In a recent letter John Mauldin worries that central banks are
‘out of bullets’, but this is not something that any rational person should
be worried about. Instead, they should be worried about the opposite.
The conventional view is that with interest rates at all-time lows and
with vast amounts of debt having already been monetised, if a recession were
to occur in the not-too-distant future there would be nothing that the
central banks could do to ameliorate it. However, this view is based on the
false premise that central banks can smooth-out the business cycle by easing
monetary policy at the appropriate time. The truth is that by distorting
interest rates, central banks get in the way of economic progress and cause
recessions to be more severe than would otherwise be the case.
Think of it this way: If it is really possible for a committee of
bureacrats and bankers to create a better outcome for the economy by setting
interest rates (the price of credit), then it logically follows that a
healthier economy would result from having all prices set by committees
comprised of relevant ‘experts’. There should be an egg committee to set the
price of eggs, a car committee to set the price of cars, a massage committee
to set the price of massages, etc. After all, if it really is possible for a
committee to do a better job than a free market at determining the most
complicated of prices then it is certainly possible for a committee to do a
better job than a free market at setting any other price.
However, hardly anyone believes that all prices should be set by committee
or some other governing body. This is undoubtedly because that type of price
control proved to be an unmitigated disaster wherever/whenever it was tried
throughout history. Most people therefore now realise that it would make no
sense to have committees in place to control prices in general, but are
strangely incapable of making the small logical step to the realisation that
it makes no sense to give a committee the power to control the most important
price in the economy — the price of something that influences the price of
almost everything else.
Getting back to the worry that central banks are out of bullets, it would
actually be good news if they were. This is because a central bank does
damage to the economy every time it fires one of its so-called monetary
bullets. The damage usually won’t be apparent to the practitioners of the
superficial, ad-hoc economics known as Keynesianism, but it will inevitably
occur due to the falsification of price signals.
Unfortunately, central banks have an unlimited supply of bullets. This has
been demonstrated over recent years by zero not proving to be a lower
boundary for the official interest rate and by asset monetisation proving to
be not restricted to government bonds. We should therefore expect central
banks to keep firing until they are reined-in by market or political forces.
The real worry, then, isn’t that central banks are out (or almost out) of
bullets. The real worry is that they are not remotely close to being out of
bullets.
