The welfare-warfare-regulatory-state model of socialism is the next model that will collapse. From Alasdair Macleod at goldmoney.com:
ocialism has moved on from the Marxist version of the state owning the means of production to one whereby production remains in the hands of individuals but are heavily regulated — echoing Mussolini’s fascist-socialist model.
But after nearly nine decades this model faces collapse, much like the Soviet collapse after sixty-seven years. This article explores the modern socialist model, updates the economic calculation problem identified by von Mises in 1920 and explains why it still fails in today’s socialism. And finally we predict the consequences for governments and their state-issued currencies.
It is presidential election year in the United States. The choice is between the Republican’s or the Democrat’s socialism, the former being a milder version of the latter. A further difference is President Trump’s administration increasingly pays the government’s bills by socialising money, while great-uncle Joe wants to tax the rich even more (which in practice means not the rich but the middle and lower classes) as well as defoliating the magic money tree.
In Britain, those of us who rejoiced at a free marketeer becoming Prime Minister with a strong electoral mandate have experienced a greater clampdown on personal freedom than imposed by any British government since post-war rationing. Admittedly, Covid-19 and its lockdowns were not foreseen, but will the British ever regain any of their hitherto restricted freedoms? And those of us with long memories are reflecting that the imposition of taxes — the socialising of our earnings — under the Conservatives is almost always more onerous than under Labour. It was not meant to be like that.
One way or the other, the establishment’s socialisation of our wealth, money and freedom “creeps in this petty pace day to day until the last syllable of recorded time”. Whether we like it or not, we are all socialists now. It is a fact of our lives, if not our inclinations. The destruction of our money and what wealth we have left is claimed to be for the common good, as opposed to capitalism, which the socialists tell us enriches the few and is deeply immoral. They, the socialists, have captured the moral high ground, leading us to their higher plain. They allege it is progress towards a better humanity. Their utopian view sees the end of social inequality as its final goal, and as Man progresses towards it the human race will discard capitalism and the class wars that go with it.
No longer should we define socialism by its post-Marxian objective, the acquisition by the state of the means of production and the ending of property ownership. The failure of the organising state to produce goods demanded by the consumer was fully exposed by the collapse of the USSR and the ending of the Chinese state’s monopoly on production. But that has not stopped socialism, which has simply evolved into a new form dominated by the social democratic model. The title is itself a contradiction. Social is laudable and democratic is inclusive but put them together and the state has been handed power over its electors by its electors.
The social democratic philosophy begs some fundamental questions. If it is a better system than the alleged evils of capitalism, why does social cooperation not evolve towards it at the behest of ordinary people without the need for an organising government? Why are leaders required to coerce, organise and force people to part with their income and wealth for their own common good? Who benefits?
Those who are said to benefit are the sick and the poor through the redistribution of wealth. But the evidence is overwhelming that a state bureaucracy is not better at this humane function than independent charities. The socialist’s rebuttal is that no one should have to rely on charity, to which those who value their freedom are normally too dull-witted to respond by asking, why not, when the alternative is state coercion backed by imprisonment?
Claims of morality are a thin cover, a disguise for wealth transfer from ordinary people to the state. The state is now an organisation that leeches on its electors in order to pursue its own separate agenda. We must therefore put claims of morality to one side if we are to understand the damage socialism has done to ordinary people and their economic progress. No longer ambitious for the acquisition of the means of production, modern socialism has evolved into a fascist form, a fact which when pointed out to social democrats leads to instant denial and horror, because in their language it is right wing and extreme, wrongly associated with free market capitalism.
Being fascists without knowing it
The accusation that social democratic planning is fascism is easily proved. Some claim fascism’s origins were in the nineteenth century, when European philosophers expressed ideas which were only later described as fascist. But the fascist movement proper started in Italy, when Benito Mussolini, then an avowed Marxist, was the most forceful Italian proponent of the Marxian paradise to come.
In 1914 on the declaration of the Great War Italian communists declared it to be a fight between imperialists and exploiters of the proletariat. In their view, the proletariat should stand aside and not be exploited by either side, waiting for the inevitable civil war which would pave the way to the destruction of capitalism, giving power to the workers.
Having initially taken the Italian communist position of abstaining from war, Mussolini then aligned himself with the nationalists against the imperialist Austrians. It was an opportunist move and a grab for support from the communist rank and file. Following the First World War, the Italian communist party movement faltered, and Mussolini with his new fascist party stepped into the void. Members left the communists and joined Mussolini’s fascists in droves, because there was little discernible difference between Mussolini’s socialism and that of the Italian Marxists. His 1919 manifesto was anti-capitalist and posed as socialism with renewed vigour. From there, it evolved into advocating aggressive interventionism, and then towards Nazism which was developing in parallel. The Nazi economic creed was simple: capitalists can own the means of production so long as they obey the commands of the state. In other words, business was directed and regulated instead of owned by the state.
It neatly describes the socialism of today. Socialists no longer deem it necessary for the state to own the means of production, it merely controls it by regulation, directing it by selective subsidies and taxes. It also exposes the intellectual ignorance of the useful idiots who blindly follow slogans.
The loss of the means of economic calculation
We have established that the objectives of today’s social democrats are little different in principal from those of the fascists in the interwar years. But this modifies our analysis from that of Ludwig von Mises in 1920, who wrote an important essay titled “Economic Calculation in the Socialist Commonwealth”[i], which sparked what became known as the socialist calculation debate. Mises demonstrated why public ownership of the means of production was bound to fail. Central to his argument was the state’s inability to make the calculations necessary to allocate the means of production, a function which can only be attempted successfully by independent entrepreneurs putting their own resources on the line.
Today’s institutional socialism is now fascist instead of being on the Marxist lines which were debated between Mises and socialist economists a century ago. The failure of Marxist socialism was for the reasons Mises predicted. It must still apply today to that portion of a socialist economy that relates to government spending which is not redistributed in the form of welfare payments or put out to private sector contracts by means of competitive tender. What then remains of government expenditure will lack the basis of economic calculation, which cannot be performed. But welfare distributions and government contracts raise a separate issue, the distortion of an economy by state-directed spending into spending that would not otherwise occur, and the wasteful use of all forms of capital which would otherwise be deployed more efficiently by private enterprise.
Economic activities that remain under free market principles, whereby entrepreneurs seek to profit by anticipating the needs and wants of consumers successfully, are now heavily regulated and restricted. State bureaucrats effectively control the forms and characteristics of goods and services offered by producers. They claim to protect the consumer from unscrupulous capitalist profiteers. Sometimes, regulations imposed by the state succeed in this objective, but it is wrong to argue that free markets would not have matched or even provided higher standards of product than those framed by the state’s regulatory regime, because it is manifestly in every producers’ interest to produce the best product for the market, unless, that is, the state regulator protects the producer from competition. This is too often the case.
Why bureaucracy fails and free markets succeed
The bureaucrats and their supporters — the socialists and trade unions — do not understand prices. They firmly believe in the cost theory of prices, whereby the price of a final product is set by the cost of production. It is also central to Marxist economics, which evolved before marginal price theory, and declared prices to be determined by the cost of labour and therefore exploitative. The Austrian economist, Carl Menger, was one of three independent discoverers of marginal price theory in the 1870s. Menger showed that in free markets prices are purely subjective: in other words, prices are set by consumer preferences and it is up to the producer to anticipate and then respond to them.[ii]
It is this division between the bureaucratic-socialist belief and free market evidence that separates two entirely different propositions: the state’s bureaucratic management and free markets.
It is only by understanding how the different systems operate that we can explain the flaws of bureaucracy in an economic context. Free markets work on the basis of the ownership of property and its unfettered deployment for the production of goods and services. Property used in production takes it value from it, which is why by giving property no value by monopolising it economic calculation cannot take place.
It is a socialist myth that private ownership gives capitalists power over people. It is true that capitalists are in command of resources, but their masters are the consumer, who they must satisfy by organising their property and other resources effectively. In economic terms, it is the purest form of democracy.
The regulatory burden on established sectors producing goods and services has become increasingly onerous. Being forced to satisfy the regulators instead of customers, businesses are decreasingly focused on customers. The regulator replaces the customer completely in the scale of importance when the provider of goods or services is guaranteed a margin over costs and given a monopoly by the state. These businesses extend the state’s control over the consumer, and while nominally in the private sector, should be regarded as part of the state for the purpose of economic analysis, because they operate on a statist cost plus regulated margin basis.
Allowing for influences such as these, unfettered private sectors in modern economies are less important than commonly thought, most businesses being more burdened by bureaucratic management and control than is generally realised. Supposedly free markets are being directed by bureaucrats and administrators who have opted for an easy life of secure income and pensions, where they do not have to make judgements, but only to administer regulations without any further thought or responsibility for their actions.
Who pays for it all?
An economy run by the state owning the means of production cannot succeed because it cannot calculate. It can only resort to force, evidenced by the masses killed by the Soviets and Chinese communists in their attempts to get Marxist socialism to stick. Now that that form of socialism has been exposed by its failures, modern socialism is in a halfway house of some remnants of state ownership coupled with fascist control and regulation over private production.
It is not difficult to see why contemporary economies are struggling under these burdens, and we do not need to resort to empirical evidence to assist with an explanation. But with modern economies overburdened by economic inefficiencies arising from state-directed malinvestment of scarce capital, they are heading for the same general failure experienced by the Soviets. A similar collapse of our socialistic governments has only been deferred so far by the partial existence of markets. But as an economic policy, increasing rates of wealth transfer from producers and consumers through taxation to sustain the socialistic state has finally run out of road.
Cries to soak the rich by even higher taxes are failing to convince the wider public that that is a course to be followed. Now that we are in the grip of the Covid-19 crisis, ordinary people know that the ending of government support schemes cannot be replaced with higher taxes to recoup lost government revenue, without crashing the economy. It is only the bureaucrats in government offices, secure in their jobs and pensions acting as unthinking functionaries, who miss this vital point. There can only be one desperate solution, the one understood by central bankers who reaffirm they will print whatever it takes to fund government deficits.
When socialists run out of people to rob of their wealth by overt taxation, they inflate. In modern times it has been a process that dates back to the depression in the 1930s. This fascist social construct has now been evolving for eighty-seven years in America, if we take Franklin Roosevelt’s socialising policies and his ban on owning gold as a starting point — even longer than the Soviet experiment which started with the foundation of the Soviet Union in 1922 and ended with the collapse of the Berlin Wall in 1989.
Over the last forty years, the US economy has been financialised; that is to say economic resources have shifted from the non-financial economy to the financial. It is the consequence of the financial reforms in the 1980s, when London underwent its big-bang and America abandoned the Glass Steagall Act, which had banned retail banks from investment banking activities. Through the combination of these events banks took over all financial activities, including market making in securities, commodities and derivatives, using bank credit expansion to apply virtually unlimited capital resources to these functions. Being licensed by governments, it has become an extension of statist control over prices, with the benefit that through their banking agents governments could use the expansion of broad money supply to finance government spending and spread the wealth effect through rising stock markets, while suppressing commodity prices by increasing their synthetic supply.
The cost of this financialisation has been economic stagnation in non-financial activities, with the production of goods exported to the savings-driven economies of Eastern Asia, while the banks have become dependent on financial speculation for their profits. They are now failing in their original mandate to sustain non-financial businesses.
As well as its normal cyclical failures, the banking system now faces the consequences of the failure of socialism itself, from which they have benefited in the past through the socialisation of money through the inflation of bank credit.
Covid-19 and its lockdowns have exposed the fragility of the whole system, bankrupting businesses and making the banks reluctant to lend, preferring to call in their loans. Any independent observer of economic developments can only come to one logical conclusion: financing economic expansion by bank credit has finally come to an end, and widespread bank failures are becoming impossible to avoid. The inflation of money as a means of financing the state now falls increasingly on central banks, even without a banking crisis. And here it is worth noting that US dollar bank credit is a current multiple of M1 money supply of 3.4 times[iii].
Figure 1 shows how US dollar M1, principally currency and demand deposits, has increased at three progressively greater rates of growth since the 1980s: a steady rate until the Lehman crisis, a significantly faster pace since then, and finally a nearly vertical rate since last March, all indicated by the arrowed lines.
We now must consider how inflationary financing will progress in the absence of bank credit being made available to the non-financial private sector. Bank lending to the private non-financial sector is currently $11 trillion[iv], twice the M1 figure, giving us an indication of how narrow money must increase from its current accelerated rate if the Fed is to prevent an imminent economic slump in the non-financial economy. And that is before we consider another important factor which requires inflationary financing, the maintenance of the financial asset bubble which is central to the illusion that all is well.
The magnitude of central bank monetary inflation yet to come is far greater than hitherto and therefore bound to radically undermine the dollar’s purchasing power. In turn the US Government’s finances will be undermined by the quantity of dollars required and the effect on dollar interest rates. Other nations are in a far worse position, and like the USSR in the late 1980s are rapidly running out of options.
This analysis has exposed the failings of government intervention in free markets. Predictably, the increasing burden of government intervention on any economy will cause it to underperform, detracting from the primary function of free markets, which is to satisfy the needs and wants of consumers.
Consumers consume because they are employed, specialising in their labour to maximise their output and therefore their ability to buy the things they need and want. But over the decades, consumers have become increasingly dependent on governments, either to employ them as bureaucrats, officials in nationalised education and health systems, or to guarantee their employment through regulations. They benefit most from free markets but lack an understanding and sympathy for them. The loss of free markets and their vilification by socialists is likely to ensure that when the current international socialist regime fails, free markets will be blamed.
We appear to be rapidly approaching that point of failure. We can see from the chart in Figure 1 how narrow money supply has already accelerated in three phases, and how the failure of bank credit expansion will lead to an even greater debasement of the currency. And that is likely to be the most optimistic outcome, assuming bank failures will be strictly limited instead of systemically widespread. The statists’ dependency on inflationary financing is set to increase to the point where all confidence in fiat currencies will be lost.
We have made comparisons with the failure of the USSR after sixty-seven years, noting that the current fascistic socialising model has already run for eighty-seven. When the USSR failed, there was a better economic model for which the Soviets could refer. The standard of living and plentiful supplies of food and consumer goods in Western shops were a ready comparison with Soviet misery and it was relative economic freedom that had delivered. Our failure will not have that comparison. Instead, it is likely that statists will point towards another economic model in the hope of continuing with state control.
It will be a muddle that lasts for as long as governments in their bankruptcy try to maintain control over economic events. We will need as many people as possible to explain to the politicians that the way to national wealth is not through socialism but by free markets and small government.
[ii] The other two economists were Leon Walrus, who attempted to develop a general equilibrium theory, and William Stanley Jevons, who believed supply and demand were mathematically related, the earliest forerunner of Keynes’s macroeconomic theories. Jevons in particular failed to appreciate the role of human preferences in marginal pricing. Menger explained his reasoning in his Grundsätze der Volkswirtschaftslehre (Principles of Economics), published in 1871.
[iii] This is an approximate calculation by dividing M2 money supply by M1.