Who Is In Charge? Who is in Control?

Attributed to Mayer Amschel Rothschild (1744 – 1812) most likely recorded around the date 1790, the year before the establishment of the First Bank of the United States, the founder of the Banking House of Rothschild declared, “Let us control the money of a country, and we care not who makes its laws.” This was probably easier said in tumultuous France at the time by old money than by a banker in the younger and recently constituted U.S. Later, those in power in the U.S. better understand this control paradox. That is why Woodrow Wilson had reported second thoughts, pangs of grief and panic for fear of conflicts of interest, of being duped and of possible treasonous actions when he signed into law on December 23, 1913 the Federal Reserve Act. in contrast, when the Federal Reserve Act was signed into law by President Wilson, the Baltimore Sun reported, “It was the greatest Christmas gift ever for the American People.”

Prior to the Act, the U.S. Treasury mostly had scandalous and tumultuous control of the monetary system since the formation of the country. Given their Constitutional authority to coin our money and regulate the value thereof (Article I, Section 8), politicians and bureaucrats were blamed for various reoccurring panics and the First and Second Banks of the United States’ tumultuous troubles. There was too much cash and gold not being held in banks. Too thin of capitalization. Too many painful business cycles. Too many panics and bank runs. Bank failures were common. There was no trust in the trusts.

To counterbalance these recurring and troublesome national monetary matters, rather than being politically tainted every time, perhaps a stronger self-interest and unifying central profit-motive could be more sanguine for the economy? Hoping to substantially reduce systemic and bureaucratic backwardness and political patronage together with government taxing and spending activities targeted and sponsored by political power-brokering for picking winners and losers in that day, a general felt-need of the populous was sufficient then to bring about a major change. So, Congress passed the largest government outsourcing contract, ever structured then and since, given it out to a for-profit money monopoly with independent powers and self-interests. Using the Rothschild axiom, monetary policy and quasi financial management of the nation was in essence turned over under the Act to a privately owned system of member banks who would control all the money of the nation—since 1913.

It was only a matter of time for this improved monetary system solution to constitutionally evolve. Separation insures political balance. Here is the paramount paradoxical analogy: In the same way there needs to be a separation of churches and state, there also needs to be a separation of banks and state. From experience, we acknowledge from observed unintended consequences that formally mixing government politics with money and religion are always and everywhere problematic. As such, government should never have a near monopoly on either actual mercy or real money. Self-interested conclaves and for-profit committees are best at addressing these matters. With that, let the independent churches compete with each other for followers. Even the Federal Reserve must compete with other central-banks for our adherence to and faith in our monetary system.

As an accommodation to the Constitution, the control the electorate has over the Federal Reserve System is now intentionally indirect. The Chairman of the Federal Reserve is nominated by the President and ratified by the Senate and makes periodic address thereto regarding the state of the economy as a function of the stated mandates. Also purposely unelected, the Board of Governors and the Open Market Committee also have independent split interests to set prices and to purchase and sell resulting quantities of money. These powerful arrangements are mostly comforting. But, complete and absolute power can go awry. The only check and balance on this extraordinary power is the Fed’s reported performance and credibility in the context of achieving their mandates. No wonder Woodrow Wilson, President, PhD, Professor of History and Political Science, Nobel Prize Winner, was initially so queasy about this self-regulated transfer of potentially corruptible monetary control. According to Robespierre, a little corruption is acceptable if most of the people find it acceptable. Is there any more modern monetary system and policy approach more acceptable? Compared to what? At what cost to switch? Hard to say.

It is all in the details. To further control the quantity and price of money under the Act, like a market-maker Specialists serving in the New York Stock Exchange, the Fed also has the exclusive inventory management right to deal directly with the U.S. Treasury in the primary buying and selling of our national debt using in exchange their own fiat money that they exclusively have the right to create and print at will–hopefully operating all these monetary functions better than the U.S. Treasury had done. Interestingly, we have preferred this entire quasi-regulated monetary management utility company arrangement making sure that the Fed remains “independent” even when its behavior contributes to booms and busts—e.g. the Great Depression in 1929, only sixteen years after the Federal Reserve Act.

If the Fed has control of the nation’s money, what have we the people gotten in return for this massive government outsourced monetary services contract? To uphold the General Welfare Clause of our Constitution, the Federal Reserve’s Dual Mandate for monetary policy are apparently conflicting goals: to foster economic conditions that achieve both (a) stable prices and (b) maximum sustainable employment. What were they thinking? To get our money’s worth, the Fed used the Phillips Curve for years for Monetary Policy, which held that inflation and unemployment were strictly inversely correlated. High employment gives rise to high inflation. Low inflation is caused by widespread unemployment. The Fed closely followed this dogma and watched and acted upon both unemployment and inflation factors simultaneously. Under such a policy, employment and the price of money were seemingly well controlled. To execute such a mandate is like having your foot on the brake and the gas pedal at the same time. Regretfully, the advent of persistent Stagflation debunked this monetary theory. Stagflation is a period of rising inflation but falling output and rising unemployment (prevalent among seven major economies from 1973 to 1982). Monetary policy apparently cannot solve both inflation and recession at the same time. This economic manifestation is still an unresolvable conflict with the Fed’s dual mandate. Yet, they crusade onward with our money matters with improving hope. Newer mandate: Learn while you earn.

How is that Fed mandate going nowadays? Over the years of his professional career, Milton Friedman (1912-2006) often said that since the inception of the Federal Reserve System, business cycle frequency had not been mitigated and that when downturns occurred, they were deeper and more contracted than before the Fed was given charge. In response to renewed efforts to achieve their mandates, the Taylor Rule is now in partial vogue being both descriptive and prescriptive. Taylor’s rule is a formula developed by Stanford economist John Taylor in 1993. It was designed to provide “recommendations” to the Fed for how the central bank should set short-term interest rates as economic conditions change to achieve both its short-run goal for stabilizing the economy and its long-run goal for inflation. This Rule also does not resolve the original Stagflation conflict; inflation may be above its Fed target when the economy is actually below full employment. The Taylor Rule was mostly in play and in Fed practice going into the Great Recession. That helped? What can be done now? So, who/what is in control? It gets even worse. After the greatest quantitative easing (large quantities of money infused into the economy at very low prices) of all time conducted by the Fed, as Federal Reserve Chairman Ben Bernanke, serving from 2006 to 2014, put it at his farewell press conference regarding the Great Recession, “We have been disappointed in the pace of growth, and we don’t fully understand why.”

Markets are always useful. Markets are mostly correct. Markets are difficult to corner, even if there is monopoly powers present. Therefore, the Market itself should be in control of Monetary Policy. Put the market in charge. Why? Rather than a market-maker, the Fed should be a market-taker and behave accordingly. Monetary Policy should take the guidance of the future expectations, its future contracts, for growth of the macroeconomy. Let the market be in charge. Let the market be in control. Such money market mechanisms look beyond inflation and unemployment. Quantitative easing or quantitative restricting would take its real-world signals from such abstracted futures contracts. The commodity traded could also be denominated in treasuries and bonds. This is the view of a newest breed of economist, the Market Monetarist. Scott Sumner is the leader of this movement. According to Sumner, if the Fed mostly adopted this approach, the Central Bank can better steer the economy on a glide path to prosperity through a laissez-faire approach if the Fed implements Nominal GDP (NGDP) targeting. This targeting is accomplished by the Fed establishing an NGDP futures market exchange. Investors in fixed income securities concerned about inflation could also hedge their bets with participation in the NGDP futures market. Alas, we do not currently have such an NGDP Futures Market. To monitor this prescient development more closely, just read more.

The only additional point that this author would add to this refreshing new monetary policy thinking is that NGDP targeting does not go far enough. It focuses on GDP tail wagging and not on the dog. The big dog is Gross Output (GO) that ultimately wags GDP. GO recently eclipsed $33 Trillion apparently requiring that certain quantity of exogenous and endogenous money to be in our monetary system to accommodate and achieve that level of economic activity. If the Market Monetarists wish to fully understand and help glide path the entire economy for the Feds, we should actually have Nominal Gross Output (NGO) Targeting. So, do both. Set up an NGO Futures Market and an NGDP Futures Market. There is much more to the macroeconomy and its monetary needs than just the quantity of money available for final output of goods and services. Remember Gross Output minus Intermediate Inputs equals Gross Domestic Product. According to the Bureau of Economic Analysis, it is expressed as: GO – II = GDP. There are multiple accountings in Gross Output and Intermediate Inputs. That does not matter to money. It is always and everywhere present. The accounting entries for Gross Output and Intermediate Inputs are just as valid the as the single accounting entries for Gross Domestic Product. By increasing the monetary market (supplies and demands) scope, the NGO Targeting method would better determine for the Feds that there are not too may dollars chasing too few Intermediate Inputs. For the mandate, if Gross Output gets smoother, all downstream expenditures and final outputs get even smother.