Without a major innovation, which would raise the Price, PQ will continue to shrink. The abnormal large M is holding hostage the interest rate to return to a normal level. Innovation would not be affected by a rise in interest rate, but in the absence of innovation, which would raise the price, any increase in the interest rate will decrease M and exasperates the shrinkage of the economy due to the decrease in Price. Price decreases because of price competition among non-innovative products, as Karl Marx warned us: "Capitalism will fall due to cut-throat price competition."
From history, we know that major innovations will continue to arrive, but what kind of innovation is unpredictable. Innovation is time-variant and is a significant contributor to the time-variance of value, which is defined as the sum total of all the future benefits and losses.
In general, history consists both time-invariant and time-variant elements. Only the time-invariant part of history repeat itself. Science deals exclusively with time-invariant quantities and satisfies the test of empirical verification. Post-science involves both time-invariant and time-variant quantities, such as value and life, both of which vary to infinity in time. History should belong to post-science. Post-science history has to isolate the time-variant elements from the time-invariant elements, which then can satisfy the scientific rigor of empirical verification.
There were three time-invariant occurrences which might serve as lessons of history on the development of the financial crisis after 2009. They are (1) the copying of US technology by Japan in its rapid rise to become the world number two financial power, (2) the experience of Taiwan Economic Miracle imitated by the current Chinese Economic Reform, and (3) the similarity between the lost decade in Japan and the current financial crisis in USA. T. L. Kunii and Hugh Ching, two of the Founders of Post-Science Institute, have been directly involved in these historical developments.
Japan re-innovated the US technology after WWII. Today, Japan has copied almost everything it can copy and must start to develop its own innovations, and its technology progress slows down. Taiwan Economic Miracle is largely due to the same re-innovation process. Currently, China is imitating Taiwan in its economic development designed chiefly by the late K. T. Li, the Architect of the Taiwan Economic Miracle. In the next two decades, China should progress as fast as Japan in the post-War era and as Taiwan in the 1970s and 1980s.
From the point of view of post-science, the lost decade in Japan is due mainly to the unavailability of a correct method of real estate appraisal. Similar to the US Savings and Loan Crisis, the financial crisis in Japan was caused by over-valuation of the real estate market. From private communication with William Seidman and some local Japanese, including T. L. Kunii, Japan has an added adverse influence on the real estate value, namely, many real estate loan holders have Mafia connections and the loan to value ratio can frequently get as high as 1000%. In essence, some of the borrowers can inflate the prices of their real estates as high as they want, especially, when the interest rate had to remain near zero, so the payment on the interest is also near zero, in order to stimulate the Japanese economy.
Will China surpass USA as the leading world financial power? The answer is no, as Taiwan and Japan, which have perfect their skill in copying innovations, not in innovating. USA will continue to be the land of innovation and where innovators congregate and technology standards will be set. In order to surpass USA, China must start to innovate right now, but that would require it to provide an ideal environment for innovators, a task far more difficult than just to undercut price using cheap labor force.
Will USA enter into a long period of recession? Most likely, yes. What kept the inflation, and interest rate, low is the depressed economy. Once the economy starts to expand, inflation will flare up, globally, especially, for raw materials. The rational way out of this quandary is to have a major innovation, using the innovation, rather than using M, to increase P.
Usually, the abnormal large M will lead to inflation. But, with V being very small in a shrinking economy, where investors are less willing to invest than in an expanding economy, M is in no danger of causing inflation. However, if ever the economy starts to expand, say, due to government over-stimulating the economy, the large M will certainly be the free energy that fuel high inflation. On the other hand, if the economy continues to shrink, M must not be allowed to shrink, and the interest rate cannot be raised.
The time-invariant characteristics of innovation that major innovations will continue to arrive is verified by history. What troubles the current financial crisis is when and what innovation will arrive next to pull the economy out of the long recession; this is the time-variant character of innovation.
The government should start to use the solution of value from the Post-Science Institute to calculate the rate of return to determine stimulus funding priorities. Post-Science Institute believes, contradicting the former Fed Chairman Alan Greenspan, that the Internet is an unfinished innovation, and has been proven successful. Therefore, the government should use the stimulus money to fund high-return ventures in the Internet electronic highway startups rather than to fund low-return highway constructions, which will prolong the recession, as happened in the Great Depression.
The Internet is a revolution in information transfer. It will replace the newspaper and many types of stores with inefficient information systems. The revolution can match in scale and significance of that of the Industrial Revolution, which replaced all animal labor with machines (A Robotics Revolution based on robots with the ability of touch will replace all human physical labor. Post-Science Institute solves the problem of touch).
The main advantage of the Internet Revolution is that only three months are needed to train a web designer from any country, while more than six months are needed to train a software programmer, after one or two years learning English in non-English speaking countries. The Revolution is truly international in scope. The disadvantage of the Internet, in terms of the current financial crisis, is that it enhances price competition of non-innovative products, and, thus, speeds up the economic contraction. It could be one of the main contributors to the present perfect financial storm. With the Internet, the prediction of Karl Marx that (without innovations) the price competition will bring down the capitalistic system is verified. The current financial crisis has suffered due to the disadvantage of the Internet and is not helped by its enormous advantage, through its re-innovation.
With Milton Friedman gone, Post-Science Institute would like to speak in his behave: "The government is the biggest of the too-big-too fail companies." The credit crisis of the financial crisis is caused by the incorrect determination of the insurance premiums for bank deposits by the government. The Subprime Woe was precipitated by the incorrect determination of the interest rates to set by the Federal Reserve, as evidenced by the drop and rise in the fed rate from normal prior to 2000 to 1% and back up to 5.25% and then down to near 0% within the span of the first one decade of the third millennium. Had the Fed known that the fed rate should be kept around 1% or lower, why did it raise it to over 5%.
Milton Friedman had proposed to replace the Fed with a computer, for which Post-Science Institute would like to offer the Infinite Spreadsheet, which can rigorously calculate the relationship between the rate of return and the interest rate. A rational economy should set the interest rate below the rate of return. By detecting that the rising interest rate, whose rise would decrease the rate of return, was getting close or even surpassing the rate of return, the Infinite Spreadsheet predicted the Subprime Woe in a comment to the Federal Reserve Board in June of 2006. The warning was prompt rejected by an email reply and, following the rejection, the fed rate was raised by another quarter of a point to 5.25%, but later the Fed recanted in 2008 with the fed rate promptly being brought down to near zero.
As time-invariant lessons of history that the limited supply of silver caused the fall of the Roman Empire, and the limited supply of gold contributed to the Great Depression, the national debt, which creates an artificial, unnecessary, and self-imposed constraint on the supply of the dollar, might become the cause of possibly the biggest world-wide financial disaster. In the current financial crisis, the Fed just prints money to increase M.
In conclusion, after this financial crisis is over, the solution of value should be used to prevent over-valuation ever to occur again. The government must start to mandate non-violable laws of nature, not man-made laws formulated based on political interests. Society must move from the current market regulated by man-made laws to the free market of Milton Friedman regulated only by non-violable laws of nature. The non-violable constraints are described in the invariant lessons of post-science history, Quantity Theory Of Money, the solution of value, which are non-violable laws of nature in social science.