Guessing Games: The Fed and the Markets
By: Thomas E. Brewton
In recent weeks, since the accession of Ben Bernanke to the Federal Reserve chairmanship, the stock market has bobbed up and down like a yo-yo as the Fed attempts to guess whether we face inflation or an incipient recession, and stock traders try to guess whether the Fed will continue to raise the discount rate. We shouldn’t be surprised that a group of bureaucrats can’t manage the world’s largest economy.
Any way we look at it, without a fixed, independent anchor of monetary value such as a gold standard, the Federal Reserve system is a socialist, central-planning commissariat. Think of the Fed as referees who arbitrarily change the rules in the middle of a game, depending upon the team they prefer at the moment to be the winner.
Even it were desirable to have socialist commissars managing the money side of our economy, it’s an impossibility.
Originally intended as an institution to provide money-supply elasticity for farm seasonal needs and as a lender of last resort to avoid credit panics, the Fed has now become the equivalent of the control tower at New York’s Idlewild Airport attempting to manage the flight controls of every airplane in the world, in flight and when landing and taking off.
History demonstrates that the smartest minds of a central-planning staff like the Fed simply can’t digest the billions of factors and calculations that interact simultaneously in the marketplace, nor can they control market action to make it conform with their economic projections.
That reality is easy enough to see when we look at entire economies like the Soviet Union. But we fail to recognize that the Federal Reserve is no more than imposition of Soviet-style planning on the financial markets, an effort equally doomed to failure.
The Fed governors impose their guesses about what market interest rates ought to be, rather than keeping the money supply stable and letting the free market (millions of businessmen and consumers) set interest rates. The Fed always overshoots when attempting to curtail a recession with inflationary overdoses of money, then trying to head off the inflation they created in the upswing.
If the Fed, instead, concentrated upon keeping the money supply steady, business investment decisions would be made on the inherent profitability of individual projects rather than guesses about what inflation and arbitrary interest rate changes might do to affect economic conditions. Looking only at real-world prospects for profitability, businessmen would balance what interest rates they are willing to pay against interest rates at which banks are willing to lend. Without an artificial, inflationary oversupply of money created by the Fed, businessmen could gauge more accurately whether real savings in the banking system were adequate to support proposed investments.
The Fed deals in abstractions. There is no way they can make the risk-reward calculations that myriad individual businessmen and consumers must make with their own money.
Fed action in the 1920s, which created the Great Depression, is illustrative. After the 1920-21 recession, the Fed increased the money supply more than 21 percent by 1929, giving businessmen a false impression of the amount of real savings in the economy, which led to a bubble of excessive investment in production goods. This set the stage for the implosion of 1929, an earlier version of our 1990s dot.com boom and bust. Between 1929 and 1933, the Fed reversed course and contracted the money supply more than 27 percent, making banks unwilling or unable to lend to legitimate businesses.
Add to this inherent limitation the fact that, almost from its beginning, the Fed has been subjected to political manipulation by the administration in power, and we can begin to understand why prices rise year after year.
In both World Wars the Treasury took command of the Fed and simply ordered it to finance the war debt. In 1933, President Roosevelt’s socialist New Deal arbitrarily devalued the dollar and dabbled in the market to raise the dollar price of gold on a daily basis. To further the plan to inflate the dollar in the mistaken expectation that doing so would revive employment, the administration passed the Banking Act of 1935 that transferred Federal Reserve control from individual regional Reserve banks to the Reserve Board in Washington.
Since then the Federal government has acted under the theory that it can and must manage the entire economy, with the Federal Reserve as one of its main instruments.
In practice this has meant that the Federal Reserve has steadily created money via bookkeeping entries to finance sales of Treasury securities that fund our ever-growing welfare state. The result is that we Americans consume much more than we produce. The entire nation is living beyond its means, without ever paying down its debt.
Before the middle 1920s, when the Fed pumped up the money supply, the economy grew when farmers and businessmen increased real-world production of goods and services. Since the New Deal we have put the cart before the horse by emphasizing consumption on credit, the basic thrust of Keynesian economics. That’s why liberals always want to enact new spending bills to cure every problem that arises.
The socialist welfare-state requires a phony economy floating on a money supply that expands faster than growth in real production of goods and services.
The Fed’s role is to keep the inflationary dollars coming.
Thomas E. Brewton is a staff writer for the New Media Alliance, Inc. The New Media Alliance is a non-profit (501c3) national coalition of writers, journalists and grass-roots media outlets. His weblog is THE VIEW FROM 1776 (www.thomasbrewton.com)
Thomas E. Brewton is a staff writer for the New Media Alliance, Inc. The New Media Alliance is a non-profit (501c3) national coalition of writers, journalists and grass-roots media outlets.