David Sherin wrote: VR is way off about the length and severity of many of these panics/depressions/recessions. I think the biggest myth is that the panic of 1873 was a “Long Depression”. Rothbard, in “A History of Money and Banking in the United States” (http://mises.org/books/historyofmoney.pdf)points out that from 1869 to 1879, real GNP increased at 6.8% per year while GNP per capita increased at 4.5% per year. The money supply grew at 2.7% per year and prices fell by 3.8% per year.
Thanks. That is very interesting. I was expecting something along those lines. I recently started reading Rothbard’s book, “America’s Great Depression” which starts off on page 1 with “Business Cycle Theory”.
THE EXPLANATION: BOOM AND DEPRESSION
In the purely free and unhampered market, there will be no
cluster of errors, since trained entrepreneurs will not all make
errors at the same time.4 The “boom-bust” cycle is generated by
monetary intervention in the market, specifically bank credit
expansion to business. … p. 54/409 pdf document, page 9 of the book.
That’s why Vox Rationalis’ contention that the business cycles prior to the institution of the Federal Reserve not only existed, but were worse and more frequent to boot. As others have noted, however, there were central banks in the U.S. prior to the Federal Reserve. I’m also guessing that fractional reserve banking was in play and that therefore banks effected expansion and contraction of the money supply whether there was a central bank or not.
I’ll certainly have to try and finish Rothbard’s Great Depression and then start on his “A History of Money and Banking in the United States”.
I’m sure getting a lot of reading material to try and digest. . But I guess anything worthwhile can take some effort.
Everyone admits that the interwar period (1914-45) was the least stable since the Civil War in U.S. history. But it is also no longer evident that the post-WWII era has been more stable than the classical gold standard period (roughly 1879-1914). You should encourage your teacher to have a look at Christina Romer’s important (1986 and 1989) papers pertaining to this topic, as well as those of Joseph H. Davis and (most recently) Albrecht Ritschl, Samad Sarferaz, and Martin Uebele. According to them, the U.S. economy has been at least as unstable since WWII as it was in the decades prior to the fed’s establishment–and that’s not even taking the recent crisis into account. Needless to say, a comparison of pre-WWI experience with that of the entire post-Fed period offers no basis whatsoever for singing the Fed’s praises.
“I have another question, myself. My economics teacher stated in class (she’s pretty much Neo-Keynesian) that recessions have gotten much shorter and shallower than they used to. Is there any truth to that? And if so, why?”
Quite false, the Great Depression lasted 16 years, nothing in the XIX century compares to that.
Actually that came up in the discussion and Vox Rationalis felt he had an answer:
VR: Since 1950 (60 years), we’ve had 10 recessions (including the latest) with a combined duration of 121 months (assuming, beyond all available evidence, that the latest recession continues today). Between the end of the Long Depression in 1879 and 1908 (29 years), we had 8 recessions totaling 150 months. Latter period - 16.8% of months in recession, earlier period - 43.1%.
<<< INSERT CONTRARY DATA HERE >>>
<<< THAT IS, IF YOU CAN FIND ANY >>>
John Galt: “I’ll take the post-war Fed…against the pre-Fed business cycles any time.”
VR: And what do you know, since 1950 the business cycle has averaged 6 years, whereas in the 30 years ending with the recession associated with the 1907 panic (which led to the Fed’s creation) the business cycle averaged less than 4 years. Thanks - you caused me to produce yet more evidence that the Fed has helped to steady the economy.
John Galt: “The Great Depression dwarfs the Pre-Fed recessions.”
VR: True! You got one! Of course, I freely admitted that the Fed made big mistakes back then. Are you now saying that we haven’t learned anything since then? I think recent events belie that claim.
As posted on “Seeking Alpha”: The most authoritative recent research contradicts VR’s claims concerning the relative stability of the pre-WWI and post-WWII U.S. economies. I especially encourage him or her to have a look at Christina Romer’s important (1986 and 1989) papers pertaining to this matter, as well as those of Joseph H. Davis and (most recently) Albrecht Ritschl, Samad Sarferaz, and Martin Uebele. According to these papers, the U.S. economy has been at least as unstable since WWII as it was in the decades prior to the Fed’s establishment–and that’s not even taking the recent crisis into account. Needless to say, a comparison of pre-WWI experience with that of the entire post-Fed period offers no basis whatsoever for singing the Fed’s praises.
It is particularly wrong, by the way, to speak of a recession of 1873-9 or of 1893-7. These ridiculously long contractions are figments of the data, which conflate nominal and real developments. Sure, if you reckon every deflation as contractionary, the 19th century might well be viewed as one long downturn. But more careful reviews of real data–certainly more careful than the NBER’s mostly hocus-pocus pre-1929 chronology–shows that the downturns of 1873 and 1893, though serious enough, were not of much more than average duration. Indeed,as Atkeson and Kehoe show in their 2004 AER article, apart from the noteworthy exception of the 1930s, there simply isn’t any clear link between deflation and recession.
Thanks for taking the time to post that over there, Selgin. Much appreciated.
I was a little surprised, however, at the little bits of info I have been able to glean from those authors so far. The Wikipedia article on Christina Romar, for instance, states:
After her nomination and before the Obama administration took office, Romer was tasked with co-authoring the administration’s plan to recover from the 2008 recession. With economist Jared Bernstein, Romer co-authored Obama’s plan for economic recovery.[3]
Her work suggests that some of the credit for the relatively stable economic growth in the 1950s should lie with good policy made by the Federal Reserve,[7] and that the members of the FOMC could at times have made better decisions by relying more closely on forecasts made by the Fed professional staff.[8]
I personally think that when one is thinking about the Fed, one must ask “who benefits most by its existence?” The answer, imo, is its owners, the member banks, and the government.
Sure, Romer has joined the Obama team; and yes, she has never suggested that the Fed never does anything right!. But I did not at all mistate the conclusions she reaches in the articles I referred to. Indeed, Romer’s credentials should compel anyone to take those conclusions especially seriously.
I personally think that when one is thinking about the Fed, one must ask “who benefits most by its existence?” The answer, imo, is its owners, the member banks, and the government.
That’s true. It seems, however, that most mainstream economists think the Fed is a benevolent arm of the government that is quite necessary and does a lot of good, even if it makes an occasional mistake. I get the impression, though, that per Austrian theory they are pretty much at the root of much mischief in the economy and do a lot more damage than good. The ABC makes a lot of sense to me and the Fed directs the now nearly perpetual goosing of the economy to keep it from going into recession or at least moderating recessions when they absolutely cannot be avoided.
That appears to have played a significant part in setting us on our current catastrophic path.
The Fed is just a tool. And it’s really not an arm of the government per se, imo. It’s more like a private institution that’s been delegated powers by the Congress. It’s a fusion of public and private.
As to whether it’s been beneficial or not, that depends on who you ask. Beneficial to whom?
Sarel Oberholster, wrote an article entitled, The Independence of the Fed? , in which he maintains that the Federal Reserve is owned by the member banks in a very limited sense and is in fact a “Variable Interest Entity” owned by the Federal Government:
"The Board of Governors of the Federal Reserve System is a federal government agency. The power to appoint its members, chairman, and vice chairman is vested in the president of the United States, with the Senate having a veto power over any appointment.
The first requirement for a “variable interest,” “the power to direct the activities” is fulfilled: the federal government at the presidential level holds "the power to direct activities.
…The outright, indisputable conclusion is that the Fed, when tested against GAAP as the Fed itself uses it in the Fed’s assessments of those it regulates, is a Special Purpose Entity of the federal government (or, according to the latest definition, is a Variable Interest Entity of the federal government). The rules of consolidation therefore apply, and the Fed must be seen as controlled by federal government, making it indivisibly part of the federal government. The pretence of independence is no more that that, a pretence. …"
Pretty much. The banks apparently get a maximum of 6% dividends on their investment, like a preferred stock.
“about 95% of the Reserve Banks’ net earnings have been paid into the Treasury since the Federal Reserve System began operations in 1914”
The President appoints the decision makers who have to be approved by the Senate, but theoretically the Chairman could “disobey” the President’s wishes as former Chairman Volker did in the 1980s.
I think the big benefit to the private owners is that they get bailed out if they fail. The lender of last resort function helps the banks. So does the availability of cheap credit when the Fed lowers rates. Who gets to borrow billions at 1 percent? Not me.
The Long Depresion (1873-1879) is a myth, it did not exists.
From Rothbard Money and Banking in the USA:
Orthodox economic historians have long complained about
the “great depression” that is supposed to have struck the
United States in the panic of 1873 and lasted for an unprece-
dented six years, until 1879. Much of this stagnation is sup-
posed to have been caused by a monetary contraction leading to
the resumption of specie payments in 1879. Yet what sort of
“depression” is it which saw an extraordinarily large expansion
of industry, of railroads, of physical output, of net national
product, or real per capita income? As Friedman and Schwartz
admit, the decade from 1869 to 1879 saw a 3-percent-per-
annum increase in money national product, an outstanding
real national product growth of 6.8 percent per year in this
period, and a phenomenal rise of 4.5 percent per year in real
product per capita. Even the alleged “monetary contraction”
never took place, the money supply increasing by 2.7 percent
per year in this period. From 1873 through 1878, before
another spurt of monetary expansion, the total supply of bank
money rose from $1.964 billion to $2.221 billion—a rise of 13.1
percent or 2.6 percent per year. In short, a modest but definite
rise, and scarcely a contraction.
It should be clear, then, that the “great depression” of the 1870s
is merely a myth—a myth brought about by misinterpretation of
the fact that prices in general fell sharply during the entire
period. Indeed they fell from the end of the Civil War until 1879.
Friedman and Schwartz estimated that prices in general fell
from 1869 to 1879 by 3.8 percent per annum. Unfortunately,
most historians and economists are conditioned to believe that
steadily and sharply falling prices must result in depression:
hence their amazement at the obvious prosperity and economic
growth during this era. For they have overlooked the fact that
in the natural course of events, when government and the bank-
ing system do not increase the money supply very rapidly, free-
market capitalism will result in an increase of production and
economic growth so great as to swamp the increase of money
supply. Prices will fall, and the consequences will be not depres-
sion or stagnation, but prosperity (since costs are falling, too)
economic growth, and the spread of the increased living stan-
dard to all the consumers.145
Indeed, recent research has discovered that the analogous
“great depression” in England in this period was also a myth,
and due to a confusion between a contraction of prices and its
alleged inevitable effect on a depression of prices and its alleged
inevitable effect on a depression of business activity.146
It might well be that the major effect of the panic of 1873
was, not to initiate a great depression, but to cause bankrupt-
cies in overinflated banks and in railroads riding on the tide of
vast government subsidy and bank speculation. In particular,
we may note Jay Cooke, one of the creators of the national
banking system and paladin of the public debt. In 1866, he
favored contraction of the greenbacks and early resumption
because he feared that inflation would destroy the value of
government bonds. By the late 1860s, however, the House of
Cooke was expanding everywhere, and in particular, had got-
ten control of the new Northern Pacific Railroad. Northern
Pacific had been the recipient of the biggest federal largesse to
railroads during the 1860s: a land grant of no less than 47 mil-
lion acres.
Well, perhaps abolishing fractional reserve banks would eliminate booms and busts–just as abolishing authomobiles will eliminate traffic accidents.
Why don’t we leave it to liberals to solve economic problems by finding things to ban?
Fractional reserve banking has proven both safe and very beneficioal were it hasn’t been corrupted by government interference. The Rothbardian suggestion that you can only have stability by banning it is as empirically false as any economic proposition can be. Look at Canada; look at Scotland. And if you don’t think that fractional reserves matter much for economic development, read Rondo Cameron’s studies on that subject. We owe much of our prosperity today, such as it is, to fractional reserve banking, even despite misguyided regulations that have rendered our banking system among the least stable in the industrialized world.
Don’t get me wrong: I like Tom Woods. But in condemning fractional reserve banking rather than perverse regulations to which it has been subjected over the years for our economic woes, he is guilty of throwing out the baby with the bathwater.
Selgin: “Fractional reserve banking has proven both safe and very beneficial”
Selgin,
I would love for you to respond or point me to a response to the critic that the theory of “Monetary Equilibrium” and Fractional Reserve Free Banking rests on Macroeconomics analysis. This critique is summarized quite well in de Stoto’s “Money, Banking, …” starting an page 688 of the online version. He uses an example that according to the foot note (134), you yourself acknowledges as a possibility. I really have not been able to find any adequate response to this.
Selgin: “suggestion that you can only have stability by banning it is as empirically false as any economic proposition can be.”
It seems that the empirical evidence you are talking about is always based on criteria for stability that is highly controversial. For example, using number of bank failures over a period of time to measure stability. As your critics have pointed out, such low rate of failures can be, in fact, highly suspicious, for it could mean government granting suspension of specie payments during crisis. And in fact, when using the boom/bust criterion, isn’t it true that all such examples for alleged free banking you refer to were constantly prone to boom/bust cycles? As in the case of Scotland, for example.
I would love for you to respond or point me to a response to the critic that the theory of “Monetary Equilibrium” and Free Banking rests on Macroeconomics analysis. This critique is summarized quite well in de Stoto’s “Money, Banking, …” starting an page 688 of the online version. He uses an example that according to the foot note (134), you yourself acknowledges as a possibility. I really have not been able to find any adequate response to this.
Hi, I have to say that I was oposed to fractional reserve banking, but watching the video of your Mises Institute conference in Youtube made me think again about it. It was a great history conference. I religiously watch all those conferences in Youtube and yours was one of the most interesting ever (but I have to say that I am probably not being objective since monetary history has been my hobby since discovering Ron Paul).
The idea that under a free market the people would just not allow fractional reserve has sounded allways weak to me, but I have allways been oposed to fractional reserve (even before reading Rothbard), that is until I heard your conference. I have also been hearing to Huerta de Soto, who is completely oposed to fractional reserve banking, and I like his idea about the nullity of a fractional reserve contract since its imposible to be enforced in reality. I would like to know your take on his idea.
Also, if you can point me to some article of yours describing how you think a fractional reserve system should operate it would be great.
Dear Hugolp: On how unregulated f-r banking works, I can;'t help recommending my Theory of Free Banking. Though it is out of print, there’s no article-length treatment I can think of that spells things out as completely as I tried to do there. The book is scheduled to be included in Liberty Fund’s Online Library of Liberty in a month or so.
Concerning DeSoto’s arguments: although in terms of sheer volume they appear formidable, the impressive pile rests on the false premise that a “deposit” can have no other legitimate meaning in banking law than that which Roman law assigns to the term “depositum.” The history of English (and thus American) banking law is utterly contrary to this claim. Indeed, as I show in my paper “Those Dishonest Goldsmiths” (available online through SSRN) the modern understanding of a bank deposit contract as a debt contract(rather than a bailment dates to the early 17th century–if not still further back in time.
. But I guess anything worthwhile can take some effort.