Top 5 Economic Myths

When analyzed in financial terms, it turns out that the world is in a precarious position. However, there seems to be no sense of urgency amongst the people. This may be because of the fact that newspapers, as well as other forms of media, are not warning the people that a recession might be around the corner. After all, an ordinary person cannot really analyze the state of the economy. They are dependent upon the information provided by others. The problem is that the mainstream media has been peddling a lot of economic lies. This has resulted in a lot of myths being believed by the ordinary people.

In this article, we have listed top 5 of those economic myths in an attempt to educate the investors:

Myth #1: Inflation is Low

Governments all over the world have been releasing inflation figures which make it appear like the inflation is low. This is because they calculate inflation based on the prices of a bucket of products. The base price of these products forms the base of the index. Hence, when the price rises, the value of the index is, and the inflation rate is determined.

This is very different from how inflation was calculated earlier. Previously increase was calculated as the change in money supply. If this measure is used now, the inflation rate will appear much higher than what it seems to be now. This is because governments all over the world are indulging in excessive money printing. This money is not being used to buy everyday commodities such as food and essential items. This is the reason why the value of the index is not rising as fast. However, a lot of this newly created money is being redirected to investments. This is the reason why asset prices have increased to astronomical levels.

In most developed countries in the world, the stock markets, as well as the housing prices, have reached record highs. This is mainly because of asset price inflation. As soon as the interest rates are reduced, these markets could come crashing down.

Myth #2: The Banks Are Now Stable

Basel III is a system which has been created to ensure that the banks are well capitalized. This system has been adopted by banks across the world since the year 2010. The problem with this system is that it considers government debt to be risk-free. As a result, if a bank holds large amounts of sovereign debt, their balance sheet does not appear to be bloated or unbalanced in any respect. However, this is not the reality.

We know that many nations across the world are not really in a position to repay their debt. Consider the case of the PIIGS economies in Europe, i.e., Portugal, Ireland, Italy, Greece and Spain. Their governments are almost bankrupt. Similarly, the debt situation of many Latin American nations is also terrible. Since these risks are not really considered by the Basel Framework, the reality of the banking situation is very different from what it is projected to be.

Myth #3: Interest Rates Rise Gradually

The Fed is trying to raise the interest rates in a slow and controlled manner. The objective is to bring the interest rates back to their natural level without really rocking the boat. However, the record of financial history states that this has never really happened before.

Governments tend to keep the interest rates low for too long. This is because raising interest rates is an unpopular decision. However, over a period of time, markets want to correct the discrepancy. Hence, they force the government to raise interest rates suddenly. Right from the Great Depression to the economic crisis of 2008, interest rates have always risen sharply and suddenly. There is no reason to believe that this time will be any different!

Myth #4: Welfare Payments Are Good For the Economy

People all over the world have been clamoring for increased welfare payments. They want the government to pay for their healthcare, for their kids’ education and also pay them an unemployment allowance. On paper, this sounds good, and the government starts to look benevolent. However, in reality, the government does not really have any of its own money. It cannot pay anybody unless it has taken that money from someone else. This is the reason why implementing policies which increase welfare is not really an option. These policies end up increasing the debt burden on an already burdened state. Or these policies spur the government to print more money, raise the money supply and dilute the value of the savings of other people.

Myth #5: The Worst Is Behind Us

The common belief is that the 2008 crisis was a one-off instance. The ordinary person believes that the worst is behind them and the future will be better. This is not really the truth because, in 2008, the crisis was not really resolved.

More and more debt was created to spur new economic growth without solving the underlying problem. Governments have tried to solve the problem of high debt with even more debt! They have only succeeded in postponing the inevitable. There is a good reason to believe that the worst may not really be behind us.