January 17, 2000
Greenspan Nominated to a Fourth Term
How Long Can "Business as Usual" Last?
President Clinton's nomination of Alan Greenspan to a fourth term as Federal Reserve Board Chairman has been met with nearly unanimous praise. From Congressional leaders to Wall Street gurus, the announcement brought a sigh of relief that good times will continue. The only reservation I noticed was written by economist Mark Weisbrot, who worried that Greenspan might not inflate the currency fast enough. Otherwise, everyone seemed delighted with the nomination.
Essentially, no one in Washington, on Wall Street, or in the financial media challenges the inflationary policy of the Fed, believing that the favorable status quo will continue indefinitely as long as the money wizard stays in charge. In good times it's easy to forget severe recessions and commodity price inflation. Today, just about everyone endorses the New Era in prosperity that technology and Alan Greenspan have delivered to us. Inflation, as defined by a rising CPI, has been declared dead.
But one thing ignored is the fact that a fiat monetary system is incompatible with a free market economy. Instead of depending on production and savings for capital, today's economy depends on new "capital" coming from the Fed's credit machine. When credit is created out of thin air for investment purposes and interest rates are driven artificially low, mal-investment results. This monetary inflation, of which we have had plenty, has already set the stage for the next recession.
Many are delighted that Greenspan will stay in charge, believing he can prevent an economic turndown with proper monetary management. Sorry, but it's too late. The distortions are already in place, and because the most recent economic cycle has lasted longer than usual, it means there's been more credit creation and distortion than usual. Therefore a bigger downturn will result. The only policy available to the Fed today is to further inflate the currency in an attempt to delay the inevitable correction.
Greenspan has already supervised one serious recession in the early 1990s. No matter how astute a chairman of the Federal Reserve Board is, it's impossible to avoid recessions when managing a fiat monetary system. Alan Greenspan has been quite generous when it comes to creating new money. Since 1987 when Greenspan took over, high-powered money, as measured by the monetary base, has increased by 138%. This has resulted in an increase of nearly $3 trillion of bank deposits as measured by M3. This new money creation keeps interest rates lower than they otherwise would be, making the banks and Wall Street happy. It also pleases the spendthrift politicians who during Greenspan's term have increased the national debt by $32 trillion. Almost the entire increase in the national debt since 1987 has been monetized or paid for by Greenspan printing new money.
Of course, any of us would "thrive" if we could increase our wealth at that rate with borrowing and counterfeiting - but for us it's illegal. For now, foreigners' willingness to soak up our inflated dollars, while selling us goods at discount, makes us feel wealthier. But that will eventually end with higher interest rates, a weak dollar and CPI type price inflation. When this takes place, any increase in Federal Reserve credit will only accelerate the painful correction.
Every time the market in the past three years threatened to bring on a correction, Chairman Greenspan rushed to the rescue - to the delight of everyone in Washington and New York - with a massive influx of new money and lower rates. In 1997 the excuse was the Asian crisis; in 1998 it was the failure of Long Term Capital Management; and in 1999 it was the potential Y2K crisis. In the past 3 months, bank credit has increased at a greater than 30% annual rate. Greenspan, in this past quarter, may have talked about "tight money" and even raised overnight rates, but he was quite active inflating the currency.
It's true that this inflationary policy does alleviate the immediate financial crisis. But it does so by further inflating the financial bubble. It delays the correction but makes the situation ever more dangerous for all Americans. There will be a price to pay. Borrowing and creating credit out of thin air will never prove to be the way to permanent prosperity. When it comes to money there are no "New Eras". Economic law will prevail. The law of supply and demand applies to money as well as goods and services.
The Federal Reserve will always want to avert a collapse of the stock market, just as it did publicly with Long Term Capital Management. But it can only do that for a limited period of time. The markets will eventually rule. They always do.
Likewise, the world central banks have for years sold and loaned gold to keep the gold price artificially low. A rise in gold price is a vote of no confidence in paper. And it's in the interest of all central banks to keep this from happening. Their credibility is at stake. But we must remember through the 50s and the 60s, gold was "fixed" at $35 an ounce and in the 70s the markets overruled the powerful Fed and the US Treasury and vetoed this price.
Alan Greenspan was at one time a free market adherent and gold standard advocate. Read what he had to say about the Federal Reserve Board policy of the 1920s and the subsequent depression. The experts in the 20s had also declared a New Era economic growth without price inflation resulting from technological advances and wise monetary management. Greenspan explains: "The excess credit which the Fed pumped into the economy spilled over into the stock market, triggering a fantastic speculative boom. Belatedly, Federal Reserve officials attempted to sop up the excess reserves and finally succeeded in braking the boom. But it was too late. By 1929 the speculative imbalances had become so overwhelming that the attempt precipitated a sharp retrenching and a constant demoralizing of business confidence." (Gold and Economic Freedom, 1966)
Maybe Alan Greenspan has been at the Fed too long. It seems he now believes in his own greatness. He should read his own analysis, decline the nomination, and hope the next chairman gets blamed for the correction already built into the system.
This is not to say that anyone else can do any better than the current chairman in the coming years. Central planning, whether it's in the monetary system or in the economy itself, just doesn't work. The debate should not be over who is best at managing the economy, determining the money supply and knowing the proper interest rates. It should be over whether or not we should have a monetary system that requires its manager to know things he cannot know. Instead of arguing over whether and when interest rates should go up or down, we should debate whether or not market interest rates and commodity money is superior to fiat money in preventing price inflation, recessions and painful periods of unemployment.