Posted tagged ‘recovery’

Predicting the Effects of Expansionary Monetary Policy on an Economy in Recession

October 21, 2009

The Obama Administration has enacted both of Keyne’s creeds: Expansionary Monetary Policy and Deficit Spending. This article will focus on the former.

Expansionary monetary policy is enacted to lower interest rates in times of deflation. This encourages investment, and ideally improves the economy and brings it out of recession. However, this Keynesian analysis is limited. After the economy recovers due to a particularly large session of EMP, hyperinflation occurs. Hyperinflaiton is inflation to the point where interest rates rise as if deflation were occuring. This is due to the fact that interest rates must necessarily be above that of the inflation rate, or banks face immediate deficits.

This increased interest rate necessarily passes the inflationary burden onto businesses. This pushes them into deficits of their own, and many businesses have to lay off workers in order to restore their profits. This is the harmful effect of hyperinflation, which can occur if enough EMP is enacted at once.

Though hyperinflation is destined to occur to this recession, there are other harmful effects of EMP that happen every time expansionary monetary policy is implemented. Any time interest rates are artificially lowered, more loans are taken out and less money is saved. This often leads to a “boom”, like the one of 2002 to 2006. However, when the market over invests poorly as a result of this policy, the result is always the same: the economy lurches into recession. Savings have been consumed and most people have spent and investedĀ themselves into large loans. The recession then ensues.

What then, occurs when, as we are now, we implement EMP during a recession? Such an event causes a double-dip recession. The economy spends itself even more up to a point, and then the economy collapses in debt again. This has happenedĀ more than once since it happened in the Great Depression.

Expansionary monetary policy is necessarily a harmful policy to implement on society in mass quantities at any time. The proper solution is to let the market painfully recover from its government-stimulated overinvestment. Haste makes waste.

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What happened to the Madoff Billions?

April 12, 2009

News reports persist in wondering what happened to the $65 billion that Bernie Madoff took in with his investment scam. Is it hidden in the basement of a dark castle in Switzerland? Did he spend it on yachts and cheeseburgers?

It’s not a mystery. He was running a Ponzi scheme. A Ponzi scheme involves giving investors who withdraw money the money put in by other investors. The investments were supposed to be earning ten percent, but Madoff claims he never invested anything and hence never earned a dime on the money he was given. When someone withdrew an investment, or the purported earnings on the investment, he had to pay out money that was paid in by other investments. The scheme operates so long as the total withdrawals are less than the funds taken in. For Madoff, the payouts caught up.

Of course, Madoff also skimmed off enough to keep him in yachts and cheeseburgers for all those years, but even a $50 million penthouse doesn’t put much of a dent in $65 billion. Most of the money was paid out. It’s characteristic of a Ponzi scheme that those who manage to cash out early come away clean.

Theoretically, the government can go after those payouts and redistribute the money to the investors who were bilked. The principle is similar to that applied to stolen goods like a TV set. The buyer of a stolen television doesn’t get to keep it, it rightly goes back to the original owner. Madoff had no right to distribute money obtained fraudulently, and the recipients have no right to keep it.

So in theory all the payouts could be recovered, providing records of them can be found, and the money redistributed in proportion to what people paid in. That’s in theory. One problem is the statute of limitations. Madoff”s scheme has been running for a long time, so legal limits on recovery may have expired.

Another problem is that the payouts may well have been dispersed. Many of Madoff’s clients were charities. Suppose one of those charities withdrew their funds and gave it out for, say, tsunami relief. Or perhaps a university withdrew funds and used it to build a new library. As a practical matter, the distributions may not be possible to unwind.

Still, it is no doubt possible to unwind some of them and to provide some relief to the investors who now appear to have lost everything. The unwinding would take a battalion of lawyers and an army of tight-lipped accountants. Investors who withdrew funds will fight every effort to recover. I worry that the government will shy away from the task and instead substitute some simple approximate scheme in the interests of expedience. Unwinding the scam deserves a best effort. So far the efforts seem feeble. [1]

[1] “Bernard Madoff liquidator sets off in pursuit of beneficiaries as pawn shops report brisk trade”