The business cycle
manifests itself in a wave-like pattern1 -- expansions are followed by
contractions, and the cycle repeats itself with fabulous regularity. The empirical
evidence is absolutely clear: expansions have been followed by speculative
overinvestments, recessions, increases in the number of destabilized businesses, increases
in the number of bankruptcies, job losses, increases in unemployment, increases in crime
-- and absolute misery for many.
Were the expansions caused
by Central Bankers? Milton Friedman, paraphrasing Clemenceau, stated that "money is
much too serious a matter to be left to the Central Bankers."2 But, if Central Bankers are not to
be allowed to control money matters, who ought to? -- Big Banks?
Central Bankers may control
the supply of cash; but it is Bankers who effectively control how much loan money flows
into specific sectors of the economy. Suppose the empirical evidence corroborated the
- The average
income increases. The money stock increases. Bank deposits swell.
- Banks channel excessive amounts of depositors' money into a particular sector of the
economy -- say commercial real estate loans, at the expense of industrialization or
- Record business and consumer failures follow. Personal and government debt skyrocket.
The economy is destabilized. The safety net is threatened. The country is threatened with
a near-catastrophic breakup.
Who's policies would you
blame? Central Banker policies for increasing the money stock? Banker policies for
favoring highly collateralized commercial real estate loans? Borrower policies for
engaging in speculative investments?
at Banks and the National Economy. Many Canadian Banks increased
substantially their commercial real estate loan portfolio during 1986-1991. Canada's
largest bank, for example, increased its domestic commercial real estate loans from $1,781
million in 1985 to $7,098 million in 19913 -- or, as a percentage of the
bank's total domestic loans, from 3.95% to 9.04%. These increases were followed by
substantial increases in the bank's total domestic non-accrual business loans. Net of
allowance for credit losses, domestic non-accrual business loans swelled from $361 million
in 1989 to $2,465 million in 1992. Other categories of net domestic non-accrual loans also
swelled: (1) consumer instalment and other personal loans -- from $40 million in 1989 to
$153 million in 1992; and (2) residential mortgages -- from $15 million in 1987 to $225
million in 1993. But Canada's money stock also increased. The year-over-year change in
(M2-M1), for example, increased from $6,480 million in 1983 to $31,480 million in 1989,
the largest increases occurring in 1986 and in 1989.4 Industry-wide increases in
commercial real estate loans were followed by increases in:5
- The number of business
bankruptcies -- from 7,659 in 1987 to 14,317 in 1992.
- Government deficits -- from
$32,499 million in fiscal 1988/89 to about $66,137 million in fiscal 1992/93 (all
- The unemployment rate --
from 7.5% in 1989 to 11.3% in 1992.
- The total Canadian criminal
code rate -- from 8,356 in 1984 to 10,309 in 1991, on a per 100,000 population basis
(traffic infractions excluded), etc.
What caused these
increases? The monetary policy of the Bank of Canada? The loan policies of banks? Real
estate speculation? I will address some of the causality issues. But I do not believe,
that causality is the only important question. As important is: Cui Bono --
who benefited from the policies?
Bono. The Cui
Bono method of investigation has been used with great effect by Hobbes, in Leviathan.
Hobbes received his inspiration from a Roman Judge, who, when confronted with insufficient
witness testimony in Criminal cases, had the custom to ask the Accusers: Cui bono.
Hobbes favored this ingenious method because, he argued: No Presumption declares the
Author of an Action more evidently than does the BENEFIT of the Action.6
The analysis of causation
is no simple matter; that is why the above debate is "famous." The study of
Causality has occupied many of the best minds -- Aristotle, Al-Gazzâli, Bacon, Descartes,
Locke, Newton, Berkeley, Hume, Kant, Schopenhauer, Einstein, Heisenberg, Popper, etc. Why
is Causality so important? Because it is most fundamental to human understanding.
on "Primary Cause." To know anything, said Aristotle,
one must grasp its "primary cause" -- one must understand "why it is
as it is."7
the following events:
- Event A = The
average family income after tax in constant dollars increases
- Event B = Commercial real
estate investments increase
- Event C = Non-accrual
- Event D = The number of
business bankruptcies increases
- Event E = The
unemployment rate increases
- Event F = Government
- Event G = Personal
- Event H = The
national economy is destabilized
Are any of these
events "causally linked"? What is their "primary cause"?
According to Hume. Following Hume, two events are
causally linked if, among other things:8
- The cause and the effect are
contiguous -- in space and in time.
- The cause precedes the
- The cause and the effect are
bound up by the relation of inference that unites them. The relation must be universal --
that is, the same cause, when repeated, always produces the same effect.
Phenomenalism. The Charts in Appendixes B through
H summarize recent empirical economic data for Canada -- the "best" place in the
world to live (apparently, ahead of the United States, Japan, Germany, etc.)9 A critical scan of this data for
Canada shows two things: (1) Events A, B, C, etc., have been clearly contiguous, in
space (Canada) and in time (1980-1994); and (2) the events followed a definite order. For
example, the increase in the number of business failures (1988-1992) and the increase in
the unemployment rate (1990-1992) have both been clearly preceded by increases in
commercial real estate loans. Furthermore, decreases in commercial real estate loans have
also been followed by decreases in the unemployment rate and in the number of business
bankruptcies. In other words, the event pairs B and D, and B and E,
both satisfy Hume's first two rules -- the rule of contiguity and the rule of priority.
But, do they satisfy the third rule -- the rule of conjunction? Even if every
occurrence of B is found to have been followed by an occurrence of E, can
one conclude that the rule of conjunction holds universally? According to Hume, the answer
is no! All we can say is that increases in commercial real estate investments
have so far been followed by increases in the unemployment rate. All we are left
with is the idea that increases in commercial real estate investments appear
to cause increases in the unemployment rate.10
Reason vs. Phenomenalism. Some people will probably delight
in Hume's skeptical phenomenalism. An idea in the mind is not the same thing as the
real world, they may declare. The real financial world (as manipulated by
money managers) and how the financial world appears (especially to ordinary folks)
are two different things, they may argue. But is this true? Is our knowledge exclusively
limited to subjectively perceived appearances? Will the real financial world always
elude us? Will the famous debate remain forever unsolved? Is objectivity
irretrievably beyond our reach?
The reader need not worry.
The assumption of a separation between reality and appearance is
"mistaken."11 Kant refuted this phenomenalism.12 So did Plato, about 2000 years
earlier. For both Plato and Kant, it is the same real substance that people
perceive. We should therefore be able to use the Kantian method of pure reason to
neutralize any Humean skepticism -- and, more importantly, to systematize the whole
According to Consumer and
Corporate Affairs Canada, there were 76,139 business and consumer bankruptcies in Canada
in 1992.13 Surely, the losses experienced by
bankrupts and by creditors were not just phenomenological ideas in their minds. For
the bankrupt, the objectivity of the destruction he experienced is absolutely
clear. The unity of the substance of the bankruptcy is not undermined by changes in
perceptual properties of the bankrupt or of the creditor. Even sceptics have to contend
with what Kant called the reality of the "faculty of judging."14
Where does this leave
us? Well, we must begin with the empirical data -- the data that capture the economic
experience. But, following Kant, nothing should stop us from using knowledge that is
independent of experience: pure a priori knowledge -- the kind that belongs to thought
and understanding. For Kant, "thought is knowledge by means of concepts."15 Therefore, we can first organize
our knowledge around a diversity of concepts -- such as, family income,
distribution of bank loans, the number of business and consumer bankruptcies, government
deficits, personal saving and debt, the criminal code rate, the number of therapeutic
abortions, the number of hospital discharges for heart attack, etc. Then we can
attempt to connect these concepts into a system. In other words, we can achieve understanding
by first delineating the concepts which form the whole economic experience, then by
connecting them into one system. By connecting diverse concepts into one
"common representation," we exhibit the "absolute unity" that
underlies the system, and this unity gives rise to understanding -- to "unity in
judgments."16 The "analytical unity"17 is what allows us to understand
the relationship (if any) between bank policies and actions and economic prosperity (or
misery), as a system. Thought is what unites "in one self-consciousness"18 the connections and linkages in
this system. Without thought, the connections and linkages would remain hidden. The synthesis
of the understanding by means of concepts or categories (family income, distribution
of bank-money, number of bankruptcies, deficits, etc.) is what allows us to "fix
[our] attention exclusively" on the "unity which is brought by the
understanding."19 This is the essence and the genius
of the Kantian method.
How do we know if our
system is correct or genuine? Kant's answer is as follows: "the
completeness and articulation of this system can at the same time serve as a test of the
correctness and genuineness of all the parts of knowledge that belong to it."20
To understand causes from
effects, it helps to know subjectively -- consciously in our skin or in the marrow of our
bones -- the forms and effect of losses. Consider this partial list of possible losses:
- Loss of credit
- Loss of job
- Loss of income
- Loss of business (business
- Loss of property (consumer
- Loss of home or shelter
(foreclosure or eviction)
- Other losses (crime,
abortion, divorce, etc.).
What are their causes? Many
losses can be traced to managerial incompetence, lack of knowledge or skills, lack of
capital, agency problems, fraud, externalities, etc. But what is the role of flawed
monetary policies or of flawed loan policies? What is the link (if any) between flawed
policies and personal losses, such as the loss of a business, or the loss of a home? Can
this link be uncovered? The philosopher Schopenhauer provides some clues.
World as Will and Idea. The link between flawed economic
policies and economic losses may not be obvious, clear, or directly intelligible. Many
attribute other people's personal losses to "chance," "fate," or
"bad luck."21 What caused somebody's bankruptcy
may not be directly linked to this government policy or that bank policy.
The chain of events leading to the destruction of a small business, to the destruction of
a job, to an abortion, or to the increase in personal or national debt, is not necessarily
obvious. However, the meaning of the destruction can be deciphered. Schopenhauer's
philosophy provides some clues, which I use in the following.22
Most people do not
experience directly, subjectively -- in their own body --, the immediate and
destructive effects of a loss, such as the loss of a job, the loss from a business
bankruptcy, or the loss from a home foreclosure. All people experience fear and anxiety;
but unless they have experienced directly the objectified losses23 from flawed policies, their
awareness of the causes of the losses remain fuzzy and veiled.24 Only when losses are objectified,
can they know the intractable. Only then can they feel and understand the whole
reality of the causes -- from the personal losses.25 The direct experience from the loss
of one's job, of one's business, or of one's home, is an immediate experience in
our "animal body."26 This experience -- which can
include the destabilization of a credit line by a banker, harassment or defilement by
creditors, the pain from the loss, etc. -- converts, in one full sweep,
"dull" economic data into an understanding of the causality of the loss.27 The order (in space and in time) of
the events surrounding the loss are normally not manifest until you experience directly
and immediately the loss. The motives of your banker, of your creditors, of the
government, etc., may remain a secret. But their "will" cannot be
hidden. The a posteriori knowledge from the experience of the loss reveals your
will, the will of your banker, the will of your creditor, the will of the government, etc.
In other words, "causal connection merely gives us the rule and the relative order .
. . "28 of events, but the direct
experience from the loss process reveals much much more. It reveals, Schopenhauer held,
the "meaning . . . the inner working"29 of each individual party involved,
of their motives, of their behavior, and of their actions. The whole
subjective reality of the loss allows you to uncover, to explain, and to understand what
Schopenhauer called the "unité de plan"30 (unity of plan). What the body
experiences directly is not just the intentions of the employer, of the banker, of
the creditor, etc., but the objectification of their will. The pain from the
loss is caused by your opposition to the objectified will of the manager who fires you, of
the banker who chokes off your credit line, of the banker's agent who subsequently
threatens to bankrupt you, etc. To quote from David Berman's introduction to
Schopenhauer's The World as Will and Idea, " . . . our bodily feelings offer
us the key or Rosetta Stone for deciphering the hitherto unknown language of
reality."31 And what could that reality entail?
Here's a partial list derived from Schopenhauer:32
- The wrongful or improper
taking of property.
- The compelling of a person
to submit to his exploiter's will. Lying and "fictitious
motives" are often used to deceive the subjugated person into believing that
he is "following his own" will, when in fact he is being manipulated to
serve the exploiter's will and interests.
- he "broken
contract," which Schopenhauer called "the most
admonished: "He that goes a-borrowing goes a-sorrowing."33 What did Franklin mean? Did he mean
that there is a causal connection between "borrowing" and
"sorrowing"? Did he mean that the act of "borrowing" is the primary
condition of an ordered sequence of events which includes ultimately, or inevitably,
"sorrowing." If Franklin's law of causality holds, what can this causal
connection reveal about the lenders' motives and behavior? about the inner working of the
lending process? and about the effects of loan policies on the economic well-being of the
For answers, we must look
at the empirical evidence and extract the intelligible causality of the borrower's
"sorrowing" (if any). Here's a strategy that is consistent with the scientific
method (and with Kant):
- Identify, organize, arrange,
and connect the elements of the whole economic experience.
- Order the sequence of events
and probe for possible causal links or correlations between changes in the money
stock, changes in bank loans, and changes in a variety of hypothesized possible effects --
recessions, increases in non-accrual loans, surges in business bankruptcies, increases in
unemployment or underemployment, increases in governmental deficits, increases in the
criminal code rate, increases in government transfer payments to families, decreases in
personal savings, increases in personal and unincorporated business debts, increases in
the number of therapeutic abortions, increases in acute myocardial infarction cases (heart
attacks), etc. -- as if these were potential links in a chain of
economic and social events.
- Follow the links in the
chain, one link at a time, until a complete picture of the creative destruction
process (if any) emerges.
modern scientific method. The modern scientific method
consists of two steps:34 first "scientific" laws
are hypothesized or postulated, then the laws are tested extensively to eliminate the
false ones. It is not enough for a hypothesized law to pass one test, it must pass all
tests -- direct as well as indirect. The law is assumed to be true so long
as: (1) it continues to be corroborated by direct tests; and (2) it continues to be
confirmed by indirect tests. New empirical evidence has one of two effects: (1) it can
demonstrate conclusively that the law is false; or (2) it can demonstrate that the
law is not as universal as originally thought (in which case, the law's domain of adequacy
must be restricted). The laws of Newtonian mechanics, for example, are restricted
in this sense -- to macroscopic bodies and to speeds that are relatively small compared to
the speed of light. Both the theory of quantum mechanics and the theory of relativity
extend the scope of Newtonian mechanics. In light of these remarks, we can, following
Popper, say: "we shall be inclined to find the specific hypothesis that A is
the cause of B the more acceptable the better we have tested and confirmed the
corresponding universal hypothesis."35
See John K. Galbraith, Money, 1975 and 1995, at 105-107; and Joseph A.
Schumpeter, Business Cycles (1939), abridged, with an Introduction by Rendigs Fels,
1964, at 114.
Friedman, Capitalism and Freedom, 1962 and 1982, at 50-51.
3 See Royal Bank
annual reports (loans by industry, as at September 30; non-accrual loans, net of allowance
for credit losses, as at October 31).
Canada, Canadian Economic Observer, Historical Statistical Supplement, 1994/95,
Catalogue 11-210, June 1995 (Bank of Canada: monetary aggregates -- M1, M2, and M3).
5 For general trends
and data sources, see Appendixes A through H.
6 Thomas Hobbes, Leviathan,
edited by C.B. Macpherson, 1968, at 704.
7 Aristotle, Physics,
translated by Robin Waterfield, with an introduction by David Bostock, 1996, at 38-39 (194b16).
8 See David
Hume, A Treatise of Human Nature, edited with an Introduction by Ernest C. Mossner,
1969, at 17, 126-130 (Why a Cause is Always Necessary), 130-131 (Of the Component Parts of
Our Reasonings Concerning Cause and Effect), and 223-225 (Rules by which to Judge of
Causes and Effects).
9 See UN Human
Development Report 1996; ranking based on the UN Human Development Index.
10 Hume's theory of
causation is discussed in Karl Popper, The Open Society and Its Enemies, Vol. II,
1962 and 1966, at 362-363 (Note 7 to Chapter 25).
11 See Immanuel Kant,
Critique of Pure Reason (1781), a revised and expanded translation based on
Meiklejohn, edited by Vasilis Politis, with an Introduction and Chronology by J.M. Dent,
1993, at xxxi.
12 Ibid., at
xxxii-xxxiii, 96-97, and 493-499. Kant was inspired by Hume, but he rejected Hume's
analysis of causality, calling it "destructive metaphysics." See Immanuel Kant, Prolegomena
to Any Future Metaphysics, translated by James W. Ellington, 1977, at 258; and
Immanuel Kant, Perpetual Peace and Other Essays, translated with an Introduction by
Ted Humphrey, 1983, at 4-5, 15, and 20.
13 Consumer and
Corporate Affairs Canada, Bankruptcy Branch (number of business and consumer bankruptcies
14 See Immanuel Kant,
Critique of Pure Reason (1781), a revised and expanded translation based on
Meiklejohn, edited by Vasilis Politis, with an Introduction and Chronology by J.M. Dent,
1993, at 76-77 (concepts, thought, and understanding), and 78-79 (faculty of judging).
15 Ibid., at
78-79 ("understanding as an absolute unity" and "common
16 Ibid., at
17 Kant's expression;
Ibid., at 100.
18 Ibid., at
19 Ibid., at
85 (categories), and 106 (understanding).
20 Ibid., at
77 (completeness and correctness of a system).
21 See, for
example, Ecclesiastes 9:11.
Schopenhaur, The World as Will and Idea, edited by David Berman, translated by Jill
23 Ibid., at
33 (" . . . act of the will objectified, i.e., passed into perception.").
24 Ibid., at 8
(Mâyâ, the veil of deception).
25 Ibid., at 9
(" . . . perception is not merely of the senses, but is intellectual: that is; pure
knowledge through the understanding of the cause from the effect.").
26 Ibid., at
27 Ibid., at 9
(" . . . the understanding . . . converts dull, meaningless sensation into
28 Ibid., at
29 Ibid., at
32, and 58-59 (understanding causality by means of the law of motivation).
30 Ibid., at
28 (Morphology, the study of form, and Etiology, the study of change and of
cause and effect, can be used to unconceal the "unité de plan").
Schopenhaur, The World as Will and Idea, 1995, at xxiv and 29.
32 Ibid., at
33 James C. Humes, The
Wit and Wisdom of Benjamin Franklin, with a foreword by David Eisenhower, 1995, at 9.
34 See Karl R.
Popper, The Open Society and its Enemies, Vol. II, 1962 and 1966, at 362-363; and The
Logic of Scientific Discovery, 1959.
35 Karl R. Popper, The
Open Society and its Enemies, Vol. II, 1962 and 1966, at 363.