual rate of return (IRR) and invests $1 million per company.  Further assume that after 5 years time, the VC firm can exit one successful investment and all the other investments fail with zero return.  If the successful exit has a valuation of $25 million, the VC can fund approximately 10 total investments.  If the exit has a $100 million valuation, the VC can fund about 40 investments.  If the exit is valued at $1 billion, then the VC can afford to fund more than 400 investments.


Why does loose monetary policy help employment (the mainstream argument)?

That low interest rates and printing money leads to higher economic growth, job creation and a reduced unemployment rate is both textbook economics and conventional wisdom.  Whether it is true or not is another story, but here’s the rationale.  There’s at least four related mechanisms at work.

First, low interest rates encourage businesses to borrow.  For businesses, projects that might have been prohibitively expensive to fund at higher interest rates and a higher cost of capital can get funded.  Business expansion will naturally lead to a need for more workers.  Similarly, entrepreneurs will have the ability to raise money to start companies that would not have been founded in a higher interest rate environment.  More new businesses will again lead to higher employment.

Second, consumers, like businesses, will spend and borrow more.  Low interest rates discourage savings, since a saver earns less interest income.  Less savings means more consumption.  Plus, consumers are more apt to borrow money to fund consumption of homes, cars and other items.  Higher consumption means greater demand for goods and services, which encourages businesses to expand and of course, hire.

Third, low interest rates encourages banks to lend by increasing the amount of lendable reserves on the balance sheets of banks.  The Fed does not technically set the key interest rate that banks lend to each other (the Federal Funds Rate), but targets a rate by buying and selling securities (e.g. government debt) from banks.  Buying securities from banks adds newly created money to bank reserves that can be lent out to businesses and consumers.   Since banks earn little or no income on these excess reserves, they have an incentive to lend them and earn more interest income.  More lending for consumption and especially for businesses investment leads to job creation.

Fourth, low interest rates raise asset prices, which encourages consumption through what is known as the “wealth effect.”  Other things equal, the lower a company’s cost of capital, the higher its valuation. And this is true for all financial assets, including stocks, bonds and real estate.  In fact, raising asset prices is a direct objective of easy monetary policy.  The idea being that individuals with fatter brokerage accounts will go out and spend more money, thus encouraging business investment and employment, just like we mentioned above.  Whether this “wealth effect” actually happens is not without controversy, but it has been supported by statements from Fed policy makers, including former chairman Ben Bernanke.

What is economics?

Let’s start with this:  there is no single correct definition of economics.  But in textbooks and other resources about economics you tend to see variations of two definitions.

1) Economics is the branch of social science that studies the production, distribution and consumption of goods and services.


2) Economics is the branch of social science that studies how individuals and groups make decisions to allocate scarce resources.

My personal definition is bit more comprehensive (and perhaps a bit cynical).  Economics is the branch of social science that knows how to use (and misuse) basic math and statistics.  To me, economics encompasses all of social science.  There are really no boundaries between the questions economists ask and those asked by, for example, psychologists, sociologists or political scientists.  What separates economists from those other social scientists (for better or for worse), is the former’s ability (and the latter’s lack of ability) to pose and answer their questions using math and statistics.

So rather than define what economists study, let’s define what social scientists study.  Here, I think a variation of the second mainstream definition mentioned above, is a good starting point.  Social science is the study of how individuals and groups make decisions, and how those decisions in turn affect the individual and the group.  I personally think the words “allocating scarce resources” are unnecessary since absent perhaps only breathable air (at least on the surface of Earth), ALL resources are scarce.

As you probably know, economics is almost always divided into two categories:  microeconomics and macroeconomics.  Studying how individuals and groups make decisions is essentially the generally accepted definition of microeconomics.  But I’d argue that macroeconomics is really a subset of microeconomics.   Rather than study the decisions of individuals or such groups as a firm, macro-economists are studying the decisions of a specific type of group, called a government, and analyzing data of a specifically defined aggregate of individuals and groups, called an economy.

About EconomicsFAQ

In 2007 while I began teaching corporate finance and investment banking classes, I created a simple website called IBankingFAQ for my students to help guide them through and prepare them for the investment banking recruiting process.  That site has grown into one of the most widely visited online resources about the investment banking industry and led to me authoring the book, How to Be an Investment Banker.  Ever since then, I’ve been meaning to create a companion site about economics but I kept getting distracted by various other projects.  Well, now it is 2015 and finally, I’m getting around to it.

While IBankingFAQ has a narrow focus geared towards students recruiting for investment banking, this site has a much broader focus. My not so humble goal is to, well, explain all of economics.  Now you may be wondering why does the world need yet another economics resource when there are countless websites, blogs, books and periodicals covering this topic.  Allow me to explain.

First, I believe that an awful lot of what is considered mainstream economics is flat out wrong.  From the definitions of rationality and value to the causes of recessions and income inequality.  From an understanding of inflation and deflation to the long-term drivers of economic growth.  On these key issues, and many, many more I disagree with the mainstream economics you learn in school and with the economic commentary you read in the mainstream media.

As you will see, I am highly biased.  Biased towards free markets, biased towards limited government, biased against active monetary policy and biased towards long-term, though not necessarily short-term, growth.  There exists a view that economics is more faith than science.  I tend to agree.  And like all economic commentators, I believe that my economic faith is the one supported by evidence and by history.  I’ll do my best to show you that.   But I want you to make up your own mind.  So wherever I do disagree with mainstream economics, I promise to try to both explain the mainstream view and explain why it is that I dissent.

We seem to be at the beginning of an intellectual and political war against capitalism.  Or perhaps that war began the day after Adam Smith published “The Wealth of Nations” and we’re just at the start of its latest battle.  Either way, tepid economic growth, declining middle class wages, rising income inequality, the expansion of Wall Street and the contraction of Main Street have led to a vocal chorus of criticism against the free market, against capitalism.

These symptoms of a broken economy are real, but the root causes are not too much free market but too little.  We should be railing not against capitalism but against the pervasive and overwhelming crony capitalism, big government, and socialistic monetary policy that rot the economic system and invert the incentives necessary for growth, for progress and for well being.

The free market is misunderstood, no less so than by most economists.  As Adam Smith knew, this is in part because the workings of the free market are not intuitive, and therefore nor is good economic policy.  That self interest leads to societal interest.  That trade is beneficial to both the exporting country and the importing one.  That declining prices can be a sign of progress not impending disaster.  That immigration can create jobs.  That falling wages can benefit workers. That promoting high growth companies can reduce overall employment. These are just a few examples of economic concepts that can be difficult to comprehend and challenging to defend.

But defend them we must.  The battle for economic freedom must be continuously fought, especially in the face of today’s political trends.  If not, we risk the continued stagnation, cessation and indeed reversal of economic progress, as is currently happening in the U.S. and elsewhere.  Those few fighting to explain and to defend the free market are losing. But we mustn’t lose.  Explaining the free market and defending free market principles is the second purpose of this site.

Third, I believe that even when the concepts are correct, economics is incredibly poorly taught.  So I will try to explain basic concepts as simply as possible.  No graphs, no equations, no fancy math, no unrealistic assumptions. And occasionally, I’ll even try to share some evidence.  I will also try to point out something that economists are loathe to talk about:  what is known, what is unknown, and what is, likely, unknowable.  Nearly all economic policies and regulations, and especially monetary policies, are based on the unknowns and the unknowables.  I want you to know that.

As for my qualifications to do what I aim to do?   You’ll have to judge for yourself.  You can read my brief bio, which I hereby amend to state that I have no PhD in economics, merely a useless undergraduate degree in the subject, and an even more useless MBA.  What I write is what I’ve learned from a short stint at the Federal Reserve, a somewhat longer stint on Wall Street, some time spent teaching finance and a bit of experience as an entrepreneur and in the general business world.  And most importantly, what I’ve learned from reading.  Reading some economics, yes, but more so from reading history.  Long story short, take it all with a grain of salt.  But I’m sure you already knew that.

Finally, I ask you to remember that this site is a work in progress.  Right now the content is very slim, but my goal is to cover basic economics (and related finance) a few posts, a few questions per week.  I may, from time to time, add some posts about more topical discussions as well.

On any and all posts, I welcome and encourage your comments and questions.