My Amazon Review of Edward Chancellor's "The Price of Time: The Real Story of Interest"

 

Easy Money: The Root of all Evil

 

Longtime financial commentator Edward Chancellor has written a sweeping socio-economic history of interest rates going back to the ancient Sumerian civilization of over 4000 years ago and the Code of Hammurabi up to the present. Chancellor correctly notes that interest rates represent the “universal price of time” that links the present to the future and is essential in valuing any asset.

 

His concern is that when politicians and central bankers underprice the cost of money all kinds of bad things happen. Those bad things would include asset bubbles, commodity price inflation, income inequality, uneconomic investment, the monopolization of the economy and food riots leading to political destabilization. But what is the correct price? Chancellor relies on the work of Eugen von Bohm-Bawerk, Irving Fisher, Friedrich Hayek, and Knut Wicksell. He leaves out the work of my late and great economics professor Jack Hirshleifer with his “Investment, Interest and Capital.”

 

Simply put on a micro foundation basis the interest rate is determined by society’s rate of time preference and its ability to increase output overtime. Thus, from the point of view of output growth the real interest rate should equate to the real growth in GDP.  However, when money, credit and central banking are introduced you dramatically increase the likelihood of overshooting and undershooting the neutral rate of interest.

 

Chancellor criticizes central bankers for their seeking economic stability via inflation targeting. Low inflation in product markets usually makes sense, but sometimes it masks inflation is asset markets giving rise to bubbles. It here where Chancellor brings in Hyman Minsky’s work on stability leading to instability. Thus, it was the Great Moderation of 1982-2007 that led to the crash of 2008.

 

He is especially critical of Fed chairs, Bernanke, Yellen, and Powell for them violating Bagehot’s rules for acting in a crisis and for all of them keeping interest rates way to low for way to long which gave rise to the maladies listed above. With respect to Walter Bagehot, in a banking crisis the central bank should lend aggressively on good collateral at a penalty rate. To be sure our central bankers lent aggressively, but not all on good collateral and certainly not at a penalty rate which opened the gates to a populist rebellion against the bankers.

 

By keeping interest rates too low for too long, the Fed totally distorted the relationship between the present and the future which made hitherto unprofitable investments lucrative. Thus, instead of investing in new assets businesses and individuals bid up the price of existing assets to the detriment of long run productivity. And remember who owns existing assets, the already wealthy.

 

What Chancellor gets wrong is that he focuses too much on the policy rate. The relevant interest rate is the long-term rate which is tied to the long-term growth in the economy and the long-term rate via the term premium is usually higher than the policy rate. Further, necessary short-term reductions in the policy rate to manage a crisis and/or a recession should not affect long term rates all that much. However, when central banks promise to keep rates low forever, the long-term rate will converge on the short-term rate. Thus, the error of the Fed was not to lower the rates in a crisis but keeping them low well past the crisis.

 

Edward Chancellor has written an important book that reflects Austrian economics over Keynesian economics, but I suspect it will gain popularity overtime as the credibility of our central bankers continues to erode.

For the full amazon URL see: Easy Money: The Root of all Evil (amazon.com)

My Amazon Review of Janek Wasserman's "The Marginal Revolutionaries: How Austrian Economists Fought the War of Ideas"

Something was in the Coffee

I first learned of Eugen von Bohm-Bawerk from the late and great UCLA economist Jack Hirshleifer’s capital theory class nearly 50 years ago. Who knew he was an Austrian and I had never heard of the Austrian School of economics. I have since learned of the people and ideas associated with the school. Here University of Alabama history professor Janek Wasserman presents a way too detailed look at the people and ideas of the Austrian School.

There must have been something in the coffee of late 19^th and early 20^th Century Austria-Hungary. In Vienna there lived the founders of the Austrian school including the above mentioned Bohm-Bawerk and Friedrich Hayek, Joseph Schumpeter, Carl Menger, Fritz Machlup, Gottfried Haberler, Oscar Morgenstern, and Ludvig von Mises. Not to be overshadowed in the dual monarchy, Budapest produced such physicists as Edward Teller, Leo Szilard, John von Neumann, and Dennis Gabor around the same time. In fact the two strands would merge when Morgenstern teamed up with von Neumann to write the “Theory of Games and Economic Behavior” in 1944.

The Austrian school was a major promoter of the now accepted marginal utility theory of value. Menger along with Jevons and Walras developed the theory in the 1870s and it was codified by Marshall in the 1890s. Marginal utility stood in direct contrast to the classical labor theory of value developed by Adam Smith and David Ricardo that was later expanded by Karl Marx.

The Austrians viewed themselves as classical liberals and as such they stood foursquare in opposition to the growing appeal of socialism that developed in the 1880s. Their theory was developed in the coffee houses of Vienna and many of their seminars were open to all. Indeed Bohm-Bawerk was open enough to invite socialists Otto Bauer and Rudolf Hilferding and the soon to be Bolshevik   revolutionary Nikolai Bukharin. But make no mistake, the Austrians were suspicious of popular democracy.

Their world first crashed with the onset of World War I and its aftermath and then the leading lights were forced into exile with the arrival of Hitler. Two emigres to the West became famous in the 1940s with Hayek’s “The Road to Serfdom” and Schumpeter’s “Capitalism, Socialism and Democracy.” 

With collectivism on the rise in the 1940s, they formed the Mont Pelerin Society where unlike the looser seminars of pre-World War I Vienna, dissent was not welcomed. It was through Mont Pelerin that the Austrians linked up with such Chicago School luminaries as Milton Friedman and George Stigler. It was at one of their conferences that von Mises called them out as socialists. Splits were inevitable.

Nevertheless after the Austrians linked up with Chicago and they received increasing funding from sympathetic foundations their influence soared as their views of limited government, free trade, floating exchange rates and the information economy percolated up to policy makers on both sides of the Atlantic. In a sense they were the godfathers of the neoliberal world.

Wasserman tells the story in way too much detail which is great for the academic reader, but not so much for the educated lay reader.

The Full amazon URL appears at: https://www.amazon.com/review/R1ZQEF4OUM2GWU/ref=pe_1098610_137716200_cm_rv_eml_rv0_rv