The
Federal Reserve, which celebrates its 100th anniversary this year, is tasked by
Congress with managing the money supply so as to preserve price stability while
maximizing employment. But with the central bank having increased the money
supply by 25% since the financial crash of 2008—while the federal government has
borrowed $5 trillion—can inflation be far off ? It won't be the first time.
Inflation
has often been popular, especially in democracies, since it benefits debtors,
who are always more numerous than creditors. Inflation allows debtors to repay
in money that is less valuable than the money they borrowed. This was the case
after America's Revolutionary War, when economically distressed debtors
demanded that state governments ease their burdens.
State
after state enacted paper-money laws, so that debts contracted in scarce gold
and silver could be repaid with infinitely expandable paper. This sort of
inflation was one of the principal reasons for the adoption of the
Constitution, which forbids the states to "make anything but gold or
silver coin legal tender in payment of debts." In the Federalist Papers,
James Madison referred to state paper-money laws as the sort of "improper
or wicked project" that the new Constitution would prevent. Chief Justice
John Marshall later recalled, in the 1819
Dartmouth College v. Woodward decision, that such laws had
"weakened the confidence of man in man and embarrassed all transactions
between individuals by dispensing with a faithful performance of engagements.
"The
adoption of an anti-inflationary Constitution was a remarkable example of
democratic self-restraint, and it worked wonderfully to control inflation for
the next century and a quarter. The only significant inflation came with the
Civil War, via $500 million in paper "greenbacks"—the Constitution
being silent on Congress's power to issue paper money.
Rather
than an act to relieve private debtors, the Civil War inflation was a way to
pay the government's bills, a kind of de facto taxation. Still, private
debtors—those who borrowed in gold before the war and could pay back their
debts in depreciated greenbacks—were happy, and there were calls for still more
inflation after the war.
Those
calls led to the "Greenback Party," which enjoyed some success at the
state level and sent some 20 members to Congress. But the government showed
remarkable discipline in resisting such demands, and the greenback was as good
as gold by 1879. Nevertheless, the inflationary experience led lenders to
insert "gold clauses" in contracts specifying repayment in gold coin
(provisions that were effective until Congress canceled them in 1934, a move
upheld by the Supreme Court the following year).
The
ending of the Civil War-era inflation, plus the massive increases in
productivity in the largely free market of the following decades, led to a
modest deflation—which meant that as prices gently declined, the real value of
wages increased. Still, special interests such as southern and western farmers
with mortgages pushed incessantly for an increase in the money supply. The high
point came in the election of 1896, the famous "battle of the
standards," when the gold-standard Republicans won a decisive victory over
the silver-inflation Democrats.
The
era of stable or declining prices came to an end in the 20th century. Inflation
began innocently, with gold discoveries in Alaska, South Africa and Australia
that increased the money supply in the only way possible under a gold standard.
But the great engine of inflation was the enactment of the Federal Reserve
System in 1913, and a dangerous
delegation
of monetary power to an unelected bureaucracy.
From
1800 to 1913, prices rose 176%; since then they have risen 448%.The Fed got to
work right away, helping to keep the government's borrowing costs low during
World War I. It increased the money supply by 75%, and consumer prices doubled
from 1914 to 1920. The central bank became the best illustration of the adage
that "in politics, nothing succeeds like failure." As Milton Friedman
and Anna Schwartz showed in their "Monetary History of the United
States," the Fed mismanaged the postwar reconversion, kept interest rates
lower and prices higher than they should have been in the 1920s, and aggravated
the Great Depression by keeping rates too low before the crash and raising them
after it.
Yet
the Fed was rewarded with greater power, especially by the Banking Act of
1935.The bank continued to facilitate low-interest Treasury borrowing in World
War II and the Korean War. But during that latter conflict it finally bridled
against Treasury demands to keep borrowing rates artificially low. In 1951 it
negotiated a landmark "accord" with the White House reasserting its
"independence."Yet inflationary pressures built up again in the late
1960s thanks to the Fed's accommodation of deficit spending on Lyndon Johnson's
Great Society programs and the Vietnam War. That, plus the abandonment of the
gold standard and the collapse of the Bretton Woods system of fixed exchange
rates, led to the infamous "stagflation" of the 1970s.
The
Fed eventually tamed inflation under the chairmanship of Paul Volcker in the
early 1980s, though prices still have more than doubled since then. Now the
inflationary potential of deficit financing has grown enormously over the first
Obama term. The lesson of American history is that it is difficult enough for
the government to resist popular demands for inflation to relieve private
debts. When the government itself is the country's chief debtor, resistance is
all but impossible.
Source:
OPINION January 16, 2013, 6:48 p.m. ET Paul Moreno:
Mr.
Moreno, a professor of history at Hillsdale College, is the author of "The
American State from the Civil War to the New Deal," forthcoming from
Cambridge University Press. A version of this article appeared Jan. 17, 2013,
on page A17 in some U.S. editions of The Wall Street Journal, with the
headline: Gold, Greenbacks and Inflation: A History and a warning. http://professional.wsj.com/article/SB10001424127887324081704578235863240174562.html?mod=WSJ_Opinion_LEADTop&mg=reno64-wsj
Comments:
Our Federal government has been overspending for
decades. Most of what it does is harmful
and the rest is criminal. There is no
reason for the federal government to spend an extra $ Trillion a year. That Trillion should be cut with a $500
billion cut in 2013 and another $500 billion cut in 2014. Obama-care should be repealed and age
eligibility for social security and Medicaid increased. The federal government then must get out of
its unconstitutional activities as quickly as possible. It’s time to batten
down the hatches and buy gold and silver.
Norb Leahy, Dunwoody
GA Tea Party Leader
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