Thursday, August 27, 2015

Past and Future Savings, II: Emancipation from the Slavery of Savings


Yesterday we asked the eternal question, “What if nobody has $95 and nobody has a shovel if we want a ditch dug for $95?”  This is actually a very simple question to answer once we understand that when we’re discussing saving, past or future, we’re not discussing what exists in the entire universe.  No, we’re only talking about what is happening within the provisions of a specific contract.

This makes sense if you stop to think about it.  After all, no new capital can be created without saving — you can’t purchase capital if you don’t save.

The key to understanding this is that you still can’t purchase capital if I am the one saving!  Why not?  Because I own what I save, and I am the one who can purchase capital with my savings — not you.  So, when we say that you can’t finance new capital without savings, it means just that.  You can’t.  My savings are irrelevant to you.

People who keep insisting, then, that the Just Third Way and Capital Homesteading are a scam and can’t work because “savings” have to exist somewhere before new capital can be financed don’t understand that we are talking private property here.  In order for me to own, I have to save.  In order for you to own, you have to save.  It does no good for me to save if you are the one who wants to own.  Thus, when we say that it is possible to finance new capital without past savings, it should be obvious that we mean that a person can finance new capital without first having saved, not necessarily that there has been no saving prior to the formation of new capital.

Yet . . . that is exactly what we mean.  It is simple logic that if something is true for all the parts of a whole, then it is true for the whole.  If it is possible for a single person to finance new capital formation without first having saved, then it is possible for an entire economy to finance new capital formation without first having saved.  All we have to do is expand and contract the definition of “saving.”

We expand the definition of saving by including both past decreases in consumption — the excess of past production over consumption — and (here is the key) future increases in production.  Note that both types of saving involve more production, the former by consuming less than is produced, the latter by simply producing more to consume.

We contract the definition of saving by noting that the definition of saving we’re using relies in all cases on the meaning of “production.”  In economics and finance, production is defined as “the creation of value; the producing of articles having exchange value” — the creation of marketable goods and services.

Thus, if something does not exist in marketable (usable) form, it does not meet the definition of production, and thus does not enter into the definition of saving.  Coal that has not been mined has not, in the economic or financial sense, been produced, and therefore cannot be saved in the economic or financial sense.  The same holds true for any other untapped resource.

Then there is the past savings paradox: if no production can take place without first saving, and saving is defined as the excess of production over consumption, then how did the first production take place?

So, now we can take our shovel-and-ditch scenario a little further.  Suppose nobody has $95, and nobody has a shovel.  Bill, however, can make promises that everyone knows he will keep, and Jack makes shovels.

The reason Fred wants me to dig a ditch is to bring water to his field, which he can’t plant until and unless he has water.  He can sell his crop for $10,000, so it is well worth his while to pay me $95 to dig him a ditch, just as it is well worth my while to dig him the ditch, especially if I’m not doing anything else.

Fred goes to Bill and says, “Lend me your negotiable promise for $95 and I will give you $100 in 90 days.  I will use the $95 to have a ditch dug to water my crop, which I haven’t planted, but have already contracted to sell for $10,000.”  Bill says, “I trust you.  You are creditworthy.  We have a deal.  I will create some negotiable promises totaling $95 on condition that you give me $100 in negotiable promises or something to the value of $100 in 90 days.”

I go to Jack and say, “Fred has just hired me to dig a ditch for $95.  I need a shovel.  If you make me a shovel, I will pay you $5 when Fred pays me.”  Jack says, “I trust you.  You are creditworthy.  We have a deal.  I will make you a shovel, and you can pay me when Fred pays you.”

Bill gives Fred notes for $95, Jack makes me a shovel, I dig the ditch, and Fred pays me $95 in notes issued by Bill.  I pay Jack $5.  Fred puts in a crop, sells it for $10,000, and pays Bill $100, who pockets $5 and cancels his notes for $95.

Obviously, this scenario can be expanded beyond the shovel-and-ditch situation ad infinitum.  The seeds and fertilizer Fred needs don’t have to exist at the time he contracts for them, either, just as long as they exist and are delivered when he needs them.  What Jack needs to make the shovel, and even what Bill needs to issue his notes can also be contracted for before they even exist.  Everything is built on promises, and as long as the promises are good, production can take place, and goods and services can be delivered and consumed.

Translating this into common financial terms, a past savings contract, based on something that exists, is called a mortgage. A future savings contract, based on something to be delivered in the future that is not (yet) owned by the issuer of the contract, is called a bill of exchange.

Both mortgages and bills of exchange are valued because the one who accepts the contract trusts the issuer to make good on it, the issuer of the mortgage to deliver goods already in his possession, the issuer of the bill of exchange to deliver goods that will be in his possession when the bill matures.

That is why mortgages and bills are valued differently. The issuer of a mortgage pays interest, while the issuer of a bill of exchange accepts a discount off the face amount. Thus, when a mortgage is redeemed, the issuer owes the principal plus interest, while when a bill of exchange is redeemed, the issuer owes only the face value.

That is why in a pure system, bills of exchange would stand behind the money used to finance new capital formation, to be redeemed out of future production, while mortgages would stand behind existing inventories, to be redeemed out of existing production.

That is why a central bank is designed to finance new capital by creating money by rediscounting bills of exchange, and to provide additional liquidity for daily transactions by engaging in "open market operations" in securities (mortgages) representing existing inventories. The former provides investment capital, while the latter provides the media of exchange to clear existing inventories and carry out daily transactions.

This can be the case in any situation.  Our enquirer asked about a cobbler and a baker.

A cobbler who does only custom work goes to a baker who only bakes bread to order.  The cobbler says, “I will give you vouchers for two new pairs of shoes if you will make me a loaf of bread every week for a year.”  The baker says, “Agreed.  I will give you 52 bread vouchers that you can either use yourself, or exchange with others for other goods and services, and they can exchange them for bread on the redemption date specified on the voucher.  I will use one of your vouchers to purchase bread-making supplies.”  The cobbler says, “Perfect.  I can take some of the bread vouchers and purchase shoe-making supplies.”

Neither the bread nor the shoes exist at the time the agreement is made.  Is this a scam?  Or does it result in the production of goods and services that would not otherwise have been produced?

You decide — and then ask yourself why, if new capital can be financed with future savings in this way, do we need "the rich" or Wall Street?

#30#

No comments: