Let us establish some principles first. Central banks do indeed pose a risk to economic stability but not because their monetary policy is constantly too tight but because is it systematically too loose. Inflexible commodity money – such as gold and silver – has everywhere been replaced with state-issued fully flexible paper money under the control of central banks for one reason and one reason only: so that the supply of money can be constantly expanded in accordance with politically defined goals (such as a certain growth rate, a certain inflation rate, a certain unemployment rate….and constantly expanding bank balance sheets). Today’s consensus believes the following: When inflation is low and thus not an imminent threat, the central bank should ‘support’ economic growth via low interest rates and a moderate expansion of the money supply.
This is precisely the dangerous fallacy that made the dramatic events of the past four years ultimately inevitable. Yet, nobody seems willing to learn the lesson.
Constant expansion of the money supply and the persistent lowering of interest rates below the levels that would be justified by available savings – the raison d’etre of paper money and central banking – lead to misallocations of capital. Always. This – and not higher consumer price inflation – is the most immediate negative effect of monetary expansion. Today’s consensus is, sadly, still obsessed with CPI inflation (CPI= consumer price index). As long as monetary expansion doesn’t lead instantly to a higher grocery bill, the mainstream considers it a welcome boost to growth and practically a free lunch. This is a gross misconception, and this misconception is in essence still behind most of the commentary on monetary policy today. And it was again on display in the debate about the ECB’s recent move.
You can read Detlev’s superb article in full here but beware: he believes “that a collapse of the paper money system is practically inevitable”…
We cannot measure the Natural Rate of Interest (in Wicksell terms) to assess the central monetary stance, but we know that, without Central Bank interventions, interest rates would go up and up and up… which means that the present monetary policies are forcing the economy to an expansionary direction.
Anyway, the just started policy of rising interest rates has got, to me, a meaning: it helps strengthening the valute of Euro against Dollar. Sort of a currency battle, where the Dollar has since lost half of its value in Euro terms, and is oriented to attract more hot money (a really volatile form of financial capital) from abroad (especially China).
I expect a downturn coming from Asia (well swollen by Fed’s policies); its capitals will need another harbour…
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