Forum Post: What caused the economic crisis?

Regulation favors those who already have big market shares, and it functions to protect big business by rigging the rules of the game in their favor and limiting competition. If you look at the history of regulation, it is almost always initiated by the big players themselves to protect their profits and limit competition. This is not capitalism -- it is a merger of business and government, a.k.a. corporatism or crony capitalism.

All of the talk about more rules and regulations, blaming speculators, blaming short-sellers, blaming capitalism -- is all completely misguided. The housing market collapse -- just like the stock market collapse, the Great Depression, and the Panics of 1907, 1893, 1873, 1857, 1837, and 1819 -- all have the same roots: artificial credit expansion.

Interest rates reflect the demand for money, and function to coordinate production over time. When people save, they are indicating their time preference -- they are deferring spending to the future, which means they are consuming less in the present. More savings means lower demand for money, and therefore lower interest rates. This sends signals to investors to engage in long-term projects, for it is now less profitable to produce the same amount of goods in the present because people have indicated through savings that their time preference is longer, so long-term projects can be undertaken with the freed resources and the low rate of interest.

At least that is how a normal market functions. This stands is sharp contrast to what happens when credit is expanded artificially.

When money is created by the central bank or whatever entity is granted the monopoly privilege of money creation, this lowers interest rates artificially. The public has not saved more, and has not indicated that their time preference has changed. Long-term projects that would not have been undertaken in a normal market scenario now appear profitable -- but this is an illusion. All of these projects cannot possibly be completed because the necessary resources do not exist. As the years pass this becomes increasingly apparent, and projects that seemed profitable at the outset now cannot be completed profitably or at all.

Why do entrepreneurs -- defined by their ability to predict the future needs of consumers most accurately -- all of a sudden make the same mistake of investing in unprofitable long-term projects at the same time? Why is it that capital goods industries -- the ones farthest away from finished consumer goods, and the most interest-rate sensitive -- are the ones hit hardest in these economic downturns? The answer is because of artificial manipulation of the interest rate through inflationary monetary expansion. This sends false signals to investors and sets the economy on a unsustainable path.

America became the most prosperous nation in the world by erecting fewer obstacles to the operation of the market than other countries. We borrowed money to make capital investments and became the world’s leading manufacturer and exporter of high-quality, low-cost consumer goods -- while paying the highest wages to our workers. We repaid our debt by selling our goods to the rest of the world and became the world’s greatest creditor nation. By 1980, Americans owned more foreign assets than all other creditor nations combined.

Modern America is a much different place. We borrow money to import consumer goods, not to invest in productive capacity. We flood the world with our paper currency, not with our exports. We are no longer the world’s greatest creditor nation: we are the world’s greatest debtor nation, owing more than all other debtor nations combined.

This new state of affairs is not sustainable. We cannot continue to consume while other countries produce and to accumulate debt while other countries save. The recession we are experiencing now is not the problem -- it is the necessary correction to our previous excesses which were fueled by artificial credit expansion.

The government is running $1 trillion deficits per year, and financing the spending with the equivalent of an adjustable-rate mortgage. The Fed has created an enormous amount of new money, and we have barely begun to experience that inflation. The "stimulus" packages and the bailouts and the guarantees have done nothing except transfer wealth from Americans to select businesses, and delay any real correction. The economy is trying to free up resources and put them to a more productive use -- but the government won't let that happen. We can't spend ourselves rich, and central planners do not know better than the market economy, that is, all of us peacefully and voluntarily transacting with each other without a third party coercively interfering.

If we want to put the power back into the hands of the 99%, we need to eliminate the mechanisms through which we are stolen from: fiat money and central banking. END THE FED.