This aphorism, which is quoted with increasing frequency, was coined by Herb
Stein, a great economist and friend of Israel who, together with Stanley
Fischer, was closely involved on behalf of the US government in the Economic
Stabilization Program of July 1985 that saved the Israeli economy in the
mid-1980s. Stein was a very clever man, and the quote proves it.
face of it, the idea being expressed is pretty obvious and so seemingly devoid
of wisdom. However, in the economic sphere, the basic truths that are supposedly
obvious need to be highlighted and repeated, sometimes endlessly, because they
are so regularly ignored and/or ridiculed.
Any process that cannot go on
forever will eventually stop.
That was true of the house price boom in
Florida and Nevada in 2005, as it was of the dot.com boom in 2000, and of
countless other economic and financial phenomena throughout history.
didn’t need any special insights or knowledge to know that the housing mania
that developed in the US, Ireland, Spain and elsewhere a decade ago would end in
a massive bust.
You did, however, need the guts to stand up to the
thundering herd who were convinced that it would go on forever, and who invented
ideas, concepts and a warped version of reality to “explain” why that would be
the case. As in most similar situations, these arguments were variations on the
basic theme that “this time it’s different.”
But it never is. The most
immediate and critical current application of what is sometimes referred to as
“Stein’s law” is with regard to the US government – and, by extension, to other
governments around the world that are locked into a deficit cycle in which they
borrow more and more to fund larger and larger parts of their spending. Thus it
is obvious to any sensible person that the US government cannot forever run a
deficit of some $100 billion per month.
Therefore, this situation will
stop. Once that is recognized, the discussion can turn to how it might stop,
with the two main options being either a process initiated by the US government
in which it acts to reduce its borrowing requirement, either by spending less or
by increasing its revenues (read taxation), or alternatively, by a process
imposed on the US government from the outside – in practice, by the financial
markets – to force it to stop.
However, obvious though this is, the
policy of the Obama administration has been – and continues to be – to avoid
admitting the obvious and to pretend that what cannot go on forever will
nevertheless not stop – at least not in the timeframe relevant to this
administration. There is nothing especially bad or stupid about the current
administration in this respect, despite the demonization of the Obama people by
the Republicans. Bush Junior was as bad or worse and the basic attitude is very
deeply entrenched in Washington (and Tokyo, and many other places), on both
sides of the aisle.
The Federal Reserve, under Greenspan and now under
Bernanke, has been a willing and eager accomplice in generating, supporting and
facilitating the entrenchment of the mindset that fundamentally unsustainable
processes can indeed carry on forever. The methods used by the Fed, and by other
central banks around the world, over the last several decades but especially
since 2008, have been to supply liquidity to the financial system and thereby
cover up the fact that the banking system is bust and the banking function (of
lending money to businesses and households to finance investment and affordable
consumption) is fundamentally broken.
This has been further developed so
that the central banks provide sufficient funds for the purchase of much –
sometimes most, and in some cases even all – of their government’s issuance of
new bonds. The pretense that the central banks are not “monetizing the
government’s debt” is scrupulously maintained, but the reality is that without
the various mechanisms employed, that debt would either not be sold at all or,
more likely, would need to offer much higher interest rates to attract
As this column has noted many times over the past few years,
the entire edifice of the financial markets has become warped by the vast pools
of liquidity being created by the central banks. However, like all addictions,
the free-money drug requires ever-greater doses to have the same effect, while
the side-effects become more harmful as the dosage increases – and as the
negative side-effects accumulate over time. The markets are now so hooked on
central bank-provided liquidity that the merest mention of the possibility of
reducing – let alone ending – the dosage causes tremors and traumas.
is what has happened in the markets over the last couple of days, in response to
the publication of the minutes of the Fed’s most recent discussion of the future
path of what it terms, euphemistically, as “accomodative” monetary
Nothing has been decided and no action has been taken, nor is any
likely in the near term. But no matter. The mere mention of the idea that the
free-money policy is ultimately unsustainable is totally unpalatable to the
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