Realist, not conformist analysis of the latest financial, business and political news

Central Bankers Abhor A Vacuum

“An economy” might be described as the description we slap on our attempts to allocate useful and scarce resources – and the scarcer and more useful they are, the more money is usually demanded in exchanged for them.

So prices are how we measure this scarcity and usefulness.

With free markets, these prices are discovered by the consumers – they propose how much of their money they are willing to swap for a given product or service, and the producers that can make a profit at that price, prosper.

Those that can’t, don’t – their business gets recycled into the economy as all their people go and work elsewhere, all their office furniture gets sold off and all their debts vanish.

So far so good – creative destruction keeping an economy healthy in the same way periodic brush fires prevent a build up of dry brush that might erupt into massive wildfires later.

But for the last century here in the developed World, we’ve noticed a bit of a problem – a tendency for these small periodic brush fires to not really happen as much, resulting in occasional massive wildfires that destroy whole swathes of our economies.

Normally, I’d blame government – politicians and bureaucrats love to justify their salaries and positions by “helping” when things go wrong, and they have never seen a problem their efforts can’t turn into a disaster. They love to rush in with the hoses and prevent any tiny fire, because there’s votes to be had in firefighting.

But we’ve had government for a couple of thousand years – why do we suddenly have these extreme problems now?

Central banking.

Yup – it’s Mark Carney’s fault.

Because money is what denominates the price of everything, and central banks set the price of money.

When a central banks sets an interest rate for banks to borrow at, rather than allowing all rates to be set by the free market, price is being mandated, not discovered.

So instead of the free market, we get a handful of intellectuals-yet-idiots making the decision instead – if they set that rate too low, banks borrow too much and lend too much and crazy business ideas that have no viable business model get funded into existence and before you know it we have Facebook. And if they set it too high, banks don’t borrow enough, don’t lend enough, and entrepreneurs with great ideas can’t get started and James Dyson never gets his crazy hoover scheme off the ground.

Whereas if they get it exactly right all the time, fluctuating it twenty times a day in precise accordance with what the free market would have decided………….then what’s the point?

The free market would have done that on its own.

You see the problem – central banks have been forcing us to use money at artificial rates for the last century, and as a result we have oscillated wildly between periods of boom and bust. The periodic small brushfires have been ruthlessly extinguished by the central bank making money too cheap or too expensive and as a result the dry brush piles up until one day we have a massive wildfire.

The tech stock boom funded with cheap money in the late nineties. The housing bubble they blew in an attempt to rescue us from that with cheap mortgages (Paul Krugman actually recommended it) and now the bond and equity bubbles they’ve blown by making money so cheap banks can borrow it and park it in the bond and equity markets for a tidy profit.

Free markets cannot function with central banks draped around their necks, and they’re not.

We are about to see a very large wildfire as a result.

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6 years ago

And we will get the re-politicisation of central banks as a result of this coming wildfire. Interest rates timed with the election cycle and inflation be damned. Great, more power to those w*****s in parliament!

6 years ago

Yes. Government setting an industry’s prices wrong can ruin an industry (such as health insurance). Government setting an entire economy’s prices wrong, by setting wrong the price of the medium of exchange, can ruin the entire economy. It’s lashing together all the boats although most have a leak. That housing bubble was burst during the 2008 election campaign by saboteurs Bush hired to appease the Congress his party had lost. The Obama Economic Malaise was masked by pumping out free money. Despite Trump’s bluster, he has not controlled spending but will let the price of money return to historic levels.… Read more »

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