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Business cycles--Why they occur and how to avoid them

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The US and the world have gone through 31 recessions from 1865 to 2009. The explanation for these today is "it's just the business cycle". In other words it's natural, and we can do no better than to follow Milton Friedman's notions of how to run the economy. But there was a time when the accepted economic model was different from Friedman's. It was during the 19th century when the world believed in "classical" economics. If we look at the history of recessions using the classical model, we see a clear cause. Professor Michael Hudson has rediscovered the key that makes all the difference. It is discussed In depth in the book Killing the Host. The key lies in how GDP is defined and why it matters.

Hudson writes that it is wrong to include what he calls "economic rent" as a contribution to the GDP. He shows that it is crucial to make the distinction between the portion of total costs of the goods and services that are related to the production of them, and the portion of the total costs that are "unearned", that is, they are overhead that involves no labor, also called economic rent. The importance of the distinction is that the two different portions do not grow at the same rate, and it is seen that the economic rent grows much faster than the production cost. And the economic rent grows much faster than the income from sales as well. So, the enterprises must allocate an ever growing portion of surplus income (the amount left after real production costs have been paid) to economic rent. Inevitably, the economic rent exceeds the surplus, and the debt continues to grow as the enterprises try and fail to solve their deficit problem while interest grows exponentially. This results in a crash and an extended period of economic recession. This is the same pattern of growth and sudden contraction that is associated with all Ponzi schemes, and in fact that is exactly what is going on with the world's economies today.

The clues that the crashes are associated with a Ponzi scheme are cleverly hidden by considering all costs to be uniform in their causes and in their rate of growth. The Friedman model is responsible for making the cause invisible. Hudson remarks that "There is always an economic gain for some party in sponsoring bad theory." In the present case, the bad theory prevents the public from seeing why they are becoming increasingly impoverished as the "business cycles" continue. The banking sector is sucking the life out of the economy even during the crashes.

When the dynamics are understood one can see what measures can be taken to prevent the Ponzi scheme from working, and Hudson presents the necessary corrections that must be made. He is even able to show that in the past, in the 19th century, some of the corrections were implemented, with favorable results.

I recommend that we all study Hudson's book and start educating the people. Click here.

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I am a retired physicist and hold a B.S. in Ch. E. as well. I have been an environmental activist since the early 1970s. I was a founding member of the Save Barton Creek Association in Austin, TX. In 2006 I was a member of a select (more...)

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