*This article originally appeared for PolicyMic as part of a debate on the Federal Reserve.
The Federal Reserve should be abolished because it inflates the money supply, destroys the purchasing power of our currency, distorts the proper workings of the market economy with boom-and-bust cycles, and allows the federal government to expand without directly taxing the American people.
The Fed (and central banks in general) has been justified as a means to smooth out the supposed excesses of capitalism and provide stimulus when the economy is in a “liquidity trap.” The first problem with the Fed, however, is that the only tool at its disposal is the ability to inflate the money supply through the printing of money and the expansion of credit. As a result of this inflation, there is tremendous malinvestment, the value of each dollar in circulation falls, and prices of goods are forced up. This process benefits those who get to use the new money before prices adjust – banks, those with lots of debt – and harms those who get to use the money as it finally trickles down – the poor, the middle-class, and those who have savings.
The Fed also contributes to chaotic boom-and-bust cycles like the most recent crash of 2008. The Fed’s expansion of credit and bank reserves distorts the entire system of prices and production, creating a quick, but artificial, “boom.” But when the inevitable credit expansion stops, the misallocation of production and capital become more obvious and the recession, or “bust,” sets in. When the necessary readjustment and liquidation is needed, the Fed then steps in and pumps in more credit, masking the problem even further.
By giving the federal government a nearly endless stream of money and credit, the Fed is the enabler of the growth of federal power. Foreign wars, the maintenance of an empire, and bailouts are funded not by taxing us directly, but by borrowing and printing the money instead, transferring the cost to future taxpayers. This is how President George W. Bush can cut taxes during a war and President Barack Obama can cut the payroll tax despite ever-expanding Social Security requirements.
The above problems should concern us all; however, they are only symptoms of the inherent flaw of any central bank like the Federal Reserve (what economist Ludwig von Mises called “the calculation problem.”) In a market economy, prices help entrepreneurs rationally allocate scarce resources to their most productive use. The Fed, however, centrally plans interest rates (the price of credit), and often times far below the market rate. Without the market price for a given good or service, central planning is doomed to fail.
The alternative to the Federal Reserve system, as with all government monopolies, lies in the free market; in this case, a commodity-backed monetary system subject to the supply-and-demand forces of the market and interest rates based on savings and capital.
The market economy is a voluntary, interrelated and interdependent web coordinated through the signals and incentives that prices bring. Government intervention tends to create unpredictable and unforeseen ripple effects throughout this web, creating instability and stagnation. With inflation, boom-and-bust cycles, and the depreciation of the dollar, the Federal Reserve is no exception to the damaging effects of government intervention.