George Selgin on "The Bernank"
By David Henderson
George Selgin has an excellent commentary on Ben Bernanke’s maiden lecture on monetary policy at George Washington University. Not only does George dispel myths that most people believe, but also he dispels myths that I believed.
An incomplete list of myths that most people believe and George’s dispelling of them:
He [Bernanke] thus attributes the greater frequency of banking crises in the post-Civil War U.S. than in England solely to the lack of a central bank in the former country, making one wish that some clever GWU student had interrupted him to observe that Canada and Scotland, despite also lacking central banks, each had far fewer crises than either the U.S. or England. Hearing Bernanke you would never guess that U.S. banks were generally denied the ability to branch, or that state chartered banks were prevented by a prohibitive federal tax from issuing their own notes, or that National banks found it increasingly difficult to issue their own notes owing to the high cost of government securities required (originally for fiscal reasons) as backing for their notes. Certainly you would not realize that economic historians have long recognized (see, for starters, here and here) how these regulations played a crucial part in pre-Fed U.S. financial instability.
In particular, he never mentions the fact that Canada had no bank failures at all during the 1930s, despite having had no central bank until 1935, and no deposit insurance until many decades later. Nor does he acknowledge research by George Kaufman, among others, showing that bank run “contagions” have actually been rare even in the relatively fragile U.S. banking system.
Bernanke’s claim that output was more volatile under the gold standard than it has been in recent decades is equally unsound. True: some old statistics support it; but those have been overturned by Christina Romer’s more recent estimates, which show the standard deviation of real GNP since World War II to be only slightly greater than that for the pre-Fed period. (For a detailed and up-to-date comparison of pre-1914 and post-1945 U.S. economic volatility see my, Bill Lastrapes, and Larry White’s forthcoming Journal of Macroeconomics paper, “Has the Fed Been a Failure?”).
Finally, Bernanke repeats the tired old claim that the gold standard is no good because gold supply shocks will cause the value of money to fluctuate. It is of course easy to show that gold will be inferior on this score to an ideally managed fiat standard. But so what? The question is, how do the price movements under gold compare to those under actual fiat standards? Has Bernanke compared the post-Sutter’s Mill inflation to that of, say, the Fed’s first five years, or the 1970s?
Now to the ones that were news to me:
Bernanke, in typical central-bank-apologist fashion, refers to [Walter] Bagehot’s work, but only to recite Bagehot’s rules for last-resort lending. He thus allows all those innocent GWU students to suppose (as was surely his intent) that Bagehot considered central banking a jolly good thing. In fact, as anyone who actually reads Bagehot will see, he emphatically considered central banking–or what he called England’s “one-reserve system” of banking–a very bad thing, best avoided in favor of a “natural” system, like Scotland’s, in which numerous competing banks of issue are each responsible for maintaining their own cash reserves.
Because he entirely overlooks the role played by legal restrictions in destabilizing the pre-1914 U.S. financial system, Bernanke is bound to overlook as well the historically important “asset currency” reform movement that anticipated the post-1907 turn toward a central-bank based monetary reform. Instead of calling for yet more government intervention in the monetary system the earlier movement proposed a number of deregulatory solutions to periodic financial crises, including the repeal of Civil-War era currency-backing requirements and the dismantlement of barriers to nationwide branch banking. Canada’s experience suggested that this deregulatory program might have worked very well. Unfortunately concerted opposition to branch banking, by both established “independent” bankers and Wall Street (which gained lots of correspondent business thanks to other banks’ inability to have branches there) blocked this avenue of reform.
Finally, Bernanke suggests that the Fed, acting in accordance with his theory, only offers last-resort aid to solvent (“Jimmy Stewart”) banks, leaving others to fail, whereas in fact the record shows that, after the sorry experience of the Great Depression (when it let poor Jimmy fend for himself), the Fed went on to employ its last resort lending powers, not to rescue solvent banks (which for the most part no longer needed any help from it), but to bail out manifestly insolvent ones.
Rather less amusing was his quotation of that “famous statement by Andrew Mellon” about liquidating stocks etc.: poor Mellon never said it, in fact: the words were Hoover’s, and were intended as parody.
And, most shocking to me–it shows how even I had drunk the Fed Kool-Aid–is this one:
Although he admits later in his lecture (in his sole acknowledgement of central bankers’ capacity to do harm) that the Federal Reserve was itself to blame for the excessive monetary tightening of the early 1930s, in his discussion of the gold standard Bernanke repeats the canard that the Fed’s hands were tied by that standard. The facts show otherwise: Federal Reserve rules required 40% gold backing of outstanding Federal Reserve notes. But the Fed wasn’t constrained by this requirement, which it had statutory authority to suspend at any time for an indefinite period. More importantly, during the first stages of the Great (monetary) Contraction, the Fed had plenty of gold and was actually accumulating more of it. By August 1931, it’s gold holdings had risen to $3.5 billion (from $3.1 billion in 1929), which was 81% of its then-outstanding notes, or more than twice its required holdings. And although Fed gold holdings then started to decline, by March 1933, which is to say the very nadir of the monetary contraction, the Fed still held over than $1 billion in excess gold reserves. In short, at no point of the Great Contraction was the Fed prevented from further expanding the monetary base by a lack of required gold cover.
I’ve excerpted about half of Selgin’s excellent piece, but the whole thing is worth reading. He also supplies links to his most-important factual claims.
HT to Alex Tabarrok and Jeffrey Rogers Hummel.