Money makes the world go round
Money has two functions: It is a means of exchange for trades between one party wanting to sell and another to buy. It also helps to make price and value comparable. The second function is as a way of storing value between two trades, writes Prince Michael of Liechtenstein.
The financial system therefore has two functions - as a payment system and to collect short or long-term money for ‘storage’ and to use these funds in the economy as equity or loans.
Money and the financial system are therefore an equally essential part of the economic and social infrastructure as energy, transport, education, legal and planning security, a functioning labour market and so on. A successful economy needs good infrastructure and free markets for a flourishing trade, enhanced by competition and entrepreneurs with vision and the courage to take calculated risks. All these factors are necessary ingredients for success.
The role of money appears to be overvalued today. It obviously should not be neglected, but it seems that Liza Minnelli’s song ‘Money makes the world go round’ from the film version of the Broadway musical ‘Cabaret’ has become today’s essential belief among politicians, economists, the media and monetary policymakers such as central bankers.
The Federal Reserve, the central bank of the US, and the European Central Bank (ECB) have been following an expansionary monetary policy for a long time. This has been achieved by constantly reducing interest rates to make the price of money artificially low. The policy should drive demand or consumption and stimulate the economy.
This is not, however, a demand based on money earned but on increasing debt. It means you can buy more without having to earn more money. Governments and private households indulged in this consumption mania.
Private people borrowed to go on a spending spree and governments increased spending to please their different clienteles. The result has been little growth in the economy, a staggering increase in sovereign debt and an enormous increase in debt among private households in the US. Asset bubbles are another logical consequence.
The policies of easy money and government overspending were the underlying reason for the financial crisis. But there is also an economic crisis and high unemployment in many countries. Policymakers are trying the same remedy again. They believe only cheap money will stimulate the economy.
Central banks are even ready to cut interest rates to zero or negative - undermining the money of those who are saving. The theory is that low interest rates support growth resulting in more jobs and that a more competitive labour market would increase wages and salaries.
It also means that real reforms - which could be unpopular and change political power structures - can be avoided. Reforms leading to more efficient and fewer regulations are needed to reduce the state’s control of the economy in favour of business. Competition, entrepreneurship and innovation need stimulating by fewer but clearer rules.
Would normal thinking people hire management and advisors with a track record of bankruptcies to run their business if they had not altered their management style? That is unlikely. The paradox is that the same doctrines and the same kind of people - leading policymakers, some leading economists and some central bankers - are still applying the same techniques which created today’s financial mess.
It is devastating that they are engaged in a witch-hunt to disguise their staggering failure. Germany is being blamed because it is saving too much. This is unfair. The Germans are using their savings to co-finance the debt of other economies.
Paying high taxes and supporting an oversized public system has become one of the main duties of business and the citizen. Even legal tax-planning is considered inappropriate, as seen with the Starbucks case.
Savers are being punished by interest rates which are lower than inflation and there are plans to confiscate some of the savings to benefit public debt, as suggested by the head of the IMF and the German Bundesbank.
This situation is a recipe for disaster.
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