Pope Francis Confuses Capitalism with Bad Economic Policy and Bad Social Policy

Pope Francis has been criticizing capitalism, blaming it for causing poverty, high unemployment, and low wages for workers. But he is mistaken, not understanding the difference, or not making the distinction between, capitalism on the one hand, and economic and social policies on the other. Poverty, high unemployment, and low wages are not the result of capitalism, but of misguided economic and social policies. It is important that Pope Francis realize this, otherwise he and many of his followers will push for misguided economic policies which undermine capitalism and lead to generalized poverty, as we saw under communism.

Capitalism is a commercial system optimizing the investment of financial capital and human resources, directing them where they are most needed and most efficiently employed, while rewarding competent investors. Capitalism has historically proven to be by far the best commercial system, the most productive one, and communism the worst. An illustration is the side-by-side comparison of the vastly different living standards provided by capitalist West Germany and communist East Germany between 1950 and 1989, the year the Berlin Wall fell. Apart from having a vastly superior economy, West Germany also had a far superior respect for human rights and democracy. In East Germany there was much less income inequality than in West Germany, but everyone was poor compared with the citizens of West Germany, to the point where low-income West Germans had a significantly higher income than most East Germans!

But for capitalism to lead to a prosperous economy, it needs to be combined with the right economic and social policies. That combination could be termed “enlightened capitalism”, but it would be misleading since capitalism is completely separate and distinct from economic and social policies.

Very clearly, the increase in poverty and unemployment and in the number of workers with low wages over the past few years in the Eurozone and in the United States has nothing to do with capitalism but with grave errors in economic and social policies. Economic policy involves monetary and fiscal policy, whereas social policy involves education and various other social services.

The most egregious economic policy mistake has been applying austerity measures in a recessionary environment, a repetition of the enormous mistake made by the United States government in the 1930’s, which turned a recession into the Great Depression. In times of high unemployment, low wages, and rising poverty, the correct economic policy is one of economic stimulus provided by QE-financed tax rebates which serve to increase personal income and consequently personal consumption. QE-financed tax rebates during recessions should be the standard stimulus tool. They are instantly effective and are fair, since every tax payer receives the exact same stimulus check from the government, and, importantly, they cost absolutely nothing since they are financed by the central banks, meaning that no “real” debt is created, only “virtual” debt which disappears in thin air. Indeed, national public indebtedness ends up declining thanks to the ensuing economic recovery brought about by the tax rebates.

How come QE financing does not increase real debt? Because the central bank itself purchases the newly issued government bonds which finance the tax rebates. And when a central bank purchases and holds government bonds to maturity, those bonds cost the government absolutely nothing, neither in terms of interest cost or capital cost. QE financing essentially consists of newly printed money by the central bank, not of new real debt. Government bonds held by a central bank are “virtual” debt, not “real” debt, and they get extinguished at maturity at no cost to the government.

Had governments in the U.S. and the Euro Zone issued QE-financed tax rebates as soon as the unemployment rate rose above 6% around five years ago, deep recession would have been averted. Unemployment would have been kept low, wages would have risen, not fallen, and poverty would have declined.

The errors in social policy mainly involve governments not ensuring that all their youth receive an excellent education, including one in economics and psychology in order to increase self-understanding and awareness, and understanding of and empathy for others. A well-educated person is very unlikely to be poor in a well-run capitalist economy. So the key to reducing and ending poverty is 1) to ensure that every youth gets an excellent education, and 2) to ensure that governments have the correct economic policy.

Pope Francis’ criticism of capitalism is dangerous since it can undermine popular confidence in the capitalist system, even drive people towards communism, or to look for a “third way”, which does not exist. The ‘third way” is actually “enlightened capitalism” which means free-market/free-enterprise capitalism combined with the right economic and social policies.

Pope Francis is right to bemoan poverty, but is mistaken to imply that workers with low wages are being “exploited” and that poverty is caused by capitalism. It is urgent that governments finally see the light and use QE-financed tax rebates whenever the unemployment rate rises above 6%. And that they accompany the right economic policy with the right social policy, making sure that every youth gets an excellent education.

What Pope Francis could do to help reduce poverty is to focus the Catholic Church’s resources on creating schools in the world’s many poor neighborhoods. That should be the Vatican’s main mission. (Catholic-run schools in New York City, for example, have had an admirable record of educating underprivileged children.)

July 29, 2015

@EdwardSonnino

© Edward Sonnino 2015