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A Clear Conclusion: End the Fed

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09/18/2009David Gordon

Ron Paul has waged a heroic battle for financial sanity since the inception of his tenure in Congress; and in End the Fed he gives us insights from that struggle available nowhere else. Dr. Paul had an affinity for the free market from an early age. "In the 1960s," he tells us,

I discovered the writings of economists such as Ludwig von Mises, F.A. Hayek, Murray N. Rothbard, and Hans F. Sennholz. I gradually found the answers I had been searching for. Even for the experts, it literally took centuries to fully understand the nature of money and the business cycle. (p. 43)

During his service in the Air Force, Dr. Paul was able to hear Mises speak, and when in Congress he met with Hayek. "I had the pleasure of hearing Hayek lecture in Washington, around 1980. Following that meeting, we had a private dinner together and spent several hours visiting." (p. 51)

But the principal economist who influenced him was Murray Rothbard.

Of all the Austrian economic greats of the twentieth century, I got to know Murray Rothbard the best.… I recall his surprise when he found out I had read his essay "Gold and Freely Fluctuating Exchange Rates."… If there's one book that the Washington establishment should read now, it's Rothbard's book America's Great Depression. In this book, he demonstrates that it was the Fed that created the late-1920s boom that led to bust, and Hoover's interventions that prolonged the Great Depression. (pp. 57–8)

The last remark begins to suggest a key reason that the Fed should be abolished. Far from being a means to maintain monetary stability, as its supporters falsely insist, the Fed, through the expansion of bank credit, is the primary cause of the business cycle.

The expansion temporarily lowers the money rate of interest below the true market rate, largely determined by people's time preference, i.e., their preference for present over future goods. Businesses, with money available, expand; but the new projects cannot be sustained. When the monetary expansion ceases (if it doesn't, we will have hyperinflation, with disastrous consequences), these new investments must be liquidated. The process of doing so is the depression.

As Dr. Paul aptly remarks,

The Fed can indeed provide liquidity in these times [of credit contraction] by a simple operation of printing more paper money to cover deposits. But if you think of the cycle as beginning in the boom phase — when money and credit are loose and lending soars to fund unsustainable projects — matters change substantially.…

When central banks push down [interest] rates on a whim, the impression is created that savings are there when they are in fact completely absent. The resulting bust becomes inevitable as goods that come to production can't be purchased, and reality sets in by waves. Businesses fail, homes are foreclosed upon, and people bail out of stocks or whatever the fashionable investment is of the day. (pp. 29–30)

Instead of the Fed and its false claim that we need an "elastic" currency, we should instead remove government entirely from the creation of money. In a free society, money would be a commodity; most likely that commodity would be gold.

In fact, I'm only observing reality: the idea of sound money in most of human history has been bound up with gold money. Can there be sound money without a gold standard? In principle, yes. And I'd be very happy for a system that would permit markets to once again choose the most suitable money, whatever that turns out to be. I'm not for government imposing any particular standard: no central bank, no legal tender, no privilege for any commodity chosen as a backing for the currency. (p. 71)

Dr. Paul has presented the Austrian view of money in a succinct, accurate, and effective way; but what justifies the claim that he offers insights available nowhere else? Are there not many excellent books and articles that explain the views of Mises and Rothbard on money; not least the works of those two economists themselves? The answer arises from Dr. Paul's many years of service in Congress. In that capacity, he has had conversations with several Fed chairmen, and one of these conversations enables us to solve a mystery.

Alan Greenspan epitomizes the control of the money supply by government. But is this not at first sight surprising? Greenspan was a follower of Ayn Rand and shared her devotion to laissez-faire capitalism. In an essay written for the Objectivist newsletter, reprinted in Capitalism: The Unknown Ideal, Greenspan offered a strong defense of the gold standard. The vital advantage of the gold standard, Greenspan explained, is that it prevents the government from manipulating the money supply:

In the absence of the gold standard, there is no way to protect savings from confiscation through inflation.… The financial policy of the welfare state requires that there be no way for the owners of wealth to protect themselves. This is the shabby secret of the welfare statists' tirades against gold. (p. 81)

Greenspan, amazingly, told Dr. Paul "that he had just recently reread it [the article] and wouldn't change a word of it." (p. 86). How could Greenspan say this, while presiding over a system that embodies the government control of money that his article repudiated? Greenspan thought that he could conduct the financial system in the same way as the gold standard would operate.

I [Greenspan] think that you will find … that the most effective central banks in this fiat money period tend to be successful largely because we tend to replicate that which would have probably have occurred under a commodity standard in general. (p. 88)

In other words, we need to remove government from the money supply, unless, of course, I and people like me are in control. Greenspan's position brings to mind a Jewish tradition about King Solomon; he thought that the restrictions imposed in Deuteronomy (17: 16–17) on kings about wives and horses did not apply to him.

As the wisest of men, Solomon believed he knew the reasons for these restrictions, so he could avoid the temptations that the rules guarded against and take more wives and horses than allowed. His overweening arrogance led to disaster, and Greenspan fell victim to the same syndrome.

Dr. Paul does not regard Greenspan as the wisest of the Fed chairmen he met. "I had the most interaction with [Paul] Volcker. He was more personable and smarter than the others, including the more recent board chairmen Alan Greenspan and Ben Bernanke" (p. 48).

For Bernanke, it is clear that Dr. Paul has a deep distaste. He suspects that Bernanke has acted in secret to manipulate the price of gold, and he bristles at Bernanke's refusal to disclose his operations to Congress.

So when Bernanke quickly refuses to give us information about the trillions of dollars of credit that he recently passed out in the bailout process because that would be "counterproductive," he is really saying, "It's none of your business." (p. 174)

The book recounts remarkable conversations with others besides Fed chairmen. When Ron Paul served on the Gold Commission in Ronald Reagan's administration, he on one occasion flew by helicopter with the president to Andrews Air Force Base.

"Ron," the president told me, "no great nation that abandoned the gold standard has remained a great nation." He indeed was sympathetic, as he was to many libertarian constitutional ideas, but he was also swayed by staff pressure to be pragmatic on most issues. (p. 74)

Reagan, it is apparent, could not break with the illusion that the government needs to be in control. That illusion is avidly propagated by those who profit from it. One such was the notorious George R. Brown, a longtime backer of Lyndon Johnson. Brown displayed interest in Dr. Paul's campaign for Congress in 1976, and in one conversation told him,

"Remember, for the economic system to work, business and government must be partners." I cringed and quickly scooted out the door.… Once I was in office and after my votes and positions became known, the message was clear, and I never heard from him again. (p. 159)

Dr. Paul's fight for freedom has not been confined to the issue of sound money. He has also led the struggle against interventionist and imperialist foreign policy. But the fight for liberty is seamless, and he shows that an aggressive foreign policy depends on government control of the money supply:

It is no coincidence that the century of total war coincided with the century of central banking. When governments had to fund their own wars without a paper money machine to rely upon, they economized on resources. They found diplomatic solutions to prevent war, and after they started a war they ended it as soon as possible. (p. 63)

The book contains an abundance of other arguments against our current monetary system, e.g., that it violates the Constitution. Readers will discover Thomas Paine's poor opinion of paper money, and even how monetary debasement helped bring the Byzantine Empire to ruin. Those who have absorbed the book's message will come to a clear conclusion: End the Fed.


Contact David Gordon

David Gordon is Senior Fellow at the Mises Institute and editor of the Mises Review.