"Wherefore We must interrupt a silence which it would be criminal to prolong, that We may point out...as they really are, men who are badly disguised." Pope St. Pius X, September 8, 1907, Pascendi Dominici Gregis


Thursday, February 10, 2011

Whac-A-Stat

There’s a lot of talk about the need for the Federal Reserve's dual mandate of low unemployment and price stability. But as we all intuitively know, and as John Thompson points out, like a game of whack-a-mole, the suppressing or forced stability of one variable may merely cause a natural disruption to pop up somewhere else. That is, to use a recent example, suppressing the price swing mole may lead to large upward movements in the supply of houses mole.

Now let us forget for a moment that the fed has consistently failed in its price stability goal. Not only is the dollar worth less than 5% of its original value when the Fed was founded, but instead of price stability we have, as this chart clearly indicates, some sort of unidirectionality in price fluctuation. Instead of price fluctuations that sometimes reward creditors (i.e., deflation), sometimes debtors (i.e., inflation) that tend to equal out over time as the market participants see fit, since Fed policy really got underway in the twentieth century we have only inflation that constantly rewards the politically well connected receivers of freshly printed dollars at the expense of savers and all other dollar holders. This new phenomena of unidirectionality in long-term price movements has attendant deleterious cultural effects that have recently come to dominate our economy. On the one hand, many are now averse to hard work and saving because in an inflation-only world the rewards of these are diminished. On the other hand, in an effort to overcome the effects of purchasing power erosion many people are now unnecessarily career obsessed, and this is especially true in the case of women and the rise of the two-income household.

By the way, if deflation truly creates an economic death spiral into the abyss of economic collapse, how do mainstream economists account for the consistent re-emergence of inflation following periods of deflation in early American history when we were on the gold standard? Just a question.

And as at least nine percent of the population is currently painfully aware, the Fed really hasn’t been able to maintain low unemployment either.  

So, even if the Fed could somehow smooth out fluctuations in the employment rate and prices, it is almost certain that the adjustments that would otherwise play themselves out through prices or changes in employment will instead manifest elsewhere in the economy. Or, moreover, as our current predicament tends to suggest, the very adjustments in prices and employment that the Fed attempts to smooth out, may indeed be shallower, viz., lesser in magnitude, but also become more chronic, viz., longer in duration. In short, there is no free lunch. The Fed cannot magically fix the natural adjustment process of the market economy. It can only shift the adjustments in ways that are, given its incentives, favorable to political insiders or deleterious to the wealth creating tendencies of the market.

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