View Full Version : Obananomics will fail (article)

01-21-2009, 05:54 PM
Obamanomics Will Fail the American People

by Michael S. Rozeff (msroz@buffalo.edu)
by Michael S. Rozeff

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Obamanomics, the economic program of the Obama administration, will fail to help the U.S. economy. Instead it will undermine the economy. It will fail to help the American people as a whole, although it will benefit some. It will succeed in augmenting the government.
The depression is causing and threatening to cause many failures of banks, companies, whole states like California, localities, pension funds, federal home loan banks, and so on. Unemployment is rising. The Obama administration, following the Bush administration and the roadmap laid down by the New Deal and the Employment Act of 1946, will try to stop these failures and the unemployment using government action. This will fail. The system is too large for the government to bail out without destroying any semblance of free markets. Even if the system were not so large, government action would still fail, as will be explained in some detail.
The largest banks in the banking system have failed or will soon fail. They are insolvent and the system as a whole is insolvent. It is a virtue of the American system that both the Fed and the government are trying to act like responsible lenders and not simply nationalizing the banks and failing companies outright. Although these loans have stiff terms, they are haphazard and far inferior to outright bankruptcy. These loans should never have been made. The government cannot maintain its purported stance of neutral financier under the influence of politics and expediency. More importantly, when government introduces itself into the capital markets as it has done, it changes them in irreversible ways. There will be no going back to what was. The capital markets have been greatly harmed already.
The only practicable remedy within the existing system is bankruptcy and re-organization. All the bailout programs are circumventing this remedy. They have made hash out of the bankruptcy laws. That is underscored when the Big 3 automakers seek aid from Washington. There are many other companies, states, investment funds, and localities also lining up.
The bankruptcy procedures balance the interests of various parties to contracts under court supervision. There are long-established priorities, plans, and valuation procedures that at least form a stable framework within which to proceed. All of this has been discarded in the last twelve months. The political enactments under the Bush administration, endorsed and to be expanded under the Obama administration, ignore and replace these procedures with political measures. This marks a major turn of events. The nation abandons an established and workable accounting-finance-legal framework. It replaces it in an ad hoc way with a misguided economics framework and with a thin patina of legality that actually is a large expansion of unconstitutional power. If kept in place, this replacement has extremely long-term serious effects on American capital markets.
There are a limited number of paths by which large aggregations of capital can be transferred to borrowers. One is via the banking system. The other is through the capital markets. The capital markets supply most capital to business borrowers. They would probably provide even more capital if banks were not being subsidized by central bank reserve creation.
The bailouts have the effect of undermining capital markets. Lenders in capital markets understand and rely on bankruptcy procedures in pricing and issuing credit to borrowers. Lenders can impel or not impel bankruptcy by how they treat the violation of lending provisions, as sometimes re-negotiation is in order or other measures short of demanding payments. The government bailouts upset the priorities of the various classes of capital-suppliers to corporations. They introduce a new and uncertain element. The option of bankruptcy no longer is clear. The outcomes are no longer as clear: the bailouts arbitrarily discriminate among suppliers of capital. This interferes with contracting in capital markets, but free contracting is the heart of capital markets. The use of government power to settle matters in markets always harms those markets. Capital markets are no exception. If anything, the processes of financing are even more sensitive to government interference than are product markets. Suppliers of capital are less likely to supply capital when the contractual terms of doing so are open to continual government interference.
The Obama administration plans to continue the government attempts to create full employment by government programs. This too will fail in its purpose. Like the bailouts, it too will fail. It too will make matters worse. After providing the background for government policies on employment, I will explain in detail why they will fail.
Government programs augment government. That is their purpose. Officials always provide plausible rationales for programs. Nevertheless, in general, officials do not approve programs unless they augment the government.
Programs in general transfer control of resources from private hands to government hands. That is what makes them fail.
On occasion, government decides to undo some program. The U.S. government undid some energy regulation in the 1980s. However, the Department of Energy remained. The power over energy decisions has since ramped up. Over time, the government merely replaced one set of energy regulations with another. The control over energy is increasing.
For quite a long time, the government has made economic programs its business. This became especially evident during the New Deal in the 1930s. After World War II, the federal government codified its control over the economy in the Employment Act of 1946. See here (http://www.law.cornell.edu/uscode/15/1021.html) for some code. Congress added to this measure with the Full Employment and Balanced Growth Act of 1978.
Reaganomics, Clintonomics, and Obamanomics only vary in detail. They all are birds of a feather. They all exercise government control over the U.S. economy. The same goes for all the other presidents whose names may not have been linked to the suffix -omics. Every administration since 1946 has had and exercised power based on the Employment Act of 1946.
In general, all of this government activity has failed the American people as a body. That is because the Employment Act of 1946 and its 1978 follow-up stem from faulty economic ideas. Any economic progress that has occurred since 1946 has happened because the private economy caused it to happen, not the government. The progress in the private economy has happened in spite of what the government did. The government dragged the economy down.
Whenever the government failure becomes prominent, the government blames the private economy for having failed. It always blames someone else, never its own policies. It blames industry. It blames businessmen. It blames greed. It blames speculation. It blames the consumer. It blames foreigners. It blames Nature. It never blames itself.
Almost every part of these national economic laws fails in implementation or else is deeply flawed in theory. Different sections of the code fail in different ways. Some sections provide goals. These goals usually should not be government goals in the first place. Given that they are goals, however, the government has failed to achieve them and achieved the very opposite. For example, Section (h) declares one purpose to be a balanced Federal budget, but the deficit has grown to great heights. Section (f) calls for the maximization of private employment, but the government share of economic activity has shown a strong upward trend. Section (g) says that trade deficits are a major national problem, but the trade deficits have grown and today are huge. Section (c) says that inflation is a major national problem, but the dollar is worth only a fraction of what it was in 1946. Several sections call for full employment, but the U.S. has periodically experienced unemployment. Section (a) calls for growth in real income, but real income growth has slowed compared with other eras in American history. Section (a) also calls for enhanced self-employment opportunities, but the tax laws impede this objective. Section (j) calls for the private sector to generate growth and for government fiscal policies that make federal government a low fraction of total product. The private sector has generated growth, but the share of federal government has grown.
Section (i) recognizes the "investment needs of private enterprise." Investment needs is a term that means the accumulation of capital in the private sector. Austrian economics, alone among various strains of economic theory, treats capital with the subtlety that it deserves. One central failure of laws like the employment acts, both in theory and when they are put into practice, is the over-simplified treatment of capital. Government economists who advise politicians treat capital as something homogeneous, when it is not. They think that capital will be accumulated by business if government provides make-work for people or prints money to provide make-work. This is not so. Business only invests in capital when it foresees demand for the goods that this capital will help produce. A business has to foresee a return on capital commensurate with the risk of investment. When these returns can be foreseen, business creates employment. The employment is sustainable when the demand for the products materializes as expected. The businesses that survive in a free market do so because the returns cover their costs, which include the labor costs and the costs of capital.
The government creates make-work jobs. Unlike business, the jobs are not based on returns that pay for their costs. There is no such thing as jump-starting an economy by make-work jobs. Obama and his economists are making the same false analogy that Bush and his economists made. The economy is not a motor with a low battery. It is a fact that make-work jobs stimulate investment in the activities related to the make-work, but since the basic activity does not pay for itself, neither do the related activities. They are basically subsidized. All these jobs are low-paying jobs in that they do not create product that can be sold for more than the costs. All these jobs are financed by absorbing resources from other sectors of the economy. That happens because the government has no resources of its own. It can only draw from Peter to pay Paul. Capital accumulation in these other and more productive sectors then declines.
Everyone can be employed in jobs. We can all build pyramids. If the government builds pyramids, there is full employment but real income falls, growth of real income falls, and the general welfare falls. The pyramid building stimulates the brick-making and clay industries and it employs labor at the related chores, but the society uses up its productive capital stock to feed, clothe, and house us. When the government builds pyramids, it transfers capital from productive and potentially productive uses to unproductive uses. The product being produced, the pyramids, is not really in demand, and that is why it is unproductive. The return on the capital, the payback in the form of income, is insufficient to pay back the costs of capital that are being incurred. Hence, the pyramid building destroys wealth. The government may think it is creating wealth because it sees or measures employment and product, but these measures are illusory measures of overall wealth and value creation. There are many pyramids to see, but fewer loaves of bread to eat.
The banking system and the economy continue to deteriorate. A series of bankruptcies is the only solution within the current system. The depression and these bankruptcies are the remedy for the previous collection of economic mis-calculations and mal-investments of capital made during the boom. Supervening them by bailouts and providing make-work only retard the adjustment process. They make it worse by destroying capital and labor markets. They make it worse by preventing a stabilization of expectations among those who have private capital to deploy. It is that capital that creates employment on sustainable terms. The greater the uncertainty concerning future demands and costs, the higher the capital costs and the less likely that capital is to be deployed and put to productive use. When government deploys capital that it borrows, taxes, or prints up, it chills the private sector.
Obama and his economists are facing a worse situation than existed three months ago. The government actions up to now have made matters worse. The Obama $825 billion spending program will not turn the economy around. It is a Christmas tree going to various interest groups: $142 billion to state education, $111 billion to health care, $102 billion to relief, $90 billion to infrastructure, and $58 billion to energy subsidies. A lot of this is pyramid-building or pyramid-maintenance. $275 billion is payroll tax cuts is also slated. What should be done is to cut government spending by a trillion dollars and simultaneously lower tax rates on capital. Ending the estate tax, cutting marginal rates, and cutting tax rates on dividends and capital gains will all stimulate smaller businesses to form and add employment. They are a major source of new employment in the economy. Ending subsidies to various industries, cutting tariffs, and ending various quotas will also benefit the economy. These should all be done while at the same time cutting the budget.
I predict that none of this will happen. Obama is an economic illiterate. He would maintain high capital gains taxes even if by reducing them, they would bring more revenue to the government. It doesn’t get much more irrational than maintaining a tax at a high level out of a concern for fairness when the overall pie will go up by reducing that tax. Obama and his team will be back asking Congress for another trillion quite soon and probably another trillion after that. They will not know what to do when more big banks fail and when many regional banks start to fail. I predict that they will do as was done with the S & Ls in the 1980s. There will be a policy of "forbearance" when regulatory guidelines are violated. They will not want to have to appropriate money for the FDIC. If they form a Resolution Trust kind of entity to receive and sell off bad bank loans, this again subverts the bankruptcy option. It socks the taxpayers with the losses.
http://www.lewrockwell.com/rozeff/rozeff2.jpgThere is an outside chance that Obama will show some flexibility as matters do not improve. He may replace his current advisers with new ones. By some miracle, someone might be appointed who can influence him toward more enlightened policies. This did not happen under FDR. It did not happen in Japan’s recent episode of boom and extended bust. Another possibility is increasing militarism. This occurred in the late 1920s in Japan after a long period of stagnation, in Germany in the 1930s, and in the U.S. for an extended period after the 1930s. Bush’s war on Iraq came after the recession and slow recovery of 2000–2003.
The overall result of continuing along the lines laid down by Bush and the prior Congress will likely be stagnation of the American economy and a longer-lasting depression of business activity and economic growth. It could last 4–7 years or longer. The attempts to revive the economy will produce inflation during the depression.

01-21-2009, 06:02 PM
Would be cool if you could post some info about Michael S. Rozeff too, not exactly a household name and would like to know his qualifications.

01-21-2009, 06:04 PM
Would be cool if you could post some info about Michael S. Rozeff too, not exactly a household name and would like to know his qualifications.

His LRC archives (http://www.lewrockwell.com/rozeff/rozeff-arch.html) should help you(that's where I got the piece). :D Thanx for asking. :)

01-21-2009, 06:25 PM
His LRC archives (http://www.lewrockwell.com/rozeff/rozeff-arch.html) should help you(that's where I got the piece). :D Thanx for asking. :)

Yeah those archives were the only info I could find when I ran a few searches with his name.

Looking for some info on who he is.

Professor or what?

01-21-2009, 07:26 PM
He's a great write, thanks for the article.

01-22-2009, 06:12 AM
Would be cool if you could post some info about Michael S. Rozeff too, not exactly a household name and would like to know his qualifications.


Michael S. Rozeff
Professor Emeritus
Department of Finance and Managerial Economics

PhD, University of Rochester
MS, University of Illinois
MBA, University of Illinois
MAT, Harvard Graduate School of Education
BA, Harvard College

Dr. Rozeff has published articles on stock market pricing, earnings forecasting, corporate dividend policy, corporate divestiture, insider trading, and the Asian stock markets. He has been associate editor of several finance journals. Dr. Rozeff's recent articles on economics and politics are archived at LewRockwell.com.


01-22-2009, 10:34 AM
He's a great write, thanks for the article.

y/w! ~hugs~:)