Goodbye to THX 1138 and all that: Rethinking American society, Part 2

8:30 AM ET UPDATE:
The first part of my conversation with Claudia took place before Texas Governor Rick Perry's April 9 announcement:

... [H]e has joined other state leaders in supporting House Concurrent Resolution 50. The resolution aims to reaffirm state rights guaranteed under the 10th amendment of the U.S. Constitution, and to serve as a notice to the federal government that it should desist measures that go beyond its constitutionally protected powers.

“I believe that our federal government has become oppressive in its size, its intrusion into the lives of our citizens, and its interference with the affairs of our state,” Perry said. “That is why I am here today to express my unwavering support for efforts all across our country to reaffirm the states’ rights affirmed by the Tenth Amendment to the U.S. Constitution. I believe that returning to the letter and spirit of the U.S. Constitution and its essential 10th Amendment will free our state from undue regulations, and ultimately strengthen our Union.”

Perry said Resolution 50 re-asserts Texas’ sovereignty over all powers not under the federal government’s mandated authority.

A reader alerted me to Perry's announcement and also to this very unsettling turn of events; report dated today:

An April 7 Department of Homeland Security report targets those who favor state or local authority over federal authority and those who belong to pro-life or anti-illegal immigration groups as being a potential national security threat.

[...]
According to the unclassified document, Gov. Rick Perry, R-Texas, could very well fall under the umbrella of the report’s definition of being a right-wing extremist in light of his statement [...] praising state’s rights. [...]

This is a bad bit of business. What next does our government have in mind?
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PUNDITA: Before we pick up from where we left off, have you heard any more succession talk than usual from Texans?

CLAUDIA: Pundita, I'm from New Mexico.

PUNDITA: I know; I was just wondering. You get more news about doings in the southwest than we do here in Washington.

CLAUDIA: [laughing] If you're asking if descendents of conquistadores are still plotting for Spain, the Spanish side of my family says yes, the Irish side won't hear of it.

PUNDITA: I wanted to know if you'd had your ear to the ground. I'm thinking of the Tea Parties.

CLAUDIA: There's a great deal of paranoia right now.

PUNDITA: Yes. There's even a rumor going around that ACORN is sending out people to ask the Tea Party demonstrators for their email and address information so they can send the data to the IRS.

CLAUDIA: Look, you nailed it with your talk about the importance of Locavore and how a whole localism movement is building on that. That's just going to keep getting bigger and bigger.

I don't think there's any more talk about Texas seceding than there's always been, but again I don't live in Texas. There's always been talk about different parts of the southwestern states forming new states. And there's always talk on both sides of the border about the border states joining Mexico. I've heard that talk all my life.

Where the talk is increasing, where I think it's getting serious, is with states getting more independence from the federal government, and not just western states are wanting this. Legislators from several states want to invoke the Ninth and Tenth Amendments to the Constitution to get a rollback of federal authority. Either they've introduced a resolution or they're planning to.

PUNDITA: Do you know whether such a resolution has been introduced in Texas?

CLAUDIA: I think so.[1] You're very interested in Texas all at once. I don't see the Tea Parties as a prelude to secessionist movements, if that's what you're asking. Succession can't happen; the Civil War settled that. So I think the Chuck Norris for President of Texas thing is people blowing off steam. But it wouldn't be wise if the Washington establishment ignored the Tea Parties.

PUNDITA: Well, Claudia, we'll do our part to try and hold the republic together. But the size of TARP was the last straw for many people. Change is coming; much turns on the direction it takes.

To pick up on our last conversation, Dan Riehl had praise for my post of our first discussion but criticism for its long length and tendency to wander a bit, in his consideration.

CLAUDIA: If you publish everything we talked about just now he's really going to have criticism for part two. We haven't even gotten to the main event yet.

PUNDITA: He gave me the same advice years ago; his points are good. And he challenged me to summarize our first discussion in 700 words. Just the thought sent me to the sherry bottle, which I keep only for medicinal purposes, of course.

CLAUDIA: [laughing] I can take a crack at summarizing your points if you don't want to end up a drunk. I think I could do it in fewer than 700 words. You'd just have to give me a little time.

[The following is the summary Claudia put together]

Washington's attempts to deal with major issues in America are only cosmetic because they don't address the two biggest problems this country is facing and how they feed off other. One problem is the explosion of money in the world.

This led to the financialization of capital. Financialization is where profits are made through trade in financial instruments instead of the production of goods, non-financial services, and commodities.

Money becomes a commodity to be traded. That diverts investments toward the financial markets. That creates more and more types of financial instruments. That leads to more and more speculation and corruption and outright gambling. That's led to a pattern of market crashes that become increasingly severe and spread to the entire society.

In the United States Equalization became a major driver of financialization. Equalization is the idea that economic conditions will eventually equalize between a rich country and a poorer one. That's if the richer country comes to rely more on investments for profits, and the poorer country increases its profits through production and export of goods to the richer country.

Equalization was seen as good for globalization and for American business. This was on the theory that as the poorer countries became wealthier from exporting they would import more U.S. products.

The theory didn't work out in America's favor when it was put into practice. And it turned out the huge profits from investments in financial instruments in the U.S. diverted large amounts of investment money toward speculation in financial instruments.

Also, Americans who were not at all knowledgeable about the financial and stock markets were encouraged to become investors, as the means to take pressure off the Social Security system. This led to huge speculative bubbles.

Americans began living on credit and equity in their homes, and that added to the explosion in excess money as we went deeper into debt. Then it all came crashing down.

PUNDITA: Thank you, Claudia. There are many explanations and related factors that I didn't bring into the conversation but that's the ballpark.

CLAUDIA: Even though you didn't publish that part, we started the conversation when I asked how you would fix the economy if you were President Obama. You told me that the president didn't have the power to fix the economy because that power is with the Federal Reserve. That astounded me.

PUNDITA: It's one of those facts that are hidden in plain sight. The Fed sets and manages monetary policy and the Congress and the Executive Branch handle fiscal policy.

Even though the Fed has to answer to the Congress, that's not saying much. After the US abandoned the Bretton Woods agreement in the 1970s and replaced it with the petrodollar agreement, US monetary policy became the blackest of black arts.

There were probably zero members of Congress and their aides who had advanced degrees in math. Most of those elected representatives were lawyers. So for decades the Fed had been making up any kind of hoodoo they wanted. The worst part was because the Fed wasn't an ace at higher math, either, often they believed their own spells and incantations, which led to a lot of trouble.

At one point, while Paul Volcker was running the Fed, he got so tangled up in a dizzy monetary model that West Germany's central bank had to rescue Fed policy. That yanked America back from the brink of runaway inflation.

CLAUDIA: This is very scary stuff, Pundita.

PUNDITA: As long as things stayed relatively simple, they could always patch over their mistakes by fiddling with the money supply -- although it's been argued that the patches just kept leading to another monetary crisis. But once the global money supply skyrocketed because of the current era of globalization and financialization, the Fed was in over its head.

Instead of admitting that, they tried to hide it. That's when things headed toward FUBAR.

In early 2006 they stopped compiling M3 figures, which is one measure of the money supply. They said those figures weren't necessary anymore. So Ron Paul got up before the House of Representatives and said, "Actually, M3 is the best description of how quickly the Fed is creating new money and credit."

He said a lot more at the time, not all of it correct; for example his data on the situation with Hugo Chavez was skewed, but he was right about the importance of M3 -- what's so funny?

CLAUDIA: Ron Paul is a Texan.

PUNDITA: [laughing] Oh, right, I forgot!. Yeah, it would have to come from a Texan. What he got in reply was the chirping of crickets.

The different measures that make up the money supply are cumulative -- there's M0, M1, M2. M3 is all that plus certain types of CDs, such as institutional money market mutual fund balances, and also deposits of eurodollars and repurchase agreements.

CLAUDIA: Those measures sound as if they'd be indicators of whether speculation was heating up.

PUNDITA: I suspect the present way of monitoring the money supply is antiquated; there might not be enough data categories to pinpoint were trouble spots are cropping up in the globalized era of massive speculation in financial instruments.

CLAUDIA: Do you think the Fed foresaw the crash?

PUNDITA: Without M3 data? I don't know. But even if they did they couldn't give an adequate warning without risking that it would touch off a panic. By 2005, when they announced they were going to suspend M3, the Fed was staring down the barrel of financialization run amok, and they were incapable of digging an exit for society. After helping to create a monster it was outside their power to control it.

CLAUDIA: We keep coming back to the story of the Sorcerer's Apprentice.

PUNDITA: Yes.

CLAUDIA: There's a point I'm not clear on; are you saying that Humpty-Dumpty can't be put back together again, or that it's not worth it to try?

PUNDITA: There's going to be a lot of fiddling with the international monetary system. That should get seriously underway at the G7 and IMF meetings later this month in Washington. There will be another meeting of the G7 finance ministers in June. They can't put things back together again exactly as they were, but they can put a lot of duct tape on Humpty-Dumpty, particularly if they admit that gold should be integrated in the patched system.

CLAUDIA: This doesn't solve the problem of too much money sloshing around the world.

PUNDITA: We'll see what they come up with. What Americans need to do for their part is confront the Equalization angle. If Americans don't want to accept a return to more industrialization, if they want to keep on being an investor society, they're going to have to acknowledge that they're investing themselves into a government that's even more blatantly statist than the one they have now.

Here I'm speaking not in the sense of fascist statism but in the basic meaning of the term: a central government having the major role in the direction of the economy, a role that's backed by sweeping economic powers.

Much more statism will be required if we keep going down the Equalization path. That's because once Main Street gets heavily involved in playing the markets, the government has to become increasingly interventionist because Main Street demands a much greater cap on risks than Wall Street.

And there's already been tremendous intervention. The loosening of various market regulations in no way diminished the massive power that the U.S. Federal Reserve gathered to itself. In 1987, following the stock market crash, the Fed adopted an explicit "too big to fail" policy toward the entire equity market.[2]

CLAUDIA: I thought this "too big to fail" idea came up because of the present financial crisis.

PUNDITA: It was old news by then; so was the idea of a bridge bank. In 1987, Congress passed the Competitive Equality Banking Act, or CEBA. The act authorizes the FDIC to operate a failed bank for up to three years or until a buyer can be found, whichever comes first.

CLAUDIA: How did it come to this?

PUNDITA: It happened because the year before CEBA was passed Congress replaced the defined benefit plan for federal civilian workers, the CSRS, with a less generous defined benefit plan and a generous 401(k)-type plan, the TSP.

From then onward, 401(k) savings plans became the fastest-growing type of retirement plan in the United States.[3]

CLAUDIA: Then it wasn't really the banks that were too big to fail; it was the 401(k) savings plans!

PUNDITA: The stock market crash, coming a year later, in 1987, threatened to spook employees away from the 401(k)s. Those savings plans were seen by government as the way to take pressure off the Social Security system, which was already a stool on one leg.

CLAUDIA: But the 401(k)s crashed anyway in the present financial crisis!

PUNDITA: Leading to the unavoidable conclusion that the Federal Reserve needs even more power to fiddle with the economy. And that the Congress needs to enact even more laws to create fail-proof conditions or at least the illusion of such.

All of this undercuts the idea of the capital and financial markets, which are about accepting risk. Once Mr and Ms Main Street have their life savings in Wall Street, risk is not to be tolerated.

CLAUDIA: Pundita, the hair of the dog never works.

PUNDITA: Well, see where your 401(k) is a year from now. The Fed can't prevent steep declines in the markets or crashes, although they're trying to foolproof the system. But they figure that as long as they can apply a remedy after the fact, that will keep the 401(k) savings system intact. After the 2001 crash the Fed cut interest rates nine times, which touched off a boom.[4]

CLAUDIA: But that just led to more explosions in the money supply, and the housing bubble, and to the banking crash! It's just getting worse and worse.

PUNDITA: Economists have perfect faith in their art; when it fails they don't question it, they exert themselves to practice it more perfectly.

CLAUDIA: All this reminds me of The Matrix, only without Zion and Neo.

PUNDITA: The Matrix is the wrong film analogy. The right analogy is THX 1138.

Throughout the film the audience assumes that the factory is what the world is like in the future. Only at the very end, when the protagonist escapes, do we realize it was just a factory, and that the world outside is not under the control of a totalitarian government.

In the same manner, Americans today are largely unaware of the extent to which economic models have come to rule their thinking, their politics, and every aspect of their lives. Economics is simply a social science. But through many twists and turns it came to have great power in government and, finally, controlling power.

The reason it's hard to see beyond this paradigm is because during the past half century it came to dominate the world. That's why, last year, I strongly recommended Nils Gilman's Mandarins of the Future ...

Gilman decided to write a history of the thinking of the people who created modernization theory.

The theory deals with development theories but they all rest on economic theories. So once you read Gilman's history, it's like escaping from the factory in THX 1138. You see that a great deal of the madness of this era arose from blind implementation of economic models -- a bunch of theories, most of which are not grounded in real-world events.

Yet these theories ran the world for close to a half century. They couldn't run the world on their own; they were adopted by governments, their central banks, and powerful transnational organizations such as the International Monetary Fund and the World Bank.

The upshot is that political parties have become window dressing for different schools of economics. That's why many Americans, and many people around the world, have the feeling of running in one place. No matter which party and platform they elect, somehow it keeps working out to the same thing. There's a reason for that feeling. It does keep coming down to the same thing: a view of society and government built up from economic models.

CLAUDIA: Do you think that might be why so many people see Obama as an agent of change? Are they hoping for someone to lead them to a new way of thinking?

PUNDITA: If so, they're in for a letdown if he sticks with the political platform that took him to the White House. The platform is straight out of the playbook of the European social democratic parties. It's based on another economic model that has no grounding in the real world.

If you want to get an idea of how skewed the model is, the European socialist states could not have arisen from the ruins of WW2 without US support, and at least prior to the dissolution of the Soviet Union, European/Anglo defenses would not have been in any way adequate.

Economic arguments for application of the Anglo-European welfare system to the United States must factor in US military protection for Europe throughout the post-WW2 era until the end of the Cold War, but they don't.

And the arguments for the welfare model don't factor in that the Anglo-European states have left it largely to the U.S. taxpayer to fund policing efforts around the globe in the post-WW2 eras.

But if you tell all this to Americans who support the European social democratic political model, they look at you as if you've come from Outer Space.

CLAUDIA: 'Don't invade my world with facts.' Somehow, I don't think reading one book is going to do it for those Americans.

PUNDITA: That history is powerful medicine. At some point it hits you that the theoreticians Gilman profiles are like a tribe that gets cut off from the rest of the world. There's not enough feedback from the outside to clue them in when they've descended into practices that to anyone else are barking mad. They only have each other for a guide. So if they all start barking, they figure that must be the yardstick for sanity.

The theoreticians who set out to help the USA win the Cold War admired each others' economic and development models, they criticized and refined each others' models; their whole world became those models. And increasingly ruthless and cynical governments didn't give a damn whether the models worked; they were just a means to gain power over other governments.

Eventually modernization theory collapsed from its own contradictions. Yet it left in its wake societies that totally accepted the idea that following economic models was the key to a nation's prosperity.

CLAUDIA: Pundita, what are we going to do for feedback when humans are so integrated it's like one tribe?

PUNDITA: Let's cross that bridge when we come to it. The key point is that a group of people, the modernists, were very much cut off from reality. Yet their theories had a big hand in shaping today's world.

The task now is to get our heads outside the economics models and see our society more as it really is. Americans took a wrong turn when they confused fiscal matters with economic theories. We need to go back in our minds to that point and untangle our thinking. Then Equalization theory, and much else stupid we've accepted about socio-economic matters, will vanish like mists in the noonday sun.

CLAUDIA: Thank you for helping me untangle my thinking.

PUNDITA: Thanks for your questions and for acting as a sounding board. I've had a lot of observations during the past year that I've had a hard time getting down on paper. Talking things out has helped me organize my thoughts. Now if I can only manage to express them in 700 words or less.

1) "A bill has been introduced in the Texas House of Representatives, authored by Bryan Hughes (5th district), Brandon Creighton (16th district), and Leo Berman (6th district)... "Affirming that the State of Texas claims sovereignty under the Tenth Amendment to the Constitution of the United States over all powers not otherwise enumerated and granted to the federal government by the U.S. Constitution, serving notice to the federal government to cease and desist certain mandates, and providing that certain federal legislation be prohibited or repealed."

The quote is in the comment section at the New at Politics blog in response to their January 2009 post, Can Texas Secede? Other comments have a little information about other US sovereignty movements:

February 16, 2009: "This week, New Hampshire and seven other states have introduced resolutions declaring state sovereignty under the Ninth and Tenth Amendment to the Constitution, with Analysts expecting another 20 states to introduce similar measures this year. This reasserts the states authority through a rollback of federal authority under the powers enumerated in the Constitution, with the states assuming the governance of the non-enumerated powers, as required by the Tenth Amendment. [...]

We certainly have many unhappy people with the current direction of the Obama administration when we have lawmakers in 20 states making moves to reclaim sovereignty. Contact your State Rep if you want this as well -- not your Federal Rep.

The following states have introduced resolutions declaring sovereignty under the Ninth and Tenth Amendment recently. Arizona, Hawaii, Montana, Michigan, Missouri, New Hampshire, Oklahoma and Washington.

Expected soon as well: Alaska, Alabama, Arkansas, Colorado, Georgia, Idaho, Indiana, Kansas, Nevada, Maine and Pennsylvania. [...]"

2) The Financialization of Capitalism, John Bellamy Foster; Monthly Review, April 2007

3) History of 401(k) Plans, an Update; EBRI, February 2005

4) Fed slashes rates again; CNN Money, October 2001
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11:45 PM ET UPDATE
I received this fun note from Dan Riehl in response to the post:

"I see the advice on length went out the window. LMAO You are an incorrigible cuss."

This entry is crossposted, with illustrations, at RBO.
April 16 Update
This entry is crossposted at Uppity Woman.