In testimony before the House Financial Services Committee two weeks ago, Federal Reserve Chairman Alan Greenspan painted a rosy picture of the U.S. economy. In his eyes, the Fed’s aggressive expansion of the money supply and suppression of interest rates have strengthened the financial condition of American households and industries. If this is true, however, our nation’s "prosperity" is merely a temporary illusion based on smoke and mirrors. True wealth cannot be created simply by printing money; families and businesses cannot prosper by getting deeper in debt.

In fact, Economist Frank Shostak of the Ludwig von Mises Institute throws cold water on Chairman Greenspan’s assertions in an article entitled "Running on Empty." Mr. Shostak cites statistics showing that American families have never been deeper in debt, never saved so little, and never consumed so much more than they produce. By any objective standard, U.S. families are treading on very shaky economic ground.

Never mind, says Mr. Greenspan. Mortgage refinancing, made wildly popular by artificially low interest rates established by the Fed, will be the saving grace of American households. They can simply borrow against their homes to finance living beyond their means, a practice encouraged by Fed policies. But what happens when home prices stop going up? What happens when families reach a point where they cannot make payments on two, three, or even more mortgages? How can the Fed chairman equate mortgage credit with real economic growth?

Mr. Shostak also demonstrates that American businesses aren’t doing much better. As consumers exhaust their ability to borrow, they necessarily buy fewer goods and services. The ratio of business liabilities to assets is very high, price to earning ratios are still unrealistic, and investment capital remains scarce. Business may be better than it was two years ago, but the fundamentals are far less healthy than Mr. Greenspan would have us believe.

Debt is the fundamental problem the central planners at the Fed will not address. The total U.S. federal debt is more than $7 trillion, and government spending as a percentage of gross domestic product has never been higher except during World War II. Mr. Greenspan’s attempts to stimulate economic growth by printing money become more and more tenuous: today the Fed must create nearly $7 of new debt in the form of new fiat currency to generate only $1 of new GDP. Twenty years ago the figure was less than $1.50. Clearly this is a race that has run its course.

As financial analyst Jay Taylor explains, the disturbing increase in the debt to GDP ratio illustrates that printing more money is the only solution federal policy makers know. Federal debt naturally grows faster than income – while there are no limits to how fast the printing presses can run, there are natural limits to economic growth.

The end may come when foreign central banks realize the dollars they receive are worthless, or when they find other places to turn for income. When that day comes, interest rates will rise, perhaps dramatically. At that point not even Mr. Greenspan will be able to save the economy from the painful correction necessitated by his easy credit, easy money policies.

February 24, 2004

Dr. Ron Paul is a Republican member of Congress from Texas.