Obviously, limiting our understanding of money and finance to the past savings assumption of Keynesian economics and the Great Reset can lead to serious problems and contradictory, even ludicrous conclusions. This is not by coincidence. To be blunt, the past savings assumption, what Louis Kelso and Mortimer Adler referred to as “the slavery of savings” in the subtitle of The New Capitalists (1961), (Louis O. Kelso and Mortimer J. Adler, The New Capitalists: A Proposal to Free Economic Growth from the Slavery of Savings. New York: Random House, 1961.) their second book, does not describe reality, and is therefore not true.
This can be proved mathematically by the application of basic high school algebra. First, however, we need some background.
|Total War is expensive
As we have noted a number of times on this blog, there are two theories about money, the past savings assumption, and the future savings assumption. Immediately a difference arises, because while the future savings assumption acknowledges the validity of past savings and its proper use in consumption, the past savings assumption does not even admit the existence of future savings.
That, however, is not the main point here, which is that the two assumptions have diametrically opposed principles underlying them. In the past savings assumption, the principle is that the amount of money determines economic activity. In the future savings assumption, the principle is that economic activity determines the amount of money.
|The Man of Destiny
Ordinarily, this difference would have been of interest only to academics and philosophers; it strikes most people as arguing whether the chicken or the egg came first. Unfortunately, politicians got involved and matters went downhill from there. What happened was the French Revolution and a new concept of the Nation State and of total war, followed by the Napoleonic Wars . . . and the need to finance them.
Previously, as a rule, wars in Europe had been fought with relatively small professional armies financed with taxes. With the French Revolution and the self-imposed mission of the revolutionaries to bring the New Order to the rest of the world, the idea of mobilizing an entire nation for war took hold.
Costs of war along with the role of the State increased geometrically. Politicians were faced with the choice of raising taxes or financing a war effort with unbacked debt and fiat money. They chose debt and fiat money, laying the groundwork for the future development of the military industrial complex.
Money changed from being an abstract symbol to measure value and facilitate transactions, to a commodity with its own inherent value. Government monetary and fiscal policy were developed based on the assumption that money must exist prior to production and economic transactions instead of being created by production and transactions.
Disconnecting money from production in this way caused the Panic of 1825 and the start of the modern business cycle of “boom and bust.” (See Michael D. Greaney, “The Business Cycle: A Kelsonian Analysis,” American Journal of Economics and Sociology (2015), 74.) It also ensured that when the charter of the Bank of England, at the time the most important central bank in the world, came up for renewal in the early 1840s, the past savings assumption — which was now known as “the Currency Principle” — would be the monetary theory embodied in the law. (7 & 8 Vict. c. 32.) The future savings assumption (now known as “the Banking Principle”) — the theory behind commercial/mercantile and central banking (Henry Thornton, An Enquiry Into the Nature and Effects of the Paper Credit of Great Britain (1802).) — was edged out as the monetary theory and practice of the British Empire became based on the past savings assumption. (Walter Bagehot, Lombard Street: A Description of the Money Market (1873).)
|Civil War debt financing.
Both sides in the American Civil War financed the war using debt (the Union by choice, the Confederacy by necessity), introducing the Currency Principle into the American economy. (Charles A. Conant, A History of Modern Banks of Issue. New York: G.P. Putnam’s Sons, 1927, 396-447; Harold G. Moulton, ed., “History of Government Paper Money,” “The Aftermath of the Greenbacks,” Principles of Money and Banking. Chicago, Illinois: University of Chicago Press, 1916, I.144-204.) This was even though the power of Congress to issue fiat money was expressly removed from the draft of the U.S. Constitution during the debates of 1787. (William Lawrence Royall, Andrew Jackson and the Bank of the United States: Including A History of Paper Money in the United States. New York: G. P. Putnam’s Sons, 1880, 2-4.)
The National Banking System established in 1863 (Ch. 58, 12 Stat. 665, February 25, 1863) cemented the past savings assumption into the U.S. financial system. Ironically, while the National Banks functioned only as past savings lenders for small farmers and businessmen, big businesses were able to use them as commercial banks and create all the money they needed out of future savings. Once the “free land” available through the Homestead Act ran out, the concentration of wealth in the hands of a relatively small group accelerated.