Economics

Mobs and the Money Illusion

Mobs, particularly of the Occupy Wall Street variety, tend to be susceptible to a particularly virulent form of money illusion, which can lead to dire consequences if it is allowed to fester and flourish. There is probably no cure for them. For the rest of us there might be hope by applying common sense and good economics.

Money illusion is mistaking money for physical assets and goods. Money in this particular context stands for any piece of base metal or paper, or a register or electronic record, which claims that its holder, or beneficiary, owns something or is owed something. So it can refer to currency notes and coin, bank deposits, property titles, stocks and bonds. Physical assets and goods are income-producing farmland, infrastructure, residential and commercial buildings, factories, mines, machinery, and the vast array of consumer goods from luxury yachts to cars to iPods to clothes to shoes to cosmetics to bananas. To complete the picture, precious metal coins should be separated out from coins without intrinsic value. Gold and silver coins are akin to physical assets because the materials from which they are made are costly to extract and refine and they are universally valued.

Money illusion clouded my youthful sister’s thinking many years ago. She asked why the government didn’t make more money and give it to the poor. I remember my dad dismissing her question out of hand. He knew nothing of economics; nevertheless common sense told him, as it does most people who have experience or knowledge of periods of high inflation, that making money provided no answer. He did not suffer from money illusion; at least in this form. Neither of course did people in the more distant past when they tested with their teeth the bona fides of gold and silver coins coming into their possession. But this form of money illusion is only one. It has an alter ego; and in this guise it is widespread and has proved to be not so easily unmasked.

Money illusion is a curious phenomenon; easily unmasked by most people in one form yet impenetrable to many in its other. It’s this other form that particularly beguiles mobs and those who inflame and lead them, and can lead to unfortunate consequences not only for the wealthy but for us all. This form of money illusion mistakes the recorded wealth of the wealthy as goods which can be shared around to make us all better off. It is as much an illusion as its more obvious counterpart. Acting as though the illusion were real produces equivalent economic misery. The seeds of the illusion are built on envy of the rich and find expression in commentary on the distribution of income and wealth.

Stories of skewed income and wealth distribution, which come in and out of fashion, are invariably conducted purely in monetary terms. We are told these days that the rich 1 per cent owns too much wealth; without being told how much they should own and on what basis this should be decided or could be brought about. This vagueness is important in reinforcing an illusion because the idea is to work on an emotional level, not an intellectual one. What are the facts so far as we know them?

In the United States, for example, we know from Professor Edward Wolff (who does a lot of work in this area) that the richest 1 per cent own 35 per cent of privately held wealth. This latter percentage has increased in recent decades but it is still a little less than in 1922. Income too has become more skewed towards the top end in recent decades. I looked at a new Paris School of Economics international database. A broadly similar pattern is evident across industrialised countries, including, for example, Australia, the United States, France, Canada, Japan and the UK. The share of income of the top 1 per cent progressively fell from the early part of the twentieth century before progressively rising from the early 1980s. In all cases a year can be found in the early twentieth century in which income was more skewed towards the top 1 per cent than now. There is nothing much to be made of the recent trends to warm the hearts of critics of capitalism. Globalisation and the competition it brings account for rising inequality since the early 1980s. Levelling mediocrity has had less scope to flourish. Good performances have been more richly rewarded and poor performances more heavily penalised. We should be basking in the growing prosperity produced; unfortunately the edge has been taken off by governments squandering the spoils. 

Income and wealth inequality has always been around and always will be. The current level of inequality is not historically unique and has its counterpart in prosperity. But none of this essentially matters when it comes to the mob appeal of money illusion. Encouraged by the academic Left, mobs fixate on the monetary wealth owned and earned by the rich. If only it were shared about! This view is also encouraged by numbers of conscience-wracked, economically illiterate rich people like Michael Moore and Bill Gates and Warren Buffett and numbers of Hollywood stars and assorted others who all loudly proclaim their willingness to pay more tax as part of this sharing. Leaving aside their ability to pay more tax now if they want to—why wait for it to be demanded with menaces—the only thing they would be sharing is bits of paper and accounting entries. Not one more physical thing would be produced out of this sharing. For the most part governments would commandeer resources and use them wastefully. In the end result, there would be fewer physical things to share around. The mobs don’t see that.

Money illusion at this level is a species of gold fever; rationality disappears. If you doubt that, listen to Michael Moore speaking to demonstrators during the dispute over public sector workers’ collective bargaining rights in Madison, Wisconsin, in early March 2011: 

America is not broke. Not by a long shot. The country is awash in wealth and cash. It’s just that it’s not in your hands. It has been transferred, in the greatest heist in history, from the workers and consumers to the banks and the portfolios of the uber-rich. 

President Obama seems to agree, though he uses less rabble-rousing language. A number of recent statements are along the lines of “the wealthiest Americans and big corporations should pay their fair share to reduce the nation’s red ink”. Not to be outdone, François Hollande, the socialist candidate in the upcoming French presidential elections, has vowed to tax the rich to pay off the deficit; in part by introducing a 75 per cent tax rate on very high incomes.

Compare Moore’s, Obama’s and Hollande’s sentiments with those in a speech by Count Mirabeau, the leader of the Third Estate, in France in 1789 (from Florin Aftalion’s book The French Revolution: An Economic Interpretation). While Obama’s and Hollande’s (though hardly Moore’s) language is more measured there is a disquieting similarity about the chosen means to reduce the budget deficit: 

Choose the richest of them, so as to sacrifice the smallest number of citizens. But choose you must! For should not a small number perish in order that the mass of the people be saved? Let us set to work! These two million notables have the wherewithal to make good the deficit. 

Finally, as one of numerous other contemporary examples, compare also this translated piece on the website covering the so-called “direct democracy movement” in Greece which is apparently responsible for organising protests against austerity measures: 

the rich who prosper at our expensethe few rich get richer and the many sink into poverty misery. And so it collapses. The sole purpose of the system is the accumulation of capital at the expense of efficiency and prosperity of society 

So, whether the mob and their leaders, or left-leaning politicians, are in the United States, or in Greece, or in France in 2012 or in 1789, the story is much the same and it is infused by the illusion that money and real (physical) wealth are one and the same.

It is not surprising that mobs have difficulty in seeing through money illusion in this form; the bits of paper owned by the rich are distant and full of mystique. Of course, once the useless bits of paper are in their hands and start devaluing before their eyes their money illusion disappears. What an individual in a mob believes is that if he took a million dollars from a rich capitalist he could buy some nice things. He is right. That is not illusory. But what applies to one does not apply to the many; and it is a fallacy of composition to assume it does. The aggregate amount of money that all those rich people have represents only a mirage of tangible goods. Once it is all spread around, only inflation and poverty will ensue. 

Economists have not played the part they should in dispelling money illusion. Some of course on the Left, by supporting the Occupy Wall Street mobs, positively encourage it. Move On has video of economists supporting the OWS agenda; an accompanying statement supported by three hundred of them, mostly from US universities but some from other places (including two, so far as I could tell from a quick perusal, from Australian universities) reads in part: 

We support the efforts of the OWS movement across the country and across the globe to liberate the economy from the short term greed of the rich and powerful one per cent. 

I am not sure what you can say about these so-called economists, but you might pity their students, who are unlikely to learn much about economics. This aside, even conservative economists when confronted by the skewed distribution of financial wealth often say, in justification, that it is a by-product of success which has benefited many people along the way by generating employment and by producing things that people want. While all true, this is only part of the story and it does little to dispel money illusion. And, a critical public service of right-thinking economists is to dispel money illusion. Left unchecked, money illusion can lead to social unrest, and even to insurrection.

Mobs need beguiling slogans. As Ann Coulter (in Demonic: How the Liberal Mob is Endangering America) says, “a crowd’s ability to grasp only the simplest of ideas is reflected in the interminable slogans”. Sometimes those slogans are empty gestures. Make love not war. Bush lied—kids died! Yes we can. However, there is a different and potentially more sinister dimension to it when a particular group is targeted, in this case the 1 per cent, in the midst of some crisis or other. While slogans targeting the 1 per cent might not have the sinister overtones of Nazi Germany’s targeting of the Jews, nevertheless they point to the possibility of discriminatory action, as they did with horrendous results in the French Revolution.

The populace has a natural tendency to suffer from money illusion. Mobs, like the OWS mob and its copycats around the world, are besotted by it. All that money in the hands of the rich; if only it were spread around we could all be a bit rich too. They (the rich) are the reason we are not rich. There are always ready rabble-rousing leaders to take advantage of these circumstances and it becomes a larger threat when a leader of the importance of the President of the United States associates himself with it.

In capitalist economies, the rich mainly become rich as a by-product of contributing more than most, in one way or another, to the production of things people want and are prepared to pay for. They then mainly use their monetary wealth to generate directly or indirectly more income and more goods and services that people want. We need slogans saying Thank you, rich people even if it sticks in our envious craws; though I don’t expect to see them. Economists—real ones, not the sort that signed the silly statement referred to above—have to make the case. The populace at large would spend it on consumption. Governments would tend to waste it. We can’t afford it. There is still too much to do and too many genuinely disadvantaged people needing to be helped. 

A key to combating money illusion is to throw as much light as possible on the uselessness of pieces of paper when their exchange value for real goods can’t be guaranteed. In a normal functioning economy this issue does not arise for fiduciary currency. A pound in your purse stayed a pound in your purse, as Harold Wilson more or less said; though that was somewhat misleading in the context of a devaluation. But in France, in the 1790s, the “assignat” in your purse became close to worthless overnight.

In France of 1789 the demands on public expenditure had far outstripped taxation revenue for many years. The ability to continue to borrow to fill the gap was close to exhaustion. Greece, Ireland, Portugal, Spain and Italy should not feel too historically isolated. An issue of fiduciary money by the state appeared to be a way out for the French.

Things started off with the best of intentions and with no lack of insight. Mirabeau stated: 

I would agree with those who describe such an issue as a theft or a loan at sword-point but I would also allow that, in exceptionally critical circumstances, a nation may be forced to have recourse to bills of state (one should banish from the language the infamous term paper money) … Under any other circumstances, all paper money is an offence to good faith and to the nation’s liberty; in its circulation, it is a kind of plague. 

In France the idea was to temporarily issue assignats in exchange for Treasury debt. In turn, the assignats would be accepted for the purchase of confiscated church and other land and then destroyed. Of course the parlous state of public finances simply led to the issue of more and more assignats.

My purpose is not to rehash particular episodes of the French revolution, but to draw attention to the reaction of the French population to assignats. They did their best to avoid accepting them. They hoarded their produce rather than exchange it for the devaluing assignats. They were aware of money illusion; and they did not fall for it. Florin Aftalion points out: 

The provisioning of the towns actually deteriorated more and more, for the peasants were now bringing very few commodities to market, so as to spend immediately the proceeds from what they had sold without having to hoard bills which were, as they realised, depreciating. 

Nor does anyone fall for it when they are holding useless paper. Dr Schacht, Germany’s National Currency Commissioner in 1923, observed: 

farmers used their paper marks to purchase as quickly as possible all kinds of useful machinery and furniture … grand upright pianos were to be found in the most unmusical households. 

Zimbabwe provides a contemporary and extant example, where annual inflation according to one estimate reached 231 million per cent, if that can be imagined, before the Mugabe government called a halt in 2009 and legitimised the reality that people had long since replaced the use of the local currency with South African rands, US dollars, pounds sterling, and other currencies. As Milton Freidman has noted, “inflation is always and everywhere a monetary phenomenon”. That is true in Zimbabwe. But the resort to the printing press stemmed, once the noise is cleared away, from fallow land having similar characteristics as fiduciary money. The productivity of both depends on how they are used and, therefore, on who is doing the using. This provides a further instructive insight into money illusion.

The confiscation of land from white farmers beginning in 2000 (euphemistically called land reform), and its gifting to cronies of the ruling party, resulted in a catastrophic decline in agricultural production. The redistribution of fallow land from the rich to the poor, like the redistribution of monetary wealth, is effectively a species of tokenism. Generally the rich, who have earned it and know what to do with it, use land and money productively. Capricious redistribution leads to waste and to inflation. In Zimbabwe, the government tried to make up for decreasing revenue, as production plummeted, by printing money; hence the hyperinflation. 

At its core the problem is an inability to understand how we become prosperous. A disconnection is in play which seems to allow many people and certainly mobs (and more generally those on the Left) only discrete snapshots of economic reality. The factories producing goods and the rich owners getting richer are seen as separate disconnected events. In this kaleidoscope reality, the rich owners can have their monetary wealth confiscated and the factories will remain as productive as ever. They won’t. When they are allowed to keep it, the monetary wealth of the rich owners is most likely to be used productively to reinvest in the factories or to support other productive ventures. In the hands of government it will likely be spent on wasteful schemes or on yet more debilitating entitlements; and in the hands of the populace on baubles of one kind or another. This monetary wealth, productive in the hands of rich, is illusory wealth for those who would confiscate it.

Most mature people of common sense have no difficulty in seeing through one form of money illusion; the form that takes effect when a penurious government makes money willy-nilly, without backing, to pay its bills. In fact, however, the two forms of money illusion come to the same thing. Effectively taking money from the rich and spreading it about is equivalent to the government printing money and dropping it from helicopters—issuing copious assignats or marks or Zimbabwean dollars. There is no essential difference. The paper money freed into circulation has nothing to back it.

Of course a little bit of either kind of money creation does no material harm. But if you really want to get into it and spread the billions, hang on for the inflationary ride and economic stagnation. Bits of paper, registers and records can be produced at will with no effort to speak of. Physical assets and goods require a whole heap of effort to produce. Only relatively few of us know how and have the drive and spirit to get the job done. These people, and those in strategically important positions to help them, get rich rewards if they are successful. The two—getting the job done successfully and rich rewards—are connected. Along the way do some people sometimes gain untoward and undeserved reward? Yes, they usually do. Is this a price worth paying? Ask the Zimbabweans.

Peter Smith’s new book Bad Economics: Pestilent Economists, Profligate Governments, Debt, Dependency & Despair will be published by Connor Court on June 4.

0 comments
Post a comment