photo credit: Darren Hester

Federal politicians love talking about “injecting liquidity” into the market. In the central banking vernacular, liquidity implies an access to credit, or, the ability to get a loan if and when you want one. Thus, in light of our economic stagnation, market interventionists continue to champion “pumping credit” into the market as a method of curing our ails.

Using their magical money-creation abilities, these people ignore a fundamental economic maxim that, when ignored, will bring a market to its knees: credit comes from savings. This is not a revolutionary principle, yet it seems that tenured economists (having long been drinking at the federal fountain of Keynesianism) cannot come to grips with the limitations it demands.

If one person wants to borrow $10 from another, this transaction would require that the lender have the money to loan in the first place. If the lender, through frugality and hard work, had accumulated enough savings to put him in a position of being able to issue loans, then he would be able to complete this transaction, charge interest if he so chose, and receive his money back in return according to the terms of the agreement. This example, though basic, illustrates the moral and common sense understanding of how loans work. You can only borrow from people who have sufficient savings available.

Enter the magical, mystical force of government. With government involved, if one person wants to borrow $10 from another, this transaction does not require that the lender have the money to loan in the first place. Instead, the broke would-be lender sticks his hand out to this new source of cash—a "lender of last resort"—and himself asks for a loan. Only then is he able to issue a loan drawing on the money he just himself borrowed.

Thus, today’s lenders need be nothing more than middlemen relying upon an external source for the money they loan to others. This credit comes not from savings, but from politically-controlled printing presses and computer accounts that can create pseudo-credit on demand. At its core, this is an inflationary action that eventually and inevitably destroys the money system altogether.

Everybody knows that you can’t loan what you don’t have. Even worse is loaning to one person that which you’ve stolen from another. We wouldn’t let a scheming individual get away with this pernicious get-rich-quick thievery, and yet when repeated exponentially and enshrined with the cloak of law, we somehow think it’s a good idea.

America is beyond bankrupt, and yet we sit idly by as the federal government issues more and more loans and IOUs. Bailouts, stimuli, T-bills, and a hyperactive Federal Reserve all compound our economic misery—generating new money out of thin air, issuing new loans from nothing, and inflating the bubble that is quickly bursting around us. We must return to sound economic principles—among them, the understanding that credit must come from savings—if we are to have any chance of stemming the tidal wave heading our way.