Money and Velocity

I did some brief investigation of stimulus funds available to entities that benefit local economic development in terms of employment (e.g. door64). However, my finding was that funds seem to be micro-allocated into buckets with such specific requirements that door64 fit in precisely none of them.

So yes, we're making a difference, but because we don't fit in their vision of what will be successful, we're out of luck. Frankly this aggravated me...not because we can receive funds for an initiative that is actually working...but simply that the program is so shortsighted.

There are several competing theories that offer different explanations for business cycle. Real Business Cycle Theory by the Chicago school of Economics suggests business cycles are a completely normal way for the market economy to be, and are not caused by government regulations or financial policy.

http://en.wikipedia.org/wiki/Real_Business_Cycle_Theory

The downside of this explanation is, of course, that we can't fix or avoid a recession by making changes in monetary policy.

Jane Prusakova
Senior Consultant at Improving Enterprises
Door64 blog

Jeteye, you are correct in your example that exchange and division of labor makes a society richer, raising all boats. The underlying increase in wealth isn't the money, however, because in your example the farmer and mechanic could have completed their simple transactions with barter and gotten the same benefit. It's the ability for people to specialize (division of labor) and exchange freely with each other that make society as a whole better off.

The Keynesians make the mistake of crediting the increase in wealth to the act of spending, rather than the act of exchanging, and are misled into thinking that stimulating spending with lots of fake money and big budget deficits can act like economic fertilizer. This is where the Keynesian multiplier comes into play, which is what I thought you were referring to. All the fake money does is divert activity and investment into areas that are not supported by fundamental consumer demand. This is the unsustainable boom phase of the business cycle. Eventually the malinvestments are revealed, have to be liquidated, and the economy heads into the bust phase of the business cycle. The capital has to be written off and reallocated, the workers employed in the unsustainable portion of the economy have to find work in the sustainable part, and things just generally have to be unwound.

Additional fake money doesn't fix anything, it just further obscures true consumer demand making the inevitable bust more painful. A doubling of the money supply has given us the current crop of tiny "green shoots", a pretty pathetic showing for such a large expenditure. As tiny as it is, it is not sustainable and the worst is yet to come.

Aggregate spending is just all of the spending decisions of all the consumers lumped together. If an individual decides to hang on to his used car for one more year, he is making the correct decision for himself and this cannot be characterized as wrong, or needing correction, in any way. It's up to producers to adapt to consumer demand, including consumers expressing a preference for money rather than goods.

In a normal economy where the counterfeiters are thrown in jail rather than given well paying jobs at the Fed, a lack of consumer spending means an increase in consumer saving. The increase in the supply of savings results in the interest rate coming down, since there is more money competing for the interest the banks can pay. The fall in interest rates encourages capital investment, since projects that were not profitable at the old higher rate become profitable at the new lower rate. Simultaneously the lower rate makes savings relatively less attractive to consumers, encouraging them to spend their savings purchasing the new goods and services the capital expansion is capable of producing. No systemic booms or busts, just economic growth that adapts to consumer desires.

regards,
--steve

As Jeteye originally proposed it, yes multiplier is the same as frequent exchange. "Multiplier" is a term that is generally used with a different meaning in Keynesian economics, which is currently mainstream. I thought Jeteye was referring to Keynes's multiplier, which is refuted by Bastiat's broken window fallacy. I think Jeteye and I are in basic agreement.

You are correct that the clunker program won't have any long term benefit. Speaking practically, many of those cars will end up being reposessed because the people who, on margin, couldn't afford the cars before still probably can't, and will run into trouble making payments before the loan is paid off.

Speaking on principle no-one can tell beforehand if the market needs more new cars or more new businesses. Entrepreneurs can only make an educated guess, and see over time if they were correct or not.

regards,
--steve