Abolish the Fed

by Don Boudreaux on August 4, 2009

in History, Monetary Policy

The great scholar of money and banking, George Selgin, has this splendid op-ed in yesterday’s Christian Science Monitor.  Here are some key paragraphs:

But consider: the US economy has actually grown less rapidly since 1914 [the year the Federal Reserve began operation] than it did before. And inflation has been much worse, despite both the Civil War, which featured the nation’s worst inflation, and the Great Depression, which featured its severest deflation!

What’s more, the frequent downturns before 1914 were due, not to the lack of a central bank, but to foolish government regulations. Topping the list were bans on branch banking, initiated by state governments and then incorporated into federal banking law. The bans propped up thousands of undercapitalized and under-diversified banks – banks unfit to survive major local shocks, let alone macroeconomics ones. They also caused bank notes – competitively supplied counterparts of today’s Federal Reserve notes – to trade at discounts whenever they traveled far from the solitary offices of banks that issued them.

During the Civil War, state bank notes were taxed out of existence to make way for those of new national banks. Because national banks had to accept one another’s notes at full value, their currency was uniform. But national bank notes had to be backed by government bonds.

That requirement, designed to bolster the Union’s finances while the war raged on, proved disastrous afterward, when government surpluses led to a halving of the federal debt, and to a corresponding shortage of bonds for securing bank notes. The resulting currency panics – in 1873, 1884, 1893, and 1907 – prompted the Fed’s establishment.


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