Economists Want to End – Or Drastically Downsize – the Fed

Economists: End Or Drastically Downsize the Fed
Washington’s Blog
October 16, 2011


Economics Professor and monetary expert Randall Wray told me that we should end the regional Federal Reserve banks, as they have such terrible conflicts of interest, strip out all regulatory power from the Fed (since it doesn’t believe ine regulation, anyway), and implement monetary policy with a very small staff. He is not opposed to moving operations over to Treasury and/or the FDIC.

Professor of economics Steve Keen told me that he would pretty much limit the Fed to being a clearing house between different banks. In other words, in his view, the Fed could be stripped of all of it’s regulatory, monetary and emergency bailout powers.

Economics professor Michael Hudson told me:

Before 1913 all the Fed’s operations were conducted quite well by the Treasury. (David McKinley’s book for the 1907 described this quite well a century ago.)
the Fed’s aim was to Decentralize policy. The way things turned out, Wall Street leaders were given veto power. The role of Tim Geithner — in giving billions away in cash-for-trash trades the DAY before he was designed new Treasury Secretary (from his NY Fed position) tells it all.

But would the Treasury be different? The key is to put it back in the public interest, not Wall Street. Easier said than done.

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[Congressman Dennis Kucinich's bill to nationalize the Fed, and his call on protesters to demand nationalization of the Fed] drastic, but it is the only way to check the fact that commercial banks create debt money recklessly, and now “casino capitalism” gambles that are bound to fail.

If we could implement the 100% reserve proposal and administer it correctly, I’m all for it. The government would NOT create credit for gambling, or ensure it.

PhD Economist Marc Faber said that protesters should Occupy the Federal Reserve:
Famed economist Milton Friedman wanted to end the Fed:

This evidence persuades me that at least a third of the price rise during and just after World War I is attributable to the establishment of the Federal Reserve System… and that the severity of each of the major contractions — 1920-1, 1929-33 and 1937-8 is directly attributable to acts of commission and omission by the Reserve authorities…

Any system which gives so much power and so much discretion to a few men, [so] that mistakes — excusable or not — can have such far reaching effects, is a bad system. It is a bad system to believers in freedom just because it gives a few men such power without any effective check by the body politic — this is the key political argument against an independent central bank…

To paraphrase Clemenceau, money is much too serious a matter to be left to the central bankers.

Austrian-school economists such as Murray Rothbard want to abolish the Fed:

Given this dismal monetary and banking situation, given a 39:1 pyramiding of checkable deposits and currency on top of gold, given a Fed unchecked and out of control, given a world of fiat moneys, how can we possibly return to a sound noninflationary market money? The objectives, after the discussion in this work, should be clear: (a) to return to a gold standard, a commodity standard unhampered by government intervention; (b) toabolish the Federal Reserve System and return to a system of free and competitive banking; (c) to separate the government from money; and (d) either to enforce 100 percent reserve banking on the commercial banks, or at least to arrive at a system where any bank, at the slightest hint of nonpayment of its demand liabilities, is forced quickly into bankruptcy and liquidation. While the outlawing of fractional reserve as fraud would be preferable if it could be enforced, the problems of enforcement, especially where banks can continually innovate in forms of credit, make free banking an attractive alternative.

I noted Tuesday:

The New York Sun reported that a … Nobel economist may have implied that the Fed should be abolished:

Thomas Sargent, the New York University professor who was announced Monday as a winner of the Nobel in economics … cites Walter Bagehot, who “said that what he called a ‘natural’ competitive banking system without a ‘central’ bank would be better…. ‘nothing can be more surely established by a larger experience than that a Government which interferes with any trade injures that trade. The best thing undeniably that a Government can do with the Money Market is to let it take care of itself.’”

Nobel prize-winning economist Joseph Stiglitz strongly dislikes the Fed:

Joseph Stiglitz – former head economist at the World Bank and a nobel-prize winner – said yesterday that the very structure of the Federal Reserve system is so fraught with conflicts that it is “corrupt” and undermines democracy.
Stiglitz said:

If we [i.e. the World Bank] had seen a governance structure that corresponds to our Federal Reserve system, we would have been yelling and screaming and saying that country does not deserve any assistance, this is a corrupt governing structure.

Stiglitz pointed out that – if another country had presented a plan to reform its financial system, and included a regulatory regime that copied the makeup of the Federal Reserve system – “it would have been a big signal that something is wrong.”

Stiglitz stressed that the Fed banks have clear conflicts of interest, since the banks are largely governed by a board of directors that includes officers of the very banks they’re supposed to be overseeing:

So, these are the guys who appointed the guy who bailed them out … Is that a conflict of interest?
They would say, ‘no conflict of interest, we were just doing our job. But you have to look at the conflicts of interest”…

The reason you talk about governance is because in a democracy you want people to have confidence … This is a structure that will undermine confidence in a democracy.

Indeed, as I noted Sunday:

Given that the 12 Federal Reserve banks are private – see this, this, this and this- the giant banks have a huge amount of influence on what the Fed does. Indeed, the money-center banks in New York control the New York Fed, the most powerful Fed bank. Indeed, Jamie Dimon – the head of JP Morgan Chase – is a Director of the New York Fed.

Former Fed officials agree. For example, the former Vice President of Dallas Federal Reserve said that the failure of the government to provide more information about the bailout signals corruption. As ABC writes:

Gerald O’Driscoll, a former vice president at the Federal Reserve Bank of Dallas and a senior fellow at the Cato Institute, a libertarian think tank, said he worried that the failure of the government to provide more information about its rescue spending could signal corruption.

“Nontransparency in government programs is always associated with corruption in other countries, so I don’t see why it wouldn’t be here,” he said.

In fact, many high-level economists have blasted the Fed for bungling virtually everything it does.

And while – admittedly – many mainstream Keynesian economists may be hesitant to question the Fed’s existence because the Fed is a big part of the printing press on which Keynesianism relies (and the Fed has essentially bought the economics profession), the same arguments which Keynesians have made against the “too big to fail” banks apply to the Fed as well.

For example, Nobel prize winning economist Paul Krugman wants the big banks to be broken up because their very size warps the political system:

My view is that I’d love to see those financial giants broken up, if only for political reasons: it’s bad to have banks so big they can often write laws.

Former chief IMF economist Simon Johnson says much the same thing.

The Federal Reserve is an enormously powerful institution, which doles out tens of trillions of dollars –many to foreign banks and governments (and see this and this) – without democratic input of any nature whatsoever. While Fed apologists say that the bank’s “independence” must be preserved, the fact that the Fed has sent trillions overseas shows the Fed is somewhat independent of American interests.

And the fact that the Fed funneled trillions to the biggest banks – instead of main street or public works projects – runs counter to the wishes of most people and of Keynes’ actual prescriptions. (Keynesians speak of “saltwater” and “freshwater” schools of thought, depending on whether economists think money can be pumped anywhere and it will stimulate the economy, or it should be pumped in specific places. But the Fed hasn’t done either, but has instead given huge sums to the big banks, and then encouraged them to park the money). See this and this.

Liberal Keynesians should oppose such a gigantic concentration of power – shielded from accountability to the people – on basic principles.

Indeed, both liberals and conservatives should despise something which runs so counter to the “separation of powers” envisioned in the Constitution.

Note: The American people want the Fed ended or at least reined in as well. See this, this and this.

The Anti-Fed Revolution

by Anthony Gregory,

End the Fed by Ron Paul
(New York: Grand Central Publishing, 2009), 212 pages.

Through his 2008 presidential campaign, Ron Paul managed to make monetary policy a national political issue. For nearly a century it had been a relatively obscure topic, and throughout my lifetime respectable opinion considered it a fringe inclination even to be interested in it. Certainly, those who questioned the necessity of even having a central bank had long been relegated to the kooky periphery of political discourse.

This all changed with Paul’s campaign, which put restoring sound money at the top of the 21st-century populist libertarian agenda, second only, perhaps, to ending the U.S. military empire. The financial crisis has made Americans from all walks of life dare to question the central banker behind the curtain. Recent polls show that the Federal Reserve is now among the least-trusted federal agencies, with a vast majority of the public supporting a thorough and independent audit. Paul’s efforts to bring about such an audit garnered more than two-thirds support in the House of Representatives, and for the first time, the Fed’s partisans are on the defensive, publishing articles vindicating its expansionary credit during the Bush years, which an increasing segment of the population, including some in the mainstream press, now blame for causing the housing bubble and consequent financial collapse.

Capitalizing upon this rising public distrust of the once-sacred central bank, Ron Paul has written End the Fed, a direct attack on the moral, economic, and legal foundations of the Federal Reserve. Although much of what can be found in the book can be learned elsewhere, no other popular treatment — concise, sharp, accessible, principled, and insightful — fills the niche that End the Fed serves to fill.

Of Paul’s many accomplishments in popularizing the ideals of liberty, his successful advancement of the Austrian school of economics deserves special recognition. End the Fed provides an accessible introduction to the economic thinking of Ludwig von Mises, F.A. Hayek, Murray Rothbard, and others of the Austrian tradition, whose focus on individual human action is arguably the most radical of all the economic disciplines, and the most compatible with principled libertarian political philosophy. They are not one and the same, for economics is a value-free, scientific study of cause and effect, and the use of resources by people pursuing their interests in a world of material scarcity, whereas libertarianism is a political philosophy centered on moral precepts of property rights, with a definitive normative focus.

But the two reinforce each other by employing methodological individualism — the study of human affairs in terms of individual choices and decisions — and together they show that we are not required to choose between a free society and a prosperous one. For helping to bring such a radical and yet intuitively comprehendible outlook to the general public, one that is not burdened by the mathematical esoterica and affinity to central planning that permeate mainstream economics, we owe Ron Paul a debt of gratitude.


Fiat money

Of course, what makes Austrian economics so particularly compelling and important these days is its explanation of the boom-and-bust business cycle. Ludwig von Mises and F.A. Hayek, the latter of whom won the Nobel Prize in 1974 for his work on this topic, explained unsustainable and systemic economic booms in terms of artificially easy credit, which leads to malinvestment in economic projects, especially long-term ones that cannot be justified by current savings. In a free market, interest rates are determined by the willingness of people to forgo spending and instead save their money. When the rates are lowered by the Fed, it discourages saving while simultaneously encouraging borrowing and investing. This leads to a cascade of high wages, massive construction, rising prices, and everything else we associate with booms such as those seen in the 1920s, the Nasdaq bubble, and the skyrocketing housing prices of the Bush era. But eventually, as economic projects must yield a return, the savings are shown not to have been there to justify the investment. Whereas a free market in interest rates harmonizes production and consumption over time, central bank distortions lead to the boom and bust.

The Fed was sold to the public partly on the basis that it would end the business cycle and financial panics forever. But “the data show otherwise,” writes Paul.

Recessions of the twentieth century as documented by the National Bureau of Economic Research include: 1918–1919, 1920–1921, 1923–1924, 1926–1927, 1929–1933, 1937–1938, 1945, 1948–1949, 1953–1954, 1957–1958, 1960–1961, 1969–1970, 1973–1975, 1980, 1981–1982, 1990–1991, 2001, and 2007, which is the current panic of which there is no end in sight.

As for the current panic, Paul explains that it follows the Austrian theory of the business cycle perfectly:

The massive inflation that was directed into housing was designed to make people feel better, and consumers once again were enticed to continue their spending spree by borrowing against their home equities, driven up at least nominally by inflationary expectations. Monetary policy was always hostile to savings. Savers were cheated with lower rates of interest....

But prosperity can never be achieved by cheap credit. If that were so, no one would have to work for a living. Inflated prices only deceive one into believing that real wealth has been created. But easy come, easy go. It is fun when the bubbles are forming and many can live beyond their means; it’s a different story when they’re forced to live beneath their means in order to pay for their extravagance....

Artificially low rates of interest orchestrated by the Fed induced investors, savers, borrowers, and consumers to misjudge what was going on. Multiple mistakes were made. The apparent prosperity based on the illusion of such wealth and savings led to misdirected and excessive use of capital.

This conversational and accessible prose is found on every page, explaining crucial economic principles in a way that neither dilutes the fundamentals nor comes off as patronizing or saturated with jargon.

In addition to discussing the credit expansion behind the boom and bust, Paul also addresses the lowered lending standards thanks to the Community Reinvestment Act, Fannie Mae and Freddie Mac, and the general bipartisan agenda of getting Americans into homes that they cannot really afford. He explains the moral hazard that arises when a government promise to bail out financial institutions is always hanging in the background. He rebuts the notion that more regulation could have prevented the crisis.

The ethics of sound money

Invoking the great moral traditions that guide most of us who seek a free society — the great religions of the world, as well as the heritage of American constitutionalism and the secular individualism of Ayn Rand — Paul makes a philosophical case against inflationism, turning a political issue into an ethical one, as is so rarely done these days, especially by politicians.

No great religion advocates governmental fraud in money. All speak of fulfilling one’s promises and obligations and respecting other people’s persons and property.

Putting the moral issue front and center, Ron Paul does not shy away from the implications of the ethics of sound money:

The entire operation of the Fed is based on an immoral principle.... Members of Congress, when they knowingly endorse this system of fraud because of the benefits they receive, commit an immoral act.

And indeed this plays into the power relations and class warfare that inflationism produces. A connected group of politicians, banking elites, military-industrial complex beneficiaries, government contractors, and bureaucrats profit from the inflation that provides them with easy money, but at what cost? The rest of us foot the bill. Those on fixed incomes, those retired living off savings, those who do not work in politically connected careers see the value of their dollars decline. The new money eventually reaches the rest of the public, but not until after it gets to those with high-level political connections. They spend the new money before the prices rise to accommodate the larger money supply. By the time it trickles down, it has lost much of its value. This is an immoral hidden tax on the lower and middle classes, as Paul has stressed throughout his campaign and career.

There are a few chapters in End the Fed filled with information that won’t be found elsewhere. Paul reflects on his personal experiences, giving an account of how his childhood taught him the value of hard work, savings, and the virtue of an honestly earned dollar. He explains how he came to free-market principles and libertarianism through the intellectual influence of the Austrians and others. He tells of how Nixon’s betrayal of sound money and free-market principles inspired him, begrudgingly, to enter politics, not to gain power but to spread a message that is now much more popular than when he started his career. His reflections on reproduced passages of his exchanges with Fed chairmen Alan Greenspan and Ben Bernanke give the reader a glimpse of the mentality of those chief officials. They also reveal the ardent persistence of the author on an issue he recognized was crucial long before so much of America woke up to the fundamental instability of the U.S. financial system last year. For the Ron Paul buff, the autobiographical info is great reading and an important entry into the historical record of our movement of ideas.

The libertarian case, the economic case, the constitutional case, and the philosophical case are all here, as well as some ideas on how to return to a more sensible and morally defensible system of money, credit, and banking. The short list of recommended reading at the end is helpful: it is divided into levels of sophistication to aid all readers and will help to educate a new, larger generation of anti-Fed revolutionaries. Give this book to your skeptical friends and family and keep a copy in your personal libertarian library. In the battle against the rapacious leviathan, defeating the state’s counterfeit machine must be a high priority. This is a great addition to our intellectual ammo, and it couldn’t have come at a better time.