Believe those who are seeking the truth. Doubt those who find it. Andre Gide

Sunday, March 6, 2011

The free-banking vs. central-banking debate

Ah, what a lovely way to start the day. A glorious morning, cool and fresh. A meeting of aged soccer players on a lush and muddy turf. No broken bones. No pulled hamstrings. I even scored a goal. Oh, the joy.

And now back home to read over my fan mail. You know...I had no idea that Americans were so passionate. I think that
American-style passion frightens us little Canadians. I suspect that this is what makes Canada so dull. And it's probably the reason I left too. Welcome to the jungle, Mr. Andolfatto.

As many of you can imagine, I've been the recipient of hundreds of rather nasty emails lately. I don't know any other way to describe it except as "awesome." Oh, I don't especially like being called names and being insulted, but it's no big deal (academics need pretty thick skins to survive). The awesome part is how people are so eager to express their views. It is, I think, a part of what makes America great.

Now for a little story--some background, I guess. Long ago, a remarkable debate took place about the optimal way to organize an economy's money and banking system. The proponents of free-banking eventually lost out to those who favored some form of central bank regime. The nature of these debates are nicely summarized by Vera Smith in her book, The Rationale of Central Banking.

Then for a long time, it seemed that very few people were interested in this debate anymore. Oh, a few academics would talk about it here and there. But if one was interested in practical monetary policy issues, well, one simply had to take the existence of a central bank as given.

That attitude always struck me as wrong-headed. As a young academic, I was interested in the theoretical foundations for monetary exchange. And I became fascinated in the experiments with money and banking regimes that were tried in the past. I made a point of teaching this to my students. And, in particular, I emphasized the free-banking alternative.

And now I find myself employed at a central bank (I still retain affiliation with my university). Well, I'm at a regional branch of a central bank (there are 12 regional Feds). And because of my present employment, many people evidently believe that I am a hard-nosed central bank type whose sole purpose is to defend the institution and its policies. As if an academic could or would want to ignore 20 years of scholarly research on the subject just like that. No, that's not how it works--and it's not the reason I was hired by the St. Louis Fed (if it was, I would not have come).

I love the research division here in St. Louis. My colleagues are great and the intellectual atmosphere is vibrant. The debates we have among ourselves often get lively. And yes, we sometimes talk about the merits of gold standards, free-banking, etc. I have even invited George Selgin, an ardent and articulate proponent of free-banking, to visit us in St. Louis and give us a lecture on the topic (which he has agreed to do some time in the future).

As an academic who has devoted a considerable amount of time on the subject, I cannot say that I presently fall strongly on either side of the debate. I can see merits (and defects) in both points of view. And I think it is great that Ron Paul has brought the subject back into the spotlight. As an academic interested in the subject, it is no less than thrilling. I think I can speak for most of us economists working at the St. Louis Fed in saying that we welcome a healthy debate. (And do not make the mistake of thinking that all Fed economists necessarily fall on one side of the issue).

To make a solid case one way or the other, it is important to keep the facts straight. (Yes, I realize that I am setting myself up for more abuse but please, spare yourself the trouble.) Moreover, it is also important, I think, not to present data in a misleading light. Now, I do not think everything Ron Paul says is wrong. In fact, as I said in my original post, I appreciate the libertarian philosophy. But if one wants to promote libertarianism based on sound intellectual foundations, it does the cause no good to make and promote misguided statements about money, prices, and the role of central banks. History is replete with examples of  bad government policies in place well before the existence of central banks. In my view, it is wrong to convey the impression that something close to economic nirvana will dawn in the absence of a central bank.

In my original post, I wanted to attack one particular idea promoted by Ron Paul. (I did not mean to attack the man personally, and I regret the adjective I used to describe what I thought of his idea). I want to be clear that the post was not meant to critique all or even most of the Congressman's ideas--nor was the post meant to serve as a defense for the Fed.

It is my belief that Ron Paul promotes a misleading argument concerning the fact that our price-level today is much higher today than it was 100 years ago. His argument implicitly suggests that nominal wages today would be roughly where they are at even in the absence of currency debasement. This is, in my view, just plain wrong.

But for people who believe it (and evidently there are many out there that do), it provokes rage against the Fed. It is as if the Fed has stolen virtually all of their wages and that real material living standards today would be much higher if only the price-level had remained at its 1913 level. This proposition is grossly at odds with the evidence, which shows roughly 2% annual real growth in per capita income and roughly stable income and expenditure shares. There is, of course, considerable discussion about growing income inequality. But almost every paper I read about this phenomenon seems to point either to skill-biased technological change or competition from emerging economies. I'm not sure what Fed policy has to do to with those forces.

I am no defender of inflation. But the US inflation rate has been low and stable for decades now. Seigniorage revenue is small potatoes relative to the appropriations made by Congress via direct taxation. Ending the Fed will do little, in my view, to diminish the level of those appropriations. Tackling that issue will take serious tax reform--a reform that would have to take place whether or not a Fed was in existence.

Now, there may be other reasons for abolishing the institution, but if so, then why not emphasize those? As I said in my original post, there are many legitimate arguments one could level at the Fed as an institution or in the way it conducts its policy. But it does no service to the libertarian cause to attack the Fed with misleading arguments (that are mixed in with other more legitimate ones). It does no good because opponents to the libertarian cause can latch on to the lame arguments and use them to discredit the more worthy ones.

The Fed was established by an act of Congress in 1913. The Fed is operating under the rules established by Congress. If you have a problem with these rules, then I encourage you to lobby your Congressional representatives to change them. Blaming the Fed for following the law as established by Congress  (and other guidelines, such as the dual mandate) seems like a rather strange way to go. But hey--power to the people.


  1. You say, 'But if one wants to promote libertarianism based on sound intellectual foundations, it does the cause no good to make and promote misguided statements about money, prices, and the role of central banks.'

    Then why did you start your 'debate' with a misleading and pathetically incoherent defense of the inflationary policies of the Federal Reserve? Do you really understand math?

    And quit trying to put the tube back in the toothpaste. You referred to Ron Paul as a pinhead. Your 'debate' and 'academic pedigree' rely a bit heavily on name calling and belittlement of your opponents with a lot of self-aggrandizement.

    You know where your bread is buttered. That's why you are here. You are a tool of the Fed.

  2. 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."

    And yes, I understand that commercial banks create money as well. You can count me among those nutty nutty Austro-Libertarians who disagree with the whole notion of fractional-reserve banking. I fully understand its advantages, but its drawbacks (bank runs, inflation, easily manipulable money supply) have created the need for a mazelike assortment of rules, regulations, laws, and institutions to keep it in check. We don't see price of all these restrictions on human freedom as worth the benefits of expanded credit and a "flexible" money supply.

    Also, I think you misunderstand the nature of our argument against inflation. You make it sound as though we believe that prices would have remained constant while wages rose; in point of fact, our real objection is what inflation does to savings, not wages (obviously they generally keep up). $1 saved in 1913 would need to become $20.43 today to retain its purchasing power. On top of that, $19.43 of that would taxable as capital gains. So factoring in the 15% long-term capital gains rate, your single 1913 dollar would need to become $25.04 in 2009 to retain its purchasing power after inflation and taxes. This requires a year-over-year gain of 3.41%.

    That kind of gain is a tall order for the average person, and options are limited. Not using a bank at all is a very poor option since you get zero interest and therefore bear the full brunt of inflation. Bank savings accounts typically offer rates of interest below inflation but it's more than nothing, so that's at least a better solution than going "unbanked." The better option lies with CDs, stocks, bonds, and other financial products. Thus, people who want to safeguard the real value of their money are subtly compelled to enter into the investor class. I know this describes me. I used to be disdainful of the boom-and-bust uncertainty of of the stock market, but I had little other choice if I wanted a rate of return that beat inflation. So I grudgingly did it (Vanguard Index funds FTW).

    The way we see it, inflation hurts savers, encourages consumption, and benefits borrowers, banks, and financial managers. We don't like those social effects, and we think that ill-informed speculation and excessive consumption and borrowing exacerbate financial crises.

  3. What good would it do to lobby the government? What motivation would a career politician have in killing the machine that has allowed him/her to promote a continual welfare and warfare state - resulting in their reelection by promising constituents the world? Crony capitalism > average American.

    The primary motivation for creating the Federal Reserve System was to address banking panics - how has that worked out for everyone? It seems the status quo is create bubble, bubble bursts - create new bubble - bubble bursts - repeat. How long do you think you can keep kicking the can down the road before the house of cards collapses?

    Are the below all stupid and pinheaded as well?

    "If the American people ever allow private banks to control the issue of their currency, first by inflation and then by deflation, the banks and corporations that will grow up around them will deprive the people of all their property until their children will wake up homeless on the continent their fathers conquered." - Thomas Jefferson

    "All the perplexities, confusion and distress in America arise, not from defects in their Constitution or Confederation, not from want of honor or virtue, so much as from the downright ignorance of the nature of coin, credit and circulation." -John Adams

    "Whoever controls the volume of money in any country is absolute master of all industry and commerce." -James A. Garfield

    "I had never thought the Federal Reserve Bank System would prove such a failure. The country is in a state of irretrievable bankruptcy." - Senator Carter Glass, June 7, 1938

    "It is well that the people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning." -Henry Ford

    "The Federal Reserve banks are one of the most corrupt institutions the world has ever seen. There is not a man within the sound of my voice who does not know that this nation is run by the International bankers." -Congressman Louis T. McFadden

    "When you or I write a check there must be sufficient funds in our account to cover the check, but when the Federal Reserve writes a check there is no bank deposit on which that check is drawn. When the Federal Reserve writes a check, it is creating money." -Putting it simply, Boston Federal Reserve Bank

    "Most Americans have no real understanding of the operation of the international money lenders. The accounts of the Federal Reserve System have never been audited. It operates outside the control of Congress and manipulates the credit of the United States." -Sen. Barry Goldwater

    "A system of capitalism presumes sound money, not fiat money manipulated by a central bank. Capitalism cherishes voluntary contracts and interest rates that are determined by savings, not credit creation by a central bank." - Congressman Ron Paul

    "We should look to the Constitution. We should make sure that we get rid of our central bank, the Federal Reserve, and have only gold and silver as legal tender. This is the reason our government gets so big, because we give them license to steal, license to inflate, license to tax, and license to borrow, and politicians will always do it." - Congressman Ron Paul

    "The gold coin standard, although imperfectly adhered to, permitted startling economic growth combined with falling prices in the 19th Century. In the 67 years since the abolition of the gold standard, the Consumer Price Index has gone up 625%. In the previous 67 years, under an imperfect gold coin standard, the CPI increased 10%. In his 1848 Communist Manifesto, Karl Marx urged: “Centralization of credit in the hands of the state, by means of a national bank with state capital and an exclusive monopoly.” Sixty-five years later, the United States followed his advice, and passed the Federal Reserve Act of 1913." - Congressman Ron Paul

  4. UrbanM,

    Thank you for posting the quotations of rational men who understood the diabolical evil of centralized banking, then and now.

    It is fascinating to contrast their wisdom to David Andolfatto's ravings on his blog this weekend. It is also a rare opportunity to receive such an unvarnished glimpse into the mind of a Federal Reserve professional bureaucrat.

  5. @Anonymous 1 and 2:

    You do know that you're making us Libertarians look like internet trolls, right? Tone it down and address his arguments calmly and rationally and we'll get somewhere.

  6. Nate,

    I think we need to keep in mind how David operates. Consider this quote from our blog author as he talks about Bill Gross of PIMCO:

    '"Who will buy Treasuries when the Fed doesn't?" he asked. "I don't know."'

    I'm sure Mr. Gross is a smart guy. But statements like that just make him sound a tad foolish. ' '

    David called Ron Paul a pinhead. And, David calls Bill Gross of PIMCO foolish.

    There is nothing trollish in calling out David for name calling and for belittling accomplished and intelligent politicians and businessmen.

  7. Then we should point out what's wrong with his belittling, not turn around and do the same to him ("Do you really understand math?", "You are a tool of the Fed", "It is fascinating to contrast their wisdom to David Andolfatto's ravings"). Setting aside the fact that it doesn't convince anybody, it makes us look silly and childish, and squanders a tactical advantage: the potential to look rational and serious compared to your opponent. By lowering ourselves to his level (if you want to think of it that way), we lose that advantage.

    I'm in total agreement with you that ad hominem attacks like your example and the now-infamous "pinhead" comment are insulting, but the way to expose and counteract that is not through insults of our own. Serious rebuttals can be made to the arguments in these posts. Let's focus on that rather than our author's character, motives, or qualifications.

  8. David wrote: "Oh, I don't especially like being called names and being insulted,"...

    David wrote: " can appreciate Ron Paul’s libertarian philosophy. And because this is so, it pains me all the more to say what I am about to say. The guy can be a real pinhead at times"

  9. Nate,

    I will grant you the point that serious rebuttals are necessary to serious points.

    But, David's role as a Vice President with the Fed and his public demeanor are very serious issues in my opinion - no less important than the economic issues that are being discussed.

  10. 'I'm not sure what Fed policy has to do to with those forces. (income inequality)'

    one can make a reasonable argument that the fed is promoting wealth inequality, given that 'the rich' own more of the assets affected by the fed's creation of asset price bubbles.

  11. I would like to see David spend some bandwidth justifying his role at the Fed in the context of the words of Thomas Jefferson.

    "If the American people ever allow private banks to control the issue of their currency, first by inflation and then by deflation, the banks and corporations that will grow up around them will deprive the people of all their property until their children will wake up homeless on the continent their fathers conquered." - Thomas Jefferson

  12. There is more to the economy than inflation. To focus on inflation rather than on the economic system as a whole, is a form of what Henry Hazlitt called "the fallacy of overlooking secondary consequences." In our case, since we focus on a consequence, the fallacy is that we overlook primary causes.

    To put this in Nate's terms specifically, blaming the Fed for inflation is like saying guns kill people.

  13. @anon 1:50
    Well, the federal government is in the hands of the people, and I'm not sure that you'd agree things are going great on that front. I guess the point is that while the Fed isn't perfect, it's small potatoes to the largess of Congress. Is this where your energy should be directed? Btw, since when is Jefferson a monetary policy expert, because that quote certainly doesn't suggest it so.

  14. Thanks Nate for your first post. This is a point I have made several times in the past and have yet to hear a reasonable rebuttal. I am hoping David is willing to address this as so far he seems to have been sidestepping the issue.

    As for those making the point it is not the Fed but Congress to blame, well I think everyone reasonable understands this is partly true. It is also true the eliminating the fed through an act of congress first requires exposing what the fed has done and the effects it's existence has. Just as both the dealers and addicts are part of the drug use cycle, education is key to breaking it.

    Also I echo Nate's call for civility in the discussion, a person can decry name-calling without resorting to it.

  15. @ The Arthurian

    Indeed there is more to the economy than inflation. But this is the blog of someone employed at the Federal Reserve, whose effects on the economy are measured in terms of inflation, asset bubbles, and things of that nature, and so it is appropriate to focus on those things here. Believe me, I do plenty of complaining about taxes and regulation elsewhere, and I can take it here too if you (and our author) approve.

    And no, guns do not kill people. But, like the Federal Reserve, they enable that which they were created to accomplish. So yes, in the same way that the Federal Reserve makes deficit spending easier, guns make killing easier. In the case of guns, though, there's no real problem because, frankly, sometimes killing is warranted and justified—for example killing animals for food or humans in self-defense. But I don't believe that deficit spending is ever justified, irrespective of the worldwide demand for dollars. Such a thing is simply a relic of the Bretton Woods system that, after all, we created do create and bolster that demand. And besides, the Fed itself owns more than half of the public debt now, anyway. If there was sufficient worldwide demand for treasuries, what would explain that?

  16. >Well, the federal government is in the hands of the people

    NOT! The GuvMint has been taken over by a revolving door of politicians, lobbyists, well heeled interests. They have been 'gaming' it for many years, and finally the Piper must be paid.

    >blaming the Fed for inflation is like saying guns kill people.

    The Fed handles the money supply, we see graphs of dollar purchasing power since 1913 declining in the mid 90 percent range, why the heck should we not blame the Fed? The Fed enables profligate spending by Congress and the Executive branch.

    IMO, the most sacred trust of the Federal Reserve should be to protect the value of money they are entrusted to oversee. An individual should be able to hold a dollar one day, and not worry that 10 years later (or less) it is worth significantly less, this is simple common sense. No, based on my research the U.S. Federal Reserve is one giant Fail Whale on this count, and as such needs to be reeled in and likely abolished.

  17. @anon 5:39

    Jefferson accurately called the dismal 2008 outcome of the policies of our illustrious central bank some 230 years ago. If prefer the rantings of guys like David Andolfatto over the thoughtful statesmanship of Thomas Jefferson, well, you are entitled to your opinion.

  18. David, millions of people across the country dislike congress. I don't think you'll find ANY Ron Paul supporters who think there are a lot of good politicians out there. I live in Massachussetts and give money to Ron Paul to make sure I have one representative in Congress. When you stick your neck out and get involved in politics by attacking the one decent politician it will bring attention. There aren't enough of us yet to have ANYONE I vote for be elected. A controlled two party system can be pretty effective at giving us zero choices.

    So for many years us disaffected have toiled away in the field of ideas. Usuaully politicians ignore us and wallow in ignorance. It is unusual to have economist from the Fed stick his head out and admit that yes the Fed is involved in short term theft until long-run-money-neutrality can take affect. We thank you for doing this!

    However just acting as if short term theft is a good thing does not make it so! Ever read a site named

    You really think that the government just decided to get a central bank and assign monopoly rights to currency creation after a bunch of eggheads debated it? The real story of the political machinations is in the Creature From Jekyll Island.

    Monopoly money printing rights are a POWERFUL freakin thing. There are a lot of ways to make money off of it and fleece the masses. You seem to argue that the Fed has no affect on the economy or maybe endorse the M Freidman idea of continous money expansion. It isn't done that way for a reason, some powerful people find it more powerfult he way it is.

    Inflating housing prices to 7 x income was destined to end a in a crash...just as the massive money printing in the 20's led to a crash...that is a good time to make money for those in power...those who pull the strings. It actually resulted in the accumulation of MORE power for the biggest supporters of the Fed...odd huh?

  19. Dave,

    I think that it is time that we set aside the trivial issues of free banking versus fiat currencies versus gold standards. And we must table questions of long-run neutrality or superneutrality in favor of the important issue: Who has best insulted you in these threads?

    My nomination is, from Brian Fox, at Mr. Fox called you a "statist bootlicker corporate lackey clueless Keynesian academic."

    Now, I wish to emphasize that only two of these six words are accurate. You are a lackey of the "evil" Fed machine and you are an academic. Other than that, it is rather inaccurate. Still, it is artful, in its own inaccurate way.

    -- Feargal-the-coward

  20. Wow, anyone who thinks David is "statist" or "Keynesian" is just way off.

    Why do Austrians think everyone else is a Keynesian? Certainly Austrian academics don't think they are fighting this old battle in the literature.

  21. I give props to the people who read this blog.

    How any rational person could read a blog from someone so high in the Fed system is beyond me.

    The Fed is slowly losing the information war online and tries to put out so called blogs like this one to fool people.

  22. Hey David,

    ".. and tries to put out so called blogs like this one to fool people."

    Is this guy marketing fools gold and trying to pass it off as the real thing?

    Last time I gave props was to an 8 yr old.

    But hey, I'm only a rational person.

  23. Regarding the oft-repeated claim that the value of the dollar has declined 98% since 1913, inflation has two consequences that can be checked over time. Let's look at them and see what actually happened.

    First, if wages do not keep pace with generally rising prices, the the real wage falls and the standard of living drops. Has the standard of living been dropping in the US since 1913 or rising? I would submit that most people are a lot better off then people in 1913, even people that are poor by contemporary standards.

    Secondly, wages and prices can rise together, disadvantaging creditors and savers, who are generally the well-off and wealthy. Has the position of the well-off and wealthy been declining since 1913? Again, the well-to-do and wealthy seem have done just fine over the years.

    Why is this? Look at the corresponding growth in GDP.

  24. Tom,
    America and the world was coming off the fastest economic growth in the history of the world in 1913. Of course that doesn't turn around with one vote in congress. It has taken 100 years of hard work to ruin the country...and now we have maybe 2 or 3 years left before the dollar is completely gone. You'll next be explaining why SDR's are so good.

    Your logic is terribly flawed. People were better off in 1939 Germany(higher GDP!) than in 1923 Germany does that mean Nationalist Socialism is a good idea?

  25. I still haven't heard an explanation for why theft is good in the short term.

    Sure we can all agree on a theoretical long run money neutrality with a one time episode of counterfeting.

    Your forced to admit via hard logic that the short run theft is address why it is good for us.

  26. If you believe that it is a good idea for the state to create a legal monopoly on creating currency and then have a small secretive group periodically inflate and contract the money supply then you are a statist. That should not be so controversial.

    Keynsians have a sort of fetish about creating currency as being a way to actually create real wealth. Keynsians also ignore the negative long term consquences to the fundamentals of a freemarket economy that are caused by continually manipulating a fiat money supply. "long term we are all go ahead and destroy the underpinnings of a prosperous civil society."

    I hope that explains to you why some Austrians throw those terms around a lot. I understand they don't fit the way the terms are used within statist institutions, but people like us always laugh when Rockefeller(Chicago) school guys think they are free market because they only support a few parts of the communist manifesto.

  27. The Atlanta Fed just erases my guys get way more respect from me. I can tell you are pretty earnest fellows.

  28. Why is it that you St Louis fed guys provide some good useful data to the public while some other branches are 100% useless? Seriously, I do appreciate some of the data you guys make available to us.

  29. Hey JP Morgan gets billions in easy bond dealing fees from the Fed and I get some price data. I'll take what I can get.

  30. "It is my belief that Ron Paul promotes a misleading argument concerning the fact that our price-level today is much higher today than it was 100 years ago. His argument implicitly suggests that nominal wages today would be roughly where they are at even in the absence of currency debasement. This is, in my view, just plain wrong.

    But for people who believe it (and evidently there are many out there that do),"

    David, I suppose this isn't a willful misunderstanding, but it is at a minimum a big misunderstanding. Most Austrians I know, do not believe that nominal wages would have risen this much or even at all over the last 100 years...your understanding of our beliefs is ridiculous.

  31. "Keynes feared inflation, and warned that 'there is no subtler, no surer means of overturning the existing basis of a society than to debauch the currency.'" - TIME Magazine, 31 December 1965.

  32. Good quote. Lots of famous figures are known to have ideas/reputations and quotes that are contradcitory.

    Milton Friedman is popularly known as free market guy yet he helped implement the tax withholding that was critical to expanding government revenue.

    Bush was against nation building and foreign interventionism until he led us into a program of neverending war and nation building.

    Keynes did indicate some worry about inflation at times, but he is more popularly know for advocating the governemnt intervene to increase AD, wheather by printing money or through fiscal stimulus. People who still cling to the idea that more debt and government spending is a cure all for economic problems are derided as Keynsians by many Austrians.(if if some of you guys think of yourselves as Monetarists/new-monetarists/neo-classicals/chicago school/ration expectations or whatever. If you have a huge fetich for AD manipulation and think this idea is a good reasont o support having a Fed thn some will call you Keynsian.

    Not saying it is right or wrong(I'm aware you use the terms differently). If you think about it is isn't crazy how some of these other people are using the terms. Just helping you communicate with people who are not in your narrow little echo chamber of ivy league academics or wanna-be Fed/World Bank/IMF economist who all coincidentally think that central banking is great and depend on the existing oligarchy for funding.

  33. When the Treasury issued $29 billion in 7 Year bonds (CUSIP: 912828PY0) thirteen days ago, the Primary Dealers took down $13.9 billion of the total issue, or 45.9% of the entire issue. Fast forward to today's POMO, which just concluded, and we learn that the Fed monetized $7.657 billion in bonds maturing between 09/30/2016 - 02/28/2018.

    A quick scan shows that PDs could barely wait two weeks before they flipped more than half, or 53% of the full take down, right back to the monetizing hands of Brian Sack: 92.8% of the entire POMO consisted of just one issue - the just issued PY0 from last week. And so the shell game continues, especially since the interest paid on this $7.657 billion to the new holder, the Federal Reserve, will promptly be remitted back to the Treasury to be counted as revenue.

    Primary dealers making big bank on fees on all this montetization and you wonder why JP Morgan and Goldman Sachs are supportive of keeping the system as it is now...and you act as if the masses who have declining real wages are not on the crap side of the equation?

  34. the Fed monetized $7.657 billion in bonds maturing between 09/30/2016 - 02/28/2018.

    The Fed is responding to economic conditions. The particular condition is excessive total debt (most of which is private-sector debt). It is the imbalance between money and debt that forces the Fed's hand... This is not Keynesian economics, by the way. :)


  35. This blog post screams for a sub-title:

    The free-banking vs. central-banking debate: aka The free-market vs. the centrally planned economy debate

  36. or maybe an alternative title:

    The free-banking vs. central-banking debacle

  37. First you talk about explicit promises of individual human beings to deliver beers or coins to other individual human beings.

    Then the next thing you know, you're talking about nebulous "promises" of a central bank to god-knows-whom to manage the cpi denominated in a monopoly currency enforced by violence. Very knavishly Chicago-schoolly.

  38. The Arthurian said...

    "The Fed is responding to economic conditions. The particular condition is excessive total debt (most of which is private-sector debt). It is the imbalance between money and debt that forces the Fed's hand... "

    Who is "forcing" the hand of the Fed? who has that power? is it the parties from which it is purchasing securities? JP Morgan, Goldman?

    you act as if it is an important distinction that there is a "private sector debt" problem. Are you really saying that lots of leverage being used to purchase homes in America had nothing to do with certain government policies/programs/tax rules lobbied for and favored by big banks?

    You do remember Greenspan and Bernanke talking about how real estate prices could only go up and more americans should leverage up more to buy houses right?

  39. David,

    Based upon your responses, I can conclude one of two things.

    Either, you STILL don't understand the nature of the argument posed by Ron Paul and many others that systematic debasement of the currency is no different than stealing. There is no "implicit" argument concerning prices. You implied that yourself. The argument is pure and simple -- debasement steals from savers, and encourages (more like necessitates) investment speculation.

    Or, you understood the argument clearly from the very beginning, and were simply attempting to dishonestly and disrespectfully discredit your loudest critic.

    Regardless of which one is true, the conclusion is the same -- you are incapable of intelligently debating economic and monetary policy, and are clearly unqualified to be working for the agency responsible for the same monetary policy that you so ardently defend.

  40. Marielle

    What do you mean by "the" argument of Ron Paul? In fact, I agree with many of his arguments. I am critiquing a few that I do not agree with.

    The argument is pure and simple -- debasement steals from savers, and encourages (more like necessitates) investment speculation.

    No, the argument is not so pure and simple -- even if you would like to think it is. You have to distinguish between high and low rates of debasement and, importantly, between anticipated and unanticipated debasements.

    Currently, in the US, inflation expectations are firmly anchored at 2%; see:

    So by and large, people expect to be taxed at 2% per annum on their non-interesting bearing cash holdings.

    But who saves by sticking cash under the pillow? Especially saving for the purpose of retirement?

    Get serious.

    And your concluding sentence simply goes to show the difficulty you have with basic reading comprehension. Where in my critiques of RP have I defended Fed policy? I went out of my way, in fact, to poiont out that there are many legitimate criticisms one could level at the institution or its policies. Good grief.

  41. On Feb 9 2011, Paul chaired a hearing titled "does monetary policy work." He had 2 Austrian school economist there and a Keynesian Economist (Josh Bivens). Ron Paul asked Bivens about whether unemployment was high because wages are too high and specifically said deflation was good since it helped consumers. Bivens explained the monetary neutrality concept and pointed out that with deflation both prices and wages fall while your debt remains the same. The exchange is at 1 hour and 31 minutes of the video. So this has been pointed out to him recently.

    Throughout the hearing the Austrian economists (DeLorenzo and Vedder) portrayed lenders (savers) as if they were on higher moral ground and more responsible than lenders. People who save are consistently described as "careful savers" and the transfer of wealth from savers to borrowers is characterized as a form of welfare.

    Bottom line is that you can't save without a borrower unless you're putting money under the mattress and the borrower is the one who takes the money and puts it to work in the economy. If economist policy is going to favor one over the other, it should be the borrower. One is not more or less ethical than the other. They argue for favoring the saver and their argument has more to do with morality than what is good for the nation's economy.

  42. Money and central banks are probably my favorite topic. I love money.

    David, would there be any trouble with very high anticipated inflation? Suppose it was 10-20% per year but people trusted that it would never go higher. Would there be trouble? Why?

    (Note that the government would not necessarily grow as a result of this inflation. It could result from a kind of social contract, perhaps encouraged by a change to legal tender laws. The idea would be to decouple money's role as a store of value from its role as a medium of exchange to the greatest extent possible.)

  43. Really stirred the pot David! I love it!!!

    Nate- Your first comment addresses something tht has really troubled me about the Austrian/Libertarian view of economics.

    You go through all this math to demonstrate why someone who saved a dollar in 1913 will now need $25.04 to keep buying their buying power. I just have to ask.... Why is it a necessary condition of our monetary system to maintain that relationship for a saver? Why does buying power have to stay the same in order for our system to be considered fair or just and not confiscatory? I want to suggest that this is a completely unreasonable idea, and its one which could never hold in a non monetary economy.

    Why should I expect that if I decide today to not consume something I'm perfectly capable of consuming because of my income ( I decide to save), that I will be able to consume that exact thing or its equivalent at a later date of my choosing? If you want something get it now, if you dont want it fine, but you should not expect the rest of the world to operate in such a way that you maintain you ability to buy it in the future when you want it. This is counter to how the "real" world could possibly work (without great efforts of men to deprive some of buying power continuously) .

    I see these definitions of inflation as central to Austrian/Libertarian thinking and, in my view, they are just badly misguided.

  44. Greg -

    Should I infer that you (and our curiously silent Canadian blog host) believe that the Constitution of the United States is a badly misguided document, because it calls for gold and silver coinage?

    I can only conclude that you and David believe that the United States should be centrally managed by the Federal Reserve and by Wall Street bankers.

  45. I'm not sure what to make of your first paragraph Anon. The constitution is certainly not a perfect document. Badly misguided? No

    Actually I believe in public money NOT private money.

  46. I don't believe in Austrian BS. Mises, Rothbard, Hayek were all wrong and didn't understand how the real world works.
    However I do believe in America(despite living in its former enemy)
    Government/central bank intervention is needed for stability in the system.
    Central banks and banking system create employment and provide credit to small businesses that wouldn't be available in free markets. Consumer credit is necessary for higher standards of living that needed to prevent social unrest.
    Income inequality and unemployment were real causes of Great Depression not government intervention(and yes they were caused by free market)
    Now income inequality is as high as it was before Great Depression. However standards of living are also much higher. Therefore most people don't actually need redistribution of wealth they need stability.
    If Libertarians want to be taken seriously in 2012 they should stop promoting austrian voodoo economics and start to teach american working class to tolerate higher income inequality.
    However if you interested in discussion of pure free market system without central bank that can actually work in real world visit my forum

  47. Greg,

    You say:

    Actually I believe in public money NOT private money.

    So, it sounds like you are saying that my money is your money.

    Should I therefore conclude that you believe that property should be publicly held, and not privately held?

  48. Consumer credit is necessary for higher standards of living that needed to prevent social unrest.
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  49. Consumer credit is necessary for higher standards of living that needed to prevent social unrest.
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  50. I believe in publicly "created" money, not money created by private bankers.
    Money is not a commodity it is that which all commodities are priced with.

    That said, short of my ideal system, a private system which has some degree of support by a Central Bank, in order to eliminate freezes in the payment system, is next best.

    Every American should have access to minimum amount of US$ WITHOUT having a corresponding debt to a private party.

    Private debt is the problem, not public debt.

  51. When the service Twitter used to be down a lot, they posted a Fail Whale image.

    Based on my research and emerging press, it would appear the current Federal Reserve aptly qualifies as such!

    Fed - More Cheerleader Than Coach

    Steve Goldstein
    March 18, 2011

    "WASHINGTON (MarketWatch) — If Federal Reserve Chairman Ben Bernanke were a basketball coach, he’d be a lot closer to John Calipari than Mike Krzyzewski.

    The stress-test scenario concocted by the Fed to evaluate whether banks should be permitted to hike their dividends just isn’t that stressful.

    [. . .]

    It’s not the first time the Fed has gone light toward the firms it regulates, from its reluctance to support the very debit-card-fee rules that it’s writing, to a monetary policy that seems more targeted at commercial bank balance sheets than the broader economy, even the apparent disinterest in reviewing the ultra-quick decisions granting Goldman Sachs and Morgan Stanley a banking license.

    The two basketball coaches mentioned above both have had success, though Calipari’s less-disciplined methods have left him short of the titles that Coach K has brought home. The U.S. banking system, both before and after the Great Recession, is the sort of run-and-gun outfit that yields bigger winning (and profit) margins in the early rounds and then struggles when the going gets tough.

    The stress test was an opportunity for the Fed to change that, and another opportunity missed. Unfortunately, there’s a lot more than a two-dollar bracket at stake."

  52. Wow. What irony. Most Canadian economists are somewhat sympathetic to libertarian ideals.

    And what is with the pin-head thing? 'Pin-heads' is slang for a technocrat or a specialized nerd, no?

  53. Who cares what the government inflation numbers state. Government has a vested interest to have low inflation numbers so that the welfare payments are reduced. So there is a lot of hedonics/substitutions etc. that reduce the inflation numbers. If you look at the M3 money supply growth yoy , it is around 20%. So seigniorage is very very high

  54. karthikroa:

    Most of M3 is private money creation; liquidity created in the act of extending collateralized loans (i.e., banking).

    Seigniorage is the purchasing power created by the central bank in the act of creating permanent increases in the stock of base money. Normally, the stock of base money is tiny relative to M3. I haven't looked lately, but I suspect that the Fed's balance sheet expansion, along with the contraction in private lending, base money now constitutes a larger share of M3.

    The key, however, is whether the Fed's balance sheet is unwound in the future. Transitory increases in base money do not lead to inflation or seigniorage, in my view

  55. David, YES!! Most of M3 is private money creation; liquidity created in the act of extending collateralized loans (i.e., banking).

    Nonetheless, M3 (out-of-date though it may be) is huge in comparison to base money. It seems to me that M3 (or some variant) must have much more to do with inflation than base money does; I think this was karthikraoa's point.

    I conclude that the blame for inflation lies more with private money than with base.

  56. Arthurian: I do not think that was his point at all. It seems clear to me that he is equating M3 growth with seigniorage. He is wrong.

    I am not sure about your proposition that private money is more responsible for inflation than base money. I don't think history bears this out, as a general rule, at least. (I'm thinking, for example, of the US "free" banking era 1836-63).

  57. EXcellent, David, thank you. I never thought to look so far back in the past.

  58. David,
    Well you are right.. Thanks..

  59. The Fed reminds me of Baghdad Bob (All is well, when of course it was not), or Sgt. Schultz (I see Nothing, when of course he really does but chooses not too.

    The Fed does not want to 'See' Inflation and accordingly adjust short term interest rates to a realistic level.

    But the evidence continues to be to the contrary.

    Wal-Mart CEO Bill Simon expects inflation
    March 31, 2011

    U.S. consumers face "serious" inflation in the months ahead for clothing, food and other products, the head of Wal-Mart's U.S. operations warned Wednesday.

    Still, inflation is "going to be serious," Wal-Mart U.S. CEO Bill Simon said during a meeting with USA TODAY's editorial board. "We're seeing cost increases starting to come through at a pretty rapid rate."

  60. Hey Anon...
    "We're seeing cost increases starting to come through at a pretty rapid rate."

    That would be COST-PUSH inflation then, I guess.


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  67. This is a complete fabrication, blamed on Thomas Jefferson:
    "If the American people ever allow private banks to control the issue of their currency......"
    ignorant groupies and book-peddlers regurgitate it and build up whole entire theories based on it......


    (3 years after the fact)
    this article-writer doesn't seem to be familiar with the origin and history of the federal reserve system;
    neither seems he know much about free banks and free banking as it existed before 1863

    Is he writing about "free banking" as in: banking should be free to all who have existing capital to bank with, to discount notes and to lend existing money out ?
    or is he referring to 'free banking" as it existed prior to the establishing the national (U.S.-wide) banking system which was the fore-runner of the federal banking system ?

    Has there been even one free bank in the United States in the past 230 years ? a bank that used existing capital and discounted for gold and silver only, as Thomas Jefferson suggested should be ?
    Girard's bank seems to have come the closest, by issuing only 3 notes for each coin it had in its vault

    The "free banking system" was unleashed in 1838, in New York State, in the same year William Seward (warm friend of the Bank of the United States, and central banking) became governor of that State. Free banks used State bonds (requiring permanent State debt to exist and operate) to bank on, and to issue and circulate their notes, which were accepted in payment to and from the State government, thereby becoming currency and de facto legal tender.

    In 1863 Abraham Lincoln's government applied the New York free banking system to the whole Union when it established the National currency Bank System. These national (nation-wide) banks used Federal bonds to bank on, and to issue and circulate their own notes, which notes were received in payment to and from the federal governement, thereby becoming currency and de facto legal tender.

    "The bill, in all its essential features, is like the free banking law of the State of New York, which has been in successful operation in that State since 1838. The free banking law is proposed by the Executive for the purpose of combining private capital with the credit of the Government in the issue of bank bills, similar in all respects to legal tender notes." ---Gerry Spaulding, one of the fathers of greenbacks, and the National currency Bank System.

    In 1913 the national currency bank system was adjusted and re-organized into the federal reserve system; the law required the national currency banks to join this new system or be cut off:---

    "Under regulations to be prescribed by the organization committee, every national banking association in the United States is hereby required, and every eligible bank in the United States and every trust company within the District of Columbia, is hereby authorized to signify in writing, within sixty days after the passage of this Act, its acceptance of the terms and provisions hereof. .......
    Should any national banking association in the United States now organized fail within one year after the passage of this Act to become a member bank or fail to comply with any of the provisions of this Act applicable thereto, all of the rights, privileges, and franchises of such association granted to it under the national-bank Act, or under the provisions of this Act, shall be thereby forfeited." ---Fed Res Act

    Is there anyone in the United States today who suggests that banks should be restricted to lending existing capital and discounting for legal-tender alone, and prohibiting them from issuing notes of their own in any shape or form ?
    as was suggested by the true hard-money man, William Gouge:---