Becker and Posner on the Fed

Today, Nobel Laureate Gary Becker and Seventh Circuit judge Richard Posner provide another example of how political control over money supply is sapping the economy (link). Judge Posner writes:

Largely for political reasons, there is no possibility of a different kind of attack on our sluggish activity, which would be for the Treasury to borrow a large amount of money at the current low interest rates and lend it to enterprises that would use it to increase production and with it employment. By raising wages such lending might increase incomes and economic confidence, leading to increased tax revenues and an eventual reduction in the federal deficit. But since that kind of economic stimulus spending is not in the cards and an increase in the money supply seems unlikely to have a significant stimulative effect, it seems that we shall have to be patient and let the economy recover under its own steam.

Equally troubling is the roughly 1.6 trillion dollars of liquidity reserves commercial banks are holding in the Fed; once banks loosen their grip and start lending again, money supply will start growing very rapidly. Cheap credit will, for a brief period, curb unemployment by providing businesses with more to spend, but will also simultaneously “destroy[] the steering mechanism of the market,” viz., the communicative effect of prices. Friedrich A. Hayek, Denationalisation of Money 104 (3d ed. 1990) (1976). If this is true, then the consequent misallocation of resources will spur the next bubble, and subsequent recession – we’re trading one problem for another.

While the Fed has tools to sop up the excess liquidity, the question is, will it?  In the words of Becker:

The major question is as much a political as economic one: will the Fed adopt these policies when that would risk slowing the recovery, and possibly create another recession? Congress and the President, no matter which political party controls these branches of government, would exert powerful political pressure on the Fed to use these weapons sparingly. Perhaps a strong Fed chairman would act, despite this pressure not to rock the boat.

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One thought on “Becker and Posner on the Fed

  1. I think the Fed will continue to try to push the problem onto Congress. Congress will push any decision to the last possible moment, with both parties blaming each other for the lack of action and any negative economic outcome, because this is after all an election year. However, there is no action that either the Fed, Congress, or the President can take that will result in decreased unemployment, lower federal debt, or increased consumer confidence. I don’t see a way out – I see the cliff up ahead.

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