It's time to put down Ayn Rand and pick up Milton Friedman
Paul Ryan is worried about the Federal Reserve. He is worried the Federal Reserve will try to bring unemployment down. There's a word for this. I can't print it, because this is a family publication.
For the past four years, Ryan has repeatedly warned about the real menace threatening the economy: inflation. Forget that long-term unemployment has surged to levels not seen since the Great Depression, and prices have barely risen -- Ryan is scared of the inflation monster under his bed, and thinks you should be too. He thinks that trying to bring down unemployment will unleash the inflation monster -- and that's why he wrote an op-ed in the Wall Street Journal back in May of 2008 calling on Congress to revoke the Fed's dual mandate to target both low inflation and low unemployment. He wants the Fed to only worry about the former and not the latter.
Ryan is pushing bad economics, and worse history. The chart below looks at core PCE inflation -- the Fed's preferred measure -- since Congress passed the Humphrey-Hawkins Act in 1978 that gave the Fed its dual mandate. After spiking due to the second oil shock, inflation has been on a steady downward trajectory for the past 30 years.
It takes a vivid imagination to interpret this as evidence that Humphrey-Hawkins has caused an inflation problem. Reality says the opposite. Actually, it's much, much worse for Ryan -- the Fed has gotten much, much better at maintaining price stability since the advent of the dual mandate. We don't have data on core PCE inflation before 1959, but we do have numbers for CPI inflation -- that is, including food and energy costs -- going back to 1914. Which period looks like the nirvana of price stability to you in the chart below? (Note: the yellow dot shows when Humphrey-Hawkins became law).
There was 4.4 times more variance in prices before the dual mandate than after it. And those first 20 years came under the gold standard -- which its advocates today claim would "cure" inflation! This last point is crucial because Ryan has something of a soft spot for goldbugs. Now, Ryan doesn't want to bring back the gold standard itself, but he does want to create a commodity standard -- in other words, tie the value of the dollar to a basket of commodities. This is a distinction without much of a difference. The Fed would have to raise interest rates when commodity prices go up, regardless of the state of the economy. This is all kinds of crazy. Commodity prices have shot up the past decade as developing nations have developed -- unrelated to inflation here. It makes no sense to make our economy worse because China's economy is getting better.
Where did Paul Ryan get such a truly nutty idea? It's not from the hero of conservative economic thought, Milton Friedman. Republicans have abandoned Friedman -- at least when it comes to monetary policy. (Although libertarians and conservatives like Scott Sumner, David Beckworth, and Evan Soltas still carry the Friedman torch). Friedman's insight was that low interest rates don't necessarily mean that Fed policy is easy -- usually the reverse -- and that the Great Depression wouldn't have been quite so great if the Fed had printed money to prevent the banking collapse. Ryan hasn't just ignored Friedman; Ryan is the anti-Friedman. He has sharply criticized Fed Chairman Ben Bernanke for printing money, and issued melodramatic (and incorrect) predictions about "currency debasement." Why is Ryan so out of step with what conservatives used to believe about monetary policy? Because he takes his cues on the Fed from a fiction writer instead of a Nobel laureate.
Back in 2005, Ryan explained that one person informed his thoughts on monetary policy: Ayn Rand. In a great catch by Dave Weigel of Slate, Ryan said that he "always goes back to" Francisco d'Anconia's speech from Atlas Shrugged when he thinks about the Fed. The speech in question consists of a rant against paper money and an ode to gold -- in other words, it's just a hop, skip, and a jump from this to Ryan's championing of a commodity-backed dollar. But even that makes more sense than Ryan's suggestion in a 2010 interview with Ezra Klein that the Fed should raise rates to help the economy. As Mike Konczal of the Roosevelt Institute points out, making credit more expensive does not lead to more growth. Now, long-term interest rates do rise when growth goes up, but that doesn't mean that growth will go up when the Fed raises short-term interest rates. The opposite, actually. It was a disaster when the Fed tried that in 1931. Or when the ECB did in 2008. Or when the ECB did in 2011. It's curious that Ryan isn't aware that his ideas have been tried, and failed spectacularly.
Paul Ryan is a true believer. Back in 2009 he invested in commodity and TIPS funds -- in other words, he really does think the inflation monster is about to jump out from under the bed. But Ryan keeps getting it wrong because he has a wrong understanding of monetary policy. He needs to put down the Ayn Rand and pick up the Milton Friedman.
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Matthew O'Brien is a former senior associate editor at The Atlantic.