Eurasia Press & News
The recent economic situation in the US has revealed the Federal Reserve’s failure to achieve its own policy goals of price and growth stability. The current recessionary fears have arisen following historic inflation levels, that were caused by expansionary monetary policies during the Covid pandemic. The root of these failures can be traced back to interventionist doctrines in modern economics. In the past three years, the US economy has faced chronic levels of inflation after suffering from a decade-long period of stagnation following the 2008 recession. The banking industry has become increasingly fragile, and the bailing out of inefficient banks has led to a rise in systemic failures and fragility throughout the economy. Keynes’ once remarked, “The ideas of economists and political philosophers…are more powerful than is commonly understood,” aptly applies to the decline in the quality of the US banking system and the devaluation of the dollar. The fragility of modern monetary systems is not an historical accident but a consequence of certain economic doctrines and ideologies.
Progressive Politics and Establishment of Active Intervention in Economic lives
The early 20th century in America marked a significant shift in political attitudes, as many Americans began to reject laissez-faire and rugged individualism, which had dominated political thought for much of the previous century. These were discarded views that emerged in a century, in which the United States of America began as a group of loosely connected agrarian states with an uncertain future, tied in an experiment of freedom and self-governance, surpassed Britain as the world’s largest economy in terms of GDP in 1871, and by the early 20th century, the United States became the richest country in the world, with a per capita income that was higher than that of any other major economy.
However, as the 20th century dawned, several factors began to erode the popularity of this philosophy. The most influential among them was Scientism; the rise of progressive politics, which led to the creation of the federal reserve, ensuing a fundamental change in the Monetary System in the early 20th century, was deeply connected to the philosophical movement known as scientism. Scientists held that the methods of the natural sciences could be applied to social and political problems, and that social problems could be solved through empirical research and experimentation.
Scientists also played a key role in the development of social sciences departments around the United States, which emerged in the late 19th and early 20th centuries as disciplines aimed at studying human behaviour and social institutions. The Most Influential among these was the Economics Department, which itself was going through the Keynesian Revolution. As the 20th century rolled forward, economists began giving more advice to governments and planning more elements of the economic lives of ordinary people.
This rise in progressive politics in the United States was driven in part by a group of young graduates who were influenced by the ideas of scientists. One of the key drivers of this change was young graduates who returned from studying in Germany. These individuals were heavily influenced by the ideas of scientism, which held that empirical science and rationalism were the only means to acquire knowledge about the world.
Progressives and economists believed that social and political problems could be solved through the application of scientific principles, and they sought to use their education to push for more evidence-based policymaking in the United States. This intellectual movement had a profound impact on American politics, economics, and monetary policy, leading to the development of using price indexes as measures of actual price levels in the economy and, for the first time, active purposeful intervention on a large scale with the domestic money supply.
The advent of price indexes allowed economists and policymakers to track changes in the general price level over time, which was perceived as a major breakthrough among most economists, as it paved the way for more active and purposeful intervention in the domestic money supply to comply with Keynes’s theory of economic aggregates. One of the earliest and most influential proponents of using price indexes to measure inflation was Irving Fisher, a prominent economist, and statistician. Fisher argued that by tracking changes in the general price level, policymakers could gain valuable insights into the state of the economy and make informed decisions regarding monetary policy. In 1913, Fisher introduced the concept of the “cost of living index,” which became the basis for the consumer price index (CPI) that is still used today.
The Rise in Fragility and decline in quality of the Monetary system under Fiat Money and active interventions of Central banking
Economists Like Ludwig Von Mises and F A Hayek sternly offered critiques of both Scientism in Social philosophy and economics. Mises and Hayek argue that scientism, or the belief that scientific methods can be used to solve economic problems, is fundamentally flawed. They point out that the economy is a complex system made up of countless individual decisions and actions and that attempts to impose top-down control on this system are doomed to fail. In the words of Mises, “The pricing process is a product of human interaction, not of human design” (Human Action).
Furthermore, they argued that the use of price indices as a measure of the actual price level in the economy is fundamentally flawed. They pointed out that the price level is not a single static number that can be measured and controlled. Rather, it is a dynamic and constantly changing phenomenon that is influenced by numerous factors, many of which are impossible to measure or predict.
Despite such clear methodological objections, the rest of the profession, as well as the political scenario, went scathing ahead with an increasing number of interventions, without any head to their claims. Since then, the US economy has been marked by recurring episodes of inflation and recessionary deflation.
Stagflation. The 1970s was a period of high inflation in the United States, with consumer prices rising at a double-digit rate. This inflationary period was caused by a combination of factors, including rising oil prices, increased government spending on social programs, the Vietnam War, and the Federal Reserve’s expansionary monetary policy. inflation rose from 3.3% in 1972 to 13.3% in 1979 and peaked at 14.8% in 1980.
In the 1970s, the Federal Reserve significantly increased its money supply in an effort to stimulate economic growth. According to data from St. Louis Federal Reserve Bank, the M2 money supply (including cash, checking accounts, savings accounts, and other highly liquid assets) grew by over 50% from 1970 to 1980. This rapid increase in money supply led to inflation, as the value of each dollar decreased because of the abundance of dollars in circulation.
This was also made possible by the abandonment of the gold standard in that period and the adoption of fiat money. Through its monetary policy, the Federal Reserve played a significant role in causing this inflationary episode. The expansionary monetary policy of the Fed as adopted by economists who held that there was a relationship between unemployment and inflation in the short run, where low levels of unemployment can be reached through successive changes in money supply over time, aimed at reducing unemployment, however, led to historic inflation levels.
The Federal Reserve’s response to inflation during this period was to increase interest rates. The Fed Funds Rate increased from 3.50% in 1970 to a high of 20.00% in 1980. Inflation gradually decreased; however, the reversal of this policy did not take much time, as in the late 1990s, the Federal Reserve lowered interest rates to provide stimulus and combat a potential economic slowdown caused by the Asian financial crisis. This policy led to the creation of the dot com bubble, where investors poured money into technology companies with little regard to their underlying fundamentals. The bubble eventually burst in 2000, resulting in a significant loss of wealth for the investors.
The Dot Com Bubble of the late 1990s and the early 2000s was characterized by a rapid increase in stock market valuations, particularly in the technology sector. The Federal Reserve responded to the bubble by lowering interest rates again, repeating its mistake. From 2000 to 2002, the Fed Fund Rate decreased from 6.50% to 1.75%.
2008 Housing Crisis
The housing market experienced a period of rapid growth in the early-to the mid-2000s, driven in part by the availability of low-interest mortgages based on low policy rates. The Federal Reserve had increased the money supply in response to the economic downturn caused by the dot-com bust, According to the St. Louis Federal Reserve Bank, M2 money supply grew by over 25% from 2000 to 2008. This increase in the money supply, combined with the low interest rates set by the Federal Reserve, led to a housing bubble and a subsequent financial crisis when the rates were raised again.
The 2008 recession was caused by a combination of factors including the collapse of the housing market and the failure of many large financial institutions. The housing market collapse was caused by a combination of factors, including government intervention in the housing market through Freddie Mac and Fannie Mae and the Federal Reserve’s decision to keep interest rates low after the dot-com bubble burst.
The Federal Reserve’s response to the housing market bubble gradually increased its interest rates from 2004 to 2006. The Fed Funds Rate was increased from 1.75% in 2004 to 5.25% in 2006. However, this tightening of monetary policy contributed to the onset of the Great Recession of 2008.
Covid-Inflation
The COVID-19 pandemic caused a sharp fall in economic activity as government-mandated lockdowns led to widespread business closures. The real GDP decreased at an annual rate of 31.7 percent in the second quarter of 2020. Financial markets are also priced in concerns about the pandemic, leading to a fall in asset values and clamoring by participants in the financial markets for easier credit.
However, the recovery was natural and not due to governmental stimuli. Therefore, the need for excessive monetary and fiscal stimuli is not clear. By July 2020, the economy started to grow again as lockdowns were lifted, and people were allowed to work again. By September 2020, in the third quarter, real economic growth started to become positive and grow rapidly, and household spending had already returned to three-quarters of the pre-pandemic levels. The total unemployment rate was 8.4 percent, which decreased from 14.7 percent in April.
The travel and leisure industry was severely depressed due to covid and lockdown restrictions but started growing again as more restrictions were lifted. It has increased by 64.4 percent in 2021, after a decrease of 50.7 percent in 2020. In September 2020, the Fed continued to pursue its accommodative monetary stance of buying long-term Treasuries and MBS with no signs of stopping.
The Fed continued its QE asset purchases in April 2021, as well as the low-interest regime that had begun in March 2020 until the Fed saw more progress in labor market conditions and growth. The US Bureau of Economic Analysis reported that real GDP increased in all 50 states and in the District of Columbia in the first quarter of 2021, as real national GDP increased at an annual rate of 6.4 percent.
However, US inflation hit a thirteen-year high in June 2021 at 5.4 percent, which was higher than May’s 5.0 percent. The mainstream opinion was that prices were driven by sectors having trouble readjusting supply to demand. Inflation was still viewed as transitory.
The unemployment rate has decreased from 5.4 percent in July 2021 to 4.8 percent in September. The Fed decided to start tapering net asset purchases in November 2021, but they continued with low-interest rates until March 2022. The real GDP increased at an annual rate of 6.9 percent in the fourth quarter of 2021. However, inflation rose from 7.4 percent in March 2021 to 8.5 percent in March 2022 and barreled ahead at 8.3 percent in April, remaining near forty-year highs. These increases in energy prices were due to the rising additional demand for energy, which was several times higher than producers’ expectations.
After losing the battle for price stability and fearing that inflation expectations would become entrenched, the Fed ceased its new asset purchases and increased the federal funds rate by 25 basis points in early March 2022. and has ever since been increasing spree since then. Rates increased from nearly 0% in March 2022 to 5% in March 2023. Inflation still rose to 9.1 percent in June 2022 and has since gradually decreased from 9.1 to 5% in March 2023; however, as inflation has fallen, the money supply has turned negative, unemployment is steadily rising, and the banking industry is showing signs of fragility. This shows that the US economy is hanging by the cliff, with the grip of the federal reserve over the economy slowly but steadily going out of hand.
Conclusion
In conclusion, the failure of the Federal Reserve and central banking as ideas cannot be disconnected from the larger issues of scientism and progressive politics. As evidence has demonstrated, the scientific mindset that underpins these approaches to governance has proven to be a double-edged sword. This faith has been misplaced in the hands of a few experts to a greater extent in the monetary system. The Federal Reserve and central banking have consistently failed to deliver on their promises of stability and prosperity, instead creating boom-bust cycles, inflation, and financial instability. Similarly, the progressive politics that have driven the expansion of central banking have failed to address the underlying issues of economic inequality and structural problems in the system.
As we look to the future of the monetary system, it is clear that we need to move beyond the failed central banking model and embrace alternative approaches. This requires a willingness to question the dominant paradigm of scientists and engage with a more holistic and systemic understanding of the economy. It will also require rejection of the top-down approach of central banking and a renewed focus on freedom-based bottom-up solutions that empower communities and individuals.
The stakes are high. The current monetary system is not sustainable, and failures of the past century demonstrate that we cannot simply tinker around the edges of the existing model. It is time to break free from the limitations of scientism and progressive politics and embrace a more dynamic market-based approach to the economy. Only then can we hope to create a monetary system that is sufficiently stable to increase prosperity.
