For foreigners wishing to understand more about the perils of the Icelandic situation, these four opinion columns that have appeared in Frettabladid in the last few weeks are a must read.
1) The Economics of the Devil
Published in Frettabladid on April 15 by Gunnar Tomasson, economist
Inflation depreaciates the real value of money and that is why many find the price-indexation of monetary debt to be an issue of justice. “If you lend ten horses to someone else then you want ten horses back, not seven”, says economist Gudmundur Olafsson on the web. He is said to be “absolutely tough on that if you borrow a pack of coffee then you should return a pack of coffee. You cannot come back with it and say that a kilo of coffee yesterday is equal to a pound of coffee today. This is absolutely correct”, he adds.
This is mumbo jumbo, one horse cannot be turned into a pack of horses, nor a pack of coffee into a cargo of joe with a single input into a computer as sufficient enough to multiply the real value of money in the economy. A cargo of products can be lost at sea but paper money can disappear like dew on a sunny day, as happened with the Icelandic banks’ stock in the beginning of October 2008. A sensible discussion on price indexation demands that real valuables are not equalled to paper cheques, i.e. that horses and coffee should not be likened to IOU’s for horses and coffee.
2) Economics And The Devil
Published in Frettabladid on April 17 by Gudmundur Olafsson, economist
The economicst Gunnar Tomasson, who actually has maintained that economics are mostly mumbo jumbo, does me the honor of naming me in connection with what he calls the “economics of the devil”.There he says that debtors must suffer twice the damages compared to creditors when the value of money decreases during inflation.
The simplest way to explore this theory is to check whether this has really been the case, for example in the last 20 years in Iceland. Then it appears that real interests of price indexed loans are usually 1,5-2% lower than of those who are not, and naturally most Icelanders usually choose price-indexed loans.
Most people should be capable of calculating the difference between 5% and 6,75% interest rates in the long run, but in one year the difference is 350 thousand ISK of a 20 million ISK loan in the favor of price-indexed loans. Gunnar’s assertion that those in debt lose suffer a double loss is simply wrong. This is in harmony with the opinions of William C. Dudley, manager of the New York branch of the Federal Reserve, from February 10 where he calls on the increased use of price-indexation. Those interested in the subject can also study the articles of Helgi Tomasson in Visbending 2008 and Asgeir Danielsson in Efnahagsmal, the Central Bank’s publication from last February.
At this moment inflation is negative and therefore the captal of debts will decrease by 0,5% at the beginning of next month. A 20 million ISK loan will decrease by 100.000 ISK. It is therefore the aptly named devil of the public who wants to abolish price indexation now, finally when debtors benefit from it unequivocally.
3) The Economics Of The Devil II
Published in Frettabladid on April 18 by Gunnar Tomasson, economist
In my article on price-indexation in Frettabladid on April 15 ( Economics of the Devil) I put forth arguments agains the unavoidable effects of price-indexation on the indebted wage earners in Iceland in times of inflation.
In his reply from April 17 (The Devil and economics), economist Gudmundur Olafsson uses statistical data and calculations that are irrevelant to the theoretical premises of the effects of price-indexation. That kind of operation is one of the reason why I think modern economics is mumbo jumbo as Gudmundur writes.
Paul Samuelson, the father of modern economics once underlined the importance of operating carefully with these words; „A scholar in economics who is fundamentally confused concerning [methodology] may spend a life-time shadow-boxing with reality.” The irony is that the mainstream economics that Samuelson paved the way for over sixty years ago laid the foundations for the ruins of the economy of Iceland and the whole world today.
In a eulogy for John Maynard Keynes (Econometrica, July 1946), Samuelson indicated that a) Keynes did not understand his own theories, b) that he had never really had interest in theoretical economics, and C) that Keynes had criticized econometrics without understanding the subject. This is digging deep for the sake of arguments on methodology. Keynes believed „It is a method rather than a doctrine, an apparatus of the mind, a technique of thinking, which helps its possessor to draw correct conclusions.”
The words of Keynes reflect a defenition of economics echoed by John Stuart Mills as, „Such is undoubtely its character as it has been understood and taught by all its most distinguished teachers.” The understanding of Samuelson and Milton Friedman is wholly different and is echoed in the reply of Gudmundur Olafsson against the theoretical arguments that lie behind my definition of price-indexation as the Economics of the Devil.
Friedman spoke for them both when he said, „Logical completeness and consistency are relevant but play a subsidiary role.” Ye shall know them by their fruits and the judgements born of experience cannot be escaped.
4) The Devils And The Price Indexation
Published in Frettabladid on April 22 by Ingolfur H. Ingolfsson, CEO of spara.is
Two economists, Gunnar Tomasson and Gudmundur Olafsson have exchanged entertaining devils on the price indexation and I will allow myself to add my two cents to the discussion
Thirty years ago, when price-indexation was agreed upon in Althingi, the choice stood between politicians giving up their influence on interest rates and let them free or adopting price indexation. The politicians were clearly not prepared to hand over their influence and came to the brilliant conclusion of introducing the price indexation of capital. There began the probably biggest governmental interference of finances known outside the communist economies of the twentieth century. From 1980, two currencies have been used in Iceland, the ISK that was price-indexed and the one that was not. Those who have used the former are those who owned and lent money. Those who have borrowed the price-indexed krona have on the other hand had to pay for it with the latter. In the thirty years since the introduction of the price-indexed ISK, the other has lost 3,250% of its purchasing power! This discrepancy between the ISK’s has probably lead to the largest and most merciless transfer of wealth in the history of Iceland.
It is probably unheard of worldwide that the government has interfered so directly and of such magnitude in the purchasing power of borrowed money as in this country. How on earth can it be justified with well-founded reasons that only money that is lent out is price-indexed but not those used to pay the loan? It cannot be done and therefore the search for reasons must begin within the spectre of political interests. The state, the largest publisher of price-indexed paper, decides with the support of Althingi to securely insure those who want to lend it money. Because those who pay are always the same, the taxpayers.
The method used to evaluate the indexation of borrowed money is a chapter to itself. Models are used to calculate seperate indexes, based on what is most popular or convenient at each time. A vivid imagination controls the combination and the different names given to these calculations, such as the consumer price index, loan-term index or the payment alignment index, which is the latest. Some have maintained that noone will lend us money without it being price-indexed. That is as wrong as it can possibly be.
You can always borrow money in free economies. (The reason why noone can borrow at all in Iceland today has nothing to do with price-indexation like most people probably know). Then theories abound that real interests, i.e. interests above inflation are always higher on those loans that are not price-indexed. These theories do not add up to the thirty years experience of Icelanders. The first ten years of price-indexation (those years that Gudmundur Olafsson doesn’t mention in his article), the real interests of price-indexed loans were 5,6 percent higher. Most amusing though is Gudmundur’s theory of horses, which maintains that if Gudmundur lets me borrow ten horses then he wants them all back. I can assure Gudmundur that he would get them all back, even though I disagree with him about the price-indexation. On the other hand, I could not promise him the same with a monetary note that I would borrow from him, in spite of the note being printed by the Central Bank of Iceland.
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