Oct 23, 2008

Brother can you spare $700 billion?

The financial markets reflect the cumulative result of millions of individual decisions. Regarding decisions, The Buddha said that they should never be made on the basis of greed, anger, fear or delusion. It is obvious how greed and fear have poisoned the well, but I would like to focus on something a little deeper, how delusion has worked in creating the present financial collapse.

Specifically, the whole scenario demonstrates the truly amazing power of mental formations in human history. Money itself is an abstraction. At some point in the distant past people agreed to believe that this shiny rock was worth two cows, even though the real, utilitarian value of a cow is considerably more than the real, utilitarian value of a shiny rock. Paper money is an even more refined level of abstraction. This piece of paper with the queen's face, or a spooky eye-in-the-pyramid design or whatever, is said to represent so many shiny rocks, which are worth so many cows. Eventually, they dropped the bit about the shiny rocks.

Having gone off the "gold standard", such currency is sometimes called "fiat money," meaning that the value is purely by government fiat. This is not really accurate. A dollar bill doesn't have value because the government or the central bank says so. It has value because the people believe it does. It is faith-based currency. It is not surprising that paper money was first used in China, a civilization deeply affected by Buddhism and Taoism, and used to philosophical subtlety.

Consider what is happening here; material goods and hours of labour are freely traded for an agreed convention. Something on the material plane of reality is being surrendered for something on the purely abstract plane of mental formation, which is void and without substance. Maybe that eye-in-the-pyramid is telling us something.

Fast forward to the dawn of modern capitalism in post-reformation Europe. The "real economy" of goods and services was becoming complicated, involving more, and more kinds of goods, some of which were being shipped literally across the planet. To facilitate all this action on the plane of material reality, various new kinds of mental abstraction were invented, usually represented by fancy bits of paper. Insurance, promissory notes, bonds and company stocks all came into being, each representing a contract between parties to fulfill certain obligations.

The stock market, in it's original manifestation was not very far removed from material reality. If you bought a ten percent share in the East India Company it represented something close to ten percent of the ships and goods of the Company and entitled you to ten percent of the profits made. The value of the stock would, in theory, go up only if the Company acquired more ships and trade goods.

Of course mental formations, although void of substance, have a powerful energy when millions agree to believe in them. From the earliest days of capitalism the phenomena of "speculative bubbles" made themselves felt. As company shares traded hands, the value become divorced from the underlying reality it was supposed to represent. The value of a share was no longer based on how many ships the company had, it was now based on what the buyer and seller mutually believed it to be. If the buyer believed he could later resell it for more to somebody else, he didn't care about the underlying value.

This is sometimes called the "Greater Fool Principle." If the value of a company share in terms of the real goods it represents is, say one hundred dollars, a person would be a fool to pay one hundred and fifty unless there is a greater fool out there to whom he can sell it for two hundred. The value of the share becomes a pure abstraction. You might as well be trading tulip bulbs. Or "credit-default swaps."

The problem, of course, is that inevitably you run out of fools. Then the whole bubble bursts with frightening rapidity. The whole thing would be comical if the abstract world of imaginary numbers on bits of paper or computer disks didn't rebound back on the real world. Many 17th century Dutch burghers had sold real assets like land or ships to "invest" in tulip bulbs. Many, many people today have put the earnings of their labour into the stock market or other financial instruments that were pure bubble. Real goods thrown into an imaginary realm.

Now, after several centuries of elaboration, we are into a fantastic realm of abstractions of abstractions. Fractional reserve banking creates money which is based on nothing at all, not even bits of paper. And understanding the levels of abstraction involved in derivatives is a special science. The "value" of the derivatives out there is said to be ten or fifteen times the combined GDP of the whole planet. Tulip bulbs.

The imaginary nature of the financial world is very clearly illustrated when you hear, after a market downturn, that so many billion or trillion dollars of wealth have disappeared. That "wealth" was never there in the first place. What has disappeared is the agreed upon mass delusion that such wealth existed.

It will be interesting to see what happens next. So far the world leaders seem to be reacting out of panic and fear. Huge sums of borrowed money are being pumped into the bubble in a mad attempt to keep it inflated. The Stadtholder is buying all the tulip bulbs with money borrowed from Venice.
The state, really the community as a whole, has now become the greatest fool, the fool of last resort. The question is, what effect will all this movement of imaginary numbers have on the real world of work, clothes, food and housing? Real goods will probably become scarcer for most people either through higher taxes to repay the stupendous debt load or through hyper-inflation of the currency to eliminate the debt that way. There will be pain, material existence will become bleaker and harder and all because of the shifting fantasies of purely imaginary conventions.

In the various schemes to restart the big ponzi scheme, you keep hearing the phrase, "restore investor confidence." That gives the game away; the goal right now is to get people believing once again in the magic money tree. Eventually, we will have to face the need to get the real economy of goods and services working. It may have to wait until the bubble economy collapses back to it's natural state. Then there may be a general realization that you can't get something for nothing, no matter how inflated the imaginary numbers are.

If the collapse is as complete as it looks like being at the moment, there will inevitably be a restructuring of the world economy. What shape will it take? What shape should it take? I don't have the slightest idea. I've long ago stopped believing in political utopias; this is samsara, after all, it's supposed to be broken.

It might be worthwhile, though, to consider some basic values. Capitalism, at least before it switched from managing production to flim-flam schemes, worked pretty good in some respects. It did keep a very complex economy moving on a global scale, and that is no mean feat. However, it was not so good at other things, very important things. It has no built-in mechanism to conserve the natural environment, and that is starting to become critical. It was never very good at distributing goods to those who needed them most, and in recent decades the gap between the richest and the poorest has been growing.

When thinking about an economic order, we should remember what an economy is for; human comfort and health primarily and the satisfaction of lawful sense pleasures secondarily. The first priority should be to make sure that every person gets the sufficiency of a decent life, i.e. the four requisites of food, shelter, clothing and medicine. After that, the surplus should be rewarded to those who are most energetic and creative in producing wealth for the general community, certainly not to those who are most clever at manipulating mental abstractions like derivatives and futures. In other words, reward production and creation, not speculation.

In any case, we are in for some changes, but that's always been the case.


What's all this about tulip bulbs then?
Image is Hogarth's "South Sea Bubble." Full size version.


E-B-E said...

Welcome back. Brilliant as usual.

Honsing said...

Thanks for the wonderful post. I was looking forward to your blog very much. :)

For this post however I would like to give an example to show the numbers are not as imaginary as you mentioned.

Suppose A and B bought a house and would like to rent it out to earn a living. Suppose the house can fetch $1000 per month for the next 30 years. A simple financial model assuming 5% interest rate per annum would yield a worth of $186,281.62 now.

If C comes along and he could rent out the house for $1500 for the next 30 years, perhaps because he has a better way to rent out houses, then to him the house would be worth $279,422.43. Therefore he would be able to afford to buy the house from A and B at a higher price. There is no "greater fool theory" here. C can pay a higher price because he has a better business model.

Suppose an unexpected fire occurred to the house, and permanently damaged the house. Despite C's good business model, he can only subsequently get a rent of $1400 per month. Then by the simple finance theory, the house would be worth $260,794.26. Because the fire has reduced the future income stream of the house, the fire has effectively wiped off about $19K worth of the house. This $19K is lost future income. You can claim that it is imaginary. But if the fire did not happen, this $19K would be as real as it can get.

Finally suppose A and B did not sell to C. Hence the house is still worth $186,281.62. However B suddenly does not trust A, and B wants his portion of the money back. Then A and B would be forced to sell the house. Suppose because of the emergency sale, the house would have to be torn down and thus could only be sold at a lower $100,000. Therefore A and B both suffered a loss. Furthermore because the house would have to be torn down, the society would have 1 house less for lodging. That means because of B's lack of confidence, the society is going to become less productive.

What the government is trying to do now, is to prevent the liquidation and tearing down of the house. They step in and buy over B's portion. Hence the house stays, and the productive lodging of $1000 per month continues.

The government is not trying to keep any bubble inflated. It is trying to prevent the destruction of productive assets in the economy that would lead to a downward spiral towards lower productivity and loss of more wealth. For example if the airline fails, there will be less flights for everyone. If the mall fails, there will be less retail malls for everyone to get food. If the bank fails, it is even worst, both the airlines and the malls can fail because they will run out of short term working capital. Hence when the government steps in to save the banks, they are trying to prevent a massive economic failure chain reaction.

Yes I agree that greed is involved in this entire crisis. However it comes in in a very subtle way. I believe a recession cycle is at the cause of the crisis. While we can trace the cause of recession to the bubbles, and the cause of bubbles to the money, and the cause of money to greed etc, I think dealing with the recession would be much easier than dealing with greed. Of course the best would be that we can all eradicate greed. But given that greed would not go away in the next 5 years, perhaps we can deal with the recession first.

What do you think?

Lustfelt 4 My Rustbelt said...

I am so grateful you are back!

Avatar said...

Dear Ajahn Punnadhammo,

Interesting analysis. I'm thinking along the same lines. The capitalist system is really off-the-kilter when I think about it sometimes.

Perhaps you could post something about economics based on Buddhism? Right now, I'm exploring E.F.Schumacher's book 'Small is Beautiful'. There's also a book by Ven. A. Payutto on economics based on Buddhism here.

Unfortunately, my understanding of both topics are quite shallow as I'm not an economist. I'm also only a lay Buddhist. So, my understanding is somewhat limited. Hopefully, you can share some insights on these topic if you feel it's interesting.

Kind rgds

Philip Kienholz said...

Ajahn Punnadhammo:
After reading innumerable posts on the recent crash I can suggest two that shed more light on the topic than most. But there is no shortage of economists with valid criticisms and reasonable suggestions for, as they say in the bean counting trade, going forward. If only our democracies were not functionally skewed by the concentrations of financial wealth....

Chris Martenson has a 21 lesson economic crash course, each lesson on the order of 5 - 10 minutes, that is very instructive. It is so dense and rapid that multiple hearings are helpful to take written notes to assimilate the abstract and unfamiliar concepts gradually. I could not get my browser to properly display all the graphics in alignment with the audio stream, but, hey, what else is new in the streaming world, and I found Chris' voice track provided understanding of the ideas: http://www.chrismartenson.com/crashcourse.

Catherine Austin Fitts, had a brief and radical 20 point list under the title, "Developing Economic Reforms," 5 Nov 2008 on her Solari Real Channel blog: http://solari.com/blog/?p=1792#more-1792.

Kenneth Fisler said...
This comment has been removed by the author.
Kenneth Fisler said...

Of the many fine points in Bhikku Ajahn Punnadhamm's exposition, I'll address just one, albeit an important one: the contention that samsara (roughly, the cycle of rebirth into earthly existence) "is supposed to be screwed up."

First, in the context presented it suggests that the world we live in is beyond hope and so it may well excuse or even discourage action which might make life here better. I'm sure the author wasn't promoting that view; for the thrust of his entire article-- bringing understanding to our current credit crisis-- bespeaks a concern for others, for helping them live through it, and to prepare us for what the future may bring. Yet though we live in critical and overwhelming times, times in which action seems futile, we should still, as did Ghandi when confronting the British occupation of his country, acknowledge that though it may be futile, we still have to act.

Moreover, we should avoid dichotomizing nirvana and samsara for they are not really separate. As Padmasambhava said in "Introduction to Awareness" (in The Tibetan Book of the Dead, 2005 Viking translation, p. 40):

"All these [practitioners] stray from the point because they polarise the non-dual reality.
And since they fail to unify [these extremes] in non-duality, they do not attain buddhahood.
Thus, all of those beings continue to roam in cyclic existence,
Because they persistently engage in [forms of] renunciation,
And in acts of rejection and acceptance with regard to their own minds,
Where [in reality] cyclic existence and nirvana are inseparable."

This notion is not unlike an answer given by Jesus Christ: when asked, "Where is this 'Kingdom of God' you speak of", he replied, 'It's here, it's all around you.'

In the chapter entitled "Acts of Confession" [op. cit.], Padmasambhava points to other, related dualities to avoid: good and evil, great buddhas and small sentient beings ("there is neither great nor small"), "this life and the next", "spaciousness and confinement", and "higher and lower". (p. 143ff.) Embracing-- believing in-- such mentally (and physically and ethically) divisive concepts constitutes delusion and so too is karmically hazardous. And they disserve the holder of such delusions to manifest for them a breach between samsara and nirvana.

So if there's what may be no more than an enlightened glance of a difference between samsara and nirvana, we shouldn't disparage this world-- nor should we speak or act to discourage those striving to better this samsaric life. These-- either of them-- would only create a duality larger and stronger, fulfilling the delusion of that duality.

Kenneth Fisler
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