TJP

Tom Sowell’s article “Americans getting fed up with the fed,” published in The Journal on May 8, 2011, is interesting. In the article, Mr. Sowell argues that quantitative easing by the Federal Reserve (Fed) did not work because there is plenty of money. However, the only reason why there is plenty of money is precisely because of quantitative easing.

Quantitative easing occurs when the Fed conducts open market purchases of securities; it buys bonds and sells money. The purpose of an open market purchase is to change the available relative supply of money and bonds in order to affect the interest rate, as well as the willingness of the public to hold money. Thus, it is the Fed’s policy of quantitative easing that created “plenty of money.”

Sowell proceeds to blame the Obama administration for banks reluctance to lend and conveniently ignores that the economic crisis occurred under the Bush administration.

Recessions are basically insufficient income in the hands of consumers, preventing them from purchasing commodities at pre-recession levels. Thus, as consumers’ demand diminish, inventories accumulate; production decreases and businesses lay workers off.

If Sowell had argued that “plenty of money” from quantitative easing was targeted to the wrong recipients, to banks, business and federal government, instead of consumers, he would have been accurate. Moreover, he could validate such claim by pointing to the large amount of money sitting around idle in banks and businesses.

Unfortunately, it appears that political bias distorts his analysis and conclusions. For instance, his argument that hiring is a function of businesses holding cash is false. Hiring is a function of consumer demand; in essence, it is a function of the cash (disposable income) that consumers hold and not the cash that businesses hold. Businesses only hire when they perceive that there is demand for their products or services.

Sowell's political bias is quite evident when he argues that ObamaCare creates business uncertainty, prevents hiring and leads employers to intensify overtime usage. Sowell is an economist and should know better, businesses always operate under uncertainty and hiring is a function of potential demand for the business products or services. Only inexperience, or highly optimistic, entrepreneurs would increase hiring when the outlook for long-term demand of their products or services is falling.

Sowell also appears to reject Keynesianism and monetarism, and makes no distinction between Keynes’ fiscal approach and Freeman’s monetarism.

Finally, Sowell’s position on the economy is one of non-interference. In essence, he appears to be advocating that policy makers should not manage the economy. Such view is tantamount to arguing that a physician should not attend to the sick, or an organization should not manage its affairs. Of course, such lack of oversight (regulations) always lead to adverse consequences.

Sowell also looks backwards and argues that there was no evidence of mass unemployment in the 1930’s until the federal government intervened. The implication is that prior to the Obama administration’s intervention, there wasn’t and economic crisis and mass unemployment, or that the crisis would resolve itself.

If that is the message that Sowell wants to convey, it is purely revisionist politics. However, if the argument is that interventions could lead to unintended outcomes, and therefore should be done carefully, then he is right.

For instance, if the intervention targeted consumers, rather than banks, the federal government and businesses, the downturn would not have lasted this long.

Interventions outcomes are contingent on the diagnosis of what caused the crisis. If the diagnosis is erroneous, the intervention will be ineffective.

For instance, the initial diagnosis of the 2007-2008 economic crisis was sub prime lending.

However, the Chairman of the Fed, Ben Bernanke, in a May 17, 2007 speech, said there are about 7-1/2 million sub prime first-lien mortgages or about 14 percent of all first-lien mortgages. Residential investment is less than 5 percent of the US gross domestic product (GDP). Therefore, sub prime mortgages are an insignificant fraction of GDP.

Thus, blaming sub prime lending for the economic crisis is a red herring; the implication is that a mere 14 percent of first-lien mortgages, and not all in default, caused the recession of 2007.

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