Platt Perspective on Business and Technology

Open markets, captive markets and the assumptions of supply and demand dynamics 9

Posted in macroeconomics by Timothy Platt on February 14, 2016

This is the ninth installment to a brief series on underlying assumptions as they arise and play out in economic systems, and in production and marketplace systems (see Macroeconomics and Business 2, postings 230 and loosely following for Parts 1-8.)

So far in this series, I have been discussing supply-oriented and demand-oriented approaches to economics and to thinking about and predictively modeling them. And as a core consideration of that, I have been discussing friction in these systems and how it arises and how it shapes economic outcomes. Then in Part 8 I switched directions and began addressing what could colloquially be called the 800 pound gorilla in the room, which by its very nature is tremendously influencing – but that by its very nature is left unacknowledged too and even as it exerts a tremendous shaping influence.

Friction per se, in economic systems is generally seen as the direct consequence of miscommunication and failed communication, and of gaps in timely availability of crucial information that is needed by involved stakeholders if they are to make effective, let alone optimal decisions. I began discussing a very specially sourced type of friction in Part 8 that is in fact as common as economic friction as that phenomenon is more usually considered, but that is rarely acknowledged as such: politically grounded economic friction; I began discussing political economics.

I raised and at least initially discussed this phenomenon in terms of a specific all too real-world example as drawn from recent United States politics. And I recommend at least briefly reviewing that posting as offering a foundation discussion for this one.

Economic friction per se is a direct causal consequence of failure in information availability, preventing stakeholders in economic decision making processes from being able to discern what for them, would be optimal decisions. And while this in general can arise from the intentional sequestration and hiding of relevant information by involved stakeholders so that they can gain personal tactical advantage, it essentially always occurs at least in part because no communications channels are perfect in what they can convey, or instantaneous in doing so. So economic friction is also caused by what are essentially built in nonpartisan structural limitations. And in communications terms that includes broadly occurring restrictions such as bandwidth limitations and communications channel noise.

• But politically grounded economic friction is ideologically grounded and shaped.
• And as a consequence of what at times might perhaps best be seen as acts of political faith, it can be grounded in ideological belief that arises and is sustained independently of any empirical observation or evidence
• And even in frank contradiction of such evidence, and certainly when that is seen as running counter to perceived ideological wisdom.

Politically grounded economic friction can arise and be politically sustained even when that means it is defiantly held up as being at odds with all empirical evidence. This point of observation is supported by the specific case in point example that I discussed in Part 8 and by recent economic and related history in both the United States and more globally. And in that vein, self-proclaimed conservative, and particularly ultra-conservative Republicans deny the validity of global warming despite all evidence that it is occurring, and the argument that more guns in more hands with less buyer background screening means more gun violence, and essentially anything noted empirically by what they see as politically opposing economists.

I perhaps picked on the US Republican Party there, and on its conservatives and ultra-conservatives, but as history has shown, politically grounded economic friction and the “information and communications challenges” that engender it are a game that adherents of any political party or movement can play.

I stated at the end of Part 8 that:

• “I have begun this discussion with a more current events example, but note that the phenomena that I write of here cross political and national boundaries, and timeframes. And I will continue it in more historical terms, to both expand my range of available working examples that I can draw from here, and to more fully develop them, and in their longer-term contexts.”

With this connecting narrative line in place, I turn here to at least briefly consider some historical examples of how politically grounded economic friction arises and plays out.

Economics is sometimes disparagingly referred to as the dismal science, and I have to admit that it can seem so and particularly when its findings collide with cherished expectations and plans. But to be more accurate, I would posit that the real dismal in this arises when economic theory and claims of it are based more on ideological preconception and political positioning than they are on empirical reality. And that brings me very directly and specifically to the meat of this posting’s discussion. And I begin with a brief cartoonish summary of what are in fact empirically real events coming out of the ending of World War I (also known at the time as the Great War, and the War to End War, to highlight the irony of all of this.)

The proximal triggering event that launched World War I was the assassination of the intended and presumed heir to the throne of the Austro-Hungarian Empire: Archduke Franz Ferdinand of Austria and his widely publically beloved wife, Sophie, Duchess of Hohenberg. This event triggered a war, and mutual defense treaties essentially immediately brought Germany into this war on the side of their Austro-Hungarian allies. And together they formed the core nation members of what came to be known as the Central Powers (or Mittelmächte in German and Központi hatalmak in Hungarian.) And the same type of mutual defense treaties also organized the nations that these Central Powers fought against into a single more or less unified military front: the Allies (with the three great powers of the Triple Entente at its core: the Russian Empire, the Third French Republic, and the United Kingdom of Great Britain and Ireland.) And more and more nations were similarly drawn into this conflict and on both sides, until this did become a truly global conflict and a first genuine overall world war.

But the important detail of that, at least for purposes of this discussion is that Germany was brought into this conflict on one side, and virtually from the very beginning, and France and Britain were brought in just as quickly on the other side. And when the war ended, the Allies proved victorious, and the old Austro-Hungarian Empire no longer existed, and the nations that had seen this conflict actively play out in their territories all faced devastation on an unparalleled level from that. And the leaders of Britain and France saw Germany as a principle aggressor in this war and as having caused all of this devastation. And they sought revenge through the imposition of punitive war reparations payments that could not be postponed for dates due, forgiven or reduced.

And to personalize this, the Prime Minister of France from November 16, 1917 until his death on November 24, 1929: Georges Benjamin Clemenceau, led this effort to repress Germany, and even as it sought to move past its older militaristic roots through establishment of a more democratically principled Weimar Republic. And the impossible to fulfill economic burdens of these reparations requirements effectively killed that attempt at government reform, enabling a seethingly resentful industrial and military core within Germany to regain power.

When the Great Depression reached Central Europe, what economic strength the Weimar Republic had had, evaporated essentially overnight. Germany had in fact paid off approximately one eighth of their overall reparations debt due, but at the cost of their government having essentially no monetary reserves whatsoever.

Germany’s reparation payments were finally suspended in 1932 under the terms of the Lausanne Conference of that year, but by then the damage has already been done and the leadership and authority of the Weimar Republic was gone, paving the way for the rise of a new voice of militarism and of Aryan German superiority: Adolph Hitler.

This is a story of politics and of political decisions made for overtly political reasons. This is also a story of economics and of economic consequences. It can readily be argued that the most important factors leading to the demise of the Weimar Republic as a more democratic government in Germany, and the rise of Hitler out of its ashes were financial and economic as they created the fertile soil of discontent that Hitler and his political movement thrived in. And perhaps the clearest single economic measure of what that means can be found in the exchange rate of the German Mark, when traded for United States Dollars (see Hyperinflation in the Weimar Republic.)

During the Great War, the value of the Mark dropped from 4.2 to 7.9 per US Dollar, which was significant but accommodatable. Then the war ended and Allied demands for war reparation payments began and their very real impact began to set in. The exchange rate value of the Mark in fact seemed to be stabilizing, at least briefly during the first half of 1922, at some 320 Marks per US Dollar. But then the floor dropped out from underneath Germany’s economy and they entered a true hyperinflationary death spiral. By December, 1922 the Mark was trading at some 720 to the US Dollar. And by November 1923, the US Dollar was worth 4,210,500,000,000 German Marks. There were some 1.2 sextillion Marks in circulation in Germany by then; that is 12 followed by 20 zeros. Germany citizens were buying single loaves of bread for wheelbarrows full of paper Marks – when they could find someone selling bread who was willing to take Marks in exchange for it. Paper currency was being printed in 50 billion Mark denominations and larger as single bills and even they were essentially worthless.

Did Clemenceau’s war reparations requirements that the post-war Allied governments held against post-war Germany and its new government, directly and fully account for the emergence of Hitler and his government? No, of course not; but they did stunt and limit the effort of building an openly democratic Germany that the Weimar Republic was attempting, and they fueled the widespread public anger and resentment that Hitler built his power upon. And the industrial and military might that supported him in Germany during his Nazi Party’s formative years held their wealth in foreign currency and in gold. So it was only the working age, if not actually employed members of Germany’s general public and their elderly and their families that felt this pain. Politically motivated economic policy and action, and in defiance of all of the empirical, real world evidence that was available drove this course of events.

And then Germany was hit by the Great Depression after its impact became global, starting in 1930 with the passage of a pivotal piece of legislation in the United States: the Smoot–Hawley Tariff Act. And by then real economic strength and stability was limited at best, anywhere in Europe and through much of the world.

And this brings me to the real point of this particular case in point example, and to why I have offered it here. If any country on Earth should know the lessons of the aftermath of World War I with its austerity demanding post-war reparations costs, and the Great Depression and Hitler, and how he rose to power and the consequences of that, it should be Germany. Now let’s fast-forward to today in 2016, and to the past few years leading up to today. And let’s consider the Eurozone and Germany’s driving insistence on austerity on the part of their poorer European Union neighbors.

I am going to continue this narrative from that point in my next series installment. And after that I will step back to more directly consider some of the factors that lead to the Great Depression and its global spread, and more recently to the Great Recession. In anticipation of that, I will revisit the Smoot–Hawley Tariff Act as only briefly noted above, as a stunningly flawed political economic decision.

Meanwhile, you can find this and related postings at Macroeconomics and Business and its Page 2 continuation.

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