• 287 days Will The ECB Continue To Hike Rates?
  • 287 days Forbes: Aramco Remains Largest Company In The Middle East
  • 289 days Caltech Scientists Succesfully Beam Back Solar Power From Space
  • 689 days Could Crypto Overtake Traditional Investment?
  • 694 days Americans Still Quitting Jobs At Record Pace
  • 696 days FinTech Startups Tapping VC Money for ‘Immigrant Banking’
  • 699 days Is The Dollar Too Strong?
  • 699 days Big Tech Disappoints Investors on Earnings Calls
  • 700 days Fear And Celebration On Twitter as Musk Takes The Reins
  • 701 days China Is Quietly Trying To Distance Itself From Russia
  • 702 days Tech and Internet Giants’ Earnings In Focus After Netflix’s Stinker
  • 706 days Crypto Investors Won Big In 2021
  • 706 days The ‘Metaverse’ Economy Could be Worth $13 Trillion By 2030
  • 707 days Food Prices Are Skyrocketing As Putin’s War Persists
  • 709 days Pentagon Resignations Illustrate Our ‘Commercial’ Defense Dilemma
  • 710 days US Banks Shrug off Nearly $15 Billion In Russian Write-Offs
  • 713 days Cannabis Stocks in Holding Pattern Despite Positive Momentum
  • 714 days Is Musk A Bastion Of Free Speech Or Will His Absolutist Stance Backfire?
  • 714 days Two ETFs That Could Hedge Against Extreme Market Volatility
  • 716 days Are NFTs About To Take Over Gaming?
Zombie Foreclosures On The Rise In The U.S.

Zombie Foreclosures On The Rise In The U.S.

During the quarter there were…

Trade In Counterfeit Goods Hits Half A Trillion Dollars

Trade In Counterfeit Goods Hits Half A Trillion Dollars

The counterfeit market has breached…

  1. Home
  2. Markets
  3. Other

The 'Escape Velocity' Myth

Making sense by replacing "despite" with "because of"

In February of 2009 we wrote that if the story unfolded as we expected then a lot of future economic commentary would begin with the word "despite", but that in most cases the commentary would be a lot closer to the truth if "despite" were replaced with "because of". Our 2009 assessment remains applicable in that most commentators still don't get it and still say "despite" when they should be saying "because of". For example:

1) Here's the way it is often put: "The US economy's recovery following the 2007-2009 recession has been much weaker than average DESPITE the most aggressive monetary stimulus in US history". Here's the way it should be put: "The US economy's recovery following the 2007-2009 recession has been much weaker than average BECAUSE OF the most aggressive monetary stimulus in US history".

2) Here's the way it is often put: "After showing a few signs of life in 2013, there is now evidence that Japan's economy has slipped back into recession DESPITE the Bank of Japan's dramatic quantitative easing program". Here's the way it should be put: "After showing a few signs of life in 2013, there is now evidence that Japan's economy has slipped back into recession BECAUSE OF the Bank of Japan's dramatic quantitative easing program".


The "Escape Velocity" Myth

A popular superstition in modern-day economics is that monetary stimulus (reducing interest rates and ramping up the money supply) can boost the rate of growth of a moribund economy to something called "escape velocity", which is the point where the growth becomes self-sustaining and the stimulus can be removed. Not to put too fine a point on it, this is just plain silly.

As good economists (a dying breed) have explained countless times over the decades and as we've explained in many TSI commentaries over the years, by pumping money into the economy and holding interest rates at an artificially low level the central bank makes it more difficult for the economy to achieve real, sustainable progress. This is because the central bank's actions generate false price signals, leading to ill-conceived investments and capital consumption (wastage). The policy will naturally lead to a burst of activity that could last for up to a few years as speculators of various stripes find ways to profit from the flood of cheap credit, but this amounts to gorging on the seed corn and sets the stage for a much weaker, not a stronger, economy down the track.

The damage caused by monetary stimulus usually only starts becoming obvious after the stimulus is removed or at least substantially reduced. What happens in most cases is that central bankers start to believe that the economy has reached the mythical "escape velocity" or that the stimulus is causing a "price inflation" problem, prompting them to reverse course. However, unbeknownst to the monetary manipulators, many of the activities (speculations, investments and businesses) that have sprung-up in response to years of easy money will not be economically viable in a world where the money supply grows more slowly and interest rates are closer to a level that provides a real return to savers. The attempt to remove the stimulus effectively shines a light on the mistakes of the past and leads to a liquidation process that will eventually be called a recession.

It is worth pointing out that the application of monetary stimulus in reaction to economic weakness will not necessarily prevent the economy from eventually returning to a genuine growth path; it just makes doing so more difficult. This is actually a case where it is appropriate to replace "because of" with "despite", in that it is not possible for an economy to recover because of monetary stimulus, but it is possible for an economy to recover despite monetary stimulus.

Finally, the extent to which monetary stimulus weakens an economy's foundations and gets in the way of real progress will generally be proportional to the aggressiveness of the stimulus. For example, during 2001-2005 the Fed implemented the most aggressive monetary stimulus in at least 50 years, so it was reasonable to expect that the eventual economic fallout would be the most severe in at least 50 years, which it was. And with the monetary stimulus of 2008-2013 having been even more aggressive than that of 2001-2005, it is reasonable to expect that the next economic downturn will be even more severe than that of 2007-2009.

Any economist, analyst or commentator who talks about an economy reaching "escape velocity" should therefore not be taken seriously.

 


We aren't offering a free trial subscription at this time, but free samples of our work (excerpts from our regular commentaries) can be viewed at: http://www.speculative-investor.com/new/freesamples.html

 

Back to homepage

Leave a comment

Leave a comment