I am very happy to see that Scott Sumner has taken on one of the most widely circulated tight money proponents’ propaganda pieces – that when the Fed performs open market operations, average Joe gets the shaft while some mysterious group of individuals gets lavished with the good life. He does a much better job of explaining it than I can; and so you can see his arguments by following the link in my blog roll.
The part of the argument that I think needs discussion, however, is still hiding in plain sight. The first part of it is about nominal stability being more important than just a matter of who gets new money first, if that even were a problem. It’s the opposite effect; when the Fed tightens policy, and how average Joe really gets the shaft. It’s really funny to hear the tight money types talking about bubbles bursting, mysteriously, pointing to homes being bulldozed as the prime example of “malinvestments” as they worship the soaring value of the dollar. But the counterfactual is quite sobering as to make many of their claims seem bizarre.
When the Fed starts tightening the economy slows down. We saw this in 2Q 2006 when the Fed applied 75 basis points more tightening than the markets expected. And of course average Joe was likely being sandwiched between high energy prices and slowing of the economy, plus if adjustable rate ARMS were prevalent, he gets socked with higher mortgage payments in addition.
What is the first thing people do when their income starts to shrink and they can’t afford their mortgage payments anymore? They sell and try to find something cheaper. So, it makes sense that in the latter part in 2006 is when the bottom started falling out of the housing market, especially in areas like Southern California where it is normal to have a 45 min commute and energy prices are soaring. Too many sellers and not enough buyers is likely a reason why prices collapsed and foreclosures started rising. The foreclosures didn’t cause the price to collapse – prices collapsed because of general economic stress which led to elevated foreclosures. That is why the banks got stuck with a majority of the homes – there were no buyers even at fire sale prices.
The whole idea of all of these houses being “malinvestments” because the Fed was loosey-goosey is really just absurd. People don’t buy things they don’t believe they can pay for. Something has to happen to them that puts them in a situation to not be able to pay – something like the Fed tossing nominal stability out the window because some nut is complaining about eroding purchasing power in the face of high energy prices while the government is messing around with land use regulations and not doing anything about the supply of energy. The entire mess was and is a perfect storm of bad government, and average Joe got the shaft – big time, and in a way that is very much worse than what might happen if the Fed were to finally sing the correct tune. Open Market Purchases don’t lead to one being kicked out of one’s home – and I think it highly preferable to keep a job than it is to end up destitute, even if means paying a little more for the things we buy. At least we have money to do it with.
But of course, we don’t hear these tight money advocates talking about this. It’s probably because it doesn’t fit their narcissistic visions of grandeur about taking short cuts to a strong dollar by tightening monetary policy. The only real way to a strong dollar is to have a strong economy with strong markets and any short cuts to that with monetary policy alone just does an immense amount of harm to unsuspecting people.
PS: I’ve been watching some documentaries about the social history of the Great Depression lately. There’s some good ones on NetFlix. We have the $10 /mo. subscription that includes only streaming video and I have certainly gotten my money’s worth; their selection of documentaries is superb. I suggest watching them as there is an ambiance of similarity with many of the things we’ve seen happening to the economy and society as a result of the Great Recession. If you do watch them, remember that many of them still pin the entire thing on the market collapse, a convenient scapegoat; and there is a bit of necessity to mentally juxtapose the monetarist version of events.
One particular one, that I found on the Smithsonian Channel on the Roku, chronicles the lives of authors who participated in the WPA program and went on to write classics. It gets particularly up close to the social aspect of the Great Depression as it is almost entirely about lives that were impacted in no small way.
PPS: No, I am not a mental masochist. Yes, seeing these documentaries knowing what caused it makes me angry. But without that kind of passion, I would not be able to keep up the blogging. Sometimes I really just don’t want to fight anymore. I wish it would all just vanish and I can just live happily in my library, cuddled up in my Snuggie with a good book. While it would be nice if it happened that way, it just isn’t going to.