What is clear, in anytime, is that our options with debt are simple. As the clip states, “There are only two answers—repudiate our enormous debt—and be the disgrace of the world. Or pay off the debt and be self-respected again.” But there is another option missing here, which seems to be the route taken by our government over the years, namely, to maintain the debt in perpetuity. This latter option seems to be politically popular because citizens, shockingly, don’t like tax increases and politicians and bureaucrats don’t like to reduce spending. This realization should, however, make such a crisis a perfect time to stand up for principles in order to force the system to real change.

Where should the classical liberal stand on such issue? Clearly, maintaining the debt is out of the question; we cannot keep spending more than we take in, as it is simply not sustainable. So, instead the classical liberal is left with the options to either repudiate or pay the debt back. What to actually do is a big debate even amongst classical liberals. Today’s document clearly makes a brief case for the need to pay the debt back but others have made the case for repudiation (see here). There are, of course, cases to be made for both.

The case for repudiation stands on the desire to reduce the power and size of government. The disgrace of repudiating the debt would fall on our government, drastically reducing the government’s ability to continue such spending behavior. Historically, repudiation brought a widening circle of benefits. Governments became wary of investing and spending money, and investors were cautious in dealing with government borrowing. Negative consequences to repudiation certainly exist but tend to be short lived as the market, if allowed to operate, would sort these out relatively quickly.

Repudiation, however, could be called a breach of contract and therefore unjust. But if we wish to pay back the debt we have two options. The first is to increase taxation and the second is to cut spending. Certainly we could achieve this through a mix of the two but the former is inconsistent with classical liberalism. Why? Taxation is coercive and the tax money is being taken from individuals who have a legitimate claim over the money. Cutting spending, however, is a perfectly consistent, albeit difficult, means of paying back the debt.

Both options have their problems, as they are both politically infeasible. Public choice issues stand as a roadblock for achieving either. This, however, makes now the perfect time to stand up for radical position and force a real change to the system. True change must come from standing up for what is right not popular and not backing down because it is difficult.

What do you think? Would you choose to pay back or to repudiate the debt? Or would you choose a different option altogether?

Download “Is America bankrupt?” here.

In today’s document, a letter from John Maynard Keynes to Henry Hazlitt dated September 17, 1931, Keynes reluctantly declines Hazlitt’s offer to participate in a series of articles entitled “If I were dictator.” Hazlitt’s project seems to never have come to fruition (though it is possible I was simply unable to find it). Still, what would it have been like with Lord Keynes as dictator? Despite the fact that, at the time of this letter, Keynes had yet to publish his General Theory, a book Hazlitt himself spent much effort attacking, the idea of dictator Keynes would raise many eyebrows.

In spite of the positions Keynes took throughout his career, the widespread view in academia is that Keynes was a model classical liberal, who many profess to be the “savior” of capitalism. Keynes even viewed himself as a defender of a free society. How he differed from most classical liberals was a result of him trying to update the essential liberal principles to the more modern economic conditions.

Still, many may find it difficult to square this with many of his strange beliefs. In 1933 he endorsed, though with reservations, the social “experiments” of the 1930s of Germany, Italy, and Russia. In the introduction to the General Theory he admits his approach to economic policy is better suited to a totalitarian state, such as the one run by the Nazis. He said the Soviet Union was a book “which every serious citizen will do well to look into.” And Keynes’s new economics presented in the General Theory gave the state more control over the economy.

If it were up to me I would certainly not want to see the dictatorship of Lord Keynes. He was far from a “model” classical liberal, in fact he was a statist, a defender of mercantilist ideas, and apparently had a little too much sympathy for some of the 20^th centuries most ruthless regimes. Keynes was undoubtedly a brilliant man but in the battle of ideas of the 20^th century a true classical liberal would have to say F. A. Hayek was right and Keynes was wrong. Still, it is a shame Keynes had to turn down Hazlitt’s invitation to participate because at the very least what he had to say would have definitely been interesting.

Download the September 17, 1931 Letter from J.M. Keynes to Henry Hazlitt here.

Yes, the Federal Reserve and the Obama administration have pulled us “back from the brink” — the title of a new paper by Christina Romer, who leads the Council of Economic Advisers. She argues convincingly that expansionary policy saved us from a possible replay of the Great Depression.

But while not having another depression is a good thing, all indications are that unless the government does much more than is currently planned to help the economy recover, the job market — a market in which there are currently six times as many people seeking work as there are jobs on offer — will remain terrible for years to come.

As if on cue, the Times editorialized two days later:

If successful, ambitious goals like health care reform and energy legislation may generate jobs, but officials have not persuasively linked them to job growth. Congress and the administration also have not done enough to directly create jobs. That could be done with more stimulus to spur job creation, or a large federal jobs program, or tax credits for hiring, or all three.

The truth is elsewhere. First and most important, the economy continues to shed jobs more than two years into the recession because government has increased the burdens private firms and individuals must bear. From tax increases to a gaggle of new rules and regulations to the bailouts, government has done nearly everything it should not be doing if it wants a real recovery to take place.

Second, it is clear that the politicians in Washington are just getting started. From the appointment of numerous “czars” over different sectors of the economy to the “ambitious” plans for remaking medical care and imposing huge new environmental burdens, it is clear that President Obama and Congress believe that the economic downturn is an excuse for an upturn of State control of our lives.

If there is any “recovery,” it is a false recovery, one based not on any tangible economic progress but rather on financial trickery and printing money. Our “recovery” is a fraud perpetrated by Washington and its Amen Chorus in elite higher education and the mainstream media.

For the U.S. economy to have a real recovery, the economy first must shed the huge number of malinvestments that piled up like garbage on New York streets during the last unsustainable boom. Unfortunately, as the economy dumps these failed investments, that means people who were employed in those areas also lose their jobs, which simply is unacceptable to the political classes.

Had the Bush and Obama administrations left the economy alone, those malinvestments would have been shed quickly and the economy now would be moving toward a real recovery that could be sustained over time, employing new people in those sectors. Alas, the political classes believe that “inactivity” is anathema, so Bush and Obama engineered hundreds of billions of dollars of “bailouts,” which have served to prop up whole sectors of failing enterprises.

What does that mean, economically speaking? It means that instead of being directed into those sectors that could have grown without aid from the government, resources are being shoveled into the economic equivalents of bottomless pits. Americans are forced to prop up domestic automakers that are bankrupt, keep zombie financial institutions going on life-supports, engage in energy policies that literally destroy wealth and produce less energy, and to be taxed even more so government can destroy the part of the medical sector it has not already ruined.

In other words, Americans in productive entities are being forced to give up a large chunk of their own wealth o prop up firms and institutions that might be bankrupt but also are politically connected. While the New York Times and its elite economists in tow might claim the government needs to continue this course with another “stimulus,” commonsense economics is telling us that this is a policy that benefits the political classes and their allies and no one else.

Has any group of professionals ever been so spectacularly wrong? Pre-Copernican astronomers and cosmologists, I suppose, and for the same reason, really: They had an entire, internally consistent, theoretically rich system that described the universe. They were wrong — the sun and other celestial bodies save the moon didn’t actually revolve around the Earth, as they insisted — but no matter. It was a thing of beauty, their cosmic order. A vast faith was sustained in part by their pseudo-science, a faith from which such free thinkers as Galileo deviated at their own risk.

As it was with the pre- (or anti-) Copernicans, so it is with today’s mainstream economists. Theirs is an elegant system, a thing of beauty in itself…. It just fails to jell with reality. And unlike the pre-Copernicans… their latter-day equivalents in the economic profession pose a clear and present danger to the well-being of damned near everyone.

Meyerson elaborates on the problems with the mainstream:

[It] is not simply that it failed to predict the near-collapse of the world financial system last year. The problem is that it believed such a collapse could not happen, that all risk could be quantified by mathematical models and that these quantifications could help us correctly price just about everything. Out of this belief arose the banks’ practice of securitization, which put a value on all manner of mortgages and enabled buyers to purchase and swap them with the certainty that such transactions reflected an accurate judgment of the value of the properties and the risks associated with them.

Except, they didn’t. So long as economists insisted that they did, however, there really was no need to study such things as bubbles… Under mainstream economic theory, which held that everything was correctly priced, bubbles simply couldn’t exist.

Judging by these excerpts, you might suspect that Meyerson would have some sympathy toward Austrian economics. His characterization of mainstream economics could easily have come from an Austrian. But I admit I left some things out. Alas, Meyerson isn’t an Austrian. Nor has he any sympathy with the free market. In fact, he curiously labels mainstream economists, pejoratively, as “free market” economists, though he conflates two separable, indeed conflicting, things: belief in the virtues of the market and fascination with mathematical modeling. (To speak strictly, Austrian economics is not free-market economics. It is a particular, value-free approach to the discipline. It requires a moral judgment, which no economic theory can supply, to pronounce the market process, as described by the Austrians, good. To be sure, if one values freedom and prosperity, Austrian economics will be attractive and promising, though of course that is not the test of its validity.)

Meyerson reveals his leanings at the top of the column: “‘The worldly philosophers’ was economist Robert Heilbroner’s term for such great economic thinkers as Adam Smith, Karl Marx, John Maynard Keynes and Joseph Schumpeter. Today’s free-market economists, by contrast, aren’t merely not philosophers. They’re not even worldly.”

The mainstream economists he has in mind are those “at least with the purer strain of free-market economics associated with the University of Chicago.” Despite the financial turmoil they still have not learned their lesson, he says. “The quants at the banking houses say that they simply failed to sufficiently factor some risks into their mathematical models. Once they do, their system will be corrected, and banks can resume their campaign to securitize everything (as some banks are already doing by establishing a secondary market in life insurance policies).”

Then he tips his hand fully: “The one economist who has emerged from the current troubles with his reputation not only intact but enhanced is, of course, Keynes.” (That’s too big a topic to address here.)

Uncertainty and Risk

Interestingly from an Austrian perspective, part of what Meyerson likes about Keynes is his grasp “that an uncertainty attends human affairs that transcends quantifiable risk.” Any Austrian can say something similar. Austrians eschew mathematical economics precisely because human action doesn’t fit into equations and the knowledge presumed by mathematical modeling is denied real human beings.

People are not molecules or planets or rats or bloodless calculators reacting to outside forces or instinct. They are entrepreneurial actors who form preferences and plans based on expectations about the uncertain future, none of which can be quantified. Moreover, these factors manifested in action are not fixed and known in advance; people don’t behave according to predetermined utility functions or indifference curves. Plans and preferences emerge when people choose among alternatives in the hustle and bustle of life, and can change unexpectedly and unpredictably as new situations arise (that is, as other people do unanticipated things.) Value preferences are subjective ordinal rankings of utility, or satisfaction, lacking a unit to which cardinal numbers can be attached and manipulated mathematically. Real costs are subjective utilities forgone and thus unobservable to outsiders. There are no constant quantitative laws in human action, according to which, say, doubling the price of commodity guarantees a predictable quantitative response.

In other words, as the preeminent Austrian economist  Ludwig von Mises asked, “How can economic action that always consists of preferring and setting aside, that is, of making unequal valuations, be transformed into equal valuations, and the use of equations?”

In short, Austrians — Mises, Hayek, Rothbard, Kirzner, and those who have followed — stand second to none in rejecting scientism, the application of the methods of the physical sciences to the social “sciences.” They have relentlessly critiqued the mainstream’s out-of-touch preoccupation with mathematically describing the Neverland of general equilibrium, while ignoring real-world entrepreneurial action under uncertainty. No wonder Austrian economics has often been dismissed by the mainstream for rejecting the mathematicization that Meyerson properly ridicules.

Unfortunately, Meyerson seems oblivious of the Austrian school. If that were not the case, he would not imply that only the Keynesians are skeptical about neat mathematical models that claim to account for all eventualities. Nor would he identify the free market only with the Chicago school. He’d know that the Austrians were not among those economists who were “spectacularly wrong” as the financial fiasco approached. (It is surely inaccurate to say that all Chicago economists were unconcerned.) And he’d know that many prominent mathematical economists dislike the free market.

Austrians have long opposed the Federal Reserve’s price-distorting power over banking and money, the government’s intervention in the market for housing finance, and the too-big-to-fail doctrine that licenses unjustifiable speculation and rescues failing firms from the consequences of their actions. (That’s the free market?) Therefore, Austrian economists were not surprised by the housing bubble or the miserable aftermath of its bursting. Indeed, they have longed warned of a crash.

Where Are Fannie and Freddie?

Meyerson, unsurprisingly, never mentions the Fed, Fannie Mae and Freddie Mac, or the other agents of intervention that set the economy up for recession and other system-wide failure. To him the culprits are irrational animal spirits, no doubt with a big dollop of greed. Since he is blind to government’s responsibility for the crisis, he can write, “Thus the state must ensure against periodic madness in the markets with regulations and social insurance, because madness is a potential threat in markets just as it is in other human endeavors — because the market is a human endeavor, not reducible to a mathematical construct.”

Since the State is a human endeavor, too, why should we assume that government officials, who are plagued by ignorance, political incentives, and the lack of feedback, are immune to the “psychology” that Meyerson says the mainstream economists leave out of their models? Where is his rebuttal of the mountain of evidence that regulation and social insurance (such as federal deposit insurance) create “madness” through the construction of perverse incentives and moral hazard?

The mathematical economists might have been too busy with their models to notice that in the real world intervention was, and remains, rampant. Meyerson dislikes some of the right things. But his ignorance of Austrian economics keeps him from seeing the full picture. The free market didn’t fail — because there was no free market.

For the past 30 years, we’ve been told that government spending is bad, and conservative opposition to fiscal stimulus (which might make people think better of government) has been bitter and unrelenting even in the face of the worst slump since the Great Depression. Predictably, then, Republicans — and some Democrats — have treated any bad news as evidence of failure, rather than as a reason to make the policy stronger.

In dealing with the crude analysis that accompanies such Keynesian thinking, I use Krugman’s columns because he is the most popular exponent of that viewpoint. If one wishes to learn Keynesianism, read Krugman’s columns.

The Keynesian economic “theology” holds that only spending matters. Keynesians believe that it does not matter who does the spending, although it is preferable for government to do it, since politicians love to buy votes with other people’s money.

A recent quote in a Krugman column demonstrates this point. He claims that since private borrowing is down, even with the government’s current rapid accumulation of debt, overall borrowing is less than what it was during the boom. Thus he concludes the overt worrying of some over the massive increase in government debt is just another tale of woe from the “economic Cassandras.”

In other words, Krugman does not differentiate between private and government borrowing, even though business borrowing mainly is done for capital investment and government borrowing is done so governments can spend more than they take in with taxes. Keynesians seem to believe that the only benefit business borrowing provides is the spending that takes place, so if government does the borrowing and spending instead, then all the better.

Now to deal with the quote from Krugman’s column. Austrian economists do not respond negatively to what Krugman says because we “hate” government for “ideological” reasons (even though most of us look askance at government and its coercive ways), but rather because we understand the differences between private and government spending. They are not mirror images of each other, no matter what Krugman says.

In the Keynesian viewpoint, all assets and all capital are homogeneous. It does not matter if one spends money on a “bridge to nowhere” or invests in a new line of production; what is important is that money is spent.

Furthermore, in Keynesian thinking, as long as there are “idle resources,” then government spending — if it is enough and enough money is printed — ultimately can result in “full employment” of those resources. Why those resources might be idle in the first place is not up for discussion; the important thing is that government “stimulates” enough spending to put those resources back to work.

This is short-sighted and crude analysis. In the real world, capital matters, for it is in the development of capital that we make workers more productive, thus increasing individual wealth and the overall standard of living in a society. Capital spending is not just money dropped from a helicopter; it is undertaken for a specific productive purpose.

Austrians hold that typical Fed-created credit booms are not sustainable and that when once-productive assets become idle in the downturn, it is because the capital was malinvested. Granted, to understand the entire concept of malinvestment, one must be able to differentiate between the kinds of capital investment that can be sustained and what will have to be abandoned. Keynesians, unfortunately, have decided to ignore that kind of thinking or unilaterally to declare it “discredited.”

Yet when one applies simple logic, it is not hard to see which set of economic ideas should be discredited, and it is not the Austrian theory.