Wednesday, December 31, 2008

A Time to Revive the Worgl Experiment?

The phrases "brilliant idea" and "Simon Jenkins" don't normally tend to associate in sentences, in this case however: Simon Jenkins idea is brilliant. And has some pretty good historical and economic arguments on it's side.

In 1932 during the great depression, the mayor of the German town of Worgl had an idea to revive the fortunes of his town's flagging economy. He printed his own currency, equivalent to the Austian schilling in value and demanded that businesses in the town accept it as legal tender. The currency had a time based depreciation so that it would depreciate by 1% in value each month, this was designed to speed up the circulation of the currency. It's generally considered that currency played a massive role in reviving the economy.

The reason I'm bringing this up is that the speed of circulation of money is important in a functioning economy, our wages depend on a steady supply of customers willing to buy what we have to sell. Keynes argued that an economic stimulus would have a multiplier effect based on something called marginal propensity to consume (the proportion of income that is spent), for example lets assume the government gives away £1,000 and the marginal propensity to consume is 80%:

  • Of that £1,000, 80% is spent so that means that £800 is spent
  • Those who recieve the £800 of spending go on to spend 80% of it meaning that a £640 is spent.
  • Those who recieve the £640 of spending go on to spend 80% of it meaning that a £512 is spent.
  • And so on...
When you crunch the maths, if you assume 80% of any money recived is spent a £1,000 cash injection equates to a £5,000 of spending in the wider economy and £1,000 in various peoples savings accounts. Obviously that's all very good, the problem is that many economists think that this multiplier effect won't occur because any cash injection will be saved.

By taking it's lead from the Worgl Experiment and issuing a series of vouchers that could be accepted as legal tender up until a certain date when they will be redeemable for money by a retailer, the government could make a cash injection could be made into the economy that will be guaranteed to generate a stimulus with a multiplier effect and hopefully revive the fortunes of the flagging economy.


Hugo said...

1. Keynes. The problem with the multiplier effect is not that any cash injection will be saved. Some will be saved (20% in your example) and the rest will be spent. The problem is where the money comes from. "lets assume the government gives away £1,000". From where? If it comes from taxes, any multiplier effect will be cancelled out by a de-multiplier effect. For if the government takes away £1000, that £1000 would have been 20% saved and 80% spent etc anyway.

If instead the money comes from inflation, then that causes all the problems of inflation, and if it comes from borrowing, it also has a de-multiplier effect because to borrow money you have to take it out of the economy first.

The only alternative is for the government to have a budget surplus in the good years and a deficit in the bad years. That way, the government is still taking money out of circulation and having a de-multiplier effect, but it doesn't matter because the de-multiplier effect happens in the good years.

Unfortunately, predicting the business cycle is impossible.

(I believe that business cycles are caused by inflation and too-low interest rates set by government, but that's another matter.)

Hugo said...

2. Worgl. I'm a big fan of private currencies, but not of inflation. I'm a fan of private currencies if they are accepted by the free market, in which case no one would accept an inflating currency. A currency controller can only get away with inflating the currency if he can force people to accept it.

The Worgl project is very interesting, however. It relies on the currency being a temporary measure, and people gradually reverting to the government currency. Because the Worgl currency inflates away gradually, and there is a finite amount of it, and people try to spend it as quickly as possible, each person only loses a little amount of value through inflation. The loss is shared fairly equally. And by the time the currency has inflated away, everyone is using the government currency again and the velocity of money hopefully remains high.

Essentially, everyone loses a little amount of value and the local government gets it. I would be sceptical of the temporariness of this measure. The essential part of the plan is that the printing of the money is a one-off.

They didn't suffer price increases, of course, because the amount of currency printed was miniscule compared to the amount of currency in the whole country. But if every town had done it, they would have had price increases and it wouldn't have worked.