In the 19th century it was railroads, in the 1920’s it was the automobile, and more recently computerization and the internet have driven huge inflationary growth booms. But in a world where the money supply is largely fixed and stable, inflationary growths are naturally limited and expected to be followed by recessionary contractions.
Unfortunately people are not quite rational agents. It’s hard to imagine the economic psychology of people a century ago or so back before central banks adopted permanent low-grade inflation through monetary expansion, but I still expect that people would irrationally feel better during times of rising wages and prices vs the converse, even if their actual purchasing power parity was the same. I also doubt that labor unions would accept that wages should naturally fall during recessionary periods in proportion to their growth during the preceding expansions.
There seems to be a mainstream view that deflation is bad, but it is actually the natural consequence of rapid technological innovation. For example, few complain in the modern era that electronic hardware of some fixed capability is halving in price every few years. If some miraculous future technological progression brought a moore’s law like exponential to apply to housing, a fixed size and quality mansion would half in construction and land cost every few years.
In this scenario houses would lose half their value every few years, and far from being some disaster, it would be an unimaginable net effective wealth creator. Progress is all about deflation: about getting more value for less.
While this is difficult to imagine, future nano-technology breakthroughs could partially allow this, although they could not drive cost below fundamental material prices and space limits. On the other hand, approaching the Singularity our future descendants will live as uploads in virtual reality, where all of space compresses exponentially along moore’s law, but that is another story . . .
So after the bursting of the dot.com and general tech boom in 2000, Americans and much of the world chose to direct their savings into . . . spatial arrangements of dead trees.
Consider that the next time someone tells you about the merits of investing in real estate. How exactly does that improve our future?
Great Irrational Expectations
The Libertarian PayPal/Facebook Billionaire and SIAI backer Peter Thiel believes the central problem underlying the bubbles of recent decades is below expectation technological progress. He’s spoken about this theme before, it is reiterated in a recent interview with the National Review Online here:
THIEL: There’ve been a whole series of these booms or bubbles in the last few decades, and I think it’s a very complicated question why there have been so many and why things have been so far off from equilibrium. There’s something about the U.S. in the last several decades where people had great expectations about the future that didn’t quite come true. Every form of credit involves a claim on the future: I’ll pay you a dollar on Tuesday for a hamburger today; I’ll buy this house, and I’ll pay off the mortgage over 30 years; and so you lend me money based off expectations on the future. A credit crisis happens when the future turns out not to be as good as expected.
The Left-versus-Right debate tends to be that the Left argues that the expectations were off because of ruthless lenders who sold a bill of goods to people and pushed all this debt on people, and that it was basically the problem of the creditors. The Right tends to argue that it was a problem with the borrowers, and people were sort of crazy in borrowing all this money. In the Left narrative, it starts with Reagan in the ’80s, when finance became more important. The Right narrative starts in the ’60s when people became more self-indulgent and began to live beyond their means.
My orthogonal take is that the whole thing happened because there was not enough technological innovation. It was not really the fault of the borrowers or the lenders; the problem was that everybody had tremendous expectations that the country was going to be a much wealthier place in 2010 than it was in 1995, and in fact there’s been a lot less progress. The future is fundamentally about technology in an advanced country — it’s about technological progress. So a credit crisis happens when the technological progress is not as good as people expected. That’s not the standard account of the last decades, but that’s the way I would outline it.
Thiel seems to be making the standard assumption that bubbles are unnatural and monetary contractions are problematic, although otherwise he is astute in pointing out the standard narratives are incomplete. But in an economy with a stable money supply, all prices are expected to randomly fluctuate, with ‘bubble’ like periods of expansion and contraction. Any significant longer term deviations must result from fundamental changes in the underlying monetary system. The historical shift occurring when demand deposits (checking accounts) usurped real money was one such a permanent inflationary deviation, but that happened long ago.
More recently much deviation stems from the fed’s policy of steady modest monetary expansion. This low background inflation mimics a modest real economic boom and adds a subtle veiled illusion of prosperity over our psychological expectations.
The real question is thus not why are there bubbles, but what will we inflate as the next bubble? Every bubble has winners and losers, but not all bubbles are created equal. The dot com ‘bubble’ resulted in the internet and a massive shift to the virtualization of much of the economy with all the accompanying significant productivity gains. The real estate bubble left us with . . . dead trees.
From an economic perspective, the Singularity may appear as the bubble to end all bubbles, or the bubble that never pops. Or more accurately, it will economically take the form of a contraction of the entire business cycle and it’s acceleration into hyperspeed.
So what the world needs right now, more than ever, is an AI-bubble. If there ever was a truly deserving economic stimulus subsidy plan, investing in technology which leads to hyper-exponential runaway productivity gains surely is it.