Thursday, February 5, 2009
Dick Morris Economics: Say Anything and Hope That People Will Believe It
When it comes to economics you have to admire Dick Morris for his consistency; consistency in disregarding the facts and misstating the truth.
In his latest email, "Keynesian Fallacy," Morris claims that very few economists really buy into Keynesian theory anymore. Well, if they're listening to his brand of Keynesianism, he's probably right:
"Keynes felt that people would react automatically to a few dollars in their hands. Consumers would run out and buy new products, and businessmen, seeing the uptick in sales, would rush to open new plants and hire new workers who would, in turn, generate more demand."
That sounds and awful lot like supply-side economics to me.
Actually, Keynes advocated that the government spend money to counter falling output and employment. He wasn't even too particular on what the government spent money on, just that it spent. Putting a "few dollars in people's hands" is more of a supply-side idea.
Morris correctly points out that in bad economic times people tend to save more rather than spend. That was somewhat evident in the tax rebate checks sent out in Q2 2008. While some of the money did go toward consumption, much of it went to savings, which is precisely why the tax cut approach that Morris and others advocate is flawed.
Cutting taxes would raise incomes for some and reduce fiscal drag for sure, but who's to say that households would behave any differently now than last year? If anything, they might be inclined to save even more given how job losses have been accelerating. In contrast, the government has the ability to provide the demand that the economy desperately lacks at this time and it could sustain this demand until people felt confident to start spending on their own.
When analyzing the problems with the banks Morris is almost comical in his theories. (Actually, it would be comical if it weren't for the fact that so many people listen to this guy.) He begins by telling us that the Fed is "holding $1.7 trillion for American banks, more than twice what it had in its 'vaults' at the start of 2008.'"
Yes, the Fed made loans to banks collateralized by assets, which resulted in an increase in reserves in the system. More importantly, the Fed did what it always does: manipulate reserves to achieve its interest rate target, which is currently zero. The only way to get to a zero Fed funds rate is to raise the level of reserves via monetary operations. (Buying securities held by the public.)
While reserves are kept on deposit at the Fed, they are not held in vaults. Reserves are electronic entries, just like the "money" in your checking account. The notion that banks around the country carted wheelbarrows of reserves to the Fed's "vaults" is nothing short of hilarious.
Morris seems frustrated by the fact that the banks didn't "lend [those reserves] out." Any basic textbook on banking will explain in the very first chapter that banks don't use their reserves to make loans. Nor do they lend their capital or their deposits. Banks create loans out of thin air and are not constrained by the amount of reserves they have. This is a privilege granted to them by the government, under strict regulatory supervision.
Furthermore, loans create deposits, which in turn create new reserves. The important thing to remember here is that banks are profit-seeking businesses that will make loans when they see an opportunity to make a profit on those loans. In an economy where workers are losing their jobs and where asset prices and business profits are falling, there's just not a whole lot of opportunity when it comes to lending. To make matters worse, there is an awful lot of risk. In addition to the dearth of opportunity, the other factor that influences lending is demand. And anyone in the banking business will tell you that in a weak economy, loan demand is going to be weak as well. JP Morgan CEO, Jamie Dimon, said just that in comments recently.
In typical fashion Morris concludes his piece the way he always does, by sounding the alarm. He says that once the economy gets back on track we will see hyperinflation because of all the "liquidity" the Fed has pumped in. This is patent nonsense. As conditions improve you can be sure that the Fed will manipulate reserve balances back down to more normal levels as it always does. In fact this has already begun. In the past three weeks reserve balances have dropped by more than 10% ($85 billion). What the Fed giveth, the Fed can also taketh away.
Dick, stick to politics and leave the economics to others.