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A new economic model

Jan 29 2014 07:27
*Edward Ingram
DOES Edward Ingram’s new model for the economy make Keynes out of date?

After reading my essay on pure inflation, I was asked the following question by the chief economist of an African economic commission: “Does the theoretical Keynesian Social Engineering have any relevance in your postulations?

“This will help us put your ideas in the context of a typical developing economy with all its imperfections.”

Here is my reply (which he liked), but edited to clarify some points.

I am basically looking to change the unsafe behaviour of savings and loans, and thus also the behaviour of people.

Confused and vulnerable people, about whom (John Maynard) Keynes wrote, behave very differently from those who feel financially secure with their savings and loans.

They feel even more vulnerable once the policy makers become confused and unpredictable.

Understandably, Keynes started out with the assumption that economies as currently constructed are capable of getting themselves either into an irreversible decline, or a decline that is deeper than necessary. He recommended government spending financed by borrowing to combat this.

Counter argument

The counter argument is that the resulting borrowing may crowd out enterprises that might otherwise use the same funds to speed the recovery, or later to sustain it.

In my opinion, borrowing will increase simply because a slowdown reduces a government's revenues, and increases social demands on its spending.

                                          A different solution

I postulate, but it remains to be tested, that people will behave very differently, and the economy will optimise employment and economic growth automatically, if the instabilities currently built into savings and lending - which so drastically disturb all economies today - are removed.

I suggest that if people can be financially secure at every level, and if that is what they want, they can get on with their jobs and their lives. They will spend, and so create jobs for each other, until very few are left unemployed.

I have explained in some detail what needs to be done in previous Fin24 listed essays.
    
The kind of stimulus

As regards Keynes, in my opinion, if a stimulus is ever needed, then it will be done best by printing some money and using that to reduce sales tax. Anything that is not subject to sales tax, such as monthly commitments to insurance, mortgages and savings can be given a subsidy, all provided in the same proportion - say a 5% subsidy for everything.

Being temporary until the economy recovers, this will bring out the 'January sales' effect which will be enough stimulus to do the trick. Any perceived threat of inflation due to the new money printed may speed spending further before prices rise.

A precondition

BUT there is a pre-condition to all stimulus ideas: if the people as a whole are over-borrowed, why would any stimulus work? I never understood why the USA thought it would do the trick.

And the USA faced, and still faces, another barrier - the Low inflation/Low interest rate trap which is a condition of extreme economic instability in investments, savings and loans, because all of these instabilities get significantly magnified at very low interest rates.

These affect bond values and mortgages and property values, as well as business and even government budgets. Who wants to borrow and invest when interest rates still have so far to rise - maybe 4% - and all savings and loans and the whole economy is so vulnerable, and when borrowing to invest is therefore so risky?

The money mop

I suggest that the whole instability scenario for savings and loans needs to be repaired, not only for developed economies but for all economies - South Africa included. Then my money printing idea would work and as I explained three essays back, any resulting near pure inflation would mop up any excess money relatively harmlessly.

In simplified terms, excess money results in devaluation and rising interest rates, rising incomes and rising prices, all more or less at the same time and at the same pace. No real damage gets done.

Why people are scared of inflation

The reason people are scared of inflation is because this fixing of instability does not happen. Mortgage payments and investment values all jump around and cause confusion at every level, slowing the economy, creating job and wealth losses on a massive scale. All of my essays at Fin24 are about providing the remedy.

That pure inflation essay was greatly admired by professors and others. Check it out.

I explained in my two later essays, both now published in Fin24, how to escape from this low interest rate trap. The first essay was entitled Escape from QE, and the second A Safer Economy For All.

Until the interest rate sensitivity issue for loans and investments has been resolved, the affected economies - like the USA, the UK, Japan and maybe Europe in due course - will remain very unsafe and unstable.

The so-called escape velocity that USA and UK policy-makers are currently talking about is really a way of saying 'get interest rates to rise slowly' and the economy will adjust (recover) slowly.

The process may be VERY slow because every small increase in interest rates has such a destabilising effect, and the process may not be very predictable. The built-in uncertainties will slow that recovery process further.

If we do not remove that over-sensitivity of debts and bonds to interest rates, it will be only a matter of time before there are more inflation problems or the next bubble bursts, or deflates a bit faster than we might like. We will have another crisis or needless recession on our hands.

The same applies to all economies, including South Africa, but to a lesser degree when inflation and interest rates are higher.

Summary

I envisage an economy in which all savings and all borrowing costs are relatively safe, protecting the wealth of both borrowers and savers. Wealth can be lent, borrowed, and repaid at a safe rate that does not jump around. There is nothing to stop us from doing that.

Any time there is a slowdown, new money can be printed and given to everyone as a spending subsidy (reduced prices), when they spend. All sectors get a stimulus and there is no need for a Keynesian style ‘borrowed money spending spree’ targeted only at certain sectors and with offsetting problems for government borrowing and lost resources for the rest of the economy.

I postulate that economic stability, full employment, and steady growth may become possible without a stimulus when everyone feels financially secure.

In the next few weeks I will be writing about the idea of creating a stable money supply, and I will discuss the sources of instability of currencies.

 - Fin24

* Edward Ingram has a strong and growing support base. One American has started a petition asking President Barack Obama and/or his senate committees to look into these ideas. Ingram says: “Why not here in South Africa? The ideas are universal.”



edward ingram  |  economy  |  money

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