Burns, Baby, Burn!

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"In
the early 1970s, when Richard Nixon appointed Arthur F. Burns, beloved
economist and party hack — the Greenspan of his time — as chairman
of the Fed’s board of governors, he said, u2018I respect his independence.
However, I hope that independently he will conclude that my views
are the ones that should be followed.' The audience applauded, and
Nixon turned to his old friend. u2018You see, Dr. Burns, that is a standing
vote for lower interest rates and more money.' It was the only vote
needed."
Lew Rockwell in The Free Market, 1991.

And
there is the crux. Higher oil prices per se are of no particular
concern, they simply mark a valuation-led transfer of money to the
oil producers and refiners at the expense of other sectors of the
economy. In a world in which the money supply was inelastic, this
would divert resources away from other goods and services, reducing
prices realized in transactions there, perhaps leaving the overall
price level (if such a thing can be has any meaning) unchanged.
In time, capital would forsake those sectors now rendered less profitable,
in favor of investments in the oil patch, or alternative energy
technologies, and the price mechanism would have done its job of
distributing resources according to consumers' most pressing needs.
Though adjustments during this process could be upsetting to those
directly effected, displaced Internet hopefuls could always leave
Silicon Valley and get their hands dirty in Oklahoma.

However,
if the central banks allow extra money to be created to offset the
oil price rises, no such diversion need occur. What the central
bank cannot do, of course, is command more oil to be pumped. Greenspan's
prestidigitations can cause "money" to materialize out
of thin air: wealth — i.e., the fruits of production — is a little
less susceptible to his sorcery. The end result, then, will simply
be to ensure that more money ends up chasing the same level of production,
meaning generalized and debilitating price rises are likely to occur
as economic actors seek to pass on costs and maintain their purchasing
power.

We
arrive at this third oil "shock" after a run through fiat-occasioned
financial crises and "structural imbalances" for most
of the 90's. All this while liquidity provision has been generous
to a fault. Although the transmission mechanism has not worked through
to higher measures in post-Bubble Japan, the ratio of M1 to GDP
has risen 88% in a decade, The ECB has been expanding its balance
sheet at a 10% rate for well over a year and the Fed has sat back
while real broad money growth has, for two years, exceeded anything
seen since Arthur Burns was helping to secure Nixon's re-election
in 1972.

To
date, subjective factors and other outlets have kept this from igniting
1970s-style price rises. In Japan, the generalized malaise has meant
that BOJ pumping has either gone under domestic futons or has bled
abroad to finance others' consumption.

America
has instead been gripped with a typical paper "wealth"
frenzy, with the dollar value of Nasdaq and NYSE transactions averaging
4 times GDP in the course of the last twelve months. Even if we
allow for the fact that only around 3% of this febrile churning
requires a payment after all the netting has been undertaken by
the financial sector (as inferred from Depository Trust statistics),
that still means over 15c in every dollar has been spent trading
stocks, rather than being used in the real economy. This activity
— and the related stock market hypertrophy of the last five years
– has both directly absorbed and helped boost the subjective worth
of these surplus dollars at home and abroad and has thus prevented
them from doing visible harm to the traditional price indices, reinforcing
the prevalent New Era fantasy that the business cycle (ie the credit
cycle) has been abolished.

Now,
however, that myth may be about to be dispelled. Petrol blockades
in France and the UK have already begun to remind people that it
might not be so different this time, after all Heating bills in
the US are set to rise by anything up to 40% this winter, according
to the DOE, while medical insurance costs are scheduled to rise
by over a fifth. Once the evidence becomes too painful to be ignored,
the shift in psychology — in those crucial subjective valuations
— can be a sudden one.

Add
to this mix a little unsubtle blackmail from the Oval Office, which
has cowed the Republicans into accepting big rises in discretionary
spending programs for fear of a Gingrich-style debacle with government
shut-downs into the November elections. Given that Federal outlays
were already a record $909 billion in the first half, and that the
NYT has reported a 5% increase has already been conceded for FY2001,
fiscal policy is hardly contractionary, surplus or no surplus. Big
government is still busily milking the fiat money milch-cow for
all its usual undemocratic reasons.

Finally,
it should be noted, that while Fed staffers and their counterparts
in Frankfurt and Threadneedle Street, in their laser beam and fiber-optic
ivory towers, can be comforted by excising all manner of price rises
to arrive at a "core" inflation number, your average citizen
adds all these numbers straight back in. In a tight labor market,
it might take some explaining to a truculent workforce why the CPI
he has been taught to focus on is really only 2.4%, not 3.5% (or
some other confection of suspect aggregate statistics), or why the
loss of value of money should be borne by him, the employee, rather
than an employer whose profit share of GDP these last three years
GDP is at the extreme upper end of the last 40 years' range.

The
next time Greenspan panders to the Beltway and gives us some technobabble
about the New Economy and draws attention to whichever statistical
fiction currently shows the least deterioration in price patterns,
remember Arthur Burns was the man who invented "core"
inflation.

As
Steven Roach of Morgan Stanley Dean Witter has recently reminded
us, Burns went on to take oil, food, mobile homes, used cars, purchased
housing, jewellery, and children's toys out of the basket before
he had finished. Miller's subsequent, brief, interregnum bears even
less scrutiny. CPI ended up at 12.2% in 1974 and hit 14.6% in 1980
before Volcker finally bottled the genie back up by throwing the
credit engine grindingly into reverse, stripping the gearwheels
of malinvestment from Vera Cruz to Vermont, and from Paris to Peoria,
in the worst recession since the war.

Ask
yourself whether you think Greenspan and Duisenberg most closely
resembles Burns or Volcker? Then ask yourself how well off we would
be if we had neither of these monetary Magi with which to contend,
but had honest money instead.

September
12, 2000

Sean Corrigan writes from London on the financial markets, and
edits the daily Capital Letter and the Website Capital
Insight
.

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