Wednesday, November 24, 2010

Humphrey-Hawkins On The Chopping Block

Back almost a year ago, in February of 2009, I wrote this post mentioning the ill-conceived Humphrey-Hawkins Bill regarding the Fed's mandate. In it, I noted,

"To fully understand this, one has to go back to Paul Volcker's tenure to understand that Congress routinely has threatened the independence of the Federal Reserve System, which it created as a populist alternative to a single central bank, when and if it does not seem to be sufficiently lubricating national finance with the growth of the money supply.

"Thanks to William Jennings Bryant's advocacy of American farmers' cry for coinage of silver, to devalue dollar-denominated debts by inflating the money supply at the turn of the century, the Fed system was designed to give each of the country's regions a Reserve bank, and, thus, a say in money supply management. It was a populist solution which would lessen the chances of another J. Pierpont Morgan-led rescue of the US financial system as occurred in the Panic of 1907.

Much later, in the waning days of Hubert Humphrey's life, the hapless liberal Democrat's misguided Humphrey-Hawkins Full Employment (and Balanced Growth) Bill (Act) was passed, mandating that the Fed maintain equal focus on two objectives: appropriate money supply growth consistent with low inflation, and full employment. The former, of course, is often at odds with the latter.

And it was this issue to which Greenspan was referring, by implication. If he had tried to rein in subprime lending by more vigorous bank examination and quashing of these activities, Congress would have hauled him up before some committee to explain his actions, which would have dampened economic growth, particularly at the expense of home ownership by lower-income groups.

This Greenspan was unwilling to do."

There are two points which are important to understand from this passage, the CNBC program about which it was written, and Humphrey-Hawkins, generally.

The Act was a grotesque mistake passed at a time when America had become somewhat indolent and expectant. Acknowledging harsh economic realities wasn't in vogue. The reality that there are periods in which tradeoffs must be made between monetary policy and employment was simply ignored, to be legislatively banished like some sort of King Canute ordering the tides to recede.

The dual mandate idea was an idiotic mistake of epic proportions, foisted upon the American economy by uninformed political hacks.

It was yet another example of a constant theme in American politics since the 1913 creation of the Fed, i.e., Congressional threats to restructure, limit or abolish the Fed, should the latter pursue its price stability mandate too zealously.
Now, thanks to the recent election outcomes, QE2 and failed fiscal stimulus spending of the past two years, there's serious talk of repealing Humphrey-Hawkins.
Until I read the recent Wall Street Journal lead staff editorial in last weekend's edition, The Fed's Bipolar Mandate, I hadn't really considered how much economic damage occurred in the years following the Act's passage. In a sense, H-H legislatively institutionalized what had become a 1960s-era trick. The Fed chairman would goose the money supply prior to presidential elections, in hopes of being reappointed in exchange for providing favorable, expansionary monetary policy.
The editorial notes how frequently current Fed officials have referred to the Fed's employment mandate as a basis for QE2. Yet, Fed Governor Kevin Warsh recently wrote a Journal editorial in which he dismissed the Fed's ability to even affect such economic ends with purely monetary policy.
Now, as the recent Journal staff editorial observes,
"The irony is that critics of QE2 are being portrayed as enemies of Fed independence, when the truth is the opposite. Ending the dual mandate would liberate the central bank to focus on the single task of stable prices, which is hard enough in a world of fiat money and no formal price rule."
Congress created the Fed, and it constantly harasses the bank's chairman, threatening intervention if politically-popular monetary policy isn't provided. This is old news, and really has to simply be ignored.
The only chance the US has of regaining some monetary self-discipline is for Congress to repeal its own prior stupidity, leaving the Fed the simpler, more achievable aim of providing price stability for the US dollar.

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