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28 February 2012

Monetary Policy: Boring, But Crucial

James Dorn of the Cato Institute recently wrote an article that appeared in Forbes.  Whenever monetary policy comes up eyes glaze over and, frankly, I can completely understand.  It's not as fun to talk about as the newest movie.  However, it is absolutely vital that people understand why the Federal Reserve is the root of many of our long-term problems.  They create havoc in the system when they are unpredictable and they steal money from Americans when they print more dollars and hand it out to their cronies on Wall Street.  Please take a moment to read Mr. Dorn's article.  Here are a couple of excerpts:


After expanding its balance sheet from less than $1 trillion before 2008 to nearly $3 trillion today, the Fed has had little impact on the rate of unemployment but has greatly altered the allocation of credit and distorted the yield curve. It is ironic that while Congress criticizes China for manipulating its exchange rate, little is said about the Federal Reserve's manipulation of interest rates and asset prices. 
It is unnatural to have interest rates close to zero and to distort the yield curve by pegging longer-run bond prices at artificially high levels and suppressing yields. Keeping rates low to finance government debt is not a recipe for long-run growth or for credible U.S. monetary or fiscal policy. Purchasing MBS to fuel the housing market merely delays the readjustment of relative prices that needs to occur before the U.S housing market can return to normal. 
Rather than engaging in pure monetary policy to ensure long-run price stability and prevent erratic changes in nominal GDP, the U.S. central bank has engaged in fiscal policy by allocating credit to favored groups and thus politicized monetary policy.... 
Theory and practice both tell us that printing money cannot generate economic growth or lower the natural rate of unemployment, but it can cause inflation. An excess supply of money can also distort relative prices and misdirect investment. The Federal Reserve helped create the bubble in the housing market by keeping interest rates too low for too long and is now creating another bubble in the bond market. Pegging the federal funds rate close to zero for another three years and twisting the yield curve to lower longer-term rates will continue to misprice credit, penalize saving, and encourage risk.... 
Some asset prices need to come down. That readjustment is not deflation. It is the lowering of some prices relative to others in order to let markets clear. The Fed should be more concerned with maintaining a sound currency than with propping up housing prices and the prices of longer-term government securities, including agency debt. 
Asking the Federal Reserve to stimulate the economy and lower unemployment is asking too much. Monetary policy can wreak havoc on an economy when it is erratic. But when it limits itself to safeguarding the long-run value of money, it can grease the wheels of commerce and allow markets to perform their magic.




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