About November 2013
The U.S. Federal Reserve marks its 100th anniversary this year. Has it been worth it? Critics of central banking point to continued inflation for much of the Fed’s history, its tendency to become embroiled in politics, and the ever-present dangers of a fiat currency. Supporters counter that a commodity money would be no better and would in many ways be worse; they add that many of the Fed’s missteps, including mismanagement of the Great Depression, are unlikely to be repeated. Macroeconomic science really has progressed in the last 100 years, and central banking is a key part of that story.
Which side is right? This month we have invited four experts to discuss the pros and cons of central banking, starting with a lead essay by Cato Institute Senior Fellow Gerald P. O’Driscoll Jr. We will have responses by George Mason University Professor Lawrence H. White, Bentley University Professor Scott Sumner and former Cleveland Federal Reserve President Jerry L. Jordan.
Gerald P. O’Driscoll reviews the history of central banking. He argues decentralized banking is possible, but getting there will be difficult. Under a commodity money regime, central banks are neither necessary nor particularly dangerous, while under a fiat money regime, central banks are capable of exerting substantial influence on monetary policy. The Fed’s use of that influence has been, in O’Driscoll’s words, “unenviable.” Governments have come to depend on central banks to run deficits and spend more than they otherwise could. To do without central banking, however, we will first have to shrink the federal budget itself, and this will be no easy task.
Lawrence H. White explains that the Federal Reserve has “dramatically increased secular inflation.” Additionally, it has increased price level uncertainty, while failing either to tame the business cycle or to reduce unemployment. Instead, throughout its history, it has bowed to political pressures and expanded the money supply again and again.
Scott Sumner argues that monetary policy needs to respond to crises, and that commodity standards don’t meet that test. He argues that a politically independent central bank tasked with keeping a low rate of inflation will generally be able to fulfill that obligation, and that rigid monetary regimes do much greater harm when they ultimately collapse. In particular, the failures of such regimes have usually been attributed to free-market capitalism, and the result is ever-greater financial regulation.
Jerry L. Jordan argues that legislative restraints on monetary policy tend to fail; in this area, we just can’t trust government to watch itself. Standards intended to preserve the value of the currency have all fallen, as legislatures simply find it too convenient to siphon away value through inflation. Jordan is skeptical even of a balanced budget amendment, noting that state governments with such amendments have still come to fiscal grief. One of his most important concerns is that the public right now is dangerously apathetic about this underappreciated issue.
Conversation among all participants to follow soon.
Related at Cato
Testimony: “The Federal Reserve and the Rule of Law,” by Lawrence H. White, September 2013.
Policy Report: “The Federal Reserve’s Unsound Policies,” by John Allison, May/June 2013.
Policy Forum: “The Federal Reserve, the Centennial Monetary Commission, and the Sound Dollar Act,” May 23, 2013.