Thursday, May 3, 2018

Did the Federal Reserve Blunder on April 30, 2008?

By Robert Wenzel

At Cato-connected Alt-M, George Selgin writes:
In the long, tragic chronicle of the Great Recession, April 30, 2008, doesn't resonate as an infamous date. It lacks the notoriety of March 16, 2008, when, by guaranteeing $30 billion of Bear Stearns’ assets, the Federal Reserve crossed a last-resort lending Rubicon, extending its safety net to an investment bank for the very first time. Nor does it conjure up headlines like those of September 15, 2008, when the Fed reversed course by letting Lehman Brothers — a much larger investment bank — go under.

Yet April 30th 2008 was no less critical a turning point in the recession’s history than these other dates, for it was then that the FOMC, having cut the Fed’s target interest rate to 2 percent, resolved to cut it no further — drawing a line in the sand by which it unwittingly helped seal the fate of the US, and world, economy.
Selgin implies two things here. One that
the Fed should have been more aggressive in cutting interest rates immediately after April 30, 2008, and that it was an error not to do so. Second, the bigger implication is that the Fed can manage the economy without creating distortions.

Both these implications are errors. The period leading up to April 30, 2008 was a period of sustained Fed money printing. Austrian business cycle theory, now apparently tossed on the ash heap at Cato, tells us that a central bank monetary expansion always distorts the economy.

Central banks ultimately are forced to halt the money printing when price inflation accelerates (unless the economy is driven to a hyperinflation) but it is the money printing before the accelerated price inflation that causes the economic distortions. By Selgin claiming that April 30, 2008 was a day of error because the Fed did not want to lower rates further (and thus did not want to speed up the money printing), implies that Selgin is in favor of propping up Fed-created economic distortions with more money printing that will only create even more distortions in the economy,

This leads to Selgin's expanded implication that the Fed can indeed manage the economy and should do so.

He pretty much says this later in his essay:
[H]ere’s a far better alternative, if only the FOMC will use it. That alternative, which Market Monetarists like David Beckworth, Lars Christensen, and Scott Sumner have been pushing ever since the Great Recession started, is for the FOMC to keep its collective eye, not on the inflation rate, but on the level and growth rate of nominal GNP — a measure of the flow of spending on goods and services in the economy. 
This is just some kind of twisted monetarist Keynesianism as though the economy needs some kind of aggregate Fed created money demand boost. As I have argued many times, this cry for a boost in aggregate demand is at its core a rejection of basic supply and demand economics. Markets clear, no central bank or government induced spending is required.

Did the Federal Reserve blunder on April 30, 2008? Well, at least Selgin gets this right, because it did, but the blunder is much more extensive. The Fed blunders every day it is in operation whether it is raising or lowering interest rates. I explained this in more detail here.

Here's the great Murray Rothbard, one of the original founders of Cato, smashing Selgin money printing advocacy to prolong the boom of the boom-bust cycle. (Note: When Rothbard talks about inflation here, he is referring to monetary inflation, that is an increase in the money supply, not price inflation, a general increase in prices.)

Robert Wenzel is Editor & Publisher of and Target Liberty. He also writes EPJ Daily Alert and is author of The Fed Flunks: My Speech at the New York Federal Reserve Bank. and most recently Foundations of Private Property Society Theory: Anarchism for the Civilized Person Follow him on twitter:@wenzeleconomics and on LinkedIn. His youtube series is here: Robert Wenzel Talks Economics. The Robert Wenzel podcast is on  iphone and stitcher.


1 comment:

  1. "As I have argued many times, this cry for a boost in aggregate demand is at its core a rejection of basic supply and demand economics. Markets clear, no central bank or government induced spending is required."

    While I don't agree that the Fed should be doing anything, this is an incomplete take on things. Markets clear IN DUE TIME. In the very short run, prices and wages are not perfectly flexible and do not adjust immediately or proportionately. And this is even within a free market without government intervention. That is, however, not a knock on the market, because the reasons for this are rational(in the Misein sense) on an individual level.

    The free bankers make a great point when they say the banking system can accomodate the disequilibrium. Most of them will say the Fed shouldn't be the one doing it. I think Selgin made a misstep here.