Fed bashing: a waste of time, contexually

[OptimizedPrime]

The housing "crisis*" in the US has directed a more popular anger toward the Federal Reserve and had even popularized (relatively speaking) the notion of curtailing or even eliminating it's presence. Ron Paul, people say, is looking a little less loony because of his years-long crusade against the Fed.

The popular tag-line being circulated is, "the Fed caused the housing crisis" and/or "if we return to a gold standard we won't have asset bubbles or (whatever else you don't like)".

This has in turn prompted a lot of very useful energy to be directed against the notion of the Fed as intellectuals pile on, hoping to achieve a long-awaited agenda wherein we all start speaking Austrian when we attend economics class.

What a waste of time.

While it might be true that Fed policies surely lowered interest rates, which in turn might have helped speed the housing bubble's inflation somewhat, there is nothing to support that the Fed or its policies created the crisis. If you understand the root causes of the housing bubble, you can see that it would have happened just the same in a Fed-less country on a gold standard given the same conditions elsewhere (viz. congress and the realtor-banker industrial-complex).

As such, whereas the Fed might be a perfectly viable target on your Utopian checklist, it should rank down there with eliminating the post office when it comes to deciding how you will spend your energy.

This crisis opens to the door to changes in thinking. The opportunity should not be wasted. The marginally harder task of demonizing the NAR and the MBA (and making them poster children for pull-peddling) is infinitely more rewarding if your goal is to create a more free society. Both parties have had (and still have, dangerously enough) their snouts firmly in these troughs yet many people don't even understand that they are lobbists.

In the current landscape of things we are told that our country's number one enemy is affordable homes. This is such an absurd inversion of logic that it could only be manufactured an extremely well-funded US Congress. They push this agenda into the culture because it gives them cause and cover to pass laws that favor two of the biggest lobbying groups in the country (listed above, with links).

It doesn't have to be this way. The biggest lobbyist in the US is the AARP. Properly educated, your average old fart couldn't possible be happy with the younger generation sinking the country deep into retirement-fund-killing fiscal debt for the purposes of putting young families in McMansions. There are goodies for everybody in these government give-aways (a lot of retired people did what congress told them to do and used their homes as piggy banks), but spreading the word about the downsides can help a lot.

So too inciting a bit of class warfare cannot hurt. In short, why should YOU pay for your neighbor's fancy new kitchen when you need to make do with your old one? The US Congress through its "stimulus" and "support for the housing market" is doing exactly that: taking your wealth for the betterment not of the poor and down-trodden for food and basic medical care, but for luxury homes in the suburbs.

On the economics front, this is an example of how dangerous it is for the government to single out and promote a particular asset class. Again, many of us have known all of this for a long time, but now that a bomb has gone off providing a clear example of the idea in practice, arguments are much more persuasive. It's a rare time when theoretical arguments will be listened to by a much wider swath of the voting public.

Which brings us back to the Fed. A few days ago Ben Bernanke, in defending his organization from the likes of Ron Paul responded to the question, "why didn't you raise interest rates while the Bubble was forming" by saying that, in effect, raising interest rates would have penalized a wide variety of industries since they are directed at everything, not just housing.

The problem with his statement is that he's absolutely right and with that the Fed is likely to duck this criticism and live to fight another day.

Meanwhile those hunting the big game of the Fed will find their entire quiver of arrows ineffectual which is a real shame when there are bigger yet deeply wounded trophies limping about in this thin slice of history.

OP

[softwareNerd]

Some efforts to control the Fed would actually make things worse, subjecting it to more populism rather than imposing objective constraints on its powers. While I agree that much of the bile against the Fed is wasted, it would not be so if the moves were aimed at laying down some clear rules for what the Fed may or may not do.

However, I disagree with two of the alternative areas of activism that you suggest. Demonizing interest groups like the NAR and the MBA is the wrong way to go. When the bulk of voters empowers their representatives to mess with the economy, you can be sure that businessmen and others will band into lobbying groups to try to control this power. Demoninzing any such groups will not solve the problem; it will merely move the locus of that power. In this particular case, if you're successful, the locus will likely move away from business groups to non-profit ones, simply making the situation worse.

Secondly, you mention class-warfare, but you give the example of not paying for your your neighbor's mistakes. The example is fair enough, but I would not characterize it as class-warfare. You and your neighbor are probably of similar economic cohort. Class-warfare is what we already see in a lot of the "Main street vs. Wall street" rhetoric, and it is misguided. Just like in any subdivision, so on Wall Street too, there were some who are being forced to underwrite the mistakes of their cohorts. Finally, it is the better rich folk who will pay a substantial part of the bills.

[philosopher]

Political activism in general is a waste of time. What fundamentally decides a country's direction is the way people think, hence the focus of ARI and other Objectivist organizations on academia. It's a total waste of time getting a bunch of pro free market, pro individual rights politicians elected if the people can change their mind in 8 years and roll it all back again.

[Jake_Ellison]

As such, whereas the Fed might be a perfectly viable target on your Utopian checklist, it should rank down there with eliminating the post office when it comes to deciding how you will spend your energy.

You're misusing the term "Utopia", and you're in general not argumenting the statement that the Fed and the Post Office are somehow lesser evils and should be therefor pointed out as such only after other government involvement into the economy is ended. In fact, I believe taking such an unprincipled stance would open up any activism to justified ridicule from all opponents, and make one's efforts destined to failure.

If you understand the root causes of the housing bubble, you can see that it would have happened just the same in a Fed-less country on a gold standard given the same conditions elsewhere (viz. congress and the realtor-banker industrial-complex).

Three points, the last one being the key:

1. Low interest rates contributed to the housing bubble.

2. The faith both participants in the market and politicians had in Greenspan and his magical abilities to foresee and prevent a bubble was one of the main underlying causes of all the well intentioned mistakes that led to this.

3. The root cause for major events in history is usually philosophical. In this case, it's Pragmatism, and a lot in your post, the way I read it, is exactly that. Maybe you could clarify.

Edited January 9, 2010 by Jake_Ellison

[C.W.]

The housing "crisis*" in the US has directed a more popular anger toward the Federal Reserve and had even popularized (relatively speaking) the notion of curtailing or even eliminating it's presence. Ron Paul, people say, is looking a little less loony because of his years-long crusade against the Fed.

The popular tag-line being circulated is, "the Fed caused the housing crisis" and/or "if we return to a gold standard we won't have asset bubbles or (whatever else you don't like)".

This has in turn prompted a lot of very useful energy to be directed against the notion of the Fed as intellectuals pile on, hoping to achieve a long-awaited agenda wherein we all start speaking Austrian when we attend economics class.

What a waste of time.

While it might be true that Fed policies surely lowered interest rates, which in turn might have helped speed the housing bubble's inflation somewhat, there is nothing to support that the Fed or its policies created the crisis. If you understand the root causes of the housing bubble, you can see that it would have happened just the same in a Fed-less country on a gold standard given the same conditions elsewhere (viz. congress and the realtor-banker industrial-complex).

OP

I find there is maybe something of value in your post, but minimally. Certainly, if there is an issue that is something that you wish to expend your efforts upon and have the knowledge, time, and, energy to do so, go for it. We would help where we can, I am sure.

However, your comments about the Federal Reserve Board and it Chairman, are not accurate.

For example, I did read that speech by Ben Bernanke on the 2nd, closely. I must have missed his argument about other parts of the economy and the interest rate, so I would appreciate your showing us the quotation. However, if he did mention that point, he would have been wrong. Completely, utterly, morally, economically, concretely wrong. Low interest rates were bad for everyone. As Yaron Brook said on PJTV last week, the Fed’s effort to pick interest rates is always wrong, and Dr. Brook meant that it was wrong for everyone.

Speaking of Dr. Brook, he suggested that if you wanted to understand the mess surrounding the house prices, you should read Meltdown: A Free-Market Look at Why the Stock Market Collapsed, the Economy Tanked, and Government Bailouts Will Make Things Worse by Thomas Woods. I can say, having read the book, that it is worth the time.

The reason why Dr. Brook and the Austrian School of Economics (and I) focus on the Fed is that it is the most powerful actor in the economy precisely because of the Fed’s role in causing inflation and the business cycle, which is the cause of the most recent push to expand government power.

I wonder, OP, if you can clearly state the reasons why these people are concerned with the Fed? The reason I ask is that so few people these days think that it is necessary to understand what they are criticizing. I don’t know you or your background. You say things that you would know are blatantly not true if you knew what the arguments were. What is blatantly not true? “…there is nothing to support that the Fed or its policies created the crisis.” There is lots to support the claim. Where did you look to see if there was support?

There are two primary factors that gave rise to the rise in house prices, in addition to the apparatus set up to securitize the mortgages and leverage their acquisition. Woods goes into all of the history in detail, including several secondary issues, but I will mention the primary two.

For more than two decades the federal government, in many different capacities, has waged a campaign to expand home ownership. One of their themes was that the credit requirements for mortgages should be lowered. The Fed participated in this campaign to lower credit standards with jawboning and literature aimed at their member banks. For Bernanke, in his speech on the 2nd, to criticize the banks for following through with what they were told to do by the government is shameful.

But most important, and my entire reason for writing, is the role of the Fed as a creator of inflation. If you have any background in Austrian economics, including the economists influenced by Objectivism, you know that inflation is the major, underlying problem with government interference in the economy. The rest of the wrongs they do couldn’t get far without the control of the money supply. In our country, the money supply is controlled by the Fed.

You mentioned interest rates, OP, and that the Fed kept them low, as if this were a minor thing. This is what Bernanke did in his speech and does in his standard set of comments. These people do not refer to money or money supply. They want you to think of interest rates. But, OP, how does the Fed maintain low interest rates? There is only one way. They do not pass an ordinance declaring anyone who charges a higher rate to be guilty of a crime. They decide that they have a goal for their short-term overnight federal funds rate. It is a goal that they instruct the trading desk of the New York Fed to work to achieve and maintain. Right now that goal is between zero and ¼ of one percent.

The trading desk then must do what it can to keep the overnight rate low. How does it do that? Everytime the rate begins to go up, the trading desk, through transactions, purchases in this case, put money into the accounts of the member banks. Where does this money come from? The Fed makes it up, creates it out of thin air.

For the period of time, from 9/11 to today, the Fed has kept interest rates below market level. All of that time (and before, too, really) the Fed has been putting money into the member deposit accounts at the Fed. These are special accounts. The law requires every Fed member bank to have (the current rate of) 10% or its demand deposits in its Fed account. Or conversely, the member bank can have as demand deposits a ratio of 9:1 of its Fed deposit. The Fed puts money into a bank’s member account, the bank has more reserves, it can loan out more money. It doesn’t work out exactly that way in practice. But this is in principle the process that the money supply has been expanded from $1 T in 1982 to nearly $10 T today (MZM). The money the Fed creates gets into the credit system and lowers all rates, including longer term ones, like house mortgages. The only thing that might counteract the increase in the number of dollars floating around would be an inflation premium on longer-term loans. That premium wasn’t there over most of the last decade. It is now to some extent.

The question to you, OP, is, how did the prices of houses increase year after year without the Fed? It is only through inflation that prices in any sector can expand continuously, year after year. Such a series of rises is the hallmark of inflation, of additional amounts of money being created regularly.

In his speech Bernanke suggested that the money came from developing countries, which he did not support with evidence. No evidence has been provided for such a claim that I have seen. But, you know, even if it were shown that dollars had come back from overseas into our capital markets (at very low interest rates? really?), the question would still be where did that money come from. The nearly $11 T in dollars held overseas, an increase of $10 T since 1982, is made up money, by the Fed. We have been exporting our inflation like crazy.

The point that Woods makes in Meltdown is that the expansion of bank credit, which goes directly to businesses or assets (like stocks or houses) is the beginning of the business cycle, and begins the distortion in pricing and asset allocation that inevitably leads to the bust, and thus the calls to further regulation. Woods refers to this as the Austrian Theory of the Business Cycle. The Fed, as the source of inflating bank credit, is the primary source of difficulties in our economy, and thus a natural target of people who wish to win back their freedom.

[C.W.]

Political activism in general is a waste of time. What fundamentally decides a country's direction is the way people think, hence the focus of ARI and other Objectivist organizations on academia. It's a total waste of time getting a bunch of pro free market, pro individual rights politicians elected if the people can change their mind in 8 years and roll it all back again.

I agree with you, philosopher, in every fundamental way, that to achieve our freedom we need a philosophical revolution. We will not be safe until that happiness.

I do see two lesser roles for political activism, which are worth pursuing in our context. One, if there is momentum on the philosophical side, some political arguments will help concretize the points. I don't think that we are there exactly, but there is some momentum for us, why not push it as much as we can.

Second, and more personally important, is that we need to keep the country alive in working at least moderately well while we work on our philosophical battle. I think that is what is happening now. Unless we want to let it all go down hill and Shrug, we need to keep the thing from sinking to far down. It will also make living less hard as well.

[New Buddha]

What a waste of time.

In 2000 the economy was already soft with under-employment and low stock reserves. With 9/11, things came came to a halt. George Bush suddenly had two wars to run and, not wanting to raise taxes, did what all politician do -- he turned on the printing presses. The Fed, to raise money for the wars, drastically lowered the cost of money.

Around 2003 developers started to get access to LOTS of cheap money and tax incentives to start developing. Developers hired architects, who hired engineers, which created projects for general contractors who hired subcontractors who placed orders for building materials. At each step of the process, banks lent the same money over and over again through fractional reserve asset lending – thus drastically inflating the total money supply. Also, as employment dropped, companies had to offer higher salaries and more expensive health care plans as a means to attract and keep their workers. People who had previously been unemployed or underemployed sent their kids to the dentist, got new glasses and had medical procedures taken care of. All this added more inflation to the mix because doctors had to expand their practices and buy new equipment, etc.

With more and more people working and the government offering tax incentives to purchase all the new homes that suddenly appeared on the market (without demand) and with rent prices going through the roof, individuals started buying houses and condo's. These mortgages were financed with the SAME money lent by the SAME banks to purchase these over-priced and “artificially demanded” houses. Also, many existing home owners took out 2nd mortgages to remodel or expand their homes since property values were going up and the money was cheap.

The real estate brokers were not responsible for creating this mess – they actually weren't too involved until the end. And the number of brokers increased during this period which tends to reduced per capita income (but was probably off-set by the inflated cost of the houses).

The mortgage lenders were involved with the process, and as you point out, many of those brokers are also the same banks involved in borrowing and lending the Fed's and Congresses money throughout the entire process. But they didn't create the problem. The problem is with the entire monetary system.

Everyone needs to know what's going on with the monetary system, and I don't see what Ron Paul is doing as a waste of time. The entire reason for the Fed's existence as an “independent” agency is to prevent such a thing from happening in the first place. It's probably better to enact policy changes through the Fed than through Congress.

[OptimizedPrime]

[...]

However, I disagree with two of the alternative areas of activism that you suggest. Demonizing interest groups like the NAR and the MBA is the wrong way to go. When the bulk of voters empowers their representatives to mess with the economy, you can be sure that businessmen and others will band into lobbying groups to try to control this power. Demoninzing any such groups will not solve the problem; it will merely move the locus of that power. In this particular case, if you're successful, the locus will likely move away from business groups to non-profit ones, simply making the situation worse.

Agreed. However, from a rhetorical standpoint, you've got to start the conversation somewhere. If you spray roaches, they will surely move away. But some of them will die as well, and that's progress.

Secondly, you mention class-warfare, but you give the example of not paying for your your neighbor's mistakes. The example is fair enough, but I would not characterize it as class-warfare. You and your neighbor are probably of similar economic cohort. Class-warfare is what we already see in a lot of the "Main street vs. Wall street" rhetoric, and it is misguided. Just like in any subdivision, so on Wall Street too, there were some who are being forced to underwrite the mistakes of their cohorts. Finally, it is the better rich folk who will pay a substantial part of the bills.

I probably misused that term or over-generalized it or something... I was looking for a shorthand for "get people pissed off about the government forcing them to buy their neighbors luxury goods". I think I missed.

OP

[OptimizedPrime]

Political activism in general is a waste of time. What fundamentally decides a country's direction is the way people think, hence the focus of ARI and other Objectivist organizations on academia. It's a total waste of time getting a bunch of pro free market, pro individual rights politicians elected if the people can change their mind in 8 years and roll it all back again.

I'm certainly not talking about folks quitting their jobs and grabbing a bullhorn and a cardboard sign. You can do a lot with relatively little effort here in the age of the Internet. I've personally changed a big part of the conversation in the housing mess myself while maintaining an 80 hour/week work schedule. A little truth goes a long way if you are clever. Ayn Rand once said (I quote from memory), "...and most of all, WRITE...". This was two decades before blogs...

And no, fundamental principles don't change overnight, yet lasting change will require just that. However I think the landscape for change is necessary in all walks of life. It might be prolonging the inevitable trying to stave off a police state for another decade or two but there's something to be said for trying to keep the lights on while the longer-term changes take hold. Besides, folks, reality check: we're here (in this forum) aren't we? Are your fingers falling off? If not, then WRITE dammit...

OP

[OptimizedPrime]

You're misusing the term "Utopia", and you're in general not argumenting the statement that the Fed and the Post Office are somehow lesser evils and should be therefor pointed out as such only after other government involvement into the economy is ended. In fact, I believe taking such an unprincipled stance would open up any activism to justified ridicule from all opponents, and make one's efforts destined to failure.

Three points, the last one being the key:

1. Low interest rates contributed to the housing bubble.

Can somebody explain how this was meaningful? To me it's the difference between being hit by a train at 40 instead of 60 miles per hour. What fundamental difference does this make?

2. The faith both participants in the market and politicians had in Greenspan and his magical abilities to foresee and prevent a bubble was one of the main underlying causes of all the well intentioned mistakes that led to this.

The bubble happened because "everybody" was sure Greenspan would prevent a bubble? Huh?

3. The root cause for major events in history is usually philosophical. In this case, it's Pragmatism, and a lot in your post, the way I read it, is exactly that. Maybe you could clarify.

Don't confuse Pragmatism with practicality, it smacks of rationalization. Or to put it another way, be specific about what's wrong with my written thoughts. I'm not above criticism. However, just because I'm offering "real world advice" (or discussion of same) doesn't mean I attempt to live by the circular reasoning of William James.

OP

[OptimizedPrime]

Okay, I get it.

Clearly the Fed and all of it's power over our lives gives Congress and the US government convenient abilities to take away our freedoms. I never denied this. If I could wave a wand and make the Fed go away I would.

However I just can't buy into what to me sounds like Birchesque drivel wherein the weapon or tool or our politicians is made into an enemy in and of itself.

In other words, if there wasn't a Fed and we lived in a Gold Standard country etc. etc. etc., given the same philosophical platform and the same immediate goals, the government would find another way to accomplish the same thing.

Or to put it another way, I think it's more practical at this juncture to try to get our current government to stop using the Fed to enslave us the way they are right now than to try to get them to throw away the weapon entirely. The former will be hard but possible with diligent pressure. The latter isn't going to happen in the next half century, realistically speaking.

Now I'm going on a more personal bent here because I think the above fact is pretty obvious to the point that people who overlook this fact harbor the wacky goal of getting rid of "Satan's Fed" (secretly controlled by "the Jews", right?) rather than a more rational one of simply trying to salvage some of our freedoms in the most practical way possible.

So yes, on a Gold Standard, without a Fed, give me Congress and a compliant president or two and about 10 years and I'll make you a Housing Bubble. It isn't rocket science.

And yes, to your point, the Fed was the tool of choice to create the housing mess this time... but that is irrelevant.

OP

[brian0918]

I wouldn't simply consider the Fed a *tool* of the government. Because of the absolute govt-enforced monopoly that the US dollar has on use as money in America, the Fed knowingly enacts force-backed changes in this country - it is effectively part of the government - a fourth branch, given its powers over the economy.

[Jake_Ellison]

Can somebody explain how this was meaningful? To me it's the difference between being hit by a train at 40 instead of 60 miles per hour. What fundamental difference does this make?

It's harder to stop, and causes much more destruction on impact. I don't particularly like your analogy, but if you make it, at least make it meaningful: trains don't just smack into people standing on the rails out of the blue. They have conductors and breaks , and the people on the rails can move, so speed is essential to the end result. The size of the bubble is also important to the size of the crash.

Don't confuse Pragmatism with practicality, it smacks of rationalization. Or to put it another way, be specific about what's wrong with my written thoughts.

I was, you just skipped over the first paragraph of my post. And now you're criticizing my last sentence, which I dedicated to spelling out my general conclusion, for not being specific.

Edited January 10, 2010 by Jake_Ellison

[C.W.]

I do agree that attacking the Fed directly is not the best use our time. The thing I found most frightening about Bernanke's speech on the 2nd was the reasoning methods he used to defend himself. They are expressly designed to ignore and obfuscate reality. He couldn't find today temperature with them.

Understanding the Fed helps you understand the world in which you live. It gives you an idea as to what is going to happen to you and your family. Most of the reason to watch the Fed is self-protection.

Knowing what the Fed is doing and being able to express it also helps stop the politicians and regulators when they attempt to expand their power. They blame capitalism. Each of the last two asset balloons and busts have been used as excuses to expand regulation and market restrictions. You can't argue successfully against them if you do not clearly understand what happened. Knowing U.S. economic history also helps, which is why I keep pushing How Capitalism Saved America by Thomas J. DiLorenzo.

So, I agree, Fed bashing isn't real helpful. Pointing at reality always is.