In edition 8.6 of The Burning Blade I proposed that all ideologies are inherently based on falsehoods. My support for this proposal is that ideologies propagate themselves by imbuing their believers with a strong sense of entitlement which makes them highly motivated to add to the power of their ideology, often at the expense of their ideology's rivals. In that essay I reasoned that when ideologies clash it is generally the one whose members are the most motivated that prevails and that ideologies that can provide more powerful incentives to its believers will tend to be the ones which survive and thrive. Finally, I concluded that after several thousand years of conflict between ideologies, the need to escalate the incentives required to motivate believers to victory will inevitably lead to promises being made which cannot possibly be delivered. Thus, falsehoods at the core of an ideology are a survival advantage which give it the strength to conquer.

In that essay I did not delve deeply into any one ideology in particular to give a detailed analysis of the falsehoods at its core. I did discuss briefly the spiritual rewards systems inherent in religions as well as the inevitable hyperinflation of fiat currencies in economic systems. I also pointed out that "spiritual entitlement", while on the surface may seem to be in infinite supply, is necessarily linked to material things that serve as affirmations of one's faith. Eternal salvation in heaven is simply not strong enough to keep the faith of a fickle flock and thus proof of a god's righteousness is required in the material world. In other words, religious ideologies are just as covetous as political ones when it comes to the distribution of the Earth's finite resources.

With this in mind I will discuss the falsehoods at the core of capitalism. Now, the first question that springs to mind for this essay is "is capitalism an ideology?". Capitalism appears to be limited to the realm of economics and different political and religious ideologies have been able to embrace it as part of their systems. True, capitalism is not an ideology in and of itself, although some theorists have proposed that if everything in the world could be made into a commodity and brought into a market based system then the value of all things from goods to services to morality to personal relations would be determined efficiently by market forces. Although this form of capitalist ideology does not yet exist in the world it seems that the current direction in many countries seems to be moving towards this style of total market immersion. In the past I've referred to this as "The Commodification of All Things" and personally feel both fascinated and repulsed by the idea. But for my analysis capitalism does not need to be an ideology. Capitalism has been functionally fused with many ideologies, allowing them access to a system which lets the followers of those ideologies achieve the material gains that they require to serve as affirmations of their god's righteousness. So, for example, the Mormons can sell a product, such as the ability to save the souls of a convert's deceased family members, to their believers which in turn gives them the funding to build humongous, ornate churches which make believers feel awestruck and more devout when they visit them. Embracing the capitalist system empowers religious ideologies to grow and thrive, but it also exposes the ideology to the system's implicit falsehoods.

So what is capitalism and how is it based on falsehoods? Capitalism is an advanced economic system involving some form of currency, economic competition, the free market to establish prices, and most importantly the use of capital to invest in future profits. There are several competing theories concerning the details of capitalism as well as how it should function and it's not my aim to sort them all out here. Also, I cannot describe every part of our economic system in detail so I will focus only the fundamentals. My main concern is to describe how capitalism works in terms of the Fireaxe theory, although in the process I will no doubt end up pointing out flaws in various schools of thought.

The falsehoods of capitalism can be found in each of the previously described elements, the form of currency, economic competition, the free market, and investment. I will deal with each one in turn.

Currency isn't necessarily a falsehood, but fiat currencies are chronically prone to hyperinflation and thus do not deliver on their promise. In The Burning Blade 8.6 I described fiat currencies and so I will only go over them here briefly. Currency makes trade more efficient than a simple barter system since it adds a great degree of flexibility to the system. For instance if you were a car builder in a barter system and you wanted a lawn mower, you would either have to trade a car for a lawn mower straight up, which would be unfair, or get a bunch of lawn mowers in return, most of which you wouldn't need. Having currency as a medium of exchange makes trading quick and easy provided that you have a fair pricing system. Currency can either be something of value, like gold and silver, or can be created by fiat, like paper dollars and denoted as a unit of trade. To ensure stable prices, it's important that the quantity of currency remain roughly proportional to the size of the population. While this is generally the case for precious metals, the supply of a fiat currency can grow rapidly if the people in charge of printing it do so too aggressively. For instance, lets say you trade a car for paper dollars and then store that money in a bank deposit for a year where it gathers interest. During that year your government declares war on some other country and prints lots of paper dollars to pay for the things that it needs to wage it. The government then ends up buying lots of what people are selling and gives them paper dollars in return. So at the end of the year when you go to the bank to get your money and take it to the market you find out that all of the prices of the things you want to buy have gone up. This is because the supplies are now low and everyone has a lot of dollars to spend on those few available things. This is called inflation and it has ended up burning you because you can't buy nearly as much now as you could when you first earned your money despite the fact that you earned interest on it. In essence, your money is a falsehood since what you thought it was going to be worth is not what it ended up being worth. This is not the case if your currency is made of something that retains its value, such as gold or silver. With gold or silver currency the government cannot steal from you by running its printing press when it needs more money. However, if the government wants to go to war and doesn't have the funds to pay for it, it might just go ahead and take from you what it needs anyway. Of course, at that point it is private ownership that is the falsehood and not the currency.

Economic competition is essentially the application of natural selection to industrial production with the ideal results being that competing industries produce better products at lower costs which makes things better for the consumer. This is a truth of capitalism, at least when it works out that way, but it can become a falsehood for markets that are prone to monopolies or when competing industries collude to drive up prices. The most notable cases are markets for things which are necessities, such as food, energy, and transportation. Although people can often curtail their need for such necessities to a degree, they are forced to buy a certain amount of those necessities at whatever price the market offers, and it is this need which makes these markets prone to exploitation and manipulation. It is commonly recognized by almost everyone that most "free" markets require some degree of regulation to ensure that the heads of a few industries do not grow grossly rich at other's expense. The accumulation of wealth by a small sector of the population is anathema to an economy since it leaves little wealth for the rest of the people to attain by working hard. All economies work best if everyone is highly motivated to work, but extremes in the division of wealth destroy the workers' incentive. In the case where the few have most of the wealth, those few do not need to work and the many cannot get ahead much by working hard. The result is that everyone will end up working only as hard as necessary to get paid. In the case where wealth is always redistributed evenly, no one can get ahead through hard work and everyone will end up working only as hard as required. Of course, non-material rewards can compensate for a lack of material rewards, but only for a while since non-material rewards must be matched by real world gains in order to maintain psychological reinforcement of those non-material things. The upshot of the problem of economic competition is that capitalist systems must be regulated, but not over-regulated, to ensure that market manipulation does not occur and that wealth is distributed fairly. This truth has lead to a never-ending struggle between the barons of industry and government appointed regulators, but while competition and internal strife can have a negative effect on over- worked or victimized participants, it has a positive effect on the ideology. The fear of losing market share or slipping through the cracks of a capitalist system motivates one to work hard and thus one ends up materially supporting the ideology. Capitalism, especially cutthroat capitalism, motivates with both the carrot and the stick.

The idea that free markets automatically self-regulate and produce optimal outcomes is true in many instances but false in others. The seemingly magical effect of the free market to set prices through supply and demand has been called the "invisible hand" and works in a simple, common sense manner. In general, when a product is in great demand, it becomes harder to produce enough of it to satisfy all of the buyers. In this case the price of the product will rise due to increases in the cost of producing so many goods. As the price goes up, demand tapers off since the product becomes unaffordable to many prospective buyers. The end result is a higher price set not by the manufacturer but by supply and demand. The reverse is also true, that when demand drops, meeting the production goals is much easier and prices fall. When prices fall, demand will increase since the product becomes a better deal. Once again, market forces act to set stable, logical prices for commodities.

However, there are a number of problems with the invisible hand effect and one of them is that the efficiency of mass production tends to make a certain level of production more favorable than those above or below it. For instance, music CDs become a lot cheaper to make once you get above a target of about 300 units due to the different production methods used at different volumes. In these cases a product may only be profitable at or above a certain price level. Another problem is that large business with stockpiled cash will often slash their prices, sometimes below cost since they can absorb the loss, in order to drive their smaller competitors out of the market. Similar dirty tricks include large businesses being able to lobby the government for big contracts and regulation that slants the playing field in their favor.

Another problem with the invisible hand is the major change in products themselves in the late 20th century. There are a number of industries in the world today which do not produce a physical product at all, namely the software industry, and thus almost any production level can be met quite easily. In fact, since the cost of labor, which is roughly fixed for software, is almost the whole of the cost of production, the price per unit to attain the same amount of profit is actually inversely proportional to the amount sold. This is the exact opposite of the law of the invisible hand and explains both how software growth can be explosive and how monopolization can be a major problem for the industry. However, explosive growth potential has proved to be its own best competition since challengers to the biggest software companies can often arise overnight. This is true for all industries which can easily accommodate mass production such as music, movies, books, and art. All of these markets have created problems for regulators, and have also created problems for the producers as well due to the fact that in many cases the consumer can become a producer quite easily. Most notably in the case of file swapping over the internet, the consumer is capable of reproducing and selling someone else's products at a much lower cost than can the original producer. These problems of the modern age seem to be popping up faster than they can be solved.

The biggest falsehood concerning self-regulating free markets is that when they are subject to excessive speculation they can tend towards bubbles and crashes which can occasionally send the entire economic system into a recession or depression. In these cases the invisible hand works against the principles that let the market self- regulate. When a number of people think that a commodity which is generally considered to be an investment, such as collectibles, stocks, or houses, is undervalued they will enter the market and start buying up the low-priced commodities. As per the rule of the invisible hand, the prices rise, but the effect of rising prices only makes the commodity more desirable. Investments are different than consumable goods since they are bought with the intention that they will be sold at a later date for a profit. Thus, more people will enter the rising market and invest in something that appears very likely to be quite a bit more valuable in the future. This, in turn, drives prices even higher and a self-reinforcing cycle can develop, driving prices ever upward until one of a number of things happen, such as "investor fatigue", or a shortage of buyers, and the trend comes to a halt. This self-reinforcing trend is referred to as a bubble since it will eventually go into full reverse, sucking all of the air out of the market as prices begin to fall. Falling prices scare away new investors and encourage the current investors to sell while the market is still high. This results in an oversupply and prices fall even farther since no one wants to buy into an investment that is losing money. As prices fall even farther, many investors see their potential profit turning into a loss and become desperate enough to sell at whatever price they can get. The vicious cycle continues until prices reach a more stable level, which is usually not far from where the prices were before the whole bubble episode began. Now, if the all of the money invested in the bubble market is real or fully backed by collateral, the crash is only damaging to the "losers", that is, those that bought in at a high price and sold at a low price. But if a lot of the investments were bought on credit without sufficient collateral to cover the losses then the economic damage is not so limited and can affect everyone in the entire economic system. Banks can fail and a recession or depression can occur due to a lack of reasonably priced credit and the uneven distribution of wealth during the episode. Thus, in the case of market crashes, the falsehood is the promise of a stable, reliable market pricing mechanism which can often lead to bubbles, crashes, the loss of one's savings, and prolonged periods of economic malaise.

The last falsehood of capitalism involves the mechanism of investment. The stock market is one form of investment and contrary to popular perception it isn't just about sheer speculation. While this may come as news to the young investor, the concept of the stock market is to distribute investment capital to industries which promise to improve everyone's way of life. Industries, both new and old, can sell a small part of their company to anyone who wants it. In return the company gives back a return on that initial investment every year. This is called a dividend for all of those people out there who did not start investing until after 1995, and dividends on average used to pay back better than money invested in the bank. After all, there is risk involved in giving your money to a company that might collapse and so the return has to be higher than that of safer investments. There are other ways to invest your money, such as collectibles, real estate, and private business ventures. All of these compete for the investment dollar and thus, for people who save money and want a return on their investment, there is a market for their money. Investment is the driving force behind capitalism since it enables the redistribution of capital away from unsuccessful businesses and industries and towards bold and innovative ones. This is often called "creative destruction" and it enables the economic system to change and evolve more rapidly than those without investment markets. Instead of the rich hoarding their wealth, they can invest it in things which stimulate economic activity and receive a return on their investment in exchange for the associated risk. Everybody wins.

The basic concept of investment is really no different than any kind of loan: you assume risk in exchange for a return. This all works with the implicit belief that in the future there will be more wealth than in the present, that the effect of the investment will be to add to the supply of capital in the system and thus supplies the return on that investment. For instance, say you take out a loan at five percent interest and buy a hundred pigs. You do some breeding and the following year you have one hundred and ten pigs. You sell five pigs and give that money to the bank and sell five more and keep that money for yourself. This is successful capitalism. You have added value to the system and both you and the bank get rewarded. Of course there is risk, but unless an investor is unwise he understands that he could lose all of his money, so the risk part is not a falsehood. The falsehood of investment comes when expectations of future returns far exceed that which reality can deliver, which can happen when either the interest rates being charged are too high, or the rules on how much credit can be created allow for too much debt. In the example above, if the interest rate was ten percent or less, you could still pay off the interest because when your pigs breed you always end up with ten percent more pigs than when you started. However, if the interest rate is higher than ten percent it is impossible for you to support your business and it either fails or you decide not to start it in the first place.

The other part of the falsehood comes when too much credit is created. Banks operate by loaning out money that other people have deposited with them. By law the banks are only allowed to loan out a percentage of this money, but it means that most of a saver's deposit is not stored in the bank's vault, instead it has been lent out to others. This is why there can be a run on a bank, if everyone withdraws all their savings at the same time the bank will run out of money, making the people very upset. In the U.S., the FDIC protects against this from happening, enabling the deposited money to do two things at once: accumulate interest for the saver; and provide capital for the borrower. If all goes well the bank gets more from the borrower than it gives to the saver and everyone is happy. But this isn't the whole story, because when the borrower buys something with his loan, that money goes to someone else who, let's say, deposits it with the same bank. Now the bank can loan a certain percentage of that deposit once more, and so on and so on. This allows the same money to do many things at once, which makes the wheels of production turn ever faster. Since there is so much co-dependence between savers and borrowers the system is prone to collapse if some calamity occurs and a number of the borrowers are wiped out, but as long as risk is managed correctly there is no problem with doing things this way.

The trouble begins when risk is not managed properly and credit is given out without sufficient collateral. One example of this is when the owner of a store lets a customer run up a tab. The customer doesn't have to go to a bank to get actual money to pay the store owner, he just is assumed to be "good for it" and will pay his tab at a later date. If he isn't good for it, then the store owner is out of luck. However, the borrower could supply something as collateral for the store owner to keep if he doesn't pay his tab, with the required value of the collateral being up to the store owner to decide. Once again risk is assumed, especially if the value of the collateral isn't equivalent to the amount of the tab, but if the borrower is reliable then everything works out fine.

The arrangement of giving someone collateral which is less than the amount being borrowed is called leveraging, referring to the concept of a lever that lets you lift a heavy load with only a light effort. Depending on the lender you can get a lot for very little as long as you promise that everyone will get paid in the end. It is obvious to see the added risk in this sort of arrangement, especially if the amounts are large or if someone tries to leverage his collateral several times. For instance, say that a person goes to a shop and purchases a collection of baseball cards using a valuable, but less expensive baseball signed by Babe Ruth as collateral, he then uses those cards as collateral at a jewelry shop to get a bag of diamonds, he then uses the diamonds as collateral for a stock purchase and finally he leverages that investment to buy a massive amount of oil futures. Now, if he was able to get ten times the amount of his collateral for each of his loans he now has ten thousand times the value of his original baseball invested in oil. What this means is that even if oil goes up only one percent, when he cashes out his contract he has made one hundred times the price of his autographed ball. Through leveraging he has increased his profit from one percent, which he would have gotten if he'd just sold his ball and invested that money in oil, to ten thousand percent. What a deal! But what if the price goes down? In that case the borrower is out far more money that he can pay, but he can always declare bankruptcy and lose only his prized souvenir. What's more is that even if the price goes down he is not necessarily out of the game. If he had more collateral to offer and more people willing to give him leveraged loans, he could leverage his new collateral into another highly profitable investment scheme that could both offset his original loss and possibly give him a profit in return. Furthermore, if he was unlucky, as long as he can keep getting collateral and leveraging it high enough he can continue to play the game, in essence going "double or nothing" until he wins. Keep in mind that everyone who has given the investor a leveraged loan wants him to win since they have a major stake in the game. If the investor loses, everyone takes a loss, and no one wants that.

Now, I've just been using simple examples to explain things, but borrowing and leveraging are the life's blood of our modern economy, so much so that the amount of leveraging going on in today's markets is truly massive, and frightening. However, the risks do not appear to be so dangerous since many trades are underwritten by firms which protect investors from catastrophe. What they do is estimate the risk of their client's investment and charge the him a certain amount up front for the trade. Then, if the trade goes well, the investor makes money, and if the trade goes south, the underwriter covers the loss and the investor doesn't lose a cent. It's basically insurance for investors but as long as the markets keep going up, there are no losers. And even the possibility of a stock crashing doesn't mean that everyone involved will lose. In today's investment world you can not only buy a stock and sell it later, you can also sell that stock today with the understanding that you will buy and deliver those shares in the future. In essence this is like betting that a stock will go down in price. You sell high, even though you don't own the stock yet, and then you buy low later. This arrangement means that you get burned if the price of your stock keeps going up. With the ability to bet on a stock, or bond, or a commodity, or practically anything going in either direction, and with the risks being handled by underwriters, investing seems to be a can't lose scenario. Furthermore, with enough people willing to let you leverage money to multiples of its original value it might appear that "investing", if we can still call it that, is a risk-free way to great wealth. Well, it certainly can be, and over the last fifteen or so years there have been far more winners than losers. This is because the investment market is prone to speculative bubbles just like any other market, and when people start winning and more people start investing and the current players invest even more money, the value in the markets just keeps going higher. Don't sweat the losses because if you lose today you can just bet more tomorrow and make up for it. Wall Street has truly become a gambler's paradise.

None of this activity requires a fiat currency since so much of it is based on collateral, but as traders collect commissions on their trades and investors decide to cash out some of their returns you can run into a problem similar to a run on a bank. There isn't enough real money in the system to pay those who want out since the system is built on using leveraged assets as collateral. Thus, without someone printing money to hand out to the winners, the investment bubble can only inflate so far. In the present case we can thank the Federal Reserve and other central banks for contributing to the investment bubble. Also, since the investment market is like any other market, it requires a steady supply of collateral to fuel the leveraging process for each mega-investment. This collateral is provided from bubbles in other markets, such as the stock market bubble in the late 90's and the housing bubble today. As long as people are taking out loans to buy houses, refinancing their loans and getting cash back, or cashing out equity on existing houses there is plenty of collateral, in the form of interest bearing debt, to keep the investment bubble growing. So how bad is it and how big of a crash are we looking at when things finally go south? I've heard that the total notional amount, which is the amount that people will be on the hook for if all the markets crash to absolute zero at the same time, is somewhere close to three hundred trillion dollars. Of course, the markets will never get that low, but if they were to drop by only a third of the current amount, a crash by any measure, then we're talking about debt burden equaling twice the GDP of the entire world appearing overnight. So how bad would that be if it were to happen? Opinions vary, but they range anywhere from a sharp global recession to "Gee, I wish that I could move to another planet until this all blows over". Remember that the last global depression was in 1929 and two-decade aftermath was devastating.

The crux of the matter is that through all of the loans and the leveraging, we are collectively borrowing into a future that is completely unattainable. Debt is everywhere and present in quantities which are insurmountable without extreme measures being required to pay them back, but we compensate for this by borrowing farther and farther into an imagined future of limitless wealth. Investors are getting, and now expecting, historically unprecedented returns on their investments, which is the biggest weakness of the capitalist system. According to the Fireaxe theory, humans are ideologically instilled with a permanent sense of inadequacy which makes them desire more in an attempt to be satisfied. Applied to capitalism this means that people will need higher and higher returns on their investments regardless of what can be reasonably expected. Put simply, in a capitalist system, the permanent psychological deficit will generally manifest as uncontrolled greed. Humans will naturally gravitate, intentionally or otherwise, towards actions which produce bubbles since those situations generate the highest returns. Investors will find ways around existing regulations to do just that and exploit those bubbles until the inevitable crash results. The biggest problem with bubbles is that once they grow so big that everyone agrees that they are a problem, there is no way to stop the crash from occurring. We've already spent the money and now it's time to pay the bill.

To review, the falsehoods of the capitalist system are the currency itself, if a fiat currency is being used, since it is backed by nothing and prone to inflation, that economic competition naturally leads towards uncompetitive practices such as monopolies and collusion since they maximize profit, that free markets naturally tend towards destructive bubbles and crashes since they do not self-correct until it is too late, and that investment, while being successful in transforming greed into productive efficiency, will inevitably lead to the breakdown of all regulations designed to keep the system stable working well for all participants.

On the surface it appears that the answer is to impose total regulation on the entire system, preventing all of the things that I point out as falsehoods from occurring. It can certainly be argued that in theory the capitalist system will work fine as long as a number of potential problems are prevented, but the same is true for every ideology, that if everyone followed the rules it would work perfectly, and yet believers still sin and citizens still break the laws and everyone imagines that they can be legitimate exceptions to the rules. History shows that regulation can never be total and complete. But a falsehood is not simply a flaw in the system, or the idea that humans are imperfect, a falsehood is a promise that cannot be delivered upon. For capitalism the falsehood is that greed has been transformed from a vice into a virtue and thus by rewarding and encouraging it everyone will benefit. For a time this is true, reinforcing the belief that all is well and allowing ideologies which embrace capitalism to survive and thrive, but just as markets grow into unsustainable bubbles, faith in the system leads to instability and disaster as vigilance is slowly but surely put to sleep.

"Men, it has been well said, think in herds; it will be seen that they go mad
in herds, while they only recover their senses slowly, and one by one."
- Charles Mackay