John Tamny, of Forbes Online and Real Clear Markets, has penned an original and stimulating look at the economics of money and banking: Who Needs the Fed?. I sang the praises of his remarkable Popular Economics when that came out, and now his new book, Who Needs the Fed? has me singing them again, in a new key.
Let me note upfront that there are substantial parts of this book with which I, so far at least, disagree. I have exchanged some emails with Mr. Tamny on these issues and nothing has been resolved. This is not A Bad Thing: it can be actually helpful to follow a rational person’s thinking when you disagree with the conclusion he reaches.
In this case, the disagreement is about inflation. Mr. Tamny thinks the Austrian theory of what inflation is, and how it works, is flawed (I don’t). Surprisingly, he argues that expanding the fiat money supply does not affect things much. It mainly leads people to use a different money (e.g., foreign currency).
The German hyperinflation? He holds that in actual commercial transactions, the hyperinflated Marks were scarce, because no one accepted them. An interesting idea, but I’m not sold on the whole idea of “money-as-yardstick.”
But, as a whole, the book’s viewpoint is right and penetrates to the fundamentals. Here’s a non-exhaustive list, with quotes to illustrate.
The primacy of production (my term) over consumption:
Growth economics is all about reducing the barriers to production.
Amen. And he carries this idea, which should be the axiom of economics, throughout the book.
Credit is real resources–labor, materials, factories, etc.–not money:
Remember, it’s not dollars that are borrowed but the real resources that dollars are exchangeable for.
. . . credit is not money. If it were, the “easy credit” that many-who-should-know-better clamor for would . . . be as simple as printing lots of money. In fact, credit is always and everywhere the actual resources–tractors, cars, computers, buildings, labor, and individual credibility–created in the real economy.
The pursuit of credit is actually the pursuit of the resources . . . necessary for entrepreneurs and businesses to turn concepts into reality.
The interest rate is a price set not by whim or greed or Fed decree, but by the objective factors governing supply and demand:
. . . the rate of interest [is] a price meant to bring savers together with borrowers. If this rate is distorted by governmental decree, the odds of exchange decrease. For credit to be “easy,” the price of credit must reflect both the needs of those who seek to access it and the needs of those who have it. Put more plainly, the price of credit should be set in free markets.
Banking should be totally free:
Free markets should apply to banking just as they do to any other industry sector.
John Tamny is one of the few men who, when they say “free markets,” mean free markets.
All government spending, not just deficits, comes at the expense of the private sector:
. . . government spending is the opposite of stimulation. It is a tax on real resource creation.
All government spending should be viewed as deficit spending (even that which is constitutional) simply because governments are consuming from the private sector first. . . . [G]overnment spending is what we suffer in the here and now.
The longer term effects of spending, Tamny notes, are the never-to-be, Bastiat’s “that which is not seen”:
Government consumes credit that would otherwise flow to cancer cures, transportation innovations like private jets, and technological innovations that would make the Internet seem quaint.
Government intervention in the economy is immoral:
The wealth they [the Clintons and other politicos] enjoy is the result of the federal government confiscating it from its actual creators. The Clintons are posh and supercilious, but their grand lifestyle is directly attributable to the ability of the political class to plunder America’s truly productive.
When politicians talk up ‘stimulus’ spending,’ it is realistically code for a redistribution of the economy’s resources by a political leviathan that is being enriched on the backs of the American people.
There is much in this book that will make you question conventional wisdom, even if you are already a staunch advocate of laissez-faire capitalism. For example, did you know that banks supply only 15% of the credit extended in this country?! I didn’t.
Really eye-opening, in this regard, is his attack on the idea of “the money-multiplier.” That’s the belief, held by nearly everyone, that banks lend out a high multiple of the money they take in–not because of the leverage of fractional reserve on the original loan, but because the loan funds go back into the banking system, where they are re-loaned and re-loaned.
He argues that the idea that this multiplies credit confuses money with real wealth. The same tractor, for instance, can’t be used by many individuals at once. So, while the re-loaning may expand nominal bank balances, it does not and cannot expand actual credit. Credit is the resources. The amount of resources available is what it is and cannot be expanded by acts of the banking system. What can be expanded is the use of these resources, by sharing that use among different borrowers, each having the resources available when they need them, which is not all of them all the time. Here, he gives the example of NetJet, a company that “sells fractional ownership of the jets in its fleet of seven hundred planes.”
He uses the NetJet example to demolish the opponents of fractional reserve banking, notably the anarchist Murray Rothbard:
As the late Murray Rothbard, a true-blue Austrian, long ago put it, “Fractional reserve banks . . . create money out of thin air. Essentially they do it in the same way as counterfeiters.” Underlying Rothbard’s assertion is a fanciful belief that the alleged “money multiplier” is a fact. It’s fiction.
The essential here:
Someone can borrow only if someone else is willing to cease using money in the near term. . . . For someone to lend, that someone or business must give up, at least in the near term, the resource access that those dollars represent.
I would add that it is from the part of the funds that are not being used at the moment–the part of the loan that is sitting in the bank as the borrower’s balance–that the bank makes its re-loan. So, what is re-loaned is what is not being spent, and what is being spent is not being re-loaned.
Those who are opposed to fractional-reserve banking must be able to answer the argument of his chapter “Banks Don’t Multiply Money and Credit.”
Equally controversial are Tamny’s arguments that a) the Fed isn’t that influential in the economy, and b) the housing crisis was not caused by credit expansion. I lean against his views here, but I have to admit his arguments give me pause.
In short, this is a book that is on the right economic and moral premises and that will make you think. Even if you end up disagreeing with the “heretical” positions he takes, his first-handed challenge to familiar ideas, his new facts, and his new perspective will provide you with inestimable value.