The paradox of the situation is that when you remove the drug, debt, the system collapses. Anyone who doubts this only need to look and how desperate Greece became. To think this stops with Greece is to believe the lie from 2007 that this was contained to sub prime.

This isn’t about going back to the gold standard. It’s simply a debt crisis and a flight to quality. This is evident in the fact that gold is rising against all other currencies.

The question is, in the face of all of this recent turmoil and the GFC, how do we keep using our resources most efficiently? How do we employ the many people unemployed currently? How do we get underutilized production capacity rolling again?

I’ve recently been having a bit of a shift in my thinking; to me, money and debt are just abstractions; it seems silly to me that so many people cannot find work because companies are selling less than they used to, because people aren’t buying, which then turns into a cycle… when there is so much work to be done in this world. There is always something more productive to do than being unemployed and sitting at home, collecting a check.

On one hand you can say that it encourages moral hazard to bailout those foolish guys who went into too much debt, and I agree with that. The market should punish the profligate and reward the responsible. However, this assumes that resources can be used by the responsible. When you have a monetary mess that leaves resources unused and sitting idle, putting people out of work and thus starting a spiral of foreclosures, defaults, and austerity, that seems kind of wasteful.

On one hand, I agree with the austrian way of thinking that says that continuing to reflate will just set up the stage for an even bigger bust later; we are not letting the system clean itself out. Capital hasn’t been properly allocated, and we need to let it sort itself out based on the proper incentives of punishment for profligacy and rewards for responsible behavior.

On the other hand, this sort of deflationary spiral seems like it could be a self-fulfilling prophecy. As people stop buying things, companies lay off workers, who subsequently can no longer afford to buy goods thus putting more pressure on companies to lay off workers. Eventually you end up with millions out of works, far less goods being produced, and many homes in foreclosure. Prices would fall through the floor, which is good for those who saved but bad for those who have a mortgage to pay off.

The austrians imply that this would clean out the system, setting the stage for a true recovery, but it seems like a pretty harsh and wasteful way to go about it, since you end up with tens of millions of people just sitting around, not doing anything except maybe collecting UI cheques. In terms of real wealth, you end up with underutilization of resources and thus less real wealth to go around, whereas if you keep the deflation from happening you at least keep things humming along which means more use of resources and more real wealth to go around.

This is all theory, of course, and I am by means no expert, but perhaps what it all means is that a bust is not necessarily such a great thing because of the waste of resources. Bailouts are bad, too, since they perpetuate poor use of resources. Perhaps there is a middle ground of some sorts here, and perhaps sovereign debt needs to be looked at in another way. I am still working through these new ideas; perhaps something else to blog about at some point What do you think?