Page 2 of 2 Bankers perpetuate crisis
By Hossein Askari and Noureddine Krichene
per day (mbd), an increase of unproductive use by 5 mbd, as a result of fiscal
stimuli, will cut productive use by the same quantity. With such a drastic
reduction in oil use, productive sectors, including farmers, will suffer a
decline in their real output.
French economist Jean-Baptiste Say (1767-1832) criticized the argument in
support of monetary expansion to expand demand. He articulated the principle
that it is production that opens the demand for products. This principle is
known as Say's Law or the Law of Markets.
Say denounced the policy of printing money as a way to create demand. This
policy erodes savings and damages economic
growth as clearly stated in the following quote:
The same principle
leads to the conclusion, that the encouragement of mere consumption is no
benefit to commerce; for the difficulty lies in supplying the means, not in
stimulating the desire of consumption; and we have seen that production alone
furnishes those means. Thus, it is the aim of good government to stimulate
production, of bad government to encourage consumption. Wherever, by reason of
the blunders of the nation or its government, production is stationary, or does
not keep pace with consumption, the demand gradually declines, the value of the
product is less than the charges of its production; no productive exertion is
properly rewarded; profits and wages decrease; the employment of capital
becomes less advantageous and more hazardous; it is consumed piecemeal, not
through extravagance, but through necessity, and because the sources of profit
are dried up.
The laboring classes experience a want of work; families before in tolerable
circumstances, are more cramped and confined; and those before in difficulties
are left altogether destitute. Depopulation, misery, and returning barbarism,
occupy the place of abundance and happiness.
Say considered
money as a mean of exchange and a store of value. Credit should be made only
out of deposited savings and should not be used to expand demand beyond supply
as such distortion will only lead to inflation, bankruptcies, recession, and
unemployment. Certainly, Keynesian economists have not accepted Say's Law and
live in the never-never land where the economy suffers from excess supply, and
thus they see a role for fiscal deficits to expand aggregate demand.
Nonetheless, both Smith and Say realized the dangers of expanding demand beyond
a level that would cause encroachment on capital and a reduction of economic
growth. Their argument can be supported by recent US gross domestic product
(GDP) data that showed real private-goods production falling at 0.5% in 2007
and 3% in 2008.
The G-20 has been totally oblivious to basic principles set out by the
classical economists regarding macroeconomic balances and necessity of
preserving growth and capital accumulation. Central bankers who have gone
beyond Keynesian economics, which sought to expand public works to directly
create employment, have held a similar attitude. Their actions to push directly
trillions of dollars to consumers does not guarantee employment creation as
under Keynesian public works proposals and could even reduce employment through
tarnishing savings as clearly observed in the recent economic and financial
crisis.
If Smith and Say were alive to advise the G-20 regarding appropriate policies
to restore stability and economic growth, their prescriptions would be very
different from the policies adopted by G-20 in the London summit that consisted
of blowing up fiscal deficits and forcing credits through unorthodox money
policies to subprime consumers.
The calamities of the monetary and fiscal policies during 2000-2008 can be
summarized as follows: bankruptcies of the banking system, commodity inflation,
food and energy shortages, falling real savings, large external current
accounts, declining real output, and higher unemployment.
The G-20 policymakers ignored all these calamities and decided to renew what
they have called monetary aggression accompanied by trillions of dollars in
fiscal stimulus. The inflationary aspect has been dismissed completely as
non-existent because leading economies enjoy price stability with core
inflation at 1-2% a year.
Central bankers should stop bankrupting the financial system and destroying the
value of money. Their unorthodox policy of shoveling trillions to consumers at
zero interest rates is a direct way of destroying the financial system,
including central banking itself. The financial system is no longer
intermediating between savers and investors but is instead the promoter of
speculative activities.
Central bankers should renounce policies for depressing interest rates,
reinflating housing and basic necessities prices, and depreciating exchange
rates. These policies will kill savings and depress real growth rates.
Policymakers should address food and energy shortages, as these shortages will
seriously constrain capital formation and economic growth. They should
stimulate private investment through tax incentives and competitiveness.
Fiscal policy should be directed to enhancing economic growth through spending
on infrastructure, health, and education. Policymakers should extricate
inflationary pressures through stable monetary policy and market determined
interest rates. Countries will grow only after they stabilize their economies
and renounce unsustainable fiscal deficit and monetary policy.
The world economy could be heading toward inflation that could surpass that of
the 1970s, and the global economic recovery could be foiled for some time to
come. If the oil price races again to $147 per barrel and beyond, Bernanke
would certainly put the blame on China, emerging countries, and oil producers
as he did in the past.
So far monetary policy has only disrupted world economic growth and distorted
prices. By quadrupling food prices, it has eroded tremendously real incomes of
workers and fixed income pensioners. It has taxed onerously poor people in
developing countries.
Every economy has bright economic growth potential, but such a destabilizing
monetary policy can only perpetuate financial disorder and economic stagnation.
Economic growth has never been equated to the printing of more and more money.
Economic growth is limited by real resource constraints such as land and labor,
while money printing has no constraint whatsoever.
Hossein Askari is professor of international business and international
affairs at George Washington University. Noureddine
Krichene is an
economist at the International Monetary Fund and a former advisor, Islamic
Development Bank, Jeddah.
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