Archive for the ‘Monetary Policy’ Category

The Good & Bad of Reaganomics

April 8, 2013

A former co-worker who blogs on politics from a left-wing perspective wrote a post titled “Slings And Arrows” which had some choice comments for Reaganomics, calling it “a shell game of crony capitalism” where middle- and bottom-income earners were “casualties.”

Reaganomics is what first triggered my interest in public policy years ago. While I’m no longer a Reagan idolator (and likely consider him the most overrated Republican president ever thanks to the collateral damage that trickled down from his drug war policies), the debate over his economic policies still peaks my interest.

Reagan has one of the most eloquent defenses of the free market I’ve read, when he stated:

We who live in free market societies believe that growth, prosperity and ultimately human fulfillment, are created from the bottom up, not the government down. Only when the human spirit is allowed to invent and create, only when individuals are given a personal stake in deciding economic policies and benefiting from their success — only then can societies remain economically alive, dynamic, progressive, and free. Trust the people. This is the one irrefutable lesson of the entire postwar period contradicting the notion that rigid government controls are essential to economic development.

So did his policies live up to the rhetoric?

The heart of his fiscal agenda was the across-the-board cut in income tax rates, with the top marginal rate falling from 70% to 28%. Capital gains taxes and corporate taxes were initially cut, although those were partially rescinded. To handle mounting deficits, instead of seriously tackling spending, a series of tax increases were implemented.

Maybe even more important than the fiscal agenda was the monetary policy of the time, as Reagan gave his support to Paul Volcker’s anti-inflationary measures. Without Reagan’s support, it’s highly unlikely the Fed could have operated as it did.

What impact did these policies have? The economy’s standing at the end of Reagan’s presidency (unless a hyperlink is included, the numbers come from this Cato report):

-17 million new jobs

-Growth in real-median income by $4000.00

-A 3.2% growth rate in GDP

-An unemployment rate of 5.5%. During the peak of Volcker’s anti-inflationary measures, the rate peaked at 9.7%.

-A productivity rate of 1.5%.

-A CPI of 4.1%, compared to 13.5% in 1980.

-Overall government spending as a percent of GDP at 22.1%, compared to 22.9% at the start.

Rising incomes for each income quintile (the smallest gain coming to the lowest income) and, more importantly, income mobility in which the poor and middle class were able to move up the ladder.

Per the late William Niskanen, the rate of deregulation started by the Carter administration continued at a slower rate.

-Assuming he’s not fudging numbers, Paul Krugman notes the tax rates middle-class Americans paid on their income went up slightly due to payroll tax increases.

There’s quite a bit of good from this. The Reagan years show incentives matter. If an entrepreneur can enjoy a greater portion of the fruits his/her labor produces, the end result is more work, more entrepreneurship, and greater prosperity for the economy as a whole. Even in the case of Krugman’s stat about middle America, a case can be made that happened because of Americans moving up the income ladder.

Equally important is the need for sound money. Inflation robs us of our standard of living and worsens our living conditions. Sound monetary policy fosters security in what we possess and encourages capital formation, as there is real value to investments that pay off. Taming inflation is arguably the biggest accomplishment of the Reagan years.

But not everything was peachy. As Milton Friedman stated, government spending is the true burden on the economy, because what is not paid by tax revenue is paid either through inflation or borrowing. Borrowing gets paid back (with interest) in the form of future tax increases. And borrowing is apparently what happened with the 1980s, as debt went from 27% of GDP to 42% by the end of Reagan’s presidency. While spending as a percent of GDP went down ever so slightly, it averaged 22.4% during his term, which is a good bit higher President Clinton’s time in office. If you feel the deficit spending paid for the end of the Cold War, than it’s probably justified. Even so, entitlement reform was kicked down the road, and the massive overhauls needed to really make the Reagan “revolution” a sustaining one never materialized.

While I strongly disagree with Mr. Kroeger’s assessment that lower- and middle-income workers were “casualties,” there may be something to the accusation of “crony capitalism” at play. As Sheldon Richman documented years ago, Reagan was arguably the most protectionist president since Herbert Hoover, supporting a host of tariffs, import quotas, and anti-dumping measures meant to protect domestic industries. These protections came at the expense of the American consumer, which paid the equivalent of a 66% income tax surcharge via higher prices. But even these protectionist policies hurt domestic companies, as the report cites American steel-using firms shed 52,000 jobs thanks to tariffs on specialty steel.

Overall, the good was really good, the bad was fairly bad, but not bad enough to overwhelm the good. It’s unfortunate the country didn’t go further with the Reagan economic “revolution” as maybe the doldrums of the last 5 years could have been avoided.


The Milton Friedman Response to the Housing Bust

November 29, 2012

Since the late Milton Friedman thought the Great Depression would have been avoided had the Federal Reserve expanded the money supply, that has led many to believe Friedman would endorse the actions taken by Ben Bernanke post-meltdown.

You the reader decide if Friedman would support or oppose Bernanke’s quantitative easing policies.

End The Fed by Ron Paul

November 29, 2012

Monetary policy has been the primary focus of Ron Paul’s political career. While that career is coming to an end, the movement Congressman Paul started is bound to continue on with his son leading the charge. Whether Senator Rand Paul has success remains to be seen, but if you want an understanding of the Paul family’s most crucial political concern, Ron Paul’s book End The Fed (which I managed to get autographed at a campaign rally) is required reading.

The book argues the Federal Reserve is the primary culprit of the 2008 economic meltdown that we have yet to recover from. Alan Greenspan and Ben Bernanke are singled out for criticism. Greenspan’s tenure as chairman of the Fed “planted all the seeds of the financial calamity” by inflating the money stock (increasing the M3 money supply 41% between 1995 and 1999 is one example cited) and lowering interest rates to 1%. Bernanke exacerbated the problems post-meltdown by increasing the adjusted monetary base from $856 billion to $1.749 trillion in just a year’s time. This moral hazard is pumping up another bubble that will burst, and the consequences will be even more dire this time. If we don’t reverse course, Paul predicts hyperinflation, lost jobs, poverty, “possibly street violence” and “the greater chance a war will erupt.”

The book goes through the history of the Fed, starting in 1913. Due to its near-100 year history of inflationary policy, the dollar has been robbed of 95% of its value. Per Paul and the Austrian school, recessions and business cycles are wholly a side effect of the Fed’s central planning. Paul also makes a very strong case that our destructive wars were made possible by the Fed, and that the United States would have never been able to finance these conflicts by directly taxing the American people. For example, he cites World War I, with 56% of the financing coming from Fed-backed borrowing, and 23% coming from creating money out of thin air. The bailouts, corporate welfare, counter-productive “stimulus” spending and government dependency are also made possible by the Fed’s inflationary monetary policies. All this adds up to lost liberties and lost prosperity.

His ideal solutions: ending the Federal Reserve (obviously), returning to the gold standard, strict adherence to the Constitution and allowing for competing currencies. In light of that, he calls for an audit of the Fed’s activities.

Some points of contention I have with the book:

-I’m not sold on a return to the gold standard. Milton Friedman stated in Capitalism and Freedom that the gold standard is neither feasible or desirable. A more attainable approach would be what John B. Taylor advocates, which is to do away with the Fed’s dual mandate of “maximum employment” and “stable prices.” This dual mandate leads to the Fed taking discretionary actions like Paul stated Bernanke took. Proposed laws would change the Fed’s mandate to “long-term price stability,” which theoretically would rein in the Fed’s inflationary activities.

-Probably the biggest source of contention between Ron Paul’s Austrian school and the Friedman-monetarist school of economics is the cause of the Great Depression. On page 68, Paul cites Murray Rothbard in stating that during the 1920s, the average annual increase in the money stock ranged from 7.3% to 8.1%, thus creating a bubble that burst in the form of the Depression. This is highly debatable. According to research done by Richard Timberlake, the stock of common money (currency and checking account balances) grew on average 2.5% per year from 1921 to 1929. Furthermore, Timberlake quotes Friedman and Anna Schwartz from their Monetary History of the United States: “By 1923, wholesale prices had recovered only a sixth of their 1920–21 decline. From then until 1929, they fell on the average of 1 percent per year. . . . Far from being an inflationary decade, the twenties were the reverse.”

-Paul accuses Greenspan of pursuing inflationary policies from the get-go. Certainly Greenspan made mistakes. But was he guilty of discretionary/inflationary policies during his whole tenure? The facts seem to contradict this assertion.

-Paul states our trade deficits are “a very serious problem.” Cato’s Daniel Griswold debunks that notion.

-I wholeheartedly agree the Fed’s quantitative easing will result in considerable inflation if the banks stop holding onto this money. But considerable inflation is different from Paul’s prediction of “hyperinflation.” Germany suffered hyperinflation after WWI; per Friedman’s Free To Choose, hand-to-hand money grew at an average of 300% per MONTH for a year. I don’t see the United States reaching that level of inflation. Therefore, Paul’s predictions of “street violence” caused by Fed policy are overblown.

Despite these critiques, I think this is an important book. I’m usually of the mindset that when politicians and bureaucrats claim they need to “do something” to fix a problem in our country, watch out. More often than not, these proposed “solutions” are meant to fix government-manufactured problems, with the strong likelihood the “solutions” will compound the problems further. In this case, though, Paul is absolutely correct that our elected leaders need to reform the monetary system. The Fed should be held accountable for its action, so I wholeheartedly support any continued efforts to pass an “Audit the Fed” bill. While I don’t agree with all of his analysis, Paul is spurring a much-needed discussion. Historically, the soundness of our monetary policy determines our economic strength. When policies are sound, we prosper; when policies are reckless, we suffer. I hope Ron Paul’s successors continue to make monetary policy a forefront issue as the country debates the direction we take our economy.

The Fed’s Poor Record

December 15, 2010

Highly recommend checking out this Sheldon Richman article, which discusses a Cato paper on the poor track record of the Federal Reserve.

Here’s hoping Ron Paul’s appointment as chairman of the Monetary Policy Subcommittee of the House Financial Services Committee will make a difference, although I’m not holding my breath.