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Editor's note: The following excerpt is a foreword written by Alex J. Pollock for the new book "The Global Curse of the Federal Reserve" by Brendan Brown.
The past four decades, from the 1970s to the 2010s, have been replete with financial and currency crises. These years have been, wrote the astute student of crises Robert Z. Aliber, ‘the most tumultuous in monetary history’. Why is this?
As we know only too well, the young 21st century has featured massive bubbles in American mortgage finance and European government debt, with resulting crises. In reaction to these most recent financial crises, government and regulators are intent on identifying and controlling ‘systemically important financial institutions’, or SIFIs. A SIFI is an institution influential and central enough that its mistakes can cause systematic financial instability.
No one can read this provocative book by Brendan Brown without concluding that a font of financial instability have been the mistakes of the Federal Reserve in its role as fiat currency central bank and financial manipulator to the world. In short, the Federal Reserve is the biggest SIFI of them all.
But who will control this SIFI? Who will guard these guardians? ‘No one’, answer the votaries of central bank independence. Since Dr. Brown observes, to the contrary, that central bank independence has become a global recipe for growing instability, his proposed answer is a new monetarist revolution.
The authors of the Federal Reserve Act of 1913 had as their principal object to create a provider of, as they call it, an ‘elastic currency’, which could expand in times of credit stringency or panic. In this they fully succeeded. They did not intend to create an institution which would attempt to manage the economy nor one which would print a fiat current and, most assuredly, not one which would create a perpetual inflation. From their point of view, these are unintended results of their political achievement, results which developed over time as their creation grew dramatically in influence and power, including, as Dr. Brown insists we recognize, the power to cause financial instability.
It is often said that one of the mandates of the Federal Reserve is to preserve ‘stable prices’. One prominent economic commentator even claimed that stable prices are ‘a religion’ of modern central banks. Nothing could be further from the truth. The Federal Reserve and all the other modern, fiat currency-issuing central banks, in fact, have a religion of constant never-ending, intentional worldwide inflation. If the rate of inflation or the rate of depreciation of the currency is fairly steady, they call this ‘price stability’ – a notable example of successful Orwellian ‘newspeak’.
It is worthwhile to remind ourselves of the basic math here. In targeting a continuing 2 per cent inflation, which is now called low, the central bank intends to make prices quintuple in the course of a normal lifespan.
What causes acceptance of this inflationary religion? Dr. Brown argues convincingly that the Federal Reserve and other central banks suffer from ‘deflation phobia’. He points out that actual long-term price stability entails intermediate times of both rising and falling price adjustments, which offset each other on average over long periods. He further argues for the reality of ‘good deflation’ as well as ‘bad deflation’, while understanding that this has become a revolutionary idea. If all deflation is bad and can never be allowed while inflation is not only allowed but intended, the only possible outcome is perpetual inflation. Is this consistent with financial stability?
Central banks did not always have the religion of inflation; they have been converted to it since 1971, when the United States reneged on its international commitment to redeem dollars with gold. Of course, by that point the United States was unable to honour its commitment at the established parity. Since then, central banks, led by the Federal Reserve, have engendered an unprecedented four-decade-long global inflationary experiment. That this has produced the best possible monetary and financial results would certainly be a hard case to make, since these same decades are notable for their frequent financial and currency crises. Dr. Brown proposes the prosecution’s case: that monetary activism has been the source of periodic bubbles and busts in different parts of the globe.
A notable irony in this context, as discussed in the book, is that Arthur Burns, the Federal Reserve chairman who presided over creating the immensely destructive Great Inflation of the 1970s, had written a book in the 1950s about the ‘evils’ of inflation.
Review Dr. Brown’s chronicle of big, destabilizing Federal Reserve mistakes – from the 1920s, when, as the book relates, it was unintentionally stoking up a massive global credit bubble, to our own times, when it intentionally stoked the housing boom, which became the fateful housing bubble. This will bring you to the so-called Shull Paradox (propounded by Bernard Shull in his history of the rise of the Federal Reserve): How can it be that the Federal Reserve, having throughout its institutional life made such large deflationary and inflationary blunders, nonetheless grows ever more powerful and influential with each cycle, regardless of the merits of its actions? In fact, the Federal Reserve’s powers in the wake of its mistakes were just added to again by the Dodd-Frank Act of 2010. Professor Shull relates the plaintive cry of a fellow economist: ‘How is it that the Federal Reserve always wins?’ How indeed?
To consider bringing its winning streak to an end, read on.
Alex J. Pollock is a resident fellow at the American Enterprise Institute, Washington DC, USA. He was President and CEO of the Federal Home Loan Bank of Chicago from 1991 to 2004 and is the author of Boom and Bust (2011).