Beware the power of the Fed

Andy Slaven

Since the Federal Reserve (Fed) was created in 1913 under Woodrow Wilson’s presidency, there has been 16 recessions and two depressions. Not only is the Fed detrimental to the economy by causing greater recessions and depressions, as seen in its 103-year existence, but it also benefits the pockets of the economic elite while destroying the middle class and increasing poverty.

The Federal Reserve’s responsibilities were originally outlined in the Federal Reserve Act by Congress and included maximizing employment, stabilizing prices and moderating long-term interest rates. However, like most government acts, the Fed’s duties have expanded and now cover supervising and regulating banks, maintaining the stability of the financial system and providing financial services to various institutions including the U.S. government and foreign depository institutions.

The most recent and prominent economic predicament was the 2008 financial crisis leading to the Great Recession. In an article by Scott Sumner of Foreign Affairs, he highlights the role the Fed had in the recession and how they turned a housing price bubble into a year and a half crisis that had lasting consequences for millions of people.

Sumner explained, “As the Fed bailed out the banks at risk from innumerable bad mortgages, it ignored the root cause of serious recessions: a fall in nominal GDP, or NGDP, which counts the total value of all goods and services produced in the United States, not adjusted for inflation. Such a fall began unimpeded in mid-2008, and once that happened, much of the damage had been done.”

A Stanford economist John B. Taylor also believes the Federal Reserve worsened the recession saying, “Government actions and interventions, not any inherent failure or instability of the private economy, caused, prolonged and worsened the crisis.”

A similar story lies in the Great Depression of the late 1920s and early 1930s. The Fed continued to decrease the money supply and did not save struggling banks. This led the recession, a mild economic crisis, into a historic disaster.

Famous economist Milton Friedman claimed that if the same economic philosophy of suspending the convertibility of deposits into currency was used in previous recessions before the Fed, it might have halted the cycle of forced liquidation of assets at depressed prices. This was applied successfully in the recessions of 1893 and 1907.

Many politicians and economists have looked to limit (or end) the Fed or pressed to audit it including Ron Paul, Bernie Sanders and Murray Rothbard. The most prominent movement has come from congressmen and senators from both sides of the political spectrum under the Federal Reserve Transparency Act.

It was originally created by Congressmen Ron Paul in response to the 2008 financial crisis. The Senate version of the bill was proposed by Bernie Sanders. There have since been two similar attempts in recent years, each being passed in the House of Representatives but failing in the Senate.

The act’s goal is “to reform the manner in which the Board of Governors of the Federal Reserve System is audited by the Comptroller General of the United States and the manner in which such audits are reported.” Essentially it would guarantee the audit results are available to Congress.

The audit would include the Fed’s discount window (an instrument of monetary policy that allows eligible institutions to borrow money from the central bank to meet temporary shortages of liquidity caused by internal or external disruptions), its funding facilities, its open market operations and its agreements with foreign
bankers.

Senator Rand Paul, who introduced the bill to the Senate this year, said, “Big banks, corporations, and government entities receive the Fed’s newly-created money long before anyone else, and they bid up the prices of goods before the rest of us can get to purchasing them.”

Paul adds that although the money stock has increased by 5 billion since 2007, real median household income has declined by over 6 percent. The newly-created money is being disproportionately distributed into the hands of the wealthy. Over the last 50 years money stock has increased by over 2,000 percent, yet the middle class shrinks and the lower class
increases in size. But, of course, the wealthy are getting richer.

The Federal Reserve’s expansion of the money supply and manipulation of interest rates creates malinvestment (badly allocated business investments, due to artificially low cost of credit and an unsustainable increase in money supply) that leads to booms and busts within markets as seen in the housing bubble in 2008. If we are not going to end the Fed, we should at least allow Congress to audit it and see where the river of money flows.