The destruction of wealth

The news was good yesterday. Investors heard that Europe had its problems under control. Then, Obama told them that he was going to give the economy a jolt. In the UK, the Bank of England announced more QE.

Investors breathed a little easier. The feds were on the case.

The Dow rose 183 points. The FTSE went up 189. Meanwhile, bonds went down, with the yield on the ten-year note rising to almost 2%. Oil rose too, and ended the day trading over $80. Even gold went up – $11.

Here’s the New York Times’ report on Obama’s press conference:

In perhaps his most sober remarks about the economy this year, President Obama on Thursday described the weakening economy as “an emergency” and made the case for his jobs bill as “an insurance policy against a possible double-dip recession.”

“Our economy really needs a jolt right now,” Mr. Obama said… 

“This is not the time for the usual political gridlock,” the president added. “The problems Europe is having today could have a very real effect on our economy at a time when it’s already fragile.”

Mr Obama proposes to spend $447bn to reduce joblessness. He doesn’t have $447bn, of course. So the money has to come from elsewhere.

Remind us how that works. You take $447bn from people who are investing and spending so you can give to other people. Why? So they can invest and spend! We must be missing something.

Wait! Here it is, the NYT continues:

To allay the concerns of Senate Democrats, Mr. Obama said that he could support their proposal to pay for the jobs plan by imposing a 5.6 percent surtax on individual taxpayers’ income above $1 million.

Oh – that must be it. The millionaires don’t need the money. They don’t spend it. But don’t they invest it? Of course they do.

The Obama plan is just another redistribution scam. You take money from one group of people and you give it to another group. Corrupt, degenerate and ineffective, right? Wrong. It’s actually worse. Because government is a notoriously bad spender. It takes resources and wastes them. Its wars; its welfare programs; its prisons; its education; its subsidies and boondoggles – more often than not, these investments of capital are not just stupid and larcenous. They also destroy wealth. You put a dollar in. You get 50 cents back, if you’re lucky.

Federal spending on education has soared over the last 40 years. Guess how much higher test scores have gone. Go ahead, take a guess. Well – the answer is zero. Billions and billions invested. No return. Nada. Zilch.

You’re probably thinking – well, it may not pay off overall, but at least it pays for the student, right? Wrong. Guess how much the typical college graduate’s income has gone up in real terms over the last 40 years. Go ahead, take a guess. Zero! 

Or how about spending money to fight drugs? Guess how effective that has been. Never mind – you know the answer.

Or take spending on health care. The US spends far more on health care – both in terms of raw numbers and in terms of its GDP – than anywhere else. Compared to a nation such as Chile, for example, it spends more than twice as much. But do Americans live twice as long as Chileans? Nope. The Chileans live longer than Americans. What’s the rate of return on all those extra billions America spends? Zero.

Well, there’s always national defence and police protection. That’s where government knows what it is doing. “Political power comes out of the barrel of a gun,” said Mao. So they must know what they’re doing with guns, right?  That’s where we get our money’s worth – a good return on our investment, right? 

Are you kidding, dear reader? We spend about as much as the entire rest of the world combined. But are we safer? Not a bit. At home, our crime rates are as high as almost any other country you care to look at – even though we keep a far larger percentage of our population behind bars. As for being protected from terrorism, US military spending probably brings a negative return; terrorists are more likely to target Americans because the Pentagon sticks its nose into everybody’s business all over the planet.

In short, government spending kills capital. It makes a nation poorer. It doesn’t matter whether the money is taxed from the rich or from the poor, the result is the same. Resources – real things of real value – are destroyed, used up, consumed, with little or no pay back.

You ask: why is the US economy growing so slowly? Why can’t it recover? Why do we seem to lurch from one crisis to another?

Here’s an answer: because more and more of the economy’s resources are controlled – mismanaged and misallocated – by the government.

Some are directly misallocated – spent by the government itself.

Others are indirectly misallocated – tricked into bad investments by the Fed’s low interest rates, tax policies, regulations and subsidies. (For example, there has been an explosion in student debt since the crisis of ’07-’09 began – up 300%. The government invests in a lot more “education”. What is the return on investment?)

Result: the economy stalls. The middle class is gradually ruined. The empire stumbles toward its eventual collapse.

• “Five million dollars!?”

We couldn’t believe it.

“No, if this apartment were sold it would probably bring five million euros.”

We share a modest office on the Boulevard Raspail in a nice part of town, not far from Montparnasse station. It is in what used to be an apartment and is now used as offices. About 2,300 square feet in total.

“How is that possible? Who can afford to pay that much?” we wanted to know.

Europe may be on the edge of a nervous breakdown, or a banking collapse. But the restaurants are still full. Prices are still high. And the euro is still at $1.34.

Not only that, while prices of real estate fall in the US, they rise here. Go figure.

“Well, the French don’t trust banks or stocks,” explained our co-locataire. “So they tend to put money into property. People with money – no matter where they are from in France – like to have an apartment in Paris.”

The French know what can happen to paper assets. Many people remember when the ‘old franc’ was replaced by ‘new francs’ at a rate of 100 to 1. Old people still quote prices – occasionally – in terms of old francs, even though it has been gone for half a century.

And almost everyone remembers when the franc gave way to the euro a decade ago. It was supposed to be an even exchange; no one was supposed to lose money on the deal. But shoppers soon realised that prices had risen. Merchants rounded prices upwards, and then added on a few centimes for good measure.

Currencies come. Currencies go. You can’t trust them. So, people buy things they can trust. And an apartment in Paris is something you can trust. It may go up in price. It may go down. But it won’t go away. Not unless there is something much bigger to worry about!

• We have given up trying to follow the European debt crisis story. There are too many plots and subplots in too many languages; we can’t keep up with them. So, we turn to the New York Times for an update:

Despite the fact that economists and bank analysts now widely expect that Greece will have to default on its debt, no European leader will say so, at least for the record. Instead, the countries in the euro zone are continuing to act as if measures agreed to in July to shore up Greek finances, and that slow-moving European parliaments have yet to fully approve, are sufficient to contain the crisis…

… European leaders, especially in France and Germany, whose own banks are exposed, are reluctant to broach the inevitable. Why? Because they do not yet have in place a big pool of funds to ensure that an orderly Greek default does not lead markets to assume that the much larger economies of Spain and Italy will soon follow it into insolvency. And partly because they do not have the political will to commit those funds.

Ultimately, only the European Central Bank can intervene with the firepower necessary to set a floor under the price of the region’s sovereign debt. But its departing chairman, Jean-Claude Trichet, has ruled out the idea of the bank’s acting as the lender of last resort, even if it only guarantees the bond purchases of another fund, the European Financial Stability Facility.

Germany, the Dutch and the Finns, too, are against allowing the bank to make unlimited bond purchases from sovereign states.

The reluctance blocks even obvious moves, like marking down the value of Greek debt to something approaching the market price, which is now only 40 percent of its face value.

Europe may be on the rim of a volcano, but no one seems to care.

• We wonder why we bother to rent an office at all. When we are in Paris we spend much of our time working in cafés. Our current favourite is the Café Vavin, just a block from the office. Like Sartre in the Café de Flore, we buy a cup of coffee and sit for hours, happily working and observing. Sartre didn’t have a laptop computer. He wrote with pen and paper. Someone should have stopped him.

The Café Vavin is a pleasure. It is on a corner. We see people walking by in 4 directions. And then, when things are slow, the bartender opens his mouth and lets go with a baritone line from an Italian opera. But generally, there is a lively crowd at the bar, reading newspapers, chatting, laughing, drinking coffee. Later in the day they switch from coffee to beer and wine. But we are usually on our way home by then.

• Don’t miss Bill’s next Daily Reckoning. To receive the next article straight into your inbox as soon as he’s written it, sign up to the email list here .