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End the Fed? Ron Paul Is Wrong For All The Right Reasons.

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September 17, 2009 – Comments (1)

While this is a book review of "End The Fed" by Ron Paul (review by our favorite buddies at Bloomberg, article here), the reviewer brings up some interesting arguments against Ron Paul's "Utopian promises" when it comes to the idea that we should close the Fed's doors:

Sept. 17 (Bloomberg) -- “The bank is trying to kill me,” President Andrew Jackson declared. “But I will kill it!”

And throttle it he did, thwarting a bid by the second Bank of the United States to extend its charter beyond 1836. The U.S. would go without a central bank until the Federal Reserve System was established in 1913.

A battle over the place and power of a central bank in America has rumbled throughout U.S. history, pitting capitalists against populists who feared the wealthy few would hog power and crush liberty. The skirmishing has resurfaced amid our own credit crackup, with book after book faulting the Federal Reserve for allowing Americans to run up some $34 trillion in domestic non-financial debt.

Can the Fed be fixed? Don’t bother, writes U.S. Congressman Ron Paul in “End the Fed,” a blistering libertarian broadside from a firm believer in Austrian economics.

Paul, a Republican from Texas, wants to abolish the Fed, freeze the money stock, and reintroduce a gold standard. His book lays out his arguments in blunt rhetoric pitched to the surly mood of an understandably disillusioned electorate. He attributes his title to a catchphrase he heard University of Michigan students chanting in October 2007.

“All around the country, people are gathering outside Federal Reserve buildings to protest against the power, secrecy and operations of the Fed, and chanting this great slogan,” he writes. “Their goal is not reform but revolution.”

Many of Paul’s assertions ring true. Inflation amounts to taxation, he says. Correct. Central bankers are central economic planners, he asserts. Absolutely. Wall Street likes “privatized profits and socialized losses.” No surprise there. He’s right, yet draws the wrong conclusions.

Utopian Promises

Like many clever politicians, Paul has a knack for mixing sound observations with Utopian promises. Without the Fed, he says, we would enjoy “all the privileges of modern economic life without the downside of business cycles, bubbles, inflation, unsustainable trade imbalances and the explosive growth of the government that the Fed has fostered.”

No wonder the jacket carries a written endorsement from folkie Arlo Guthrie, who says the book has “decisively changed my mind.”

Hold on, though. Wasn’t America’s Fed-less 19th-century history punctuated with recurring booms, busts and banking panics? Paul dismisses such talk.

“Most of the tales of 19th-century banking are mythical,” he says, blaming the upheavals on government meddling.

Paul’s position is that commercial banks should again be subjected to the full blast of the free market, like any other business. Central banks, in this view, make markets inefficient.

Inefficient Markets

There are two snags. The first is that financial markets aren’t as efficient as economic theorists have hypothesized. If you don’t believe me, read Justin Fox’s history, “The Myth of the Rational Market” (HarperBusiness).

The other hitch is that banks play a unique role in society -- a role that evenAdam Smith recognized, as Henry Kaufman writes in “The Road to Financial Reformation” (Wiley).

“The great champion of laissez-faire recognized the special character of banks as custodians of wealth, and the risks to society if they are left in irresponsible hands,” says Kaufman, a former Salomon Brothers Inc. managing director.

If we’re stuck with the Fed, we had better find a way to fix it. And that means understanding the muddled thinking that underpins central-banking decisions, as George Cooper has explained in “The Origin of Financial Crises” (Vintage).

Schizophrenic Fed

Cooper, a fixed-income fund manager at BlueCrest Capital Management Ltd. in London, argues that central bankers are schizophrenic. When the economy is bubbling, they behave like Friedmanites, leaving the market to do its thing. Come a slowdown, though, they turn Keynesian, rushing to stimulate the economy with rate cuts. That’s how the Fed allowed excess credit to build up, cycle after cycle, inflating asset prices into what George Soros calls a “super bubble.”

Cooper’s solution: Oblige central banks to prick such bubbles by occasionally withdrawing liquidity from the market in what he calls “fire drills.”

This is unlikely to satisfy Paul, who deplores the “scoundrels at the Fed.” So perhaps he should reflect on the Panic of 1907, which ultimately led to the Fed’s founding.

When massive gold shipments drained into the U.S. from London after the San Francisco earthquake of 1906, the Bank of England moved to stanch the outflow by raising its benchmark interest rate to 6 percent from 3.5 percent, as Barry Ritholtz of research firm FusionIQ writes in “Bailout Nation” (Wiley). Other European banks followed suit.

To Ritholtz, the moral is clear:

“Unless all nations agree to do so simultaneously, the dissolving of a central bank amounts to the economic equivalent of unilateral disarmament.”

“End the Fed” is from Grand Central (212 pages, $21.99).

(James Pressley writes for Bloomberg News. The opinions expressed are his own.)

To contact the writer on the story: James Pressley in Brussels atjpressley@bloomberg.net

1 Comments – Post Your Own

#1) On September 25, 2009 at 4:15 PM, whereaminow (< 20) wrote:

This is neither new or interesting, but let's go through the motions.

Actually, it's quite the opposite of unilateral disarmament.  America would greatly benefit from being the stable currency in the world. As a historical example, Amsterdam garnered tremendous benefit for the 170 years that the Bank of Amsterdam maintained a 100% reserve ratio.  The other European countries were destroying their currency through inflation, and the smart money took refuge in Amsterdam. 

The Panic of 1907 was caused by fractional reserve banking.  It fails. It always fails.  The only reason for the Fed - its sole purpose - is to protect its clients, the largest banks.  For the last 2300 years on record, fractional reserve banks have failed over and over and over and over and over and over and over and over and over and over.... do you get the picture yet?  Fractional reserve banking does not work to safeguard money.  See Money, Bank Credit, and Economic Cycles by Jesus Huerta De Soto for a complete history of the tragic end of historical fractional reserve banks.

The second, less understand reason for the Fed is to hoodwink gullible Progressives into thinking it is a bastion of regulatory reform.  It grew out of the same era as the TR reform's and Progressive agenda of the early 20th century.  Unlike the other failed institutions of that error, most of which were swept into the dustbin of history where they belonged, the Fed has continued to wow the modern day progressive through the glory of technocracy - a failed anticapitalist fallacy that technicians can manage our economy.  It's a form of central planning and it doesn't work. Ever.

There were business cycles before the Fed. There were also central banks before the Fed and fractional reserve banks. And there has always been government meddling in the economy.  The Republican Party supports the Federal Reserve, as do the Democrats.  It is the lifeblood of the oligarchy.

Further discussion of Pressley's article is here:

http://blog.mises.org/archives/010673.asp

David in Qatar

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