Imagine being famous for saying something you never said, seven centuries after your death. What has come to be known as Occam’s razor—“entities are not to be multiplied beyond necessity”—has been attributed to English philosopher and theologian William of Occam (1287-1347), though he never used those exact words in his writing. According to conceptually.org,
Occam’s razor (also known as the “law of parsimony”) is a philosophical tool for “shaving off” unlikely explanations. Essentially, when faced with competing explanations for the same phenomenon, the simplest is likely the correct one.
Occam’s principle has been reformulated many times before and after Occam himself presented it, beginning with Aristotle (“Nature operates in the shortest way possible”), but the value of parsimonious explanations in some form has been preserved up to the present as an invaluable tool of explanation. Einstein is credited with expressing it as “Everything should be made as simple as possible, but no simpler.” Da Vinci recommended mimicking Nature in whose works “nothing is wanting, and nothing is superfluous.” And, since WWII—in keeping with the principle itself—KISS (“Keep it simple, stupid”) has become the modern world’s acronym for it.
The theory describes a desirable goal in any undertaking—everything necessary, nothing superfluous. With this in mind, how should we evaluate the Federal Reserve System? Is it a streamlined agency purporting to provide the American economy with all its monetary needs? Did it replace a flawed system that was causing havoc? Was it an improvement over anything the economy has ever had? Since an economy includes people who work and trade, was there a public outcry for monetary reform?
To answer these questions we need to look at the Fed’s goals, and for those we find on its slick website a straightforward statement: The Federal Reserve, the central bank of the United States, provides the nation with a safe, flexible, and stable monetary and financial system. If we dig a little we find under “The Fed Explained” the 11th edition of its purposes and functions, though it’s no longer called that. Also, for those who are upset over the Fed’s private character, note that the top level domain is .gov, not .org, .com, or .net.
Going further, under the section labeled “Who We Are” we learn that,
The Federal Reserve System performs five key functions that serve all Americans and promote the health and stability of the US economy and financial system.
The first two functions are (1) conducting the nation’s monetary policy, and (2) promoting financial system stability. By scrolling a little we learn that a committee of 12 voting members from around the System “serve on the Federal Open Market Committee and help set crucial US monetary policy.” Presumably they keep foremost in mind the ideals of a safe, flexible, and stable monetary and financial system.
Although “safe” can be interpreted various ways, it might refer to the FDIC’s role in the economy in the event of a bank failure. Its website tells us, “Your deposits are automatically insured to at least $250,000 at each FDIC-insured bank.” The government created the FDIC in 1934, 20 years after the Fed became active. How safe were depositors’ money before 1934?
The Fed was the brainchild of the big Wall Street banks—particularly J. P. Morgan & Co.—who wanted a “lender of last resort” and a more elastic currency. Neither of these goals could be achieved without the power of the federal government, which is why the Fed is not a purely market arrangement but a coercive cartel established by the Federal Reserve Act of 1913. To ensure the Fed controlled the elasticity of the money supply, which mostly meant inflating it, the legislation granted the Fed a monopoly of the note issue. Though Fed notes were initially designated as lawful money, they were not awarded legal tender status until 1933, following FDR’s criminalization of gold ownership.
Gold had always been money, with paper currency understood as receipts for money, not money in itself. From the depositors’ perspective any gold left at the bank was his and could be acquired in full any time the bank was open. Yet according to the government, adherence to gold redemption was the primary reason for the economic chaos in 1933 because people were “hoarding” it—they were pulling it out of banks and securing it somewhere else.
In the world of central banking the gold standard was, as Keynes had called it in 1924, a “barbarous relic.” In his A Tract on Monetary Reform, he writes:
If we restore the gold standard, are we to return also to the pre-war conceptions of bank-rate, allowing the tides of gold to play what tricks they like with the internal price-level, and abandoning the attempt to moderate the disastrous influence of the credit-cycle on the stability of prices and employment?
It wasn’t the “tides of gold” that caused the problems, it was bank deception called fractional reserve banking. You think your money’s still in the bank? Not if enough of you try to redeem it at once. When that happens we have the unique experience of bank runs and bankers go nuts.
Ironically, it was Keynes who had shown only a few years earlier a highly perceptive understanding of banking fraud in the Economic Consequences of the Peace, Chapter Six:
By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. By this method they not only confiscate, but they confiscate arbitrarily; and, while the process impoverishes many, it actually enriches some. The sight of this arbitrary rearrangement of riches strikes not only at security, but at confidence in the equity of the existing distribution of wealth.
The racket he describes is infinitely easier with fiat money in the hands of a central bank like the Fed. Keynes, incidentally, was highly leveraged in the stock market when he changed his mind about “the process of inflation.”
Conclusion
Should we conclude then that the Fed is far from the parsimonious answer to credit cycles and bank panics? Does it violate Occam’s razor? We didn’t need an FDIC before the Fed, why does it require one now? Why does the Fed have the privilege of legal counterfeiting while the rest of us don’t? Why is gold anathema to central banks in practice while they hoard it on the sly?
Finally, does the Fed reign over a monetary system that is safe, flexible, and stable? Not if you believe its stated objectives. If the Fed isn’t the answer, then what is?
With government granting privileges to banks and for other reasons, we have never had honest money or honest banking. We need both and can get both if we spread the word and get government out of the way. As I’ve quoted often because it’s both true and incisive,
If a domestic money consists of a commodity, a pure gold standard or cowrie bead standard, the principles of monetary policy are very simple. There aren’t any. The commodity money takes care of itself. — Milton Friedman, “Monetary Policy: Theory and Practice”
