Mark W. Hendrickson
Mark W. Hendrickson is a faculty member, economist, and contributing scholar with the Center for Vision and Values at Grove City College, Grove City, Pennsylvania. These articles are from V & V, a web site of the Center for Vision & Value, and Forbes.com.
The Fed: Painted Into a Corner
Speculation abounds as to when the Federal Reserve will begin to raise interest rates. Decades ago, this would have been called "the $64,000,000 question," but today trillions rather than millions of dollars are at stake.
With the warning that I have neither a crystal ball nor connections to anyone inside the Fed, it seems to me most unlikely that the Fed will raise interest rates in 2015.
In a statement that received huge publicity, the Federal Open Market Committee stated that it "can be patient in beginning to normalize the stance of monetary policy." This latest instance of "Fed-speak" oozes with understatement and irony. Being "patient" will be no challenge to the Fed. Even the word "glacial" doesn't quite describe the Fed's actions in regard to its zero-interest-rate policy of the last six years. "Frozen in place" seems more accurate. What's a little more " patience" in that context?
While most commentators focused on the word "patient," I found the word "normalize" to be more telling. It is an implicit admission that the policy in recent years has been anything but normal. Interest rates have not been normal; credit markets have not been normal; the Fed's massive interventions - buying several trillion dollars worth of government debt and agency-owned financial detritus (i.e., "Old Maid" mortgage-backed securities) - have been anything but normal. Why not keep the bizarreness - the abnormality - going for at least another year.
Whether Yellen and her cohorts genuinely want to raise interest rates, I know not, but I don't see how they can. Quantitative easing (QE) may be over for the time being, since federal deficits - though still gigantic - are a lot lower than they were when the QE policy was launched, and the Fed seems to be receiving enough principal payments to keep rolling over its portfolio of mortgage-backed securities, but when it comes to interest rates, the Fed is painted into a corner.
One factor working against the Fed discontinuing its repression of interest rates is the federal debt. Most of Uncle Sam's $18 trillion worth of debt is short-term. The annual carrying cost of that debt will begin to rise rapidly once the lid comes off interest rates, wreaking havoc with the federal budget and precipitating a paralyzing, disruptive political conflict.
Another factor is the precarious financial situation of most of the rest of the world. A friend of mine who is a very cagey retired bond trader recently pointed out that emerging markets - the most vulnerable and fragile markets in the world - have borrowed over three trillion U.S. dollars from banks and have issued almost another $3 trillion in USD-denominated bonds at very low interest rates. Should domestic interest rates rise (and along with interest rates, the exchange rate of the buck) emerging market paper would be devastated, triggering a chain reaction that would convulse markets around the world. It's hard for me to conceive of the dovish Janet Yellen and her colleagues on the Federal Open Market Committee willing to risk taking the blame for a global financial crisis.
As one who greatly respects the power of markets, I realize that there may come a moment when interest rates rise whether the Fed wants them to or not. But until that moment comes, it seems to me that Yellen & Co. will do everything within their power to suppress interest rates.
Let me repeat the caveat that I gave you in paragraph two: I don't know the future and my conjectures about it are worth exactly what you are paying to read this article. I get the impression that top Federal Reserve officials wistfully long for a normal interest rate market. They have to know that near-zero interest rates are neither normal nor healthy, but what choice do they have? They are prisoners of circumstance, painted into a corner that may lock us into artificially low interest rates for a lot longer than is commonly imagined.
Heeding History's Lessons in the Search for the Right Macro-Economic Policies
Hooray for James Grant! The longtime publisher of Grant's Interest Rate Observer has come out with a new book, The Forgotten Depression: 1921: The Crash That Cured Itself. Published by Simon & Schuster this Tuesday, I already have seen it reviewed in the Pittsburgh Tribune-Review and The Wall Street Journal, so it clearly is receiving lots of attention. Good!
The Depression of 1920-21 needs to be remembered and its lessons need to be learned. I have written about it repeatedly and have been hoping that the story would be told on a larger stage. Jim Grant is well suited to this important task. He is a writer of uncommon style - dry humor, droll wryness, given to elegant turns of phrases. He also has a razor-sharp intellect - erudite, incisive, and keenly perceptive. These qualities equip him to debunk the grotesquely flawed conventional narrative of American history that perpetuates such whoppers as: Warren Harding was one of our worst presidents (when he had the most effective economic program of any 20th-century president); Herbert Hoover drove America into the Great Depression because of his adherence to outmoded laissez faire policies (when, in fact, he was an aggressive interventionist whom one of FDR's minions went so far as to portray as a socialist in the 1932 elections); and FDR's massive interventions and deficit spending in the 1930s saved America (when his Hoover-like policies helped to prolong the depression needlessly for another eight years).
Incidentally, in a review that commits a couple errors of its own, The Wall Street Journal's reviewer, Burton Malkiel, unfortunately suggests that the term "depression" might not be appropriate for the 1920-21 slowdown. I disagree. In an era when we shudder at a 2 or 3 percent contraction of GDP, I think the 23.9 percent collapse of GDP in little over a year spanning 1920-21 - and an unemployment rate that exploded from under 5 percent to a high point over 14 percent in a matter of months - would qualify in the minds of most Americans as a depression. The reason this depression has been so easily forgotten is that it was so short and also because it was eclipsed by the horrific and prolonged suffering of the 12-year Great Depression that stretched from the stock market crash of 1929 to the bombing of Pearl Harbor in 1941.
The paramount question is: Why was the earlier of the two depressions of such short duration? Answer: Not luck, moonbeams, or fairy dust, but because of the correct policy response. The Harding/Coolidge administration cut taxes and cut federal spending in half. They got government out of the way and let markets make the necessary adjustments by allowing prices to find their market-clearing levels. The result was spectacular: By 1923, unemployment fell to as low as 2.4 percent and industrial production soared over 27 percent. This was the last laissez faire response to an economic slowdown in our history. Its very success is what makes the orthodox condemnation of laissez faire so abominably wrong-headed.
Given the truism that those who forget history are prone to repeat it, Americans need to understand our own history to see what works and what doesn't. The Bible says that "Ye shall know the truth and the truth shall make you free," (John 8:32) and that can be literally true in a political sense. Knowing the truth about both the successful policy response to the "forgotten depression" of 1920-21 and the disastrous policy response to the downturn that happened a decade later will equip American voters to distinguish between wisdom and balderdash. I don't know whether President Obama knowingly or ignorantly misstated American history when he claimed that "only government can break the vicious cycles that are crippling our economy" or when he asserted that shrinking government and relying on free markets "didn't work when we tried it in the decade before the Great Depression." If his misstatements were intentional, well, what can you say? But if they were due to ignorance, then he should read James Grant's book and get the history right.
I would agree with those who say that such a policy response to a recession is virtually unthinkable today. In this day of massively entrenched bureaucracies, the cronyism of special-interest politics, and gargantuan entitlement programs, the notion of cutting federal spending in half is a pipedream. Furthermore, union contracts in particular have rendered it impossible for wages to have the flexibility to fall alongside consumer prices, as they did in the early 1920s to quickly return to virtually full employment at lower wages paying lower prices (i.e., without significant loss of purchasing power or reductions in standards of living).
However, just because there are more obstacles that would prevent Uncle Sam from adopting the laissez faire approach that quickly cured the forgotten depression of 1920-21, that shouldn't stop us from at least getting the story right about what actually happened in our past. A favorite tactic of the left is to attribute economic problems to "market failure" when the elementary fact is that markets work (that is, they adjust the balance between supply and demand) when they are allowed to work. Often, though, government intervention disrupts natural economic functions, and then political demagogues blame the resulting dislocations on free markets. Thank you, Jim Grant, for helping to set the record straight.
Countering Egalitarian Ingratitude with "Thanks!" for Wealth Creators on Thanksgiving Day
Editor's Note: This essay was written last November.
Egalitarians - those poor souls obsessed with an equal distribution of wealth - have a problem. Actually, they have several problems. Each one is a chronic "Gloomy Gus." The equality they desire is illusory, impossible, and unattainable, dooming them to permanent unhappiness.
Egalitarians are blind to the beauty of our differences - our inherent inequality as individuals, the uneven distribution of skills and talents that underlies the social division of labor and accounts for the marvelous diversity in human society.
Egalitarians see the economic glass as half empty when in fact it is more than half full, and getting fuller all the time. The grim ideology of egalitarianism impels its adherents to complain instead of celebrate, to criticize instead of compliment, to be ingrates where gratitude is due.
Here's an example: In an article from The Christian Science Monitor this summer (Aug. 11 issue, p. 32), a professor emeritus of economics from the University of Massachusetts-Amherst stated, "I'm surprised the American people have allowed this [income inequality] to go on as long as it has" and "I think we're headed for enormous conflicts in our society. . . ."
This phenomenon of an intellectual comfortably removed from poverty thinking that economic (rather than political) inequality leads to class conflict goes back as least as far as to Marx and Lenin. Such a mindset remains obtusely impervious to the recognition of a salient economic fact - namely, that standards of living, even for the bottom quintile, are at a level that most of the rest of the world envies.
Indeed, the amenities commonly available to low-income Americans - climate-controlled automobiles and homes, various electrical appliances, life-saving pharmaceuticals, mobile communications with instant connections to virtually anywhere - these would have been the envy of Queen Victoria and the other monarchs of the world barely over a century ago.
There is something askew in human psychology that causes people to denigrate the very system of wealth production - i.e., free enterprise, not its counterfeit called "cronyism," private property, and profit-seeking enterprises practicing voluntary exchange in openly competitive markets - that has made our lives as affluent as they are. The historian Bertrand de Jouvenel commented on this perverse tendency decades ago, observing that the higher the level and greater the reach of affluence, the greater the resentment and denunciation intellectuals (generally not the humble worker who was climbing up the economic ladder) directed against the very engine of that economic progress - the "capitalist," to use the loaded term favored by the left.
Another example of egalitarian angst is a Harvard study that Reuters reported about in September. The study called the wealth gap between rich and non-rich as "unsustainable" and called for corporate leaders to help solve it by working for improvement of the K-12 education system, transportation infrastructure, and skills-training programs. Doesn't it seem odd that they want private businesses to fix three sorry problem areas that are all controlled by the government? Does it not follow that if the problems that are holding back lower income Americans are not being caused by businesses that maybe, just maybe, the income gap is a government-caused problem and not the fault of "greedy capitalists"? (You can also blame the Obama administration's policies and the Fed's.)
At Thanksgiving time, I, for one, would like to salute all the private-sector entrepreneurs who have made fortunes by producing the goods and services that have uplifted standards of living for Americans. Our affluence isn't a random blessing that fell out of the sky or grew on trees. It is the result of the strenuous efforts of wealth creators - society's economic benefactors. Those entrepreneurs deserve our respect and our gratitude rather than censure and condemnation. And we all had better hope that their wealth-creating activities remain sustainable - which they will be if the powers-that-be in Washington don't ruin us by killing the entrepreneurial goose that lay's the golden egg of American affluence.
"Happy Thanksgiving!" everyone, but especially you entrepreneurs! *