Good Thing We Have No Federal Baking System

by Don Boudreaux on July 29, 2009

in Hubris and humility, Monetary Policy

In this letter to the Wall Street Journal, I advocate free banking:

Amar Bhide understates the case for breaking up the Fed ("Let’s Break up the Fed," July 29). While it’s true that no bureaucracy can be trusted to handle all the many new responsibilities that the Fed has recently absorbed, Mr. Bhide errs in conceding that "In principle, an exceptionally talented theorist might capably run a Fed focused just on monetary policy. Setting the discount rate and regulating the money supply are centralized, top-down activities that do not require much administrative capacity."

Regulating the money supply is a centralized, top-down activity only because government has monopolized money-supply issue.  Government bureaucrats with monopoly control over the supply of money can no more be expected to adjust that supply to optimally meet consumers’ nuanced and changing demands for money than could, say, government bureaucrats with monopoly control over the supply of bread be expected to adjust that supply to optimally meet consumers’ nuanced and changing demands for bread.

Only competitive, private note issue will end the system-wide distortions created by inevitably bad monetary policy determined by a government committee.

Sincerely,
Donald J. Boudreaux

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{ 41 comments }

Sam Grove July 29, 2009 at 12:45 pm

On a government/science related note, a very interesting post (and funny cartoon), over at Reason.

dg lesvic July 29, 2009 at 1:09 pm

Prepare yourself for the usual storm of controversy, but you are absolutely RIGHT!!!

J Cortez July 29, 2009 at 1:10 pm

Couldn't agree more.

Daniel Kuehn July 29, 2009 at 1:23 pm

Really interesting, thanks Sam. I obviously haven't read the entire OECD report, but pg. 90 provides an important summary that raises some questions about the Reason treatment of the report.

First, public R&D, according to the summary, doesn't seem to slow growth – simply have no significant effect. Then again, there's clearly a significant negative coefficient in the regression so without reading the whole thing I don't knwo what that means.

Second, they explicitly say they don't model spillovers, and since spillovers are a major basis for the argument for federal R&D it seems unfair to say it does nothing when you don't model those (ie – some of that private R&D effect is very likely to be attributable to public spillovers), and

Third, it mentions that they don't seem to differentiate between basic and applied research – which obviously have very different time-tables in terms of impact. It sounds like they only have a one year lag on the R&D measures. GE's R&D labs might be able to do something useful in a year – do you really think Fermilab or the Jet Propulsion Lab could???

But the most interesting thing for me about the Reason article is the differences in the way knowledge is distributed vs. other goods are distributed. Russ had an econ-talk on that recently, if I'm not mistaken.

Anonymous July 30, 2009 at 5:45 am

Daniel, no significant effect means that public R&D slows growth — because the money spent on it would have been spent elsewhere on something more productive, if it hadn’t been taken by people with no responsibility for spending the money wisely.

Daniel Kuehn July 30, 2009 at 9:29 am

That’s a very interesting and original interpretation of “no significant effect”. I have a lot of conclusions I need to go back and revise if “no effect” actually means “negative effect”.

Anonymous July 30, 2009 at 9:36 am

Hi. This is Russ Nelson’s autoresponder. Thanks for sending me
email. If you’re sending something you expect me to act on, it may
take some time. If it’s of a timely nature, keep pinging me until I
act on it. I’m easily distractibl… Hey! Wanna go cycling?

Anonymous July 30, 2009 at 10:28 am

haha – i think i found one bug with this new system :)

On that note, though – what if there was no significant effect for private R&D? Would you conclude the opposite – that private investment is crowding out productive public investment? Crowding out is a very important effect – but a simply insignificant effect for a regression that only covered, what – 25 years or so? – doesn’t seem to be an indicator of crowding out. For that, I imagine you’d need to look at the interaction of public and private R&D over time and demonstrate that increased public R&D actually does crowd out private R&D – ie, some sort of significant negative effect of lagged public on private. And given the basic/applied research dynamic I’m not so confident you’d get the result you’re implying. Either way – it’s an empirical question that this particular regression in this particular report doesn’t speak to.

Anonymous July 30, 2009 at 2:13 pm

I’m glad you’re impressed, but it’s just simple economics. Nothing happens in economics without a context. If you do A, then you can’t do B. If you say that C is good, you have to say that it’s good relative to D, E, F, and G, which are the alternatives. If this is a new concept to you, then that means you’re learning, which is a lot more than I can say for folks like Gil, TrumpIt, or muirgeo.

Anonymous July 30, 2009 at 2:58 pm

…or Methinks or vidyohs or dg lesvic

Well, I think my point was that it CAN imply that government R&D was displacing more productive private R&D, but you can’t assert that conclusively. In one of the regressions in Table 2.7 the availability of private credit had an insignificant effect on the accumulation of private capital. Would you propose that we can conclude that private credit is crowding out more productive public sources of credit? Of course we can’t assume that! It’s just as fallacious to assume that the absence of a significant effect on public R&D means that we would be better off without public R&D.

Like I said – I think there are major problems with this regression anyway. Why would you compare private R&D – which is presumably weighted towards applied research and development – with public R&D – which is weighted towards basic research – with a 1 year lag? It just doesn’t make sense. But beyond that, what you really need to do is include an interaction term: pubR&D*privR&D, and perhaps regress private R&D itself on public R&D.

If you’re right, Russ, and public R&D is crowding out more efficient private R&D, then this interaction should be negative, right? As the level of public R&D increases, the marginal effect of a unit increase in private R&D decreases. If, however, there are spillovers this interaction term will be positive. Doesn’t that seem like a reasonable way to arbitrate (obviously it doesn’t solve the lagged variable issue I raised).

The point is, you can’t just point to an insignificant effect and claim victory when there are alternative theories that also predict that you may not find a significant effect, given the regression that they provide. I understand nothing happens in economics without a context – but the point is there are rival contexts that have been but forward.

YALiberty July 29, 2009 at 1:35 pm
Mathieu Bédard July 29, 2009 at 2:36 pm

Don’t require much administrative capacity?

No theorist, no matter how exceptionally talented, will ever be able to have even vague information on the near infinite quantity of micro-transactions happening every second, let alone someone with so little ambition and self-respect as to become an administrative public servant…

vidyohs July 29, 2009 at 3:57 pm

Sam,

Re: your lead off post above, so do we agree that government is the problem?

If you are left alone to make your own way in all things, you might have some problems.

If I am left alone to make my own way in all things, I might have some problems.

And, that’s okay, our individual problems don’t have to become a burden on others.

I;ll say it again:

There is no drug problem, there is a government problem.
There is no market problem, there is a government problem.
There is no housing problem, there is a government problem.
There is no immigration problem, there is a government problem.
There is no environmental problem, there is a government problem.
There is no health care problem, there is a government problem.
There is no racial problem, there is a government problem.
There is no educational problem, there is a government problem.
etc. etc.

Hi I’m from the government, and I am here to h……….kapow kapow! :-D

Darren July 29, 2009 at 4:13 pm

vidyohs, you are officially my hero. Well put!

vidyohs July 29, 2009 at 4:45 pm

Aw shucks….gee whiz, poke toe in dirt, blush. I bask, yes I bask. Thank you kind Darren. :-D

(com’on folks at my age I take what I can get)

indiana jim July 29, 2009 at 4:56 pm

The title of this thread is interesting “Good thing we have no federal BAKING system”.

While I’m sure BAKING was supposed to be BANKING, still, I’m damn glad there is no “federal BAKING system”. But if we had had a “federal BAKING system” who believes that there would be things like Twinkies and double stuffed Oreo cookies or the rye bread of the type found only in the best delis? Does anyone think the VA food service should take over supervision of this nations BAKING???

lukas July 29, 2009 at 5:19 pm

indiana jim,

if you read the post, you will find out that it actually talks about baking. Thank God we have no federal baking system indeed.

Anonymous July 30, 2009 at 2:06 pm

Let them eat cake… if they can find any in the shops.

indiana jim July 29, 2009 at 5:57 pm

lukas,

Are you referring to “cooking the books?” Yes I agree it is about BAKING.

vidyohs July 29, 2009 at 6:11 pm

Darren,

I thought about my response and I must apologize if you should think I was mocking you. I was just being me, and glad there is another that agrees.

S Andrews July 29, 2009 at 8:11 pm

All day, I couldn’t read the posts from work. I felt withdrawal. I am guessing, it has something to do with the new design. Simple is better – I like the new design.

vikingvista July 29, 2009 at 8:43 pm

“Only competitive, private note issue will end the system-wide distortions”

So true. For people who enjoy excoriating monopolies (even where they don’t exist), politicians just live expanding their own monopoly powers.

About ending the legal tender monopoly, which I presume would require repealing Abe Lincoln’s legal tender laws, just how do we get from here to there?

vikingvista July 29, 2009 at 8:43 pm

Errata: “live” –> “love”

vikingvista July 29, 2009 at 8:45 pm

“I like the new design.”

Best design element is putting the poster’s moniker on top.

Darren July 29, 2009 at 9:02 pm

No worries, vidyohs! I understood your comment.

Anonymous July 30, 2009 at 4:34 am

No worries, vidyohs! I understood your comment.

Anonymous July 30, 2009 at 5:47 am

Hamilton won, the American people lost.

Anonymous July 30, 2009 at 6:20 am

Love the new site design. Now muirdiot can be banned forever.

Anonymous July 30, 2009 at 9:37 am

I’m digging the new nested comment system and site design.

Am I the only one who shows that everyone made their post 9 years ago?

Gil July 30, 2009 at 12:39 pm

Strange how no one (even Don Boudreaux) said that the optimal currency is gold. Gold has a rough equilibrium value as deflation spurs gold miners to get more gold creating inflation thereby preventing hyperinflation which makes mining less profitable thereby preventing hyperinflation. After all, who would accept paper money from a private source if they hate the public equivalent? Besides where would a private paper money maker get the ‘decree’ wherewith to issue ‘fiat’ money?

Anonymous July 30, 2009 at 2:17 pm

Money is a confusing topic. Think of it as simply something that you buy. It has characteristics which make it worth owning. Hard currency has one set of characteristics. Paper money has another set of characteristics. Optimum? Optimum for whom? For what? With free banking, it isn’t an issue to be decided. It’s just another thing offered for sale. Buy it or don’t, as you wish.

Anonymous July 30, 2009 at 3:20 pm

There is no difference anymore between paper currency and “hard currency”. Stop it with the gold standard nonsense.

Anonymous July 30, 2009 at 4:35 pm

Your comment makes no sense. Where did I propose a gold standard? And yes, there is a vast difference between paper currency and metal currency. Did you see where I wrote “Money is a confusing topic”? Count yourself among the confused.

Anonymous July 31, 2009 at 5:55 am

As I understand it, the guvmint wants us to spend money right now, rather than hoard save it.

I propose uranium as currency. Talk about burning a hole in your pocket. :p

Anonymous July 31, 2009 at 5:56 am

well that bit of HTML failed :D

Anonymous July 31, 2009 at 11:04 am

That’s brilliant! Or some other element with an even shorter half-life.

Think about the protection against inflation that that would provide! There would be a guaranteed, steady reduction in the money supply. :)

J Cortez July 30, 2009 at 2:17 pm

In the past, the optimal currency was silver or gold. Is it still optimal? Who knows? Under free banking where banks can issue their own money, it might resurface, it might not.

The point is, the money, whether commodity back or not, would be determined by market forces. It could be fiat or it could be fractionally backed or it could be 100% reserve, whatever it is, it would decided by the market.

jorod July 31, 2009 at 1:31 am

I think they tried that in the 19th century and it resulted in the issuance of worthless or heavily discounted money. One bank wouldn’t accept another bank’s notes or charged a “processing” fee. The little guy got screwed.

Félix July 31, 2009 at 2:05 pm

actually “wildcat” banks’ bills were heavily discounted. good banks had very wide circulation and hardly any discount. That’s precisely what should happen with competition.

with monopoly money you just get the lowest common denominator and no way of finding a safehaven (without going abroad.. ask the argentinians!)

Gil July 31, 2009 at 10:49 am

I believe jorod is saying roughly what I’m saying (assuming ‘that’ refers to private paper money). Is it not true that private paper money didn’t generally appear in the open free market? Or that any private paper currency that had any longevity was when the private issuer had a monopoly over a geographic location (e.g. scrip in a company town)? Private money issuers who have had success dealt commodity coins – gold, silver and copper. Other Libertarians quite easily point out that governments prefer token money over commodity money because they intend to inflate the money supply and give themselves ‘free money’ with which they can immediately purchase goods without anything in return. Hence you have coins that get mixed with base metal or Kubla Khan who seized the peoples’ gold and silver coins to force everyone on his own paper bark currency.

Anonymous July 30, 2009 at 10:31 am

Hi. This is Russ Nelson’s autoresponder. Thanks for sending me
email. If you’re sending something you expect me to act on, it may
take some time. If it’s of a timely nature, keep pinging me until I
act on it. I’m easily distractibl… Hey! Wanna go cycling?

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