Apple, Oranges, and Debt

I’m going to make a short, simple example of how debt based money inevitably bankrupts the economy.

The whole economy is you, me, and the bank. I sell apples and you sell oranges. The only way to get money into the economy is to borrow it from the bank, and in this example if you borrow one dollar, you have to pay back two (keeps math simple, but a different interest rate only changes the rapidity of the outcome).

You want an apple, so you borrow a dollar from the bank and buy one. Now you owe the bank two dollars, but that’s easy, you just sell me two oranges. I give you back the dollar and borrow another from the bank. You pay the bank back, but I have to sell you two apples to pay back my loan. Now you owe the bank four dollars. See where this is going?

Eventually we owe the bank more money than we have apples and oranges to sell. We default on our loans, and the bank takes all the apples and oranges as collateral. We have nothing and the bank got everything. That was the plan of the bank at the start.

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This is supposed to be surprising

Making the rounds in the news today is this video:

There’s some controversy regarding whether or not this man is a real “independent trader” or a hoaxer, but that’s not the interesting part. I’m amused by the reaction of the BBC interviewer: “jaws have collectively dropped at what you’ve just said.” That’s a little odd considering that nothing he said was particularly revelatory or controversial. Perhaps they’re surprised that any investment professional would have the temerity to admit such things on TV. Most of the time what you hear from people in nice suits from the financial world is the story of how the stock market will make us all wealthy and we must just stay the course until it all works out. But I’ve already discussed on this blog how that is a fiction, since the market is zero sum and the only way one investor makes a gain is at the cost of another investor. So of course when markets fall, someone is making money. The people making money are like this guy, or at least the people this guy is pretending to be.

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A turn of phrase

Frequently people say that socialism is wrong because it involves the forceful taking of wealth from the wealthy. They give clever quotations like Margret Thatcher who said “the problem with socialism is that eventually you run out of other people’s money.”

Well I have my own phrase I thought of that I am using to try to turn their assumptions about socialism and “class warfare” and force on their head:

I’m not a socialist because I want to take money from the rich, I’m a socialist because I want them to stop taking money from me.

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The Christian nation that loves the rich and hates the poor

Just a quick post today, inspired by a look around WordPress for blogs mentioning socialism that resulted in a 95% return of the “socialism is the great evil killing society” sort of argument. I tripped across one post written by an evangelical with many pronouncements that socialism was coming: he warned us all, and now socialism is out to get us!

I don’t understand how this country is both so self-professedly Christian, while simultaneously so vehemently set against socialism. One post after another accuses the poor of being shiftless and lazy, and that the “liberals” are threatening to destroy the country by stealing the work and even spirit of the noble and productive class. I just don’t get it; I was once evangelically Christian myself. At the time I was socially conservative, but I never shared this attitude. The Bible is clear:

Again I tell you, it is easier for a camel to go through the eye of a needle than for a rich man to enter the kingdom of God.

Jesus answered, “If you want to be perfect, go, sell your possessions and give to the poor, and you will have treasure in heaven. Then come, follow me.

None of the disciples were shrewd businessmen, becoming rich to serve the Lord. They were all presented as destitute in material possessions. This was one of the serious problems I had being evangelical, that I read these verses and took them to mean what they plainly say, yet I could not bring myself to sell everything I owned to give to the poor. And I didn’t see anyone around me in the churches I attended who dared to do so, most of all those who made a profession out of reading the Bible and telling the rest of us what it meant.

I have no idea how the majority of Americans who claim to be Christian reconcile this with their incredible jealousy of their property, their obvious aspiration to become fantastically wealthy, and their vilification of the poor.

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Another way to create money

So I’ve been thinking in recent weeks about better ways to create money than with debt. After all, there’s little use in pointing out a problem if you’re not willing to work on a solution. Many people such as libertarian Ron Paul believe the solution is to go back to using gold as money, but there are major problems with that. Gold is a finite resource so while the population grows and technology advances, the supply of mined gold may not keep up. In that case there are more people trying to use the same amount of gold and money becomes a commodity that people will hold instead of trade, hoping to make a profit. That’s deflationary and will quickly squelch any economic activity. There are other problems, like wealthy people attempting to corner the market on gold; we certainly do not want to be in a situation where one group gains control of all the money through a deft maneuver.

After looking at other suggestions I considered the possibility of something like a Monopoly money economy. That sounds terrible, but it has strong advantages in its favor. Currently money is created when public debt (Treasury bills, notes, bonds) held by banks is purchased by the central bank, which creates new money to make the purchase. So all money is based on government debt, and creating enough new money to enable repayment with interest leads to an exponential increase of the debt. A bad part of this is that interest is owed by the federal government, which is trapped in the same debt spiral everyone else is. The government cannot really run a balanced budget because there would not be a growing base of financial assets for the central bank to purchase to create money for a growing economy; balanced budgets run into much the same problem as using gold for currency. Eliminating public debt entirely is also impractical, because then there would be no assets for the central bank to purchase, or sell to reduce the money supply.

So we’re stuck with a system where the government needs to incur debt and pay interest both to run its operations and to provide a basis for the money supply. At the same time, a quasi-public institution (the Federal Reserve) is the entity charged to create money. Why not cut out the middle man, and allow the government to create money to run its operations without incurring debt? The government would “print” money and hand it out as budget expenditures, like the bank in a game of Monopoly that pays players $200 to go around the board. The government would never need to repay the amount, it would just create more money the next year as needed. It seems like the problem would become too much money in the economy, but what is created can be removed similarly. Instead of taxes being levied to spend on expenditures, they would be used to reduce the amount of money in the economy to regulate inflation. The government would create and destroy money as needed.

This idea confuses people, but it doesn’t seem to me any more confusing than the situation now, where the government ends up being in debt to the central bank. Why run a system where the government owes itself while bumping against debt ceilings, when the government can just create the money, spend it, and owe no one?

This may seem like something radical that has never been attempted, but I realized that this is a solution used in virtual economies. In massively multiplayer online games (MMOs) like World of Warcraft, game developers face the same problem of managing a monetary system and avoiding inflation and deflation that the real government faces. They create money as rewards for missions and loot taken from creatures, and eliminate it from the economy with fees for item repair and travel or by selling expensive items to players such as mounts. Developers are careful to balance the creation and elimination of game money to reflect growing player population and increasing levels of player ability. It has worked for tens of millions of MMO players over the last decade; why can’t it work in the real world? The current monetary system is hardly doing better lately.

It seems like a system that offers all the advantages of a flexible money supply to balance economic growth, without the debt that is currently threatening to drown the United States, EU, and Japan, never mind smaller nations. The idea is still very much a work-in-progress however, so I encourage you to respond with criticisms or observations.

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You’ve got to get mad

I lied in my last post. This video is going up before my next post about money. I admire Keith Olbermann’s ability to produce these videos, and this time every point is on the mark.

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Still here

Just a quick update since I haven’t posted anything in nearly a week. I’m still here but busy contending with medical billing (now that in itself would be a topic for a blog). The next topic in mind is about what money could be, since money based on debt is unsustainable. Give a minute to think of the possibilities: a gold standard? Government issued notes, distributed outside of the banking system, and not created by debt (a little bit like Monopoly money)? Something else entirely?

Give that some consideration, and I’ll make my suggestion soon.

At some point, we’ll also discuss what can be done about reforming the banking system. And finally, I’m always looking for links to interesting news, videos, and movies. Speaking of news I hardly have to link to any news about the debt ceiling crisis since anyone not living in a cave has heard all about it by now. You have to wonder who benefits most from a default and downgrade of American public credit.

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“The Last Honest Republican”


I saw this and could not help but share it. I had been thinking about Eisenhower as a reasonable Republican just recently, oddly enough.

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A quick note about markets and zero sum games

Just a quick note today about the stock market. One thing you frequently hear capitalists say to defend the system is that “the free market creates wealth.” Then they cite the stock market as an engine of wealth creation, which allows prudent long term investors to retire wealthy. As everyone buys stocks the price goes up over time and everyone wins. The problem is the stock market creates no wealth, but is a zero sum game. No investor gains a dollar that does not come directly out of someone else’s pocket.

A poker game is a good example of a zero sum game. A number of players with an amount of money between them play hands, some win and some lose, and at the end of the game they walk away with the total amount of money exactly the same. No matter how long they play or how many bets are made this obviously stays true. Of course if they play in a casino it changes a little because the house takes a cut of each pot, but that just makes it an even better analogy for the stock market where investors lose small amounts of money to commissions on each trade.

The market is similarly a zero sum game. There’s two ways to verify this. The first is the simple accounting that for every share bought, it is sold by someone else for the same price. Every transaction nets to zero. For some reason this still doesn’t convince people who believe that the other shareholders who own the stock may gain wealth as a result of the price having risen due to the transaction. I don’t know why it’s not obvious that the shareholders don’t have that wealth until they sell, at which point there is another zero net transaction, but for grins let’s move to the second proof.

Imagine the entire stock market consisted of Acme company, and the investors Bob, Ed, and Joe. Acme has 100 shares of stock it sells for a dollar. Bob buys them all, giving his $100 to Acme. Then Ed decides Acme shares are a great value and buys them from Bob for three dollars a share. Bob has Ed’s three hundred dollars. Joe reads Acme financials and notices a problem, which worries Ed. Joe offers to buy the shares for $200 and gets them. But it turns out that Joe was devious and knew Acme would have an excellent year ahead. Finally Acme makes a huge amount of profit and buys back all the shares from Joe to become private again for $400.

Let’s tally that up: Bob made a profit of $200, Ed lost $100, and Joe made a profit of $200. Overall that’s a profit of $300 for the investors, right? The market created wealth for most of the investors! The thing everyone forgets is that Acme gained $100 in the initial offering and spent $400 to delist their stock, which is a $300 outflow of cash from Acme. That’s exactly the amount the investors gained. The market itself didn’t make them wealthy, Acme’s profits made them wealthy. Spend a minute and think of the same situation with thousands of investors and companies. In the end the total profits from investors are always balanced by the initial offering and the end result of the stock, be it from bankruptcy, acquisition, or the company repurchasing its shares. The market itself is only a transfer mechanism. It’s a game of poker. The fact that stocks trade for many years and their market capitalization often grows enormously doesn’t mean the market is creating wealth any more than a long game of poker with lots of hands and a big pot creates wealth. The market is like a game of poker where people continually join and leave the game, bringing their money from elsewhere, but ultimately the final tally of the game must be zero.

In case someone thinks “wait, but what about dividends,” that’s not different in the slightest. A dividend is just another way for money to be transferred from the company to the investor. In fact, the share price is lowered by the amount of the dividend upon payment, so in reality the investor is no further ahead. People will protest that the price often goes back up after, but of course that’s just because investors resume buying shares with new money, even if that money comes from the dividend. The market itself still creates no wealth. It’s only a transfer mechanism, no different than poker.

What’s curious about this argument is how hostile many people become when confronted with it. I’ve had people tell me I’m an idiot, that I don’t understand open systems, or economic activity, or whatever. All of those people so far have merely ignored both of the arguments I’ve put forth here while insisting I shouldn’t talk until I learn what I’m talking about. I consider that kind of argument to be a tacit admission that they don’t understand the argument and don’t want to. The hostility is something I can only compare to what’s faced when someone’s religion is challenged: rather than argue the merits, often the person simply becomes enraged that the other is challenging their beliefs. I’ll leave you to consider what that means.

Something else to consider, in case transfer of wealth from companies to investors was starting to sound pretty good for the little guy: ask who is benefiting from market action. Every stock that is still trading is a game of poker that has not yet ended. Some of the traders, like hedge funds and investment banks, are making hundreds of billions of dollars in profit every year. Since the companies they’re trading are still public, that profit didn’t come from repurchase by the companies whose shares they have traded. Like Joe, they got their money from another investor. Who are the investors the hedge funds and banks are taking their profits from? It’s mostly the small time individual investors. Who else could it be? Keep that in mind the next time a hedge fund manager buys a 300 foot yacht, while you’re afraid that your retirement account doesn’t even have as much in it as you contributed.

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Keith Olbermann’s message to the President

Just a quick post today to share two videos from Current with Keith Olbermann’s dramatically vehement message to Obama.

I agree that we cannot be spending 700 billion per year on blowing up the rest of the world while we can’t spend money at home for medical care for the poorest and sickest Americans. And certainly we can’t give tax cuts to billionaires while cutting social programs for those who won’t make it without them. The idea of it is obscene.

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