Interview with James Grant

Winter 1996
Volume 16, Number 4

An Interview with James Grant, editor of Grant's Interest Rate Observer

AEN: Your argument about business cycles in The Trouble with Prosperity rests heavily on the work of the Austrian economist Wilhelm Röpke instead of the more well-known Austrians.

GRANT: I am an observer of the contemporary scene, a journalist, rather than a theorist. I picked up Austrian economics almost everywhere except in school. It came to me, and I to it, in the way that the Austrians say that so many good things happen, that is, by accident, rather than by design.

Over the years I read Mises, Hayek, Rothbard, and others on interest rates, capital, and the business cycle. I've long been inspired by Henry Hazlitt's career, someone who wrote as well as he did, and as long. To think that this man professed the ideas he did in the pages of the mainstream press is certainly startling and revelatory.

I chose to feature Röpke because of his book Crises and Cycles, which appeared in English during the Great Depression. He offers a clear and forceful exposition of the mechanics of the Austrian interest-rate and business-cycle model, and the very difficult but rewarding structure of the theory itself. Vera Smith must have done a great job in translating the work. By the way, I recommend Vera Smiths book The Rationale of Central Banking as a further elucidation on Röpke's already clear theory. I know there are all sorts of holes in my bibliography; there might be better and more faithful explanations than Röpke offers. But I really do recommend this to people for its simplicity.

AEN: In your book you refer to the "welfare state of credit"?

GRANT: It is a structure of regulators, lenders, and borrowers, and the system is dedicated to stability, the greatest good of the welfare state of credit. The Federal Reserve sits at the head of the table. Somewhat below the salt are the various private institutions not deemed critical to the stability of the system itself.

Above the salt are the institutions that are too big to fail and the regulatory bodies. This includes the Comptroller of the Currency, the FDIC, lenient bankruptcy law, and the whole structure of fiat money generally. Fed policy with respect to domestic interest-rate manipulation and foreign-exchange manipulation also figure into it.

The system is established to avoid runs, panics, depressions, financial turmoil, and other upsets. The idea is to head off the contractions before they happen. It is the financial counterpart of the more familiar welfare state of income and of labor. The welfare state of credit is built to resist a repeat of the events of 1907 and 1931, just as the welfare state of labor--including the 1946 Employment Act--is built to forestall another Great Depression.

AEN: And what is the consequence of this welfare state?

GRANT: To promote great bull markets and excessive risk taking in the financial and investment market. The fiscal and labor welfare states generate the perverse effect of feeding the very diseases they are supposedly trying to cure. In a similar way, the welfare state of credit feeds speculative frenzies and excessive risk taking in the financial and investment markets, while attempting to prevent the losses associated with excessive risk taking. It creates the boom that causes the bust, but it attempts to abolish the bust.

The long-run consequence is to subsidize instability and economic stagnation in difficult-to-predict ways. The boom-bust can appear in specific sectors and at other times in whole industries. But it doesn't often appear in extreme ways at the macroeconomic level. The system is designed to prevent that from happening, and it usually does.

It's been more than twenty years since the American stock market has been through a bracing bear market. My book argues that this is not evidence of success; it's evidence of the artificiality of the system. Our milder down cycles have coincided with ever weaker up cycles. This is the key to understanding the characteristic torpor of late-20th-century GDP.

AEN: Usually the Fed is criticized for being too strict in its lending standards.

GRANT: That is exactly the misconception. To my mind the Fed is a cross between the late, unlamented Interstate Commerce Commission and the Wizard of Oz. It is a Progressive Era regulatory body that, uniquely among the institutions of that era, still stands with its aura and prestige intact.

It is a remarkable thing that people believe the Fed can and does assure peace and prosperity. People believe the Fed can do just about anything, up to and including the prevention of tooth decay. Greenspan has almost been canonized. Notably, Paul Volcker, in the heat of the ultimately successful anti-inflation fight of the early 1980s, enjoyed no such lofty reputation.

AEN: How do you go about evaluating the Fed's reputation?

GRANT: As a financial practitioner, I try to imagine that abstract financial and economic ideas can be expressed in the form of a publicly traded security. So I think of the Fed as a stock. As a publicly traded company, how would it be evaluated in the marketplace? Where would its stock trade? Where would the stock of a managed currency generally be trading these days as opposed to where it had been trading in the past?

In 1981, after Volcker had taken over, the Fed was figuratively trading at about three times earnings, about one half of book value, and a dividend yield of 15%. The Fed was regarded as either impotent or incompetent or more likely both. It was for sale. Inflation was a perpetual pox on the United States, and there was nothing to be done about it. Volcker was merely giving us gratuitously high interest rates. That was the Feds standing when we all should have been long on the Fed, and we should have been selling gold and buying U.S. Treasuries. The Fed was written off as a nullity.

AEN: And today?

GRANT: Fifteen years later, the Fed is trading--figuratively--at forty times earnings, five times book value, and it is yielding nothing, because people now believe in the integrity and the efficacy of managed currencies. They believe furthermore--and even more remarkably--in the clairvoyance of these intrabeltway economic planners known as central bankers.

Central planning may be discredited in the broader sense, but people still believe in central planning as it is practiced by this one institution manipulating one interest rate. The Fed does not set rates; it sets a rate, namely the federal funds rate. Its first and second cousins--including overnight repo rates--are affected more or less directly according to their proximity to the funds rate in the yield curve. The Fed doesn't control the long bond; it merely influences it, and very indirectly at that.

AEN: Why do people believe the Fed is all-powerful?

GRANT: I'm still stunned they do. I dont know why, except that the welfare state of credit has been quite successful in perpetuating the greatest bull market ever. It's hard to hate. Greenspan and the Fed are glad to take the credit. And this is what I fault him for more than anything. I dont fault him for giving us the wrong rate. I'm not sure if anyone knows what the right rate should be; the number one fallacy of the present monetary system is that people presume to know.

But Greenspan knows better, and knowing better, he still pretends he is the financial wizard the American public wishes him to be. People need to believe that somebody is in charge. The idea that no one is in charge would not surprise or disturb the proponent of Austrian theory. But I think it would not embolden the average buyer of mutual funds. People believe that Greenspan is out there, not only knowing what the right rate is, but also giving it to us.

AEN: Why do you say Greenspan should know better?

GRANT: If anyone in the federal bureaucracy could write an intelligent essay on the thought of Ludwig von Mises, it would be Greenspan. He has been presented with these ideas; he even professed them at one point in his life. Instead, he leads us to believe that by the manipulation of one interest rate among uncounted interest rates, he can regulate the metaphorical temperature of the economy to give us 72 degrees four seasons out of every year. He loves the game. He loves being The Man.

AEN: How would he respond to your criticism?

GRANT: He would say, "that's not true: I've often warned about cycles." But he hasn't. He has never come out and mouthed the crucial Austrian insight: artificial booms cause busts. He has never said that when you artificially subsidize credit creation, you disturb the markets investment architecture. Greenspan has been intellectually derelict. He will talk about cycles as outside nuisances that are correctable by a deft tug on the funds rate.

Greenspan's colleague Alan Blinder was particularly cocky about this after he left the Fed. He would say: "If we had only gotten this right in 1990, we wouldn't have had a recession." Imagine. If they can get the right funds rate, well never have another downturn. Wow. That's pretty good! How did the Soviet state ever come to grief? It didn't have the right interest rate!

Again, once you accept the principles of the Clairvoyance Standard--that the central bank, knowing the future, should act to improve it before it happens--then you can argue about who is the clearer clairvoyant. The method itself is unsound.

AEN: Isn't there a sense in which the Fed is responsible for recession?

GRANT: If it follows a Fed-induced bust, it is only indirectly responsible. The Fed is not responsible for the institution of a business slump and neither should it attempt to outlaw it. The boom sows the seeds of its own destruction. Remember, there were plenty of recessions before December 22, 1913, when the Fed was enacted. I don't know of any state-of-nature economy in which there is perpetual prosperity.

AEN: That brings up a tension in your book. Do you regard the business cycle as endogenous or exogenous to the market?

GRANT: As an observer of day-to-day events, it seems to me that, for causes that are not set in motion by a central bank, but for other reasons, people will take it into their heads to overdo it or underdo it in markets. This is true in specific sectors or financial markets generally. That's the nature of the market; it gets things wrong and self corrects.

For example, I can't account for the last three or four years in the stock market simply from the point of view of Fed actions. Of course, you can say: by suppressing the funds rate in 1993, the Fed set in motion a credit-induced speculation that has carried well beyond the monetary event itself. But the proximate cause set in train a speculative frenzy that has far outlasted the first cause. Even apart from Fed intervention, you can't rule out the power of conditioned behavior.

AEN: In what sense?

GRANT: For a time, the funds rate was the highest point on the Treasury-yield curve up to about five years, which is arguably too high. A mechanistic view of the Austrian theory might predict a downturn. Yet the speculative frenzy continued. And compare this with previous decades. From the time of the crash in 1929 to the ensuing liquidation of 1932, all the way until 1954, people swore off common stocks. There were many times during that period when the Fed gave us a preposterously low rate of interest, one that should have set in motion a credit-induced boom.

But in 1946, consumer prices rose to the mid-teens, bonds yields were at 2.25%, yet there was no rush to take out bank credit with which to finance new projects. Why? Yes there was regulation. But more to the point, there was a settled attitude of risk aversion. There was a morbidity about the next depression.

The relationship between the Fed and the macro-economy is not set in stone. The Fed's past actions and inactions, and the expectations people have developed about its future actions, have a profound impact on the financial culture and on the direction of the cycle.

AEN: Are you suggesting a revision to the orthodox Austrian business cycle model?

GRANT: Not at all. I'm suggesting that we avoid the temptation to tear the Austrian model away from the larger context of Austrian theory. We don't want to end up with a Rube Goldberg contraption that proves useless in explaining real events. The larger body of Austrian thought includes insights about uncertainty, subjective valuations, and peoples perceptions of events.

We can explain events at some level by referring to the last credit experience. But week to week, there is a lot going on in markets that has to do with attitudes and collective impulses that are not immediately reducible to central bank actions. That's why Austrians must be cautious about rendering the business cycle theory too deterministically, while forgetting other parts of the broader theory of market behavior.

AEN: Even a central bankers words, then, can mean more than his actions in this hothouse.

GRANT: Right, and so can silence. To the extent that people regard Alan Greenspan as the protector and defender of the financial faith, and to the extent that Greenspan does not say cautionary things before the Senate Banking Committee, to just that extent, he is guilty of a sin of omission.

Should Greenspan be telling the market where fair value should be? No. But people have come to take him as the J.P. Morgan of the day--the leader of the financial markets. And he is not saying the things he ought to say to make people less inclined to ride to temporary riches during a false recovery.

AEN: You write that Marriner Eccles, like Greenspan, often warned the Senate of the danger of inflation.

GRANT: That's standard central-banking boilerplate. They know what to say and many of them say it very well. Not all do. For his part, Greenspan speaks central-banking Esperanto very well, which is not the same thing as lucid speech. It's not intended to be.

Central bankers may decry one form of inflation. But among the contributions of the Austrians is the insight that there can be an inflation of assets as well as an inflation of prices. In Wall Street and the financial press, inflation means one thing only: the CPI going up. But to students of the Austrian School, that isn't even half of it.

AEN: How can we tell, then, what the Fed is really up to?

GRANT: It's only possible at the extremes. Day to day, it is difficult to know. Certainly in September 1993, it was clear what the Fed was up to. The headline in Grants was: "Lets Borrow Some Money." It was my way of declaring my conviction that rates were too low and were bound to go up.

Here's one way you can tell. When the Fed imposes a really low rate, the speculators will seize it opportunistically, will borrow at that rate, and will buy securities yielding a better rate. If the Fed has given us a 3% funds rate--financing costs, in the phrase of the bond market--people borrow at 3% and invest at 4.5% or 5%. You can do this all day and all night.

There are ways of keeping score on this. When you see loans piling up to finance securities, you know the Fed is financing an old-fashioned "Boys Night Out." That was plainly true in late 1993 and into 1994.

AEN: This appears analogous to what happens to the capital markets in a more traditional Austrian-style boom.

GRANT: In the same way there is a structure of production, there is a structure of finance and a structure of speculation. It is given to us by the yield curve, the alignment of rates over time. It can be bent out of shape by the Fed just as the relationship between capital and consumption can be distorted.

The distortion of the structure of speculation results from a stimulus in the front end of the yield curve. This enhances instability because the entire structure becomes vulnerable to a change in the cost of borrowing, that is, a change in the funds rate. When the Fed tightened in 1994, that structure toppled down. It caused the most loss-ridden year in the history of the U.S. bond market.

AEN: And Austrian theory helps you visualize the trends?

GRANT: If you know that the economy is dominated by the time-bound structures of production and speculation, the world comes into clearer focus. These are not just abstractions. We applied this notion of artificial stimulus very profitably in 1995 by focusing on the semiconductor industry. We saw that one consequence of this 3% funds rate was a capital spending boom in semiconductors. We said that Micron Technology--which was then in the most active list at the New York Stock Exchange--was overvalued. The stock later went from 94 to 30.

Of course, we've been wrong a lot too, especially on the overall direction of the stock market. But we have been very right in certain situations in which we have been able to apply the ideas of the Austrian School.

AEN: How do you sort out short-term glitches from structural distortions?

GRANT: What we do is look for extremes in markets: very undervalued or very overvalued. Austrian theory has certainly given us an edge. When you have a theory to work from, you avoid the problem that comes with stumbling around in the dark over chairs and night stands. At least you can begin to visualize in the dark, which is where we all work.

The future is always unlit. But with a body of theory, you can anticipate where the structures might lie. It allows you to step out of the way every once in a while. So I'd like to put in a plug, not just for the theory itself--as elegant as it is--but for the application of the theory for calling the turn of cycles in the workaday world.

AEN: What about the monetarist ideal of stable money?

GRANT: To achieve it requires, at minimum, a clearly defined and controllable monetary aggregate. If that were ever possible, it's not anymore. Nobody even cares what the aggregates say. Some people pay attention to total debt. But as to M2, M1, M3? No. They are as outre as knickers.

It's not just a matter of fashion either. It is fundamental. Technology has allowed one dollar to do the work of many dollars. The rate of turnover in money has been heightened enormously by computer technology. Every day over one international banking wire, the CHIPS wire, more than $1 trillion worth of transactions take place.

There are all sorts of wondrous technological advances in money. So-called "sweep accounts" are one example. Suffice it to say that it was always hard to count this stuff called money. It is harder now because it moves so fast. There are many near-money things that seem to do the work of money in transactions. So monetary aggregates no longer seem to count.

Doctrinaire monetarists don't give up so easily. They still insist that bank reserves are the thing to watch. If you know bank reserves and the growth rate thereof, you will be closer to the kingdom of Heaven. I don't see that.

AEN: Is money counting impossible in practice and theory?

GRANT: There is such a thing as a money supply, but it is quicksilver. Just when you think you've captured it, you haven't. There are all manner of ways for money not to be counted. However good the Fed has become at counting money, the private market has been that much better at reinventing it. The proof of the lack of utility of monetary aggregates is that people don't pay much attention to them.

AEN: That goes for the Fed too?

GRANT: Right. The Fed will give a growth target for M2 and M3 (they've stopped trying to target M1). But these don't mean much. Austrians are dead set against counting things you can't count. Increasingly money seems to be one of those things. But that shores up the Austrian end of the debate, and poses terrible problems for those who believe in monetary central planning.

AEN: Are there any other techniques beside watching the yield curve to determine what the Fed is up to?

GRANT: The dollar exchange rate is worth watching. If there are too many dollars in the world, other things being the same, the dollar will tend to weaken. The trouble comes with the reserve currency fandango: foreign central banks are hoarding dollars. They buy dollars and then obligingly invest them in the securities issued by the very government that is helping to perpetuate the payments deficit. Once you get over that hump, you have to ask: what does this array of exchange rates and yield curves tell you about Fed actions?

Then there is the statistical way of looking at the Feds actions itself. The Fed is a bank, at least in form and structure, and it publishes a balance sheet. We track this and study the rate of its growth. We look at the rate of turnover in deposits. We look at the level of borrowing to finance speculative holdings and dealer holdings of Treasuries. We look at mutual fund flows and central bank purchases of dollars and the like.

We are eclectic because changes in Fed policy occur at the margin and were going to have an edge if we find trends in an obscure place rather than a familiar one. We look at extremes, obscurity, and the contrary outcome because that's where you get the best odds in investment and speculations.

AEN: Does all this make it impossible to forecast change in the overall price level?

GRANT: Harder, certainly. But that's not where the real action is. It is possible to travel from the bottom to the top and back to the bottom again of a business cycle and see no changes in overall prices for final goods. That's just what Murray Rothbard pointed out about the 1920s. Like the 1990s, it was a time of material progress. Costs were falling and prices should have been falling but weren't, ergo, Murray inferred there was a credit inflation. And you could see that expressed in equity prices, and the prices of securities and claims. I think that is what is happening at this moment.

AEN: Will the newly-created indexed bond improve our discernment abilities?

GRANT: The theory is that it will reveal future inflation to policymakers. But they will be severely disappointed. There are a number of different inflations. Whichever one they focus on will be the wrong one. And will not improve the information available to the Fed to run monetary policy. Moreover, it doesn't excite me at all as a speculative or investment vehicle. Any securities innovation coming from the government leaves me cold as a first principle. You can have my share of any and all future indexed bond issuance.

AEN: Is it another example of the attempt at monetary central planning?

GRANT: It is worse. It is a symptom of Greenspan's fundamental failing that will prove to be his undoing. Before this is all over, there will be a big speculative upset, a loss of faith in financial assets, and a loss of faith in the steward of financial markets: Greenspan himself. His tragic flaw is that he thinks--contrary to the teachings of the Austrian masters--that there is some piece of data that will allow him to see the future clearly and head it off at the pass. He really believes that, notwithstanding what he knows about Mises.

There is no worse error. Somebody once told me that when Greenspan went to Washington, he felt that at last he would have the information he needed to make him a great economic forecaster. He evidently thought that in the upper-left-hand drawer of his desk, there was going to be a chart book that would show him everything.

AEN: There has been a perception that Greenspan and the Clinton administration are very close.

GRANT: It isn't clear that his refusal to raise rates before the election was necessarily political. But Greenspan's career has been an essay in careerism. He has sought out power and prestige, the great and the good, and wants to be one of them, and he is. He has arrived. He is an establishmentarian who is going to do things in the establishmentarian way.

AEN: What do you think was really behind the Mexican bailout?

GRANT: The peso has never had a bull market. It has always deteriorated. Its melt rate has been hotter and colder, but it has never failed to melt. It is remarkable that, even for a few fiscal quarters, people would suspend their knowledge of its certain path. It is no less remarkable that the Mexican people put up with what they put up with.

It goes back to the primary goal of the welfare state of credit: stability. That's what Robert Rubin and Greenspan want. There is nothing quite so unstable as a run on a currency, as a run on a mutual fund that happens to have gotten itself too long of Mexican Treasury bills. The taxpayers are not out of pocket but there ain't no free lunch, and the Mexican bailout was an example of a particularly unappetizing peanut-butter-and-jelly sandwich.

Stability is a false ideal. Instability is a vital and necessary part of the capitalist drama. The purpose of the downside of the business cycle is to make the economy clean and honest again. To reduce the downside is to dampen the upside.

AEN: Is the deficit really going down?

GRANT: To find the deficit, look not at the published number. It doesn't incorporate the debt of the Social Security trust fund or other pockets of government debt. Look at that annual addition to public debt. While the reported deficit is falling dramatically, the rate of growth in public debt is slowing, but not as much.

Another way of getting at the deficit issue is to ask what the deficit signifies for interest rates. Between 1981 and 1993, when the deficit was expanding at a break-neck pace, bond yields were being chopped in half. If the reason people care about the deficit is the putative connection it has with mortgage rates, that connection does not exist. The deficit is bad because it suggests a profligate government and an unsound monetary regime, and because it is eventually paid at public expense.

AEN: Should we deplore the current boom?

GRANT: I'm at my worst when I deplore. I'm supposed to be thinking about how to get ahead of the curve. How do we profit from whatever excess is upon us? The excess could be one of extreme caution, but we haven't seen that for 15 or 20 years. I'm a bear in a bull market, which is wrong. The really seasoned observer is supposed to be in step with things, not credulous of the existing trend, but still not fighting it.

AEN: It just goes to show that even the smartest forecasters can't know it all.

GRANT: Thanks, but here's something I'd like a full-blown Austrian economist to tell me. Why is it that a certain redundancy of credit and money in central bank assets at one point in the cycle can give rise to inflation in common stocks, but at another point in the cycle, it gives rise to an inflation of goods and commodities but not of common stocks? Why does the excess seem to flow into variable channels? In 1946, we got high meat prices and low stock prices; in 1996, we get low meat prices and high stock prices. Why is that? Maybe an Austrian business cycle theorist can write a book--in English--explaining that mystery.

AEN: What if deposit insurance were abolished today? What would happen to the banking system?

GRANT: Right now? Nothing. The reason is the same reason the Nasdaq is selling at 45 times earnings, the same reason that gold wont go up, the same reason every single corporate bond in the world seems to be priced as if it were a government security. This is a bull market. In a bull market, confidence is perfect. People doubt nothing. Abolishing deposit insurance would be regarded as another wholesome Clinton reform on downsizing government. In a real economic downturn, the story would be very different.

Again, my footnote-scale contribution to the Austrian debate would be to urge people not to underestimate the collective psychology of investors, voters, the general populace at various times in the cycle.

AEN: Any comments about its origins in the 1930s?

GRANT: At the bottom of the cycle in 1933, the government introduced deposit insurance. It seemed to be a great thing for the country, a long-overdue reform, and, at last, the key to the stability of the financial system. But it was at this moment when it wasn't needed. The banking system had already been liquidated. There were no bad assets to purge because nobody was making any loans.

It was supposed to encourage risk-taking, but it didn't work. In an anti-capitalist environment, youre not going to be very successful in encouraging risk-taking by insuring deposits. That was the ironic timing of the reform. It would stand to reason that they'd take it off at the top of the cycle when the bad loans in the future were being made.

Notoriously, deposit insurance was increased from $40,000 to $100,000 in 1980. That was a fatal increase. That got the credit boom in the real estate industry rolling along. That got every two-bit S&L in the country involved in the commercial real estate business. That was the last big increase. Even the government now knows what it means to subsidize a moral hazard.

AEN: Do you think the consumer credit market is itself a creation of loose credit?

GRANT: It has been subsidized and encouraged by the central bank, and the rise of debt that has come with it, but it has a life of its own--by and large a successful life, I might add. Wilhelm Röpke criticized all consumer credit as being a product of the inflationary age. He couldn't have anticipated how fully developed the market would end up.

In Germany today, consumer credit is only a minor fixture in the financial markets; the main use of credit cards is to debit ones bank account, not to run up balances. Americans think Germans have it all backwards; the purpose of credit cards is to get yourself in debt and go to Aruba.

AEN: Does the American practice have advantages?

GRANT: America has shown that a bank can stay open 24 hours a day. It has shown that you can conduct business without a teller discovering the details of your personal financial life. That's great. The technique of consumer finance in America is wonderful. Has it opened the way to abuses? Certainly. Has it changed the nature of the economy? Certainly, for better and worse.

AEN: Yet under the gold standard, the availability of credit was severely restricted.

GRANT: Correct, and only by degree did bankers come to trust ordinary working men and women. There is nothing incompatible between the gold standard and a democratic regime of credit. Nineteenth-century bankers miscalculated and overlooked a great business opportunity when they overlooked the average American worker. Had World War I not happened, the markets would have discovered, through trial and error, that consumer credit is a legitimate and lucrative business. As it turns out, consumers collectively have presented a much better credit risk than corporations individually. That's not likely to remain true indefinitely.

The purpose of markets is to test the limits of ideas, and sometimes take them to absurd extremes. Markets tested the absurd extremes of financial leverage in the 1980s. They've tested the absurd extremes of the equity market in the 1990s. They've tested various structures of corporate finance during various cycles. Markets will test the extreme limits of consumer credit too.

AEN: You write in The Trouble with Prosperity that the military represents a kind of "shadow socialism."

GRANT: It is a distinct form. Look at the city-state collectivism of the aircraft carrier. It has all the inefficiencies of socialism, and all the quirks, complete with black markets on the hangar deck. People are buying and selling government property. Like all socialist systems, it is parasitical on outside markets.

The great paradox of the Cold War is that in the name of defending freedom, America sacrificed much of her own freedom, and even became a Garrison State. Regimentation became an important undercurrent in national life, and a destructive one. We should be thankful that the society is so resilient and adaptable. Lew Rockwell and the late Murray Rothbard always point out how the tradition of the Old Right was far more anti-militarist than today's political class, and precisely because militarism represents a threat to liberty.

AEN: Do you have personal favorites among the anti-statists of the 1930s?

GRANT: I'm a huge fan of Garet Garrett, a wonderful writer and thinker. He was a great pal of Bernard M. Baruch. I wrote a book about Baruch a while ago, and while reading through his papers, I found a correspondence between them. I came to be an admirer of Garet Garrett. He was so industrious and productive. He was such a student of markets and Wall Street among other things.

In 1922, he wrote a great book called The Driver. It was about a railroad titan, and it's clear to me that Ayn Rand--shall we say borrowed?--from this book for Atlas Shrugged. I discovered this when I was working on the Baruch book in the late 1970s.

Garrett also wrote a biography of Henry Ford called The Wild Wheel, among many other books. He wrote for the Saturday Evening Post, and for the old Evening Post. In any case, he was a terrifically prolific and high-class journalist.

AEN: Where has the Garrettian-style attachment to principle gone?

GRANT: It's certainly not on Wall Street. What makes a successful investor is, among other things, a finely developed sense of expediency. A successful operator in the stock market is someone who gets on the right side of the primary trend and stays there. He does not object if the motive force of the primary trend is an excess creation of credit by the central bank, aided and abetted by an unprincipled Treasury.

A guy like Warren Buffet is not going to come out and say, we shouldn't buy Coca Cola at forty times earnings because we know that all these things end badly. Wall Street is intrinsically and necessarily unprincipled in the sense that it does not operate day-to-day with an eye towards what is right and what is wrong. It is the citadel of expediency.

AEN: Can you give an example of something particularly egregious?

GRANT: In practical monetary terms, it was on display in the early '30s. At the urging of FDR, Congress rendered gold clauses null and void in one of its hundred-days pronouncements. Outraged creditors took the Congress to court, and the thing wound up at the Supreme Court.

What does a principled Wall Street investor-speculator do about this matter of utmost importance to the integrity of money and contract? Well, if you opposed the nationalization of money, the abrogation of contract, and the high-handedness of this fiat act by the Congress, you would have been on the wrong side of history and the wrong side of the market.

The bond market--the market that values the promise to pay money over time--shrugged off this confiscation as if it didn't happen. Treasury bond prices went higher. Interest rates went lower. This continued from 1933 until the spring of 1946. What is the role of principle in the day-to-day life of the investor? It is a very difficult thing. Is there a shortage of principle on Wall Street? Yes, and, in a sense, there is supposed to be.

AEN: Doesn't that lend support to the idea that the market is immoral?

GRANT: No, but the market is often amoral with respect to politics. And there are many episodes in which the market favored immoral outcomes. August 16, 1971, the day after Nixon imposed wage and price controls, and destroyed what was left of the gold standard, the stock market soared. Through early 1973, you could have made a lot of money by owning common stocks in the face of the worst political-economic disaster of the past generation.

AEN: Yet immorality is reinforced by the welfare state of credit.

GRANT: Immorality and irrationality. The calculation of risk and reward becomes distorted, so people take risks they shouldn't take. People believe, incorrectly, that the Fed will not allow untoward things to happen. Right now, people are going out and buying common stocks. They are paying the highest price for a dollar of dividend income they've ever paid. They are paying, in many cases, the highest price for a dollar of earnings. They are paying the highest price for a dollar of net worth of the American corporation. They continue to pay these prices, in part, because of the idea that the downside has been conquered.

AEN: Has it?

GRANT: No more than economic law has been repealed. In the boom cycle, people are not so much interested in a message that says: a bust is simply a necessary part of the business cycle. In a false prosperity, good economic ideas are marginalized. That's why Austrians should prepare right now to offer the best explanation when the tide turns, as it always does. Who knows? Maybe well find ways to make the bust intellectually profitable. In time, Austrian economics could be again seen as the mainstream theory. It should be.