Who the heck is Benn Steil?
Readers ask: who the heck is Benn Steil? And why should I care?
Actually, everyone should care who Benn Steil is. At least, everyone who has more than a couple hundred bucks in the bank.
Benn Steil is this person. He is also the author of this article. And if you prefer the dulcet tones of his gentle yet masculine voice, you can listen to him here. I don’t mean to sound like a conspiracy theorist, but when the CFR and Ron Paul are singing the same tune, you can be pretty sure the fat lady is at least in the building.
Most importantly, Benn Steil is singing. Which means he’s not quacking.
The 20th century was the century of quack everything. Perhaps most infamous was the great Soviet quack-geneticist, Trofim Lysenko. But quackery in its Eastern edition was crude and unsubtle. Its associations with brute force were impossible to conceal, and it seldom lasted long when that force was removed.
No, the postwar Western university is our true Valhalla of quack. Quackologists will be studying this system for decades, and they will certainly not get bored. The sad fact is that almost everything studied and taught in Western universities today is quackery. The only exceptions are some areas of science and engineering. For example, I’m pretty sure that chemistry and biochemistry are generally quack-free. However, if Lee Smolin and Peter Woit are right (and Luboš Motl is wrong), we are beset even by quack physics.
We certainly have quack poetry, quack computer science, and quack history. “Journalism,” for example, is quack history at its finest. And figures such as Freud, Rothko, Mann (read the whole thread, or at least to the “Piltdown Mann” bit), Mead, and Ashbery will have to appear on any list of history’s great quacks. Their achievements may be surpassed, but how can they ever be forgotten?
And then there’s economics.
Pretty much everyone thinks of 20th-century economics as a seething nest of quackery. Including most 20th-century economists. All they disagree on is who the quacks are.
It is incontrovertible that quack economics is alive and well in the world today. It is possible that the Austrian, Chicago, George Mason, New Keynesian, and “post-autistic” schools of economics are all quack. It is certainly not possible that they are all nonquack.
So how can you tell the difference between a real economist and a quack economist? I’m afraid a bit more than $64,000 is riding on this question.
Here is my answer. Please feel free to refute it in the comments section. I have an open mind, but it tends to close after a while when it doesn’t hear any good arguments.
My test is that a real economist is an economist who believes that any quantity of money is adequate. A quack economist is an economist who believes that increasing prosperity—or even continuing prosperity—demands a continuously increasing quantity of money.
There is a word which means “an increasing quantity of money.” The word starts with an I. However, in the 20th century this word started to be used in a new way, meaning “an aggregate increase in prices.” While the two phenomena are certainly related, using the same label for both doesn’t strike me as the ideal way to elucidate the relationship. And when you realize that the new meaning largely dominates in modern English usage, leaving no word at all for the old meaning, the needle on your quack detector may start to ‘pop’ a little.
For this reason, I prefer to borrow a term from a slightly different department of finance, and describe an increasing quantity of money as dilution. If there is any ambiguity, one can eliminate it by speaking of monetary dilution.
(As for an aggregate increase in prices, the obvious word is appreciation, which can be further categorized as asset price appreciation and consumer price appreciation. The general use of the I-word in newspapers today is the latter. No precise or objective distinction between “assets” and “consumer goods” can be constructed, of course, but the same can be said for the index baskets generally used to “measure” consumer price appreciation. Any number produced by a subjective index is fudge—it may still be useful, but it is useful only to the eye. Anyone who plugs any subjective number into any mathematical formula or model is a quack, period. But I digress.)
So we can reframe our quack detector by declaring that there are two kinds of economists: those who believe that monetary dilution is essential, and those who believe it is inessential. Not only is this a boolean distinction, it is a very sharply polarized one—as we’ll see. In short, the conditions for a great quack hunt can only be described as ideal.
Our razor is as simple as could be. Dilutionists are quacks. Nondilutionists are nonquacks—unless of course they are peddling some other brand of quackery.
There is no ambiguity at all. This test applies to any economist, or supposed economist, past or present, professional or amateur. If the voters of a democratic nation are infected with quack economics, their government will hire quack economists who peddle quack prescriptions. As Miguel Ferrer put it in RoboCop, that’s life in the big city.
For example, one common belief among amateur dilutionists is that if the economy of some country “grows” (another fudge factor) by 3% a year, its currency should also be diluted at 3% a year. Any professional economist, quack or nonquack, knows that this makes no sense at all. No serious economist believes it in the exact numerical form stated above. However, it’s a common belief among the general public, and dilutionists seldom seem to disabuse them of it.
Why is dilutionism quackery? This is actually quite easy to see.
Modern currencies, such as the dollar, are fiat currencies. In principle, there is nothing at all wrong with a fiat currency. There is no valid economic objection to paper money, and there is no economic connection between dilutionism and fiat currency. In principle, it is perfectly easy to imagine a fiat currency system with a fixed quantity of currency.
Whatever your monetary system, money is a good like any other. It is not a “measure of value” or a “claim on wealth.” It is a commodity, whether virtual, paper, or metallic. (The reasons that people are willing to exchange so many nice things for money, and the reasons they choose one form of money over another, are complex—we’ll save them for another day.)
What makes money money, however, is that most or all people who hold money hold it not in order to use it directly, but in order to exchange it for other goods. True, you can write a phone number on a twenty-dollar bill, and you can melt down a Krugerrand and make it into a gold cokespoon. But neither of these uses are relevant to 99.999% of the people who hold twenties or Krugerrands.
In other words, when most people make decisions about money, they are concerned with the exchange rates between money and other goods—i.e., the prices of nonmonetary goods in money. Any change in their money that does not affect the quantity of goods they can obtain in exchange for the quantity of money they own will not affect their behavior.
Therefore, monetary systems can be redenominated neutrally, by rescaling a currency so as to affect all moneyholders in exactly the same way.
For example, Turkey recently stripped six zeroes from its currency. Each million old Turkish lira was converted to one new Turkish lira. All contracts denominated in old Turkish lira were rewritten in new lira. And so on. This did not amount to a 99.9999% wealth tax. It did not change the behavior of Turks, or anyone else, in any nontrivial way. Similarly, if Turkey had doubled its currency, so that every million old lira was now 2 million new lira, there would have been no nontrivial effect.
On the other hand, if Turkey had converted every million old lira into one new lira, except for lira held by Armenians, who received half a new lira, the effect would have been a tax on Armenians. If it had doubled its currency, but not doubled debts to Armenians, so that your million old lira became 2 million new lira, but if you owed 1 million old lira to an Armenian, you still owed 1 million new lira, the effect would have been a partial repudiation of debts owed to Armenians. And so on.
There is no distinction between monetary dilution and redenomination. If you dilute a monetary supply by 10%, you are exchanging 1 million old lira for 1.1 million new lira, whether or not you choose to think of it this way.
However, the type of monetary dilution that we think of when we use the “I” word is never, ever a neutral redenomination. There are many ways of creating new money—counterfeiting in a fiat currency system, gold mining under a gold standard, etc. None of them distribute an equal share of the new money across every unit of the old money. None of them rewrite contracts or debts. If they did, they would be neutral, and no one would bother.
One easy way to see this clearly is to imagine a monetary system in which money is measured in fractions of the outstanding money supply. Instead of a number like $1000, your bank statement would have a number like “one billionth,” meaning that you owned a billionth of all the dollars in the world.
Redenomination in this kind of fractional monetary system is so trivial that the operation does not even exist. Moreover, we can redefine any monetary system in these fractional terms—as long as we can define the quantity of currency in the system. It is just a matter of changing our accounting convention.
So what would nonneutral dilution look like under fractional accounting? The answer is simple—it looks like redistribution. When you dilute lira owned by Armenians but not lira owned by Turks, the result is precisely the same as taking lira from Armenians and giving it to Turks.
Every nonneutral dilution can be defined as the combination of a neutral redenomination and a nonneutral redistribution.
And this is why dilutionists are quacks. Dilutionists are quacks because it is impossible to imagine a way in which the systematic pilfering of wallets could somehow be essential to commerce and industry.
We can categorize monetary systems as closed-loop (no new money is created) or open-loop (new money is created). Even the gold standard is an open-loop financial system, because new gold can be discovered and mined. 19th-century gold discoveries in Australia, California and Canada had substantial global monetary effects. But at least Mother Earth is in control of this particular loop.
Obviously, fiat currencies are all at least potentially open-loop. Typically the State, by persecuting all counterfeiters other than itself, controls the loop. For example, the most naive form of dilution is simply for the government to print money and spend it.
This is not how dilution works in most Western countries today. Rather, modern governments use their fiat currencies to issue perfect loan guarantees. For just one example, a conventional bank “deposit” in the US is actually a zero-maturity loan from you to your bank. This loan is nominally “insured” by a “corporation” called the FDIC, but this risk is not an insurable risk, nor does the FDIC store the slightest fraction of the funds it would need to make its guarantee 100% reliable. However, the guarantee is indeed 100% reliable, because the FDIC is ultimately backed by the US’s power to create as many dollars as it wants, and the US has every political incentive to exercise this power.
(Another way to understand dilution via loan guarantee is to realize that the US’s power to define a piece of paper as a “dollar” is no different from its ability to define a slice of your checking account as a “dollar.” The US can fix the price of any good relative to its own fiat. If Congress wants to declare that every Honus Wagner baseball card has a face value of one billion dollars, it has all the power it needs to do so. But again, I digress.)
Why would anyone ever believe in dilution? Well, there is a very straightforward way to use dilution to create apparent prosperity: use it to redistribute money from people who are saving money, to people who are spending it. While typically the savers and the spenders are not the same people, if you can imagine a government program that would force anyone with a large nest egg to spend it all this year, you can certainly imagine the resulting boom.
Again, however, we see that dilution can accomplish no objective which cannot also be accomplished by redistribution. And what is the advantage of dilution over redistribution? Simply that dilution is easier to hide, and harder to resist. In other words, we will expect to see a state choose dilution over redistribution when that state is either deceptive or weak. Or, of course, both.
And there is an even more troubling fact.
The fact is that all famous 20th-century economists—Fisher, Keynes, Friedman, Samuelson, Galbraith, etc., etc.—and 99.9% of working economists today are dilutionists. In other words, they believe that a closed-loop monetary system, or even a nearly-closed system such as the gold standard, is impractical or at least suboptimal.
We can even link to bloggers. Cowen and Tabarrok: dilutionists. Kling and Caplan: dilutionists. McArdle: dilutionist. Mankiw: dilutionist. Levitt: dilutionist. DeLong: major dilutionist. Und so weiter. Pretty much your only nondilutionists are to be found in the Austrian School, and even there you need to be careful.
Therefore, we are left with the conclusion that either (a) the above analysis is in some way wrong, or (b) 20th-century economics was dominated by quacks, and mostly remains so.
It’s not at all clear why (b) should even start to be surprising. Didn’t we already know that the 20th century was the era of quack economics? What was the Soviet Union but a giant outdoor experiment in economic quackery?
I say “20th century” because we observe an interesting fact: when we scroll back in time, we see that dilutionism makes itself quite scarce.
Madison wrote in Federalist 10 of “a rage for paper money, for an abolition of debts, for an equal division of property, or for any other improper or wicked project.” Burke is even more colorful:
When all the frauds, impostures, violences, rapines, burnings, murders, confiscations, compulsory paper currencies, and every description of tyranny and cruelty employed to bring about and to uphold this Revolution have their natural effect, that is, to shock the moral sentiments of all virtuous and sober minds…
Ben Franklin was the leading colonial enthusiast of open-loop finance, a perspective not at all inconsistent with his general harebrainedness. The fate of the Continental dollar, not to mention the French assignat, did a reasonably good job of discrediting dilutionism. Even Lincoln’s greenbacks were formally limited in supply, and after the war this limit held.
In general, anyone who openly proposed outright dilutionism in the 19th century was treated as a monetary crank—much as Ron Paul is now for his espousal of the gold standard. (Frum’s arguments, if you can call them that, are quite typical of the canon. At least he’s in good company—not just with the 20th century’s top economists, but also one of its great poets.)
But even the classical gold standard of the 19th century was quite diluted. The 19th-century banking system never had anything like enough gold to redeem all current claims in metal. Frequent panics and cycles were the result, culminating in the events of the early 1930s, in which a worldwide rush for redemption eliminated the last vestiges of closed-loop finance.
To find what Austrian economists call a “100%-reserve” monetary system, you have to look in more obscure corners of history—such as the Amsterdamsche Wisselbank. Or, as Condy Raguet claimed in 1840, Gibraltar:
Such being the theory of this branch of my subject, I have the satisfaction to state in regard to the practice under it, upon the testimony of a respectable American merchant, who resided and carried on extensive operations for near twenty years at Gibraltar, where there has never been any but a metallic currency, that he never knew during that whole period, such a thing as a general pressure for money. He has known individuals fail from incautious speculation, or indiscreet advances, or expensive living; but he never saw a time that money was not readily obtainable, at the ordinary rate of interest, by any merchant in good credit. He assured me, that no such thing as a general rise or fall in the prices of commodities, or property was known there; and that so satisfied were the inhabitants of the advantages they enjoyed from a metallic currency, although attended by the inconvenience of keeping in iron chests, and of counting large sums in Spanish dollars and doubloons, that several attempts to establish a bank there were put down almost by common consent.
I’m not sure on the details, but I’m afraid there are banks in Gibraltar now. However, if you prefer to store your portfolio in doubloons, there is always Jersey. Yes—in fact, this is exactly what Benn Steil is talking about.
See also Sebastian Mallaby, in Monday’s Washington Post. Again, the CFR rears its ugly head.
Basically, what we’re looking at here is the harsh but necessary process of waking up from the last century. There is a reason that quackery, in economics and poetry and nutrition and painting and history and psychology and paleoclimatology and computer science and just about any other department you can name, did so well in the 20th-century university system. Reality knows no master, but quackery is useful. Sometimes it’s even profitable.
And will we end up back on the gold standard? Possibly. I really have no idea.
As Lech Walesa used to say, it’s easy to turn an aquarium into fish soup. It’s a lot harder to turn fish soup into an aquarium. Likewise, it’s easy to go from a closed-loop currency to an open-loop currency. Going back, on the other hand…
In the ’80s and ’90s, governments found it not all that hard to reverse quack central planning. Often the corporations nationalized in the ’30s through the ’60s were even structurally intact, and could just be resold. Reprivatizing the monetary system is a completely different level of difficulty. It involves revising not just decades, but centuries, of Western financial practice.
Worse, any transition to a fully backed gold standard implies a preposterous discontinuity in the gold price. If such a transition is officially planned, it would demand a level of secrecy and coordinated execution that would make the CFR look like MySpace. If it happens spontaneously in the market, as Steil suggests—the mind boggles. I can imagine how this could happen on a purely economic level. I can’t imagine how it would interact with politics.
But history is out there. It has not been repealed. The present is not permanent. In fact, to the future, it may look pretty strange.
[BTW: I know I promised to wrap up the Dawkins series this week. However, on further reflection, I feel it may actually need to be not ended, but extended. Hopefully this week’s posts have provided UR readers with a wider window on the alternate reality around us.]