Money_How the Destruction of the Dollar Threatens the Global Economy - and What We Can Do About It

by Steve Forbes

  Ricardo’s obsession with numbers and mathematics, however, especially when he dealt with wages and profits, infects economics to this day. At one point, Ricardo posited that profits could only rise at the expense of lower wages for workers. Marx later took up this theme with a vengeance; indeed, some leftists before the rise of Marxism identified themselves as Ricardian socialists.

  It is easy to understand the allure of science, with the authority it confers on academicians. Not surprisingly, the emphasis on mathematics and equations continued to grow, culminating in John Maynard Keynes’s 1936 opus, The General Theory of Employment, Interest, and Money.

  Like the classicists, Keynes presented a Newtonian-induced view of the economy as a closed system with the potential for an equilibrium in which demand and supply were in balance. But within this mechanistic framework, he made a radical change.

  Traditional economists regarded the production of products and services as the real economy and money and credit as the “symbol economy,” the tools of commerce.

  Keynes defiantly reversed this pecking order: money and credit were the real drivers of the economy, upon which production was dependent. In this universe, government, which supposedly could control the flow of money and credit through bureaucratic fiat, was far more important in determining where an economy went than mere individuals, entrepreneurs, and companies. This was a radical departure from classical economics.

  Keynes’s pseudoscientific paradigm—what some have called neo-mercantilism—triumphed to become the new orthodoxy because of two catastrophes, the First World War and the Great Depression. Before World War I, it was a given that governments had to exercise careful restraint in how they treated their economies. The Great War blasted away these economic inhibitions. Governments learned they could mobilize a society’s financial wealth through taxation, inflation, and borrowing on a scale previously unimagined. Later, the Great Depression, which was largely the calamitous consequence of a global trade war triggered by the U.S. Smoot-Hawley Tariff, encouraged the perception of unstable markets needing intervention. By reshaping traditional views of government and markets, both events provided the perfect historical opportunity for Keynesianism to become the reigning orthodoxy.

  Its misguided precepts have been responsible for countless policies that over decades have done untold damage and provided the impetus for writing this book. One such occult idea that we discuss later is the Phillips curve, the graph purporting to show that creating inflation reduces unemployment and reducing inflation boosts joblessness—correlations that have never been true.

  All of the graphs, technical-sounding lingo, and equations of Keynesians and monetarists—and the air of authority they engender—have created an effective smoke screen. It has prevented recognition that so many of their economic prescriptions and forecasts have turned out to be wrong.

  This has been true from the start. In the late eighteenth and early nineteenth centuries, Reverend Thomas Robert Malthus, like a good scientist, gathered an impressive array of data to find out how large a population agriculture could support. His predictions of mass famine were totally erroneous and so grim that they caused economics to become known, more than a little facetiously, as the “dismal science.”

  Unfortunately, not only Malthus but also Ricardo overlooked a critical variable that few, if any, traditional economic models ever take into account when assessing economic conditions: the role of human creativity and problem solving in expanding resources and propelling economic growth.

  Human ingenuity is the reason why, instead of the mass famine Malthus predicted, food is many times more abundant now than it ever was in the eighteenth century. Innovations in food production, in addition to technologies like refrigeration, have made it possible to bring more food to more people around the world. Starvation today has become an exceptional event produced by natural disasters or extreme dictatorial regimes.

  Innovation is also why the energy shortage predicted in the 1970s has failed to materialize. Instead, the expectation today is for the United States to become a global energy powerhouse because of new technologies like hydraulic fracturing.

  Yet only a handful in the economics profession have appreciated the central role of the entrepreneur and the fact that an economy is constantly changing. Most notable was Joseph Schumpeter, who regarded the classical model of equilibrium as nonsense. He famously identified the process of “creative destruction” that takes place in an ever-evolving economy. He explained that the economy, far from being a closed system, is more like a dynamic, living ecosystem with billions of people engaged in an incomprehensibly complex array of activities and transactions. Change and turbulence are the norm. Entrepreneurs and their innovations are not exogenous but are at the heart of the economy, part and parcel of growth and progress.

  * * *

  Fortunately, people both in and out of the economics profession are waking up to the fallacies of traditional thinking. Schumpeter’s ideas about creative destruction are today considered mainstream. And there is a growing awareness that we are on the wrong track about money. Serious attention has recently focused on the possibility of a return to a gold standard.

  Another indicator of a shift away from Keynesian orthodoxy: the emergence of new methods of economic measurement. The key statistic has long been gross domestic product (GDP), which posits that consumption is 70% of the economy, government is 20%, and investment the rest. In addition to GDP numbers, the Bureau of Economic Analysis of the Commerce Department will in 2014 also unveil a new statistic called gross output. Measuring intermediate steps needed to produce products and services, this provides a fuller picture of economic activity. Consumption goes from 70% to 40% of the economy. The importance of investment surges; the importance of government spending is sharply reduced.

  The once dismal science is seeing a new wave of work breaking away from the Newton-influenced model of the economy as a mechanical entity and highlighting the importance of entrepreneurial creativity in bringing about growth. A critical breakthrough came in 2013 with the publication of George Gilder’s book Knowledge and Power. Gilder makes the seemingly obvious point that the real source of wealth is the human mind. The catalyst for economic growth is the acquisition of new knowledge—information that comes from trial and error. The economy expands as a result of the constant, unending efforts of Schumpeter’s entrepreneurs to do new things and create new products or whole new industries, to see what works—and what doesn’t—and to learn from both failure and success.

  Gilder asks: What is the difference between our age and the Stone Age? Answer: we know more. The cave dwellers of thousands of years ago had “the same set of physical appetites and natural resources that we have today. The difference between our lives and the lives of Stone Age penury is the growth of knowledge.”

  Gilder’s observation is powerfully illustrated by the miraculous recovery of Western Europe and Japan from the devastation of the Second World War. Despite the tremendous loss of life and resources, nations were able to rebound because knowledge was not destroyed. Thanks to extraordinarily creative U.S. diplomacy that formed a sound monetary system based on gold (which was gratuitously wrecked years later), systematic reductions in trade barriers, and military security, these devastated lands surpassed their prewar levels of output in less than a decade after the cessation of hostilities.

  The importance of knowledge to wealth creation is why societies that thrive economically are those that don’t overprotect against risk and permit people to fail. Failure can be a source of new knowledge. Henry Ford went through two bankruptcies before his success producing automobiles.

  When one grasps the truth that the mind is the source of all wealth, then one can see that all the concerns—about sustainable growth, about running out of natural resources, about population expanding faster than our ability to grow food, about fatal shortages of water—are groundless.

  Gilder also cites the story of Israel: “Since the state was founde
d in 1948, its population has grown tenfold, its arable land threefold, its agricultural output sixteenfold, and its industrial output fiftyfold, yet its net water usage has dropped an astonishing ten percent. This unique achievement is the result not of sanctimonious laws or disruptive environmental litigation but of combining information with enterprise.”

  Information combined with trade and enterprise: that says everything one really needs to know about economics. Money—sound, trustworthy money—is the crucial facilitator that brings it all together.

  INTRODUCTION

  Few topics are as misunderstood today as the subject of money. Since the United States abandoned a gold-linked dollar over four decades ago, its policy establishment has slid into a dangerous ignorance of the fundamental monetary principles that guided it for most of its history. The bureaucrats and officials who set policy today know less about money than their predecessors did 100 years ago when the First World War erupted. Americans and the rest of the world are now paying the price.

  Today’s system of fluctuating “fiat money”—whereby government manipulates the value of the dollar—has been behind the biggest economic failures of recent decades, including the financial crisis experienced by emerging countries in 2013 and 2014. Weak, unstable money was also responsible for the 2008–2009 financial panic and the subsequent Great Recession, from whose effects we continue to suffer.

  The U.S. economy, as a consequence, has shifted from wealth creation to wealth destruction. No wonder tens of millions of people feel that their real incomes are declining and their financial situations are coming under more pressure.

  These vastly misguided monetary policies are now setting the stage for a new economic and social catastrophe—one that could rival the financial crisis and the horrors of the 1930s. Something needs to be done. But for too long the pervasive misconceptions about money, and the mystique that surrounds the Fed and its “wise men,” have inhibited scrutiny and public debate.

  In order for the United States to stop repeating the same mistakes that led it into past crises—and which are certain to create new ones—we must develop a renewed appreciation of the monetary principles that guided America for most of its history. A plainspoken discussion intended to promote such understanding, this book demystifies the critical subject of money.

  When you peel away the jargon of bureaucrats and economists, the classic monetary principles boil down to common sense.

  Chapter 1, “How We Got Here,” explores today’s growing fears about the U.S. dollar and how its destruction over more than four decades affects the lives and the future of every person in the world.

  Chapter 2, “What Is Money?,” explains why money, in order to properly fulfill its role in the economy, must be stable, like any other unit of measurement. That’s why both raising and lowering the value of money—which is what the Fed does when it strengthens or weakens the dollar—inevitably has destructive consequences.

  Stability trumps just about everything else when it comes to money. Because they don’t grasp this simple fact, bureaucrats rarely get it right when they tighten or loosen. The key to successful monetary policy is maintaining a stable monetary value.

  Chapter 3, “Money and Trade: A Deficit in Understanding,” points out the absurdity of our policy makers’ obsession with monetary and trade policies aimed at avoiding a balance of payments deficit. Just as mercantilists in the sixteenth through the eighteenth centuries believed imports drained the strength of a nation by sending money overseas, today’s neo-mercantilist policy makers believe it is necessary to weaken the value of a currency to encourage exports and discourage imports.

  For reasons we explain in Chapter 3, the very idea of a trade or balance of payments deficit is a fallacy. Yet these policies over the years have resulted in needless protectionist measures that have damaged the United States and the global economy, in addition to inflaming tensions between nations. As we explain, it is a waste of time to tangle with nations over currency values. Commerce is not ultimately driven by the worth of currencies but rather by the real-world needs of people and companies. And whether it takes place between individuals, companies, or nations, trade always benefits both sides. Foreign investment in the United States each year more than offsets the so-called trade deficit.

  Chapter 4, “Money Versus Wealth: Why Inflation Is Not a Good Thing,” explains why arbitrarily increasing the supply of money most often backfires and hobbles wealth creation. Money is not only a measure of value but, as many wise people have pointed out, is also a system of communication that provides critical information to producers and consumers.

  Artificially manipulating currency damages markets by producing false signals. We end up with supply and price distortions that produce shortages and inflation. This can take place even when there is supposedly minor inflation. The housing bubble of the early 2000s is a textbook example.

  Chapter 5, “Money and Morality: How Debasing Money Debases Society,” explores the phenomenon of currency manipulation leading to societal ills. Inflation resulting from the excessive printing of money, for example, helped give us communist dictatorships in Russia and China, and it laid the groundwork in Germany for the Nazis’ rise to power. Such disastrous scenarios may seem remote, but the artificial manipulation of currency values recently produced adverse social consequences during the 2008 financial crisis and its aftermath.

  Money is the foundation of trust and cooperation in a market and in all society. When money becomes unstable, trust unravels. Throughout history, inflation and loose money have been associated with higher rates of crime, corruption, political polarization, and unrest. We are seeing this today. The global monetary expansion of the last decade has been the catalyst for political unrest around the world—from the Arab Spring in the Middle East to the Occupy Wall Street protests in the United States. Alas, policy makers and most others rarely connect the dots.

  Chapter 6, “The Gold Standard: How to Rescue the Twenty-First Century Global Economy,” looks at what has always been the best way to achieve monetary stability: linking the dollar or any currency to gold. The refusal of many in the policy establishment to entertain the idea of a return to a gold standard is based on an astounding ignorance about just what a gold standard would mean and how it would work. In fact, there have been several different gold standards throughout history and several proposals have been put forward for a new gold standard.

  Chapter 6 explores the history and the myths about gold and presents our own proposal for a gold standard for the twenty-first century. Contrary to the fears of critics, a return to gold would not mean a rigidly fixed money supply. Gold is far more flexible than most people generally acknowledge. Because the function of gold is to provide an anchor of value, a nation can actually have a working gold standard without possessing gold at all.

  We believe that eventually a gold standard will be adopted, though it’s impossible to tell when or under what precise circumstances that will occur. In the meantime, the destruction of the dollar will continue, with only intermittent pauses. Chapter 7, “Surviving in the Meantime: Protecting Your Assets from Unstable Money,” offers some commonsense tips on what to do right now to safeguard your personal wealth.

  Chapter 8, “Looking Ahead,” explores what all of us can expect to take place in the world economy if it continues its present dangerous course—and what will happen when we finally rediscover the wisdom of the Founding Fathers and America’s first treasury secretary, Alexander Hamilton, and adopt a gold standard.

  The return to sound money will usher in the kind of long-term growth that turned the United States from a sparsely populated agricultural nation into the innovative industrial powerhouse that has been the envy of the world. Both America and the entire global economy will benefit.

  Without an economy based on stable money, we will face ever bigger government, stagnation, and ever more severe political troubles. Not only is sound money the foundation of cooperation and progress, but it is also th
e way to a prosperous and moral society.

  CHAPTER 1

  How We Got Here

  In the fall of 2008, the U.S. suffered its worst financial crisis since the Great Depression. . . . Five years on . . . the country’s economy is still sick. Unemployed middle-aged men look in the mirror and see someone who may never work again. Young married couples who should be on the way up are living in their parents’ basement.

  —DANIEL HENNINGER, Wall Street Journal

  THE WORLD HAS SUFFERED THROUGH A TURBULENT DEcade. The last 10 years have seen a financial panic in the United States that nearly brought down the global financial system. It was followed by the worst recession in more than 30 years; solvency crises that imperiled governments in the United States and Europe; a financial meltdown in Iceland; attacks on a succession of currencies, including the rupee and the euro; and hyperinflation in Zimbabwe and civil war–torn Syria.

  By 2014, the Great Recession had passed. Yet while the fever may have spiked, unease lingers. Recovery in the United States and around the world has been feeble. Polls show that people are more politically polarized than they have been in decades. From the Middle East to Latin America, countries have been rocked by street demonstrations and social unrest. Monetary crises have roiled emerging nations such as Russia, Brazil, India, Turkey, Indonesia, and South Africa. In January 2014 the Dow Jones Industrial Average plummeted more than 318 points, or 2%, in a single day.

  In the words of one observer, a “1929 feeling” is back on Wall Street. Among many there is the fear that the market’s gains could quickly evaporate and that a new global crisis lurks just around the corner. There is also growing anxiety about the future of the dollar. We have seen this in the rush to invest in gold; the emergence of alternative currencies like the bitcoin and the now-prohibited Liberty Dollar; and the proliferation of books forecasting doomsday scenarios like the total collapse of the dollar and currency wars. Many people are wondering: Could such predictions possibly be true?