TJP
THE JETHRO PROJECT
O R G A N I Z I N G F O R E F F I C I E N T O U T P U T
It is ironic that pundits and politicians of good will talk about job creation, but do not understand the job creation mechanism. They often believe that government, through spending, can create employment. Government spending can only reallocate resources from the private sector to the public sector, and it has to borrow to do so. When it borrows, it causes interest rates to rise and it crowds out private investments. Nonetheless, some have argued that during economic slowdowns, government should be the spender of last resort.
Lack of jobs is an income or monetary problem that fiscal policy alone cannot correct. The demand for money depends on the income (output) available to the population, and the income available is a function of the money supply. The Federal Reserve (Fed) and many Western Central banks restrained the supply of money (M1) because they were engaged in inflation targeting. As a result, the money supply was less than the real money balances that the public demanded. When the real value of M1 decreases, as occurred between 2003 and 2007, the price level has to decrease or output (income) has to decrease or both.
When the price level falls (housing deflation), homeowners lose wealth; when income (output) falls, unemployment rises. Conversely, when income rises, employment and output rises. It is the expansion of the money supply that facilitates employment, but money expansion, if mismanaged, can create inflation. In a recession, however, controlled inflation is the antidote for a stagnant economy.
The Fed, by itself, cannot expand the money supply; it requires the banking system and the public to expand the money supply. The money supply expands when the Fed through open market operations and other tools provides liquidity to the banking system and the banking system provides loans to the public. It is these loans that expand the money supply and allow entrepreneur and merchants to create employment (this is the job creation mechanism).
Unfortunately, Obama gave the keys the job creation mechanism to two Republicans, Bernanke at the Fed and Geithner at Treasury and might have sealed his fate as a one term President.
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