David Kelley gave a talk on Ayn Rand vs. Friedrich Hayek On Abstraction. (If you want to read Mr. Kelly’s paper on point click here) This is a very important talk and explains the difference between Austrian economists and free market (objectivists). It also helps explain why Austrian economists who say they are for free markets are against patents, which are property rights in one’s invention.
Ultimately, Hayek is a warmed over Platonist. According to Hayek our perception and reason are limited (Plato). It is this limit to reason that is Hayek’s justification for a free market. Basically, Hayek argues that because our reason is limited it is sheer folly to suggest that central planning can ever work. Rand on the other hand sees no limit to reason and notes that reason is man’s basic tool of survival. But each man must reason for them self. To force (central planning) someone to do something against their reason is immoral and eliminates the creativity and ingeniousness of everyone subject to the central planning decree. This means we have a small group of people attempting to “solve” problems instead of many people and the people making the decision are not the ones that feel it’s effects. As a result, central planning is an open loop process, which as any engineer knows is a very inaccurate process. In addition, central planning does not take all the variables into account, since only each individual can know exactly what their circumstances and needs are.
I believe Austrians gravitate to Hayek’s ideas because it saves religion (Christianity) from reason and the free market. Hayek’s ideas on the limits of reason puts him in the company of Kant, Hume and Plato. Hayek in that sense is both anti-reason and anti-science, which leaves plenty of room for religion.
It also explains why Austrians do not understand patents. Property rights to Austrians are based on social convention or utilitarianism but not based on reason. According to the Austrians we have property rights (privileges, arbitrary grants) because of tradition or because they believe (not know – reason is limited) it results in the best use of resources. As Hakek states:
[M]orals, including, especially, our institutions of property, freedom and justice, are not a creation of man‘s reason but a distinct second endowment conferred on him by cultural evolution.
Patents were once characterized as monopolies (see English history), so Austrians cannot reason out the difference between what were called patents before the Statute of Monopolies and what are patents today. For Rand, creation is the basis of property rights and all human creations start with one man’s mind. Because of this Rand made it clear patents/copyright (Intellectual property) are the basis of all property rights.
For more see Defending Capitalism: Ayn Rand vs. Hayek
More specifically on Hayek’s concept of Abstraction:
If Hayek’s ideas had any validity, then a person whose eyesight was restored after being blind from birth could immediately (visually) identify an apple or red, which we know is not true. If Hayek’s ideas were true then we would have to have some inherent understanding of the double slit experiment in quantum mechanics or the idea that time slows down as we approach the speed of light, but this is clearly nonsense.
In an opinion piece on Fox News entitled “America’s patent system is all wrong for today’s high-tech world”, Mr. Forbes argues that “patent holding entities that do not produce anything in the way of devices or technology are disrupting the free market and stifling innovation for consumers.” Patent pools were first created during the sewing machine patent wars in the 1850s. (For more information see Adam Mossoff’s excellent paper The Rise and Fall of the First American Patent Thicket: The Sewing Machine War of the 1850s. ) During the sewing machine wars it was found that overlapping patent rights made it impossible to produce the best sewing machine for the customer. As a result, a patent pool was created to clear these rights and allow manufactures to produce state of the art sewing machines. A patent pool is nothing more than a clearing house for people’s rights in their inventions, much like ASCAP works for copyrights. Patent pools allow for the efficient division of labor between inventors and manufactures and reduce wasteful litigation. In this sense they are similar to how title insurance works for “real” property. Patent pools were and are a free market device that allows for the efficient clearing of property rights by contract. Patent pools combine people’s right to their property with their right to contract. Both of which are part of a free market. It is disappointing that Mr. Forbes who styles himself a free market proponent has missed these obvious facts.
Mr. Forbes uses the standard rhetoric of the antitrust laws. These laws are not part of the free market, and were championed by people who opposed the free market and property rights, such as Teddy Roosevelt. The FTC’s attack on patent pools and licensing in the 1970s did more damage to the economy than the 911 attackers did. For more information on the FTC’s traitorous attack on US property rights see Jobs, the Economy and Patents.
The article states a number of other fallacies. For instance, Mr. Forbes repeats the idea that there were too many dubious software patents issued. Any objective study of this issue has shown that it is nonsense. For instance, see the paper Of Smart Phone Wars and Software Patent.
The article also asserts that patents that are about to expire necessarily have a lower market value. First of all the market determines the value of patents, not Mr. Forbes arbitrary dictates. Second, patents that are older and cover technology on which numerous other inventions are built are more valuable because they are building blocks. Algebra is not less valuable today than it was when it was discovered, it is more valuable because other areas of math build on that knowledge.
Mr. Forbes suggestion in his conclusion that patents are regulations shows a profound ignorance of property rights and the free market.
 My only complaint with Mr. Mossoff paper is that he suggests that a patent thicket existed. A patent thicket cannot exists in a free market, at least as the term was originally defined. There are a number of papers on point, if you want a link to them let me know.
 Real property in law refers to land and permanent structures. This is similar to the use of real in math to refer to real numbers. Imaginary numbers are real in that they exist as do patents, other intellectual property and personal property (Cars, tools, etc.).
Reason Magazine has released a video, entitled How Patent Trolls Kill Innovation. The magazine banner states that they support “Free Minds and Free Markets” but this video relies on the same irrational, emotion driven logic as the media. I cannot point out all the errors in this video, but below I will highlight some of the major points. Before I do that , let me show some of the sleazy attempts by Reason Magazine to use emotion and hidden assumptions to advance their argument, instead of reason and logic.
Emotion and Faith
*The video starts with the hidden assumption that patents are not property rights – faith not reason.
*The video uses the phrase “patent trolls” to immediately define who is right or wrong without actually proving their case – an emotional appeal.
*The video selects a small entrepreneur to narrate their story – using the typical liberal tactic of pretending this is a fight between a small virtuous entity against a big faceless entity. The reality is that so-called “Trolls” sue large entities much more often than small businesses. Emotional appeal, not reason.
*The video uses an “expert”, Julie Samuels, from a biased source, (Mark Cuban’s lobby group) who has no qualifications in the subject. She has a degree in Journalism and Law, which means she is NOT A PATENT ATTORNEY and does not have the technical skills to understand the underlying technology of patents. Faith not reason.
The video never asks if Austin Meyer did a patent search and clearance opinion before building and selling his software. You would not build a house without doing a title search to make sure you owned the land. Given Mr. Meyer’s surprise that he was being sued for patent infringement, he almost certainly did not undertake this simple due diligence step.
Using Other Peoples’ Property
Mr. Meyer complains that he may have to pay the patent holder for the life of his product. Yes, that is what happens when you use someone else’s property. This is like a steel manufacturer complaining that they have to continue to pay for coal or pay rent for a building they do not own.
Note that the underlying technology is critical to Mr. Meyer getting paid, but he doesn’t want to pay for it.
The anti-patent crowd always complains that these suits are brought in East Texas. If someone refused to pay you rent for staying in your house, would you chose the slowest court in the country or a faster court? Federal Court for the Eastern district of Texas has been one of the fastese to bring invention squatters to justice.
The video makes the implicit assumption that non-practicing entities (NPE) are evil. However, Edison was a NPE, as was Tesla, as was almost every great inventor in the last 200 years, as our most major corporations, as most of our Universities and Government labs. Our Founders looked at the issue of requiring inventors to practice their invention in order to keep their patent and rejected it. They voted for a FREE MARKET system where people could be independent inventors, just like writers do not have to be publishers in order to obtain or keep their copyrights. This is consistent with Adam Smith’s division of labor theory.
The video takes the stand that if you buy the patent rights instead of being the inventor,this is somehow evil. First, all corporations buy their patents – often by paying wages. Corporation don’t invent so they have to buy their patents. Second, we do not argue just because you didn’t build your house you cannot rent it out .
Mr. Meyer states in the video that the technology he wants to use is old, from the 80s. If this were true, Mr. Meyer would be free to use it. But, instead, he wants the updated version of the technology that ensures he gets paid, he just doesn’t want to pay for it.
The Patent Should Not Have Issued
Neither Mr. Meyer nor the so called expert, Julie Samuels, are patent attorneys. They are NOT QUALIFIED to evaluate the scope of the claims of a patent. It is interesting how lay people (I include attorneys who are not patent attorneys in this definition) believe they can just read a patent and evaluate it, but they would never try to do the same thing with a Warranty Clause in a contract or an Indemnity Clause. No one would believe a Journalism major or an attorney (non-technical) is qualified to comment on software technology; but somehow they are qualified to comment on patents on software? This is like asking a plumber to comment on the design of a Nuclear Power Plant.
Patents and the Free Market
Patents are property rights, just like a property right in a farm. The basis for all property rights is creation. Inventions are clearly creations. Property rights are part of the free market. Those countries that are the freest economically have the strongest patents laws, are the most innovative, and have the highest standards of living. REASON MAGAZINE is pushing a point of view that is much more consistent with a Marxist’s labor theory of value than Capitalism.
REASON MAGAZINE is neither promoting REASON or FREE MARKETS in posting this video.
According to the website China Briefing, China now files more patent applications per year than the US. This is just one more sign of how far the US had fallen technologically. Just twelve short years ago the US was the economic and technological leader of the world, today it is quickly slipping into the abyss of has been countries. Detractors will point out that patent applications do not necessarily correlate to meaningful technological advances. This may be true in the short run, but this is not the only indicator that the US has lost its way. There are a plethora of warning signs the Sun is setting on what was the greatest nation in the history of the world, including a steeply declining economic freedom rating, and the fact that China is likely to have a larger economy than the US sometime in 2020s. Our President is too busy pandering to dictators around the world and acting like Santa Clause with other people’s money to notice. We have traded greatness for the USSA.
It is quite common for Austrian Economists and others to suggest that the Federal Reserve created a Tech Bubble (Dot-Com Bubble). If by a technology bubble they mean that real wealth was not created in the 90s this is nonsense. First of all the price of gold fell from 1998 until around 2001. The price of gold is one of the best indicators of inflationary policies. Second, the Fed started raising interest rates in June of 1999 from a Fed Fund Rate of 4.5% to 4.75%. This persisted until January of 2001, when the Fed Fund Rate stood at 6.5%. This is hardly an accommodative monetary policy. Third, industrial production grew by about 42% from the end of the recession in the early 1990’s to the end of the recession in 2001. Fourth, median household income increased by 34% in the 1990’s. Fifth, the stock market had real gains even after the bust of 2000. In the 00s, industrial production actually fell from the end of the recession in 2001 to the end of the recession in 2009, median household income declined, the price of gold soared, the Fed lowered interest rates to zero, the stock market did not grow at all. To lump the 1900′s with the housing bubble of the 2000′s is wrong and misleading.
The facts just do not support the Bubble myth of the 90s. Real wealth was created in the 1990’s. The stock market had probably gotten ahead of itself, but the Fed’s attempt to engineer a soft landing just made the correction worse. This caused Congress to get involved and pass Sarbanes Oxley that destroyed the IPO market. They also made changes to the patent laws – weakening them, changed the accounting rules on stock options – requiring a phantom expense, eliminated pooling of interests accounting for mergers – making it less attractive for technology startups to merge. But for these stupid policy changes, the technology market and economy would have started growing again. In any large group of people, the only way to increase the per capita income/wealth is to increase the level of technology. US policies since 2000 have stifled technological innovation.
The so-call Dot-Com bubble is a myth. Misdiagnosis of what happened in the late 1990’s has resulted in bad policy decisions. Jack Kemp exposed this issue in Criminalizing Corporate Behavior http://www.jewishworldreview.com/cols/kemp.html.
Dot-Com Bubble Myth, Dot-Com Bust, Tech Bubble
The temperature on Earth is a heat transfer problem. This post will outline the basics physics involved. First of all you have to determine the sources of heat for Earth. The main source of heat for the Earth is the Sun (S). Much smaller sources of heating on Earth are the thermal heat from geothermal sources and stellar radiation. Geothermal energy has been decreasing over the life of the Earth and presently is likely too small to have any significant effect on temperatures. Stellar radiation probably varies over huge cycles as the Solar System orbits the Milky Way, but is still small compared to the Sun.
The next question is whether S varies as a function of time. The answer is yes. For instance, sun spots cause variations in S. Unfortunately, our physics does not allow us to model S(t). At best we only have a vague idea based on historical evidence and what we know about other similar stars. However, no one with certainty can say that the Sun’s output will not change radically the next year. We have data on the Sun’s output that at best goes back with any accuracy 800 years. Eight hundred years is not statistically significant compared to the 5 billion years of Earth and statistical modeling would still just be a guess. We know similar stars eventually expand to several times the Sun’s present size and its output changes radically. In addition, the amount of Solar radiation reaching Earth varies based on the variation in Earth’s orbit Milankovitch cycles. These can be predicted and show a strong connection with Ice Ages, although all the mechanisms are not known.
Some of the solar radiation that hits Earth’s atmosphere is absorbed and some is reflected. In addition, the Earth radiates some of its energy into space. The amount of solar radiation that is reflected varies over time based on the different spectrum of light hitting the Earth and based on changes in the Earth’s magnetic field and clouds. These variations are not well known and cannot be accurately modeled. The amount of solar radiation that is absorbed necessarily varies also. Things that affect the amount of absorption include clouds, greenhouse gases, absorption by the surface of the Earth and changes in Earth’s magnetic field. Of the greenhouse gases, water vapor makes up up 95% of the greenhouse gas effect – almost all water vapor in the atmosphere occurs naturally. CO2 represents about 3.6% of the greenhouse effect gases. However, only 0.117% of this is man-made. All man-made greenhouse gases consist of only 2.8% of the total. The whole theory of AGW (Anthropomorphic Global Warming) is based on this single factor.
Our model does not include the radiation of heat from the Earth, let’s call it E. All bodies radiate heat. Roughly the amount of heat radiated from Earth will be equal to the surface area of the atmosphere. However, the surface area of the Earth will vary based on the temperature and solar wind. PV=nRT. As the temperature rises the Volume and Pressure will increase. No one can accurately model this radiative cooling. In addition, there will be cooling because of the loss of matter.
So far we have the energy part of the equation. In order to convert this into a temperature on Earth we have to the specific heat of air, land – including the different geographic regions, and water. While it would be possible to determine some sort of average with some accuracy, this will not suffice because the air and water will move based on localized heating. This will cause variations in the surface temperature and the atmospheric temperatures, which would be difficult to relate back to the model and vice versa. No one can provide a good model for this term.
So what we have is an equation for the temperature on Earth T(t) which is the product of the Energy absorbed times the specific heat. The energy absorbed is a function of the energy hitting Earth, which includes the S – Sun output, stellar radiation and geothermal energy. We do not have an accurate model of the Sun’s output. We do not know if it will suddenly increase or decrease. The best we know is what has happened in the recent past. We do not know or have good model for the amount of energy that is absorbed. We do not know or have good model of the amount of energy emitted from Earth and we do not have a good handle on the specific heat or how to relate it to observed temperatures. Despite all this ignorance, we are to believe that the effect of man-made greenhouse can be accurately predicted. This is not science, it is guessing. To pretend we can predict average global temperatures within a tenth of a degree is absurd – it is debatable whether we can measure them with that sort of accuracy.)
Failures of AGW models:
1) They do not explain Ice Ages or subsequent warming periods. (I welcome comments, but if you support AGW you must provide a model that shows why ice ages occur or it will be deleted – I am not going to waste my time going down rabbit holes.)
2) CO2 levels generally rise after the Earth has warmed not vice versa. The likely reason for this is that the oceans hold enormous amounts of dissolved CO2. When the temperature of the oceans increase they release CO2.
3) No rational explanation is given for why AGW models focus on CO2 and other greenhouse gases, while ignoring the problems in their model.
4) The last 15 years have proven that AGW models are just plain wrong – but the excuse is we need more time. However, they were selective in their time periods in the first place. There was significant cooling in from 1965 to 1980, but they ignored this data and called anyone who pointed this out part of the Flat Earth Society.
5) There was significant warming from 1900-1940, but this is not correlated to increases in man-made CO2 and AGW models do not explain this.
6) The Japanese (IBUKU) satellite show that Industrial Countries actually are net carbon sinks.
7) The shows that AGW is a religion, it is not a science.
Supporters of AGW Lie, fudge data, or just make up data.
1) The 1st UN IPCC summary lied about what the scientists on the panel had said.
2) They lied about the temperature data in Climate Gate ignoring the Little Ice Age.
3) They claim that the number of polar bears is decreasing, this is just not true.
4) They claim the oceans are rising – this is not true.
5) They claim that the Greenland Ice Sheet is melting at an alarming rate – this is not true
6) They claim that the number of major weather events has increased – the evidence shows the exact opposite.
This list is almost endless, but I will stop here.
Supporters of AGW exaggerate the problems of a warmer Earth and ignore the Benefits
1) During the 5 billion years Earth has been around it has been in an Ice Age the majority of the time. Only during the recent warming periods have human civilizations thrived.
2) The North Pole could melt completely and the Earth’s Oceans would not be one millimeter higher.
3) A warmer Earth will produce more crops and reduce weather related deaths.
Supporters of AGW hate Humans
AGW supporters are the same environmentalists that will tell you there are too many people on Earth. Their solution to every problem is fewer human beings. There have been several very inexpensive solutions proposed on how to deal with Global Warming if it were true. The environmentalists were not interested in technological solutions, because are anti-technology, anti-human and EVIL.
The Federal Reserve caused the financial crisis of 2008, according to many of its critics. On the other hand, many people have credited the Fed with avoiding another great depression. This debate often becomes confused because people intermingle the concepts of a central bank, fractional reserve banking and legal tender laws. For instance, Ron Paul has argued that fractional reserve banking creates money out of thin air and intersperses this with his arguments to end the Federal Reserve. A commonly proposed solution is a return to the gold standard. Proponents of the Federal Reserve also seem to believe that these concepts are a package deal.
The idea of a modern central bank that controls the money supply, sets interest rates separate from market forces, and is allowed to create money to buy government bonds, is relatively new. In the case of the US this dates from the creation of the Federal Reserve in 1913. As explained in the article A Brief History of Central Banks on the Federal Reserve Bank of Cleveland’s website,
A central bank is the term used to describe the authority responsible for policies that affect a country’s supply of money and credit. More specifically, a central bank uses its tools of monetary policy—open market operations, discount window lending, changes in reserve requirements—to affect short-term interest rates and the monetary base (currency held by the public plus bank reserves) and to achieve important policy goals.
When you read this explanation of the functions of a central bank in black and white it is clear that it is a central planning system for a country’s money and credit. Central planning of economic activity has always resulted in market distortions and the Federal Reserve is no different.
A central bank is different from a national bank, such as the First National Bank (FNB) of the United States setup during Washington’s presidency. The FNB was a private bank in which the federal government had a twenty percent equity interest. It was forbidden from buying government bonds, had a mandatory rotation of directors, it could not issued notes or incur debt beyond its capitalization, and the federal government could withdraw its money from the FNB and place it with another bank. The FNB of the United States was a truly a private bank not a central bank. It did not set the policies that “affect a county’s supply of money and credit.”
The First National Bank of the United States was a fractional reserve bank however. A fractional reserve bank is a bank in which a fraction of the bank deposits are kept in reserve. Or stated another way the bank’s loans exceed its capital. The Riksbank, founded in Sweden in 1656, is commonly accepted to be the first fractional reserve bank. Murry N. Rothbard has argued that fractional reserve banks are counterfeiting money. This is incorrect. Unfortunately, in order to explain it is wrong it is necessary to delve deeper into the history of banking. Originally, bank notes were issued by a bank to indicate that a depositor had so much gold or silver on deposit. When the depositor wanted to retrieve their gold, they would present the bank note to the issuing bank. Since bank notes were bearer notes, meaning the bank paid whoever presented the note, holders of the notes started exchanging these notes instead of going to the bank and pulling out coins. The cost and risk of transporting large sums gold made bank notes a much more practical currency. Think about a merchant living in England that needed to purchase large sums of tobacco in the colonies or spices from the Far East or lumber to repair his ship.
What the banks had done with bank notes is securitize the gold they had on deposit. However, gold and silver are not the only things of value. Banks realized that they could securitize other property. For instance, quality farm land had significant value. There was a difference of course. You cannot put your land on deposit with a bank. However, the bank could have a contingent legal title to the land. The bank did not need land, so it would provide you with a loan against this contingent title, known a mortgage or deed trust. The borrower would pay the bank back in bank notes or species that he earned from his farm. If the farmer defaulted, then the bank would take legal title to the land and sell it. A bank could only loan money from its capital reserve making it a 100% reserve ratio bank. But there is no logically reason that bank notes should only be backed (secured) by gold. If I want to buy some land adjacent to my farm, but I do not have the funds it makes economic sense to take out a loan. I could pledge to pay the widow who owns the farm over time. This might work, but she may have pressing financial needs and a payment plan is not a good solution for her. This problem is compounded if the farmer/borrower needs to buy extra seed corn, build a barn on the property, and pay extra laborers to realize the full economic potential of the farm he is buying. He cannot promise to pay all these people on time. The bank steps in and issues bank notes that are recognized as currency secured by the land owned by the farmer. If the farmer dies, becomes disabled, or is just not able to pay back the loan, the bank takes over the farmer’s loan and sells it for currency, which could be bank notes or gold coins. This ensures that they have enough gold on hand to pay off any holder of their bank notes. In a fractional reserve bank, the bank has not created money out of thin air they have backed their bank notes by both gold deposits, their capital reserve, and the farmers land or whatever other collateral they have for the loans they have made.
It may be legitimate to require a bank to disclose that they are a fractional reserve bank to their depositors. I asked a former president of a bank if they ever did disclose this to customers when they setup an account. The answer was no. As a lawyer, it seems that banks should have to disclose that they are a fractional reserve bank. However, in discussions with mid-level bank employees, most of them do not know they work at a fraction reserve bank.
Bank securitization of farms is no different than a company selling bonds against its assets and future earnings. The bonds it issues are not backed by gold, they are backed by the assets of the company. You might argue that the purchasers of the bond have given gold to the company. This may be true, but a company does not hold the gold in reserve. It spends the gold for plant and equipment or expansion. You may argue that a bond is not money. That is true in this day and age of legal tender laws, but before legal tender laws there was very little difference. Even today if you owe someone $10,000 you might sign over some bonds to that person to pay them. Clearly, those bonds are acting like money. Money is anything that functions as a medium of exchange and a store of value. Rocks, tobacco leafs, paper, bonds, stock options, gold, silver, computer entries and bonds, are just a few of the ‘things’ that have functioned as money in history. An interesting experiment in money is being conducted by the company Bitcoin. Bitcoins have appreciated significantly against other currencies in the last couple of years and they are just computer entries.
Legal tenders laws mandate that certain state approved money can be used to satisfy debts within the country. The first legal tender law in the United States was passed by the North during the Civil War. Eventually this law was declared unconstitutional in Hepburn v. Griswold, 75 U.S. 603 (1870). The Court reasoned that the Constitution allowed the federal government to coin money, but not the power to make paper legal tender. The government argued that since it had the power to carry out war and the issuance of the legal tender was necessary for carrying on the war, then legal tender laws fell under the “necessary and proper’ clause of the Constitution. The Court rejected this argument and also pointed to the fact that the Constitution prohibited the states from interfering with contracts. The Constitution did not specifically, prohibit the federal government from interfering with private contracts, but it would be against the spirit of the Constitution to allow the federal government to do so. Unfortunately, this case was quickly overruled by the Knox v. Lee, 79 U.S. 457 (1871) Supreme Court decision. Multiple competing bank notes were the norm at that time. According to the Cato Institute, “the government did not entirely monopolize issuance of notes until 1935, but the laws that made the monopoly possible date from the Civil War.” Today the legal tender law in the US is 35 USC § 5103 which states:
United States coins and currency (including Federal reserve notes and circulating notes of Federal reserve banks and national banks) are legal tender for all debts, public charges, taxes, and dues. Foreign gold or silver coins are not legal tender for debts.
Legal Tender laws are necessary for government counterfeiting to be successful. Without legal tender laws, people would quit accepting the money government printed. A central bank is not necessary for the government to counterfeit money. The Union was able to print $450,000,000 of counterfeit money without a central bank.
The Federal Reserve uses a more sophisticated method of printing money. The Federal Reserve can affect the money supply by either changing the interest rates or by buying and selling bonds. However, the money supply in a free market also varies. A fractional reserve bank is not a government creation and neither are bonds. When a bond is issued or a bank funds a loan, they both increase the supply of money. However, the amount of money that can be created in this manner is limited by the size of the economy, since bonds and loans have to be backed by productive assets. If too many loans are funded, then the bank goes out of business, which shrinks the supply of money. If too many bonds are floated, then they are not repaid and become worthless shrinking the supply of money. The Federal Reserve can use its interest rate setting mechanism to encourage too many bad loans, but eventually this short term increase in the money supply will evaporate. If the Federal Reserve wants to permanently increase the money supply, then it needs to use its open market operations to buy Treasury Bills or more recently to buy bad mortgages from private banks. It is these open market operations that are used to create money out of thin air and why the Federal Reserve’s balance sheet is the best way to determine how much money the Federal Reserve has counterfeited.
The most effective way to stop the damage caused by government manipulation of the money supply and interest rates is to repeal the legal tender laws. The North was able to print money without a central bank, but not without legal tender laws. If the Federal Reserve attempted to flood the market with counterfeit money and there were no legal tender laws, the market would quickly discount the value of government issued currency and individuals would price their contracts in other more stable currencies. This is why FDR outlawed the ownership of gold and gold clauses in contracts. From a political point of view it will be easier to repeal the legal tender laws than to eliminate the Federal Reserve.
Presently, the Federal Reserve and other central banks are convinced that by counterfeiting money as fast as they can, they can create wealth. Ben Bernanke believes that wealth can be created by the government dropping money out of a helicopter. If this were true, we could be really rich if every citizen were given the power to print money or just go online and change the amount of money in their bank accounts. This insanity ensures that we are headed for a huge financial crisis that will make the 2008 recession seem trivial. This financial crisis will be caused by both central banks and legal tender laws, but it will not be caused by fractional reserve banking.
 Bordo, Michael D., A Brief History of Central Banks, Federal Reserve Bank of Cleveland,
http://www.clevelandfed.org/research/commentary/2007/12.cfm, A Brief History of Central Banks, December 1, 2007.
 I think there is a quote on this from the book Meltdown: A Free-Market Look at Why the Stock Market Collapsed, the Economy Tanked, and Government Bailouts Will Make Things Worse Unfortunately, I do not have a copy of this book anymore.
 The book, Hamilton’s Blessing, is a great reference for this but I do not have a copy anymore.
 Rothbard, Murray N., Taking Money Back, Ludwig Von Mises Institute website, June 14, 2008, http://mises.org/daily/2882, This article originally appeared in The Freeman, September and October 1995.
 Schuel, Kurt, Cato Journal, Vol. 20, No. 3 (Winter 2001) p 454.
 Counterfeiting in an economic sense is any currency that is not backed by productive or creative effort that someone willing exchanged their creative effort for. Gold is clearly not counterfeit money, since it requires productive effort to mine gold. Buy paper money presents a problem. It takes productive effort to make and print paper, but no one would trade twenty dollars of their effort for someone who printed a twenty dollar bill. Economic counterfeiting is really a fraud where someone believes the other person has provided value that they did not provide and purposely withheld this fact from the other party.
The CPB (Corporation for Public Broadcasting) receives $445M a year in federal taxpayer money. While this represents only 12% of CPB, it is still real money that arguably could make a HUGE difference in job creation. Try this on for size- while Jim Henson Productions and the puppeteer/actor portraying Elmo are worth multi-millions (I guess I am a little confused how Sesame Street the show has a net yearly loss), The Patent and Trademark Office has lost $1B over the last decade in user fees diverted to other Congressional pet projects, including CPB. The Patent and Trademark Office is the only self-funded agency within the Federal Government. The diverting of these fees-some could say for Big Bird- is costing America jobs. According to the Kauffman Foundation, ALL net new jobs in the US since 1977 have been created by startups, and most of these are high tech startups who rely on patents. While patent applications languish at the PTO for 4-10 years awaiting approval (due to the diversion of inventor-paid fees) companies can’t get funded. If they can’t get funded, it takes much longer to increase hiring. The SBA reports most transformative technologies are created by startups and individual inventors (not large, entrenched corporations). So what do you think is more important – quality, high paying, skilled jobs or Big Bird?
It is common for people and economists to state that patents are a monopoly. Because patents are a monopoly, it is argued that they negatively affect the pace of innovation and slow down the diffusion of inventions. The only redeeming feature of patents they concede is that if provides a profit incentive to invent, but then it inhibits follow on inventions and the dissemination of knowledge. If this thesis is correct, it should be testable. Let’s test this hypothesis.
1) Countries with strong patent systems should innovate less than countries with weak patent systems.
2) Countries with strong patent systems should have slower dissemination of new technologies than those countries with weak patent system.
If PROPERTY RIGHTS
1) Countries with the strongest patent systems should innovate more than countries with weak patent systems.
2) Countries with strong patent systems should have faster dissemination of new technologies than those countries with weak patent system.
Let’s take a look at the facts, according to the World Intellectual Property Organization (WIPO), the top ten most innovation countries and the bottom 10 countries for 2012 are:
5. United Kingdom
8. Hong Kong (China)
10. United States of America
132. Syrian Arab Republic
134. Cote d’Ivoire
138. Lao PDR
In a report from National University of Singapore they show a chart of the Fraser index vs. Ginarte-Park index. The Fraser Index is a ranking of economic freedom and the Ginart-Park index is a ranking of patent strength. The chart shows an almost perfect correlation between the two. For those of you who are not familiar with economic freedom indices, there are several and they all show that economic freedom correlates positively with economic growth, wealth, education access, health, longevity, the environment, civil rights, etc.
They also had a couple of charts for the countries with the strongest patent systems for four different years and those with the weakest patent systems. I do not know all the countries that were included in this survey.
|U.S.A. 39.30||U.S.A. 39.06||U.S.A. 39.06||U.S.A. 42.75|
|Netherlands 28.20||Belgium 32.23||Belgium 36.22||Netherlands 41.36|
|Switzerland 28.12||Netherlands 31.47||Netherlands 35.22||Denmark 41.26|
|Germany 28.01||Switzerland 30.55||U.K. 33.57||Finland 41.01|
|Japan 27.14||Germany 28.73||Germany 33.14||U.K. 40.15|
|Nicaragua 2.38||Nicaragua 2.38||Guyana 3.17||Niger 5.38|
|Peru 2.22||Bolivia 2.30||Pakistan 3.17||Guatemala 5.10|
|Guatemala 1.90||Guyana 1.69||Jordan 2.95||Nicaragua 5.00|
|Guyana 1.78||Guatemala 1.50||Guatemala 2.15||Rwanda 4.64|
|Jordan 1.72||Peru 1.31||Peru 1.73||Zaire 3.51|
If we examine the first postulate, does it appear the most innovative countries have the strongest patent systems or the weakest patent system? Which countries do you think have the strongest patent systems – the USA, Singapore, Switzerland or Niger, Pakistan, Sudan? It is clear that the most innovative countries according to the WIPO survey have the strongest patent systems. If we look at the charts from the National University of Singapore (NUS) we see those countries with the strongest patent systems are clearly the most innovative. Although the WIPO data and the NUS data are from different time frames we see some overlap between those countries with the strongest patent systems (NUS) and the most innovative (WIPO) and the same is true for the weakest and least innovative.
If we examining the second postulate, does it appear that the countries with the most technology diffusion have the strongest patent systems or the weakest patent system? Which countries do you think have the most technology diffusion – the USA, Singapore, Switzerland or Niger, Pakistan, Sudan? It is clear that those countries with the strongest patents have the most technology diffusion.
The macroeconomic evidence does not support the thesis that patents are a monopoly. The data shows the exact opposite of what this theory predicts.
The empirical evidence is overwhelming that patents are a PROPERTY RIGHT not a MONOPOLY.
I have written extensively on whether the defining characteristics of a patent are consistent with the definition of a monopoly or the definition of property rights. For instance see:
This post explains the characteristics of a monopoly and a property right and poses three questions to show the difference. Patents fit all the characteristics of a property right and none of a monopoly. Note that professional license, such as a law license has some of the characteristics of a monopoly.
This post contains a number of quotes from philosophers explaining that patents are not monopolies.
This post explains the difference in the concepts of property rights, possession, and objects. Most economists and patent detractors confuse these concepts. The origin, definition, and legal basis of property right are explained.
This post compares the definition of a monopoly to the rights obtained with a patent. It shows that the rights obtained with a patent do not confer a monopoly.
The only way to suggest that patents are a monopoly is define “market power” so broadly that any property rights confer market power. I admit that I reject this argument. A property right is not a monopoly and this is an attempt by people with a political agenda to attack the concept of property rights.
PATENTS are PROPERTY RIGHTS under the law, by definition, and according to all statistically significant macro-economic evidence. People who suggest otherwise are pushing a political agenda or do not understand the definition of the words monopoly and property rights.
The Fraser Institute just released their annual Survey of Economic Freedom . According to the Study the US has fallen from 2nd in 2000 to 8th in 2005 to 19th in the World this year. This is consistent with my book, which suggests that the US started heading in the wrong direction around 2000. It is time for the Socialists and the Obama Administration and the Republican Establishment to admit they don’t give a damn about freedom or economic growth. Solving our economic problems is straight forward, we just need more economic freedom. Keynesians, big government promoters, and environmentalists are either Ludditesor they are lying to the American people. I think it is the later.
According the World Economic Forum (WEF), the USA has fallen to seventh in the world in economic competitiveness. According to WEF the US was number one in 2008 and has fallen four straight years. The Heritage Foundation explains that our debt levels and business uncertainty are to blame. WEF dates the decline in US competitiveness to 2008, but I date it from the end of the Clinton Administration. In the final days of Clinton’s term we passed the (November 29, 1999) Intellectual Property and Communications Omnibus Reform Act of 1999. This weakened the rights of inventors by requiring the publication of most patent applications 18 months after they were filed. Then Bush passed the Patriot Act, which essential meant Al Qaida won. This was followed by Sarbanes Oxley in 2002, which killed off funding for startups and has decimated all the legitimate (non-political) venture capital firms. These innovation killing laws resulted in the unbalanced economy that imploded in 2008. Certainly, Freddie Mac, Fannie Mae, and the Community Reinvestment Act, the Federal Reserve and other non-free market institutions contributed. Now we have added the America Invents Act, Frank Dodd Financial Reform Act, not to mention Obama Care and thousands of innovation killing regulations (Thanks EPA).
The solutions to our problems are simple conceptually, but difficult politically. Hopefully reports like this one will spur American’s out of their complacency.
Hank Rangar to the Rescue
Congressman Paul Ryan has been selected as the vice presidential running mate of Mitt Romney. Many in the Republican Party have hailed him as true advocate of free market principles. Unfortunately, his voting record is much more conventional than we have been led to believe.
Congressman Ryan voted for the America Invents Act (AIA). This Act was laden with crony capitalist gifts for Wall Street, Big Pharma, and large corporations at the expense of startups and individual inventors. The Act was widely criticized as being unconstitutional. This was more than enough reason to vote against the AIA, but Paul Ryan led the charge to gut the only redeeming feature of the Act – namely ending fee diversion. When I called Congressman Ryan’s office to ask why they were doing this, they responded that it was important to balancing the budget. REALLY, in a $3 trillion federal budget the $100M or so you are stealing from inventors is going to make the difference? This is less than 0.1% of the federal budget. This is less than we give to Egypt or the UN or any number of other extra-Constitutional spending.
I pointed out that the PTO was a self funded agency, meaning no tax dollars are used to fund its operation. Diverting the money of inventors and using it for another purpose is conversion (stealing). Their response was how is this any different than putting the fee you pay to enter a National Park going into the general treasury? There are a number of differences. First, when I pay a fee to enter a National Park, I immediately get the service I paid for. In the case of patents, inventors have to routinely wait from three to ten years to get the service they paid for. Second, National Parks were created with federal funds, but inventions are created with private funds. Even the Patent Office was created with private funds, since it is a self funded agency and always has been. If a private company or an attorney did what the federal government does with patent fees it would charged with fraud and conversion. This attitude that the federal government is above the law is exactly what is wrong with our country Mr. Ryan.
Ryan is bad for patents
Congressman Ryan voted for Sarbanes Oxley. SOX has made it impossible for startups to go public, which has made it very difficult for startups to raise money. Historically, most of the growth and job creation of startups occurs after they go public. The Kaufman Foundation has shown that all net new jobs since 1972 have been created by startups. To the best of my knowledge, Congressman Ryan has not said he is in favor of repealing SOX. This means he is bad for technology startups and bad for job creation.
Ryan is bad for startup funding
Paul Ryan is widely praised for coming up with a plan to reduce our budget deficit. Since government spending crowds out money that could be used to fund startups, this is good. As part of this proposal he has a plan to rein in entitlements, such as medicare, medicaid and social security. In spite of this, Congressman Ryan voted for medicare part D. The question is which Paul Ryan will show up if he becomes VP.
Ryan also voted for TARP, for the bailout of GM and Chrysler, for the economic stimulus of 2008 and 2009, and for extending unemployment benefits to 59 weeks.
Ryan deserves credit for advancing a fairly realistic plan to reduce the budget deficit, but even this plan does too little to cut the deficit. It’s goal is to reduce federal spending to 20% of GDP in about four years. It is unlikely that we have four years before we are hit with massive inflation, which will more than double our interest payments on our debt and break our budget. In addition, his voting record shows that he is unlikely to have the backbone to follow through with even this weak proposal.
Ryan is not a fiscal Conservative
Ryan has put forth a moderate plan to rationalize our tax system. It does not go far enough, but it is his most pro-growth proposal.
The Problem with Supply Side Proponents
Supply side proponents (SSP) such as Larry Kudlow are ecstatic with the choice of Paul Ryan. The problem with SSPs is that they do not understand that the only way to continually increase real per capita income is to continually increase our level of technology. This means we need to eliminate the barriers to the capital markets for technology startups. This means we need a well functioning system of property rights for inventions. It also means we need to reduce the tax burden on startups, reduce their regulatory burden, legal risks, and accounting rules biased against them. But Paul Ryan does not seem to understand this and neither do most supply siders. As a result, it is unlikely that Paul Ryan and Mitt Romney will be able to put the US on a sustainable path to growth.
Paul Ryan will be better than Obama or Biden
Unfortunately, this is damning him with faint praise. Don’t be surprised if Paul Ryan turns into a Bush disappointment instead of a Ronald Reagan. (Note I hope I am wrong and have to eat my words)
The paper Illuminating Innovation: From Patent Racing to Patent War, by Lea Shaver, is a draft of an article to be published in the Washington and Lee Review, is another example of the deteriorating state of academic research. First, I will examine the primary hypothesis of the paper and second I will examine the factual errors and inherent biases of the paper.
The underlying assumption of the paper is:
For more than two centuries, U.S. patent law has assumed that patents promote innovation. Yet for all the profound impact that patent law has on industry and society, we have little empirical evidence to test this “innovation assumption.” In fact, there are good reasons to believe that patents may also impede innovation, by creating barriers to competition.
Really? How about the clear differences between countries that have patent systems versus those that did or do not. In the early 1800s the strongest patent systems in the world were in the US and England, which were the leaders of the Industrial Revolution. The Industrial Revolution was really an invention revolution as the book The Most Powerful Idea in the World: A Story of Steam, Industry, and Invention, by William Rosen documents. Why didn’t this innovation occur in Africa, or the Middle East? They did not have an anticompetitive patent system? Or even why didn’t it occur in France or Germany or Japan?
There is also strong empirical evidence that human beings did not escape the Malthusian Trap until the advent of a patent system, which are property rights in inventions. The only way to increase real per capita income is by increasing our level of technology. This has been shown by such diverse economists as Robert Solow, Paul Romer, Jacob Schmookler, and Gregory Clark. The first large group of people to escape the Malthusian Trap were the English and the Americans. Japan did not escape the Malthusian Trap until they copied the US’s patent system. For more information see The Source of Economic Growth.
Ms. Shaver completely ignores the work of economist B. Zorina Khan, who has undertaken an extensive survey of the effects of patents on innovation. But she does cite her work while ignoring its conclusions. For those interested in a true academic study of the history of patent law in the US see the book The Democratization of Invention: Patents and Copyrights in American Economic Development, 1790-1920 (NBER Series on Long-Term Factors in Economic Development) by B. Zorina Khan. Note I do not agree with all of Professor Khan’s conclusions, but it is an extremely well researched book.
Both the development and dissemination of technology occurs at a more rapid rate in those countries that have the strongest patent laws. The empirical evidence is overwhelming that stronger patent system results in increase innovation and wealth creation. Professor Lea Shaver’s statement that there is a lack of empirically evidence is outrageous and shows that the professor’s paper is really a propaganda piece.
The Paper: Flaws, Errors, and Distortions
This paper is so full of factual errors, distortions, and propaganda that it is impossible to point them all out or correct them. But it is necessary to point out at least some of them, so that they do not go unchallenged. These errors and distortions are pointed out in roughly the order they were brought up in Professor Shaver’s paper.
The abstract to the article starts with the provably incorrect hypothesis (see above),
Patent law assumes that stronger protection boosts innovation, yet empirical evidence to test this “innovation hypothesis” is lacking.
The article purports to use the example of the invention of the incandescent light bulb to determine if stronger patent protection boosts innovation. It explains that this is not the story of brilliant inventors and bright inventors. No its,
It is a story of corporate maneuvering and high-stakes litigation, as Thomas Edison and his competitors employed patents as weapons in their battle to dominate the electrical industry.
What does the author believe patents are for? Does she believe people collect patents like blue ribbons without any business goals? Does the author believe it is wrong for the owner of a factory use it to dominate a market? Does she understand the purpose of property rights is to enhance the owner’s ability to increase production and lower costs? In other words, does this so-called professor of law understand the purpose of property rights?
Since this statement is in the author’s introduction, it is clear that she has a bias before she has even examined the facts.
She goes on to state,
The smartphone is today’s light bulb. A complex machine, developed through the collaborative and competitive efforts of many engineers, rather than a single mythological inventor.
This shows the author’s bias against the light bulb, which she calls a “humble device.” I doubt the author could build this “humble device” with the materials that Edison had at the time. I am sure her law and sociology degrees have prepared her for building and understanding technology – not.
She also exposes her collectivist ideology when she elevates “collaborative” efforts and suggests that a single inventor is mythological.
The author proves that she does not understand property rights when she states
Patent law is a tremendously influential aspect of modern economic regulation.
Patent law is not economic regulation it is the property law of inventions. It recognizes the simple fact that but for the creator, the invention would not exist.
It is hard to believe how incredibly corrupt our academic institutions have become, but Ms. Shaver sums it up in one sentence.
Within the substantial social scientific literature employing and commenting on case study methodology, some researchers prefer case studies because of normative commitments that achieving objective, accurate explanation of complex social phenomena is unattainable or undesirable. From these researchers’ point of view, there is no “truth” in social science, only “interpretation.”
Let me translate this academic BS. Ms. Shaver is suggesting that objective and accurate explanations are UNDESIRABLE. Well we can start with your paper Ms. Shaver, it is clear that you have no interest in being accurate or objective, your conclusions are based on your feelings not on the facts. The paper and bandwidth to print your drivel is an extravagant waste of the individual human greatness that created the Internet, computers, electronics, incandescent light bulbs, and the printing press.
Ms. Shaver’s dishonesty knows no bounds. She cites Adam Mossoff’s paper on the sewing machine as support for her anti-patent tirade. Adam Mossoff discusses how the markets were able to clear the patent rights of sewing machine inventors, but Ms. Shaver pretends his article supports limiting patent rights.
Next, Ms. Shaver complains
In the case of the light bulb, these long-term dynamics included massive litigation, the consolidation of a previously competitive industry, and a half-century lull between when incandescent light technology was first patented and when it finally became widely accessible to the American public.
Ms. Shaver complains how long it took to disseminate this technology in the US. Did the electrical light technology disseminate faster in China or India or Saudi Arabia, which had did not patent rights at the time. No. In fact, this technology was disseminated faster in the USA than anywhere else in the world, which had the strongest patent protection in the world. But this does not fit Ms. Shaver’s narrative and so she ignores these clear facts.
Ms. Shaver proves her complete ignorance of both the technology underlying the incandescent light bulb and her lack of understand of the function of claims in a patent when she states,
Even today, British schoolchildren are taught that Joseph Swan, not Thomas Edison, won the race to invent the light bulb.
What children are taught is not relevant to understanding of how patent law works. There is a difference between the historian and the patent attorney. If Ms. Shaver had consulted a patent attorney, which she is not, she would have learned that Swan invented a low resistance, short lived light bulb that had no commercial application and Edison had invented a high resistance, long lived light bulb, with immense commercial potential. But I doubt Ms. Shaver, whose prelaw education was in Sociology could even understand why a high resistance incandescent light bulb was so important. For those of you who do not have a technical background a low resistance filament meant that you needed copper cables with very large diameters to even light a city block. The cost of these large copper cables meant Swan’s incandescent light bulb was limited to being a laboratory curiosity.
Ms. Shaver then makes this bewildering statement.
Once electric light was ready for commercialization, many companies competed with Edison’s in the marketplace. Compared to his rivals, however, Edison was particularly successful in litigating his patents.
Perhaps this was because Edison was the inventor of the light bulb and many other things that made it practical invention, including inventing an improved dynamo, fusing systems, electrical connectors including the standard light bulb socket still used today. Why does Ms. Shaver believe Edison invented these? So his competitors could steal his inventions? To help out his competitors? Of course, Edison litigated when his competitors stole his technology. Ms. Shaver clearly does not understand the role of property rights in free society. She also does not understand merit or cause and effect. According to Ms. Shaver, failing to share your property with people who did not produce it is anti-competitive. A phrase she uses several times in the paper.
Ms. Shaver then goes on to discuss the concept of “Patent Racing” by Mark Lemley. Professor Lemley is neither a patent attorney nor does he have a technical background. According to Mr. Shaver, Lemley shows
In case after case, Lemley’s article illustrates, multiple inventors, working on the same technological problem, have arrived at the same solution at nearly the same time.
Mr. Lemley’s lack of understanding of both the underlying technologies and the law shows he has no idea of what an invention is. His conclusions about simultaneous inventions is not supported by the facts or the literature. For more information, see the economist’s Jacab Schmookler’s book, Inventions and Economic Growth, where he examined this nonsense of simultaneous inventions.
Professor Lemley’s lack of technical knowledge leads to his lack of understanding of the difference between inventions. For instance, he does not understand the difference between a patent for a low resistance incandescent light bulb and a high resistance light bulb. He does not understand the difference between a patent on high resistance light bulb and a socket for connecting a light bulb to an electrical distributions system. According to Mr. Lemley these are all simultaneous inventions. Mr. Lemley is another complete charlatan, who pretends to undertake academic research, but is actually is a propagandist who would make Joseph Goebbels proud.
Then Ms. Shaver suggests that the invention of the light bulb was inevitable.
From the perspective of market incentives and of technological groundwork already laid, therefore, a commercially practical light bulb may have been a near inevitability.
If it was inevitable why did the invention of the light bulb occur in the US and not in France or Russian or Ecuador? Why did it occur in the nation that had the strongest patent laws protecting the rights of inventors? Ms. Shaver ignores the obvious.
Ms. Shaver’s ignorance and arrogance knows no bounds, she states:
Despite all this support in the historical record, Lemley’s theory of patent racing has been vehemently disputed by business professor John Howells and his co-author, Ron D. Katznelson. These critics specifically take issue with Lemley’s use of the light bulb as an example of incremental invention. They argue that Edison’s contribution in fact “unlocked the field,” cannot be placed on a par with contributions by any other inventor, and was deserving of a “pioneer” patent. My own closer examination of the light bulb case puts me on the side of Lemley rather than his critics.
Ron Katznelson has a PhD in electrical engineering and has been the founder of numerous, successful technology startups. Ms. Shaver has a degree in Sociology and Law and Professor Lemley also does not have a technical background. Basically Ms. Shaver and Mr. Lemley are completely unqualified to make this determination. Her opinion is without any basis. She knows this so she does not actually support her conclusion, she just asserts it.
Ms. Shaver admits that “lamp patents were not respected” but she complains about the subsequent litigation. She seems to believe that the legal system should support theft in the name of “competition.”
Ms. Shaver goes on to apply her conclusions to the smart phone industry. On the one hand she praise cooperation between competitors and on the other hand she suggests a dominate player is anticompetitive. Isn’t cooperation anticompetitive also Ms. Shaver? Once again Ms. Shaver has shown she is not interested in logic, reason, or a well functioning patent system. She is interested in using any propaganda that will stick to suggest patents are evil monopolies. Ms. Shaver complains that patents lead to monopolies, but ignores the overwhelming evidence that startups rely on patents to protect themselves from larger competitors. For instance, see Tesla whose patent on alternating current allowed Westinghouse to challenge Edison. Countries that have the strongest patent system have the most dynamic markets with new competitors challenging incumbent firms. Weak patent systems not only entrenches the large dominant companies she rails against, but destroys innovation.
This paper is a farce and Ms. Shaver is propagandist pretending to be a scholar. If Yale Law School had one shred of integrity it would fire Ms. Shaver immediately.
Illuminating Innovation: From Patent Racing to Patent War, by Lea B. Shaver, Yale Law School, Washington and Lee Review http://ssrn.com/abstract=1658643
Lea Bishop Shaver
In 2002 Jack Kemp wrote a prescient article on Sarbanes Oxley, entitled Criminalizing Corporate Behavior. He correctly predicted,
The greatest harm caused by Sarbanes-Oxley, though, will be to small firms that are pushed over the edge into oblivion or nascent public firms that are never born because of legal fees, accounting fees and other exorbitant costs piled on by the regulators!
This is exactly what has happened under SOX. Since it was passed, the number of companies going public has dropped by over seventy percent. The US is the only major country in the world with fewer public companies today than it had a decade ago. The average cost of complying with SOX is over $4M per year per public company. Sarbanes Oxley has failed to achieve any of its stated objectives. Its proponents said it would increase investor confidence in the stock market, eliminated accounting fraud, and decrease the cost of raising capital. I doubt that anyone would say they have more confidence in the stock market today than they had ten years ago. It clearly did not stop accounting fraud or reduce the cost of raising capital.
Jack Kemp explained the media lies used to pass Sarbanes Oxley.
First, instances of corporate fraud and misconduct are quite rare, occurring in less than one-quarter of 1 percent of all companies. Second, contrary to how the media portrays corporate scandals, accounting fraud and sweetheart financial deals are not the result of too little government intervention into the marketplace and insufficient government oversight of an unfettered capitalist system.
Political opportunists exploit the media fiction to play the politics of envy and convince the public that stringent, far-reaching government action is required to stop this “epidemic” of corporate criminality. Rather than a dispassionate examination of the problem, Congress hurriedly enacts ill-advised legislation like the Sarbanes-Oxley Act, which essentially criminalizes accounting mistakes and poor management.
The political demagogues who have used the collapse of Enron, Global Crossing and a few other high-profile business failures as an excuse to criminalize corporate mistakes and poor management ignore the fact that over the last two years there have been more than 70 major bankruptcies in the communications industry, with at least 23 more expected. There have been more than $100 billion in corporate defaults and $7 trillion worth of losses in asset values. A few of these bankruptcies may have resulted from accounting shenanigans, and a few more may be explained by poor business judgment, but with bankruptcies running through an entire industry, and indeed, an entire sector of the economy, the evidence is clear that we confront a problem beyond telecom monopolies or greedy and shady corporate executives. Moreover, in 2001 more than 60 percent of all corporate defaults were outside the telecom sector.
By focusing on accounting scandals and criminalizing corporate mistakes, we divert attention away from the fact that in most cases it was excessive taxation, deflationary monetary policy, and overbearing regulatory policy that undermined companies and entire industries that otherwise were thriving and had a bright future. Political demagogues who play the politics of fear and envy confuse cause and effect when they blame catastrophic business failure on accounting gimmicks. In fact, it was usually the prospect of catastrophic business failure brought on by horrible government policy that created the pressures to cut corners, engage in accounting irregularities and commit outright fraud.
Congressman Kemp debunks the nonsense that the late 90s were a bubble created by the Federal Reserve. He correctly points out that the Federal Reserve actual caused deflation, which resulted in the collapse of so many productive companies and the recession of 2000. If you don’t believe me look at chart of the price of gold. Its price declined from $400 per ounce in 1996 until 2001 when it hit a low of $271 and did not get back to $400 and ounce until 2004. Unfortunately, the myth of a Federal Reserve created bubble in the late 1990s serves the agenda of both groups on the right and on the left.
Jack Kemp’s prescience on Sarbanes Oxley was amazing. It’s too bad we did not listen to him and avoid all the pain of the last decade.
In an article entitled “Sheila Bair: Two Years After Dodd-Frank, Why Isn’t Anything Fixed? , it points out that the LIBOR scandal, the MF Global’s bankruptcy, JP Morgan Chase’s “London Whale” and his trading losses, Barclays’ rate fixing, Peregrine Financial’s fraud have all happened despite the 2,319 page Dodd Frank Act has not stopped. A decade earlier we passed Sarbanes Oxley, which according to its sponsors was going to stop financial fraud, increase investor confidence in the market and in the accounting statements of public companies, and lower the cost to raise capital. But SOX did not accomplish any of this. It did not stop Lehman Brothers, AIG or any of the other financial problems uncovered in the 2008 meltdown. Even more ironic is that no one has gone to jail from these scandals, despite the CEO and others executive officers having to swear that their financial statements were accurate. So what is Ms. Bair, the 19th Chairman of the FDIC, solution – MORE REGULATION. Has Ms. Bair ever heard of the definition of insanity?
Ms. Bair argues that this proves that markets are not “self correcting.” But she fails to note that the US Government always bails out big Banks and Wall Street. Since the crisis of 2008, we have bailed on the banks with TARP, with zero interest rate loans from the Federal Reserve, and with QE1-3. Pat Choate has shown that we bailed on banks and Wall Street at least eight times in the thirty years before that. The markets are not self correcting because the Government does not allow them to work. The Federal Reserve is nothing more than a Bank bailout protection mechanism. Wall Street got special provisions in the America Invents Act to exempt them from competition from innovative startups. Wall Street is acting rationally, because it knows there are no consequences to for failure, but huge upsides if they succeed. That is not how the MARKET works Ms. BAIR – but it is how government works.
Every academic study has shown that Financial Regulation fails to achieve its goals and in fact hurts investors. For instance, see Liu, Tung, Santoni, Gary J., Stone, Courtenay C., Federal Securities Regulations and Stock Market Returns. This paper surveys several papers that all show securities regulation has been a failure. Here are some of the effects of SOX. In 1996 60% of worldwide IPOs went public in theUS. In 2005 only 20% of worldwide IPOs were in theUS. TheUS is the only major country to have fewer public companies today than a decade ago. There has been more than a 90% decline in the number of IPOs. This particularly hurts the technology startup market. It costs around $3 Million a year to comply with SOX as a publicly traded company.
What financial regulation does is increases the cost of obtaining funding for startup and eliminates competition among financial companies.
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