Forums → WEPR → An Austrian Perspective

The fundamental problem with the US economy is that we are 70% consumption. This was caused by bubble after bubble of artificial growth. Look at all the statistics you want and it won't matter. The US economy is built like a house of cards now. The Federal Reserve has been pouring cheap money into our economy for the past 10 years. We have the lowest interest rates in history. We can't counter these imbalances without a recession.

Bernanke believes that the only reason the recession was prolonged was because the Federal Reserve didn't reinflate the money supply. Bernanke is doing that now and what will happen is an inevitable recession.

What we have now is too much spending and consuming and not enough saving and producing. We have an inflated money supply that is not backed by any real wealth. What we have now is low interest rates that punish people for saving. Interest rates HAVE to go up.

A brief economics lesson: What we have in the US is a government-endorsed fractional-reserve system of banking. Fractional-reserve banking is where banks can keep a fraction of money deposited in reserve, and lend the rest out, essentially created money, or debt. For example, there are three people in our society, the banker, the depositor, and the borrower. I deposit $10 into the bank. The banker keeps 10% of it in its reserve, and lends the rest to the borrower. Now we have $19 in the money supply. The money supply is different from money in circulation. It's not really $19, but if I wanted to withdraw my money, I could. The banker relies on the depositor not needing to withdraw their money before he is paid back. Those $9 that were spent by the borrower, is "new" money.

Let's expand the society for a bit. Imagine there are now firms, or companies in the society. There is Firm A and Firm B, and some more people enter the society. Money, like any other good, has a price. The price of money is the interest rate at which it is lent out. The bankers charge interest 1.0%. The interest rate is low to attract more consumers. The firms take note of this low interest rate, and see that people would rather spend their money now than later. When the consumers stop spending, they will begin to save for the future. The bankers will now raise interest rates to attract more consumers. Essentially, when there are low interest rates, everyone borrows and when there are high interest rates, everyone saves. The firms use the interest rates as indicators for when to invest and borrow. Firms will borrow when consumers are saving, and will not borrow when consumers are spending. Firms borrow money to produce now, and consumers will borrow to spend now.

The current situation is one where we have artificially low interest rates. Firms will not borrow money, meaning there will be less production, and consumers will borrow money, meaning there will be more spending. Nothing is wrong with this, except that it has been grossly prolonged and we have the current imbalance we have now. Another problem is, we have a low interest rate, or a low price of money. Banks have lent out lots of money to consumers with these low interest rates, using the 9:1 ratio, and drastically increased the money supply. Essentially, we have lots of cheap money. The value of our money has gone down. Money abides by the laws of supply and demand. When the money supply is high and there is little demand, it is cheap. When money supply is low and there is high demand, it is valuable. However, none of this money is "backed" by wealth, wealth being the demand. We used to back our money by gold and silver, a real measure of wealth, or demand. The US had the most amount of gold and silver, and the most amount of wealth. However, we don't back our money by gold and silver today. Our money is backed by the idea that it has value because everyone else thinks it does. What the Federal Reserve will try to do, is print lots of money, or change the nominal value, to change the real value of money. However, the real value of money will never reach nominal value because there is no wealth to back up the nominal value.

Our money supply is substantially higher than the wealth in this nation. The only way to get out of this situation is by letting interest rates go up and letting everyone save their money, which would shrink the money supply. When the money supply shrinks, it is called deflation. Production will then increase until equilibrium is reached. However, when the money supply shrinks, there will be less spending and people will suffer. There will be more unemployment, but the price of everything will fall.

However, Ben Bernanke is against deflation in every way possible. He will reinflate a new bubble and increase consumption until it is the highest possible, and then when he finally lets the recession occur and the equilibrium to be reached, it will be the worst depression in the history of the world.