Money for Nothing
Who caused the financial collapse? Just about everyone.
Of course, the press ignored Allison’s interpretation of the crisis since the Fed is a totem of the economic, journalistic, and intellectual elite. “Unfortunately, in [Alan] Greenspan’s case, power not only corrupted him, but also destroyed his integrity.” In the lead-up to the collapse, Greenspan “created a structure of negative real interest rates,” forcing rates down to 1 percent, encouraging and providing incentives to banks and borrowers to buy and sell poisoned products—and to take on vast amounts of shaky debt and leverage which could not be sustained if higher real interest rates returned.
Enter Ben Bernanke, former Princeton economist and Fed vice chairman under Greenspan: “After he became chairman [in 2006] Bernanke rapidly raised interest rates and created an inverted yield curve” (higher short-term rates than the high long-term rates). But homeowners, businesses, and banks, lured by the Fed into leverage and cheap loans, could not finance the Greenspan interest-rate increases, followed by Bernanke’s abrupt move to raise the federal funds rate (the interest rate the Fed charges banks) to 5.25 percent.
The impact of such an interest rate move (from 1 percent to 5.25 percent) must be thought of as a price increase of 500 percent plus—similar to an increase in the price of a loaf of bread from $2.50 to $15. Remember that Americans (and consumers worldwide) had borrowed and leveraged themselves during the period in which Alan Greenspan forced the federal funds rate down to 1 percent, giving rise to subprime homebuyers who were publicly encouraged by Greenspan to take on low-rate, “interest-only” mortgages. Global financial institutions subsidized by the Federal Reserve aggressively fabricated shaky loans, repackaged them, and sold them worldwide to individual and institutional client investors who trusted the lenders.
Then Bernanke “held the inverted yield curve for more than a year (from July 2006 to January 2008), one of the longest yield-curve inversions ever.” And inverted yield curves historically lead to recessions. In a word, according to Allison, the Federal Reserve was both the fundamental cause of the real estate bubble and the agent of its collapse. But Bernanke “was adamant that there would not be a recession.”
In my career, the Fed has a 100 percent error rate in predicting and reacting to important economic
turns . . . [because it] is trying to arbitrarily set the single most important price in the economy—the price of money.
And yet, as we know, setting wage and price controls, from the time of Diocletian to Richard Nixon, has proven in every case a disaster for economies and the people entrapped by them. Only totalitarian regimes have compelled and sustained comprehensive price and wage controls—until national collapse. In peacetime, free individuals will not long sacrifice themselves and their families to the arbitrary, gratuitous coercion of the state.
So does Allison have a solution for the distortions, subsidies, and money-printing exercises of the Fed? He is an advocate of the policies of the late Austrian economist Ludwig von Mises, and a persuasive, principled advocate of a purer free market, through which we can reform our overregulated economy.
For monetary order, Allison’s explicit proposal is a “private banking system” free of Fed manipulation and incompetent regulation (the Fed being the ultimate monetary cause of booms and busts). Allison’s free monetary order “operates on a market-selected monetary standard, which would probably be gold,” and that monetary standard, he argues, like any honest system of weights and measures, must be a reliable and trusted standard of measurement. Allison’s analysis is that the standard, namely the dollar, should be expressed as a defined weight-unit of gold and institutionally associated with a private banking system. In the absence of FDIC subsidies, sound banks would be based on earned trust, disciplined by competitive solvency requirements. These free-market institutional arrangements would be reinforced by effective bankruptcy laws, and by laws, strictly enforced, against force and fraud.
Of course, any one of Allison’s 25 chapters can be cited for his candid and authoritative analysis of the problems of the American economy. There are shrewd inquiries into the labor market and unemployment, into FDIC incompetence and political influence, the SEC and TARP. Only in a truly free market, he writes, shorn of crony capitalism, may the individual choose the purpose-driven life of a dedicated calling, the sole road by which he can gain authentic self-esteem.