Category: supply side economics

The new rules of Monopoly

Wikipedia identifies Monopoly as “the best-selling commercial board game in the world.” The game simulates the ownership of property and each game begins with a participant receiving $1,500 in cash for the American version of the game, or other amounts/currencies for other versions of the game. No doubt these amounts of money were considered reasonable in 1935 when the game was patented by Charles Darrow, but obviously they are woefully deficient as a reflection of the value of money today as a result of inflation. Yet there appears to be no international clamor to issue ten times the amount of the original money issued in the game just to keep the game ‘realistic’. As any school child knows, issuing more money while retaining the same assets in the game does not change the conduct of the game, as long as every player is issued the same amount of money at the same time. Some players would be at a disadvantage, however, if some privileged players received their extra money at the beginning of the game, while others were required to receive their distributions one hour or three hours into the game. That would be universally recognized as unfair.

On Friday, August 17, 2007, the governors of the US Federal Reserve Bank reduced the discount rate by a half of a per cent recognizing what every school child knows who has played monopoly – simply increasing the money supply by distributing money to everybody proportionally is pointless. Distributing extra money to a privileged few can influence the outcome of the economic game.

The intervention on behalf of the privileged few, those investors who had made a killing in the boom cycle caused by prior Fed interventions, but who were now over-extended, was a blatant injustice to those who invested within their means. To extend the Monopoly analogy, these privileged players had over-bought properties with the use of mortgage funds. They now were faced with financial obligations they could not meet. Rather than face the logical result of their imprudence, they pleaded with the banker to extend them more credit so they could remain in the game. That would not be allowed in the game of Monopoly, but it was condoned on August 17th by the Fed, and by the government, which plays the Godfather role for the Fed. One joyful recipient of the largess exclaimed, “Thank God for the Fed!” Indeed one might question which god the recipient worshipped.

While the Fed’s action was blatant, it was not exceptional. It is easy to recognize an increasing tendency for the government and its quasi-governmental entities such as the Fed to intervene on behalf of the privileged players in our economy. Not only are such interventions considered godly by many, they are also considered patriotic. Today’s couch-potato patriot considers anything that causes the Dow Jones Industrial Average to rise to be a general benefit to the country, if not to the world community. Such interventions have been formularized into their own sound bite – supply side economics. The idea is that if we give the already privileged further economic advantage they will get wealthier and some of the crumbs will fall from the table for the economically disadvantaged.

How did such ideas spring forth? They can’t be found in the words of this nation’s Constitution, nor in its Declaration of Independence. There is nothing in our War of Independence that remotely suggests that the real patriots of this nation, those who originally gave us our liberty, were fighting to establish mercantilism, that unholy alliance between government and the privileged few. In fact, it was precisely to reject British mercantilism that we took the unusual step of separating ourselves from Britain (for those among us who still believe in the myth that we fought to establish taxation with representation, read Barbara Tuchman’s account of how the British lost North America in The March of Folly). Mercantilism is an old, and generally discredited form of economic organization and it probably arose in parallel with the power of the state. The founding of our country was a rejection of mercantilism and its replacement with free enterprise, a system that thrived in the United States for almost 85 years. The defeat of Napolean at Waterloo ushered in an era of free enterprise in Europe that British historian Paul Johnson has called The Birth of the Modern (see his book with this title). He more narrowly defines that period as 1815 to 1830. In any case, it is apparent that the foundation of the modern world was built upon free enterprise principles. It is also clear that we have moved away from these principles sometime in the mid-ninteenth century – at first slowly, but quite rapidly during the 20th century.

Economic intervention in otherwise free markets approached dogmatic status with the creation of the Federal Reserve System in the United States (1913) and the adoption of the economics of John Maynard Keynes in our academic system. The Keynesian system is replete with half-truth formulae such as the multiplier and the accelerator. These half-truths are woven into a seemingly plausible, but byzantine invention that states that economic cycles can be moderated with government stimulants and depressants. Yet, Keynesian theories have never been able to address that concern, known to all Monopoly players, about the fairness in doling out new money or credit to some players earlier than others. And it is still apparent that wealth can’t be created simply by issuing more money to everybody simultaneously. The key to any governmental intervention must be the privilege of the few.

There is one embarrasing case in which the Keynesian formulae work – the effect of war reparations. Perhaps the best example of this is the case of the Soviet economy immediately after World War II. During the Cold War, external organizations for the nations overrun by the Soviets maintained economic data on reparations paid to (or seized by) the Soviet Union. One could take these numbers and crank them through the Keynesian formulae to demonstrate the growth effect in the Soviet economy, and the length of time of the rippling effect. The 1960s were a great time to do this exercise, because it suggested that the effect would wear out in 8 to 10 years and at that later time the Soviet economy would no longer be able to demonstrate the percentage growth increments that had frightened the West. In fact, by the 1970s the reparations effect had worked its way through the Soviet economic system, and the braking effect of central planning was beginning to be visible.

The point about the Keynesian system is that it gave respectability again to the idea of governmental intervention in the otherwise free economy. This is remarkable enough in the United Kingdom, the successor to Great Britain. After the United States had successfully broken away from Great Britain on the issue of mercantilism, Great Britain itself broke away from mercantilism with the rejection of the Corn Laws in 1846 and the efforts of Cobden and Bright. But then Britain moved back to government intervention in the economy culminating with the ascendancy of the British Labour Party after World War II. The Labour Party had adopted a socialist platform, the ultimate in government intervention. But the real surprise was the turnaround in the United States. The Federal Reserve System was created in 1913 ostensibly to prevent financial crises but actually it was designed to protect privileged players in the financial system. World War I widened the base of government intervention. This was followed by the New Deal and World War II, which allowed the government to intervene massively in the economy. By the 1980s, Keynesian economic theory had worn out its welcome and it was clear that the Soviet economy was in deep trouble. But the champions of goverment intervention had an answer. Keynsianism could be repackaged as supply-side economics. The label was perfect. It sounded simple and yet few really understood it. It was the perfect repackaging. Government intervention was alive and well at a new address. The march toward mercantilism could continue.

Thus the intervention of the Fed on August 17th was hailed by 96% of CNBC’s sample of Wall Street money managers, strategists and economists. While CNN might be faulted for the bias in their sample, no one took to the streets with banners crying ‘Down with the Fed’. ‘Reality’ shows and Desperate Housewives probably suffered no loss in viewers seeking insights into this economic tragedy at other video channels. For the person in the street, the Fed’s action was a big yawn. So what if the new rules of Monopoly now favored the privileged few at the expense of the unprivileged. Wasn’t that what politics were all about?

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