If you were asked how we should go about achieving real economic growth throughout the economy rather than just certain sectors of it, what would you suggest?Would you revisit the Keynesian toolbox and call for a really, really big stimulus instead of just another really big one?Would you impose more controls on business, especially the financial sector?Some people want to revive Glass-Steagall, the gem from the Depression era that was abandoned in 1999 — sound good to you?.How about officially merging the Fed and the Treasury — i.e., turn “monetary policy” over to the government?Perhaps you’d break out Sheila Bair’s plan to allow each American household to “borrow $10 million from the Fed at zero interest”?Her proposal was tongue-in-cheek, you say? Ms. Bair, the former head of the Federal Deposit Insurance Corporation, proposed a plan that in its essentials would be received enthusiastically by those in the know —provided it was confined to special interests. But if it’s good for some, why not everyone?
“Look out 1 percent, here we come,” Ms. Bair trumpeted.
Many readers are familiar with the anecdote about a 1681 meeting between French finance minister Jean-Baptiste Colbert and a group of businessmen that included one M. Le Gendre. Colbert, a mercantilist, was eager for industry to prosper because it would boost tax revenue . . . sort of a fatten-the-goose approach to economics. When he asked how their government could be of service to the business community, Le Gendre famously replied, "Laissez-nous faire” — “Let us be.”
What? Tell government to get out of the way? Who today would even joke about such a proposal? After all the lessons we’ve learned about markets — that they’re ultimately governed by mysterious “animal spirits” that can only be counterbalanced with deft fiscal policy, that market predators would run riot over the innocent if not restrained, that we need a central bank to keep prices from falling, to ensure the big players don’t go under, and to protect Uncle’s bond market — keeping government out of the picture is the one proposal that is off the table.
It’s also the reason we’re on course for more and bigger crises.
Free prices would mean falling prices
Why the focus on prices? Why not markets?
The most reliable barometer of economic honesty is to be found in prices. Honest prices, neither manipulated or controlled, provide investors and consumers with reliable economic signals. They show, beyond any doubt, what is scarce, what is plentiful, where opportunities lie, and where they do not lie.
In a profit-driven economy with open competition, he points out, the quest for profits will increase supply and drive down costs, which will lower consumer prices.Lower prices help the poor especially.
While this should be economic common sense, it isn’t. The world is dominated by debt-soaked Keynesians, who abhor falling prices. Central banks and governments correctly regard inflation as their savior, as long as it doesn’t get out of hand. Success for central bankers is a gently climbing “price level,” a term that defies clear understanding. They’re not bothered in the least by the dollar’s loss of 97% of its purchasing power since the Fed opened its doors a century ago.
Under a free price system, falling prices are the payoff for successful productivity, Lewis tells us. During the last decades of the 19th century in the US, prices trended downward while the economy experienced explosive growth along with a rapidly increasing population. Murray Rothbard notes that “from 1879–1889, while prices kept falling, wages rose 23 percent.” [p. 165]
Nor was this falling prices/growth relationship a historical anomaly. In a paper published by the Minneapolis Fed in 2004, researchers examined 17 countries in five-year episodes for over 100 years and found “virtually no evidence” of a link between deflation and depression. They conclude that
A broad historical look finds many more periods of deflation with reasonable growth than with depression and many more periods of depression with inflation than with deflation. [emphasis added]
While the Great Depression (1929-1934) is a hotly debated period and does show a link between deflation and depression, it is “not an overwhelmingly tight link.”
Inflated riches versus earned riches
So, why does the Fed continue to inflate? Inflation has beneficiaries, at least in the short-to-medium run. Think of the advantages accruing to a counterfeiter. Not only does the Fed finance the federal deficit, most of the new money it prints passes through Wall Street first, fattening their profits.
In Chapter 14, Lewis explains how falling prices spread throughout an economy. He cites the career of Andrew Carnegie, who became the richest man in America by selling steel at ever lower prices. As he sold to other companies, they too lowered their costs and sold more cheaply. Consequently, more railroads could be built, and the cost of shipping freight and travel fell. The cost of drilling wells declined. Oil and gasoline became cheaper.
But there is widespread fear among mainstream economists and Fed officials that deflation (falling prices) caused the Great Depression. Does it occur to them that they might have it backwards — that the Depression caused falling prices because certain prices had been elevated by Fed money printing?
In the depression of 1920-21 prices fell precipitously and unemployment soared. The Fed raised interest rates and the Harding administration slashed spending, policies that are unthinkable in today’s Keynesian climate. Yet by 1923 unemployment was only 2.4%, and the depression was history.
The Benjamin Strong Fed inflated during the 1920s, creating a bubble economy. When in 1927 it started to falter he decided to “give a little coup de whiskey to the stock market.” As a loyal player in the Morgan ambit, Strong inflated to help maintain Britain’s fragile monetary structure.
When the Crash came, first Hoover then Roosevelt acted to keep wages from falling. Without the ability to reduce wages many companies faced bankruptcy, so they laid off workers on a massive scale. Those employees who kept their jobs got the equivalent of enormous raises because of frozen wages and falling prices.
After WW II many economists expected the economy to fall back into depression because price and wage controls were ending, and government spending and taxes were being reduced. But even with the return of 10 million veterans, unemployment remained below 5%. A recession in 1949 raised it to 6% but even this figure was far below anything achieved during the Keynesian heyday of the Great Depression.
Lewis poses the question: What should government do when facing a bust of its own making? Remember the Hippocratic Oath: First do no harm. Stop manipulating and controlling prices. Allow prices the freedom to adjust. Allow the patient to recover.
Not all prices and wages are out of adjustment. And of those that are, not all need to fall. Some should rise. The economy is not a water tank to be filled or drained until the right level is reached. Recessions are not punishment, as Keynesians often claim. They are a way of removing economic wreckage and debris so the economy can move forward.
Fractional reserve banking, the cause of the boom-bust cycle, is both fraudulent and economically unsound, Lewis points out. It’s fraudulent because it promises to pay depositors on demand with money it has lent elsewhere. It is unsound because pyramiding loans with new money causes instability.
Sever all connections between government and money
What kind of money and banking system do we need? Here, Lewis quotes Lew Rockwell:
F. A. Hayek discusses the only serious means of reform that is open to us. We must completely abolish the central bank. Money itself must be wholly untied from the state. It must be restored as a private good, privately produced for private markets. Government must have no role at all in monetary affairs. Money should be produced by private enterprise alone. Banks must exist only as free-enterprise institutions, with no privileges from the state. . . .
Let failing banks die. Let profitable banks live. Let the people choose to use any form of money. Let the people choose any means of payment. Let entrepreneurs create any form of financial instrument. Law applies only the way it applies to all other human affairs: punishing force and fraud. Otherwise, the law should have nothing to do with it.
Lewis tells us: “The Fed is no devil.It is doubtless staffed by many sincere people who have no inkling of the moral and financial devastation they are wreaking.”
It may be true that the Fed is no devil. But if it were a devil, it could hardly do worse than it has. If we can’t get the Fed shut down, Lewis adds, we should at least fight for open currency competition. If people were free to use a different money, they almost certainly would. With its involuntary customer base depleted, the Fed would either sell its printing presses or close its doors.
“Prices,” Lewis concludes, “should be fully emancipated from government.”
I would argue that everything should be completely emancipated from government, but that’s a topic for another day. Hunter Lewis’s book is straight-forward and compelling. Get it and absorb it.
