In discussing the problems caused by the Fed's manipulation of the money supply and the resultant boom and bust periods I run across a number of people who claim that though things are not perfect now, they are far better than they were before the Fed came into existence.
I'm not very familiar with the economic history of the era, though I've heard that it really wasn't a true "free market" era then either. Any insights as to what went on and why, particularly with a view to discussing why the Fed is not a necessary entity going forward would be appreciated.
Here's an exchange from a couple of other folks, for instance, on another discussion forum. Statements from "John Galt" (JG) will be in quote marks. Responses from an economist using the handle, "Vox Rationalis" will be labelled (VR)
Think Twice Before You Join the Deflationist School of Thought
JG: "How about the bigger booms and bigger busts that the Fed was responsible for pushing?" VR: Completely untrue. Please see 1807-1810, 1815-1821, 1837-1843, 1873-1879, 1882-1885, and 1893-1897. JG: "Do you really think Ben Bernanke can set the price of money better than 300 million people with distinct values?" VR: I think the Fed has proven over the last 60 years that it is far better at regulating the money supply than the private sector was before the Fed existed.
So like I said it's a public-private fusion. Private individuals own it but the government controls it.
Pretty much. The banks apparently get a maximum of 6% dividends on their investment, like a preferred stock.
"about 95% of the Reserve Banks' net earnings have been paid into the Treasury since the Federal Reserve System began operations in 1914"
The President appoints the decision makers who have to be approved by the Senate, but theoretically the Chairman could "disobey" the President's wishes as former Chairman Volker did in the 1980s.
I think the big benefit to the private owners is that they get bailed out if they fail. The lender of last resort function helps the banks. So does the availability of cheap credit when the Fed lowers rates. Who gets to borrow billions at 1 percent? Not me.
Excellent question.
Corporatism is using state means to enhance market share and profitability of a few favored firms, at the expense of the citizen.
Thomas E Woods mentions that the booms and busts were caused by fractional reserve lending in a recent book of his.
All that's need for prosperity is low or no spending, low or no taxes, hard money and a national full reserve law. That's it.
The Long Depresion (1873-1879) is a myth, it did not exists.
From Rothbard Money and Banking in the USA:
Orthodox economic historians have long complained about the “great depression” that is supposed to have struck the United States in the panic of 1873 and lasted for an unprece- dented six years, until 1879. Much of this stagnation is sup- posed to have been caused by a monetary contraction leading to the resumption of specie payments in 1879. Yet what sort of “depression” is it which saw an extraordinarily large expansion of industry, of railroads, of physical output, of net national product, or real per capita income? As Friedman and Schwartz admit, the decade from 1869 to 1879 saw a 3-percent-per- annum increase in money national product, an outstanding real national product growth of 6.8 percent per year in this period, and a phenomenal rise of 4.5 percent per year in real product per capita. Even the alleged “monetary contraction” never took place, the money supply increasing by 2.7 percent per year in this period. From 1873 through 1878, before another spurt of monetary expansion, the total supply of bank money rose from $1.964 billion to $2.221 billion—a rise of 13.1 percent or 2.6 percent per year. In short, a modest but definite rise, and scarcely a contraction. It should be clear, then, that the “great depression” of the 1870s is merely a myth—a myth brought about by misinterpretation of the fact that prices in general fell sharply during the entire period. Indeed they fell from the end of the Civil War until 1879. Friedman and Schwartz estimated that prices in general fell from 1869 to 1879 by 3.8 percent per annum. Unfortunately, most historians and economists are conditioned to believe that steadily and sharply falling prices must result in depression: hence their amazement at the obvious prosperity and economic growth during this era. For they have overlooked the fact that in the natural course of events, when government and the bank- ing system do not increase the money supply very rapidly, free- market capitalism will result in an increase of production and economic growth so great as to swamp the increase of money supply. Prices will fall, and the consequences will be not depres- sion or stagnation, but prosperity (since costs are falling, too) economic growth, and the spread of the increased living stan- dard to all the consumers.145 Indeed, recent research has discovered that the analogous “great depression” in England in this period was also a myth, and due to a confusion between a contraction of prices and its alleged inevitable effect on a depression of prices and its alleged inevitable effect on a depression of business activity.146 It might well be that the major effect of the panic of 1873 was, not to initiate a great depression, but to cause bankrupt- cies in overinflated banks and in railroads riding on the tide of vast government subsidy and bank speculation. In particular, we may note Jay Cooke, one of the creators of the national banking system and paladin of the public debt. In 1866, he favored contraction of the greenbacks and early resumption because he feared that inflation would destroy the value of government bonds. By the late 1860s, however, the House of Cooke was expanding everywhere, and in particular, had got- ten control of the new Northern Pacific Railroad. Northern Pacific had been the recipient of the biggest federal largesse to railroads during the 1860s: a land grant of no less than 47 mil- lion acres.
Well, perhaps abolishing fractional reserve banks would eliminate booms and busts--just as abolishing authomobiles will eliminate traffic accidents.
Why don't we leave it to liberals to solve economic problems by finding things to ban?
Fractional reserve banking has proven both safe and very beneficioal were it hasn't been corrupted by government interference. The Rothbardian suggestion that you can only have stability by banning it is as empirically false as any economic proposition can be. Look at Canada; look at Scotland. And if you don't think that fractional reserves matter much for economic development, read Rondo Cameron's studies on that subject. We owe much of our prosperity today, such as it is, to fractional reserve banking, even despite misguyided regulations that have rendered our banking system among the least stable in the industrialized world.
Don't get me wrong: I like Tom Woods. But in condemning fractional reserve banking rather than perverse regulations to which it has been subjected over the years for our economic woes, he is guilty of throwing out the baby with the bathwater.
Selgin,
I would love for you to respond or point me to a response to the critic that the theory of "Monetary Equilibrium" and Fractional Reserve Free Banking rests on Macroeconomics analysis. This critique is summarized quite well in de Stoto's "Money, Banking, ....." starting an page 688 of the online version. He uses an example that according to the foot note (134), you yourself acknowledges as a possibility. I really have not been able to find any adequate response to this.
Selgin: "suggestion that you can only have stability by banning it is as empirically false as any economic proposition can be."
It seems that the empirical evidence you are talking about is always based on criteria for stability that is highly controversial. For example, using number of bank failures over a period of time to measure stability. As your critics have pointed out, such low rate of failures can be, in fact, highly suspicious, for it could mean government granting suspension of specie payments during crisis. And in fact, when using the boom/bust criterion, isn't it true that all such examples for alleged free banking you refer to were constantly prone to boom/bust cycles? As in the case of Scotland, for example.
Selgin: Fractional reserve banking has proven both safe and very beneficial
Fractional reserve banking has proven both safe and very beneficial
I would love for you to respond or point me to a response to the critic that the theory of "Monetary Equilibrium" and Free Banking rests on Macroeconomics analysis. This critique is summarized quite well in de Stoto's "Money, Banking, ....." starting an page 688 of the online version. He uses an example that according to the foot note (134), you yourself acknowledges as a possibility. I really have not been able to find any adequate response to this.
Well, perhaps abolishing fractional reserve banks would eliminate booms and busts--just as abolishing authomobiles will eliminate traffic accidents. Why don't we leave it to liberals to solve economic problems by finding things to ban? Fractional reserve banking has proven both safe and very beneficioal were it hasn't been corrupted by government interference. The Rothbardian suggestion that you can only have stability by banning it is as empirically false as any economic proposition can be. Look at Canada; look at Scotland. And if you don't think that fractional reserves matter much for economic development, read Rondo Cameron's studies on that subject. We owe much of our prosperity today, such as it is, to fractional reserve banking, even despite misguyided regulations that have rendered our banking system among the least stable in the industrialized world. Don't get me wrong: I like Tom Woods. But in condemning fractional reserve banking rather than perverse regulations to which it has been subjected over the years for our economic woes, he is guilty of throwing out the baby with the bathwater.
Hi, I have to say that I was oposed to fractional reserve banking, but watching the video of your Mises Institute conference in Youtube made me think again about it. It was a great history conference. I religiously watch all those conferences in Youtube and yours was one of the most interesting ever (but I have to say that I am probably not being objective since monetary history has been my hobby since discovering Ron Paul).
The idea that under a free market the people would just not allow fractional reserve has sounded allways weak to me, but I have allways been oposed to fractional reserve (even before reading Rothbard), that is until I heard your conference. I have also been hearing to Huerta de Soto, who is completely oposed to fractional reserve banking, and I like his idea about the nullity of a fractional reserve contract since its imposible to be enforced in reality. I would like to know your take on his idea.
Also, if you can point me to some article of yours describing how you think a fractional reserve system should operate it would be great.
Dear Hugolp: On how unregulated f-r banking works, I can;'t help recommending my Theory of Free Banking. Though it is out of print, there's no article-length treatment I can think of that spells things out as completely as I tried to do there. The book is scheduled to be included in Liberty Fund's Online Library of Liberty in a month or so.
Concerning DeSoto's arguments: although in terms of sheer volume they appear formidable, the impressive pile rests on the false premise that a "deposit" can have no other legitimate meaning in banking law than that which Roman law assigns to the term "depositum." The history of English (and thus American) banking law is utterly contrary to this claim. Indeed, as I show in my paper "Those Dishonest Goldsmiths" (available online through SSRN) the modern understanding of a bank deposit contract as a debt contract(rather than a bailment dates to the early 17th century--if not still further back in time.
I don't see how the controversy over "legitimate meaning in banking law" has anything to do with what seems to be a devastating critique of your position, namely, that your economic theory (not legal theory) rests on Macroeconomics analysis and ignores the microeconomics effects that are at the heart of the business cycle theory.
I appreciate your response, but I have not been able to get any adequate response for this critic from you or any of your fellow colleagues who share your views. This issue is always ignored or evaded. This is quite frustrating and I was hoping that perhaps you can alleviate this frustration today. The analysis of how Equilibrium theory ignores the microeconomics effects refutes your entire economic theory unless you can convincingly show where the error is in the economic analyses of your critics. If such a response exists, I would love to see it.
The usual groundless assertions; DD5; the usual spitting and spluttering. I'm happy to let those who are actually willing to read my work, and to read it with an open mind, decide whether my arguments are based on microeconomics or not; and am happy to answer any doubts they may have concerning how any particular argument I've made squares with individuals pursuit of their self interest and with firms quest for profit.
I did not assert but rather conveyed to you what my impression is regarding what both sides have to say on economic theory. It seems that one side has presented a detailed argument for why "Monetary Equilibrium theory" rests on false economic premises. Now, perhaps this argument is itself fallacious, so I ask you to suggest a counter argument that responds to this particular criticism. What is wrong with the analysis of "Monetary Equilibrium Theory" as presented by de Soto on pp 688?
I have no idea what argument you have in mind DD5. If you want to indicate a particular error in my work, just do it, instead of referring cryptically to some "argument" without saying which or where. If you want to refer me to some article, fine. But I'm not inclined to address an entire article's content on a chat page, even if I thought the thing worth addressing. That is what the journals are for. The web is a place for addressing particular issues at most: my employers don't pay me to spend oodles of time on web forums, after all!
Selgin: " If you want to indicate a particular error in my work, just do it, instead of referring cryptically to some "argument" without saying which or where. If you want to refer me to some article, fine. "
That's what I did and I thought it was clear. However, I apologize if there was a misunderstanding. I'll post it gain, and this time with a link. It starts on page 688 - The Theory of "Monetary Equilibrium" in Free Banking rests on an exclusively macroeconomic analysis. at http://mises.org/books/desoto.pdf
THE THEORY OF “MONETARY EQUILIBRIUM” IN FREE BANKING
Other Austrians have made similar claims but I believe de Soto summarizes this position quite well in his book.