Money can’t buy prosperity

Dr. Shawn Ritenour's picture

Defenders of the Federal Reserve have been out in force recently declaring the triumph of Money Printing 2, James Grant’s suggested more truthful term for “quantitative easing.”

Some pundits point to an 18-percent increase in the S&P 500 since last August, when the Fed’s policy was announced. They also laud a significant increase in inflation expectations. Nominal GDP is on the rise again and official unemployment is lower.

All of these are seen as positive economic signs, indicating that Fed policy is working. Don’t believe it.

Behind the talk is the notion that monetary spending makes the economic world go round. It does not.

Increasing money supply does not magically increase the quantity of land, labor, or capital goods available for production. Creating money out of thin air does not produce more consumer goods, and there is the rub. We cannot eat money. We cannot wear money. We cannot live in money. Even the Beatles knew that money can’t buy you love.

Increasing the money stock can, however, result in higher overall prices for goods, including shares of equity stock. It should not surprise us that when the Fed increases money supply, stock prices rapidly increase. As it drives interest rates down, the Fed encourages investors to put their money anywhere they can get a better than average return. If this be in stock investments, so be it.

The trouble is that such inflation-fueled spending does not result in true economic prosperity in the form of more goods to satisfy our ends. It might encourage more spending, but not investment that reflects the wishes of society. Investors are encouraged to invest in industries that are too capital intensive relative to the wishes of savers in society. Such malinvestment fuels investment bubbles.

The Federal Reserve inflated the M2 money supply by 48 percent from February 2001 through September 2008, and what does it have to show for itself? The worst economic debacle since the Great Depression.

Monetary inflation via credit expansion generated malinvestment in the housing market as well as in the financial derivatives market. Distortions in investment and consumption took place until, due to shrinking capital stock being stretched in too many directions, the commercial paper market found itself “in difficulty;” interest rates began to increase and entrepreneurs were forced to begin liquidating investments that seemed good during easy credit, but were revealed to be unprofitable by real economic conditions.

Regarding current macroeconomic statistics, no one is disputing the facts, but the happy interpretation leaves much to be desired.

In the first place, while official unemployment has fallen a little over 1 percent from its height of 10.1 percent during the Great Recession, if the Fed’s expansive monetary policy is really that wise, one might think the unemployment rate should be much lower.

In fact, much of the drop in the unemployment rate is related to a drop in the civilian labor force relative to its December 2007 level. A low official unemployment rate is not per se an indication of a flourishing economy. In May 2007, the unemployment rate was 4.4 percent. Was the economy strong? No.

Additionally, high stock indices are not necessarily signs of a healthy economy. On Oct. 9, 2007, the Dow Jones Industrial Average closed at 14,164 and the S&P 500 closed at 1,565. These were the highest they have ever been. Were they a sign the economy was strong? No.

Real GDP, likewise, hit an all-time high in October 2007 and then proceeded to contract 4.1 percent during the Great Recession. Similarly, nominal GDP was at an all-time high in July 2008 and then decreased 3.1 percent in less than a year.

That monetary spending is up does not necessarily mean the economy has healed. It is just as likely that remaining economic problems have merely covered over with a monetary Band-Aid.

Rising inflationary expectations are not good either. In fact, they are the first step toward hyper-inflation. We should not be shocked that more people are expecting overall prices to rise. Expanding the monetary base from $1.7 billion to $1 trillion tends to do that.

If people expect continual higher prices, they are likewise expecting a continual loss in the purchasing power of the dollar. People will not want to hold dollars if they think that while they do so, the quantity of goods they can buy with their dollars is shrinking daily.

Increased spending increases demand for producer and consumer goods, which raises their prices even more, fueling even more intense inflationary expectations, which encourages people to spend even faster, driving up prices even more sharply, which ... you get the picture. It is a recipe for economic disaster. Ask the Zimbabweans.

If you want to stop a fire, do not throw gasoline on it. Likewise, if we want to solve an economic problem caused by monetary inflation, we should not throw more money at it.

To the extent that there is any economic recovery, it is due to real savings wisely invested in productive enterprise, none of which is made possible by government spending and inflation.

What should we do then? We should stop inflating, cut government spending, and reduce government regulation of the economy. Only such a policy will restore our economic footing. Doing so will allow the natural division of labor to develop and encourage capital accumulation and wise investment necessary for economic prosperity.

[Dr. Shawn Ritenour is a professor of economics at Grove City (Penn.) College, contributor to The Center for Vision & Values (www.VisionAndValues.org), and author of “Foundations of Economics: A Christian View.”]

JeffC
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This guy is a professor of economics?

Dr. Ritenour points to the evidence that the S&P is 18% higher, GDP is rising, and unemployment is falling as signs that the Feds Keynesian economic policies are not working. Well, what would be signs that the policies are working?

Maybe instead we should follow his supply sided economic theory and hope that the stock market falls, unemployment rises, and the GDP shrinks.

PTC Observer
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JeffC - economics

S&P is 18% higher than what?

GDP is rising compared to what?

Unemployment is falling according to who?

Jeff please look around you for evidence that government is not the answer to anything. Government with the help of its cronies have gotten us into this mess, they most certainly will never get us out of it.

I trust invdividuals to make economic decisions more than giving those decisions over to a disfunctional but well intentioned government. The government continues to steal our future, remove hope, and crush success under an ever increasing burden of debt. That's not economic theory, that's the economic truth.

Observerofu
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JeffC/Dmom in word..... bunk

Your economic sunrise is hidden behind reality thunderstorms.
We have been under Keynesian rule for over a decade and all it has gotten us is $14 trillion in debt. Entitlement programs in the tens of trillions all unfunded and a view in DC and from progressives that we can spend our way into prosperity without any consequences.

roundabout
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PTC Observer: why failed?

Only two real reasons did our economy fall:

Eight years of neglecting the bankers and money changers
Eight years of adding to our credit problems

Other things also happened but these two basics caused it.

By saying the "government" did it ignores the human causes.

President Bush allowed President Obama to be elected and until some of you admit that fact you will be blowing into the wind. Maybe however, by taking appropriate action to change direction, the President can stop the fall or at least slow it down.

Banks still own billions of worthless pieces of paper for homes and other structures that have to be dealt with. They are now trying to deal with it a little at a time to avoid a Depression!
There about a hundred banks yet to fail.

We will also have 15-20% actual unemployment due to the above reasons for several years.

If you have any common stock in the current market, I would advise you to sell it---large quantity stock owners and computer trading now own the market and can take all the profits at any time out of a slow economy that shouldn't have such a high market!

More debt manipulation using phoney paper is very likely occurring now, again.

Cyclist
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Well roundabout...
roundabout wrote:

We will also have 15-20% actual unemployment due to the above reasons for several years.

If you have any common stock in the current market, I would advise you to sell it---large quantity stock owners and computer trading now own the market and can take all the profits at any time out of a slow economy that shouldn't have such a high market!

More debt manipulation using phoney paper is very likely occurring now, again.

You don't believe that annotated one is serious about fixing the economy? Well you're not alone afterall the vice perpetrator was seen napping through one of his budget speeches.

roundabout
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Cyclist

I'm afraid that if you or I had the burdens of office that the Vice-President has, we would be in the hospital begging for Jackson's "milk of magnesia!"

The man simply knows when to relax for a few minutes. He probably read the presentation more times than did the President!

Poor old Dick Cheney even fell asleep at Cabinet meetings several times from exhaustion! He told Bush what to say then fell asleep.

We must not hate all democrats.

carbonunit52
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Perhaps Dr. Ritenour

is actually in Wonderland and is teaching "looking glass" economics.

To paraphrase a famous character: "I am a bear of little brain, big economics confuse me".

roundabout
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ECONOMICS

Economics is a "flowing" theory--there is no one pattern or plan that works all of the time.

Sometimes money insertion is needed, sometimes inflation must be curbed!

We have no "one-handed" economists! "On the one hand this--on the other that." Professors in general know little, especially conservative "college" ones.

Observerofu
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Yeah. What he said

but the Keynesian's will be here shortly to "disprove" Dr. Ritenour's "theory" and bless us with some deep Krugman thoughts.

I know, I know that's an Oxymoron, Krugman and deep thoughts and all.

JeffC
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Disprove what theory OOU?

"A low official unemployment rate is not per se an indication of a flourishing economy."

"... high stock indices are not necessarily signs of a healthy economy."

" That monetary spending is up does not necessarily mean the economy has healed."

" All of these are seen as positive economic signs, indicating that Fed policy is working. Don’t believe it."

This isn't an economic theory. This is a supply-sider in denial that Keynesian theory is working and fervently trying to explain away lower unemployment, a rising stock market, and growing GDP as somehow being bad economic indicators.

It doesn't take a Nobel Prize winner to disprove this bunk.

roundabout
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Jeff, I agree.

The high stock prices though may be manipulated by large holders with computer access trading! The average stockholder is entirely at their mercy.

Also, your thoughts on socialism as it concerns SPLOST taxes.
The AJC today carried the requests of each metro county for an oncoming vote on a transportation SPLOST tax. (actually, each county does not have an "option.")

My point is: without this accumulation of money by the government to be handed out primarily by their authorization, it amounts to a form of socialism?
I realize that no roads, bridges, etc., of consequence would ever be built by Fayette County or any other county around here if they had to act alone.
Not one mile of Interstate Highways would have occurred had it been left to Georgia or most other states! who could never raise the money, agree on a route or get the cooperation of other counties or states to build them.

Isn't this the same as an Army to protect all states, a federal tax to be distributed by congress, and even money being used by a state governor to build fishing ponds instead of a water supply for Georgia?

PTC Observer
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Economics 101

Solid economic analysis.

Davids mom
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PTC and OOU

Where was your economic expertise from 2004-2008?

PTC Observer
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DM - My expertise

was in the same place as it is now, but if you mean where was Congress' expertise, that is an oxymoron.

I will remind you that the Congress was in the hands of the Democrats, while the Presidency was in the hands of George Bush, a man that couldn’t veto anything. A formula for disaster, and a disaster is exactly what we got.

Now go back a re-read the article, give us a primer on why none of this is true DM.

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