by Gary North
I want to discuss an article. I may be exaggerating, but I regard this article as the most sophisticated exercise in terminal naiveté that I have ever read. It is an intelligent article with respect to the problems that it lays out. It is dealing with the Ponzi scheme economics of the modern world. Certainly, I am in favor of articles that discuss modern government economic policies as Ponzi schemes. I have been doing this for over 45 years, and I see no reason to stop now, especially since we are 45 years closer to the end of the Ponzi schemes.
Yet at the same time, I am always dismayed to see an article written about the inevitable Ponzi scheme collapse of the modern economic world that begins with some version of this assurance: if we act now, we can solve this. It is not too late. The article begins as follows:
Fortunately, there is still time to act. But leaders from all social sectors--government, business, organized labor, environmental and other stakeholder groups--need to act decisively and quickly in order to secure future economic prosperity, social cohesion, and political stability. It is in the nature of Ponzi schemes to collapse suddenly, without warning. No one knows what event may send the developed world and the global economy as a whole back into crisis.
I have heard some variation of this assurance for over 45 years. In fact, if a book on Social Security, Medicare, and the unfunded liabilities of the U.S. government is published by a major publisher, or if an article appears in a journal aimed at establishment intellectuals, it will have the obligatory disclaimer. It will not be published unless there is this assurance somewhere in the article. There are no articles published by respectable scholars or respectable columnists on the Ponzi scheme economics of the modern world that do not include such an assurance. Anyone who insists on the fact that there is going to be a collapse, that these schemes will end in default, and that there is no possible statistically way of avoiding this, will not get his article published in a respectable magazine, newspaper, or book.
This is why I always look for the disclaimer. If there is the disclaimer, I know that I am about to read utter poppycock. It may be highly footnoted poppycock. It may have lots of charts. If it is written by somebody trying to get tenure, it will be filled with arcane mathematical formulas. But it does not matter what the content is, or what the structure is, the article is total poppycock.
WHAT YOU MEAN "WE," PALEFACE?
The key poppycock indicator is the word "we." Readers are assured that if we take immediate steps, courageously, systematically, and if we continue to implement the writer's recommended program of reform, there is still hope to avoid the chaos and devastation that is the inevitable result of every Ponzi scheme in history.
Why is this poppycock? First, because of the nature of every Ponzi scheme. The scheme that Charles Ponzi invented was doomed from the beginning. There was no way statistically that that scheme would not collapse, leaving devastation in its wake. Whether we are talking Charles Ponzi or Bernie Madoff, from the day the deception began, there was no possible way that the scheme would not run aground on the shoals of statistical reality.
The scheme could not have been stopped at any time. The participants in the scheme, from the day they got into it, would not consider the possibility that they had been completely conned by someone who sold them a story that was based on a statistical impossibility. This is a true Ponzi scheme. A Ponzi scheme must end with losses for all but the participants who got in early and got out early. The only people to win in a Ponzi scheme are the people who recognize it as fake, who get in early, get out early, take the money and run. They spot it as a fraud from day one; therefore, they have an exit strategy.
The astounding thing about Ponzi schemes is not that there is an endless supply of suckers, including sophisticated investors, who believe in it. The astounding thing about Ponzi schemes is that their originators seldom disappear with the money, never to be seen again. Charles Ponzi is the classic example. If he had taken the money, which was in the tens of millions in an era in which the dollar was worth 20 times as much as it is today, and if he returned to Italy, from which he had arrived, he would have made out like the bandit that he was. But he stayed in the game until the bitter end. So did Bernard Madoff. The originators know that the thing cannot possibly end well, and yet they are unwilling to take the money and run. They believe their own impossible promises. This, I do not understand.
The essence of the Ponzi scheme is not simply its statistical unsustainability. The essence of the Ponzi scheme is that it is like an addictive drug. Once someone enters into it, he finds it psychologically impossible to face the reality of the unsustainable statistics of the program. He refuses to get out in time. His participation in the scheme fundamentally changes his outlook toward reality. He is no longer capable of being persuaded that he has made a fool of himself by entering into such a scheme. This includes the founder of the scheme. The essence of the Ponzi scheme is not statistical; it is psychological. It creates belief in that which is statistically impossible, and the degree of belief is so strong that anyone who points out the statistical impossibility of the scheme risks being cut off personally by the victim. Ponzi scheme economics creates the classic attitude: shoot the messenger.
What also is astounding about Ponzi schemes is that the messengers never understand the nature of the psychology which undergirds the Ponzi schemes. The messengers come before the victims of the scheme, and they lay out their evidence. Their evidence may be fairly simple, or it may be highly sophisticated. But the person who lays out the evidence is also suffering from terminal naiveté. He thinks that he can bring people to their senses by means of evidence. He thinks that he can persuade someone who is the victim of a Ponzi scheme to change his ways right now, to get out of the scheme immediately, to take out his money if he can, or at least stop putting any new money into it. He thinks he can get a rational response from somebody who is knee-deep, waist-deep, or armpit-deep in a Ponzi scheme which has, on paper, made him rich.
Why should the victim pay any attention to a messenger who comes to him with a twofold message: first, he is going to lose all of his money; second, that he was an idiot for believing in the scheme in the first place. The messenger does not actually tell the victim that he was a fool to get into the project, but that is the inescapable implication of his criticism. This is fully understood the victim. He has no interest in the stack of papers or graphs or formulas that show that the scheme in which he has invested his money is statistically impossible to fulfill, and worse, that such a scheme would only appeal to somebody who is terminally naïve.
Every Ponzi scheme is a daisy chain. It is a daisy chain of people who have this sign on their backs: I am terminally naïve. This includes the founder, the victims, and the messengers who come before the victims to try to warn them that they have gotten into a statistically impossible scheme that could only have been promoted by a confidence man.
The messenger wants the victim to believe that there is hope if he takes effective action now. What hope? He can get his money back. But all the others can't get their money back. There is still hope for him, but not for most investors. Maybe he will still come to his senses. Therefore, the messenger is as terminally naïve as the victim of the scheme. That is because the essence of a Ponzi scheme is not statistical; it is psychological. It is the belief that there are great benefits without great risks, that there are above-average profits without above-average risk. In short, there is a pot of gold at the end of a rainbow.
The victim of the Ponzi scheme believes that the man who sold him on the scheme is a real live leprechaun who is going to lead him and all of the others in the program to the pot of gold at the end of the rainbow.
When you deal with somebody who believes in pots of gold at the end of rainbows, and who trusts salesman who are obviously in the leprechaun-imitation business, you are not dealing with somebody who is going to respond favorably to carefully prepared refutations of the statistical plausibility of the scheme.
SOCIAL SECURITY REFORM
For over four decades, I have come before people and warned them of the statistical impossibility of the Social Security System and the Medicare system. Never have I implied that the system could be reformed. I have denied the political possibility of any such reform. Never have I warned the person to try to get out of the system. Why not? Because it is compulsory, and inherent in the nature of modern citizenship.
We live in a Ponzi scheme economy. This means that we live in a society in which the vast majority of voters have adopted leprechaun economics, and have re-elected leprechauns on a regular basis since 1935 in the United States, and since 1889 in Germany.
I have always come with this message: "You may be able to escape the worst effects of the Ponzi scheme, but only if you take active steps now that will enable you to escape a system that has been imposed on you by law, for which you are not personally responsible."
When you come to the victim of a Ponzi scheme with this message, namely, that he was forced into it, and therefore he is not the victim of his own terminal naiveté, you have at least an outside possibility of persuading him. He may begin to take steps to evade the worst aspects of the inevitable collapse that the Ponzi scheme will produce in the lives of virtually all members of society. He does not think you are calling him a dupe of politicians, even though that is what he has been.
Only a tiny fraction of the population will be willing to listen to such a warning. That is despite the fact that they believe in the system, participate in it enthusiastically, and do not believe that it is going to blow up in their faces. They are naïve. Only a tiny fraction of the population is ready to listen to the story of the Ponzi scheme, and only if there is a least an outside possibility that they, personally, will be able to escape the worst effects of the inevitable breakdown of the scheme.
Tell a man that he personally has hope, and he may listen. Tell him, in effect, that the vast majority of his neighbors and peers are terminally naïve, and victims of a political con job, and he may listen. He has always suspected that they are not too bright anyway. He has always suspected that he is brighter than they are. So, he may be willing to listen.
This is why it never ceases to amaze me that sophisticated economists with academic degrees go to enormous trouble to present cogent analyses regarding the Ponzi scheme nature of the present economy. They spend lots of time amassing evidence of the Ponzi scheme nature of the modern economy, and then they try to tell their readers that there really is hope for the economy if "we" act now. There is clearly no possible hope for the economy. That is because Ponzi schemes are based on leprechaun economics. Nobody gets into one of these schemes who is not from the beginning a believer in leprechauns. They want access to the pot of gold at the end of that government-guaranteed rainbow.
Here is the bottom line. Most voters in the United States since 1935 have believed that the federal government is in fact staffed by well-meaning leprechauns whose only real interest is in providing voters personally with a pot of gold at the end of the rainbow, either at the age of 62, with early retirement, or later, if the voter wants to maximize access to that pot of gold. We have in the West an entire civilization, which we call Western civilization, which is based on leprechaun economics.
Occasionally, a Charles Ponzi or a Bernie Madoff comes along and takes advantage of this faith in leprechaun economics on a personal basis. It is not just that middle-class people and working class people believe in government leprechauns. It is that very rich and sophisticated people believe in SEC- approved leprechauns. This, by the way, includes everybody in the SEC, which regulated Madoff. Why? Because the moment they approved the leprechaun who was selling the Ponzi scheme, they got sucked into it to. To admit at this late date that they had been completely conned by a man like Madoff is to imagine that they will turn away in horror at their own stupidity and naiveté, admit that they were completely conned by this man, and say they are really sorry that everybody who put any money into this man's hand is going to lose everything they have given him. That would be a $50 billion admission of error. Anyone who thinks that a government agency is going to make this kind of admission before the program is forced into the bankruptcy by the market is himself terminally naïve.
From the top to the bottom, from East to West, once one of these schemes begins, it always goes over the cliff. The statistical inevitability of the scheme always asserts itself, because the psychological inevitability of the scheme asserts itself. Almost no one has sufficient self-awareness to overcome his own ego in the name of personal economic self-interest. Almost nobody has a strong enough ego to admit that he had been taken in by this con man. For those few people who do have a strong ego, and who are willing to admit that they have been taken in, their personal self-interest is not in informing the SEC about the con job. Their personal self-interest is in getting whatever money they can out of the system, before everybody else finds out. So, there is almost no incentive whatsoever for anybody who is participating in the system to take personal steps to end the system prior to the inevitable explosion. Once started, a Ponzi scheme cannot be stopped by well-meaning messengers.
SELF-INTEREST AT THE MARGIN
We now come to the heart of the matter, economically speaking, which is economic theory.
The first principle of modern economics is that people make decisions in terms of their personal self-interest. The second principle of modern economics, far less known, is that all decisions are made at the margin. When you accept the truth of these two principles, you can be sure that any prescription or solution that is offered by the enthusiastic bringer of the message, whoever he may be, or how many degrees he has after his name, does not know what he is talking about if he uses the word "we."
The unique aspect of economic theory is this: it is built on a theory of individual valuation and action. It describes the effects of individual action on the community around it. Individuals make decisions in terms of personal self-interest, buying and selling in the marketplace, and their individual decisions create predictable responses of large numbers of individuals in that market. For example, the economist says this: "At a lower price, more is demanded." Someone lowers the price of a particular item, and if everything else remains unchanged, which of course the economist knows it cannot, the individual will discover a larger number of buyers. His individual decision affects the decisions of other individuals, and the result is a widespread response among those people who have heard about the opportunity.
The heart of the matter is this: as individuals make decisions, these decisions have effects on the general community. As they make decisions to buy or sell, this sends signals to other buyers and sellers regarding what they ought to do. With particularly strong signals, economists can make accurate general predictions about what the outcome will be, or perhaps outcomes, of particular policies.
We know the price ceilings produce shortages. We know the price floors produce gluts. We know all this because we know about individual responses, at the margin, regarding price signals. These individual decisions produce collective results. These results are somewhat predictable in the aggregate, because individual buying decisions produce individual responses in a large enough number of cases so that we can make good predictions.
This is why any presentation that attempts to expose the international Ponzi scheme that the modern economy is, and then says that we can do something to change this, does not understand economics. He does not have a clue about economics. He may have all the formulas in the world, all the graphs in the world, all the persuasive rhetoric in the world, but he does not know the first thing about economics. That is because he thinks that we can do something about it. We can do almost nothing about.
You can do something about your situation. I can do something about my situation. But I cannot do much of anything about the federal government. Neither can you. So, we have to analyze what the federal government is going to do in terms of what individual politicians and bureaucrats are likely to do, given two things: first, their personal self-interest; second, the choices facing them at the margin. The choices are marginal, and the decisions are marginal.
What we have to talk about is not what we can do, which is essentially nothing, but what decision-makers are likely to do, given their personal self-interest, and given the situation they face at the margin.
Politicians face votes at the margin. They make decisions in terms of their currency, and their currency is votes. They are going to make decisions in terms of the response of individual voters at their margin. They are going to look at public opinion polls, and they are going to estimate how many voters will swing against them at the next election. Politicians look for swing voters. What is a swing voter? It is a voter at the margin.
This brings us to the question at hand: what we must do to avoid the catastrophe. We must do whatever we can to avoid a personal catastrophe, but there is just about nothing that we can do to avoid the general catastrophe. To think that we can do something, as a group, to deal with the myriad factors that are associated with today's Ponzi economy is simply ludicrous. It is anti-economic.
To get someone to do something, you have got to offer incentives, either positive for doing it, or negative for not doing it. Never discuss what anyone should do without discussing the incentives for doing it. To think that we, whoever we are, can design a solution to a problem that is embedded in every aspect of the fabric of modern life, meaning the acceptance of leprechaun economics, is to adopt collectivism. It is to adopt some vision of a central planning agency which can hand down directives to all of the participants, which the participants will follow, because of the sanctions associated with the directive.
We find that writers who are supposedly in favor of the free market, and who are concerned about the spread of Ponzi scheme economics, who write detailed descriptions of all the problems associated with Ponzi scheme economics. These problems are all associated with individual decision-making. People at all levels of the economy, in all walks of life, have adopted leprechaun economics. To imagine that a long list of challenges and responses is going to change people's behavior, and thereby avoid the looming catastrophe, is to imagine that collectivism can solve problems.
People change their behavior because they change their opinions. People change their opinions because conditions change. Why should hundreds of millions of people throughout the West change their opinions about leprechaun economics, when there are no major visible sanctions, meaning negative sanctions, which might persuade them that they have to change their behavior? Why should we have confidence in some detailed description of lots of painful, costly things that millions of people ought to do, which would require a radical change in their perception of the future, and also a radical change in their perception of how economics works? Without institutional sanctions, nothing will change. The sanctions will appear only when the system is at the edge of bankruptcy.
Somebody can write a long report, heavily footnoted, describing all of the things that we must do differently, meaning all of the things that individuals must do differently, but this is not going to change anybody's behavior. People involved in Ponzi schemes do not want to hear bad news. That is the essence of the Ponzi scheme. Unless there are immediate negative sanctions from continued participation in the Ponzi scheme, which there never are until the end, the Ponzi scheme is going to continue until its statistically inevitable demise, or until the Ponzi scheme operator flees to a country which does not have an extradition treaty with the United States. See this list.
What I have described here should astound nobody, yet it has no influence whatsoever on concerned free market analysts who see what is going to happen if nothing is done, who warn us all that it will be a disaster if nothing is done, and who devise complex systems laying out the needed reforms, despite the fact that there are no institutional incentives anywhere in the proposed plan of reform to get everyone to do these things.
All of these systems boil down to this: the Congress of the United States is going to perceive that there is a problem, and it will take steps to solve these problems, despite the fact that any Congressman who votes for this comprehensive list of solutions is going to lose the next election.
BEAR THE PAIN BRAVELY!
Every proposed solution to the Ponzi scheme problems of the world tells us that politicians and everyone else must bear pain in the short run in order to avoid catastrophe in the long run. Yet there is no evidence anywhere in the West that politicians are willing to bear such pain, because there is no sign anywhere in the West that a majority of voters is willing to bear such pain as a result of whatever the politicians do. On the contrary, the reason why we are so far advanced into Ponzi scheme economics is because voters, once lured into the Ponzi scheme, are outraged against any politician who dares to tell them that the Ponzi scheme is a vast mirage which is going to lead to devastating results in their lives. Voters impose negative sanctions at the polls on any politician who goes public with any such an analysis. People who are deeply involved a Ponzi scheme are outraged by any messenger who brings them bad news about the economics of the Ponzi scheme. They shoot the messenger. We have already covered this.
TERMINALLY NAIVE ECONOMISTS
As I said at the beginning of this report, I have just read a detailed article by four economists who outlined the problems we are facing in great detail, with great accuracy. Then they propose a detailed, heavily footnoted list of completely utopian solutions to the problem. They go into extreme detail about every aspect of the economy, all the way from the top of the political chain in Washington to the lowest worker on a production line. All of it calls for deep pain suffered now, and the abandonment of leprechaun economics.
I do not know why people go to the great trouble to produce such detailed, comprehensive, utterly utopian manifestos. There is not a snowball's chance in Death Valley that anything like a comprehensive restructuring of the West's economy, all based on the willingness to accept tremendous economic pain now, for the sake of deliverance from the Ponzi schemes of the modern world. There are no positive institutional sanctions suggested for making this monumental and unprecedented change in behavior, other than the possibility that everyone can avoid long-term catastrophe if everyone participates in the present pain. The answer to this from all of the participants is clear: "You go first."
I had thought about doing a detailed analysis to refute the detailed analysis. Then I realized that this would be as silly as writing the original detailed analysis. Four economists who live in fantasyland are not about to change any of their views just because I write a detailed analysis exposing their views as completely utopian and economically preposterous. Why would they bother to change their views? That would be like expecting several hundred million believers in leprechaun economics to give up their religion. It ain't going to happen.
Here is the article. You can print out the document and read the analysis of the inevitable collapse of the Ponzi scheme. I recommend that you do. Then, for amusement's sake, you can read the detailed, comprehensive list of things that have to change, and have to change now, in order to avoid the catastrophe.
In 45 years, the Ponzi scheme has only gotten larger. There has been nothing in the United States in the last 45 years, or even the last 70 years, to reverse the public's commitment to Social Security. To that faith in 1965 was added the greatest of all leprechaun schemes in America, Medicare. I ask the obvious question: "If nothing has persuaded the public in the past to mend their ways, why should we expect anything to change their ways today?"
There are even fewer reasons to expect them to change their views. They have listened in the past to repeated assurances that if people just change their ways now, they can avoid the catastrophe. Not only did people not change their ways, they accelerated their commitment to leprechaun economics. Yet nothing negative has happened so far. Voters have become convinced that all such warnings are nonsense, and that all such assurances that if we act now, there will be no conflagration, are just plain silly. Since there is no catastrophe coming, which they concluded after World War II ended, it would be silly for voters change their viewpoint now. They think critics of leprechaun economics are just a bunch of fringe people crying "wolf." They are convinced that there is no wolf.
Conclusion: do not waste any time trying to convince them that there is a wolf.
CONCLUSION
We all have read the story about the lady and the tiger. Behind one of the doors is a lady. Behind the other door is a tiger. The king requires the decision-maker to open one of the doors. In the story, we are not told what lay behind the door.
Today, the public has been told that there is a lovely lady behind the door. The politicians assure the public of this. On the other hand, free market economists assure the public that there is a wolf behind the door. At some point, statistical reality is going to force the public to open the door. The politicians who tell us that there is just a lovely lady behind the door will no longer be in office. Even if they are, they have a government-guaranteed pension, and if they lose the next election, they will be taken care of. They are not under the covering of Social Security. They are not dependent upon that safety net. The public is.
There is no pot of gold at the end of this rainbow. There is an economic catastrophe at the end of it for most people. There is going to be a Great Default. Anyone who tells you that it is not too late to avoid the default is like the messenger who comes to warn a person that he is involved in a Ponzi scheme. He is not going to be believed. But if he is not believed, then there is no solution, according to the messenger. Therefore, the messenger is blowing smoke. Or else he is inhaling it.
The essence of the Ponzi scheme is steadfast resistance to the warning brought by a messenger. Therefore, it is way too late to solve the problem. It was way too late to solve the problem 50 years ago. People involved in Ponzi schemes stay with them until the bitter end. The bitter end is coming.
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