What is the Fed Doing?

|Peter Boettke|

Gerald O'Driscoll raises some very interesting points about the Fed engaging in a covert bailout of European banks.

O'Driscoll's concerns don't rely on any conspiracy theory about the FED, nor are they based on some highly dubious understanding of monetary theory and policy.  What O'Driscoll points out should be discussed openly.

BTW, the intricate web of financial connections that has been formed in the modern global economy is one of the reasons why I think we need to take more seriously the political economy issues in designing monetary institutions and policy.  The tying of the central bank authority to "inflation targeting" proved insufficient, and I don't have much faith that "NGDP targeting" will do much better as a binding rule (despite the recent attention it has gotten, e.g., see The Economist article on blogging and macroeconomics). Whenever I have raised this objection I get a mix of both incredulousness and confusion --- we are already taking into account public choice that is why we have a rule, and since we have a rule haven't we solved the public choice problem.  But the real problem is whether the rule is credible and binding, not whether you have a rule.  And then, of course, the content of the rule matters a lot as well, as I have argued in a slightly different context related to transitional political economy.

This is why Hume's dictum that when designing institutions of governance we must presume that all men are knaves is so critical.  And our knavery comes in the form of arrogance as well as opportunism, so we must be on-guard for both types if we hope to build robust institutions of governance.  The Fed is the opposite of a robust institution, but instead relies on it operation that either good men be in charge and/or good theories be adopted.  Think of all the permutations where things can go awry. 

Comments

[Martin]

Mr Boettke, Pete,

how would you feel about an institutional arrangement where the central bank would - by law - be forced to act as a market maker for every or just a particular financial instrument that have a zero expected pay-off at as long as the central bank adheres to its mandate?

In other words, every citizen can go to the central bank and demand a financial product for which they then would 'pay' exactly 0 euro/dollar/yen. The pay-off at time t would then also be exactly 0 as long as the central bank adheres to its mandate.

Setting monetary policy would then be picking the appropriate mandate.

[George Machen]

To tunnel Peter's link through the WSJ paywall, use this link:

http://www.google.com/url?q=http://online.wsj.com/article/SB10001424052970204464404577118682763082876.html?mod=googlenews_wsj">http://online.wsj.com/article/SB10001424052970204464404577118682763082876.html?mod=googlenews_wsj">http://www.google.com/url?q=http://online.wsj.com/article/SB10001424052970204464404577118682763082876.html?mod=googlenews_wsj

[George Machen]

Correction, I don't know what happened:

http://www.google.com/url?q=http://online.wsj.com/article/SB10001424052970204464404577118682763082876.html?mod=googlenews_wsj">http://online.wsj.com/article/SB10001424052970204464404577118682763082876.html?mod=googlenews_wsj">http://www.google.com/url?q=http://online.wsj.com/article/SB10001424052970204464404577118682763082876.html?mod=googlenews_wsj

[George Machen]

Oh drat, sorry, this blog won't let me delete posts, and it looks like it's trying to "do me a favor" by parsing my link somehow, and it doesn't work. OK, when you get to the truncated, one-paragraph paywalled WSJ article, go to your address bar and prefix the existing address with this:

http://www.google.com/url?q=

[Pietro M.]

NGDP targeting couldn't have avoided the 2007 recession. Once the economy is on an unsustainable path and the financial system is overstretched, the ability of the economy to multiply high powered money is limited and NGDP must fall, notwithstanding all the free profits the Fed can make banks gain through guarantees and free credit.

It would be a more complex and interesting question to ask whether it could have prevented the conditions for a crisis from forming or at least could have limited the underlying real problems which triggered the crisis.

In the last twenty years NGDP growth has been stable at 6%, slowing somewhat in 2000 and oscillating a little in the early '90s. So, it definetely didn't prevent major imbalances to occur.

A last attempt to salvage the idea is to ask for a constant NGDP: this may make sense. NGDP stabilization (at around 6% at least) surely doesn't.

In my opinion NGDP theories are born in the same spirit of Keynesian theories: theoretical generalizations of observed correlations among aggregate time series.

[Account Deleted]

~

[D]

You've gotta love an article that starts off by making sure we ALL KNOW that the author KNOWS that the Fed and central banking are HONEST, and that only a conspiracy nut would think otherwise; plus, btw, let's establish that only "I," the author, know the correct, non-dubious, monetary theories and policies.
Bravo!
Boettke, you're pretty darn dishonest saying that central banking, the Fed obviously included, isn't a "conspiracy."
Definition:
A secret plan by a group to do something unlawful or harmful.
The action of plotting or conspiring.
But for you I guess since they passed a law it wasn't "unlawful," and since you get paid to shill for it, it isn't "harmful" for you.
I think as a scholar you should let your work stand for itself against that of others. Opening your post by declaring that those you disagree with have a "dubious understanding of monetary theory and policy" is just juvenile.
That said, O'Driscoll makes great points to which you add nothing.
Man, you smug pseudo-economists burn my bottom. "Centralized control of the monetary system is just a naturally occurring phenomenon, not a conscious decision, made in secret and enforced with steel! To think otherwise makes you a kook, and certainly not worthy of State funding!"
Monetary "policy" only works to the extent that you can deceive, and is only used to redistribute resources using fiat money to disguise it; or don't you know that? Any other effects are purely accidental and a result of some bureaucrats and pols not in on the game entirely.
Yeah, O'Driscoll's article merely illustrates bad monetary policy, not grand redistribution. And yeah, that was all accidental, not the reason for having a central bank in the first place...
Some of the professors at your school know this, but they don't bring in quite as many dollars as you do to the department, do they. Wonder why?..
Thank you for changing the name of the blog from Austrian Economists. We wouldn't want anyone getting confused ;)

[Pietro M.]

conspiracy freaks abound. :-)

"You've gotta love an article that starts off by making sure we ALL KNOW that the author KNOWS that the Fed and central banking are HONEST, and that only a conspiracy nut would think otherwise"

there is difference between thinking a politician dishonest and believing in a conspiracy theory. a good economic explanation shall not rely too much on the psychology of the agents, and once understood a little public choice there is no explanandum left for freak epistemologically impaired theories of hidden hands running the universe.

"Conspiracy: A secret plan by a group to do something unlawful or harmful.
The action of plotting or conspiring."

That's playing with words. Conspiracy is a legal term which refers to a group of people acting for unlawful deeds. A conspiracy theory is a bunch of rubbish which puts together false and true facts and theories without discriminating to produce an unreadable mixture of no scientific value. Compare "Conspiracy" by Daniel Pipes for the distinction. Conspiracies have existed: mafia is a form of conspiracy. What makes a theory a conspiracy theory are its methodological flaws and its playing with words, and you are offering plenty of examples.

"Monetary "policy" only works to the extent that you can deceive, and is only used to redistribute resources using fiat money to disguise it"

What you say makes sense, also because it is not a conspiracy theory at all. It is basic public choice: rent seeking behavior by financial intermediaries and government bureaucrats. You don't need to believe in UFOs or Bilderberg or 9/11 conspiracies to understand this. Everybody knows this, and if you want to learn, understanding Boettke's arguments is a good plays to start.

"Some of the professors at your school know this, but they don't bring in quite as many dollars as you do to the department, do they. Wonder why?"

As another example of the cognitive and argumentative impairments which abound in conspiracy theories, ad personam attacks are not arguments and have no informative content on the validity of the theses under discussion.

"Thank you for changing the name of the blog from Austrian Economists. We wouldn't want anyone getting confused ;)"

I'm sure you are not one of the many persons who tainted the word "Austrian" with idiotic theories about conspiracies. But only because no sane and honest person would judge the works of Mises based on your opinion. But the noise made by the scores of likes of you is dangerous for the credibility of the Austrian school.

[guest poster]

“conspiracy freaks abound. :-)” + “ad personam attacks are not arguments”
So, you start off with an attack, calling me a freak, and then complain that ad personam attacks are not arguments. I’m blushing! You just got bonus points on your next exam!
Then you redefine conspiracy, to refute my argument, as … wait for it… exactly what I, and the dictionary, defined it as! Yes, a plan to commit an illegal act! But of course, exactly as I stated, since they did it through Congress, it’s not illegal, and ipso facto it’s not a conspiracy! So members of the Mafia can be involved in a conspiracy, but members of Congress (or Parliament, etc.) cannot by definition. NOW I get it! ;^)
“What makes a theory a conspiracy theory are its methodological flaws and its playing with words, and you are offering plenty of examples.”
But what are my many examples? The fact that I used the same definition of conspiracy as the dictionary; or the same definition as you did; or the fact that I used a definition contrary to that used by someone in a book you cite, without example? I’m frustrated and confused. :( Methodologically, where did I go wrong? In disagreeing with you? That, I believe, is not per se bad methodology. Example please!
“"Monetary "policy" only works to the extent that you can deceive, and is only used to redistribute resources using fiat money to disguise it"
What you say makes sense, also because it is not a conspiracy theory at all. It is basic public choice:”
So what you’re saying is that I’m right, that monetary policy is just what you call the situation when you’ve got fraudulent control over the money supply/system and you manipulate it to get your desired results which are contrary to the results of the market i.e. all of the other people using the money; BUT! it’s still a conspiracy theory because I didn’t utter the words “Public Choice.” Of COURSE there are Public Choice issues; there are Public Choice issues in North Korea… AS WE SPEAK! (shudder) This refutes the fact that it was indeed a conspiracy that brought us the Fed how? Oooooh, right. They made it legal, so what was a conspiracy while they were conspiring to take over the money supply became not a conspiracy once it was made legal by Congress! Duh! ;)
“UFOs or Bilderberg or 9/11…”
Please. I won’t even go there.
“I'm sure you are not one of the many persons who tainted the word "Austrian" with idiotic theories about conspiracies. But only because no sane and honest person would judge the works of Mises based on your opinion. But the noise made by the scores of likes of you is dangerous for the credibility of the Austrian school.”
Well, since your whole attack depends on it not being a conspiracy, let me direct you to Senator Aldrich’s own memoir where he details how a small group of powerful men met in secret and planned (not conspired! never!) to saddle us with the Fed, and then went on to deceive the public by having the bankers rail loudly against it even though they were the ones planning it! If this was not a conspiracy then tear that page out of the dictionary – or the “legal dictionary” you’ve so kindly directed me to.
I’m sorry, but in your quest to stay “Serious,” have you ever considered that those who are the arbiters of what is considered “Serious” in “Official” circles (where your heroes wish to tread, and fear losing their membership cards) are the same ones who benefit from the Fed? Is it any wonder that if you want to stay in their graces you must claim that anything that exposes their criminality will be denounced as a “conspiracy theory”?
The creation of the Fed, and other central banks, was a conspiracy. Monetary policy is what you do when you take control of money from the market and manipulate it. Those who (pretend to) think otherwise are making sure they have their funding secure. To read O’Driscoll’s article, and the millions of other pieces of evidence, and conclude that these are innocent mistakes is dishonest from people as smart as those spouting this nonsense. Yes, there are Public Choice issues with the administration of the stolen money supply… So what? Oranges can have a little green on them, does this make them Greens? The fact that there are Public Choice issues means absolutely nothing in relation to whether hijacking the money supply was fraud, or whether it happened by accident (!) or was the result of a conspiracy. The word conspiracy is just a dog whistle for the less brave – it reminds them that they must bark if they want to be considered “Serious” by the criminal class.
Besides, I thought you guys believed in market money? Oh right, it’s Free Banking.
One final note: Senator. Aldrich’s. Memoir. I mean, if you need more, read the entire history of the creation of the Fed. But seriously, it amazes me that anyone who actually knows the history of this would even entertain, let alone print, the naïve nonsense I hear. But you don’t know the history. Not that you need to. If you tell me that someone took control of the money supply so they could inflate legal tender fiat “money” (i.e. steal), I don’t start thinking about how honest and organic that decision must have been; I hide my commodities.
You probably believe that FDR didn’t want to take the people’s gold, but that the people begged him to do it for their own good.

[Mario Rizzo]

In my view, what is going on is not unique to the Fed. It is the consequence of the federal government creating quasi-independent entities, run by "experts" with technical information, along with the now standard elastic view of the rule of law. The result is: If the experts thinks some "good" can be achieved by a certain action, they will find some way to do it with the advice of "competent" legal authority. The good here is the avoidance of a deep recession in Europe with its negative affects on the US economy.
This is an illustration of the points Hayek made in The Road to Serfdom. This points go beyond the problems of comprehensive economic planning.

[McKinney]

Watching the Fed make loans to foreign banks during the latest crisis was shocking, but it set up the expectation that he would bail out Europe, too. So that's no surprise.

Mario makes important points. As Hayek wrote in "Counter-Revolution in Science" socialists have always believed in the superiority of technical experts and the need for the rest of us to submit to them without question.

So even if you don't promote state ownership of property, you still think like a socialist if you place all of your faith in technical experts to guide the economy.

That is why Democrats have always made a major issue of the superior intelligence of their presidential candidate compared to the Republican candidate. At least since Hoover they have portrayed their candidate as the most intelligent guy around and the Republican as a stupid.

I'm not saying Democrats were always wrong, but you have to wonder about characterizations of Hoover and Eisenhower as stupid. I should disclose that I am not a Republican. I am a libertarian. I'm not promoting the Republican party at all.

Over the next year pay attention to the comics. As with the last election you will never find a comic make fun of the Democrat candidate for being stupid. The unwritten code of the socialists states that Democrats can be mean (Hillary Clinton), corrupt, wooden (the usual portrayal of President Obama) or immoral (Bill Clinton), but under no circumstances can they be portrayed as stupid.

Republicans are always portrayed as stupid. The media does that because they want people to submit without question to the smartest guy, just as Saint-Simon wanted. No one should oppose the smartest guy because he is the only one who can "save" us. No one should oppose anything the smartest guy wants, especially not on principle because principles are nothing but ideology.

Of course, Republicans are socialist-lite.

[Barkley Rosser]

I posted on what the Fed is doing two days ago while still in Chicago at the meetings. As of Jan. 5, they had leant the ECB nearly $100 billion through the swap facility. My theory is that meeting the new Basel III capital requirements in the current difficult environment is proving to be very difficult for the European banks, who are being massively supported by the ECB, even as the latter has scaled back its support for sovereign debtors. Looks like the ECB needs some support for this effort.