The Wicked Witch of Eccles Hates Sound Money

The Federal Reserve has presided over a steady erosion of the dollar’s purchasing power—by design. See for yourself using the government’s inflation calculator that begins in 1913, the year President Wilson signed the Fed into law. Its definition of “price stability” as a perpetual two percent rise in prices would have struck earlier generations as an admission of failure rather than a policy goal.

Since the American economy didn’t begin in 1913, I urge you to look at CPI values prior to 1913, before the Fed existed and before gold was outlawed. Over time, the dollar bought more because it was a market-selected commodity, not thin air.

Prosperity is not the appearance of wealth, but the production of goods people genuinely want—guided by sound prices and financed by real savings, not credit illusions. Importantly, prosperity tends to increase the value of a sound dollar on a free market. In other words, falling prices is a feature of a prosperous economy.

The 1920s offered an early lesson in tinsel prosperity—wealth built on credit expansion rather than real savings. Under such conditions, dollar redemption was bound to become precarious. The pattern has repeated ever since: intervention in credit markets creates the boom, and the public pays dearly for the bust.

Yet there is a question no one seems to care about or understand: What, exactly, is sound money?

If sound money can’t be defined, carried in our heads and ready on our tongues, the case against the Fed collapses.

The Meaning of Sound Money

In the classical liberal and Austrian tradition, sound money does not mean “better managed money.” It does not mean a wiser committee or a more disciplined central bank. It means money that is outside government control—money that arises from the market and is not subject to arbitrary expansion.

Historically, that meant gold or silver. Their supply could not be increased at will. Their value did not depend on the promises of an issuing authority.

A paper claim redeemable in gold only partially—say, 40 percent—does not meet that standard. It rests on confidence that redemption demands will remain limited. History suggests otherwise. When the pressure comes, redemption is suspended, promises are revised, and the discipline of the market gives way to the discretion of the state.

Sound money, then, is not a matter of degree. It either is or isn’t.

The Federal Reserve: Private or Privileged?

Another point of confusion concerns the nature of the Federal Reserve itself. It is sometimes described as “private,” as though it were simply another participant in the market.

But private firms do not originate in acts of Congress—there was no Apple Computer Act of 1976. They do not possess legal monopolies over note issuance. They do not operate with the backing of the state’s taxing power. They do not coordinate policy with the Treasury in moments of crisis.

The Federal Reserve was created by statute, endowed with special privileges, and insulated—though not separated—from political authority. A more accurate description would be a state-sponsored cartel of banks, operating under a public mandate. Yet, as Gary North points out,

One of the difficulties that critics of central banking have, all over the world, is that academic economists are almost universally supportive of central banking.

To understand why this is the case, we must understand the economics of banking as an aspect of the economics of cartels.

All modern banking systems are based on government licensing and regulation.All licensing and regulation systems create barriers to entry.All government-created barriers to entry create cartels.All central banks are enforcement agents of the national banking cartel.

No chapter on central banking in any introductory or upper division economics textbook published by a mainstream publisher discusses central banking in this light. The chapter on central banking is kept several chapters away from the chapter on money and banking. The two chapters are not cross-referenced.

There’s another reason why economists don’t castigate the Fed—they’ve been bought.

The Federal Reserve, through its extensive network of consultants, visiting scholars, alumni and staff economists, so thoroughly dominates the field of economics that real criticism of the central bank has become a career liability for members of the profession, an investigation by the Huffington Post has found.

To call such an institution “private” is to ignore the distinction between market processes and political favors.

Fiat Money Feeds State Power

The deeper issue lies beyond inflation statistics or interest-rate policy. It concerns the relationship between money and power.

Governments, like all institutions, face constraints. Under a system of hard money, those constraints are immediate and visible. Expenditures must be financed through taxation or honest borrowing. Large undertakings—especially wars—encounter resistance because their costs are clear.

Under a system of fiat money, constraints amount to political promises. Spending can be financed through credit expansion. Costs are deferred, obscured, or distributed through inflation. What cannot be achieved openly can be smuggled with Fedspeak.

Monetary expansion becomes a form of taxation—theft most people don’t see. 

Conclusion

To say that the Federal Reserve has damaged the dollar is true. To say that it has contributed to cycles of instability is also true. But to stop there is to stop at the beginning.

The more fundamental point is that money—once removed from the discipline of the market and placed into the hands of a politicized committee—becomes an instrument, one that can be used for ends far removed from the intentions of those who first accept it. If sound money means anything, it must mean money free from political control. Monetary sovereignty should reside with the market, exclusively.