Iran’s Theocracy: An Uneasy Fusion of Religion and Political Economy

As mass protests erupted in Iran during the second week of January, 2026, Iran’s theocracy was on edge. That the protests stemmed from the dire economic conditions facing the people amid staggering inflation, including on basic food staples, rather than from foreign affairs, raises the question of whether religious clergy, including the “supreme leader,” Ayatollah Ali Khamenei, are competent in making economic policy. Without the ongoing political pressure that can come from constituents in a representative democracy, or republic, it is no surprise that the protests in Iran quickly became mass riots. In other words, bad economic policy by religious clerics in power in an autocracy can easily result in popular protests abruptly erupting into rioting. The overreaching of functionaries based in the domain of religion into politics (including economic policy), such that the distinctiveness of the two domains is ignored or obfuscated, can be distinguished from the problems that go with autocracy.

On January 9, 2026, the theocracy signaled that the rioting would be dealt with severely. Iran’s judiciary chief, Gholamhossein Mohseni-Ejei, in assuming a non-judicial political role, “vowed that punishment for protesters ‘will be decisive, maximum and without any legal leniency.”[1] Separation of powers obviously did not exist in the Islamic regime. That both the internet and international calls were being blocked by the government signals that the protests could realistically result in the fall of the Islamic revolution in Iran. In other words, the severity of the government’s measures in shutting down communication can be read as indicative of a government whose days are numbered. In an interview, U.S. President Trump said that Iran’s dictator was already “looking to go someplace” because the situation on the streets was “getting very bad.”[2]

Demonstrating that expertise in theology does not extend to politics (as well as economics), Khamenei accused the rioters of “ruining their own streets . . . in order to please the president of the United States.”[3] Nothing was said about the hyperinflation that was putting even basic foodstuffs out of reach for an increasing number of people as the reason for the protests. Nothing was said about Crown Prince Reza Pahavi having called for the protests on January 8, 2025, and that the protests “included cries in support of the shah,” which can be distinguished from chants in favor of President Trump, which did not occur.[4] Pahavi was not calling for the United States to invade Iran. Ayatollah Ali Khamenei’s rhetoric was therefore very poor from a political standpoint (i.e., his statement was incorrect), and he did not address the reeling economy in any constructive way in terms of advocating economic reform that actually had a chance of working. Knowledge in theology does not carry over onto the domains of politics and economics, so the overreach is problematic.

This critique can be distinguished from one premised on the American separation of “church and state,” which actually could use some work in American jurisprudence because “In God We Trust” is printed on the currency. To be against a government establishing a religion (e.g., proclaiming a religion to be the official religion) is different than being against a religion superimposing its distinctive criteria onto a civic government because an over-reaching of the political domain into the religious domain is distinct from the religious domain overreaching into the political realm, even though both instantiate the conflation of two distinct domains of human experience. Ayatollah Ali Khamenei should have stuck to theology as a cleric rather than try to run a government, and his response to the economic protests—even that such protests morphed so quickly into riots—demonstrates the intractably problematic nature of overreaching from one domain onto another, qualitatively different, one as if the criteria and credentials of the former could and should supplant those of the latter in the latter.

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1. Jon Gambrell, “Iran Supreme Leader Signals Upcoming Crackdown on Protesters ‘Ruining Their Own Streets’ for Trump,” APnews.com, January 9, 2026.
2. Ibid.
3. Ibid.
4. Ibid.

RBI Overheating India’s Economy: On Materialist Greed Fueling Ceaseless Consumerism

A phenomenon as massive as the global coronavirus pandemic, which ran from 2020 to 2022, is bound to have major economic ripple, or wave, effects in its wake. India’s record high 9.2% growth of GNP in the 2023-2024 fiscal year illustrates the robust thrust of pent-up demand met with increased supply. To the extent that consumption over savings is the norm in any economy, a couple years off can subtly recalibrate economic mentalities to a more prudent economic mindset wherein saving money is not so dwarfed by spending it. Moreover, putting the brakes on a consumerist routine and societal norm can theoretically lead to putting the underlying materialism in a relative rather than an absolute position and thus in perspective. Yet such a “resetting” must overcome the knee-jerk instinct of any habit to restart as if there had been no change. Coming back to college, for example, after a summer away, students tend to pick up their respective routines right away as if the recent summer were a distant memory. India’s astonishing rate of economic growth just after the pandemic demonstrates that the penchant for consumerism and economic growth as a maximizing rather than satisficing variable returned as if the steeds in Socrates’ Symposium—only those horses represent garden-variety eros sublimated to love of eternal moral verities, to which Augustine substituted “God.”

The full essay is at "RBI Overheating India's Economy."

Adding Anti-Trust to Monetary Policy: The Case of Groceries

Monetary inflation is a complex phenomenon. Not only can its causes be several; it can make it more difficult to distinguish immediate and medium-term economic conditions from more long term, or structural changes impacting our species economically.  Of the former, the relationship between inflation and whether the markets are competitive or oligarchic (or even monopolies) can be better understood, and this in term can put us in a better position to assess the impact of longer-term changes, such as those stemming from the huge increase in the population of human beings since before the industrial age. The price of food (i.e., groceries) is a case in point. Specifically, the impact from presumably temporary shocks during the Covid pandemic should be distinguished from the impact of oligopolistic markets in keeping prices high, and of the increase in human mouths more generally (and longer term) representing increased demand for foodstuff in on a relatively fixed planet.

In addition to a spike in the prices of raw materials, or, moreover, factors of production, and a growth in the money supply above the growth in GNP, the gradual consolidation of an industry from market competition to oligopoly and even a monopoly can increase inflation. The consolidation of the U.S. meat-producer market, for example, could be expected to result in higher meat prices at grocery stores. Similarly, barriers to entry facing discount grocery stores could result in food prices staying high even after a temporary increase in factor costs. In short, government action to keep markets competitive or return them to the discipline of competition should go side by side with monetary policy, lest it be assumed that inflation is primarily a result of the growth in the monetary supply. Otherwise, keeping interest rates higher than would otherwise be the case could unnecessarily put a damper on job growth.

In June, 2024, the U.S. official unemployment rate increased to 4.1 percent; the next month, that figure was even high, standing at 4.3 percent. This triggered the “Sahm rule,” according to which “a recession is imminent or underway if the three-month moving average of the unemployment rate rises by 0.5 percentage points or more relative to its prior 12 month low.”[1] The U.S. economy added 114,000, rather than the expected 175,000 jobs in July, and some people were nervous that a recession might be on the way.[2]

Accordingly, U.S. Sen. Elizabeth Warren wrote, “Fed Chair Powell made a serious mistake not cutting interest rates. . . . He’s been warned over and over again that waiting too long risks driving the economy into a ditch. The jobs data is flashing red.”[3] The Fed kept the interest rate in place in order to fight inflation even though 4.3 percent is above the acceptable range for unemployment according to the Fed. In fact, Austan Goolsbee, President of the Chicago Federal Reserve, said at the time that 4.3 percent was something the Fed “has to respond to” by cutting interest rates.[4] Besides, he added, the “trends show inflation coming down across the board, multiple months in a row” as the labor market was cooling.[5]

Anyone shopping in a grocery store, however, would beg to differ, however, as the rise in food prices during the Coronavirus pandemic had not come down after the shocks, which included shipping as well as hoarding, had ended following the pandemic. Meat prices in particular had stayed very high even though such levels would be expected to attract new suppliers (or more supply) in a competitive market. But the meat-producer industry had been consolidating so a few large companies could essentially dictate prices to grocery stores, a related industry that had itself become oligopolistic. That the discount chain, Aldi, was not in the San Francisco region of California, for example, even in 2024 while Safeway and Whole Foods kept prices high suggests that the competitive mechanism, which protects consumers from the excessive greed of producers unrestrained by market discipline, was not working, for the basic logic of market competition holds that higher prices (and profits) attracts new producers such that supply increases and prices fall rather than stay high unless the cost of a factor of production has increased and stayed high.

To be sure, limits to the supply of food (and the cost of fuel for shipping) could be expected to become more salient as the human population level continues to increase dramatically. Whereas the 20^th century had begun with about 2 billion human beings on the planet, the 21^st century mark stood at 6 billion; by just 2023, that number had increased to 8 billion. At some point, the Earth’s agricultural potential being relatively fixed, could be expected to run up against increased demand for food. The common experience of having to pay more for groceries during and even after the pandemic due to temporary shocks and the lack of competition that would otherwise increase supply and thus reduce prices could be just a taste of what humans could expect in the 22^nd century.

That a species’ population can increase beyond its ability to feed itself was posited by Thomas Malthus (1766-1834) in An Essay on the Principle of Population, published in 1798. The theological significance alone was startling, as the possibility threw off the notion that God had designed Creation and so the existence of God could be inferred from the excellence of the design found in nature itself. Malthus also claimed that famine, war, or disease is nature’s means of naturally correcting a schizogenic (i.e., maximizing) population, and subjecting the creatures who are in God’s image to such hardship hardly seems like part of the design of an omnibenevolent deity.

Therefore, the mechanism of a competitive market assumes not only lower barriers to entry, but also the capacity for increased supply when prices are relatively high, and this second assumption may be increasingly untenable as our species continues to grow while the natural resources of Earth remain relatively fixed, allowing of course for efficiency gains from technological advances. At the very least, from this macro perspective, governments should not shy away from enacting and enforcing anti-trust mechanisms so prices reflect not only demand, but also whatever supply is possible, given the Earth’s natural resources, especially in terms of energy and food (and also housing). Moreover, concurrent and sustained increases in several industries oriented to human sustenance ought to be especially concerning regarding toll from both uncompetitive markets and our species’ growth.

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1. Alicia Wallace et al, “Markets End the Day Sharply Lower . . . “ CNN.com, August 2, 2024.
2. David Goldman, “Elizabeth Warren: The Fed Made ‘a Serious Mistake,” CNN.com, August 2, 2024.
3. Ibid.
4. Ibid.
5. Ibid.

The Receding Chinese-American Economic Paradigm in 2011: Imbalances within Mutual Benefit

“For decades,” according to The Wall Street Journal, “plentiful Chinese labor kept down costs of a range of goods bought by Americans.” Then, roughly in 2010, the Chinese government began supporting higher wages to reduce labor unrest and boost domestic consumption while reducing reliance on exports. Partially as a result of this, the world saw higher prices for commodities in 2011; oil was another factor as protests in the Middle East increased political risk in the calculations of future supply (amid speculation). A shrinking workforce in China was also putting pressure on the labor cost. Even though relatively cheap labor was still in the interior of the country, higher transportation costs mitigated the cost advantage. The prevailing paradigm was showing cracks. To be sure, it certainly had them.

In that paradigm, inflation was “damped pretty dramatically in the U.S. because it exported work to China and other places at 20% or 30% of the cost,” Hal Sirkin of the Boston Consulting Group said. Imports into the U.S. from China had increased China’s foreign currency reserves to over $3 trillion in the first decade of the twenty-first century; two-thirds of the reserves were U.S. dollars. The Chinese government used some of those dollars to purchase U.S. Treasury bonds; those purchases in turn relieved pressure on U.S. interest rates to increase. The continued cheap credit made it more possible for American consumers to purchase Chinese imports. It was a marriage of Chinese workers and American consumers, with both governments happy to oversee the nuptials.

Although in some ways good for all parties, the positive feedback loop made it difficult for China and the U.S. to have balanced economies. China relied too much on exports—with a supportive yuan currency making them artificially cheap for Americans—while the U.S. was enabled to accumulate trillions in additional federal debt without much self-discipline.  Therefore, from the rising labor costs in China and the related emphasis on domestic consumption (and a slowing appreciating yuan), inflation in both China and U.S. could be expected. It is no coincidence that the price of gold was quite high as the paradigm began to shift.

As the paradigm began to shift, it could be expected that should the Chinese foreign currency reserves be reduced, less foreign demand of U.S. Treasury bonds could eventuate, which in turn would put pressure on U.S. interest rates to increase. The rates could increase anyway to thwart the import-led inflation even if there is not excessive money supply. In other words, it could be expected that the imbalances in the slipping paradigm would give rise to corresponding imbalances afterward.

It is perhaps all too easy for us to tolerate imbalances as long as there is an overall equilibrium. China’s increasing dollar reserves and the U.S. Government’s increasing debt could co-exist with a tacit agreement wherein both Chinese workers and American consumers would benefit. Mutual benefit is not, however, a sufficient justification for tolerating fundamental imbalances either within a country or in the global economy.  For a sustainable economic paradigm, mutual benefit is necessary but not sufficient; they system as well as its parts should be in balance. To insist on this amid mutual benefit requires self-discipline because part of the benefit is spent in the restoration and playing out of balance. It is thus perhaps not an accident that the paradigm of imbalances amid mutual benefit was dominant for decades; the system itself might tell us something about modernity and ourselves.

Source:

Shai Oster, “China’s Rising Wages Propel U.S. Prices,” Wall Street Journal, May 9, 2011, p. A2.

Brazil’s Rousseff Impeached and Removed from Office: A Case of Partisan Politics?

Dilma Rousseff was impeached and removed from office at the end of August, 2016. The state’s senate voted 61-20 to convict her on charges that she used illegal bookkeeping maneuvers to hid a growing budget deficit.[1] Her defense that she did not enrich herself through public office—that she did not steal public money for her own account—can be regarded as an attempt to deflect the legislators from the existing charges.[2] Only 56 legislators were necessary for a two-thirds majority. Given the problems of hyperinflation and fiscal mismanagement, including a growing public debt, her offenses were “deemed an impeachable crime.”[3] Although Brazil was hardly the only country where the chief executive has sought under political pressure to make a budget deficit look smaller than it actually was, enforcing deterring consequences even just in this case is laudable—while other, partisan motives, detracted from the vote’s legitimacy.

In a representative democracy, the popular sovereign—the People—have a right and interest in getting accurate deficit figures from their government. Put another way, accounting gimmicks have no place in a republic. Rousseff’s impeachment and removal from office would be inappropriate, however, to the extent that the legislators were motivated by partisanship or even displeasure as to the government’s economic performance. The point of having terms of office is to insulate office holders so they can enact painful measures that are nonetheless needed, such as efforts to reduce the debt. Not even something less than success with deficits warrants removal of office, for elections serve that purpose without compromising the institution of a term of office.

In Brazil, Rousseff’s administration “had come under pressure over a brutal recession.”[4] According to the Wall Street Journal, many people believed that “Rousseff’s fall had less to do with the official charges than her mishandling of South America’s largest economy, which moved from 7.6% GDO growth in 2010, when she was first elected, to the worst downturn since the Great Depression in her second term.”[5]  The economy contracted by 3.8% in 2015 and was expected to shrink another 3.2% in 2016.[6] Pressure to remove her out of attribution of the economic decline to her policies should not have been a factor in the impeachment vote because bad policies, or even becoming unpopular, is not criminal in nature. Sen. Cristovam Buarque of the Popular Socialist Party was wrong, therefore, when he declared, “Impeachment isn’t only about a crime. There is also a government without support in [the legislature] and without a path for the economy.”[7] At the very least, his vote to impeach the president was misguided and thus stained.

Being implicated in the “massive corruption scandal at the state oil company,” however, could justify impeachment.[8] Rousseff was indeed damaged by the scandal, as she had headed Petrobra’s board of directors when much of the illegal activity occurred. Petrobras wrote off nearly $30 billion in 2014 and 2015—much of it due to bribes and inflated contracts.[9] Yet did she know of these at the time? A subsequent investigation found no evidence that she personally benefitted from the big-rigging and bribery scandal in which politicians and contractors colluded to loot billions from the giant oil company.[10] Of course, this does not mean that she did not go along with the schemes. Given the magnitude of money involved, it is hard to believe that the chair of the board would be oblivious and thus guilt-free.

Regardless of the question of her tacit approval of the corruption, that the scandal “splintered her political base and devastated her popular support” should not have fed into the vote against her.[11] That such a political loss during a term of office would make it easier for legislators to vote against her is something they should resist, for otherwise the vote becomes merely a partisan opportunity to change the parties in power.

Her removal did indeed end 13 years in which her Workers’ Party was in power. Such a political feat as removing such a longstanding party means a partisan motive could indeed have contributed to the 61-20 result. Before the vote, her “political enemies hailed her looming removal “as a rebuke to the leftist tide that swept across many South American countries in the early 2000s.”[12] The use of an impeachment vote to make such a rebuke is not appropriate because the impeachment device is supposed to deal with criminal activity such as deliberately misstating budget-deficit numbers. That Sen. Ronaldo Caiado of the Democrats Party said the “ouster was a repudiation [of] the Workers’ Party” suggests that the impeachment mechanism was used inappropriately. In short, Caiado was confusing an election with an impeachment.

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[1] Paulo Trevisani and Reed Johnson, “Brazilian President Rousseff Ousted,” The Wall Street Journal, September 1, 2016.

[2] Ibid.

[3] Ibid.

[4] Ibid.

[5] Ibid.

[6] Ibid.

[7] Ibid.

[8] Ibid.

[9] Ibid.

[10] Ibid.

[11] Ibid.

[12] Ibid.

Corbyn as Labour Party Leader in Britain: Are Increased Deficits Implied or Avoidable?

The notion that a political party oriented to redressing the widening economic inequality during the years following the financial crisis of 2008 and the subsequent debt-crisis in the E.U. necessarily must increase government deficits to do so is, I submit, faulty. That is to say, being especially oriented to the plight of the poor, with the goal being the elimination of extreme poverty, can be consistent with fiscal responsibility. The election of a socialist as leader of Britain’s Labour party presents us with an interesting case of assumed fiscal irresponsibility.

Jeremy Corbyn upon being elected as leader of the British Labour Party (Jeff Mitchell/Getty)

Jeremy Corbyn was elected leader of Britain's opposition Labour party in September 2015. He won 59.5 percent of the ballots cast, or 251,417 votes, in the leadership, winning in the first round. He vowed to work toward justice for the poor. "I say thank you in advance to us all working together to achieve great victories, not just electorally for Labour, but emotionally for the whole of our society to show we don't have to be unequal, it doesn't have to be unfair, poverty isn't inevitable," he said.[1] He a impressed many Labour party members by repudiating the pro-business consensus of former leader Tony Blair—going instead with wealth taxes, nuclear disarmament and ambiguity about EU membership." Additionally, he promised to increase government investment though money-printing and renationalising vast swathes of the state’s economy. The Tories have used the economic crisis of 2008 to impose terrible burden on the poorest people in this country," he said. All this would not come without a cost.

For his part, Prime Minister David Cameron assumed that Corybn’s platform would mean larger government budget deficits—a problem the E.U. has struggled to address by levying penalties on wayward state governments. Cameron said—and this is crucial—"It's arguing at the extremes of the debate, simply wedded to more and more spending, more and more borrowing and more and more taxes. And in that regard they pose a clear threat to the financial security of every family in Britain." He is using rhetoric in characterizing Corbyn’s platform as extreme. In any case, Corybn said nothing about borrowing more and thus increasing the state’s public debt, yet Cameron assumed that it goes along with such a platform. To be sure, Cameron has a political incentive to make the inference, at least publically. According to Reuters, “The likely abandonment of the political center ground, particularly on the subject of balancing Britain's books, is seen by many as a gift for the Conservative Party that could herald a prolonged spell in power for the center-right party.” For the media to take the Prime Minister’s inference at face value, as if Corybn himself had said it, is hardly fair not only to him, but also to the residents of Britain.

I contend that the inference is invalid—that is to say, fiscal irresponsibility is not necessarily part of the mix in going with policies oriented to relieving poverty and even socialist policies—socialism being having the government own the means of production (regulation being government control over private property).  Corybn mentioned wealth taxes; he could also have pledged to reduce or end corporate tax-subsidies and even increase other taxes, including on business. He could also have vowed to decrease government spending in areas that do not affect the poor. Obviously, a downside goes with each of these measures, but this is not my point here. Rather, I submit that increasing government revenues and even decreasing government spending overall is consistent with having policies oriented to relieving and even eliminating the scourge of poverty, which dehumanizes people and limits them in so many ways, including in productiveness. Accordingly, Corybn could have said that he would work on behalf of human rights within Britain.

Regarding nationalizing economic sectors by printing money, government debt would not increase; rather, the means is inflationary. Were Corybn to change his position on using monetary policy for a large-scale fiscal purpose, we would be wrong in assuming that he must increase the state’s deficits to do so. Alternatively, he could prioritize the sectors to be nationalized and do so gradually. If even this approach would strain government finances, he could float government bonds specific to the government investments and use the revenue from them to pay off the bonds. This use of debt is acceptable in the business world, and thus qualitatively different than simply adding to the state’s deficit without a tie to future revenue. For anti-debt purists, the nationalization policy could be subordinated to the anti-poverty spending such that nationalizations occur only when the government can afford to pay for them—say from running a surplus, which I contend is consistent with an emphasis on anti-poverty measures.

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[1] William James and Michael Holden, “Socialist Elected UK Opposition Labour Leader,” Reuters, September 12, 2015. Source of all quotes in this essay.

The Bank of Japan’s Quantitative Easing: An Unnatural Imbalance

On October 31, 2014, the Bank of Japan made public its policy of buying larger amounts of government debt—80 trillion yen ($734 billion) a year—so as to stimulate the economy.[1] The Nikkei 225-stock index average rose almost 5 percent that day, while the yen fell to its lowest level against the dollar since the preceding month. In effect, investors and analysts were factoring in the likely stimulatory impact on the economy and the inflationary implication of more yen relative even to the expanded output, respectively. Put another way, the lower yen suggests that any strengthening of the currency from higher economic output would be more than countered by the weakening impact of inflation. Interestingly, not even the likely boost to exports from the cheaper yen was expected by the market participants to give the stimulus the edge in pushing the currency higher rather than lower.

 

I submit that the central bank’s strategy is suboptimal in terms of the mission to stabilize the currency on account of the risk of an inflationary spiral. The imprudence, or imbalance in favor of stimulus, stems from another imbalance wherein exaggerated fears of deflation are allowed to eclipse the common-sense notion that periods of deflation naturally go alone with there being periods of inflation. The problematic mentality, I contend, can be understood in terms of a wave function wherein only the half of each wave above the base line are permitted. Such a policy goes against the nature of a wave function to spend as much time below the line as above it. In monetary terms, price stability is thwarted in favor of an inflationary bias.

 

I suspect the root of the problem involves a failure to distinguish between moderate, or cyclical deflation and the severe, ruinous kind. The lack of balance involved in resolutely shutting off even low deflation after years of inflation can resonate into an economy being out of balance. That is to say, the imbalance can expand like a ripple in a pond—a ripple being of course a natural wave function of ups and downs rather than only ups. Perhaps applying principles of natural science to macroeconomics might help central bankers in their task to maintain price stability.

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[1] Jonathan Soble, “Japan’s Central Bank Unexpectedly Moves to Stimulate Economy,” The New York Times, October 31, 2014.

On the Federal Reserve’s Quantitative Easing: Impacts on the U.S. Debt and Inflation

With government-bond purchases of $3.9 trillion (including mortgage-backed bonds) from November 25, 2008 to October 30, 2014, the U.S. Federal Reserve Bank stimulated the American economy by keeping interest rates low. This in turn kept the U.S. Treasury department’s interest payments on the gargantuan federal debt lower than would have otherwise been the case. Put another way, the Federal Reserve Bank’s massive foray into stimulating the economy made holding debt and borrowing still more money less costly than it would otherwise have been, and thus enabled the government’s penchant for debt-financing over raising taxes and/or reducing spending. “Enabling an addict” would be a less charitable way of putting the Fed’s role vis-à-vis the U.S. Government. In this essay, I explore problems resulting from the Fed’s stimulus on the government’s debt-financing.

The central bank created the $3.9 trillion (less reinvested principal and interest payments received) out of thin air—increasing the number of dollars relative to economic output. The implied inflationary impact was hidden by the lack of demand-pull inflation during the recession and even the recovery, given the stationary income level and the relatively few new, full-time jobs created. Cost-push inflation was also low, with oil prices in particular dipping in 2014. In spite of Janet Yellen, the Fed’s chair, being worried more about deflation than inflation (as if years of piled-on low inflation should not naturally be balanced by years of low deflation), I am reminded of the interest-rate hikes that Fed chair Paul Volcker instituted in 1981 to squeeze years of high inflation out of the system.[1] Unlike cost-push and demand-pull inflation, more dollars chasing relatively less goods—even when the economy is growing—is bound to give rise to inflation at some point.

More troubling yet even more subtle, the Fed’s creation of dollars to buy treasury bonds means that the Treasury Department does not have to pay as much in interest as it otherwise would because the interest rates are lower. Congressional legislators and the president have in turn been more inclined than they otherwise would have to go the route of borrowing even more; for not only is the cost of borrowing less, they knew the Federal Reserve Bank would create money to buy treasuries. This feedback loop is inherently bad, both in terms of political economy and ethics.

First off, although the Federal Reserve is an independent federal agency, it is part of the federal government. Created by an act of Congress, the central bank can come to rescue of the U.S. Treasury Department but not those of the Union’s states (unlike the ECB in the E.U.). So a conflict of interest is exploited when a Fed chair decides to create money to finance (or lower the cost of) the government’s debt. Imagine what would happen if a person could create money to pay for food such as ice-cream and cake. It would be too tempting for the person to eat too much—his or her self-maintenance role would likely succumb to his or her pleasure-seeking role. Taking the Fed as federal institution, the conflict of interest lies in two or more such institutions, including the Fed, essentially colluding to get free (or reduced cost) debt. A scenario in which Congress and the president want to borrow $1 trillion and the Federal Reserve simply creates the money and sends it to Treasury.

One way the Federal Reserve can partially deconstruct the conflict of interest and reduce the chance of inflation is for the central bank to destroy rather than hold or reinvest the returned principal (and interest revenue less costs) when the bonds come due.[2] Ideally, all of the money that the Fed created for its Quantitative Easing program should be destroyed. To be sure, even temporarily creating money to buy treasuries makes it easier than would otherwise be the case for Congress and the White House to borrow. With an accumulated debt of around $17 trillion, the U.S. Government was already over-extended beyond the point of no return. For the Federal Reserve to create money to buy government bonds may only compound the quagmire even if the economy is stimulated in the short run. Examining these more subtle implications can thus potentially enhance the ability of the popular sovereign—the People—to keep the federal government from heading down a ruinous path.

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[1] John Waggoner, “Easy Come, Easy Go: Beginning of the End,” USA Today, October 30, 2014.

[2] Darrell Delamaide, “A Pat on the Back for Yellen—But Lots of Hurdles Ahead,” USA Today, October 30, 2014.

Should the ECB Buy State Bonds and Encourage State Deficits?

In remarks at Jackson Hole, Wyoming, European Central Bank president Mario Draghi urged greater fiscal and monetary coordination to boost the E.U.’s economy. A ship cannot move along at full speed if all the sails are not coordinated so that each is poised at its optimal angle to the prevailing winds. So too, various policies in a political economy must all sail in the same direction for a full-sail recovery to really take off. Just as a sailing ship must avoid jagged pitfalls lurking in rocky waters, so too must policy makers; for it is all too easy in focusing on one point on the horizon to ignore or dismiss baleful downsides to the dominant policies.

At the foot of the Teton Mountains, there being no foothills, Draghi “called for explicit policy co-ordination between the [Eurozone’s] monetary guardian and [the states].”[1] Brandishing considerably less concern on inflation, he linked the ECB’s future purchases of state bonds (i.e., quantitative easing, or QE) to structural reforms, tax cuts, and more spending at the state level. 

At the time, E.U. law limited state budget deficits to 3% of gross domestic product. Pointing to the existing flexibility in that law, the central banker urged the state governors to “better address the weak recovery and to make room for the cost of needed structural reforms.”[2] I submit that the accent should be placed on the latter, as they would have more staying power. It is like the difference between consuming sugar (even in fruit) before running, and drinking a protein shake after lifting weights; both food elements are helpful, but only the protein becomes a part the body and can thus strengthen it for the future.

Quantitative easing can unfortunately impact an economy in both foreseen and unforeseen ways due to the intended artificially-low interest rates. The market-mechanism cannot but be distorted, with harsh byproducts free to silently ravage certain segments while others benefit without merit. The human brain is not so omniscient as to be able to fully anticipate and plug all the leaks that can arise from a systemic distortion in a macro-economy. That is to say, the system is so complex that a huge distortion using one macro policy tool can introduce significant systemic risk.

In the U.S., for example, low rates in the 1990s incentivized a housing bubble whose collapse in 2007 triggered the potentially catastrophic credit freeze and collapse of Lehman Brothers in September of 2008. The government bailout of GM, AIG, and Wall Street banks worsened the federal public debt. By 2014, that debt reached over $17 trillion. Meanwhile, the Federal Reserve printed money far exceeding the meager growth of GDP by buying bonds to artificially lower interest rates to prompt a recovery.

With interest rates low, money flooded into stocks. “The market is in effect rigged because of the [low] interest rate,” Charles Biderman said on CNBC as the summer of 2014 was coming to an end.[3] A grinding ethical fault-line ran between the stocks increasing at 25% a year and the wages and salaries increasing at a mere 3 percent. Moreover, the middle and lower economic classes would doubtless feel the brunt of a collapse of the stock market due to irrational fear should rates be raised to counter the inflation from too many dollars chasing too few goods.

With borrowing money being so cheap at the low rates, government officials did not feel the normal market pressure to hem in the deficits. Corporate managements could borrow money cheaply to acquire or merge with other companies without being perhaps as discerning of the degree of compatibility and synergy as would be the case under naturally determined interest rates. In 2014 through August, more than $2 trillion in mergers and acquisitions were announced—an increase of 70 percent over the same period the year before.[4] While managers, stockholders, and lawyers make out like bandits on the deals, subordinate employees are left out of the largess and may even lose their jobs as the price of synergy.

As dark as the underside of quantitative easing is in pushing rates abnormally low, the most potentially harmful byproduct of Draghi’s plan concerns his intent to encourage the E.U.’s state governments to make greater use of the “existing flexibility” already in the federal law limiting state budget deficits to 3% of annual economic output. Even large states such as France and Germany had had trouble keeping within the law; states such as Greece, Spain, and even Italy carried so much debt that the systemic risk of default became a problem not just for the E.U., but for the global financial system as well. To encourage flexibility might be like giving money to an alcoholic standing outside a liquor store. The last thing state legislators need to hear is additional flexibility to tax less and spend more can be found in the fine print.

As an alternative, Draghi could have emphasized that the ECB would focus on assisting states with structural reforms both by lending its expertise and finding the right monetary incentives that would not distort the financial market in potentially unforeseen ways. Sticking to old ways is not necessarily the best route to getting structural changes capable of ushering in new ways.

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1. Claire Jones, Peter Spiegel, and Robin Harding, “Draghi Softens Tone on Austerity,” The Financial Times, August 22, 2014.

2. Ibid.

3. Charles Biderman, CNBC TV, August 28, 2104.

4. Trish Regan, “Has Fed Jumped the Shark?” USA Today, August 26, 2014.