When a bank of deposit charges more on a loan made for consumption than is required to cover its costs and restore the full value of what was borrowed, the bank is engaged in usury. The only just profit-taking by a bank of deposit results from a loan made to finance a project that generates a profit. By right of private property the bank is entitled to a share of profits commensurate with the contribution to the productive process made by the financing. In today's economy, this is usually construed as the market cost of capital.
The problem is that, if existing accumulations of savings are used to finance capital formation, the capital that is formed is less financially feasible! This near-paradox was "discovered" by Dr. Harold Moulton, when he pointed out the rather obvious fact that if levels of consumption are decreased in order to finance capital formation, the market for the goods and services to be produced by the capital being formed also decreases. In other words, the incentive to invest in new capital formation ("effective demand") disappears, making is much less likely that the investor will be able to pay for the new capital.
Keynes' response to this is to inflate the currency. This "creates" effective demand by transferring (i.e., "stealing") purchasing power from savers whose accumulations are denominated in currency, to those receiving government largesse. This (allegedly) makes the capital financially feasible by generating artificial effective demand. This magically turns into genuine effective demand when jobs are created using the new capital to produce goods and services.
The "magic," however, turns out to be sleight-of-hand, for the value of the wages received from the new jobs is lowered in response to inflation. The workers for hire who have only their labor to sell for wages end up worse off than they were before. They still cannot purchase enough of the goods and services produced to keep the new capital financially feasible, so the companies begin reducing the number of jobs and lay people off. This begins the cycle all over again, with the government injecting increasing amounts of effective demand into the economy by inflating the currency, all the while throwing the system further and further out of balance, until some event (such as the Crash of 1929 or the home mortgage meltdown of 2008) causes a economy-wide, sometimes world-wide financial disaster.
The Keynesian balancing act of walking a tightrope between inflation and unemployment is, in light of such events as happened in 1929 and 2008, unsustainable. The rope — the economy and its financial infrastructure — is heavily frayed. At some point the rope can't be tied back together again. All the slack has been used up by the government playing games with the currency, private property, and the methods of corporate finance. You can't tie two pieces of rope together without slack.
At this point, it seems as if nothing can be done. Within the Keynesian paradigm, that conclusion is correct. Economists and politicians keep insisting that the recession is over, but they fail to realize that they have done nothing but make the ultimate collapse worse by inflating the currency to rescue failed companies from bad debts — that is, trying to get out of debt by spending more money.
There is, however, a way out, one that we will start to look at in the next posting in this series.
THE Global Justice Movement Website
This is the "Global Justice Movement" (dot org) we refer to in the title of this blog.
