Cord of wood explains Capitalism
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A friend just loaned me a brilliant book called A Bubble That Broke the World by Garet Garrett (the pen name of Edward Peter Garrett, who between 1922 and 1942 was the chief economics writer for The Saturday Evening Post, and later its chief editorial writer.) The book, long out of print, was published in June 1932 after the Wall Street Crash and at the beginning of the Great Depression.
Garrett, a free market thinker, said the crash could be explained by speculation in unproductive enterprises and bonds (engraved paper which did not represent productivity but merely a means for governments to raise funds for unproductive projects).
He likened the Pharoahs building Pyramids to what we know today as "stimulus" spending. Funds are used to build public works but, he contended, there was no investment to make an economy grow because, once built, the Pyramid sat unproductive as a monument to the government's "public works" and there was no economic growth beyond that. And, once built, the public works provided no continuing employment for the labor unless the Pharoah kept paying them for no work.
Investment in things which increase in value, on the other hand, make an economy grow, he wrote.
He used a cord of wood as an example, although any commodity could be used for the explanation. As we understand a cord of wood here, I thought it worth sharing.
He said one could cut a cord of wood and store it for personal use. One could exchange it with a neighbor for something else one needs, a form of crude barter. Or, one could sell it for money. If one hoarded the money, he had the equivalent of one cord of wood but no increase in value.
But, he wrote, if one took the money to a bank and left it at interest, the value of the cord of wood increased.
Then, he wrote, another industrious man might borrow the money from the bank in order to buy tools to cut more wood. The value of the original cord of wood is thus increased in the form of investment in productivity and economic growth.
With the tools, he wrote, the industrious man might cut three cords of wood, keeping one for his own use and selling the other two. He takes the proceeds and pays off the bank for the money borrowed for the tools and puts the rest of the money in savings at interest which gives the bank more money to invest in loans to other productive enterprises which would grow in value and provide productive jobs.
He wrote:
Now the bank has two cords of wood where there was but one before - not the cordwood itself, not the labor itself, but the money agent of labor; besides which are the tools still in the man's hands. All this from one surplus cord of wood to begin with. Thus we accumulate wealth, and there is no limit to it, provided the labor is not lost.
In making his case, Garrett wrote that money has no value or power in itself, only it what it represents in productivity.
That is an easy-to-understand way to explain the benefits of capitalism to an economically illiterate universe.
Editor's Note: This book is back in print. Amazon.com has it in ebook, hardcover, paperback versions. Here's a link:
Read Garrett's book if you can find it! In 1932 he lambasted The Fed. He contended that it contributed to the Crash and the subsequent Depression by diverting funds from smaller banks in order to pool money for big Wall Street banks to issue bonds and securities in loans to government. He noted that after World War I, Germany owed western nations for reparations and The Fed acted as the catalyst for New York banks to lend money in the form of bond purchases so that Germany had funds to pay the reparations.
He noted that England, France and other countries financed the war with debt obligations to the United States and then The Fed organized bond sales for those governments which, in essence, borrowed American money to raise funds to pay back the original American loans. He said this caused the spiral of growing government deficits and debt.
Garrett, writing in 1932, on The Federal Reserve System:
But...the credit resources of the old underlying national bank system and of the forty-eight separate state banking systems, hiterto employed to finance business through its seasons and cycles, were very largely released for whatever they might be. Purposes of investment, promotion and speculation.
He contends that the creation of The Fed was the beginning of the downward spiral of deficit spending and indebtedness. He notes that the formerly frugal banking system set up reserves; however, once The Fed introduced amalgamation of banks and globalization there was a frenzy to lend "surplus" credit rather than to save it. By 1930, Wall Street banks were lending $10 for every $1 in reserve. He says the bankers were lulled into complacency by the Federal Reserve System. But, as shown in the bank run, the economy crashes when everyone comes at the same time to withdraw what is rightfully theirs only to discover that the bank does not really have enough assets to back its obligations. Then, The Fed simply printed money which Garrett says had only real value as the paper and the ink to etch the imprinting on it because it was not backed by species inventory or productive income-growth investment loans.
Fast forward to 2012, and the only thing missing (at this point in time), are the lines outside the banks.
Amazon has it in stock HC $29.99 or Kindle .99. Use Scott's link, if you're so inclined.
I've never owned the book but I've seen it referenced quite a bit in libertarian banking or FED bashing discussions. It's good stuff.
Just read good interview with Steve Forbes that covers a lot of the common sense trueisms you mention from this book. Here is a link:
http://www.heraresearch.com/images/HRN_20120706_Part_03_Interview_Steve_...
THANK YOU FOR POSTING this Forbes interview. Good stuff!
Another failure of the George W. Bush administration was not appointing Forbes to a Cabinet or major White House position. But would he have taken Forbes monetary advice or even have read his reports?
Currently reading Niall Ferguson's Civilization (which is brilliant even if it is a bit herky-jerky). He says, "though the US economy seemed to be imploding, the principal cause was the disastrous monetary policy adopted by the (Fed), which half wrecked the banking system......(Capitalism) was merely the victim of bad management, and the uncertainty that followed from it......The real culprits were the central bankers who had first inflated a stock-exchange bubble with excessively lax monetary policy and then proceded to tighten after the bubble had burst".
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Good post, Vic. The current situation is that the fed is creating trillions of dollars out of nothing. This decreases the value of the dollars we have in circulation. There is a commercial on TV now that asks the question; "If you had $100,000 to invest for five years, what would you do? Would you put it in the bank for five years at essentially zero percent interest with a declining dollar value? Would you buy real estate and pay taxes on that every year? Or, would you buy gold and still have the real value after five years? Think about that."
The fed is the gorilla in the room, but they have never even been audited.