Fed Chairmen often speak of "accommodation" as if it's the magic needed to solve economic problems. But what happens when the Fed “accommodates” us by increasing the stock of money?
First, it reduces the value of the dollar. More dollars means each one buys less, putting upward pressure on prices. Technology and improvements in production tend to push prices downward, but because of inflation fewer people can afford admission to the market’s bounty.
As a rough idea of how far the dollar has plummeted, $5,000 in 1913 had greater buying power than $110,000 in 2011. [BLS inflation calculator]
Second, a depreciating dollar discourages savings. Why put money away if it’s going to lose value? Instead, millions of investment neophytes put their funds in the stock market in an attempt to protect themselves against Fed printers. Has this been a successful hedge?
During the biggest bull market in history – 1984 to 2001 – the S&P rose 14.5 percent a year. But frequent trading by fund managers and high fees reduced the average rate of return to 4.2 percent annually. According to Vanguard group founder John Bogle, if you include the results of 2002, the average return from equities was under 3 percent per year – less than the inflation rate. [Bonner and Wiggin, p. 245]
Third, new injections of money spur a tinsel prosperity, and the Fed keeps injecting new money to feed the boom. With so much borrowing and spending, prices may rise even faster than the rate of currency inflation.
As the public broods over higher prices, a semantic shift takes place. Inflation comes to mean not an increase in the money supply, but the rise in prices itself. [Sennholz, p. 69] Thus, businesses that charge higher prices become the villains, while government officials that threaten price controls are the avenging angels. Most people have no idea what the Fed does, so government can scapegoat business and appear to be defenders of the public weal. Nor do most people understand that price ceilings create shortages, by encouraging consumption and retarding production. Shortages, in turn, bring on government-imposed quotas, which foster corruption, black markets, and violent crime.
Fourth, as the influx of dollars drives prices higher some industries find themselves at a disadvantage with foreign competitors, tempting them to lobby Washington for protection from imports. Protective tariffs and quotas, of course, push prices up further, while sometimes sparking trade wars as other countries retaliate on American exports. And trade wars can lead to shooting wars.
On June 17, 1930, with the economy fighting the recession brought on by Fed monetary policies, President Hoover signed the Smoot-Hawley Tariff Act, raising tariffs on over 20,000 imported goods to unprecedented levels. Other countries immediately retaliated, markets shut down, and economic conditions worsened worldwide.
Fifth, inflation raises nominal incomes, pushing people into higher tax brackets, which increases government tax revenue. As people’s wealth goes out the window in depreciating dollars, taxes consume more of what remains.
Sixth, inflation shifts wealth from people who can’t or don’t know how to defend themselves from monetary destruction to those who can. As a simple example, a person living on a fixed income may find his buying power so depleted he sells a family heirloom to pay for an unanticipated expense. Or a bank that was part of the lending spree that helped drive prices skyward may foreclose on the homes of some of its borrowers, whose incomes were ravaged by monetary debauchery.
Seventh, the Fed’s “accommodative” measures keep people working much later in their careers because they cannot afford to live off their deteriorating pensions. Dollar depreciation is a huge reason why both husband and wife work in many families.
Eighth, because government often gets the new money first, it can fund controversial measures such as war and bailouts without drawing taxpayer ire. Government simply puts the funding on its charge card, prompting the alchemy of Fed debt monetization. We get the bill, of course, but this way it’s spread over everything else we buy, so we never see it itemized.
Ninth, because inflation has an uneven affect on prices, raising some faster or sooner than others, people have a hard time distinguishing illusion from reality. As cheap credit abounds, business people, investors, and cube dwellers hear the siren call of can’t-miss profit opportunities. Fortunes are made then lost, and companies that lose money find it harder to keep employees.
Tenth, government may pose as the savior of a group of voters they’ve impoverished, such as the elderly, by subsidizing their medical expenses. New entitlements create the need for more revenue, which fuels more inflation, pushing the dollar closer to a complete collapse.
Eleventh, as Ludwig von Mises observed, “under inflationary conditions, people acquire the habit of looking upon the government as an institution with limitless means at its disposal: the state, the government, can do anything.” [Mises, p. 66] Through deficit spending the state will devour limited resources trying to maintain this illusion.
If gold is the barbarous relic its many detractors claim it is, we might expect the Fed’s fiat currency to be a better deal. But even former Fed Chairman Greenspan admits that it isn’t, telling a New York audience in 2002 that prices soared in the decades following the gold heist of 1933.
Lord Keynes, the 20th century’s guru of deficit spending, never spelled out how deficits should be financed, admitting only that increased taxation was not the answer. [Hazlitt, 1982] Perhaps he had pangs of conscience about calling for inflation outright, since he knew it would destroy society in a manner that “not one man in a million“ could diagnose. [Keynes, 1919, Ch. 6]
Political issues dominate the news, but how little we hear about the policies nurturing those issues, one of which is government’s power to confiscate wealth with the Fed’s invisible hand.
The foregoing is an excerpt from my book, The Jolly Roger Dollar: An Introduction to Monetary Piracy.