Storms on the Horizon

Today’s post is an excerpt from a speech by Richard W. Fisher, President and CEO of the Federal Reserve Bank of Dallas since April 4, 2005.  It needs no commentary.  (link to entire speech)

Storms on the Horizon

No combination of tax hikes and spending cuts, though, will change the total burden borne by current and future generations. For the existing unfunded liabilities to be covered in the end, someone must pay $99.2 trillion more or receive $99.2 trillion less than they have been currently promised. This is a cold, hard fact. The decision we must make is whether to shoulder a substantial portion of that burden today or compel future generations to bear its full weight.

Now that you are all thoroughly depressed, let me come back to monetary policy and the Fed.

It is only natural to cast about for a solution—any solution—to avoid the fiscal pain we know is necessary because we succumbed to complacency and put off dealing with this looming fiscal disaster. Throughout history, many nations, when confronted by sizable debts they were unable or unwilling to repay, have seized upon an apparently painless solution to this dilemma: monetization. Just have the monetary authority run cash off the printing presses until the debt is repaid, the story goes, then promise to be responsible from that point on and hope your sins will be forgiven by God and Milton Friedman and everyone else.

We know from centuries of evidence in countless economies, from ancient Rome to today’s Zimbabwe, that running the printing press to pay off today’s bills leads to much worse problems later on. The inflation that results from the flood of money into the economy turns out to be far worse than the fiscal pain those countries hoped to avoid.

Earlier I mentioned the Fed’s dual mandate to manage growth and inflation. In the long run, growth cannot be sustained if markets are undermined by inflation. Stable prices go hand in hand with achieving sustainable economic growth. I have said many, many times that inflation is a sinister beast that, if uncaged, devours savings, erodes consumers’ purchasing power, decimates returns on capital, undermines the reliability of financial accounting, distracts the attention of corporate management, undercuts employment growth and real wages, and debases the currency.

Purging rampant inflation and a debased currency requires administering a harsh medicine. We have been there, and we know the cure that was wrought by the FOMC under Paul Volcker. Even the perception that the Fed is pursuing a cheap-money strategy to accommodate fiscal burdens, should it take root, is a paramount risk to the long-term welfare of the U.S. economy. The Federal Reserve will never let this happen. It is not an option. Ever. Period.

The way we resolve these liabilities—and resolve them we must—will affect our own well-being as well as the prospects of future generations and the global economy. Failing to face up to our responsibility will produce the mother of all financial storms. The warning signals have been flashing for years, but we find it easier to ignore them than to take action. Will we take the painful fiscal steps necessary to prevent the storm by reducing and eventually eliminating our fiscal imbalances? That depends on you.

I mean “you” literally. This situation is of your own creation. When you berate your representatives or senators or presidents for the mess we are in, you are really berating yourself. You elect them. You are the ones who let them get away with burdening your children and grandchildren rather than yourselves with the bill for your entitlement programs.

This issue transcends political affiliation. When George Shultz, one of San Francisco’s greatest Republican public servants, was director of President Nixon’s Office of Management and Budget, he became worried about the amount of money Congress was proposing to spend. After some nights of tossing and turning, he called legendary staffer Sam Cohen into his office. Cohen had a long memory of budget matters and knew every zig and zag of budget history. “Sam,” Shultz asked, “tell me something just between you and me. Is there any difference between Republicans and Democrats when it comes to spending money?” Cohen looked at him, furrowed his brow and, after thinking about it, replied, “Mr. Shultz, there is only one difference: Democrats enjoy it more.”

Yet no one, Democrat or Republican, enjoys placing our children and grandchildren and their children and grandchildren in harm’s way. No one wants to see the frightful storm of unfunded long-term liabilities destroy our economy or threaten the independence and authority of our central bank or tear our currency asunder.

Of late, we have heard many complaints about the weakness of the dollar against the euro and other currencies. It was recently argued in the op-ed pages of the Financial Times [3] that one reason for the demise of the British pound was the need to liquidate England’s international reserves to pay off the costs of the Great Wars. In the end, the pound, it was essentially argued, was sunk by the kaiser’s army and Hitler’s bombs. Right now, we—you and I—are launching fiscal bombs against ourselves. You have it in your power as the electors of our fiscal authorities to prevent this destruction. Please do so.


About Terry Noel

I am an Associate Professor of Management and Quantitative Methods at Illinois State University. My specialty is entrepreneurship.
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2 Responses to Storms on the Horizon

  1. Mike Lowery says:

    I attended the discussion on the Fed this most recent Wednesday, and wanted to talk a bit about Lex Green, the Libertarian candidate for Governor who spoke and some of the points he made, but had to give myself a bit of time to gather my thoughts into a more cogent argument. I can’t say that I would support the man but for the fact that his agenda should be largely focused on dismantling unnecessary facets of our state government. I could never endorse him, however, after hearing him speak.. I would be embarrassed to do so. Why?

    1) Constitutionality of the Fed: He said that the Fed is “Unconstitutional” because the power to create/value money is given to Congress. The Constitution also specifies that Congress shall have the authority to pass any law it deems necessary to accomplish this end. Therefore, since it is not stated that Congress may not delegate a specific body or agency to perform this function, then they may do so at their discretion. This appears to simply be phrasing designed to curry favor with Constitutionalists.

    2) 10th Amendment: The 10th Amendment does not grant states the power to undermine the powers specifically delegated to the Federal government, nor should a state government attempt to do so by any means as this is contrary to the spirit of the governmental structure. Issues that are indigenous to the Federal scope should be fixed within that scope. Anything else causes fractures in the structure of the government.

    3) Alternative Private Currency: There is an intrinsic problem to the idea of alternative private currency. Certainly, people my trade in whatever coin, bead, fruit, or marmot they wish, and one could obviously create a marmot repository which would issue letters of credit certifying a certain number of marmots on deposit with some such institution which could be traded, but when we look at this problem from the scope of the legal tender law and courts, we come to a problem which I will describe by example:

    Mr. Jones establishes a contract with Mr. Owen whereby Mr. Jones will furnish Mr. Owen with 7 widgets per month and Mr. Owen will pay him the sum of 3 gold pieces for said widgets by the end of each month.

    For some time, Mr. Owen honors the contract and pays with gold pieces, but then he notices that the relative value of his gold pieces is increasing whereas the value of regular currency is decreasing, so he decides that he’d rather keep the gold, so one month, he gives Mr. Owen $3800 in cash instead–which is considerably more than the spot price for gold at the time.

    Mr. Jones is not pleased because he knows that by the time he tries to convert the cash into gold, gold’s value has increased with respect to the dollar and he also has to pay a tax meaning that he was paid less than the amount he was owed, so he refuses the cash payment and demands payment in gold as stipulated in the contract. When Mr. Owen refuses, Mr. Jones sues him.

    During the trial, the judge asks Mr. Jones if legal tender (cash) was offered to pay the debt, and Mr. Jones replies “Yes, but the contract states that it was to be paid in gold!” The judge dismisses Mr. Jones claim against Mr. Owen stating that “The U.S. Dollar is legal tender for all debts both public and private and since legal tender of an appropriate equivalent value was offered for the products, Mr. Jones was obliged to accept it as payment.”

    ———- End Example ———-

    We see that as far as the law is concerned, even if you want to conduct transactions in an alternative currency, you are limited in how you may do so because you cannot sue in court for payment in an alternative currency, and since states are barred from issuing/valuing currency, they may not create a law which allows the use of an alternative currency within a court of law either. Thus no service or product for which payment is rendered in arrears can be secure since it is essentially on honor and no court will enforce an arrangement to pay in an alternative currency.

    4. Decoupling of Gold and the Dollar: It is not possible to force this at a state level through any executive, legislative, or judicial process. Decoupling can only occur in one way… naturally. As long as people are allowed to buy gold and sell gold and buy and sell currency there is going to be some coupling between gold and the dollar. As long as the dollar is the world’s primary reserve currency, dollars will be used as a standard unit of measure for just about everything. Decoupling can only occur naturally if the dollar’s value becomes volatile (hyper inflation/deflation), or if inflation/deflation occurs on such a large scale that the price of gold no longer responds to changes in the dollar itself. Thus any suggestion that the State of Illinois could forcibly decouple Gold and the US Dollar is a ridiculous fantasy. Historically, we can see attempts at currency coupling/decoupling in monarchies of Europe (specifically England) wherein the monarchy tried to fix the value of it’s silver coins. The problem was that trying this would cause trade merchants with vessels to hoard or exchange gold for silver whenever there was a disparity between the fixed exchange rate and the natural rate that they could acquire generally through a private transaction–usually foreign. Attempting something like this on a state level, would create a similar effect–people would buy/sell precious metals outside of the influence of the law and use the law to create profits which would in turn tend to impoverish the state or whatever private company was performing these exchanges.

    Essentially, I found the man’s entire presentation to be rather ill-conceived. While I generally support non-mainstream party candidates, I find it difficult to believe that we shall ever elect such a candidate when the best we can do for a gubernatorial candidate is this…

    What are your thoughts?


    • Terry Noel says:


      Very thoughtful and well-written comment. Let me give a short reply to each of your points and then let’s see what others think.

      1) As I understand it, the states are prohibited from making anything other than gold and silver legal tender, but the Founders did not say that expressly about the Federal government. This left a loophole, and after 100 years, we are not likely to persuade many people on the basis of constitutionality.

      2) You have an interesting point here, if I understand it correctly. What do you think of some states’ refusal to enforce the insurance-purchase mandate? States clearly cannot overrule the Federal Government, such as denying equal protection of the law, but can they refuse to enforce a law they see as unconstitutional?

      3) Legal tender laws currently allow people to contract in other media, such as gold. However, that is only for certain types of transactions. Debt (and I am not sure how this is defined) may be paid by cash and the debtor must accept it. I am not sure how your example would work. I THINK it would be upheld. If it were a loan, though, I think it would not.

      4) I am not sure I fully understand the decoupling issue as Lex described it. Will give that some more thought.

      These are exactly the kinds of issues we need to clarify in order to get libertarian thought out on the table. Thanks for your comment.



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