Wednesday, February 13, 2008

Fear Itself

The first paragraph of FDR’s first inaugural address contains the famous line about fear:

“I am certain that my fellow Americans expect that on my induction into the Presidency I will address them with a candor and a decision which the present situation of our people impel. This is preeminently the time to speak the truth, the whole truth, frankly and boldly. Nor need we shrink from honestly facing conditions in our country today. This great Nation will endure as it has endured, will revive and will prosper. So, first of all, let me assert my firm belief that the only thing we have to fear is fear itself—nameless, unreasoning, unjustified terror which paralyzes needed efforts to convert retreat into advance. In every dark hour of our national life a leadership of frankness and vigor has met with that understanding and support of the people themselves which is essential to victory. I am convinced that you will again give that support to leadership in these critical days.”

I read this entire speech today and another quote comes to mind:

“The more things change, the more they stay the same.”

I have no idea who first uttered that phrase but I’m almost certain it was a reference to politicians. The politicians of today would feel perfectly comfortable debating economic policy in 1933. The solutions offered for our current economic problems are not materially different than those offered by FDR in this first of many speeches as President.

Faced with an economic slowdown at a perilous time, an election year, our current day politicians feel, as FDR did, that “this nation asks for action, and action now”. And so they have enacted an economic “stimulus” package that promises, as FDR’s programs did, an economic recovery “by engaging on a national scale in a redistribution”. The current redistribution differs only in details from the plan put forth by FDR to end the Great Depression. The myth that government can redistribute resources in our economy and cause growth is apparently one that has endured for many generations.

FDR’s redistribution involved a movement of people from cities back to the farms and “definite efforts to raise the values of agricultural products and with this the power to purchase the output of our cities.” FDR sought to redirect capital – in this case human capital – to areas that produced a lower return on that capital. Today, our politicians seek to redirect capital from producers to consumers in the mistaken belief that the path to prosperity is to be found through consumption rather than investment.

The Great Depression has been blamed by many on faulty monetary policy, most notably by the current Chairman of the Federal Reserve. Monetary policy is said to have been too accommodative in the 1920s and too restrictive in the 1930s. Mr. Bernanke has endeavored to do his part to prevent a repetition of those faulty policies by cutting interest rates aggressively. However, even FDR realized that there is a faulty logic at work here:

“Faced by failure of credit they have proposed only the lending of more money.”

Our economy, much like the one of 1933 America, is at a crossroads. Years of excessively accommodative monetary policy has produced a society that believes, as Ludwig von Mises said that “more credit expansion is the only remedy against the evils inflation and credit expansion have brought about”. If the US continues down this path to a virtual debtor’s prison, there will come a time when monetary policy is no longer effective in limiting the periodic slowdowns that are a necessary part of a healthy economy. When that happens we will face a decision much like the one that faced America and FDR in 1933.

Monetary policy had a great deal to do with getting us into the economic mess that became the Great Depression. However, it was governmental interference in the normal functioning of the economy that prolonged that routine economic contraction into the Great Depression. Speaking of economic recovery FDR said: “It can be helped by preventing realistically the tragedy of the growing loss through foreclosure of our small homes and our farms. It can be helped by insistence that the Federal, State, and local governments act forthwith on the demand that their cost be drastically reduced. It can be helped by the unifying of relief activities which today are often scattered, uneconomical, and unequal. It can be helped by national planning for and supervision of all forms of transportation and of communications and other utilities which have a definitely public character. There are many ways in which it can be helped, but it can never be helped merely by talking about it. We must act and act quickly.”

It is this idea that government must act to generate economic growth that we should fear. Just as FDR did in the early phase of the Depression, our politicians want to protect citizens from the consequences of their bad economic decisions. There is real pain involved in the unwinding from the excessive debt that plagues our economy, but the blame for that pain lies not with the businesses that merely followed the economic incentives provided by the Federal Reserve. The blame for that pain should be placed squarely on the shoulders of Alan Greenspan and his successor at the Federal Reserve. Sharing the blame should be politicians who enact policies solely because they fear the retribution of voters. Neither the Fed nor the Congress is acting in our best interests. They are acting in their own best interests, consequences to the long term health of our political economy be damned.

The US economy is a resilient system that depends on innovation and the creative destruction that is inherent in capitalist systems for growth. Left alone, the US economy will recover from the current credit crunch because we are a nation of optimists who find opportunity even in times of economic distress. A Federal Reserve that confronts every economic downturn with a dose of monetary elixir merely short circuits the process. Likewise, fiscal policy aimed at anesthetizing the public to the economic cycle merely prolongs the pain.

The only thing we have to fear is fear itself. Fear of capitalism. Fear of the normal economic cycle. Fear of ending our addiction to debt. Fear of allowing investors to face the consequences of their risky actions. Fear of the competitive nature of free trade. Fear of immigrants who come to this country with a work ethic we seem to have forgotten. If, and only if, we can overcome these fears will we reform our dysfunctional monetary system and start to repair the damage done to our economy.

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