Contributed by Blankfiend, of Fibs and Waves.
Doctors know this better than most. In the eye, loss of sensation can cause ulcers of the cornea that progress to the point of penetration and loss of the eye. In diabetics, loss of sensation in the feet can lead to severe decubitus ulcers (pictures).
While they are the result of a disease process, a healthy individual could actually do this to his or her self through the continuous, repetitive use of topical or local anesthetics.
It turns out that pain mediates the release of a substance that promotes healing. Without it, the healing does not take place.
The economy is no exception.
Writing on the subject of full employment way back in 1943, an economist by the name of Michael Kalecki penned the following prophetic words:
It may be shown, however, that the stimulation of private investment does not provide an adequate method for preventing mass unemployment. There are two alternatives to be considered here. (i) The rate of interest or income tax (or both) is reduced sharply in the slump and increased in the boom. In this case, both the period and the amplitude of the business cycle will be reduced, but employment not only in the slump but even in the boom may be far from full, i.e. the average unemployment may be considerable, although its fluctuations will be less marked. (ii) The rate of interest or income tax is reduced in a slump but not increased in the subsequent boom. In this case the boom will last longer, but it must end in a new slump: one reduction in the rate of interest or income tax does not, of course, eliminate the forces which cause cyclical fluctuations in a capitalist economy. In the new slump it will be necessary to reduce the rate of interest or income tax again and so on. Thus in the not too remote future, the rate of interest would have to be negative and income tax would have to be replaced by an income subsidy. The same would arise if it were attempted to maintain full employment by stimulating private investment: the rate of interest and income tax would have to be reduced continuously.
His second scenario describes just perfectly what the FED has done since the beginning of the Great Moderation. Here is a graph depicting the Fed Funds Rate versus Real GDP as % Change from the previous year.
Rather obviously, this is a classic case of diminshing returns We also see that we are right now at that very point Kalecki predicted all those years ago, where the next crisis would have to be met with negative interest rates and the replacement of income taxes with income subsidies (read "Helicopter Drop Money"). This is an exceedingly difficult position to be in for the country whose dollar is the world's reserve currency.
Quoting from an excellent IFR op-ed by Jim Saft, entitled "Black Monday and the Greenspan Put":
The problem with this policy, which Bernanke has largely pursued, is that it is a trap for those who make policy and a reaction-numbing drug for those who are affected by it. The real impact, for investors and for the economy, is to substantially lessen and obscure the price signals that the economy and markets should normally generate. Crashes, while destructive, tell us things, like, in the case of the housing crash, to stop lending people money they had no hope of paying back to buy houses they could not afford.
Or take a current example: U.S. Treasuries, some of which virtually guarantee that the buyer will lose purchasing power over time. Is the price telling us that growth and inflation will fail to appear? Or simply that the Fed, with about a tenth of the outstanding stock of Treasuries on its books, is an 800-pound gorilla?
An economy without feedback from price signals is like a body which can’t feel pain, the little things bother you less but the big things may very well kill you.
Pain promotes healing. Anesthesia masks ongoing damage, with devestating long-term consequences. Unfortunately, there is not a politician either in office or with any chance of being elected who would ever admit this to an anesthesitized, exorbitantly priviledged America.
That leaves the job up to the markets. Cross-posted from Fibs and Waves.