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Source link: http://archive.mises.org/15361/the-politics-of-deflation/

The Politics of Deflation

January 19, 2011 by

The Fed was created for the benefit of the banking class, and while it remains under the control of that class it will not pursue a policy that would lead to a breakdown in the monetary system from which the banking class profits. FULL ARTICLE by Vijay Boyapati

{ 22 comments }

David C January 19, 2011 at 12:15 pm

I have known Vijay’s position on this for a while, and he makes good points, but I still respectfully disagree with him here. I think his mistake is that he fails to understand that the free market never choose the US dollar as a currency, the only reason why society chose it is because the FR pulled a fast-one when it was switched it off gold. Today, the only reasons why society continues to use US dollars is because of:

a. force of habit
b. we are forced to pay taxes in that currency
c. we are in debt with that currency

Without those forces, the US dollar will revert back to it’s paper value and not be used, hence hyper-inflation. That’s why the Federal Reserve must keep new credit flowing into the system at all costs. They must keep people in debt, they must keep people using dollars, and they must keep people in the higher tax brackets. The only way they are going to be able to do that is via inherently inflationary policies.

The Federal Reserve, bankers or not, are like any other social leech, when push comes to shove, rational decision making will not guide them. Look at the government in Tunisia, while it would have been in their best interest to back off, political and rent seeking forces ensured that they never would till it was too late. The same is true with the US financial sector. While it might be in their best interest to pursue deflationary policies while taking measures to back up the dollar with real assets, they will probably not do this till some external force makes them do it. By then it will be too late, and massive inflationary forces and loss of faith in the currency will already be here.

Drigan January 19, 2011 at 12:38 pm

Very interesting perspective, I’ll need some time to digest this and see how much I buy it . . . but at my first glance it looks very promising.

Rick Weinle January 19, 2011 at 1:03 pm

The Fed is a the source of funds when it buys debt. Political interests have a growing need to sell debt.
Bankers make money by arranging loans, there is no need to collect debt when the Fed buys it.
Banking and political interests are the same.
Soylent Green is People.

Mashuri January 19, 2011 at 1:26 pm

Vijay’s point relies on one key assumption: That the “banking class” will remain in control of the U.S. monetary system. I usually put my money (pun intended) on the guys with the guns when push comes to shove. What will stop the “political class” from nationalizing the Fed into the U.S. Treasury (the Constitution paves the way for such an action) when the Fed’s actions start jeopardizing political careers?

Beefcake the Mighty January 19, 2011 at 1:33 pm

What real difference is there at this stage between the banking class and the political class?

Mashuri January 19, 2011 at 1:55 pm

Very little at the moment, but the political class will sacrifice the banking class when the latter’s actions to save themselves (with “controlled” deflation) contradict enough with the former’s desire to prolong their careers with inflation.

Del Lindley January 19, 2011 at 5:37 pm

Not so fast. The political class saves itself not by taking on more responsibility but by having someone else nearby to shoulder the blame. The banking class fits that role quite nicely. The smarter members of the political class understand this.

Mashuri January 19, 2011 at 8:34 pm

Are you kidding? The savvy political class has made an art out of taking control of something, then placing the blame on others when things go bad.

Del Lindley January 20, 2011 at 12:00 am

And why would you think I am kidding? Your original post questioned the longevity of the American banking class and speculated on the absorption of the Fed by the Treasury. Extraordinary claims such as these demand extraordinary reasoning, and what you have provided is clearly wanting.

With respect to inflation the interests of the banking and political classes are in obvious alignment as they both feed off of it. “Controlled deflation” in the present context still implies continued inflation of the monetary base in an attempt to support bank asset prices. There is no qualitative divergence of interests that would justify the “sacrificing” of one class for the other. The political class already exercises an indirect or covert influence over the banking class via the Fed’s dual mandate. The question for you would be: What could possibly motivate the political class to seek overt control over monetary matters and put the full dimensions of their incompetence on global display? Merely saying that “they must do so to preserve their careers” won’t cut it since if circumstances devolved to the point where this option seemed attractive their careers would already be toast.

If we can thank modern mainstream economics for anything it might be for making central banking theory so abstruse that purely political operatives are thoroughly intimidated by it. It will always be easier to be an armchair quarterback carping from a safe distance than to be on the field making the decisions and taking the blows.

Vanmind January 24, 2011 at 11:13 am

No, the last, desperate gamble for all politicians is to move toward total control — totalitarianism, lest they lose their sense of dominance.

Dave M January 20, 2011 at 12:26 am

@Mashuri,

I wish it were so but the political class and the banking class are one and the same. It is a symbiotic relationship….the state cannot inflate its way through continual deficit budgets without the fractional reserve banking system. 100% demand deposits or a gold standard are like holy water on a vampire as far as our politicians are concerned.

Why else would the Fed talk about a “target” rate of inflation as if inflation were desireable? Inflation is a corrosive cancer that ultimately destroys fiat money yet without it the welfare/warfare system would be unable to fund itself. There is no political party of any extent that that would back sound money.

bionic mosquito January 19, 2011 at 3:04 pm

Kucinich has legislation to do just this. I think it goes by the name “NEED” act.

David Gordon January 19, 2011 at 1:33 pm

I don’t think that the quotation from Rothbard implies that it is of no consequence whether the political or banking class controls the money supply. Rather, Rothbard’s contention is that whether a Central Bank of the Treasury is in charge, money is at the mercy of the government. It does not follow from this that any agency of the government will pursue an identical monetary policy, or that different agencies will follow policies that differ only in inconsequential ways.

Aaron January 19, 2011 at 2:28 pm

“Not until the losses of the housing boom are fully cleared — which might take years under a policy of controlled deflation — should we expect an inflationary credit expansion and a significant rise in prices.”

Has the author seen the CRB index lately? Rising prices are all around us. From what I see, the only thing keeping headline CPI “low” is the owner’s equivalent rent component.

Nevertheless, I appreciate his opinion regarding the political vs. banking class’ interest in various forms of inflation.

David Gordon January 19, 2011 at 2:29 pm

Sorry, that should be “Central Bank or the Treasury”.

Not Fooled January 19, 2011 at 4:58 pm

The article doesn’t seem to make much sense. What’s the case of Japan supposed to prove? The japanese CB should have inflated the money supply but didn’t? So central banks are not always that bad? Or else?

BioTube January 19, 2011 at 5:37 pm

I think he was saying the US was headed down the same path, provided the Fed maintains its independence.

Joe January 19, 2011 at 7:14 pm

Not Fooled,
Just like the Europeans brought death through smallpox and the like to the indians of the New World, so did the USA bring the imposed Keynesian and socialist policies on Japan right after WW11. The result of this policy was to give zombie life to the hopelessly bureaucratic and bankrupt conglomerates that control Japanese industry, banking, and politics.
Japan never allowed deflation to cleanse the economy and politics. Japan in the 1990,s sought to fix the economic crisis through increasingly heavy does of inflation. After the boom comes the depression. Just let it clear itself. Re-inflating the economy would be the perscription that the USA is doing right now. I can’t wait to see the eventual results.

Ken Zahringer January 19, 2011 at 8:15 pm

Fascinating article, Vijay. You make a good case. I wonder if we are headed toward a showdown between the political and banking classes. The government works by handing out goodies, and currently they’re handing out record amounts. The continuing deficits are bound to start pushing up interest rates at some point – foreign central banks won’t buy all those bonds. Then the Fed will have to decide between raising the interest target or pursuing inflationary policy. I’m not making any bets on that one.

Paul R. January 20, 2011 at 12:49 am

This was a good article.

I don’t agree with the conclusion, but it was well argued.

Dan January 20, 2011 at 2:04 am

I don’t know how a deflation argument can be made when prices are already rising. I think to much credit is given to these guys like Bernanke to think he could have a slow steady decline. How is Bernanke supposed to know how much money he needs to pump in and how will this manipulation of interest rates not cause more misallocations. The guy is a mad scientist as Robert Wenzel would say. I’ll put my money on Wenzel being right about inflation, especially when I’ve seen my lunches go up by 6% at three different places in the last three weeks. I guess there isn’t inflation if you don’t buy clothes, food, energy, or commodities.

Colin The Bear (Australasia) January 20, 2011 at 8:26 am

This is a fantastic summation of the vested interests of the Bankers and the total foolishness of Politicians. Yes, Bankers need to keep the cow alive to be able to milk it, politicians want to make the pretence of being more generous to the cow, but cannot manage the balance between milking and generosity and ultimately theie feable attempts end in hyper-inflation.
How about hard money and NO fractional reserve banking?!!
Dream on!
I need some advice as to how I can board the gravy train! If you can’t beat them, join them!

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