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Source link: http://archive.mises.org/7715/why-is-bernanke-trying-to-fight-the-bear/

Why Is Bernanke Trying to Fight the Bear?

January 30, 2008 by

Last Tuesday, January 22, 2008, the US central bank lowered its federal funds rate target by a hefty 0.75% to 3.5%. The panicky decision to lower the fed funds rate target was made ahead of the Fed’s meeting at the end of this month. Last Tuesday’s cut by the Fed was the largest nonscheduled interest-rate cut in more than 20 years.

Let us say that the present aggressive interest rate stance by the Fed fails to prevent the economy from falling into a recession; what kind of action is Bernanke then going to undertake? In some of his writings, he has suggested that, under such circumstances, the Fed should adopt a very aggressive stance and start pushing money on a massive scale, i.e., helicopter money. Needless to say that if this were to happen, Bernanke would run the risk of badly damaging the foundations of the real economy. FULL ARTICLE


Paul Marks January 30, 2008 at 9:24 am

You mention a “tight stance” by the Fed during a recent period of time.

Some money supply growth numbers for this period of time would be useful to your argument.

jeffrey January 30, 2008 at 9:41 am

I was surprised by this too, since all the Fed’s numbers show nothing but up since 2001. Frank is using a specialize aggregate that reflects only immediately liquid monetary instruments, so it includes cash and all savings and t bond funds but excludes stock funds, at least as I understand it.

fundamentalist January 30, 2008 at 10:02 am

Business confidence plays an important role in the real economy, so doesn’t Ben run the risk of frightening business people with his dramatics? In other words, isn’t it possible that his dramatic rate cuts will cause business people to suspect that the economy is in worse shape than expected and influence them to reduce investment, as well as push investors into safer investments?

David Spellman January 30, 2008 at 10:15 am

The proverbial “soft landing” comes from allowing the markets to run their course and the economy to suffer now rather than stave off the correction.

The “crash landing” comes when the markets are artificial propped up and the economy is fueled with inflationary spending until the last possible moment. The it all collapses because nothing more can be done to prop it up.

Look at what happened to Japan. The central bank reduced the interest rate to practically zero, but it did no good. The Japanese economy collapsed into depression.

It can happen here, and the prospects look pretty good.

Adam Knott January 30, 2008 at 12:58 pm

Mr. Shostak’s article and Professor Reisman’s yesterday both address the problems inherent in a centrally controlled economy, where the right to issue and hold various forms of currency is monopolized by the state.

The inevitable consequence of this central control is that one agency, the state, adjusts various economic magnitudes (interest rate, money supply, etc.), thus harming the interests of some and furthering the interests of others. If people were free to issue and hold currencies of their choosing, then the monetary adjustments made by the representatives of any particular legally bound group (all those legally bound to the same monetary laws–as we all are today) would not necessarily harm those not legally bound to that group, or not harm them to the same degree.

Whether the state adjusts some magnitude up or down is obviously not the issue, but rather the fact that such adjustments are legally binding on those who might otherwise be members of alternate currency arrangements.

Both Shostak (due to Rothbard) and Reisman (due to Rand) however introduce a concepts that are subtle shifts from professor Mises’s logically consistent economic analysis. Both introduce the distinction between “real” and “unreal” in their economic analyses.

I don’t believe that the distinction between “real” and “unreal” is ultimately consistent with Mises’s formal approach to economics, and this distinction likely derives from the objective ethics of Rothbard and Rand, two libertarian thinkers who admired Mises, but did not necessarily understand his vision of praxeology as the logic of human action.

In Mises’s theory, it would be more accurate to conceive that something is “real” because it is an object of individual action. Whatever the central bank does is “real”, because it influences the course of events.

If we designate some aspect of the economy as “unreal” as Shostak and Reisman want to do, then we would seem to have two choices:

No further study on those aspects deemed “unreal”.

Or, initiate a science of the “unreal” in order to better understand it.

I don’t believe this is the intention of either Mr. Shostak or professor Reisman.

Dennis January 30, 2008 at 1:25 pm

I took Mr. Shostak’s phrase “tight stance” as meaning “relatively tight stance.”

Steve January 30, 2008 at 4:32 pm

I think Frank is possibly referring to the Adjusted Monetary Base figure that comes from the St. Louis Fed. It has been growing in a range of 1-3% since 06, I believe.

The AMB refers to money supply growth only and not credit growth. Correct me if I am wrong, but I think M3 is both money and credit growth combined.

My question is, if the Adjusted Monetary Base is growing 1-3%, but if the the demand for dollars around the world is falling by more than 1-3%, then it would seem the AMB is rising to much because demand is falling off more. Thus monetary policy is too loose even if the money supply is only growing at 1-3%

Inquisitor January 30, 2008 at 8:20 pm

Real vs monetary is a distinction that originates in classical economics. It’s not controversial, and frequently used by Austrians as well as other economists.

newson January 30, 2008 at 8:23 pm

in his sept 26 blog entry, stefan karlsson has argued that dr shostak’s money supply definition is wrong-headed. the link is http://stefanmikarlsson.blogspot.com/2007_09_01_archive.html

i personally find the shostak “pool of funding” concept rather amorphous and would welcome amplification.

KY Leong January 30, 2008 at 10:29 pm

On CNBC the other day, one British commentator suggested that it’s no more “helicopter” Ben, but now “crashing jet” Ben – crashing interest rates, crashing Dollar, crashing economy. I suspect we may be in for a long drawn deflationary period in the US going forward, just like Japan was last 15/16 years; near zero interests and huge deficit govn spending to no avail.

Mark Humphrey January 30, 2008 at 10:53 pm

Monetary policy has been moderately tight for the last few years. For example, over the past 12 months, the adjusted monetary base published by St. Louis Fed has expanded 1%. Frank Shostak’s AMS measures cash and depository money–monetary instruments owned by the holder or depositor. Other measures of near money, such as M2 and the now-discarded M3, include financial assets that are not money; if one were to assume that they were money, one would be double counting. For example, shares in a money market mutual fund are an investment acquired by the owner in exchange for money. The MMMF shares are an investment that may fall in price, for the fund company has no legal obligation to restore any value lost to the shareholder. In contrast, a deposit at a bank is a legally enforceable liability owed by the bank to the depositor.

So to guage monetary policy, focus on the monetary base or Fed credit–aggegates over which the Fed has direct control. Follow AMS to estimate changes in spending throughout the economy.

Frank Shostak’s real pool of funding is the same as Mises’ “subsistence fund”, which, if my understanding is correct, is the totality of goods on hand avaliable to fund production. During the period of production, captalists, entrepreneuers, and workers need to consume while awaiting the sale of the final product. When time preferences fall and savings rise, the real pool of funding increasers. And of course, it falls when people stop saving, or dis-save in response to rising time prefernces.

Sadly, the burgeoning and destructive growth of government in the US, characterised by decades of ever rising spending, regulations, and plundering, threatens to contract the subsistance fund. Meanwhile, profligate private spending and consumption–encouraged and subsidized by the welfare state and its ugly sister, the Federal Reserve System–increases the threat that the real pool of funding will go into decline, as happened in the US in the Thirties, and in Japan over much of the last quarter century.

A contracting real pool of funding forces reductions in production and wage rates. For relative prices, of producer and consumer goods, change. This change is identical to that of a temporary recession, except the recession becomes entrenched and long term in response to the long-term decline in the subsistence fund.

Ironcially, the more the Fed cuts interest rates and destroys capital through inflating, the more the pool of funding is prone to drop. For a big share of savings is extracted from income realized by prior savings. When yields plunge across the board, savings diminish. Meanwhile, as financially pressured individuals and firms consume capital to get by, the problem worsens.

The bright spot in this gloomy picture is the Far East, where government ahs been scaling back and people work hard and save aggressively. Maybe we should pack our bags and move to Singapore….

Niccolo Adami January 30, 2008 at 11:11 pm

Generally, from what I can tell, the article was more or less just trying to point out that because the “real pool of funding,” (i.e. the actual existing capital used to make things) has been drained, no matter how many dollars are pumped into the market, it won’t be enough to revitalize a depressed economy – much like a liquidity trap, only far more sophisticated.

This doesn’t seem to me to be the case in this instance, but it’s not an unbelievable one to make, indeed I agree that it’s a radical, though foreseeable possibility in the future.


Adam Knott,

I’m not certain what you mean by “unreal” exactly. Could you explain, please?



I generally tend to agree with Stefan Karlsson on most things, and I agree with him on Shostak too.

However, I wonder why you say that Shostak’s “real pool of fundings” are too vague, or at least lacking organization?

I could agree with this, certainly, but what makes you say that specifically? Are you unfamiliar with earlier articles by Shostak where he addresses the “real pool of funding” more specifically?

newson January 31, 2008 at 8:06 am

to niccolo adami:

yes, i’ve read lots of shostak’s pieces, both here and at brookesnews, where he’s a regular contributor.
and no, i cannot recall anytime seeing anything more than a passing reference to this term, nor can i think of any other austrian who uses this phrase. i’ve emailed him asking that more light be shed on what he exactly means, but so far to no avail…

eric lansing January 31, 2008 at 8:39 am

that article by Karlsson is so lame… Shostak is the best contributor to this site, and his AMS not only useful but closely correlated with various economic data with time lags – whereas M1-3 etc deviate from these data.

Classic “look how smart I am” nonsense. You’re not smart.

newson January 31, 2008 at 5:42 pm

i forgot to acknowledge mark humphrey for his take on the shostakian “real pool of funding”. thank you.

nevertheless, it still seems entirely abstract in a fiat money system, where genuine savings are impossible to separate from fed created money. hence the uncertainty of success in any fed intervention aimed at resuscitating the economy, as shostak mentions.

i’d still like to hear more about this construct.

newson January 31, 2008 at 7:42 pm

to eric lansing:
without making any judgement on who’s monetary analysis is more accurate, shostak’s or karlsson’s, i agree that any hint of hubris is dangerous in the economic sphere. also, bringing personal antagonism into debates does nothing to forward understanding and can lock people into defending positions that might otherwise be modified.

Niccolo Adami January 31, 2008 at 11:39 pm

Newson, I believe Frank has actually defined the real pool of funding several times, just in passing without devoting entire papers to it.

Then from 0.3% in July 1927 the yearly rate of growth accelerated to 92% by November 1927. Needless to say that such massive monetary pumping amounted to a massive exchange of nothing for something and to a severe depletion of the pool of real funding, that is, the essential source of current and future capital needed to sustain growth.


Per-Olof Samuelsson February 2, 2008 at 3:03 am

I know Mises’ philosophical framework is not perfect, but did he really go so far as to deny the distinction between what is real and what is unreal? Sounds too crazy to come from a person of undoubtable intelligence.

Stephen Grossman February 3, 2008 at 5:34 pm

Where can I find a regular (yearly, perhaps) report on the total of govt money and govt credit (national, state, municipal, etc.) in America? Is there anyone who abstracts from govt reports and comments on it? I suspect that its very large, larger than even pro-capitalists may think. And govt credit is pervasive and somewhat hidden or, at least, ignored.
I read one of Mises’ books on epistemology years ago and it was a miasma of rationalist, floating abstractions. I dont recall if Mises was explicit in denying a real/unreal distinction. But it’s implicit in one consequence of his subjectivist, Kantian philosophy of science, ie, positivism. Positivists study relations among appearances without any concern for reality. See David Harriman’s “Philosophical Corruption of Physics” (Ayn Rand Books)for a general background.

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