Citizen Economists ~ Can President Obama "Fix" The Economy?

Posted on date: Dec 05, 2008 By J.D. Seagraves

On December 1, 2008, the National Bureau of Economic Research (NBER) made the shocking announcement that the U.S. economy is in recession. In fact, NBER says we’ve been in a recession since last December. That this was considered "news" is yet another indictment of the mainstream media. Who exactly didn’t know that the U.S. was in the midst of a recession? NBER’s declaration of the obvious merited no more serious news attention than a proclamation by NASA that the earth in fact orbits the sun. After all, the ongoing debate of the past several months hasn’t been whether or not we’re in recession, but who precisely is to blame for it?

There’s No Painless Fix for the Economy

Austrian economists accurately predicted this recession, even as statists of all stripes (monetarists to Keynesians, as if there’s a difference) predicted permanent prosperity. Therefore, I think the Austrian take on who’s to blame is worthy of a hearing.

As I’ve discussed in other articles on Citizen-Economists, the Austrian theory of the business cycle holds that it is the government’s artificial creation of money and credit that causes asset bubbles that eventually have to burst. But interventionists of the left and right want to blame other culprits-greedy businessmen, unions, speculators, foreigners, immigrants, welfare recipients-take your pick. Thus in misdiagnosing the cause, liberals and conservatives also err in prescribing a cure.

A tremendous amount of faith is being put in President-Elect Barack Obama’s ability to "fix" the economy. But unfortunately, the odds of him "fixing" our current mess are only slightly better than the odds he’ll reveal himself to be the reincarnation of Grover Cleveland. Obama, well-intentioned or not, cannot possibly "fix" the economy-at least not without causing a lot of pain in the meantime. And that option is not on the Obama menu.

Paul Volcker’s Orchestrated Recession

What needs to be done? Well, Obama should rely on the wisdom of Paul Volcker, who is on Obama’s economic-advisory team. When Volcker was tapped to chair the Federal Reserve in 1979, the country’s economic outlook was nearly as bad as it is today. Four decades of pseudo-socialism under FDR, Truman, Eisenhower, JFK, LBJ, Nixon, and Ford had wrecked the foundations of the U.S. economy-even the gold standard had been sacrificed. Austrians predicted hyperinflation, the end of the dollar-reserve system, and maybe even the implosion of the U.S. government. They made these predictions because they were confident that no one would have the political will to do what needed to be done-raise interest rates through the roof, choke off monetary growth, and intentionally throw the economy into a deep recession.

That’s just what Volcker did-and he was hated for it. In fact, Ronald Reagan tried to get Volcker, who had been appointed by Jimmy Carter, dismissed. But while Volcker’s orchestrated recession was deep, it was also short. Coming out of it, the U.S. economy boomed. In fact, Reagan even reappointed him in 1983. But four years later, the Gipper goofed with his appointment of hardcore inflationist Alan Greenspan to succeed Volcker, and the same story began to play out again. Now we’re right back to where we were in 1979-and 1929.

U.S. Economy Headed For Credit O.D.

Why is it that the Fed and the politicians keep on wrecking the economy? Two reasons: ignorance and greed. They truly don’t understand economics, and who can blame them? Most economists don’t, either. Secondarily, while politicians are quick to accuse businessmen and Wall Street speculators of being "greedy," it is the political class that’s greediest of all-greedy for power. Inflation of the money supply allows them to buy more votes without raising taxes, and so they direct the Fed to perpetually expand money and credit. Why should the politicians care? Most of them will be out of office by the time the fiat money hits the fan.

So when the chickens start coming home to roost, as they are now, the government and the Fed pursue a policy of throwing gasoline on the fire. They try to cure the problems of inflation with more inflation. A more accurate analogy is that of the heroin addict. When he starts having withdrawal symptoms, another shot of junk will make him feel better for the moment. But as time goes by, it requires more and more H to keep him balanced, and eventually, he dies of an overdose. This is where the U.S. economy is headed.

What Obama Could Do - But Won’t

The best case scenario would be for Obama to follow an even more aggressive version of Volcker’s 1979 playbook and direct Ben Bernanke to pursue a hard-money course. Despite being an arch-inflationist Keynesian, Bernanke would undoubtedly follow the long line of supposedly "independent" Fed chairmen by doing exactly what the president ordered. This would mean raising interest rates, preferably by closing the Fed’s discount window, selling its entire hoard of government bonds (and other assets), and possibly buying gold with the proceeds (or simply retiring the dollars).

This would help put the economy back on sound footing for the first time since 1913, but it would also be very painful in the short run. It would definitely cost Obama any chance at re-election, and the next president would undoubtedly reverse course. Therefore, even if Obama were aware of the Austrian theory and believed in it, chances are he wouldn’t pursue this course of action until into his second term. And we don’t have four years to wait.