The Fed's war of independence
They all laughed at Fulton and his steamboat,
Hershey and his chocolate bar . . .
-- George Gershwin
And at Rep. Ron Paul, the 2008 presidential candidate who had the zany idea -- as many laughing people thought -- that the Federal Reserve system could become a sizzling political issue. Ben Bernanke, chairman of the Fed, who does not laugh promiscuously, knows that it is no laughing matter that Paul has 317 co-sponsors (180 Republicans, 137 Democrats) for a bill to open the Fed's books to "audit" by the comptroller general.
The canny congressman cannot accomplish what the title of his best-selling book recommends: "End the Fed." But he probably hopes that if the Fed's transactions with financial institutions were publicized, he and kindred spirits could stir populist resentment of the mysterious institution. Although profoundly mistaken in his objective -- breaking the Fed to Congress's saddle -- Paul is not frivolous. His rage against the Fed is rooted in his rejection of fiat money -- paper money backed by nothing but confidence in Congress (really), and his libertarian enthusiasm for maximizing the role of unmanaged markets in allocating social rewards.
Bernanke on Monday told the Economic Club of Washington that Congress already can examine the Fed's balance sheet. His worry is that Congress, by ordering audits when it dislikes Fed monetary policy decisions, might make the Fed seem subject to, and eventually actually make it subject to, congressional pressure.
At Bernanke's recent confirmation hearing on his nomination for a second four-year term, Jim DeMint, a South Carolina Republican who is co-sponsoring a Senate version of Paul's bill, asked Bernanke: "Do you believe that employment should be a mission, a goal of the Federal Reserve?" Bernanke, who had already noted Congress's "mandate" that the Fed "achieve maximum employment and price stability," answered that the Fed "can assist keeping employment close to its maximum level through adroit policies."
That mandate was, however, improvidently given. Congress created the Fed and can control it, and eventually will do so if the Fed eagerly embraces the role of the economy's comprehensive manager. America's complex, dynamic economy cannot be both "managed" and efficient. Attempting to manage it is an inherently political undertaking, and if the Fed undertakes it, the Fed will eventually bring upon itself minute supervision by Congress.
Rep. Paul Ryan (R-Wis.), has, as usual, a better idea: Repeal the Humphrey-Hawkins Full Employment Act of 1978 that, he says, "dangerously diverted the Fed from its most important job: price stability." For 65 years after its creation in 1913, the Fed's principal duty was to preserve the currency as a store of value by preventing inflation from undermining price stability. Humphrey-Hawkins gave it the second duty of superintending economic growth.
Before the recent downward tick in unemployment from 10.2 percent to 10 percent, Democrats said: The absence of downward movement proves the urgent need for more stimulus spending. After the downward tick they said: The improvement proves the urgent need for more stimulus spending lest the momentum stall. For such people, "more spending" is a verbal tic. Let such people begin managing the Fed and they will mandate low interest rates, regardless of circumstances. The currency will fail as a store of value.
Is the Fed's independence (de facto, not de jure) "undemocratic"? Somewhat. So what?
America is committed to democracy -- and to circumscribing democracy's scope in order to minimize the damage it can do by improvident responsiveness to untempered gusts of public passion. Thus the government is replete with restraining mechanisms -- three branches of government, rival chambers of the legislative branch, vetoes, supermajority requirements, judicial review, etc. And there are extraconstitutional circumscriptions of democracy, such as allowing the Fed an independence that exists at the sufferance of Congress.
If Time magazine has a lick of sense, Bernanke will be its Person of the Year because his leading role in stabilizing the financial system enabled the president to pursue other objectives. He did not do it perfectly, but he prevented paralysis.
On Monday, he reminded his Economic Club listeners of John Maynard Keynes's hope that "economists could manage to get themselves thought of as humble, competent people, on a level with dentists." But humble people do not claim -- as Bernanke does, under Congress's mandate -- the competence to simultaneously produce, with "adroit" policies, price stability and full employment.
Like the Fed, dentists are always important and urgently desired when pain is intense. But they are rarely objects of their patients' affections.