What a way to start the day. Another interview on CNBC this morning with Ron Paul: Fed to Blame for EverythingLet me come clean: I basically share the man's distrust of heavy concentrations of power. And I think that secular stability in the general level of nominal prices is probably a good idea too. Thus, it appears that we share a number of beliefs. So why does the guy make my eyes roll whenever I hear him speak?
His problem, in a nutshell, is this: He ascribes too much power to the Fed. The power in the U.S. resides in Congress. It is Congress that spends, taxes, and issues treasury debt. Traditionally, the Fed simply determined the composition of government debt between its interest-bearing (debt) and non-interest-bearing (money) components. What sort of power is this? (Especially in relation to the power of Congress).
Ah yes, but the Fed has greater power than this. It can "lend to its friends" and "let its enemies fail." I presume he is talking about the Fed's emergency lending facilities, all of which have now wound down, with a healthy profit for the U.S. taxpayer.
But I am missing the point: The Fed has the ability to create money "out of thin air!" Whenever I hear this expression, I chuckle. We all have the power to create debt out of "thin air." When Microsoft creates shares to finance an acquisition, it creates the shares "out of thin air." If you bum a beer from a friend and promise to repay him next week, you create a debt obligation "out of thin air." Ooooo..."out of thin air!"
Evidently, Paul has been forecasting the current problems of the world since 1971 (the breakdown of the Bretton Woods system). Yep, there were certainly no problems prior to this. No inflation to speak of. Well, maybe a bit during the Korean war. And maybe a bit more during the Vietnam war. Oh, and let's not forget Lyndon Johnson's war on poverty. Fiscal strain, fiscal strain, fiscal strain...all the fault of the Fed, no doubt. This fiscal strain apparently had nothing to do with the breakdown of Bretton Woods...no, let's just blame the Fed for going off the gold standard. As if Arthur Burns had more power than Richard Nixon.
To be fair to Ron Paul, his position appears to be this. It is not ultimately the fault of the Fed. It is the fault of those in Congress who would like to use the Fed as their personal piggy bank to finance their pet "great society" spending initiatives. What Paul would like to see is an institution that prohibits Congress from making sneaky appropriations through the inflation tax.
If this is his view, then I have some sympathy for it. But I think that his energy here could be better spent elsewhere: there are bigger fish to fry in the realm of fiscal policy reforms.
The Fed is symbolic of the system, I think you're taking it a bit too literally.
ReplyDeletePointbite:
ReplyDeleteSo, the Fed is some sort of metaphor for "all things corrupt?"
I really don't get the guy. The Fed was established in 1914. Prior to that, financial panics in the U.S. were a regular occurance. Since then, we've had a century of growth that has lifted average material living standards beyond anything our ancestors could have imagined. There were some major recessions, of course. But attributing them to the Fed seems naive. As I said, major recessions were a part of the economic landscape prior to the Fed.
I think "The Fed" is his target, but it is borne out of a naive view. Paul (likely) is a free banker but he isn't really aware of the free banking/central banking discussion. I imagine he is against monopolistic control of currency, and sees the Federal Reserve as the key culprit.
ReplyDeleteDavid,
ReplyDeleteI'm thinking about this issue more and more. I don't think it is central banks per se that are even the problem. I think you are completely correct in your second-to-last paragraph. Central banks are used as a conduit for overproduction of money.
Any entity can be used as a conduit for the crown to issue money to finance it's pet projects - whether it is the programs we have today or the territorial conflicts common in the past. Insofar as the crown uses its political power (coercion) to "capture" an entity to act as a conduit, there can be no solid empirical evidence regarding free banking v. central banking.
There's way more to this issue than fits in a blog post comment. If you happen to know of any research on this issue, please let me know. By "issue" I'm meaning more of the crown monopoly rather than the central bank v. free bank issue.
Read his book "End the Fed" then post again.
ReplyDeleteYou are wrong saying Microsoft issuing debt is the exact same thing. It is NOTHING alike. When microsoft issues debt, someone who has money THAT ALREADY EXISTS gives it to Microsoft. No new money is created. The Fed however, CREATES NEW MONEY and buys debt (it used to be only government debt but now it buys whatever the hell it wants)....WITH MONEY IT CREATED...MONEY THAT WAS NOT IN CIRCULATION BEFORE....money out of thin air. It's called monetization of debt. If you don't think monetization of debt is the creation of money from nothing....you have some learning to do. I can't believe you really think these things are similar lol.
ReplyDeleteDavid: Not all things corrupt, all things that enable monetary inflation. If there is corruption involved, so be it, but that's not the point. There were many recessions prior to 1913, however (this is a dangerous statement) they were always the result of unwinding inflationary bubbles caused by war spending. I can recall some incidents of "psychological" bubbles, but they tend to be local and short lived. Nothing has really changed since 1913, except the loses from these recessions have been hidden through inflation and postponed until ... now?
ReplyDelete“There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.” –Ludwig von Mises
You don't have to agree with Mises, but if you are trying to "get" Ron Paul, this is where he's coming from.
Also, the rising standard of living we experienced during the 20th century was largely the result of technological breakthroughs, attributing that to the Fed is a bit of a stretch. I'm reminded of the saying, "correlation does not prove causation".
Prof J: He wants competition in currency.
Well, I'm glad to see how a post on Ron Paul always elicits a good response.
ReplyDeleteProf J: With respect to the second paragraph of your last reply...exactly.
Paul: You're right, I should read his book.
AJ: Thank you for the lecture. I especially enjoyed the bold font emphasis. But you missed my point entirely. I would try to explain, but something tells me that you already know everything.
Pointbite: I most assuredly was not attributing the last century of prosperity to the Fed. You'll note my statement asserting that, in my view, Paul is attributing too much power to the Fed. Yes, perhaps Paul has a bit of the Austrian in him. Nevertheless, my original point stands: How can he blame the Fed for the credit expansions that occurred prior to 1914? There is clearly something more at work here than simply a misbehaving central bank.
David: Absolutely, it's not about the central bank, it's about the system or central authority that produces monetary inflation. Today, that just happens to be summed up by the term 'Federal Reserve' but in the past the same criticisms would have been leveled elsewhere. For instance, Congress printing money to finance wars, as I described above.
ReplyDeletePointbite: Well, it appears that we agree on the gist of things. Here's what I think:
ReplyDelete[1] We are not going back to the gold standard anytime soon, and we are not going to go back to any sort of antebellum "free banking" system either.
[2] Congress has the ultimately authority to tax and spend; the Federal Reserve has no such authority (the Fed simply swaps one form of debt for another).
[3] An "End the Fed" program, if successful, would simply transfer the current powers of the Fed to Congress. The result is likely to be runaway inflation.
[4] An independent Fed is the best way to avoid a runaway inflation (even if it does lead to a low secular inflation rate, which is of second or third order importance, in my view).
Does this change the character of the Fed?
ReplyDeletehttp://blogs.wsj.com/economics/2010/05/20/a-look-inside-the-feds-balance-sheet-05202010-update/tab/interactive/
I don't know, because I've just started looking at it. I think, though, that there might come a time that our political overlords wish they'd done a "resolution trust corporation" instead.
Prof J: Cool pic. Of course, I've seen it many times before, but so nice.
ReplyDeleteDoes it change the character of the Fed? What do you mean? If by "character" you mean the size and composition of the balance sheet, then yes. If in terms of its resolution to keep inflation in check, then I would say no.
You'll note the recent inflation numbers were at historical lows, by the way.
David,
ReplyDeleteSeen it? I thought you were in charge of the whole thing! Just jokes, of course.
I did note that low recent inflation. Lowest in 44 years, I think the headline said. I think this is because all the money created through the MBS and other asset purchases has remained (largely) in excess reserve accounts where those funds can earn some (low) interest. Simply put, that money is not circulating and therefore is not chasing any goods. So the question is, what will happen to the money in the future? Will it be released in the economy or what?
I meant "character" in terms of its mission, yes. My concern is that the asset side might increase the probability of meddling by politicians - attempting to turn the Fed into a kind of Freddie or Fannie.
David, thought you would be interested to hear Peter Schiff clarify his position on the Fed.
ReplyDeletehttp://www.youtube.com/watch?v=PMjNMVAwVLg
so if the fed is nothing but a debt swapper,why not replace it with a machine? why have hundreds of phds analysing BLShit at tax payer costs? if the markets needed this data,they'd generate it themselves.the fed is not independent by any means.it pays to pretend it is so. hank paulson's views carry more weight thann that of some unknown citizen. atleast let us discard the ignorant notion that the fed is independent.
ReplyDeleteits like the old saying about democracy: the idea than me and my wife together have twice the political influence of rockefeller
also btw,[3] An "End the Fed" program, if successful, would simply transfer the current powers of the Fed to Congress. The result is likely to be runaway inflation.
ReplyDeleteeh.what is the proof? it didnt do so in the years before the fed? the congress produces inflation only because it has a debt swapper ready.i dont understand why any economist worth his salt is against central planning in 99% of the things -except,um money
An "End the Fed" program, if successful, would simply transfer the current powers of the Fed to Congress. The result is likely to be runaway inflation.
ReplyDeleteBut… that's not at all what happened prior to the existence of the Fed, even through several major military conflicts. For whatever other warts the U.S. economy had prior to 1914, the level of inflation was almost always counterbalanced with a similar amount of deflation soon afterwards such that prices remained stable in both nominal and real terms, never deviating much from the range of 1x - 2x its 1774 value.
I'm actually quite sympathetic to the argument that congress is ultimately responsible. Indeed, if they didn't want colossal spending without the pain of tax increases, the Fed wouldn't have the need to create money to fund it. But that doesn't absolve the Fed of responsibility for accommodating the binge. It seems to me that the presence of a Central bank willing to create enough money to accomodate whatever level of spending congress desires acts as an incentive to spend to much. Denying this seems akin to a defense along the lines of "Hey, don't blame me, I just pull the trigger."
"In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value. If there were, the government would have to make its holding illegal, as was done in the case of gold. If everyone decided, for example, to convert all his bank deposits to silver or copper or any other good, and thereafter declined to accept checks as payment for goods, bank deposits would lose their purchasing power and government-created bank credit would be worthless as a claim on goods. The financial policy of the welfare state requires that there be no way for the owners of wealth to protect themselves.
ReplyDeleteThis is the shabby secret of the welfare statists' tirades against gold. Deficit spending is simply a scheme for the confiscation of wealth. Gold stands in the way of this insidious process. It stands as a protector of property rights. If one grasps this, one has no difficulty in understanding the statists' antagonism toward the gold standard." - Alan Greenspan
Here ya go chief...couldn't have said it better myself:
ReplyDeletehttp://www.economicpolicyjournal.com/2011/03/senior-fed-economist-calls-ron-paul.html
Let me think about a central bank that prints money from nothing, then charges interest on it and make most of its money from funding wars?
ReplyDelete