Economics: Money and Sustainability

At the end of the previous post on “Reform of the Money System” we were left with a series of questions that need to be answered if we are to address the “right” purposes of a money system.  These range from questions about how money should be created and put into circulation and how people and businesses should be rewarded and taxed, to the key issue of how to shift our dependence on money for virtually everything we need and do, so that we can focus on building a sustainable society.

So this brings us back to what is the most important issue of all for this blog: how to ensure that our grandchildren and their children after them can grow up and prosper without the fear that everything will collapse around them.  It’s the issue of building a sustainable global civilization, a goal we are presently a long way from achieving while the window for the possibility of doing it closes a little more with every passing year.

In this post we will come to the nub of the matter: why it will not be possible to achieve sustainability of a complex human society on Earth unless the money system that lies at the core of its operation is substantially reformed.  The four authors referenced in the previous post—James Robertson, Thomas Greco, David Korten, and Graeme Maxton—all were particularly blunt and assertive about the negative consequences for humanity if this reform is not carried out.  In this post we will come to understand why.

Drawing Some Threads Together

To begin, we need to draw some threads together from previous posts on the Economics theme.  First, we need to recall that the human economy is an open system nested within the social system, which is nested within the natural system of the biosphere.  Multiple interactions occur within and between the first two and the third, but the third one, the biosphere, is a closed system that can’t be refreshed from the outside except by the energy that comes in from the sun.  If we use up natural capital and make the biosphere unsuitable for life, that is the end of the story for humanity—and the bad news is that we are on an accelerating trajectory to doing just that.

A second thread in this complex puzzle is to distinguish between growth and prosperity.  The first has to do with quantitative expansion and the second with qualitative improvement—making things better.  We like to congratulate ourselves that we are in many ways making things better for humanity—more democracy, better healthcare, expansive education, and so on—but if we are tracking towards destruction of the biosphere, it is hard to claim that we are being successful in making progress where it ultimately counts: a sustainable future for humanity.  On the growth side there is plenty of evidence of what we are doing: expanding global population, material abundance of every kind, a money supply that has ballooned far beyond our human ability to comprehend the numbers, and mountains of debt everywhere.

The third thread is the concept of sustainability itself—what it really means.  To date we have worked with definitions that speak about providing a good quality of life for present generations without impinging on the possibility of a good life for future generations.  This is a good objective, but it says nothing about how to achieve it, and clearly we are not achieving it, or we would not have the concern about the future for our grandchildren that prompted me to start writing this blog in the first place.

So now it’s time to get to the nub of the issue—to draw these three threads together and explore what needs to be done to create a sustainable human presence on Earth while achieving progress within the open social system in which we live, work and play.  To do so, in this post we will look at the core operating system of society, the money system, and see why it is preventing us from achieving ultimate progress and sustainability.

The Money System Has a Structural Flaw

Every builder, artisan, or manufacturer knows that if something is built with a structural flaw in it—whether it be a building, a piece of pottery or a machine—sooner or later it will cease to operate or fall apart.  There may be warning signals along the way in the form of malfunctions and breakdowns, which are repaired, only to fail again.  The same is true of the money system.  If it is subject to repeated failures, each one of which is very costly to society, we should suspect that there is a structural flaw somewhere.

A new report, February 2012, entitled Money and Sustainability: The Missing Link, identifies and describes the structural flaw in the world’s money system, and proposes a course of action that is a necessary part of addressing it.  The report was released by The Club of Rome EU Chapter as a contribution to addressing the severe economic issues in Europe that repeatedly grab world headlines as several major European economies teeter on the edge of collapse.  The principal author is Bernard Lietaer whose earlier book, The Future of Money: Creating New Wealth, Work and a Wiser World, partly informs this report.  Three other authors are Christian Arnsperger, Sally Goerner and Stefan Brunnhuber.

The Club of Rome is a worldwide affiliation of individual members and over thirty associations whose mission is “to undertake forward-looking analysis and assessments for the betterment of humanity.”  The Club of Rome EU Chapter is an independent Brussel-based, non-profit association.  The original Club of Rome, so-called because its members met in Rome in Italy, first achieved worldwide attention forty years ago with the release of its report entitled The Limits to Growth (1972), which was one of the first publications to warn that maintaining commitment to continuous economic growth would lead to severe problems for human society in the early decades of the 21st century.  This latest report from the EU chapter indirectly addresses several of the themes raised in that original report, but its focus is squarely on a flawed money system as the central agent in contributing to humanity’s difficulties, not only economic, but also social and environmental.

Evidence of a Structural Flaw in the Money System

The report identifies three sets of evidence that something is very wrong with the money system on which global economics depends.

1.  Systemic Crises.  Global data from the International Monetary Fund reveal that in the forty years between 1970 and 2010 there were 145 banking crises (banks going bankrupt), 208 monetary crashes (devaluation of national currencies), and 72 sovereign-debt crises (concerns about a country defaulting on its national debt).  That’s a total of 425 systemic crises, an average of more than ten countries getting into trouble each year.  Hidden behind these statistics is the untold misery of hundreds of millions of people who suffer from job losses, social and political turmoil, and increasing levels of poverty.  In the words of the report, “If a car, a plane or an organization had such a track record, would there not be a universal outcry to send the designers back to the drawing board?”

2.  The Emergence of a Global Casino.  A global financial system of national currencies floating in value against each other has created in recent decades a huge ocean of what David Korten calls “phantom wealth”—wealth that appears or disappears as if by magic.  Phantom wealth is created in various ways through speculative activity, such as the inflation of asset bubbles like the recent examples of the “dot-com” bubble at the end of the 1990s in the USA, followed by the real estate bubble that collapsed in 2007.

Even more astonishing, however, is the data revealed in the Club of Rome report that “out of the $4 trillion of daily foreign exchange transactions only about 2% are associated with the real economy,” in which goods and services are produced and traded.  “The other 98%are purely speculative. The sole purpose of a speculative transaction is to buy or sell a foreign currency to make money on the change in value between currencies . . . Such volumes of speculative currency transactions are thousands of times larger than the daily trading volumes of all the stock markets worldwide [also largely speculative].  One day’s currency speculation represents more than the annual economic output of Germany or China changing hands.”  Astonishing! Incredible! None of this phantom wealth is the product of real work being done in the economy.  It is a staggering mismatch between what is real and what is illusory.  The Club of Rome report uses the analogy of the tail wagging the dog: “If a dog were to consist of 98% tail and have just 2% available for the rest of its body, visualize what would happen to the dog when the tail moved.”  Yet this is the kind of “tail-wagging-dog world” in which we now live as huge amounts of wealth get transferred into fewer and fewer hands for no productive work.

Might we wonder if there is not something wrong with a money system that allows this to happen?

3.   The Sovereign Debt Squeeze.  The whole world is only too well aware of the banking crisis of 2007-2008 and its ongoing reverberations.  Of particular concern is its impact on public debt in developed countries. However, this is likely only the tip of a very large iceberg looming menacingly in the course of all national economies as they converge towards a precarious future.

 The Club of Rome report summarizes the present situation, then signals what is coming: “The median debt increases among recent crises is 24% of GDP.  Thus, public debt burdens have increased significantly as a consequence of policy measures during the crisis.” Regarding the future, the report references a study by the Bank for International Settlements (BIS) entitled The Future of Public Debt: Prospects and Implications.  Driven by converging pressures from anticipated public expenditures on the consequences of climate change and the “Age Wave” of retiring baby boomers sweeping across the developed world, public debt/GDP ratios are estimated to increase in the coming decade to well over 100% and to as high as 300% in some countries.  “In the longer-term, the situation grows even more unmanageable; by 2040 the projected debt/GDP ratios for all these countries range from 300% to 600%!”  Such a level of public debt is not supportable and “some fundamental change will obviously happen before these projections become reality.” 

The BIS’s conclusion is frank: “Our projections of public debt ratios lead us to conclude that the path pursued by fiscal authorities in industrial countries is unsustainable.”  When a financial institution like the BIS comes to such a devastating conclusion, surely we mustask if there is not a structural flaw in the money system that must be addressed before human civilization slides into a pit of despair from which future generations will struggle all their lives to emerge?

 The Structural Flaw:  Instability Built on Error and Ignorance

 It is all too easy and simplistic to blame human nature (driven by greed and fear) for the problems of the monetary system.  This is a defeatist position.  Human nature is what it is—good and bad.  What we need is a system that provides incentives for the best aspects of human nature to come forward.  What we have now is a system that encourages the worst aspects of human nature to take over.  We try to control this by repeatedly creating new regulations, but they never seem to work well enough.  As pointed out above, we are tracking towards ever deepening crisis despite all the regulations that have been introduced over the years. It is time to stop blaming a bad driver for the car’s poor performance and look for the fault in the car’s design that causes it to continually break down and sometimes crash.

The Club of Rome report asserts that that the flaw in the design of the monetary system is centuries old, and it exists because of mistakes made by those who created it compounded by ignorance of how complex systems work.  The good news is that these faults are identifiable and can be corrected so that we can have a much better system.  The bad news is that we can expect massive resistance to change from those who are benefiting most from the current system.  That, too, is human nature; but it can be addressed if a majority of people come to understand what needs to change and how they can benefit from bringing about the necessary change.  Once they see the possibilities they can become excited about participating in implementing them, because that, too, is part of human nature.

First, let’s identify the mistakes.

Misclassification of the Economy as a Closed System

 I have written about this in previous posts, particularly in referencing the work of economist Herman Daly (see post #15 “Economics: Sustainable Development).  Related mistakes have to do with trying to apply the rigour of mathematics to economics as if it is a science similar to physics.

According to the Club of Rome report, the problem goes back to the work of Leon Walras in 1874 and other economists of the late 19th century.  They “borrowed from physics a set of ideas that fundamentally misclassified the economy as a closed equilibrium system.”  This error has “acted as a straitjacket, forcing economists to make highly unrealistic assumptions and limiting the field’s empirical success.”  It forces them to deny the effects of outside inputs like energy, and unwanted by-products like waste and pollution.  In other words, the model used by “Traditional Economics” is not the real world—it is an illusion, but they stick to it because it’s the only model in which their mathematical formulas work.

However, as bad as that is, it’s not the whole story.   The 19th century economists made another serious error.  They did not know about the Second Law of Thermodynamics, which states that order in a system is continually breaking down.  This is the concept of increasing entropy.  “Since its discovery, entropy has become a central concept in the way physicists view the world.  Unfortunately, for Walras, Jevons and the other builders of Traditional Economics, this supreme law of nature was missing from their framework.”

These two fundamental errors make it necessary for Traditional Economics to make a long list of unrealistic assumptions necessary for the equations to function—assumptions such as the following: human beings are driven only by self-interest and perfect rationality, and they always have access to all relevant information at the moment they need it.  “In reality, we must often make decisions with incomplete and ambiguous information with finite calculative and cognitive abilities.”

If Traditional Economics does not use the right conceptual and mathematical tools, we should not wonder that so often the predictions produced are off the mark and prescriptions for what to do about problems don’t work.

So much for the errors.  Let’s turn now to the other problem of ignorance.

Lack of Understanding about Economics as a Complex System

In the real world both human-made systems, like the economy, and natural systems of the biosphere belong to what the Club of Rome report calls a “realm of ordered complexity” characterized by “a high diversity of components and a dense network of interaction between these components.”  In other words, there is a lot of interactive stuff going on in society and nature.

The classical mathematical tools used by economists don’t capture this type of complexity.  However, with the recent development of more powerful and inexpensive computing power a new set of mathematical tools dealing with ordered complexity has emerged.  “Complexity theory has already revolutionized a wide range of fields including geophysics, demography, ethnology, biology, medicine, acoustics, electronics and finance.”  Economics as a whole could similarly benefit, but it has a long way to go in shifting from its current dominant ideas and methodology.

A New Law of Nature

The Club of Rome report references the work of Franḉois Roddier, “one of the most brilliant astrophysicists of our time,” in pointing out what amounts to a previously unknown law of nature.  It essentially says that all complex systems (such as plants, animals, humans, societies and economies) are continuously dissipating energy to evolve new environments to which they must adapt or disappear.  This has been going on in the universe since the beginning of time at the Big Bang. Dissipation of energy formed galaxies, then stars, then planets.  On Earth we know that further dissipation of energy formed plants followed by animals and finally humans with our big brains, which we are now using to dissipate energy at a rapid rate to create complex societies.  “The evolution of human societies and their economies is currently driving humanity’s capacity to dissipate energy . . . in an exponential manner,” says Roddier.

What this means is that we are in danger of dissipating energy too rapidly and modifying our environments faster than our ability to adapt.  We are already seeing this in the exhaustion of oil reserves, pollution, extinction of species, and exacerbation of social inequalities.  If we think we can improve any of these things and many other problems we face while we continue to use energy in the amounts that we now do, we are kidding ourselves, because it is against this law of nature.

The process is now essentially being driven by the knowledge and ideas in human brains.  Zoologist Richard Dawkins coined the term “memes” to describe information stored in human brains. Roddier points out that to avoid extinction we humans have to evolve our memes.  We can’t do this individually or unilaterally as a country, or we run the risk of being eliminated by natural selection.  The species has to do it as a whole.  Roddier comes to the following conclusion:  “The only hope is a change of consciousness at a global level—the realization of the need for a new meme: the need to reduce our energy consumption on a planetary scale.  Such a change is starting to occur because, for the first time, the degradation of the environment is visible within the time span of one generation—the sign of a seismic environmental shift on a global level.  Hence the urgent call for sustainable development.  While trying to save a planet which could not care less, we may be able to save humanity.” 

If Roddier is right the evolutionary power inherent in the universe will save the species, but we are in the process of causing colossal damage that threatens future generations with a massively degraded planet on which to live.  The need for leadership at every level in every generation in every country to evolve the new meme of how to live sustainably on the planet is absolutely critical.

The authors of the Club of Rome report take this insight from Roddier and focus on what they believe is the prevailing meme of our current industrial societies, namely the meme of a monoculture of money, that they believe has to be changed to avoid “strangling human evolution and creativity at a critical juncture of our collective journey.”

This is a very powerful insight that we must now take the time to consider seriously.  The evidence of the dysfunctionality of the current financial system is all around us.  Combined with  a flawed concept of economies as closed systems, it’s a deadly combination threatening human survival.  In the next post I will explore this issue in detail and present ideas from various sources on how the money system can be changed such that our grandchildren can live productive lives with an entirely different relationship to money than what preceding generations have experienced.

I look forward to sharing this information with you.  All of us are part of the process of evolving new memes to serve us better than many of our current ones.

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