the law perverted

With the many stimulus packages floating around in US markets, perhaps it might be useful to discuss briefly the topic of capital.  I think it is useful because most of us not only do not have a good understanding of economics or money but “capital” especially is misunderstood.  I know because until I began my own personal investigations within the past 10 years, I had never even contemplated the ideal of capital.  I am, of course, referring to the idea of money as capital.

It helps to begin with a primitive system.  By primitive, I mean a system or market in which there is little specialization.  In such a market, a person or a family is primarily self supporting.  There may be some bartering but mostly a family or a small group of families provide for themselves.  This is difficult work and it presents difficulties in getting ahead.  In such a system, all the effort expended goes into producing those items essential for survival.  Such things as food, clothing and housing are the most important production items.  In essence, everything produced is consumed and nothing or very little is saved for the rainy day so to speak.

But eventually, one or more of the people in this primitive society realize that life could be easier if somehow the group managed to save some of the current production.  Food might have been the first item that a thinking human might decide is most important to save.   In a farming community, the winter months would provide little food and so saving some of the harvest was actually essential for survival over the winter months.  Even a hunter/gather community would have recognized that certain times of the year were more productive than others in terms of food production.

As the idea of saving developed, these primitive societies (markets) or rather some members of them realized that not only would the saved goods help carry them through the leaner times of the year but they could be used to help them spend time on making “secondary” items.  By secondary I mean tools of various kinds that could be used to help speed up the basic production process or allow more of any given item to be produced.

As you are reading this, you can or perhaps even are applying this to our current situation.  Our markets and societies are quite specialized.  Individuals are trained for very specific tasks.  In fact most of us have nothing to do with food production or the clothing industry or the construction industry.  But the items we need for food, clothing and housing are all relatively available in our markets.  Actually the specialization which makes this possible is more related to the topic of money than to capital and this topic (money) will be covered on another day.  But the point here is that those  secondary tools mentioned earlier along with the concept of saving some part of each day’s production constitutes “capital.”

So the very first aspect of capital is the original production of goods required for survival.  The second aspect is saving some part of that which is produced.  And the third is using the savings to produce secondary tools or equipment or methods that will either speed up the production process or allow more of a specified product to be produced in a give time period.

Two principle ideas come to mind when one considers this idea of capital.  The first is that the concept of capital is cumulative.  Issac Newton is famous for saying something to the effect “If I have seen further than others, it is because I have stood on the shoulders of giants.”  In other words, many of his predecessors produced information which allowed his fertile mind to use and manipulate in ways that had not been possible previously.  He said in effect, yes I am brilliant but if the prior ground work had not been done, I would have been quite limited in what I could have accomplished by myself.  In the same way, almost everything that is available to us today was made possible by the investments of our predecessors over the centuries.  The simple fact is that all those who were willing to use less than they produced so that time and energy could be spent in producing capital resources have made our current world possible.  In fact, we owe a debt of gratitude to all of our ancestors who were willing to consume less than they produced.

The second principle is that production must precede the development of capital.  Without production, there is no potential to save and without saving there is no capital.  So my point in this short essay has been that the idea of a stimulus package is bogus.  Again, we have not discussed the concept of money.  If we had the concept of money firmly in mind, it would make it even more clear that any stimulus must come from production first. In each of the stimulus packages, nothing was produced other than money.  Money was simply created from nothing and inserted into the market.  Nothing was produced before the money was created.  All the stimulus money does is to produce a greater demand for the existing products on the market which simply means higher prices than would otherwise exist.

But there is one more idea concerning capital which must be discussed.  After our ancestors (and we) have used time, energy and savings on capital goods (secondary tools) we recognize that these items will wear out over time as we use them to produce the things we desire either faster or in greater quantity than would be possible without them.  Thus we continually save so we can invest in both the up keep of the secondary tools or eventually to replace those tools when they either wear out or become too antiquated to be useful as the modern markets continue to develop.  Again, we are back at the production level.  It always comes first.  Second we must have savings–that is we must consume less than we produce.  It is only in savings that we will have the capacity to not just expand our current inventory of secondary goods but we need to maintain and replace those goods we are currently using.  Every businessman involved in producing goods understands this and more or less implements this by using some of his company’s profits to repair or replace equipment.

Unfortunately, as a society, we seem not to understand this concept.  That is, first we must produce, second we must consume less than we produce and third we must use at least some of those savings to repair and replace existing secondary (capital) goods.  When I was a child in the 1940’s and 1950’s, the United States economy was based on production.  Some 60 to 70 percent of our economy was production based which led to saving and to investing in capital goods.  Today, less than 10% of the US economy is production based.  Not surprisingly, the savings rate in this country has hovered around zero for at least the past decade.   By savings rate, I mean the percentage amount of disposable income that the average family saves.  Interestingly, in China, the average savings rate of disposable income is in the range of 30%.  Even more interesting is the fact that China is buying our Treasury notes and bonds. In effect, we are consuming the savings of the average Chinese citizen so we can continue (as a society) to consume more than we produce.

What does all of this mean.  Quite simply, we are not investing in our future by maintaining and replacing our capital goods.  Instead we have become a consumption based economy.  We are actually consuming more than we produce which means that our “capital” is being diminished.  Thus our capacity to pass on to our heirs the goods and services we currently have will be reduced.  If we provide this kind of lesson to our children and grandchildren, then they also will learn to consume more than they produce.  You can see where this leads.

Economic stimulus in the form of money produced from nothing is totally bogus.  It is a farce.  It’s more than a farce because it helps to blind us to reality which means less goods and services in the future.