Hostile Takeover: Resisting Centralized Government's Stranglehold on America (26 page)

Another example of hyperinflation was in Germany’s Weimar Republic. Before World War I, Germany had a fairly strong currency backed by gold, called, conveniently, the gold mark. About four or five marks could be exchanged for a dollar in 1914.
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That year, Germany abandoned the gold backing of its currency.
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Just as with Zimbabwe, it did this on purpose: to evade the repayment of massive debts. The Treaty of Versailles that ended World War I required Germany to pay heavy reparations to the Allies. The defeated Germans were on the hook for 132 billion marks, then worth $31.4 billion.
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That’s roughly equivalent to $442 billion in 2011. Critics argued that it would take a whopping 59 years to pay off the reparations, putting the final payment around 1978. They were wrong. It took Germany until October 3, 2010, to make its last payment.
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Most of the debt, however, was paid off in the first few years—with worthless paper. The Germans may have been beaten on the battlefield, but they knew how to evade their peacetime obligations. They just fired up the printing press. The consequences for the German people were disastrous. In 1923, 4.2 trillion marks could be exchanged for just one dollar.
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An automobile full of cash could not have bought a newspaper. The mark became so worthless that the German people used it as wallpaper, toilet paper, and a substitute for firewood.
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We are not experiencing a devaluation of currency that rivals Zimbabwe or the Weimar Republic yet. But it’s foolish to ignore the monetary policy mistakes they made, which left their money virtually worthless. Printing excessive amounts of money out of thin air to pay off debts has harsh consequences.

Our national debt is more than $15 trillion, making the United States not only the most indebted nation in the world but the most indebted nation in the history of the world.
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But fear not; like Zimbabwe and Germany, we can just print more money to pay it off. Confirming this in an August 2011
Meet the Press
interview, former Federal Reserve chairman Alan Greenspan said, “The United States can pay any debt it has because we can always print money to do that. So there is zero probability of default.”
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It’s certainly true that the Federal Reserve can just print more money, or add a few more zeros on a balance sheet to create money out of thin air—but not without trashing our currency and our economy.

SEND IN THE CLOWNS

T
HE
F
EDERAL
R
ESERVE’S MAIN WEBSITE SAYS THAT “OVER THE YEARS,
its role in banking and the economy has expanded.” It now includes “maintaining the stability of the financial system and containing systemic risk that may arise in financial markets.”
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In practice, the Fed’s machinations have produced systemic
instability.

The Great Depression is a classic example of a Fed-generated boom and bust. The 1920s saw real economic growth with the nation’s return to a peacetime footing plus the Coolidge pro-growth income tax-rate cuts. But it also saw a stock market bubble fueled by Fed policy. In late 1929, that bubble gave way to what should have been a sharp, but short correction. Fed intervention (compounded by the big-government, redistributionist policies of FDR) turned it into a decade-long economic nightmare. Some of its political aftershocks are still being felt even today. Global depression helped to fuel global destabilization, war, and a resurgence of socialist regimes across the world.

The Fed hasn’t ended the business cycle; arguably, it has made it worse. According to George Mason University economist Lawrence White, “the classical gold standard of 1879–1914 functioned quite well without a central bank in the U.S., thank you very much. Despite the financial panics, which could have been avoided with banking deregulation, the business cycle wasn’t worse than under the Fed’s watch.”
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Many Americans likely believe that continuous boom and bust cycles are natural occurrences, part of the inevitable “business cycle.” But it’s not true. We would not experience such dramatic economic swings were it not for monetary policies that distort real prices and encourage bad investment decisions. Boom and bust cycles are inevitable, though, when government interventions confuse consumers and producers.

The single greatest contributor to financial crisis is the Fed’s manipulation of interest rates in ways that distort the true price of capital. When the Fed artificially lowers interest rates, it creates a false boom somewhere in the economy. The low cost of credit and unsustainable increase in money supply encourages businesses to greatly expand at the same time. It may seem as if businesses are overinvesting, but they are simply responding to false economic signals sent by the Federal Reserve. In retrospect, the businesses’ decisions are seen as a bad allocation of resources.

The Federal Reserve cannot continue the boom permanently. An inevitable bust will always follow. The malinvestments fed by easy money are revealed, and wasted capital and economic losses incur as these misdirected investments are liquidated. In his classic book
Human Action,
Mises wrote:

the popularity of inflation and credit expansion, the ultimate source of the repeated attempts to render people prosperous by credit expansion, and thus the cause of the cyclical fluctuations of business, manifests itself clearly in the customary terminology. The boom is called good business, prosperity, and upswing. Its unavoidable aftermath, the readjustment of conditions to the real data of the market, is called crisis, slump, bad business, depression. People rebel against the insight that the disturbing element is to be seen in the malinvestment and the overconsumption of the boom period and that such an artificially induced boom is doomed. They are looking for the philosophers’ stone to make it last.
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Peter Schiff draws a perfect analogy between an artificial boom and a circus that comes to a small town for a short time. During this time, the circus attracts a large crowd, which is a boom to local businesses. Now imagine that a local businessman mistakenly believes that the upturn in his business will endure permanently. He responds by greatly expanding his business, hiring new workers or opening a second location. All is well until the circus leaves town and the businessman is left with a large surplus of workers and capacity. He finds out he miscalculated when all the bad investments are exposed.
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The last decade in America has been a textbook example of a boom and bust cycle. Between 2001 and 2004, the Federal Reserve injected new credit into the economy, pushing interest rates to their lowest level since the late 1970s.
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The economy boomed as a result of the false economic signals to businesses with respect to demand for their products. These businesses responded by hiring more staff, buying more resources, investing in capital, and so forth.

The early 2000s marked the boom phase. Between September 2003 and December 2007, we experienced fifty-two months of uninterrupted job growth.
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Treasury Secretary Henry Paulson in March 2007 said that “the global economy is more than sound: it’s as strong as I’ve seen it in my business career.”
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He was certain it was true. On October 9, 2007, the Dow Jones Industrial Average closed at a record level of 14,164.53.
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Federal Reserve Chairman Ben Bernanke seemingly concurred, saying in January 2008 that “the Federal Reserve is not currently forecasting a recession.”
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At the time he spoke, the recession had already begun.

Just as Austrian business cycle theory predicts, the boom was followed by the bust, when the stock market crashed in October 2008.
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Some were quick to wrongly blame free market capitalism for the economic downturn. As economist Henry Hazlitt once said, “in a crisis and a slump . . . worse than the slump itself may be the public delusion that the slump has been caused, not by the previous inflation, but by the inherent defects of ‘capitalism.’”
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Ted Forstmann, a private equity pioneer, gave a concise, perfectly “Austrian” explanation of the damage caused by easy money in a July 5, 2008, interview with the
Wall Street Journal
. Predicting the financial train wreck that was just months away, Forstmann said that he did not “know when money was ever this inexpensive in the history of this country. But not in modern times, that’s for sure.” Banks had “tons of money left,” after making loans and investments based on proper risk assessment and a reasonable expectation of returns. That’s when banks went into “such things as subprime mortgages.” About a year before he died, I had the opportunity to ask him if he had read any Austrian business cycle theory, referencing this interview’s foresight. I was sure he had. “No,” Forstmann said, with a somewhat mystified look on his face. He just understood a top-down corruption of market signals when he saw one.

The Federal Reserve has repeatedly attempted to “fix” the problem that it created. The official unemployment rate has hovered around 9 percent for the past two years.
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The central bank devised QE1 and QE2, which stands for quantitative easing parts 1 and 2, which is a more polite way of saying “printing money and then printing some more money.” As economist Thomas Sowell says, “When people in Washington start creating fancy new phrases, instead of using plain English, you know they are doing something they don’t want us to understand.”
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And the Fed has been busy; since 2007, their balance sheet has increased from roughly $850 billion to $2.7 trillion, which includes all the mortgage-backed securities and questionable assets the Fed has purchased—and you can be sure that any risk posed by these purchases will be borne by the taxpayer.
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“FULL FAITH AND CREDIT”

W
HEN THE
F
EDERAL
R
ESERVE WAS ESTABLISHED, MANY CHAMPIONED
the fact that the new regime was creating an independent body that could establish monetary policy without influence from political interests. This fantasy—centralized power without the undue influence of special interests—is the political unicorn of progressivism. It’s never, ever true. The 2008 bailout, and the various tranches of “quantitative easing” since, ably demonstrate just how responsive the Fed is, in fact, to political pressure. The facts were hard to ignore when the Federal Reserve used the full “faith and credit” of the United States to rush to the aid of the big banks on Wall Street.

Simon Johnson and James Kwak report in their book
13 Bankers
:

Any modern economy needs a financial system, not only to process payments, but also to transform savings in one part of the economy into productive investment in another part of the economy. However, the Obama administration had decided, like the George W. Bush and Bill Clinton administrations before it, that it needed
this
financial system—a system dominated by the thirteen bankers who came to the White House in March. Their banks used huge balance sheets to place bets in brand-new financial markets, stirring together complex derivatives with exotic mortgages in a toxic brew that ultimately poisoned the global economy.
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As the housing bubble burst and the house of cards collapsed, Wall Street was on the first train to Washington. Treasury Secretary Paulson, a former Goldman Sachs chairman, and the then-chairman of the New York Federal Reserve and soon to be Treasury Secretary Timothy Geithner rushed to prop up their Wall Street allies: first through the $700 billion Troubled Asset Relief Program, then through the Fed’s special lending facilities, quantitative easing 1, quantitative easing 2, and other actions, the Fed propped up the failing banks, shifting their “troubled assets” over to the taxpayers. Since September 2008, when the crisis erupted, the Fed’s security purchases increased from $3.7 billion to $1.97 trillion. This pushed the Fed’s excess reserves up from $68.7 billion in 2008 to $1.47 trillion today.
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Despite the fact that trillions of dollars in questionable assets were sloshing through the system, it was virtually impossible for the public to access any information on what the Fed was up to. Even Neil Bartofsky, the Special Inspector General assigned to TARP, served up harsh criticism of the Treasury Department and the Fed in his testimony before Congress, where he estimated that the taxpayer liability for bailing out Wall Street reached more than $27 trillion. TARP was only the tip of the iceberg. In all, there were roughly fifty programs working furiously to stabilize Wall Street. While the liability figure is a worst-case scenario that would see none of the Fed’s loans paid back, even a small percentage of it would be a significant burden for taxpayers.

The Fed’s actions have done little to spark economic growth. Excess reserves—resources that banks are holding that could be lent to new ventures—increased by $490 billion, bringing the total to $1.5 trillion in 2011.
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In other words, banks sat on the cash, facing gross uncertainty about the rules of the game as the Obama administration continued to change them, ad hoc. What, exactly, will a dollar be worth tomorrow? Will the government honor contracts? With a dragging economy and huge new, unquantifiable risks from forthcoming health care, financial services, and environmental regulations, many businesses faced too many uncertainties to make the investments necessary to spur economic growth. Nobel economist Robert Lucas compared economic growth in the United States to growth in Europe, which has typically had a larger regulatory state. Growth rates in Europe have lagged behind those of the United States, and Lucas noted that increases in the size of government and the regulatory state in the U.S. could mean that our growth rates will be more like those in Europe and we may never return to the pre-2008 growth path.
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