All posts by Warren Gibson

Professional engineer (co-founded CSA Engineering, Inc. in 1982). M.A. in economics (teaching at San Jose State University for the past several years). Lecturer (emeritus) in engineering at Santa Clara University and the math reader for Econ Journal Watch.

Tamny on Fractional-Reserve Banking: Right Conclusion, Faulty Analysis

John Tamny has posted a long and thought-provoking piece entitled “The Closing of the Austrian School’s Economic Mind.” He begins with a cogent critique of the anti-fractional-reserve stance of certain Austrian economists at the Mises Institute. Unfortunately, he follows that with a discussion of fractional reserves, the money multiplier, and other issues in which he goes badly astray.

As Tamny says, it is only some Austrians who have a problem with fractional-reserve banking. I consider myself an Austrian but I do not share the view of fractional reserves of the Mises Institute contingent, whom I prefer to call hard-money advocates.

The alleged problem, as the hard money people have it, is that under fractional reserves it appears that two people have a claim on the same dollar. This, they say, is fraud. But it is not fraud if the arrangement is disclosed to all parties. There are problems with our present-day fractional-reserve system, which I discuss below, but fraud is not one of them. (Incidentally, Tamny scores a point when he wonders about the hard money people calling in the state to crush the alleged fraud, but I believe most of them are anarchists and would have private protection agencies do the job. Just how this might work is beyond me.)

Tamny recognizes that fractional-reserve banking is the norm in all modern societies but he goes a little too far when he says fractional-reserve banking is a tautology. Modern banks do offer warehousing of money to those few who want it, via safe-deposit boxes. Anybody can rent one and stuff it full of currency or near-money assets like gold coins, and of course pay an annual fee. This is a minor sideline for banks, but it exists, so there is no tautology.

Also, contrary to Tamny, it is possible for a well-run business to fail for lack of money. This can happen if the supply of money in an economy falls short of the demand to hold it. (We must not mistake the demand to hold money with the demand to acquire money for spending. We all want to hold a certain level of cash, enough to cover emergencies or unexpected bargains but not so much as to pass up good opportunities for spending or investing it.) Money supply can get out of balance with money demand when there is a monopoly supplier, as there is in all modern economies, which has no market forces to tell it how much money to issue. There would be such forces in a free banking system, which is a topic for another time.

I promised to mention problems with fractional-reserve banking. The first is that government control of the banking system has short-circuited market forces that would signal to bank managers the amount of reserves they ought to keep on hand. If managers keep too little in reserves, they risk a liquidity crisis, or short of that, fear of a crisis on the part of depositors or would-be depositors. If they keep too much, they pass up profit opportunities and dis-serve their shareholders. The safety of a fractional-reserve bank depends critically on its reputation for prudence in lending. Without government interference in the forms of both controls (among them reserve requirements, capital requirements, and asset restrictions) and support (two that come to mind are Federal deposit insurance and the privilege of borrowing from the Federal Reserve), managers would very likely be more prudent about lending, and even more, about maintaining their reputation for prudent lending. Depositors would come to understand banks as something more like a mutual fund than a piggy bank.

This first point is not a strike against fractional reserves, but the government’s failure to let a free-market fractional-reserve system work honestly and efficiently.

The second problem is the flip side of the first. Federal Deposit Insurance relieves depositors of any incentive to question the soundness of their bank’s lending process. Depositors have no reason to look beyond the FDIC sticker in the window. Such is not the case with mutual funds which bear some resemblance to fractional-reserve banks. Most fund investors look carefully at ratings before investing. FDIC insurance does not eliminate risk, it socializes it, wreaking all sorts of distortions in the process.

I agree with Rothbard that occasional bank failures, leaving depositors and shareholders as well as other bank creditors empty-handed, should be welcomed because they put the fear of God into managers and depositors alike.

An advantage of a fractional reserve system over a 100% gold-backed system is that the latter would suck almost all the world’s supply of gold into underground vaults leaving very little for industrial or ornamental uses. Fractional reserves free up a lot of that gold for these uses, more so over time as the reserve levels needed to maintain confidence in the system fall as the system works well and confidence increases.

Tamny next takes up the money multiplier, and in so doing goes wildly off the rails. He cites the textbook example:

  • Someone deposits $1,000 cash in bank A
  • Bank A lends out $900 and keeps $100 cash as reserves
  • The recipient of the $900 deposits it in bank B which loans out $810 and keeps $90 cash as reserves
  • The $810 is deposited in bank C, and on it goes.

Textbooks use this example to show how money is created by fractional-reserve banks via a multiplier which approaches 1/r where r is the fraction of deposits maintained as reserves by each bank, 1/0.1=10 in the example. The new money is categorized as M1, which includes currency and travelers’ checks in addition to demand deposits (checking account balances).

So is M1 really money? Most definitely, because it fits the definition perfectly: a generally accepted medium of exchange. Is there anyone reading this piece who does not keep much more of his money in a checking account than in cash? How often do we pay cash these days? We use our debit cards, paper checks, or on-line transfers instead of currency. Or we use credit cards which we pay off by on-line transfer or check. All this is M1 money, all created by private banks under the aegis of fractional reserve banking. Notwithstanding the problems cited above, it all works rather well.

Tamny will have none of it. He goes through the same textbook exercise, imagining a group of friends in a room instead of a sequence of banks. He is wrong to say that no money is created in the process. To be sure, the amount of currency in circulation has not increased but he fails to notice that M1 money has increased. That’s because each loan recipient has, in addition to some currency, a bank balance that he correctly believes he can spend without ever converting it into currency: M1 money. Tamny could give each borrower in his thought experiment an old-fashioned bank book as evidence of the new money. We have here the nub of Tamny’s problem: his failure to recognize that M1 money (or rather the demand deposits that dominate that category) is real spendable money.

Tamny says money doesn’t grow on trees, but he’s wrong. The Fed creates base money out of thin air, as I’m sure Tamny agrees, but most money creation is done by private banks via the multiplier. And in truth, a fractional reserve system does create real wealth in the long run relative to a 100% reserve system because it increases the efficiency of the money and banking system, freeing up resources for alternate productive uses.

Is the fractional-reserve system inflationary? Yes, when currency flows into banks and is multiplied, it is. The reverse process is deflationary. But if overall bank reserve levels hold steady no price inflation is triggered, other things being equal.

Tamny’s use of NetJets as an analogy to fractional-reserve banking is flawed. The same jet plane cannot be in two different places at the same time. But two dollars of checking account money, each having its origin in the same dollar of currency deposited, can both be spent. Yes, money does grow on fractional-reserve trees. No, real wealth does not.

Tamny asks, if banks can multiply money, why can’t the same be done by “enterprising entrepreneurs eager to quickly turn $1,000 into $10,000 without doing anything?” They can actually, but they must do a lot of work first, like raising capital, setting up an office and web site, rounding up depositors and borrowers. To see details, go to www.startabank.com. The barriers to entry caused by licensing and such are actually rather modest.

Incidentally, the failure to recognize demand deposits as money goes back at least to the Currency School in 1840’s England. This school of thought held that bank notes should be backed 100% by gold but failed to understand that checks payable on demand were also money and required backing.

“Credit is not money,” says Tamny. What is it, then? “Credit is real resources.” But this is a wide departure from the accepted meaning of the term and one that leads to all sorts of confusion. The common definition of credit is a willingness or commitment of lenders to provide loans to certain parties under certain conditions. Businesses often carry lines of credit with banks. Individuals have credit limits on their credit card accounts. No, credit is not money, but it comes close. We feel reassured by credit commitments which we can tap into when needed. Credit is a way to buy stuff, not the stuff itself. I should add that later in the same paragraph Tamny calls credit access to real resources (my emphasis). This is closer to the mark but is not the defining characteristic of credit. Stuff can be bought on credit or with currency or barter. Again, credit is the willingness or commitments of lenders to loan money. But later in the piece Tamny flips back to credit as “resources in the real economy.”

At one point he says true inflation is “devaluation of the dollar.” No, devaluation refers to a drop in exchange rates for a particular currency relative to other currencies. Devaluation is often but not always accompanied by inflation. I’ll give him a pass on this and assume he means true inflation is a drop in the dollar’s purchasing power.

Elsewhere he denies any role for Fed-induced “easy credit” in the housing bubble. It may not have been the dominant factor, and it may have been overpowered by countervailing factors in the examples he cites, but can there be any doubt that lower interest rates stimulate the quantity of housing demanded, other things being equal? Don’t mortgage payments consist almost entirely of interest in the early years? Exercise for the reader: how much more house can you afford given $3,000 per month to spend on a 30-year mortgage if the rate drops from 5% to 4%? Answer: a lot more.

Another Tamny claim is that a growing economy always needs more money. This seems right, since growth generally means more of everything. But as clearing and payment system efficiencies increase, as we turn more to debit cards, credit cards, PayPal, and whatever comes next, our desire to hold money declines. This countervailing tendency could cancel out most or all of the effects of growth on money demand.

Tamny calls government oversight of money “horrid” and wishes for abolition of the Fed. Amen to both, but how can he be sure that, as he claims, credit would soar as a result? It probably would in the long run as sound money prompted increased confidence, but in the short run there could be liquidation of mal-investments and a general hesitation to save and invest pending clarification about where things were headed under the new setup.

John Tamny is correct: the anti-fractional-reserve crusade of the hard-money people is misguided. That case has been made repeatedly, deftly, and at length by Larry White and George Selgin, two of the best contemporary monetary economists. Sad to say, Tamny’s analysis, riddled as it is with errors and confusions, falls far short of their work.

1953

In 1953 I was just old enough to have some sense of what was going on in the world.  Have things gotten better since then or worse?  On the whole, better, I’d say.  Herewith, two lists to which many more items could be added.

Ten things that were better then:

  1. Clean entertainment, tuneful music
  2. Safe streets
  3. Good schools
  4. Low rate of illegitimate birth
  5. Predominance of two-parent families, most mothers staying at home
  6. Stable neighborhoods
  7. High standards of dress and deportment
  8. Less intrusive government
  9. Lower tax burden
  10. Korean war ending, cold war not yet ramped up

Amplifications:

  • That great scourge of western civilization, rock-and-roll “music,” was still over the horizon.
  • The best schools were not as good as today’s best schools: no AP programs, limited facilities.  The worst schools were far better than today’s worst schools.  On average, I would say schools were better.
  • The top marginal income tax rate was very high but hardly anyone paid that rate.  In Ohio, there was no state income tax and the state sales tax was 3%.

Ten things that weren’t so good

  1. Polio
  2. Crummy cars
  3. Three TV channels, primitive receivers
  4. Expensive monopoly telephone service
  5. De facto segregation, marginalization of women
  6. Air and water pollution
  7. Primitive medicine and dentistry
  8. The military draft
  9. Atmospheric nuclear weapons tests
  10. CIA overthrow of elected leaders in Guatemala and Iran

Amplifications:

  • Polio was a crippling and and contagious disease.  Our municipal swimming pool was closed during the summer of 1953 because of fears of polio.  The Salk vaccine was just over the horizon.
  • Car fenders would begin to rust through after a couple of years because of road salt.  It was common to have to grind the valves at 35,000 miles or so.  A 60,000-mile car was ready for the junk pile.
  • Air quality had improved somewhat due to the post-war switch from coal-fired furnaces to natural gas.  But if you painted your house white it would gradually take on a reddish tinge due to emissions from factories and foundries.  Lake Erie was unsafe for swimming within 50 miles either side of Cleveland.
  • If you were black, you couldn’t buy a house or rent an apartment in suburbs like Cleveland Heights where I lived.  There were no legal barriers, just an understanding among sellers and landlords.
  • The detrimental effects of ionizing radiation were not well recognized, not just with regard to weapons tests.  Dental X-rays inflicted 50 times as much radiation as they do now.  When my mother took me shopping for shoes, I stuck my feet into slots at the bottom of a machine called a fluoroscope with three viewing ports on top that showed X-ray images of my feet, to show whether a candidate pair of shoes fit well.  One such exposure probably didn’t hurt me, but the cumulative effect of many such exposures might have.
  • Opportunities for women were beginning to spread beyond the traditional fields of nursing, teaching, clerking and a few others.  Professions weren’t closed to women, but there were hurdles.

Liberalism Unrelinquished: Some Tactical Thoughts

Today is #LiberalismDay. My friend Dan Klein of George Mason University along with his colleague Kevin Frei have launched a project called “Liberalism Unrelinquished.” An impressive list of economists and others have signed their petition which declares that they “affirm the original arc of liberalism, and the intention not to relinquish the term liberal to the trends, semantic and institutional, toward the governmentalization of social affairs.”

Other bloggers will presumably rehearse the tale of how that storied term lost its original meaning, at least in the U.S., as it has been appropriated, since at least the 1930’s, by statists.  (Example: George Leef’s fine piece). I just offer a few thoughts on some tactics that may be appropriate to this battle.

  • We must stop using the word liberal to denote present-day statists. This should be easy since they themselves have largely abandoned the term in favor of “progressives.” (Note that modern progressives hate progress of the material sort more than anything. That’s an issue for another time.) I have nothing better than “progressives” to denote these folks except perhaps a qualified “so-called progressives.” I hope “governmentalists” doesn’t get started. That would be too big a mouthful.
  • Speaking of which, there must be a better term than “governmentalization,” another mouthful. Perhaps just “government takeover” which is more forceful and easier to say.
  • “Liberalism unrelinquished” doesn’t exactly roll off the tongue either. How about “liberalism restored?”
  • Our task will often be easier if we say “classical liberal” rather than just liberal.
  • The term libertarian has entered the mainstream of U.S. politics. We should take advantage of this progress. We can use phrases like “the libertarian position, or as I like to call it, the classical liberal position …”
  • We must understand the price we pay when we call ourselves or our positions “liberal” or “classical liberal.” The price consists in the time and energy required to make clear to our audience what we mean when we use the term. Whether the price is worth paying depends on circumstances.
  • In academic writing, speaking, or debating there is usually sufficient time to preface our arguments by explanations. Attention spans are long enough that the price paid for explaining why we say “liberal” will not be significant.
  • The last place to take this fight would be political campaigns or debates. Attention spans are minute, audiences are unsophisticated, and we will just confuse people by using the term in its classical meaning prematurely. We can, however, try to disavow the tired old “liberal-conservative” spectrum that is currently entrenched in the media. “I’m aTime permitting, we could say classical liberal, and that means I agree with conservatives on some issues and with progressives on others. All my positions are grounded in the notion of liberty.”
  • In letters to the editor where every word counts we can say “libertarian (or classical liberal)” or the other way around.

I congratulate Dan and Kevin on the response they’ve gotten so far and I hope the momentum continues.

Another Preposterous Attempt to Punish Evil Foreign Regimes

Today’s Wall Street Journal carried a piece headlined “Gold from North Korea Stymies U.S. Firms.” It seems that U.S. firms that use various minerals, not just gold but also tungsten, tantalum and tin, are required by U.S. law to ask their suppliers whether any of these materials are so-called “conflict minerals.” Up to now this provision has mainly covered minerals sourced from areas of the Congo which are embroiled in warfare. Now it seems firms must also find out whether any of the gold they use in their products came from North Korea.

It’s not so simple as asking each supplier, because those suppliers may in turn have obtained their supplies from a variety of sources, all of which may have gotten mixed in together in their inventory. And of course it’s an open question as to whether suppliers can document their sources; presumably their say-so won’t suffice. They might also raise their asking prices to cover the costs of time-consuming compliance exercises.

The article says the North Korean central bank refined gold into bars that were certified by the London Bullion Market Association up until 2006. It is believed that they have continued to produce gold bars.

Gold is highly marketable. It’s uniform, nearly indestructible, and traded internationally. It’s unlikely the North Koreans would be stamp any of the bars they refine “made in the DPRK.” The North Koreans are known to be experts at counterfeiting U.S. currency, so how easy would it be for them to stamp a fake refinery mark on their gold bars?

What’s the point of this requirement? As with all political actions, this one has both an ostensible and a real (“public choice”) goal. The ostensible reason is to harm the evil North Korean regime by reducing the revenue they get from gold sales. The likely real reason is to make politicians and bureaucrats look good. None of this is to downplay the horror that is the North Korean regime. I only want to consider who will benefit and who will be hurt by this program.

All right, so who bears the costs? The requirement is an obvious expense for the firms involved. They will pass on as much of the compliance costs to customers as they can, but they will find little ability to do so if they face foreign competitors who suffer from no such regulatory burden. I won’t attempt to estimate elasticities here, just guess that costs will be borne primarily by shareholders and employees of gold-using firms and not so much by customers. These firms will become a little bit less competitive. To some extent suppliers will be burdened as well, but they probably have options like shifting to other customers or getting another intermediary in between them and their U.S. customers.

Lastly, how likely is this measure to succeed? The answer depends on which goal we’re thinking of. If it’s the political goal, politicians and bureaucrats will probably accrue a little bit of credit. If it’s the ostensible goal, hurting the North Korean regime, the answer is: no chance whatsoever. The only harm the North Koreans might endure would be busting a gut from laughing. In the unlikely event they find some of their customers have withdrawn, they can easily and with almost total anonymity dispose of their gold through international markets.

The effects of this requirement will be minor for a huge firm like Hewlett Packard. But U.S. industries are dying from a thousand cuts like this, and as they gradually lose out to foreign competitors, we wonder why.

You will notice I have not invoked any libertarian ideology in this humble piece. It’s just a matter of tracing consequences a little further and looking for public choice explanations of behavior. Hooray for the San Jose State University graduate program that helped me learn these skills.

My Summer of ’63: Bureaucracy, Sex and Alternating Current

Brandon’s comment about just finishing The Fountainhead reminded me of the summer of 1963, a pivotal time in my life. I can’t imagine why anyone but me would care about such personal stuff, but here goes.

I had the good fortune to attend a fine private engineering school, Case Institute of Technology (now part of Case Western Reserve University). Tuition was modest by today’s standards, even if adjusted for inflation – something like $1,400 per year, but still substantial. There were no student loans and my parents were just a little too well off for scholarships. They and my grandparents provided more than half my tuition and I used my own savings and job earnings to cover the rest. I didn’t work during the school year because the engineering curriculum demanded all my time and energy.

Toward the end of my sophomore year as a civil engineering major, I began to look for a summer job. An opening advertised in the administration building seemed like it would offer good experience and good pay for the time: $295 per month. I applied and got the job, little knowing that three huge life lessons were coming my way. The value of those lessons, in the long run, overwhelmed the monetary reward.

The first benefit was to learn meticulous work. I was an assistant in the Bridge Department of the City of Cleveland. No technology of any kind, beyond dial telephones and possibly an electric typewriter (more likely manual) had penetrated the department. The engineers drew their plans in pencil on large sheets of paper mounted on drafting tables. It was my job to make archival copies of final plans.
Think about how we make copies these days. It’s pretty much a quick “save as” operation, or, in a throwback to past times, people still make photocopies. Although Xerox copiers were available by 1963 (Case had at least one), they were nowhere to be seen at City Hall. Typists made copies using carbon paper (look it up). I made copies of drawings by mounting the original on my board, placing a special sheet of linen over it, and tracing the drawing using india ink. Every line had to be duplicated at the proper width and every character of text carefully drawn by hand. Erasers? No such thing. A tiny slip could be scraped off with a knife but otherwise the only resort was to start over.

Astoundingly, a technological advance that had become universal more than seventy years previously – alternating current – was absent from City Hall. The whole building ran on direct current, a legacy of the Municipal Power authority that was launched early in the century to undercut the monopoly Cleveland Electric Illuminating Company. Fluorescent lights were out of the question as, I presume, were were any motor-driven devices like electric typewriters.
My second benefit was to learn some realities of bureaucratic life. There were six engineers on staff of whom three actually worked. Mr. Sevcik, who sat in front of me, had the same drawing on his table for the whole three months I was there. He appeared to put himself into a state of suspended animation. Somehow he could sit there motionless all day without falling off his stool. His wall calendar was blank except for every other Friday where he wrote “haircut.” Another fellow was constantly out of the office. Nobody seemed to know where he went or why.

One of the actual workers took me under his wing. He trained me in my job but also explained the facts of bureaucracy. All that could be done about the slackers was to keep them out of the way. They couldn’t be fired.

The third and most important benefit – actually two benefits – I got from Sam. Sam was a girl; I never did learn her real name. I say “girl” advisedly because in those days adult women in the workforce were typically, and without malice, called girls. She was a technician of some sort, not an engineer, and she was a worker. Her nickname may have reflected the fact that she was something of an intruder in this man’s world.

Slacks for women were gaining more acceptance by then but generally not in the workplace. I remember her wearing only skirts, and shorter skirts were coming into fashion then. So when Sam sat on her stool at her board, her skirt invariably rode up.  I mean, all the way up to there! Sometimes I would get to sit next to her to consult on some work issue. Needless to say I found it difficult to concentrate.
I made no attempt to hit on Sam. She was probably five years older than me and was clearly savvy about many things beyond her years. I was a nerd and unsavvy to say the least. It just wasn’t in the cards.
Sam was perfectly well aware of her effect on me and she charitably deflected my energy by taking it upon herself to educate me a bit in the ways of the world. After work we would usually walk together to the Terminal Tower to catch our trains. She would tell me about her boy friends – what attracted her to them and how she liked to be treated. She said nothing about her sex life and I didn’t ask. Open and frank talk about sex was still in the future.

One day Sam mentioned a novel she had just finished – The Fountainhead. “I think you’d like it,” she said. I don’t think I read it before leaving my summer job, but I soon did and I found it transformative. The character of Howard Roark was electrifying but it was many years before I understood Dominique. At that time I was trying to figure out who I was and what I stood for, and Rand got me started on my libertarian path. Later in the sixties I had read all her work and took tape-transcribed courses on objectivism from the Nathanial Branden Institute. Fortunately I never became groupie and in hindsight I see many shortcomings, as well as strengths, in Rand’s objectivism.

Not knowing Sam’s real name, I have no way to trace her. If she’s around, she’s well into her seventies. I hope her life has been good. She deserved it.

Dragging the Poor Slobs Into War

Hermann Goering, speaking at the Nuremberg trials following World War II:

Why of course the people don’t want war. Why should some poor slob on a farm want to risk his life in a war when the best he can get out of it is to come back to his farm in one piece? Naturally, the common people don’t want war; neither in Russia, nor in England, nor for that matter in Germany. That is understood. But, after all, it is the leaders of the country who determine the policy and it is always a simple matter to drag the people along, whether it is a democracy, or a fascist dictatorship, or a parliament, or a communist dictatorship. Voice or no voice, the people can always be brought to the bidding of the leaders. All you have to do is tell them they are being attacked, and denounce the peacemakers for lack of patriotism and exposing the country to danger. It works the same in any country.

Quoted in Ron Paul’s A Foreign Policy of Freedom

Energy Primer for Libertarians (or anyone else)

One of these days Brandon’s going to kick me off this blog for posting notes that aren’t “on liberty.” But maybe he’s not looking. I’ll take a chance.

 

This piece is about energy and on second thought, it is relevant to libertarians. We need to know what we’re talking about when we enter into controversies on current topics like energy. Insights into how markets work are crucial, of course, but not sufficient. We should arm ourselves with a few facts and Lord knows, maybe even a little understanding of basic physics.

 

I base my remarks on an excellent chart produced by (gasp!) a government agency, Lawrence Livermore National Laboratory. It appears here but if it’s illegible please find a better copy here.  Blame Brandon for squeezing our posts into a narrow column!Image

We see energy sources on the left. A couple of facts stand out. At the top, notice that solar and wind are negligible. The yellow line representing solar may be thinner than a single pixel on your monitor and therefore invisible. Geothermal is on the radar, but barely; same for biomass (wood chips, organic leftovers, corn used for ethanol instead of feeding people) that can either be burned or processed into methane or ethanol. Our three main sources are, and will be for the foreseeable future, petroleum, coal and natural gas.

 

At the top center we see electricity generation. We don’t consume electricity directly except maybe for executing criminals. We use it to power devices in the four broad categories shown on the right: residential, commercial, industrial, transportation.

 

Notice the fat grey line coming out of the electricity generation box called “rejected energy.” It tells us that about two thirds of the energy coming into power plants goes up in smoke or steam or other waste heat rather than electricity. That sounds like a terrible loss and indeed, there is always room for efficiency improvements at the margin. But, boys and girls, there’s something called the Second Law of Thermodynamics which puts an iron limit on how much energy in a particular situation is available to do useful work. In other words, a certain amount of the “waste” represented by that fat gray line is inevitable. It would be great if the good people at LLL could supply that calculation, but I suspect that reliable estimates of the necessary data would be difficult to come by.

 

Look at the residential box on the right. It only represents 11% of energy consumption meaning that relative to the big picture, home energy efficiency measures like insulation, solar panels, etc. can never do much for the big picture. I say this too keep things in perspective, not to deny the possibilities for cost-effective marginal improvements in many homes.

 

If your monitor resolution allows it, you’ll see a tiny orange line running from electricity generation to transportation. That means electric vehicles are, and for some time will be, utterly insignificant, though again, marginally beneficial in very special situations.

 

Another fat gray line comes out of transportation. When you burn gasoline, most of the energy goes out the tailpipe or the radiator; only a little ends up as kinetic energy and even that ends up as waste heat when you apply the brakes. (In the long run, it all ends up as waste heat. Look up “heat death” on Wikipedia.)

The overall message of this chart is: if we want to maintain anything like our present industrial civilization with its abundant heat/cooling, light, transportation, etc., we’d better keep the present main sources going – petroleum, coal, natural gas, nuclear because renewable energy sources are advancing only slowly and in many cases (wind and ethanol, especially), uneconomically. The stakes couldn’t be higher – significant losses of energy, more than anything short of nuclear war, will make life nastier, more brutish, and shorter.

 

How to decide which energy R&D projects deserve scarce resources? Solyndra, anyone? No, central planning of energy is just as much a disaster as any other form of central planning or maybe more so. Energy is a highly specialized field. A biomass expert, for example, may be ignorant of nuclear fusion. A transformer guy may know nothing of transmission line losses. I suspect there are dozens or hundreds of subspecialties within the biomass field. Knowledge, as Hayek taught us, is dispersed and often tacit. We need to let all these specialists use their particular knowledge and facilities to experiment around the edges, comparing present or expected future marginal costs and benefits. Other than an occasional nice chart like you see here, the Energy Department just gets in the way. (To see a boondoggle that dwarfs Solydra, google “national ignition facility.”)

 

Speaking of costs and benefits, one of these days I’ll comment on the strange notion that energy accounting – a perfectly legitimate engineering practice – should be used to judge the economic value of energy projects. Tallies of income/expenses and assets/liabilities, should, say proponents, be carried out not in dollars but in energy units (joules or BTUs.) Why is this wrong? Because the economic value of a joule depends on time and place and most critically, people’s ability to make good use of it. In fact, natural resources aren’t resources at all until and unless someone figures out how to make good use of them.  More generally, value never inheres in physical objects and materials but only in the minds of people who believe those objects and materials can help satisfy wants, theirs or others’.

 

Postscript: The oceans store unimaginable amounts of thermal energy. You can calculate this yourself: using your favorite system of units, just multiply the volume of water by its mass density by its specific heat at constant pressure. You’ll discover that if we were willing to lower the ocean temperature by a thousandth of a degree per year, we would have abundant energy from now till Kingdom Come. Try this idea on a “progressive” friend sometime, keeping the answer momentarily in your back pocket: the Second Law forbids it. Stated differently, even with perfect technology, you would have to put more energy into the conversion process than the usable energy end product.

Gratitude to a Power Pole

Image

Whilst ambling around San Carlos recently, I came upon the power pole shown here. Ugly, isn’t it? Or maybe not. In fact, my reaction was one of gratitude, prompted in part by the “Gratitude” chapter in Joel Wade’s excellent book, Mastering Happiness (available at drjoelwade.com). I had listened to the chapter the previous evening.

What is there about this power pole that warrants gratitude, and to whom? The answer lies in really looking at the pole and pondering the devices, wires and cables attached to it.

The top crossbar holds wires that provide the electrical supply, probably three-phase 440 volts. I know the supply comes from a substation a mile away which in turn is fed from very high voltage transmission lines east of the freeway. Three transformers on the pole step the 440 down to 220 and feed it to surrounding buildings.

Ugly grey boxes? Not to me. Some anonymous engineers put their heart and soul into designing those transformers. The basic idea of a transformer has been known for years: use a pair of coils with different winding densities to convert electrical energy into magnetic energy and then back to electrical at a desired voltage. But to design a really good transformer requires careful attention to fabrication costs, reliability, safety, and operating efficiency. No transformer is perfect; some energy gets lost as waste heat, and heat must be dissipated even in the hottest weather lest temperatures exceed safe operating levels. (Notice the cooling fins on each transformer.) The fluid bath which enhances efficiency must never leak – or more precisely, the probability of leakage must be kept extremely low. Nice job, guys (maybe gals, too). Thanks!

I see telephone wires. Of course, wireline telephone service is declining but still there is a lot to ponder. Four blocks away is a big windowless AT&T building which I believe houses switching equipment that was a marvel in its day.

I see coaxial cables that transmit television and internet signals. Just think of the torrent of information coursing through those cables. These days we all take megabit download speeds as a God-given right. Try to picture millions, perhaps hundreds of millions of bits traversing one of those cables every second. In addition, the cables entering those poles from Comcast’s central office, wherever that may be, carry a mix of packets destined for different recipients. They must be sorted and delivered on time and in the proper sequence to the various recipients served by our pole. I see three small boxes on the pole that may perform that function. The Post Office is a block away. Imagine the sorters there sorting a million letters per second!

I see a small device which may be an antenna for the new wireless electric and gas meters. Predictably, there have been complaints about health effects from these devices, likely from people who have no clue about the difference between ionizing radiation and RF radiation. Others have complained about privacy. I personally feel no need to hide the details of my electrical usage. I look forward to the advent of time-of-day pricing that these meters will enable. The resulting incentives should save money for many people including me. In addition, PG&E will be able to forestall increases in peak power capacity.

The pole itself is a tree trunk treated with creosote. Aluminum is used in substation structures and transmission towers but is evidently uneconomical for street poles. Wooden poles eventually rot and require replacement. But replacing a pole requires far less time and labor than in past times because of the improved equipment and procedures that have been developed.

Now I grant you that such poles will remain ugly in the eyes of many beholders no matter how much they may learn about their function. So why not put all the wires underground? Just dig a trench and move them, right? Not so fast, it’s nowhere near that easy. Of course it can be done and has been done but there are many complex and expensive details. For one thing, most of the buildings served by the relocated lines would require interior modifications to accept cables from underground rather than overhead. It wouldn’t do, as part of a beautification project, just to run cables down the outside of a building from the old rooftop connection point to the new underground point. Underground transformers are costlier and harder to access. The old service must be kept running until the new service is ready, and the switchover must be done quickly and near-perfectly. The costs and benefits of an undergrounding project should be carefully weighed before it is undertaken.

Gratitude to a power pole? No, in the spirit of Leonard Read’s I, Pencil I owe my gratitude to the countless individuals who made it possible. I think of Faraday and Maxwell who gave us the keys to understand electromagnetism. Edison and Tesla who pioneered power generation. Anonymous engineers and linemen who make it happen. Bold thinkers of the Enlightenment who paved the way for what McCloskey calls bourgeois dignity and the consequent explosion of Western living standards in the last three centuries.

Some people are moved to gratitude by religious iconography. Good for them. For me, a power pole does the trick.

Seven Ways Libertarians Sometimes Run Off the Rails

I’m a dedicated libertarian but my first allegiance is to accuracy.  It pains me when I see libertarians making arguments that are inaccurate, irrelevant, or just plain wrong.  When they do so, they do themselves and our movement a big dis-service.  I list seven such arguments here.  More could be added.

  1. The Fed is privately owned. This is true only superficially. Member banks own shares of stock in one of twelve district Federal Reserve Banks and they receive dividends on those shares. But they have little in the way of genuine ownership privileges. They cannot sell their stock and their voting rights are very limited. The President of the United States appoints the Board of Governors. Just because a legal arrangement is given labels that suggest private ownership, that doesn’t make it so.

  2. The Bureau of Labor Statistics disguises the true unemployment situation by excluding workers who are “discouraged,” i.e., not seeking jobs. This is true of the U-3 unemployment figure which is the most widely cited figure, and the one the Fed says it is targeting. That figure is currently about 6.5%. The BLS also publishes its U-6 figure, which includes discouraged workers and currently stands at around 13%, down from about 17% at the height of the Great Recession. The BLS is not covering up anything here, although politicians may certainly choose to emphasize one figure or the other depending on what ax they’re grinding. Which is the “true” unemployment rate? There’s no such thing. The figures are what they are and observers can make of them what they will.

  3. “Chain-weighted” versions of the Consumer Price Index are politically motivated.  These adjustments are intended to recognize the substitution effect, the classic example of which is when the price of beef rises and the price of chicken doesn’t, people eat less beef and more chicken. Peoples’ cost of living rises less than it otherwise would. CPI increases as measured by a chain-weighted formula reflect this fact, and the resulting price inflation estimates come out lower than under the old approach. That flashes a green light to some conspiracy theorists. While these adjustments are tricky business, substitution effects are real and the attempt to compensate for them should not be impugned.
  4. The Consumer Price Index is politically manipulated by excluding food and energy. There are many versions of the CPI. One of them excludes food and energy because those prices are usually very volatile. That figure may be useful to economists who want to filter out volatile effects and focus on secular trends. Again, the figures are what they are, and politicians or for that matter we bloggers can use or misuse them as we wish.

  5. “Banksters” control the U.S. government. There is a grain of truth in this one. The big banks are both victims and beneficiaries of government dominance of banking and finance. The reality of government regulation is that regulated firms employ many very smart and very well paid individuals who are constantly finding ways to manipulate or sidestep the regulations to which they are subject. The fact is that the regulators and the regulated are very thick. Banking and finance are controlled by a cabal of government and Wall Street firms and individuals. It’s a mistake to say that either group totally dominates the other.

  6. Global warming is a myth and a scam. Ron Paul, whom I admire very much, blotted his copy book when he said on Fox News, “The greatest hoax I think that has been around for many, many years if not hundreds of years has been this hoax on [...] global warming.” A few basic facts are beyond dispute: (a) carbon dioxide is a greenhouse gas, (b) CO2 levels are at an all time high, and (c) human activity is the primary cause of the increase. Beyond that, the evidence starts to get sketchy and incomplete. We do seem to have melting polar ice caps, record high temperatures in some places, droughts, etc. But overall there has been almost no temperature increase during the last ten years or so.  Projections of rising temperatures and rising sea levels appear to be too pessimistic. This is a very complex issue and one where biases can overwhelm us if we aren’t careful. Statists are prone to accept the global warming thesis because they see it as a way to increase state power. Libertarians want the issue to go away for the same reason. This would be a great time for all parties to step back an exercise some epistemic humility. There’s a great deal about this issue that we just don’t know.

  7. Let’s get rid of the state entirely, and all will be well. Given the present primitive degree of evolution of our species, a new state will pop up wherever an existing one is overthrown. The key to peace and prosperity is not anything so simple as abolition of the state, but to convince enough people, thoroughly enough, of the advantages of long-term cooperation. Good institutions will follow.

Cell Phones on Airliners?

The FAA recently decided, tentatively, that cell phone use would be OK on commercial airplanes. But forthwith, moans went up from near and far and the FAA backed off. Lots of travelers understandably dread the prospect of captivity to loud conversations by boors seated inches away from them. It’s unclear at this time what the final decision will be.

Why does it never occur to anyone to let the owners of the airplanes decide this issue? They could experiment with various policies ranging from outright bans to unlimited use with all sorts of possibilities in between. Following Amtrak and some commuter railroads that have quiet cars, they could establish a no-talk section of the airplane like the non-smoking sections of yore. Or they could try pleading with talkers. Soon enough they will discover what their customers want and competitive pressures would force all airlines to fall into line.

That sort competitive experimentation works quite well in many market segments, as a moment’s reflection will confirm. So why do we hear nothing about this simple solution for the cell phone problem? Part of the answer, I fear, is that so many people are resigned to letting bureaucrats set the rules for practically all of life. An extreme example of this attitude is the kind of message that appears in my spam folder with a subject like “Obama lowers re-fi rates.” Of course this is nonsense but it suggests that a good many people think Obama has the power to set re-fi rates and worse: that it’s perfectly OK for him to wield such dictatorial powers.

Back to cell phones on airplanes: the whole issue came about as a result of determinations by the FAA technical staff that cell phone signals don’t really interfere with airplane communications as had been feared. That suggests a more difficult question: suppose there were credible evidence that cell phone use really was a threat to airplane communications. Should the FAA be empowered to ban cell phone use? I suggest that it does not. The airlines have an enormous incentive to avoid interference problems. If they were free to make their own decisions about this (again, assuming there was credible evidence of a real problem), their lawyers would be all over them about instituting their own prohibitions. The owners of the control towers (I’m envisioning a privatized FAA) would have strong incentives as well. Many passengers would be aware of the issue and would press for bans.

We have here another example of what a tough job we face, those of us who advocate free markets. The general public, Mencken’s “booboisie” if you will, hasn’t the mental horsepower to envision even modest deviations from the command and control paradigm that is smothering our society.

Freedom of Speech? No Such Thing!

I get lots of solicitations for libertarian groups and I’m very pleased that there are so many of them these days. I can’t possibly support them all but I recently ponied up for an organization called F.I.R.E. (Freedom for Individual Rights in Education). Their focus is on fighting suppression of free speech on college campuses. Thus, for example, FIRE announces its Speech Code of the Month for October 2013:

Salem State University in Massachusetts prohibits “cultural intolerance” in its residence halls—a broad ban that threatens debate on controversial issues in a place where students often speak the most freely. Making matters worse, the policy applies not only to “actions” but also to “omissions,” broadening its scope to include not only speech but also a student’s personal decision not to speak.

It burns me up to see self-appointed fascist administrators launching attacks on individuals who dare to speak their minds in unpopular ways. And yet, there is a problem, centered on the distinction between public and private institutions. Suppose a small Baptist college decided that students would not be allowed to mock Christianity or promote Islam on campus. Could there be any objection to such a policy? Now suppose that same college decided it would not admit black students. Any thoughtful libertarian would have to defend this policy, distasteful though it may be, on grounds of freedom of association. The bottom line is clear: owners of private colleges have every right to determine whom they will admit as students or hire as faculty and how they are required to act on campus.

Now what about state colleges such as Salem State? Such institutions are “public property,” an oxymoron if we think about it. “Property” denotes the right to use or dispose of some valuable asset, implying an exclusion of non-owners or others who have not been invited to use the property. On the other hand “public” means, if anything, that anybody is allowed to use the asset and nobody is excluded. Who owns San Jose State University where I teach? The California State University Board of Trustees is the most likely candidate, but the faculty has a lot of control through the faculty unions and faculty senates. The Governor and the legislators wield a lot of influence too. The citizens own the place in theory but the connection between SJSU and the citizenry is so remote that it might as well be non-existent. The lack of clarity about who owns the place is the source of most of the idiotic, wasteful, and sometimes downright offensive policies that we see at SJSU and all other government agencies.

So what sort of speech is to be allowed at SJSU? I would say anything goes except shouting down lecturers. Objectionable behavior such as name-calling should be met with ostracism and boycotting or perhaps tit-for-tat. No need for prohibitions. But the people who have power over these matters no doubt see it differently.

Thinking about it more, there really isn’t any such thing as freedom of speech. Speech is not carried out in a vacuum (literally: there can be no sound waves!). If you’re speaking you are standing on someone’s property; if writing you’re using pen and paper or a computer. Land, pen, paper and computers are all resources whose owners have the right to determine who uses them and how. I have no right to invade your house and deliver a speech in your living room nor to grab your computer and compose a blog. Freedom of speech can only mean freedom to use one’s property, or the property of another who has given consent, for speaking purposes. (This, by the way, solves the fire-in-a-crowded-theater conundrum. Prohibitions on yelling “fire” are not a diminution of freedom of speech but rather a recognition of a theater owner’s right to control behavior on his property. See Rothbard’s excellent Ethics of Liberty p. 114.)

In the end, as Rothbard points out, there is no dichotomy between property rights and “civil” rights. There are only property rights, recognizing one’s own body as one’s primary form of property.

Obamacare: Working As Planned?

There has been a lot of talk about the problems of Obamacare as its rollout begins. “Obamacare may be imploding,” says Reason Magazine.  “Obamacare’s Website Is Crashing Because It Doesn’t Want You To Know How Costly Its Plans Are” says Forbes.

But what if these “problems” were fully expected and even desired by the more sophisticated perpetrators of Obamacare? What if they wanted it to fail? Why would they? Because they want its failure to lead to a total government takeover.

Ayn Rand’s villain Dr. Floyd Ferris in Atlas Shrugged comes to mind.  At one point he lays all his cards on the table:

We’re after power and we mean it. You fellows were pikers, but we know the real trick, and you’d better get wise to it. There’s no way to rule innocent men. The only power any government has is the power to crack down on criminals. Well, when there aren’t enough criminals, one makes them…you create a nation of lawbreakers – and then you cash in on guilt.

Translation to 2013: if you don’t want to purchase health “insurance” we’ll make you a criminal. We’ll break your spirit and make you a helpless dependent.  (Incidentally, I put “insurance” in quotes because, as Dr. Beth Haynes so ably demonstrated in a recent Huffington Post piece, health insurance has been almost entirely abolished and replaced by prepaid medical expenses).

Of course the millions of boobs who believed Obama’s lies about the “Affordable Care Act” won’t be told any of this. They will continue to get the party line spoon-fed to them.

And the Obamacare perpetrators will never acknowledge that it was doomed from the start. They’ll acknowledge glitches, delays and screwups. They’ll blame them on software designers, Republican sabotage, anything and anybody but themselves. They will echo Wesley Mouch, Rand’s bureaucrat-dictator: “I need wider powers.” When they feel the timing is just right, and just enough problems have become evident, they’ll spring the trap: “single payer;” translation: total government takeover.

Ah, but this is a fine line they’re walking. Obamacare’s failure could be more catastrophic than they figured. There just might be enough of the spirit of liberty left in the American electorate to generate a backlash. The Republicans might take the Senate next year (not that they deserve it). Ludwig von Mises taught that a mixed economy is unstable but whether a particular mixed institution (Obamacare being perhaps 90% statist and 10% market) will move toward freedom or away from it.   Already the defenders of Obamacare are getting a little shrill, along the lines of, “it’s the law, get over it.”  And speaking of law, Obamacare is not law at all. It’s a statute. It utterly fails the test of genuine law, grounded in the natural rights of man. No one has any moral obligation whatever to obey this statute.

So stay tuned. While Single Payer may seem inevitable, to be followed by assaults on the remaining semi-free areas of the economy, one never knows. We live in interesting times.

What Obamacare is Really About

The good folks at the Reason Foundation, who have the stomach to follow such things, tell us that the bureaucrats entrusted with implementing Obamacare have missed half their deadlines. Even well-connected consultants, they tell us, remain largely in the dark. And for sure, the general public is totally in the dark and generally suspicious.

This I can predict with confidence: there will be train wrecks but some parts will work well. Some people will be happy and others won’t. Republicans will holler I-told-you-so while Democrats will hail the successes and call for patience while the glitches are fixed. How could it be otherwise? Such a complex piece of legislation, even as it falls way short of Obama’s initial promises, will inevitably stumble into a few successes, if only for the short term.

But does anyone believe the perpetrators of Obamacare didn’t know that? While playing up its seeming successes, feeble as they might be, they will blame its failures on the greedy private sector. A mixed system won’t work, they’ll say, and they’ll be right. (A central theme of the great Ludwig von Mises was the instability of a mixed economy.) They will then trumpet the slogan they’ve kept under wraps for some years: single payer!

Single payer, of course, means total government seizure of the health care sector. Having already achieved near total control of the education and financial industries and a heavy grip on energy, they will be one step further along the road to their real goal: the extinguishment of the last of our freedom and prosperity and the establishment of total fascist dictatorship. That’s what Obama, Hillary, et. al. are really after, folks.

Another Housing Bubble?

Last year I wandered down the street to an open house for sale. Even though I announced myself as a looky-loo, the agent welcomed me. We sat around talking and eating cookies for an hour; no prospects showed up.

It was a nice day today and I decided to walk to another open house thinking I’d again look around and chat with the agent. Hardly – the place was mobbed! It looks great in this picture but the reality is it’s stuck way up on a hill with a steep driveway and no garage. It’s 80 years old and although it’s been fixed up cosmetically it’s nothing to write home about; not in my book anyway. Nevertheless, I’m betting they’ll have multiple offers before this first day on the market is over.

This is the San Francisco Peninsula which is by no means representative of the whole country but I hear that Las Vegas has turned around too, as have tony places in New York. Why? Although I can’t prove it, I believe a good part the gusher of money that the Fed has been printing is now making its way into housing. The stock market has stalled, the bond market is in retreat, gold has plummeted, and that pretty much leaves housing.

So although the basic premise of monetary stimulus is plausible, it just doesn’t work. The new money seems to go careening around the economy in search of the Next Big Thing. Bubbles form and collapse, malinvestments are revealed and the cycle starts anew. What’s different this time is that it’s been such a short time since the collapse of the previous housing bubble to what looks like the start of another.

If these wasteful cycles of boom and bust are to end, the Fed must cease its stimulus programs. But it can’t. When the Fed dropped just a hint last week that it might start “tapering” off its bond-buying (money-printing) program, the bond market panicked. Why should we care about the bond market? For one thing, the average maturity of the federal debt is just a couple of years. Maturing debt must be rolled over into new debt, and if the new debt carries higher interest rate, the total annual interest payment could quickly swell from a “mere” $345 billion for the current fiscal year toward a trillion dollars per year, swamping any efforts to contain spending, like the $80 billion sequester that just took effect. We could end up needing a bailout from China.

The Fed will very likely continue or even accelerate its bond buying, depending on who occupies Bernanke’s seat come January. We should expect continuing cycles of bubbles and busts and the real possibility of some very nasty fiscal consequences.

The Real IRS Problem

It’s heartening to see distrust and resentment of the IRS building up in the wake of the targeting of tea party groups and such. But let’s not overlook the daily predations of the IRS, small and large, which add up to a mountain of costs borne by citizens – not just monetary costs but also mental anguish and occasionally violent confrontations.

Case in point: your humble servant. This morning I received a notice demanding $8,900 in back taxes. Needless to say that ruined my day even though it took me only five minutes to realize that they made a mistake and I owe them nothing. I have high hopes that this will be resolved quickly but you never know. I mentioned my plight to a friend this morning and he chuckled. He once had a $1,400 claim which he fought for ten years until finally he got to the right person at the IRS who found their mistake in five minutes. Did he get an apology? Restitution or compensation of any kind? Of course not.

The complexity of the tax code is often cited as a significant drag on the economy, in terms of time spent gathering information and preparing returns, money paid to tax preparers and tax attorneys, etc.  But there are lots of other bad effects.  No one understands the tax code in its entirety and most IRS agents understand little of it — or worse, what they often think they understand is wrong.  Nor do taxpayers understand it.  This opens the door for errors, misunderstanding, cheating and consequent confrontations, anguish, time and money wasted, and sometimes violence.

If we have to have an income tax (which I’m unwilling to concede), let’s have a simple flat tax and do away with, if not the inherent coercion of any tax, at least the enormous expense and anguish that are part and parcel of the current insane system.