When good decisions are no longer possible, bad decisions are inevitable.
If we had to summarize the response of the Federal government and the Federal Reserve to the structural financial crisis of 2008-2009, we could say that both institutions went all-in to obscure the real price of credit and capital.
The real cost of credit and capital is discovered by open, transparent markets. When a central bank sets the price of credit, it destroys the market’s price-discovery process. When the government subsidizes certain types of credit, for example, home mortgages and “cash for clunkers” auto loans, it destroys the market’s price-discovery process.
This distorts not just the price of credit, but the price of everything purchased with credit. This is the origin of bubbles, and of the resulting busts.
The state and central bank manipulate the price of money (credit and capital) to incentivize decisions that the state and bank want people to make. The state and central bank want people to consume more to prop up a dysfunctional economy, and since most people don’t have the cash to consumer more, the state and Federal Reserve want people to go further into debt, as this is the only way people can buy more stuff.
These institutions are terrified of recession (translation: a reason for people to vote out the ruling party of bought-and-paid-for toadies) and the creative destruction of unfettered capitalism, which eventually wipes out leveraged speculation and all those who indulge in such risky gambles–for example, all the banker and financier cronies that the Fed protects.
When the real price of anything is subsidized, manipulated or obscured, people lack the information needed to make good decisions. Lacking the information of the real price, they can only make bad decisions. There is no way to make good decisions when the information is incomplete or misleading.
When a commodity–for example, water–is collected and piped at great expense to farms and cities and then given to consumers at a subsidized price well below the actual systemic costs of collection, purification and delivery, then the water is squandered, for it is priced as if it were forever free and abundant.
When credit (capital) is priced at near-zero by the central bank, people squander the “free money” on mal-investments and risky speculations. This is the rational response to anything that is nearly free and abundant; why bother conserving it or using it wisely?
Having access to nearly free money from the Fed is the equivalent of having no skin in the game. If you lose a speculative bet, just borrow more from the Fed. Since it costs almost nothing to borrow enormous sums, There is no need to put any real capital (i.e. your own money) at risk. And with no skin in the game, then there’s no upper limit on leverage or risk: the money is nearly free, and the gains (if any) are yours to keep.
Obscuring the true price via subsidies or manipulation necessarily leads to bad decisions. And what are the consequences of serial bad decisions? Disaster.
This dynamic–that obscuring the real price necessarily leads to bad decisions–is scale-invariant. If a parent gives a child false price information or subsidizes the cost of a choice, the child cannot make good decisions based on the distorted data: their only choice is a spectrum of bad decisions.
The same is true of households, communities, enterprises, states and nations.
As a result of policies that explicitly distort the price of credit and capital, we are making bad decisions as individuals and as a nation. If the real cost of credit/capital is 7%, then the only way to make good decisions is to begin with the price of money being 7%. Lowering the price to 0% generates bad decisions.
When good decisions have been precluded by distorting the price of everything, only bad decisions are possible. If you wonder why the Status Quo is well and truly doomed, you can start with this: good decisions are impossible, and so bad decisions are inevitable.
Charles Hugh Smith – Of Two Minds