The Federal Reserve and the Democracy’s Aporia
Government’s job is to ensure the common prosperity of the people. Very few have said it outright, and the statement can be bombarded with caveats and exceptions, but when measuring good government, it is the material wealth of the people that reigns supreme.
When the absolute ruler of China has the Mandate of Heaven, it is evident from the fact that his people are prosperous and fruitful, and when the crops die it is clear he must be overthrown. The Kings of Europe who ruled by the will of God could only demonstrate their divine favor through military victory, which in turn expanded territory and led to gains for their subjects. Religious purity, stable succession, national destiny, all can affect the perception of a government, but these will always be sacrificed when people can be convinced that the government helps them gain wealth and avoid loss of it.
If this is the function of government, it is quite curious that it took rulers and ruling bureaucrats so long to figure out the ideas of economics. In the Ancient world, the clearest path to increasing the wealth of your subjects (usually it was only the elites you cared about) was to conquer more arable land and the potential slaves on it. Victorious war increases wealth, which is why it is the duty of every ancient King in India, Africa, Asia, Europe, and the Americas. But we now know that there are other ways to grow, although they perhaps required a more peaceful world order, certain technologies, and a better understanding of what the state can actually do.
This did not stop the great powers from falling prey to the economics they didn’t understand. The decline and fall of the Roman Empire came from a shrinking of territory and splintering of power, but it also came from a severe currency devaluation crisis. The amount of precious metal in coins had gradually been decreased by the government over time and the empire nearly fell apart at the end of the 3rd century because of the resulting economic chaos. A major problem though was that no one had ever thought of currency devaluation, so why people stopped trusting coinage was somewhat mysterious. Subsequent governments tried to set fixed rates of exchange and fight the debasement, and even set strict price maximums, but they could not master the economics. Finally the master bureaucrat-emperor Diocletian changed the empire over to paying their taxes in kind rather than in coinage, sacrificing the great economic benefits that comes from a free flowing currency. He saved the Empire and it continued to decline into the weak and fragmented dark ages.
Wang Angshi of the Song dynasty understood economics better than anyone of his time. He overturned centuries of statecraft grounded in Confucian moral codes and turned the government towards more centralized tax collection so that revenue could be spent on strengthening the military in the north. He increased currency supply, reorganized labor requirements, utilized government monopolies, and through these policies he succeeded in generating the revenue he sought. But the policies also upset his competitors in the court, and they were repealed. While Wang Anshi may have understood economics well for his time, the Song court did not. When the Jurchens overcame the inadequately funded military in the north, the court agreed that Wang Anshi was to blame and the his ideas were not considered again for centuries.
Economic bureaucrats play probably a more important role in the actual success of a state than its generals, but because no one could recognize this principle or how to master it, it remained under explored. The early modern western Europeans nearly made the same mistake, aiming to preserve their wealth by restricting trade as much as possible. But the Enlightenment they had funded managed to produce Adam Smith and other advocates of free trade, and in the long run the policy won out and Europe was able to conquer the world.
The Enlightenment also helped to produce modern democracy. The United States was founded by free trade advocates eager to escape heavy-handed central taxation, and favored this over the previous system where the crown and parliament focused on enriching themselves. Democracy proved to be a far more efficient and better way to make all the decisions of government - the law, taxes, war, etc. People had control over their wealth and they often chose wisely (though coincidentally in the greatest sustained period of economic growth in human history ever). And as the governments got bigger, and their economies got bigger, people actually began to understand economics, letting the carefully calibrated flow of capital generate prosperity without the aid of divine favor. Modern societies have gotten so much wealthier and thanks to the understanding of the economy have avoided the self-defeating confusion of the Romans, the Song, the Spanish, or any of the other great civilizations which fell to their own incomprehension of the prosperity they had created.
Presidents and prime-minister campaign for election based on the economy, even if like kings of old they attempt to cloak it in talk of religious purity or national destiny. The candidate who convinces voters that she will make them richer wins. On this principle we saw the victory of transformations of society built on the fight against the Great Depression, the recovery from World-War II, and even against the stagflation of the 1970s.
But even though our bureaucrats, elected and appointed, now know far more about the science and principles of economics than those of the ancient past, they still do not know enough. It is good that we now are careful around currency and set minimum wages, but the truth is that there is plenty of justified and open debate about what should be done with each of these to ensure greater wealth. It is good that all modern nations have created central banking systems like the United States Federal Reserve, but the Fed does not always choose the optimal policy. The bureaucrats do not understand their system like an engineer, it is still a mysterious blackbox. We know certain things are bad, but we fail to find exactly what’s good.
The understanding of the public is even worse. People vote based on their perception of what makes the economy better without any real understanding of what does. The best strategy in politics is to sabotage the economy after you’ve lost an election but before leaving office, because the method of sabotage can be hidden from the public and the subsequent decline in the economy will be blamed on your successor. Economic reasoning is obscure enough that people default to correlation - whoever was in power in good times was good, in bad times was bad.
The Fed has been built mindful of this principle. It is elected officials who appoint the economists who run the bank, but it is not a political job. The two parties who fight over power in the United States have quietly agreed between themselves that these positions which have the most power to determine the politics of the future should not be determined by politics, that they should be staffed by bureaucrats who will seek the best objective policy. This is remarkably conscientious of American politicians, who seem to implicitly realize that the method of appointing political cronies to run the agencies of the government is inherently destructive and should not be applied to the organ that truly determines peoples lives. And the Fed does determine people’s lives, even if it might not be understood as such, and even if there is no public fight over these most consequential of policies.
The two most consequential world events of the 21st century have been the recession of 2008 and the Coronavirus Pandemic. When the recession happened, the economic cause was quickly explained. The US financial sector had gotten overly greedy from a lack of regulation, had gambled on an unrealistic housing market, and had therefore tanked the economy, forced the Fed to raise interest raises to mitigate disaster, which in turn caused the recession. This then was a mistake made by the popularly elected government, the Republican party which had deregulated the banks. Few voters understood the mechanism well enough to let bank-regulation policy be their core issue for subsequent elections, nor was their wide understanding of the bipartisan consensus which had given banks relatively free reign with other people’s money, though the Occupy Movement came close. But at least there was some democratic accountability.
But now there is a new understanding emerging. It may be that the housing market was not as unrealistic as every qualified person had thought, as house prices are no higher with no appearance of a bubble. It may be that the total economic consensus that the real estate bubble had popped was wrong, and the Fed raising interest rates was an error that they could have avoided had they actually understood economics, which no one did, and which no one does now. The Fed and its unelected bureaucrats may have triggered the global economic crisis which indirectly caused all the major political shifts of the following decade.
Does this colossal mistake, this enormous scandal which ruined lives and led to massive death, mean we should reform? Absolutely. We should make the Fed better.
But should we put it under greater democratic control so the people can have a voice in the decision making process which will determine their lives? I would say no.
The bureaucrats do not understand economics, but they do understand it better than the voting public. A democratically controlled Fed which prioritized short term and manipulative gains for the sake of the ballot box would be a disaster, and frequently has been. Popularly demanded fiscal policies such as price controls often end up hurting the economy as a whole, and are only really an improvement when the government is knowingly corrupt. Democracy’s feedback mechanism is inadequate to this task.
However, the Fed has largely changed its ideology over the last decade to a far more populist stance. After the 2008 crisis, the Fed believed that it needed to avoid overheating the economy and that we needed to accept that a good amount of the population would remain unemployed. Now due to the influence of policy wonks and internal debates between economists, the Fed has moved towards full employment, which gives gives workers far more bargaining power. This populist change took place over multiple antagonistic administrations and seems not have been directly influenced by democratic forces. Whether this policy will prove better for society remains to be seen.
We need sober and careful elites in this role who are trying their best, and we need to accept that sometimes they will be wrong and it will be absolutely catastrophic. Our best bet right now is to vote for people who will appoint economists at least favorable towards advancing economics in the direction of public benefit, but with the caveat that they will still be wrong much of the time. Or we need a far more educated and understanding public who has mastered economics and can hold selfish decision makers accountable, but that is out of reach for now.
Economy is the ultimate function of government, and the modern centralized control system necessary to keep our wealth and keep it increasing requires certain non-democratic organs of the government. If we ever come to understand economics fully and perceive that the politicians have staffed these agencies with lackies intent on enriching the few over the many, then we must seize power for ourselves and restore democracy. But without knowledge, our best bet for our own sake remains in the hands of technocrats who do not actually know what they are doing. What is to be done but wait and learn?