Two Cheers for Vivek Ramaswamy for His Commentary on the Fed

The 2024 presidential primaries have never been in much doubt, but Vivek Ramaswamy emerged from his presidential campaign poised for the future. In part, Ramaswamy distinguished himself with his criticism of the Federal Reserve. For most of the election cycle, scarcely a word has been said about the Fed by other 2024 presidential candidates. It is therefore worth reviewing what Ramaswamy had to say about monetary policy during his campaign.

As Jonathan Newman noted, Ramaswamy’s principal proposal was a stable price level for the dollar. Ramaswamy promoted this idea throughout his campaign, but our focus will be an article by Ramaswamy in the Wall Street Journal that presents his case in greater detail. Ramaswamy writes:

Beginning in the late 1990s, the Fed’s scope drifted to include “smoothing out” business cycles. This was a mistake, since business cycles serve a healthy function by transferring the assets and employees of poorly run companies to more capable management. Even worse, the Fed’s actions often exacerbated business cycles by creating transitions that create boom-bust-bailout cycles instead.

It is more accurate to say that once the business cycle is set in motion by credit expansion, the recession is a necessary correction, but it is preferable to refrain from credit expansion to begin with. Ramaswamy seems to grasp that any additional government intervention to prevent or delay the liquidation of malinvestments from the preceding boom will only aggravate and perpetuate the depression. Crucially, however, Ramaswamy’s stabilization policy would cause, not prevent, such an inflationary boom.

The natural tendency of the unhampered market economy is toward capital accumulation and increased productivity. Consequently, prices tend to fall, making monetary inflation necessary in order to achieve a stable price level. The effect of monetary inflation to offset the increase in productivity and to stabilize the price level is still to push interest rates below the rate that would have prevailed on the market and distort the structure of production.

A popular fallacy at the heart of this doctrine asserts that such inflation is justified because falling prices decrease profitable investment opportunities, but profits don’t depend on the general price level. Lower prices due to increased productivity are also reflected in lower prices for factors of production, and entrepreneurs profit from the differential between the selling price of a good and its cost of production.

Although really intending to show that a stable price level is conducive to prosperity, Ramaswamy provides powerful ammunition against the theory of a stable price level by citing the 1920s as a historical example:

During the only stable dollar eras of the last century, annual GDP growth averaged 4.9% in 1922–29, 4% in 1948–71, and 3.7% in 1983–2000. The volatile dollar from 2000 to 2022 saw average growth of a paltry 1.9%. Had the dollar remained stable since 2000, with an enduring 3.7% growth, the economy would be nearly 50% greater than it is today, and we would have avoided multiple financial crises along the way.

To demonstrate that the 1920s was an unsustainable inflationary boom that led to the stock market crash, we will review the development of the boom. All information and quotes about the subject hereafter are taken from Murray Rothbard’s groundbreaking book America’s Great Depression.

Contemporaneous with the beginning of the boom was the first inflationary push as open market purchases tripled the Fed’s stock of United States government securities between November 1921 and June 1922. When the rate of inflation slowed, the US experienced minor recessions in 1923 and 1926 until a larger inflationary surge in 1924 and the heaviest burst of inflation in 1927.

The final phase of inflation concluded around December 1928, and business activity was on the decline by July 1929, marking the end of the boom. Stock prices, which had risen by about 20 percent in the latter halves of 1927 and 1928, culminated in the stock market crash in October 1929. During these eight years, the Fed kept rediscount rates below the market, and there was a 63 percent increase in the money supply not covered by an increase in gold.

However, Ramaswamy is correct to associate the 1920s boom with his proposal for a stable price level. In 1927, Benjamin Strong, governor of the Federal Reserve Bank of New York, confirmed that the Federal Reserve System had been directed toward the use of open market operations and other devices to stabilize the price level as much as possible since 1921. Rothbard summarizes: “We may conclude that the Federal Reserve authorities, in promulgating their inflationary policies, . . . were also guided—or rather misguided—by the fashionable economic theory of a stable price level as the goal of monetary manipulation.”

It may be useful to contrast the 1920s with the 1880s, when the US economy had the highest rate of growth of any decade. Reflecting economic expectations, prices fell, with the US economy growing at its fastest rate in history. Also congruent with the natural course of the market, capital investment led to a corresponding increase in real wages. At the time, the US had just adopted the classical gold standard following the resumption of specie payments in 1879 and had been without a central bank since 1836.

At this point, we may consider the implications of the semantic change of inflation from an increase in the quantity of money to rising prices. The continued failure to identify the 1920s as an inflationary boom is one such consequence of this semantic change. Rothbard explains:

The designation of the 1920s as an inflationary boom may trouble those who think of inflation as a rise in prices. Prices generally remained stable and even fell slightly over the period. But we must realize that two great forces were at work on prices during the 1920s—the monetary inflation which propelled prices upward and the increase in productivity which lowered costs and prices. In a purely free-market society, increasing productivity will increase the supply of goods and lower costs and prices, spreading the fruits of a higher standard of living to all consumers. But this tendency was offset by the monetary inflation which served to stabilize prices.

Just as stabilizationists conclude that there is no inflation based on a stable price level, the Fed can determine that there’s no inflationary threat as long as price inflation remains around their 2 percent target. In this way, the semantic change has helped facilitate monetary policy.

Elsewhere, Ramaswamy refers to the Federal Open Market Committee as a dozen central planners. Notably, Ron DeSantis, who has also since ended his campaign, echoed Ramaswamy by endorsing a stable price level with a similar conflicting message: “The Fed should focus on stable prices. They are not an economic central planner for the American people.” However, the manipulation of the price level and the management of the currency by the central bank is a particularly destructive form of central planning. It is thus not surprising that the stable money movement led by economist Irving Fisher in the early part of the twentieth century was supported by progressives and socialists.

By 1921, Fisher had established the Stable Money League, and supporters would eventually include Norman Thomas, perennial presidential candidate of the Socialist Party, and Samuel Gompers, president of the American Federation of Labor. John Maynard Keynes was another influential economist to propose a stabilized price level in his book A Tract on Monetary Reform, published in 1923.

Ramaswamy concludes by saying the Fed “should refocus to avoid repeating its past mistakes.” However, as the original sin of the Great Depression, the Fed’s policy of a stable price level in the 1920s must rank among its greatest mistakes.

The unprecedented expansion and measures by the Fed in the wake of the coronavirus panic ensures that monetary policy will once again assume greater urgency in the public mind. Better answers will be required than the stable price level, which differs from the current Fed policy only in degree. Both policies are inherently inflationary with a target price level set by the Fed. It might be an objection that a stable price level would be less inflationary than the Fed’s target of 2 percent price inflation. However, the emphasis on a stable price level can be more insidious because it can further mask an inflationary threat, especially to its exponents. J. M. Keynes hailed “the successful management of the dollar by the Federal Reserve Board from 1923 to 1928” as a “triumph” for currency management and continued his praise several years into the depression. Likewise, Fisher infamously stated that stock prices looked to have reached a permanently high plateau nine days before the crash.

What’s needed is a paradigm change away from the notion of monetary policy, which accepts a monetary system dictated by the central bank and politicians. Only the Austrian School framework and a return to the historic definition of inflation can offer a causal explanation of business cycles and solutions to our monetary issues.

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