Politicians, Stimulus and Inflation All go together Especially, If the Fed Chairman Caves In: An Ode to William McChesney Martin (l902-1980) Who Didn’t
It seems that offering “jobs” is no longer good enough for a politician to curry favor with voters. Before that, it used to be “growth” which was Donald Trump mantra. Both have become old fashioned—as courting voter favor has come down to a new nitty gritty of send money. Never mind work. Stay at home and we’ll send you a check. Stay home longer and we’ll send you more checks. Of course, for a government running a deficit without cash on hand, it must borrow.
But borrowing can get expensive so this sets the government up to try to attempt to borrow cheaply. The ultimate target to fund the government handouts then becomes the central bank as it has the ability to print cash and purchase government bonds with the printed money and charges the government a below market interest rate. And so far, 60% of recent Treasury borrowing was financed that way, with new money. This is in contrast to ordinary monetary policy in which the Fed buys government bonds from the public at the market rate.
This is called monetization of Treasury debt which is a bad precedent as the government will come back time after time with yet new crises and demand more of the same treatment. Indeed, it’s so bad a precedent that the central bank has agreed to it only once before in its over 100 years of Fed existence-to finance, WW II and then the inflationary breakout that followed needed to be throttled by more invasive federal price controls.
What it does, when politicians seek central bank support to finance their pet projects, is to finance an expansionary fiscal policy by an expansionary monetary policy so its inflationary heart will be difficult to stop. Furthermore, it places expansionary monetary policy at the whim of voter demands and movements and fads. This will not be a monetary policy that addresses such general macroeconomic problems such as inflation, job availability, growth and inflation.
So that is where we are and over the next few months the Fed will be looking very hard for a face-saving way out- but the cat has pretty much been let out of the bag. Inflation and higher interest rates as a result are on their way.
This money grabbing threat to the country’s solvency as well as individual solvency from the inflation was well understood way back in 1912 when the Federal Reserve Act was being drafted.
It was understood that the control over money growth and what to support with new money would quickly go political so the money growth needed a bad cop who could say “no” to money printing. Indeed, it set out to protect the Fed board governors from political demands. So, the decision to print and spend was given to a carefully selected group of individuals who became known as Members of the Federal Reserve Open Market Committee. They were a mixed bag of people selected by the 12 boards of directors of the regional federal reserve banks and eight other members of the Federal Reserve Board selected by the President (with Congressional approval).
To protect citizens and economic performance from the special interests with ill consequences as outlined above (courting favor with printed money) and in so doing places an inflationary burden on taxpayers. Those voting on the Federal Reserve were given long term appointments with retirement benefits to reduce the need and incentives to “sell-out.”
Believe it or not, the system of responsibilities and compensation kept us with Federal Reserve Boards that were basically mindful and serious about their responsibilities for nearly 100 years. Unfortunately, there was one weak link in the design of inflation protection against special interests.
The Fed Chairman selected from among the members of Fed Board, did have the possibility of being re-appointed as Chairman solely by the President, if he was still serving on the board after 4 years a situation that we are currently facing.This puts the President in the position of dangling reappointment to steer Fed actions to be consistent with his personal and political demands.
That is to say, this is the likely the criteria that will be used to determine whether Biden will reappoint Powell in the next few weeks or appoint a Progressive such as Lael Brainard to do his bidding. And as long as he dangles the reappointment over the head of Powell, he will get the personal and politically desired monetary policy that he wants. This will determine whether cheap financing of the checks to the stay-at-homers continues.
So, that is where we are today and the implications are numerous and weighty because they are doing so in large quantities of dollars however measured. There have been times in the past, when the bad cop did play his appointed role by saying “no” we won’t buy that debt so you can survive it and be thanked by future generations. One example comes to mind: When the Vietnam war was brewing in the l960s and Lyndon Johnson wanted both “guns and butter.” —that is spending to pursue the Vietnam war along with the “Great Society,” he leaned on the Fed to finance both with new money. But the then Chairman, William McChesney Martin said no and of course was vilified by the President. It’s difficult to defy the President, but It comes with the territory and in so doing he protected the real income of both the then as well as future generations of taxpayers. Thank you, William McChesney Martin (1902-1980), a personal champion of mine, may you rest in peace.