By: Steve Saville, The Speculative Investor
-- Posted Tuesday, 25 September 2012 We've speculated in TSI commentaries that unwavering devotion to bad economic theory (a type of stupidity) is the most likely reason for the Fed's introduction of a new inflation program at this time. There are other plausible explanations, but in general terms it boils down to this: the Fed is either stupid, or evil, or stupid and evil.
There is no fourth possibility that makes any sense. It is either evil enough to inflate the currency in an effort to help banks (or the re-election chances of Obama*) even though it knows that doing so will harm the overall economy; or it is stupid enough to believe that the economy can be helped by creating money out of nothing and distorting the price signals upon which an efficient market relies; or it is evil enough and stupid enough to believe that it can transfer wealth to the banks and simultaneously create a net benefit for the overall economy. We'll go with evil and stupid.
The timing of the new policy was probably determined by the deteriorating employment situation, but the Fed may well be trying to kill multiple birds with a single stone. In any case, regardless of the reasoning behind the Fed's latest policy move, the Fed exists primarily to enable growth in the government and secondarily to enable growth in the banking industry.
Growth in government is enabled because a government with a captive central bank will never run short of money, irrespective of how big its deficits become and how far into debt it goes. Growth in the banking industry is enabled because the central bank's unlimited power to create new bank reserves means that banks need never run short of reserves, irrespective of how reckless they are in their lending and borrowing.
It is clear from the following chart that the Fed has succeeded in its primary objective. The chart shows spending by the US federal government as a percentage of GDP from 1880 through to 2012. In 1880 the federal government spent about 3% of GDP. In 1913, the year the Federal Reserve came into existence, the federal government also spent about 3% of GDP. In other words, as a percentage of GDP there was no growth in the US federal government during the 33 years prior to the inauguration of the Federal Reserve. An ultra-long-term upward trend then began. Ignoring the war-related spikes during the late-1910s and the first half of the 1940s, there has been steady growth in the US federal government from 1913 through to the present.
Currently, US federal government spending equates to about 24% of GDP. This means that since the birth of the Federal Reserve the cumulative increase in the size of the US federal government is about 700% greater than the cumulative increase in US GDP.
Chart Source: www.usgovernmentspending.com
Would a Republican victory in this year's US Presidential election reverse the upward trend in the size of the federal government? If history is a guide, the answer is no. In fact, over the past thirty years the size of the US federal government, as indicated by federal government spending as a percentage of GDP, increased by more during Republican administrations than during Democratic administrations. The Republicans often talk a good game (they pay lip service to smaller government), but in practice they are usually just as bad as or worse than their Democratic counterparts.
One of the main reasons is that the Republicans are generally in favour of boosting the amount of money spent on the military. An increase in military spending is always politically easy to accomplish because most Americans are proud of their armed forces, but of the main areas of US government spending the most unproductive is the military. We are certainly not in favour of government spending on public works programs in an effort to create jobs, but it would be much better for the government to spend money building a bridge in the US than blowing up a bridge in the Middle East. More>> The Fed is the great enabler
