Pro-Federal Reserve?

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I've noticed that the Federal Reserve seems to be a favorite whipping boy of both left and right politics yet, there doesn't seem to be too much stuff out there defending it. However despite that the Federal Reserve seems to generally be a success despite our current economic situation. I was wondering if anyone had anything possitive to say about the Federal Reserve or, could reference some Pro-Federal Reserve information that I could look at. Anti-Federal Reserve stuff is fine but, frankly I've seen enough of that to know that many people don't like the Federal Reserve. I'm just interested in reading a counter point.

I, for one, will readily speak in its favour.

First things first. There are two principal levers that government can use to affect the economy: fiscal policy and monetary policy. The first is primarily concerned with the amount of money that government raises in taxes and spends on programs, but can also include government's direct participation in the market place by competing with private business, or holding state owned enterprises that compete with private business. The latter is concerned with two things: the volume of the money supply and interest rates.

It is my firm belief that these two levers should never be in the same hands. If government controls fiscal policy and the money supply, it can simply print dollars whenever it wishes, and inflate its way out of deficits. So, since government must be in charge of fiscal policy, it follows that any reliable currency must be issued by a central bank whose decision making is independent of government to the extent that government must live within those decisions and cannot gainsay them. (Much the same way that government must abide by decisions of its courts). So if the federal reserve didn't exist, something would have to exist in its place.

People complain that the federal reserve is capitalized by private investment (member banks own the equity in the federal reserve). This strikes me as a strength, rather than a weakness. With central banks like the Bank of Canada and the ECB, it is government that is ultimately on the hook for the liability of the currency. But with the Federal Reserve, the US Treasury is only on the hook for the face value of the T-bills that it has sold to the Federal reserve. (That's how US dollars come into existence: the federal reserve authorizes the issuance of a certain volume of currency, and the federal government puts up T-bills to underwrite them). There is no profit on the banks' investments in the Federal Reserve, surplusses belong to the government. The only advantage that owning equity in the Federal Reserve brings is that those banks that do are able to deal directly with the Federal Reserve to borrow working capital, whereas all other banks must source it on the open market.

People complain that federal reserve notes are underwritten by government borrowing. Again, I see that as a strength, not a weakness. The alternative is a currency that is based on the value of some holding--usually gold or a combination of gold and silver. There are three possible ways to do this. The first is to hold the gold in specie--but there's a huge problem with this: you have to acquire the gold, and you have to take it out of the market. At present prices, it would take 20% of all of the gold ever mined in human history to underwrite the US dollar--and at least gold has precious few industrial uses. If you were to underwrite currency with, say, petroleum reserves, then you could never touch those reserves unless you first took money out of circulation for the purpose. Alternatively, you can peg currency to the price of gold (or petroleum), but that is hugely problematic, because you then lose control of the value of your currency. If the price of gold spikes, then your exports become unaffordable--and no amount of economic malaise back home is going to bring the value of your currency down in order to make your exports affordable again. Unsuprisingly, there is no reserve currency in the world that is commoditized any more--the last holdout was probably the Swiss Franc, which had a 40% gold reserve requirement until the year 2000.

Most central banks have one, and only one responsibility: the control of inflation. By controlling the money supply, and interest rates, central banks are able to attempt to maintain price stability by ensuring that the availability of cash and credit grows neither faster nor slower than the purchasing power of the economy. If there is one criticism that I will make of the Federal Reserve, it is that it has too many responsibilities. It's economic targets include a range of measures, of which inflation is only one. With that many moving targets, it's difficult to have a clear management framework for monetary policy. Furthermore, the Federal Reserve's regulatory responsibilities are perhaps inconsistent with its role as central banker. Canada, for example, has separated these roles, and it is no longer the Bank of Canada, but the Minister of Finance (through the Superintendant of Financial Institutions) that is responsible for the regulation of banks.

But the ultimate statement in favour of the Federal Reserve is that the institution works. When the red flags go up, where do investors run for safety? The US dollar. And that is with good reason.

I suppose you could look up Paul Krugman's column. He seems to be economically in favor of the Fed.

You mean Paul "print more money" Krugman?

ruveyn

Yeah that guy. Rates are low so borrow moar money.

If the OP wants a counter point in favor of the Fed then Krugman seems to be a big supporter. He does criticize the Fed policies, but he supports it's existence as a manager of the monetary system.

Here's the basic issue:

Informed people tacitly accept the existence and function of a Federal Reserve. Uninformed political nuts often wildly oppose it.

I'm sure some people will hate me for this characterization, but it is broadly true. Not enough has changed in academic economics in the last few years to overturn the strong presumption in favor of a Federal Reserve, and no trends really exist that would change this. The issue is what is going to replace a Federal Reserve? Any replacement would be speculative and with some reason to suspect it would not be an improvement.

And the problem with that viewpoint? We're not currently dealing with inflation problems: http://inflationdata.com/inflation/infl ... lation.asp And if the recovery is going slowly, an expansion of the money supply may actually be a reasonable policy. It may fail to be the best, but acting as if printing more money makes Krugman a loon is itself a bit loony.

Modern day economic rightwing populists seem to support contractionary fiscal and monetary policies all the time. "No money printing - hyperinflation!! !" and "no spending - Greece!! !" are their rallying cries.

ruveyn -- Money is no longer printed. It only takes a few keystrokes to create billions or trillions or whatever. Money will soon have little meaning as book entries will take over. It's all magic.

By the way The Fed is the Master Magician.

My problem is that many of the same people who attack the Fed are often the strongest proponents of capitalism. However, the Fed and similar banking institutions are modern capitalism. They represent the privatization of monetary policy.