Ben Bernanke doesn’t grasp inflation
One Mike “Mish” Shedlock posted a pretty shattering take-down of Ben Bernanke’s latest blubbering about the housing market and the credit crunch. It’s hard to believe that a central banker in the US so completely fails to grasp basic economics. I’ve written before about the issue of central banking and inflationary monetary policy, and its culpability for the economic woes in the US and the world. That inflation is a deliberate policy of increasing the money supply, via low central-bank interest rates, and that a rising price level is merely an effect of inflation, which is to be expected when you increase the amount of currency in circulation, competing for the same amount of goods and services. (See here and here, for example, or spend an evening to read the Ludwig von Mises lecture notes I linked to here). But unlike Alan Greenspan, who simply worms his way out of accusations over his interest rate policy, Bernanke doesn’t even understand what inflation is, or how interest rates cause it. If he doesn’t grasp such elementary principles of central banking, why does he have the job?
The best quip is this:
This would be funny if it wasn’t pitiful. “A rough stabilization of commodity prices, even at high levels, would result in a relatively rapid moderation of inflation.” Translation: Inflation will stop once prices stop going up. Was that supposed to be a revelation? That was pathetic even for someone who thinks inflation is about prices.
That must be pretty embarrassing, if you’re the chairman of the US Federal Reserve. I entirely agree with Mish’s conclusion, too:
I have a simple solution for this madness: Want To Fix The Fed? Get Rid Of It.
That’s exactly the solution. If government price controls are a problem, causing either shortages (in the case of price caps) or surpluses (in the case of price floors), whoever thought it would be a good idea for the government to control the price of money and credit? That causes surpluses and shortages too, popularly known as “booms and busts”, or “the business cycle”. Except that business doesn’t cause it, but merely suffers the effects.
Oh dear. I hear Ben Bernanke has read your blog and somebody spotted him doing it:
http://flickr.com/photos/talwand/2218630373/in/set-72157602811707607/
;-)
If you want to get rid of the “Fed” (Reserve Bank of a country), you also need to propose a model to replace it.
For instance, who is going to print currency? The government? That’s probably a bad idea because the government is a consumer of money and thus has a motive to print more.
I think the independent Central Bank model works well.
I don’t believe that the Central Banks cause the boom and busts cycle. Seasons are part of life on Earth and our economies reflect that.
Why would you need an alternative? Do you require a monopoly alternative for any other monopoly? Banks themselves create currency when they issue credit. Hence the term “bank note”. Currency, a convenient means of exchanging value, is a creation of the market, not of governments. Banks should set interest rates — the price of money — competitively among each other, and the basic interest rate should be a price that is measured, not one that is set. Why have one central bank when competition anywhere else in the market is considered good for consumers?
Don’t think for a moment that central banks really are independent; they all have legal mandates in return for their legal monopoly. Moreover, it is telling that governments, when they nationalise the right to print money, also need to pass a legal tender law, which forces people to accept the government’s money in settlement of debt, whether they consider such currency to represent sufficient value or not.
As for the business cycle, it is true that over-investment (or, more accurately, malinvestment) will happen, and happens in all sectors. But usually, fluctuations in different sectors will balance each other out, resulting in a stable price level overall, as we saw in the 19th century, before the establishment of the Fed in 1913. Instead, we have a deliberate policy of eroding the value of money, an invisible tax to inflate away government debt — ever wondered why no central bank targets zero inflation? — and we have universal interest rates that makes the price of capital across the entire economy rise or fall in unison. The result is that when one sector is overinvested, there is no better alternative into which capital can profitably be redirected, because there is only a single monopoly price for capital.
If you do away with the Fed, you return to the chaotic financial situation that existed before its establishment.
http://en.wikipedia.org/wiki/Federal_reserve_bank
I’m afraid you’ll never get the idea of a free market to fly in the minds of the working class.
You surely don’t expect any one to accept any banknote issued by the filthy exploiting bourgeois capitalist pigs do you?
I mean, they’re out to make an ill gotten and undue profit at my expense, right?
The fortunes of a nationalized currency are perceived to be tied to the fortunes of the country as a whole and ‘protects’ by the monopolistic legal tender legislation, a ‘security’ which a private currency would not enjoy.
It is the same flawed logic underlying the ‘cast iron rice bowl’ idea of a big nanny government delivering lifelong protection from evil market forces, the consequences of bad judgment, a guaranteed wage for mediocre labor, job security regardless and a whole bunch of ‘free’ stuff.
I mean, my own government would never try to screw me, would it?
a previous comment of mine went into your spam queue.
Well said. The bourgeous capitalist class can only “exploit” you with your individual consent. It can’t arrest you and throw you in jail if you decline to be exploited because you don’t agree that it would be in your best interest.
@Richard: So it did, even with only a Wikipedia link in it. What have you done to annoy Akismet filters?
You talk of financial “chaos”. Would you describe other sectors, in which inefficient companies are permitted to fail, in favour of better competitors, as chaotic? And if so, would you agree that a total collapse in the value of your money is a price worth paying for fewer, less severe banking panics? There has never been a stock market collapse anywhere near as extreme as the decline in the value of the dollar since the Fed was established. Is that worth a less efficient financial system in which the ups and downs are modulated but synchronised, and JP Morgan still gets to come to the rescue of bank clients, as it did a century ago?
Preventing “chaos” in a market system is often an illusory benefit. Much like regulating away risk, all it does is increase bureaucracy and reduce efficiency, which increases the cost and decreases the supply of whatever that market system provides.
Besides, there are plenty ways in which markets self-organise to reduce risk and instability. If you advocate turning to government regulation and protected monopolies for a solution to such naturally occurring problems, one might as well concede the economy to communist central planners.
Maybe we should simply return to a monetary system of gold coins?
Of course that system still allows for fractional reserve lending, which proponents of ending central banking also wish to do away with.
It is fractional reserve lending that leads to bank panics, because it relies upon the fact that only about 10% of depositors need access to their funds. The other 90% do not, and if that money is loaned out to others, it will not be demanded.
However, in a panic, that 10% of depositors who want their money becomes 100% and the bank cannot satisfy them all.
I’m not sure how to rectify that situation, other than for banks to inform customers that at any given time, they are only guaranteed to be given access to X percentage of their funds.
If consumers are willing to accept that situation, perhaps bank panics will be a thing of the past.
But I’m not sure consumers will be prepared to accept that.
Physical gold coins aren’t necessary. Derivatives, such as those created by credit extension, are fine. All you need is money backed by an infungible asset of which the supply cannot grow fast or cheaply, to ensure that money retains its value.
Fractional reserve lending isn’t a problem in itself either. Most banks are required by regulation to keep to set reserves, and this is public knowledge. In a fully free market, competing banks would probably force each other to disclose their reserves to customers, or customers would consider those that do less risky. In fact, I can’t see any reason why someone couldn’t offer fully-funded interest-free deposits, at a fee, if there is a market for such low-risk deposits. Nor can I see a reason why a free market cannot provide depositor insurance or the equivalent of a last-resort lender, should some depositors or banks find that beneficial.
In fact, I can see no reason for monopoly central banking and government-issued legal tender, other than inflating away government debt by inflating the money supply. And that reason isn’t a good reason.
Unless the current system leads to total collapse, radical changes are unlikely to be made to it.
Even if economists predict the collapse, they will not be taken seriously because they so often get things wrong.
I think we’re pretty much stuck with the current system until it all goes for a ball of shit.
The frustration for those who advocate sweeping changes to the underlying economic infrastructure is that there are no new worlds for people to migrate to and set up their own new systems to test their ideas.
So all the idealists, realists, pessimists, optimists who have grand new schemes to propose which will fix all of societies’ ills cannot do much more than write about their schemes.
Yet that’s exactly what the root of all evil — John Maynard Keynes — did. And we’ve been paying the price for 100 years. I don’t share your fatalism, nor that free market economics is is particularly radical.