The current system of fractional reserve banking and central banking stands in stark opposition to a market economy monetary regime in which the market participants could decide themselves, without state pressure or coercion, what money they want to use, and in which it would not be possible for anyone to expand the money supply because they simply choose to do so.
The expansion of the money supply, made possible through central banks and fractional reserve banking, is in reality what allows inflation, and thus, declining income in real terms. In The Theory of Money and Credit Ludwig von Mises wrote:
The most important of the causes of a diminution in the value of money of which we have to take account is an increase in the stock of money while the demand for it remains the same, or falls off, or, if it increases, at least increases less than the stock. … A lower subjective valuation of money is then passed on from person to person because those who come into possession of an additional quantity of money are inclined to consent to pay higher prices than before.
When there are price increases caused by an expansion of the money supply, the prices of various goods and services do not rise to the same degree, and do not rise at the same time. Mises explains the effects:
While the process is under way, some people enjoy the benefit of higher prices for the goods or services they sell, while the prices of the things they buy have not yet risen or have not risen to the same extent. On the other hand, there are people who are in the unhappy situation of selling commodities and services whose prices have not yet risen or not in the same degree as the prices of the goods they must buy for their daily consumption.
Indeed, in the case of the price of a worker’s labor (i.e., his or her wages) increasing at a slower rate than the price of bread or rent, we see how this shift in the relationship between income and assets can impoverish many workers and consumers.
An inflationary money supply can cause impoverishment and income inequality in a variety of ways:
1. The Cantillon Effect
The uneven distribution of price inflation is known as the Cantillon effect. Those who receive the newly created money first (primarily the state and the banks, but also some large companies) are the beneficiaries of easy money. They can make purchases with the new money at goods prices that are still unchanged. Those who obtain the newly created money only later, or do not receive any of it, are harmed (wage-earners and salaried employees, retirees). They can only buy goods at prices which have, in the meantime, risen.
2. Asset Price Inflation
Investors with greater assets can better spread their investments and assets and are thus in a position to invest in tangible assets such as stocks, real estate, and precious metals. When the prices of those assets rise due to an expansion of the money supply, the holders of those assets may benefit as their assets gain in value. Those holding assets become more wealthy while people with fewer assets or no assets either profit little or cannot profit at all from the price increases.
3. The Credit Market Amplifies the Effects
The effects of asset price inflation can be amplified by the credit market. Those who have a higher income can carry higher credit in contrast to those with lower income, by acquiring real estate, for example, or other assets. If real estate prices rise due to an expansion of the money supply, they may profit from those price increases and the gap between rich and poor grows even faster.
4. Boom and Bust Cycles Create Unemployment
The direct cause of unemployment is the inflexibility of the labor market, caused by state interference and labor union pressures. An indirect cause of unemployment is the expansion of the paper money supply, which can lead to illusory economic booms that in turn lead to malinvestment. Especially in inflexible labor markets, when these malinvestments become evident in a down economy, it ultimately leads to higher and more lasting unemployment that is often most severely felt among the lowest-income households.
The State Continues to Expand
Once the gap in income distribution and asset distribution has been opened, the supporters and protectors of social justice will more and more speak out, not knowing (or not saying) that it is the state itself with its monopolistic monetary system that is responsible for the conditions described.
It’s a perfidious “business model” in which the state creates social inequality through its monopolistic monetary system, splits society into poor and rich, and makes people dependent on welfare. It then intervenes in a regulatory and distributive manner, in order to justify its existence. The economist Roland Baader observed:
The political caste must prove its right to exist, by doing something. However, because everything it does, it does much worse, it has to constantly carry out reforms, i.e., it has to do something, because it did something already. It would not have to do something, had it not already done something. If only one knew what one could do to stop it from doing things.
The state even exploits the uncertainty in the population about the true reasons for the growing gap in income and asset distribution. For example, The Fourth Poverty and Wealth Report of the German Federal Government states that since 2002, there has been a clear majority among the German people in favor of carrying out measures to reduce differences in income.
The reigning paper money system is at the center of the growing income inequality and expanding poverty rates we find in many countries today. Nevertheless, states continue to grow in power in the name of taming the market system that has supposedly caused the impoverishment actually caused by the state and its allies.
Related: How Government Hurts the Poor
Given the fact that both the George W. Bush and Barack Obama administrations (not to mention Congress) have followed the Keynesian playbook, the sorry results should be enough to discredit Keynesianism, this time for good. Either a theory explains and predicts phenomena or it does not, and it should be clear that Keynesian theory has failed.
Alas, the academic “market test” really does not embrace the actual success or failure of a theory. It seems that many academic economists do not wish to be bothered by what happens in the real world. The vaunted “market test” is not about actual results, but is about what many economists are willing to accept as what they wish to be true and what politicians believe is good for their own electoral purposes.
The assumption that comes with attempting to apply Eugene Fama’s “Perfect Market Hypothesis” to academic economics presupposes that economists are interested only in what actually occurs. Furthermore, the belief presumes that when presented with a set of facts, academic economists will give the same analysis and not be influenced by partisan politics.
Given the interpretations that economists such as Krugman, Alan Blinder, and others have made in the aftermath of the disastrous first week of “ObamaCare,” not to mention their shilling for the Obama administration itself, the latter is clearly untrue. Furthermore, we see there are “gains from trade,” as politicians tend to flock to those economists who can offer the proverbial “quick fix” to whatever ails the economy, as being seen as doing something confers more political benefits than doing the right thing, which is to curb the power, scope, and influence of state power.
Even Krugman admits that the appearance of expertise has fueled the Keynesian bandwagon:
In the 1930s you had a catastrophe, and if you were a public official or even just a layman looking for guidance and understanding, what did you get from institutionalists? Caricaturing, but only slightly, you got long, elliptical explanations that it all had deep historical roots and clearly there was no quick fix. Meanwhile, along came the Keynesians, who were model-oriented, and who basically said “Push this button” — increase G, and all will be well. And the experience of the wartime boom seemed to demonstrate that demand-side expansion did indeed work the way the Keynesians said it did.
In the past five years politicians have been pushing “button G” and all is not well. Yet, in this age of unrestrained government, the Keynesian promise of prosperity springing from massive government spending is attractive to politicians, economists, and public intellectuals. That it only makes things worse is irrelevant and beside the point. If the economy falters, politicians and academic economists blame capitalism, not Keynesianism, and they get away with it.
The Federal Reserve was created in 1913, and during its first 73 years it grew its balance sheet in turtle-like fashion at a few billion dollars a year, reaching $250 billion by 1987—-at which time Alan Greenspan, the lapsed gold bug disciple of Ayn Rand, took over the Fed and chanced to discover the printing press in the basement of the Eccles Building.
Alas, the Fed’s balance sheet is now nearly $4 trillion, meaning that it exploded by sixteen hundred percent in the last 25 years, and is currently emitting $4 billion of make-believe money each and every business day.
So we can summarize the last quarter century thus: What has been growing is the wealth of the rich, the remit of the state, the girth of Wall Street, the debt burden of the people, the prosperity of the beltway and the sway of the three great branches of government which are domiciled there—-that is, the warfare state, the welfare state and the central bank.
What is flailing, by contrast, is the vast expanse of the Main Street economy where the great majority has experienced stagnant living standards, rising job insecurity, failure to accumulate any material savings, rapidly approaching old age and the certainty of a Hobbesian future where, inexorably, taxes will rise and social benefits will be cut.
And what is positively falling is the lower ranks of society whose prospects for jobs, income and a decent living standard have been steadily darkening.
I call this condition “Sundown in America”. It marks the arrival of a dystopic “new normal” where historic notions of perpetual progress and robust economic growth no longer pertain. Even more crucially, these baleful realities are being dangerously obfuscated by the ideological nostrums of both Left and Right.
Contrary to their respective talking points, what needs fixing is not the remnants of our private capitalist economy —-which both parties propose to artificially goose, stimulate, incentivize and otherwise levitate by means of one or another beltway originated policy interventions.
Instead, what is failing is the American state itself——a floundering leviathan which has been given one assignment after another over the past eight decades to manage the business cycle, even out the regions, roll out a giant social insurance blanket, end poverty, save the cities, house the nation, flood higher education with hundreds of billions, massively subsidize medical care, prop-up old industries like wheat and the merchant marine, foster new ones like wind turbines and electric cars, and most especially, police the world and bring the blessings of Coca Cola, the ballot box and satellite TV to the backward peoples of the earth.
In the fullness of time, therefore, the Federal government has become corpulent and distended—-a Savior State which can no longer save the economy and society because it has fallen victim to its own inherent short-comings and inefficacies. …
What is really happening is that Washington’s machinery of national governance is literally melting-down. It is the victim of 80 years of Keynesian error—-much of it nurtured in the environs of Harvard Yard—— about the nature of the business cycle and the capacity of the state—-especially its central banking branch—- to ameliorate the alleged imperfections of free market capitalism.
As to the proof, we need look no further than last week’s unaccountable decision by the Fed to keep Wall Street on its monetary heroin addiction by continuing to purchase $85 billion per month of government and GSE debt.
Never mind that the first $2.5 trillion of QE has done virtually nothing for jobs and the Main Street economy or that we are now in month number 51 of the current economic recovery—- a milestone that approximates the average total duration of all ten business cycle expansions since 1950. So why does the Fed have the stimulus accelerator pressed to the floor board when the business cycle is already so long in the tooth——and when it is evident that the problem is structural, not cyclical? …
The answer is capture by its clients,that is, it is doing the bidding of Wall Street and the vast machinery of hedge funds and speculation that have built-up during decades of cheap money and financial market coddling by the Greenspan and Bernanke regimes. The truth is that the monetary politburo of 12 men and women holed up in the Eccles Building is terrified that Wall Street will have a hissy fit if it tapers its daily injections of dope.
So we now have the spectacle of the state’s central banking branch blindly adhering to a policy that has but one principal effect: namely, the massive and continuous transfer of income and wealth from the middle and lower ranks of American society to the 1 percent.
The great hedge fund industry founder and legendary trader who broke the Bank of England in 1992, Stanley Druckenmiller, summed-up the case succinctly after Bernanke’s abject capitulation last week. “I love this stuff”, he said, “…. (It’s) fantastic for every rich person. It’s the biggest redistribution of wealth from the poor and middles classes to the rich ever”. …
If this sounds like the next best thing to legalized bank robbery, it is. And dubious economics is only the half of it.
… [T]he other side of the virtually free money being manufactured by the Fed on behalf of speculators is massive thievery from savers. Tens of millions of the latter are earning infinitesimal returns on upwards of $8 trillion of bank deposits not because the free market in the supply and demand for saving produces bank account yields of 0.4 percent, but because price controllers at the Fed have decreed it.
For all intents and purposes, in fact, the Fed is conducting a massive fiscal transfer from the have nots to the haves without so much as a House vote or even a Senate filibuster. The scale of the transfer—-upwards of $300 billion per year——causes most other Capitol Hill pursuits to pale into insignificance, and, in any event, would be shouted down in a hail of thunderous outrage were it ever to actually be put to the people’s representatives for a vote.
Read the whole thing; it’s well worth your time.
Our grandparents believed in the value of thrift, but many of their grandchildren don’t.
That’s because cultural and economic values have changed dramatically over the last generations as political and media elites have convinced many Americans that saving is passe. So today, under the influence of Keynesian economists who champion government spending and high levels of consumption, thrift has been devalued. …
But saving, with all due respect to Keynes, isn’t “negative.” It is deferred consumption. “The great producing countries are the great consuming countries,” writes Benjamin Anderson in Economics and the Public Welfare. More importantly, high rates of savings will lead to higher productivity, which would benefit our children and grandchildren, classical and Austrian economists have explained.
“We are the lucky heirs of our fathers and forefathers whose saving has accumulated the capital goods with the aid of which we are working today,” wrote Ludwig von Mises in Human Action. Saving, ultimately, is consumption, writes Detlev S. Schlichter in Paper Money Collapse. “By setting aside some resources for meeting financial consumption needs, we invest them.”
Nevertheless, Keynesian ideas dominate the Obama administration and mass media. Most politicians, including Republicans who often pretend to be friends of thrift and self-improvement, are tacit or overt Keynesians. That’s because politicians, whether they have studied Keynes or not, generally love the idea of cheap money. Most delight in spending taxpayer dollars. They believe this is the way elections are won.
This Keynesian dominance has led to dramatic economic and cultural changes. These changes have been going on in America for over a half century. For instance, the United States has gone from having one of the highest rates of savings during the ’20s to having one of the lowest rates among major industrial nations today.
Yet penalizing thrift, the lifeblood of job creation and better tools that make current workers more efficient, has hurt the nation’s ability to grow and employ millions of young people looking for jobs. That’s because Keynesianism, according to its modern interpreters, amounts to a celebration of consumption. It is a belief that government spending combined with low savings rates lead to permanent booms.
It is the government’s role, Keynes’ followers believe, to keep the boom going through spending. So it is consumption, not supply, that makes a successful economy, they say. …
Despite the Keynesian sentiments of much of our political and media elites, we owe it to our grandparents to relearn the lessons of thrift.
An important aim of the QE policies pursued in the United States, the United Kingdom, and Japan has been to encourage risk taking and to raise asset prices as the means to stimulate aggregate demand. The question that now needs to be asked is whether these policies may have given rise to excessive risk taking, overleveraging, and bubbles in asset and credit markets. In this context, one has to wonder whether historically low yields on junk bonds in the industrialized countries now understate the risk of owning those bonds… . One also has to wonder whether yields on sovereign bonds in the European periphery have become disassociated from those countries’ underlying economic fundamentals and whether global equity valuations have not become excessively rich.
Desmond Lachman, “Global Effects of Unorthodox Monetary Policies" (Lachman is formerly deputy director of the International Monetary Fund’s Policy Development and Review Department)
Adds Joe Salerno:
While the Austrian insight that super-accommodative Fed monetary policy may be causing a recurrence of asset bubbles is making headway in policy circles, it has not yet dawned on Janet Yellen. Nor is such an epiphany likely. Ms. Yellen wears the intellectual blinders of the mainstream macroeconomist which force her to focus narrowly on arbitrary and increasingly irrelevant statistical averages and aggregates like the CPI, the unemployment rate, and GDP and to ignore what is going on around her in real markets. This was clearly revealed in remarks prepared for her confirmation hearing released yesterday. Ms. Yellen noted that the rate of increase in the CPI index was less than the Fed target of 2.00 percent and that the labor market and the economy were performing far short of their potential (based on the meaningless concept of “potential GDP”). She thus reiterated her commitment to continuing monetary accommodation and “unconventional policies tools such as asset purchases.” It is true that in her testimony before the Senate committee today she did concede that it is “important for the Fed to attempt to detect asset bubbles when they are forming.” However, she blithely dismissed concerns that recent record highs in asset markets reflected “bubble-like conditions.” With Ms. Yellen’s confirmation highly likely, we can look forward to the Fed blindly fueling asset bubbles to a fare-thee-well. With the financial system still on shaky ground, this will lead to another financial meltdown and a U.S. government takeover of the financial system the like of which will make the last Wall Street bailout appear to be a minor intervention.
There are two characteristics of a currency that make it useful in international trade: one, it is issued by a large trading nation itself, and, two, the currency holds its value vis-à-vis other commodities over time. These two factors create a demand for holding a currency in reserve. Although the dollar was being inflated by the Fed, thusly losing its value vis-à-vis other commodities over time, there was no real competition. The German Deutsche mark held its value better, but German trade was a fraction of US trade, meaning that holders of marks would find less to buy in Germany than holders of dollars would find in the US. So demand for the mark was lower than demand for the dollar. Of course, psychological factors entered the demand for dollars, too, since the US was seen as the military protector of all the Western nations against the communist countries for much of the post-war period.
Today we are seeing the beginnings of a change. The Fed has been inflating the dollar massively, reducing its purchasing power in relation to other commodities, causing many of the world’s great trading nations to use other monies upon occasion. … In spite of all this, one factor that has helped the dollar retain its reserve currency demand is that the other currencies have been inflated, too. For example, Japan has inflated the yen to a greater extent than the dollar in its foolish attempt to revive its stagnant economy by cheapening its currency. So the monetary destruction disease is not limited to the US alone.
The dollar is very susceptible to losing its vaunted reserve currency position by the first major trading country that stops inflating its currency. There is evidence that China understands what is at stake; it has increased its gold holdings and has instituted controls to prevent gold from leaving China. Should the world’s second largest economy and one of the world’s greatest trading nations tie its currency to gold, demand for the yuan would increase and demand for the dollar would decrease. In practical terms this means that the world’s great trading nations would reduce their holdings of dollars, and dollars held overseas would flow back into the US economy, causing prices to increase. How much would they increase? It is hard to say, but keep in mind that there is an equal amount of dollars held outside the US as inside the US.
President Obama’s imminent appointment of career bureaucrat Janet Yellen as Chairman of the Federal Reserve Board is evidence that the US policy of continuing to cheapen the dollar via Quantitative Easing will continue. Her appointment increases the likelihood that demand for dollars will decline even further, raising the likelihood of much higher prices in America as demand by trading nations to hold other currencies as reserves for trade settlement increase. Perhaps only such non-coercive pressure from a sovereign country like China can wake up the Fed to the consequences of its actions and force it to end its Quantitative Easing policy.
From April 1917 to November 1919, when Woodrow Wilson borrowed $30 billion to fight World War I, he was able to do so because of the promise he made to lenders that the commitment to repay them would be backed by the full faith and credit of the United States government. At the time, the government’s total debt was about $14 billion; so Wilson’s painful gambit trebled it.
In reality, it was not the full faith and credit of the federal government that promised to repay; it was not the credit worthiness of the federal government at stake; it was not the federal government that paid back the money that was borrowed. That’s because the government has no credit or credit worthiness or disposable wealth. Only the taxpayers have that.
This is not an academic difference. Wilson knew his creditors could not seize government buildings if he or a successor could not repay the loans in a timely manner. But the IRS could seize private wealth if taxpayers didn’t cough up. At the time, the federal income tax was new. In order to get it passed in Congress, Wilson promised that the tax rate on personal incomes would never exceed 3 percent of adjusted gross income, and that it would only be assessed on adjusted gross incomes north of $10,000 a year — the rough equivalent of $250,000 today.
Wilson also had a brand-new bank with its own legal printing press at his disposal: the Federal Reserve. With its power, the Federal Reserve could print and lend all the cash it wanted, flood the economy with money, and cheapen the value of the dollar so that when Wilson’s $30 billion debt was repaid, it would be done with dollars worth far less — and thus less painful to extract from taxpayers — than those he borrowed.
This is, of course, government-induced inflation. It was relatively new in Wilson’s era, but it has been practiced by the Fed and accepted by every president from Wilson to Barack Obama. And it can be done without the consent of Congress because Congress already gave the Fed the unlimited power to print cash and lend it. Today, this is done without ink and paper; rather, by pressing a few computer keys.
So today, when the president wants to borrow more than the law allows, the Fed can provide the cash, but the president needs a change in the law so as to have the legal authority to commit as yet unborn taxpayers to repay the government’s additional debt. While in office, Obama has borrowed about $1.2 trillion a year with the approval of Republicans as well as Democrats in Congress. The lenders are quick to make their loans, because the feds have never failed to extract the cash from taxpayers or borrow more in their names to pay the debt service. Presidents and Congresses don’t worry about paying back the principal or paying the debt service, as long as they can continue to borrow more in order to do so.
As absurd as it sounds, the federal government borrows money in order to pay the debt service on money it has already borrowed and spent. Is it any wonder that today the government’s debt has reached $17 trillion?
In his zeal to persuade Congress to let the government borrow another trillion dollars in the next nine months, Obama has stated that raising the debt ceiling will not add to the nation’s debt. He is either willfully ignorant or Clintonesque in his use of misleading words. He knows the feds never have declined to borrow whatever they want, whenever they want it, up to the limit of their legal borrowing authority. And they have done so with their eyes on only immediate political needs, with disdain for the economic consequences and with contempt for the future.
The problem with all this is, of course, that one painting by an expressionist Swiss artist who’s been dead since 1966 costs slightly less than the entire roster of his professional baseball team. The one he threatened to move to San Antonio unless Miami-Dade’s taxpayers bought him a snazzy new ballpark. The one he keeps dismantling for “financial” reasons.
All stadium deals are a transfer of wealth from the common taxpayer to a billionaire owner, bureaucrats, and unionized contractors - all under the convenient cover afforded it by the farcical Keynesian concern for “aggregate demand.”
That so much importance is placed on the Fed chief’s temperament may seem absurd. But this indicates a much deeper problem: the Fed has too much power.
The Federal Reserve is the most important economic planning agency in the world. It’s charged with promoting full employment, stabilizing prices, and overseeing the financial sector. So the new chair’s theoretical views, management style, and personality quirks could affect trillions of dollars of economic activity.
Is it wise to hand such extraordinary power to an elite cadre of economists and bureaucrats?
The pretenses of top-down planning have been debunked by history. Throughout the last century, every nation that adopted central planning had its economy flounder. …
Why do we need a government agency, operating largely in secret and without effective oversight, managing the money supply, setting interest rates, and telling banks what to do?
The prices of most goods bought and sold in the U.S. are governed by the choices of buyers and sellers on the open market. With commodity money, such as a gold standard, the quantity and value of money, along with the interest rates that coordinate borrowing and saving, are determined in the same way. …
By rapidly increasing the money supply and slashing the federal funds rate, the Fed encouraged the sustained malinvestment in capital that eventually caused the 2008 financial crash.
As structured, the Fed leaves the American economy deeply vulnerable to bias and error. As Tufts economist Amar Bhidé recently wrote, Fed chairs remain “humans, too, whose blind spots, egos and potential conflicts of interest … raise real concerns about hubris, even bias.”
Indeed, one of this year’s Nobel Laureates, Robert Shiller, is famous for documenting “irrational” behavior on the part of investors. If government officials are also subject to bias and error, isn’t it better to limit their ability to interfere in a modern, complex economy? …
Yellen endorses, and plans to continue, Bernanke’s policies. But the best intentioned, and most highly credentialed, government economic planner faces an impossible task.
The Fed is immune to even the basic checks and balances that keep other political actors accountable. The system puts complete control of America’s money supply into the hands of an elite corps of technocrats and politicians. The whims and quirks of one human are given an outsized impact on the global economy.
An alternative, market-based system such as a commodity standard, which takes authority away from government planners, wouldn’t be perfect either. But it would certainly be better.
It’s important to understand the business cycle:
For centuries inflation has been considered a quick fix for economic problems. Create a lot of money, raise prices, and prosperity for all shall be assured in a short amount of time. …
Putting a lot of more money in people’s hands usually results in their attempting to spend it on the various goods and services they would like to have that money can buy. The greater spending tends to push up prices and increase sales.
The “magic” comes in due to the fact that workers’ wage contracts and resource price agreements tend to change more slowly, so they tend to lag behind the initial price rise of the finished consumer goods those workers and those resource suppliers help to produce. The rise in selling prices while labor and resource prices remain the same generates the extra profit margins that “stimulate” employers to try to expand output and hire more workers.
But the quick fix of inflation in creating “good times” and more jobs is short lived, is an illusion like many other “fixes” that provide an initial “high” but soon fade away. …
[T]he increased supply of money may push up the prices of consumer goods, while wages and resource prices remain more or less the same. But over time, the attempt to expand output by employers due to the initial higher profit margins will result in wages and resource prices being bid up as each employer competes against the others to attract workers and resource providers to work for them instead of their rivals.
At the same time, inflation-driven rising prices are reducing the real value, or buying power, of each dollar in people’s pockets. Over time, workers and others employed in industry will demand higher wages and resource prices to compensate for the lost purchasing power they have experienced at the old wages and resource prices.
Hence, over time, both selling prices as well as wages and resource prices will tend to go up by more or less the same amount, and the extra profits that served as the “stimulus” will disappear. The longer-run affect, therefore, will be all-round higher prices, with no lasting net increase in either jobs or production.
Of course, the government and its central bank could attempt to increase the money supply even more and at a faster rate than they had before. But this would merely set the economy on a vicious spiral of rising consumer prices followed by rising wages and resource prices bringing about nothing but the same process repeated again and again. The end result would be worsening price inflation and a potential destruction of the country’s currency.
In addition, the very fact that some prices rise before others, and to differing degrees while the inflation is running its course brings with it a whole host of problems that, in fact, represents the boom and bust of the business cycle.
America’s central bank, the Federal Reserve, increases the money supply by buying government securities and other assets with the new money first entering the economy through the banking system. Finding themselves, with extra money to lend, banks entice borrowers to borrow more by offering those funds at lower, more attractive interest rates.
The demands and prices for investment and construction projects (including home-building) start to rise, with workers and resource providers drawn into these parts of the economy. Their higher wages and resource earnings enable them to demand more of the goods they can now afford to buy. And the process continues, step-by-step, until more or less all prices and wages will be pushed up to higher levels than before.
But the entire structure of the economy – the demands for investment and construction, the jobs into which workers and others have been drawn through the inflationary spending – is now dependent on the monetary expansion continuing and keeping the patterns of demands and jobs artificially created by this process to continue to go on-and-on.
Once any attempt is made by the central bankers to slow down or stop the monetary expansion in the face of worsening price inflation, the entire house of cards begins to crumble. The boom turns into the bust, as investments undertaken and jobs created are discovered to be the misdirected outcome of money creation and the unsustainable patterns of demand and employments that could last only for as long as the inflationary spiral was kept going.
The “little bit” of inflation that some Harvard economists, Federal Reserve presidents and some in the business world are saying is not only nothing to worry about but is the panacea for all our economic ills, is a phony elixir to cure our national ailments. It will only set America on an even worse inflationary boom-bust rollercoaster than the one that current Federal Reserve monetary policy has been already setting us up for.
Janet Yellen Exposed: The Truth Behind the Myth | Peter Schiff
This is an excellent breakdown.
What a lucky bastard the owner of this building must be! Hell, this whole neighborhood’s about to experience some sweet, sweet economic stimulus.
Someone call Paul Krugman!
The “war to save the economy” was unnecessary since it was a crisis wholly the result of previous actions by one of the supposed saviors of the economy. …
The financial crisis and the Great Recession were consequences of monetary central planning writ large that twice created bubbles, booms, and subsequent busts by turbocharging first the dot-com-driven productivity growth, and then simultaneously using an easy money and credit policy to impede necessary re-structuring of the economy. Following the dot-com bust, these policies led to an “unfinished recession” while new credit creation began a new round of misdirection of production igniting the housing bubble, general boom, and subsequent bust.
Back in the boom days, anyone who questioned double-digit growth in housing prices was viewed as an unenlightened Cassandra, lacking knowledge on how the new economy had fundamentally changed the law of scarcity. Austrian economists consistently warned that a boom built on foundation of easy money could only lead to a disaster. Today, most of the growth is coming from the interest rate-sensitive sectors of the economy, such as cars and housing. This should be ringing warning bells everywhere.
The conventional wisdom is that the Fed will begin to taper when growth picks up. This is a complete misreading of what is actually happening. The Fed made a monumental mistake, and does not really know how to get out of the trap it had set upon itself.
The Fed embarked on a “we know best” policy of QE3 in the fall, and induced a market bubble in the spring. The S&P 500 gained 12 percent from January to June 2013 while growth remained subdued. The Fed realized its mistake, and now wants to get out. The problem is that in economics, as with most things in life, it’s much easier to get into trouble than out of it. The FED wants to take away the punch bowl, but knows that interest rates will rise, the stock market will crash, and the economy will tank. The longer it waits, the greater will be the inevitable adjustment. …
We currently fear Fed tapering, as we should. Yet, we should be even more fearful that it doesn’t taper. Today, we really have a dreaded choice of losing an arm now or two arms and a leg tomorrow. Because the price distortions have been massive, the adjustment will be horrendous. Government policy makers and government economists simply do not understand the critical role of prices in helping discovery and coordination. …
When the Fed is finally forced to cut back, interest rates will rise, Wall Street will call for relief, and the economy will slump. This may be delayed with additional printing for a couple of months, but the adjustment will occur and it will be severe, probably much worse than in 2008. However, this time there are no arrows left in the government’s quiver to spend or print its way out of trouble.
The pretense of precision is only one of the fantasies we expect of our Fed chairs. Another illusion we all pay homage to is the independence of the Fed. But the chair of the Fed responds to political incentives just like everyone else. Those political incentives dwarf almost everything else—which is why it is so foolish to parse past pronouncements of Yellen trying to figure how where she will fall on the dove-hawk spectrum or how she will treat Wall Street.
Is it likely that Yellen will stop paying interest on the reserves that banks hold at the Fed? I wish it were otherwise, but the answer is likely to be no.
When the next crisis comes and big banks fail, will she force their creditors to lose a lot of money or any at all? That would stop the music on Wall Street and kill the easy leverage the investment banks enjoy. I wish it were otherwise, but I think she will keep that music playing.
If inflation comes and it is near an election, will she step on the monetary brakes risking unemployment to avoid a higher inflation rate? I would be surprised.
Here is how powerful the incentives are. When an acolyte of Ayn Rand became chair of the Fed, an alleged advocate for government keeping its hands out of the private choices of free individuals, he relentlessly sheltered investors via monetary policy (the Greenspan “put”) and relentlessly sided with the big banks.
So yes, he opposed regulation—”a free-market ideologue” the critics chorused. But the ideologue also testified before Congress in support of the government guarantee of Mexican debt in 1995, calling it a bad policy but a necessary one and insuring that the large banks that had financed the debt of the Mexican government lost not a penny. When his ideology conflicted with helping the banks, he helped the banks.
Bernanke has been even kinder to the banks. He comes from Princeton. He’s not a conservative or a free-market ideologue. You might think he’d be a little more populist. But when push came to shove, he took skin out of the game for the financial sector and replaced it with your skin and mine, against our will.
Yellen is from UC-Berkeley. But I would expect her to follow the same policies as her predecessor, not because they are right—the coddling of banks is very wrong, in my opinion—but because the political forces will encourage her to lean not left and not right, but north, toward New York City and Wall Street.
I would love to be wrong. I would love for a chair of the Fed to put Wall Street’s skin back in the game, to stop artificially inflating the stock market and to rely more on rules than on discretion. But until the political incentives change, who is chair of the Fed is simply not important as we pretend it is. I expect Janet Yellen to be more of the same.