The Bernanke Fed Is Killing the Economic Patient
"I'm telling you that the cure is the disease. The main source of illness in this world is the doctor's own illness: his compulsion to try and cure and his fraudulent belief that he can. It ain't easy to do nothing, now that society is telling everyone that the body is fundamentally flawed and about to self-destruct." The Fat Man, The House of God, by Samuel Shem, p. 215
When doctors are asked what novel best describes what it's like to work in a hospital, Samuel Shem's 1978 classic, The House of God, is frequently the answer offered up. Though television dramas of the medical variety have historically glamorized the profession, up close the picture is often a gruesome one as the novel reveals.
A regular theme in the book is one of doctors, bursting with knowledge learned at the best medical schools, killing their patients given their hubristic desire to "do something" when their patients are sick. The Fat Man in the story, who is quoted above, did no such thing.
As he explained to intern Roy Basch, "My outpatients. I do nothing medical for them, and they love me. You know how much booze, hot merchandize, and food there's gonna be in that crowd as Hannukah and Christmas presents for me? And all because I don't do a goddamn medical thing." The Fat Man understood what interns fresh out of medical school hadn't quite figured out, that the body itself is often the best healer, so better it is in many instances to do no harm by virtue of letting the illness run its course.
The members of the Federal Reserve Board led by a doctor of different stripes, Ben Bernanke, could learn more from House of God than all the economics books they devour on the way to grandiose visions of fixing what ails us economically. Overcome with similar hubris that causes arrogant medical professionals to kill patients, the Bernanke Fed is foisting myriad fixes on the economy learned in textbooks, and in the process is strangling it.
Lost in all the discussion of our limping economy, though frequently mentioned in this column, is that what we call the U.S. economy is nothing more than a collection of individuals. And as individuals, when we're struggling in a job, or the business we run is declining, that's the free market's healthy way of telling us we're doing something wrong such that market actors don't value our contributions. And when businesses fail, that's the market's way of cleansing from the economy businesses that are not fulfilling the needs of customers, thus ensuring that no more capital is destroyed by the failures.
Considering the above, downturns characterized by business and individual failure are like the proverbial sick patient whose body needs to be left alone to heal. Just as overtreatment can often magnify the illness, so do bailouts and subsidies perpetuate ill-natured economic activity that the markets are seeking to banish. Looked at in terms of the broad economy, government intervention props up the sick at the expense of the healthy; the overall health of the economy in question made worse off by the interventionist hubris of economic types with PhDs at the end of their names.
The cost of credit is no different in this regard. Sometimes the individuals who comprise our economy overinvest in certain areas; the Internet boom of the late ‘90s one example, and then the housing boom that characterized the earlier part of the new millennium another.
When these mistakes occur, it's only natural that the cost of credit goes up, particularly for economic activity in the sector that is ailing. With capital always limited, it's essential when credit becomes expensive for government officials to let the rising rates run their course. If so, bad ideas are starved of credit, good ones access it with greater circumspect, plus the high rates serve as a lure for those possessing credit to enter the markets with an eye on receiving a high rate of return for offering it up. In short, high rates of interest are a healthy, credit generating, economy-fixing market phenomenon.
All of which brings us to the Federal Reserve. Staffed with over 20,000 economists bursting with presumed knowledge about how economies work, high rates of interest are anathema to them given their belief that without credit, the economy will sour. In this case, seemingly no thought is given to how much worse the economy will be if credit remains cheap so that bad ideas are perpetuated on the way to even greater capital destruction.
Specifically, the Federal Reserve announced last week, just months after promising a near zero percent rate of interest until 2013, that weak economic aggregates ensure a zero rate until 2014. The two aren't unrelated. If we ignore the utter arrogance of any governmental body presuming to know the infinite decisions of lenders and borrowers such that it could divine the proper cost of credit, the simple truth is that the Fed's continued attempts to make credit artificially cheap are related to the ongoing economic weakness that causes those at our central bank to promise low rates as far as the eye can see.
Indeed, in wreaking havoc with the cost of credit, the Fed is repelling the very savers whose savings would author the economy's rebirth. In attempting to keep the cost of credit low, the Fed is paradoxically making credit tight. David Malpass alluded to this in the Wall Street Journal last week with his comment that despite low rates, available credit hasn't increased except for the bluest of blue chip companies that are seen as good credit risks even at low rates of interest.
Cheap credit on its own is fine, but when interventionists make it artificially cheap, it's the equivalent of the Italian government decreeing that the price ceiling for Ferrari's will be $10,000. In that case, there would be lots of willing Ferrari buyers, but no Ferrari's to buy. Credit is no different. The high rates that would bring in the savers (on the way to lower interest costs down the line) are not being allowed, thus explaining tight credit despite "low" rates of interest.
Roy Basch, the narrator of The House of God, notes early on in the story that "most of what I'd learned at the BMS (Best Medical School) about medicine was irrelevant or wrong." The same could easily be said about the economists at the Fed, though in their case they continue to apply their textbook understanding of economics to the U.S. economic patient. And in not allowing the patient to heal on its own, they're killing it.