For a long time the management of "monetary affairs" has remained a remote affair not subjected to any orientation arising from the points of view of the constituency of this country. The communications concerning monetary policy have been couched in terms of "volume of money" and interest rates and assertions that excessive demand causes inflation and that this state of affairs can be controlled by raising interest rates and raising taxes.
Central bank declarations tend to be expressed in neutral unsensational terms with reverential references to "Money Volume", "Inflation", "Unemployment levels" and "Base rates".
To many, listening to the releases on the latest "monetary committee decisions" much of this is mumbo jumbo or at best gobbledy gook. The lingering doubt that pervades monetary policy raises a question. Is this difficult to understand area of policy something really special and only understood by intelligent people or is this mystique just a veil to hide the actual intent and real outcomes of monetary policy?
The most exacting test of any theory is to see if it can be used to build a determinant decision analysis model. In other words can we use the theory to specify what determines the intended policy results? The tests are to see if such a model can be built and, if so, does it generate the results predicted?
One of the attractive properties of decision analysis models is that they can conduct what is known as "proof of concept" and "operational validation". In basic terms if a model cannot be built there is something missing from the concept or theory. There is no proof of concept. On the other hand, if a model can be built, then using it to simulate outcomes enables people to test its real practical value by checking to see if generating the outcomes predicted by the theory, in practice. This is the process of operational validation. It is possible for a model to be built which would seen to indicate proof of concept but its relevance, its veracity only is established through operational validation.
For many years central bankers spoke in terms of policy aiming to control "money volumes" in the economy as a critical part of monetary policy. It was never particularly evident if this was expressed in this fashion to intentionally or unintentionally mislead or whether this was just banker terminology. This, however, is no longer an issue because this particular mystique was removed, paradoxically, by a note published by the Bank of England. This was entitled: "Money creation in the modern economy" (Bank of England, Quarterly Bulletin, 2014, Q1). This makes clear that money volume is no more and no less than private bank credit or loans. More surprising was the note's explanation of how banks create "money volume" (read loans) out of thin air. This is by simply writing in a credit amount to a ledger linked to a specified bank account. This mystery solved, we then move on to the main monetarist theory known as the Quantity Theory of Money. This has been referred to so much over the last century as explaining a connection between "money volume" and inflation. We therefore need to regard the QTM relationship between stated determinants to be the decision analysis model of monetarists.
The QTM is an "identity" that states that the volume of money in the economy (M) multiplied by the number of times it passes between transacting parties or, velocity of money (V) is equal to the average unit price of goods and services (P) and the quantities of goods and services consumed (Y). So in simple terms it is the following equation:
This looks like a determinant model. So as a back of envelope calculation say M = 200 and V = 2 then if Y, the quantity of goods and services consumed remains the same at 150 then model states that the average unit price P will be 400/150 = 2.667. Monetarists assure us that if money volumes increase one ends up with inflation and if money volumes decrease inflation is tempered. So raising M to 400 with the rest of the determinants fixed, the average unit price will rise to 800/150 = 5.333. So the QTM appears to show that inflation is indeed related to money volume. Unfortunately monetarists do not appear to have much practical exposure of how companies operate. Just because there is more money in the economy does not mean companies are going to automatically raise their unit prices. Milton Friedman, the leading monetarist, in the 1980s, when asked how money volume causes inflation was never able to explain, in terms of determinants, how this happens. In the end his explanation defaulted to, "It happens in the long run" which, of course, is not an explanation. This means the QTM identity is missing something, because although it indicates inflation varies with money volume the mechanism or mathematical function is nowhere to be found within the QTM.
Moving from doubts with respect to any proof of the concept of the QTM, the econometrics unit at SEEL-Systems Engineering Economics Lab, fed the QTM, as an algorithm or decision analysis model, with the data associated with quantitative easing (QE). Just to confirm, QE has involved a massive increase in money volume combined with an imposed lowering of base interest rates to close to zero. According to the QTM inflation should have risen substantially. So what happened?
The national economy is divided into two types of markets. One is generally accessible to the majority of the national constituency and consists of goods and service transaction markets made up of the normal purchases for survival, utilities, food, clothes and other purchases including consumer items. The other market is less accessible to the majority but the main participants are higher income groups and corporations in the form of asset transaction markets made up of land, real estate, precious metals, commodity positions, savings, derivatives and corporate shares. There is a strong demarcation between these markets which has become evident in the very high degrees of inflation in the asset transaction markets and far lower inflation in the goods and service transaction markets. However, the QTM variable Y only refers to goods and service transaction markets where little or no inflation has occurred, meaning the QTM fails to pass the test of operational validation. This failure to secure operational validation also shows the QTM does not enjoy any proof of concept. SEEL therefore added the asset transactional markets to the QTM to repeat the analysis. This time the new QTM dubbed Real Money Theory (RMT) enables the model to predict accurately the depression in the goods and service transactions markets, as observed, and to demonstrate the massive inflation in the asset transactional markets. In terms of the variables added to the QTM SEEL divided the asset transactional assets into two categories, both of which are non-circulating, as savings "s" and assets "a".
Returning to the QTM equation shown above it has therefore been changed into the following:
p is the average price of assets;
a is the number of assets transacted;
s is the amount of savings.
SEEL, in changing the QTM into a valid determinate model show that QE has greatly benefited the participants in the asset transaction markets by contributing to the very high rate of rises in asset prices. With interest rates being so low the savings component is almost zero. The reason these prices have risen is because these markets have become speculative which is driven by large volumes of funds being diverted into these markets. It is evident that the very low base rates making funds very low cost to banks and financial intermediaries has created an opportunity for banks to divert funds into asset markets to benefit their own shareholders directly while lending far less of the low base rate funds to the producers and suppliers to the goods and service transactional markets. This purposeful diversion by banks is why productivity and real wages paid by producers and suppliers to the goods and service transactional markets have stagnated. On the other hand, as a direct result of government QE policy, maintained over the last 10 years, has enriched those favoured by the banks in terms of asset holdings and incomes. The wealth represented by asset holdings is augmented by incomes through banks lending on to large corporate clients funds to buy back their shares. This drives up the values of shares on a speculative basis and "share options" are given to executives and some shareholders who are able to sell them during tactical "pause gates" to secure bonuses and additional income, sometimes exceeding £ millions. The tactic applied involves a "ratchet" strategy where the rate of increasing incomes parallels or outstrips the rise in asset values as a precaution against assets price declines. As a result, in spite of the very high rates of inflation in asset prices the accrued incomes, of those trading and holding assets, rise at a higher rate. In the meantime the majority of the population, who are unable to participate in these transactions, face declning real incomes.
The asset markets operate at prices well beyond the spending power of over 95% of the population of this country and yet it is the participants in these markets who have benefited directly from QE.
For the majority of the constituents of this country, QE has been the main source of more than a decade of austerity and attendent undermining of wellbeing and prospects. The low interest rates have decimated savings and created enormous difficulties for the retired community in a cavalalier and irresponsiblee manner. QE continues to prejudice the majority and benefits a minority of constituents directly. The original selling point for QE was that it was a short term measure to help banks "adjust their balance sheets". In constitutional terms, macroeconomic policies should not introduce any bias that favours any particular group. The government has failed to deliver this constitutional obligation. A clear statement of the true impact of QE as part of the Conservative Party's election manifesto would have lost them the election. It is notable that the opposition, such as the Labour Party, often spoke about austerity but seldom made mention of the central role of QE as the motor of austerity. Clearly they were as misguided as most by the mystique of monetarism and the QTM. As long as QE persists, any talk of "evening up" the economy is fundamentally dishonest and an affront to the intelligence of the people of this country.
One of the assertions that can be made is that the "policy" was decided by the Bank of England (BoE) which is independent. But one reason Gordon Brown made the BoE independent was to avoid being blamed as a government for raising interest rates such that he witnessed with the Conservative government's financial fiasco leading to the repossession hundreds of thousands of homes under the Thatcher government's hike in interest rates. The BoE might be independent of government but it is not independent of the interests of banks and the financial intermediation sector. This is the cause of the problem and why QE was introduced. To separate out the monetary component of macroeconomic policy from government decision making is convenient in terms of who takes the blame for monetary disasters such as QE, but in the end this represents an incredible level of incompetence on the part of any government who makes any claim to have the interests of the national constituency at heart.
It is evident that the government has been pursuing a policy that has been looting the real economy and depressing the wellbeing of the majority of the people of this country.
Financialization is the process whereby all economic considerations are reduced to a nominal financial quantification usually measured in the local currency or expressed in a common currency by applying exchange rates.
The crucial problem with financialization is that what appear to be distinct policies or even schools of thought, such as Keynesianism or Monetarism, and supply side economics are in fact questions of emphasis on which aspect of
Veblen considered this evolution to be associated with a change in motivation that brought to the fore financial manipulators, who sabotage and retard, rather than advance technological development. He considered success in the business world to wait on guile:
So well before the first major financial crisis, Veblen has described the specific changes that would give rise to such crises. Because nothing in macroeconomic theory has sought to tackle these issues, the schools of economic thought have fashioned elaborate kaleidoscopes that do not dare tackle such basic flaws for fear of upsetting those who dominate the "pecuniary" affairs of the economy and who continue to promote increased financialization. It is understandable why Thorstein Veblen's seminal work is not widely taught in our schools of economics.
Thorstein Veblen pointed out the drift from an emphasis on physical processes to one of financial processes. The important factor, however, is that unknown to Veblen the subsequent evolution of economics saw macroeconomic schools embedding the very same negative evolution by giving increasing emphasis to nominal financial aggregates and paying far less attention to the actual sources of 60-80% of economic growth arising from innovation, technology, technique, learning and the acquisition of tacit knowledge (see box on right) leading to enhanced production performance and the ability to increase wages while even reducing output prices and thereby sustaining growth based on increasing real consumption. Indeed chairs in economics have been endowed at many universities by the organizations that Veblen criticised creating a tendency for an enhanced emphasis on financialization.
It is more than evident that those who "rise to the top" to take command of decision making simply don't possess the types of intelligence or motivation to be able to safeguard the wellbeing of the majority of the constituents in this country.
Many might have noticed that like the 1970s-1980s under slumpflation, "leading economists" are all at sea, expressing vacuous opinions that do not offer solutions to a problems created by the very policies that have been advocated by the cumulative "wisdom" of the leading "schools of thought" which in practice turn out to be quite thoughtless when one transverses the bridge between theory and practice only to realize that they lack proof of concept and any chance of operational validation.
Readers might have noticed in the recent SkyNews programme, "After The Pandemic - How work will change" on Tuesday 2nd June, 2020 at 8.00 p.m. involving some economists was notable for its coverage of theory and retread notions and with almost no useful or substantive analysis offering practical solutions.
What the evidence has shown us to date is that, as Boris Johnson advocates, greed is a great motivator for organizing economic policies but unfortunately those with high IQs under such schemes rise to the top and the results are there for all to see.
1 Thorstein Bunde Veblen, (1857-1929) was an American economist and leader of the institutional economics movement. His institutional economics was integrated with a Darwinian evolutionary approach. He made a basic distinction between the productiveness of "industry," run by engineers, manufacturing goods, and the parasitism of "business," which exists only to make profits for a leisure class. The chief activity of the leisure class was "conspicuous consumption" and their economic contribution being "waste," that is, an activity that contributes nothing to productivity. The implication was that the American economy was therefore made inefficient and corrupt by the businessmen. He considered technological advances were the driving force behind cultural change.