A couple of economic ideas from the past.

As we lament economic inequality and get ready to keel-haul the Greeks, it is worth recalling  some commanding ideas of the past.

International payments and the domestic economy.

First, in the olden days, money had consisted of silver (good) and gold (better). Then, people had agreed to use paper money (which was worthless) on the understanding that it could be exchanged for gold whenever anyone wanted. To prevent scummy governments from printing all the paper money they wanted (“How can I be over-drawn when I still have some checks?”), fixed ratios of paper money to gold held by the government were established. The more gold that a government held, the more paper money that it could issue; the less gold that a government held, the less paper money it could issue. (See: accordion.)

Second, the money from one country can’t be used in another country. Countries settled their debts by transferring gold. Buy more stuff from a foreign country than you sell to that country and you had to settle the debt by shipping gold. Sell more stuff to a foreign country than you buy from it and they sent you some gold.

Third, if you put gold-backed paper currency together with the use of gold to settle international debts, you got a system in which the domestic economy of each country was linked to the international economy of all countries. If a country exported more than it imported, then gold flowed into the country. The increased gold supply inside the country compelled that country to increase the amount of paper currency in circulation. Prices and incomes would rise, making it less competitive. If a country imported more than it exported, then gold flowed out of the country. The decreased gold supply inside the country compelled that country to decrease the amount of paper currency in circulation. Prices and incomes would fall, making it more competitive.

Ideally, each country would strive for a rough equilibrium. However, the system was thought to be kinda-sorta automatically self-correcting. Countries with in-flows of gold and rising national incomes then could afford more stuff from abroad and ended up having to export gold. Countries with outflows of gold and falling incomes then could afford less stuff from abroad and ended up importing gold. This cut down on the role of any national government in managing the economy. Mostly, the heads of the various national banks (the Bank of England, the Bank of France, the US Federal Reserve Bank, etc.) were supposed to co-operate in smoothing out any bumpy patches.

 

Business cycle theory.

Commonly-accepted economic theory held that during a period of growth demand exceeded supply, so prices rose too high; any fool could make a profit and many did; wages tended to float up above a sensible level and many dead-beats got hired; and banks made unsound loans. In short, “plaque” built up in the “arteries” of the economy. This couldn’t go on. Eventually a “slump” would clean out all the plaque and re-establish the basis for sound growth. (See: angioplasty.) Demand would fall. Falling demand would force down prices to a reasonable level; unemployment would get rid of dead-beats and take wages down to a sensible level; silly businesses (see: nail salons) would go bankrupt; stupid loans would not be made; and the particular mix of products would return to what people actually needed. Then the economy could start growing again.

There is a seductive elegance to these all-encompassing theoretical systems. Same as there is with Marxism. The parallels don’t end there. Ideas have consequences.

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