Mr. Bernanke is the world’s premier central banker. He is a very smart man with a stellar academic record. He has carried the ways of the seminar into the FED. He thinks about central banking a great deal, and he lets us know what he thinks.
But, in the end, his thought is collectivist, and his political beliefs override economic facts. And I think that this is a very serious matter, because this collectivism entails the power to impose a monetary policy on all of us who have been deprived of a free market in money and banking. We are the losers. We are losing and have lost big time.
Ben Bernanke advocates price stability in no uncertain terms. In his speech in 2006, "The Benefits of Price Stability," he extols the virtues of price stability. I will come back to that later. But first, let us keep our thinking as clear as possible. Let us examine the record of price stability in the United States. We have all seen this before, but I set it down before you again so that we know precisely what we are talking about.
I am going to assume that we can measure the price level. Otherwise, we cannot talk about it. I know all the problems involved in this measurement. But I think we all know that things generally cost more today than 50 years ago. We know that somehow we measure the price level and that the concept of the price level has meaning for us.
There is an inflation calculator here that will serve our purposes. And it uses standard data between 1800 and 2008. It’s easy to use. I insert $100 as a basic amount of money in every calculation, and the question is how much money it takes to buy the same goods at a later time.
Here are some results for different periods. I choose these periods a priori. I divide the period 1800—2008 into four nearly equal sub-periods. The first three are 52 years each; the last is 49 years. Why do I do that? I do that because I want long-term major facts. I do that to remove short-term effects of all kinds. I believe that in economic matters there are often lags that take time to work out, and I want to overcome any such lags. The results come out as follows:
1800—1852 100 becomes 48.89
1853—1905 100 becomes 108.06
1906—1958 100 becomes 321.31
1959—2008 100 becomes 730.73
This means that in 1852 it took $48.89 to buy what cost $100 in 1800. The price level fell. Between 1853 and 1905, the price level rose very slightly from 100 to 108.06. The next two sub-periods show very substantial increases in the price level. Since 1959, the price level has gone up seven hundred and thirty percent.
Now, I bring to bear the following knowledge:
1. The national banking system began in 1863. I can define an era between 1800—1862 as “sort of free banking” or call it any other name that you want to. There was some central banking in this first era, and there was government action in money and banking; but it was also a time of various regulated forms of free banking. Individual banks issued bank notes. There was no FED and no single national money.
2. I can define 1863—1913 as the national banking era. This system was by a national statute, and it ended with the start of the FED.
3. I can define 1914—1971 as another era: the FED + central bank international gold settlement.
4. I can define 1971—present as yet another era: the FED + no central bank gold settlement.
Let us again look at price level changes or price inflation.
1800—1862 100 becomes 58.64
1863—1913 100 becomes 80.36
1914—1971 100 becomes 403.90
1972—2008 100 becomes 509.17
Next, I observe that these periods have unequal lengths. To make them comparable, I convert to continuously compounded annual growth. I take the natural log of end value/start value and divide by the era’s number of years. This gives
1800—1862 ln (58.64/100) x 1/62 = —0.0086 per annum or —0.86 percent per year
1863—1913 ln (80.36/100) x 1/50 = —0.0044 per annum or —0.44 percent per year
1914—1971 ln (403.9/100) x 1/57 = 0.0245 per annum or 2.45 percent per year
1971—2008 ln (509.17/100) x 1/37 = 0.0440 per annum or 4.4 percent per year
For our purposes, it’s not worth sub-dividing any further on the basis of other things, such as Volcker vs. Greenspan, or wars and depressions, and so on. I want us to be able to see the big picture about the price level.
It’s clear that there is a remarkable difference pre-1913 (the FED’s beginning) and after 1913.
Before and after 1913, we have two big eras. Before 1913, there is no institutional central bank with teeth to speak of. After 1913, we get a modern central bank with all sorts of powers. At the same time, pre-1913 there is lots of metal (gold and silver) being used for money and banking. After 1913, the use of metal diminishes, and the FED can do open-market operations. We get other non-metal monies.
In these two eras, we find
1800—1913 100 becomes 58.10. —0.0048 per year or —0.48% a year
1914—2008 100 becomes 2124.41. 0.0325 per year or 3.25% a year
In which era is there more price stability? This is obvious. Before there is a central bank and when metals are being used in the money and banking system, there is greater price stability. There is no contest. Pre-1913, the price level falls gently each year on the average by less than of one percent. After 1913, the price level rises each year by 6.8 times as much as it used to decline before 1913 (in absolute value.) And we know that since gold disappeared from central banking settlements altogether, from 1971 onwards, that the price level increase even went up further, to 4.4 percent a year in the U.S.
It is entirely reasonable to conclude that discretionary central banking with open market operations and without gold playing an essential constraining role is the cause of greater price instability and price inflation. Central banking with discretionary open market operations and without the constraint of gold is what helps define central banking; that and the fact that its notes are legal tender by law. If open market operations were taken away and if the central bank had to redeem its currency in gold, we would no longer have central banking as we know it now and as we have known it since 1913. For this reason, it is reasonable simply to say that central banking is the cause of greater price instability. To achieve price stability, we need only get rid of central banking. If we do that by stripping it of various powers like open market operations and by making it redeem in gold, all the while retaining the shell institution, we are essentially getting rid of central banking.
We can reach these conclusions if we look at the record. They are not conclusions that depend on being a libertarian, a socialist, a democrat, a republican, a collectivist, or anything else. And if we go into the matter more deeply and examine the theory of how the monetary systems operate before and after 1913, we will affirm these conclusions again. I will do this only briefly, but enough to convey the basic idea. Banks before 1913 could not inflate in any serious way because if they did, there would be a run on the bank. The depositors would demand redemption in gold, and that would cut short the bank’s inflation. So banks had to be careful about making too many loans. After 1913, the FED essentially had the power to inflate without having to worry about gold redemption. At first it did this for special reasons like wars and depression; and gold actually flowed into the U.S. because of problems overseas. But eventually, the government simply stopped redeeming in gold altogether, so that the FED could inflate without gold as a constraint. And so, no matter what our political beliefs are, we have to conclude that sensible theory also tells us that central banking causes price instability.
Let’s see what Ben Bernanke says about price stability.
"In particular, I will argue for what I believe has become the consensus view, that the mandated goals of price stability and maximum employment are almost entirely complementary. Central bankers, economists, and other knowledgeable observers around the world agree that price stability both contributes importantly to the economy’s growth and employment prospects in the longer term and moderates the variability of output and employment in the short to medium term."
My goodness, he believes that price stability contributes to economic growth and to lower variability of output and employment. He should favor getting rid of the FED in that case, for the evidence is overwhelming that the FED has de-stabilized the price level.
"Price stability plays a dual role in modern central banking: It is both an end and a means of monetary policy."
If price stability is a goal of monetary policy, then executing monetary policy via the FED is a darn poor way to achieve it. We could achieve it better by going back to the pre-FED system. In the 1800—1863 free banking era, the price level fell by less than 1 percent a year.
Bernanke really believes in price stability:
"Fundamentally, price stability preserves the integrity and purchasing power of the nation’s money. When prices are stable, people can hold money for transactions and other purposes without having to worry that inflation will eat away at the real value of their money balances. Equally important, stable prices allow people to rely on the dollar as a measure of value when making long-term contracts, engaging in long-term planning, or borrowing or lending for long periods. As economist Martin Feldstein has frequently pointed out, price stability also permits tax laws, accounting rules, and the like to be expressed in dollar terms without being subject to distortions arising from fluctuations in the value of money. Economists like to argue that money belongs in the same class as the wheel and the inclined plane among ancient inventions of great social utility. Price stability allows that invention to work with minimal friction."
And if you read this speech in full, you will find even more reasons he gives why price stability is a good thing. He just goes on and on and on about how wonderful price stability is.
I myself am not affirming that price stability is a good thing. I personally believe that we should have free markets (which in my mind includes ethical and legal practices that aim at personal responsibility, no theft, and no fraud) and let the price level chips fall where they may. We should not have a body that is measuring the price level and attempting to manipulate it.
My point is that if Bernanke believes all this about price stability, then he should advocate getting rid of central banking. Why doesn’t he do that? The answer goes beyond economics. It goes to social and political theory. The answer is that he does not believe in a free market or free banking. He believes in collectivism. His personal political beliefs override the facts of economics.
What is collectivism? There are some decent quotes here that give the sense of the idea. Ayn Rand’s statement is a good one:
“Collectivism means the subjugation of the individual to a group — whether to a race, class or state does not matter. Collectivism holds that man must be chained to collective action and collective thought for the sake of what is called ‘the common good’.”
Bernanke thinks that individual actions that add up to overall monetary outcomes (which is a kind of spontaneous free market policy) are inferior to centralized monetary policy imposed at the discretion of an elite run by him and other central bankers. He simply does not believe in liberty and free markets.
It is a clear fact that monetary policy affects the price level. Bernanke believes this. But Bernanke believes that the FED should control the price level through monetary policy, although such control is associated with price level and economic instability. He does not believe in liberty. He is a collectivist, and his collectivism overrules and biases his views of the economics of the matter. He blinds himself to the fact that a system of no central banking and decentralized free banking stabilizes the price level better than a central banking system unattached to gold.
I could try to persuade him that when the FED attempts to control the price level, it introduces price instability and economic problems. I don’t think he will accept that. He happens to believe that the FED under Greenspan did a marvelous job:
"Most striking, Greenspan’s tenure aligns closely with the Great Moderation, the reduction in economic volatility I mentioned earlier, as well as with a strong revival in U.S. productivity growth — developments that had many sources, no doubt, but that were supported, in my view, by monetary stability."
Written in 2006, he did not understand that, despite a seemingly low rate of price inflation, the central banking system still was causing serious problems that would show up the very next year. He cannot see these things because of his political belief in collectivist monetary policy.
Bernanke believes that inflation targeting is the way to go for the FED:
"What I find particularly appealing about constrained discretion, which is the heart of the inflation-targeting approach, is the possibility of using it to get better results in terms of both inflation and employment. Personally, I subscribe unreservedly to the Humphrey-Hawkins dual mandate, and I would not be interested in the inflation-targeting approach if I didn’t think it was the best available technology for achieving both sets of policy objectives."
I think that even if we were able to explain the drawbacks of any central banking regime to Bernanke, even one that engaged in inflation-targeting, he would not back down from his belief in central banking. His belief in central banking is that firmly anchored:
"I have always taken it to be a bedrock principle that when the stability or very functioning of financial markets is threatened, as during the October 1987 stock market crash or the September 11 terrorist attacks, that the Federal Reserve would take a leadership role in protecting the integrity of the system."
In point of fact, markets respond to information about problems in the economic system, and that includes the international currency system. As I wrote a few years back:
"Crashes and price movements in general are notoriously hard to explain, but in this case  the evidence points clearly to concerns about the international currency system. The latter was one of the basic causes at work in 1929 and again in 1972—74. After several such experiences and others in the nineteenth century, we have every reason to believe that monetary concerns are often central to bear markets. This important fact is not as widely known or appreciated as it should be."
What we are dealing with in someone like Bernanke is ingrained beliefs and prejudices. No matter how many arguments one may come up with, a smart person like him will come up with new rationales, new facts, and new interpretations so as to deflect the arguments. He will defend his economic position adamantly because he holds a political opinion that he will not abandon.
We do not have here a simple matter of differences in opinion between some economists and others, with Bernanke interpreting economic matters one way and some of us interpreting them another way. Yes, that sometimes goes on; but it is hard to see in this case that one can deny that price stability was achieved in the 19th century without the FED and that there are good reasons why it was achieved without the FED. Collectivists like Bernanke who pass and laud measures like the Humphrey-Hawkins Act do not accept economic facts and theories that may be true. They resolve conflicts between truth and their beliefs by sticking to their collectivist beliefs.
People who stubbornly believe things that are false are no great problem to the rest of us as long as they don’t have the power to make us go along with their prejudices.
This is not the case in our political system. We have a very serious problem. The collectivists are running the entire society and they are wrecking it. Ben Bernanke is one of them. Replacing him with another collectivist won’t do any good. The institutions we have are collectivist, and they attract collectivists to run them.
Michael S. Rozeff [send him mail] is a retired Professor of Finance living in East Amherst, New York.