Wednesday update: Hanke on the fed funds rate; Ranson on tax rate stability; Woodhill on growth.

From Cato, Steve Hanke makes the crucial point that the near-zero percent federal funds rate has created a credit crunch.

On Forbes, David Ranson argues federal revenues are maximized by moderate and stable tax rates.

At Forbes, Louis Woodhill stresses fast growth to get unemployment down.

On The Kudlow Report, Rep. Ron Paul (TX), Wayne Angell, and others debate Fed Chairman Bernanke’s speech:




Newt Gingrich’s website features today's speech on Federal Reserve reform.

From First Trust, Brian Wesbury sees inflation signs.

At TGSN, Ralph Benko recounts the story of Scottsman John Law’s disastrous experiment with paper money.

In UK’s IB Times, Gabriel Mueller defends the gold standard.

At Bloomberg, Jim Grant offers a terrific critique of the floating dollar system and the Federal Reserve:




In The WSJ, Stephen Moore reports freshman Sen. Marco Rubio (FL) is a top VP contender.

On International Liberty, Dan Mitchell notes that Herbert Hoover was no budget cutter.

From Bloomberg, conservative Keynesian John Taylor highlights Paul Volcker’s policy of floating the fed funds rate while controlling the money supply.

Mundell: Deflation Risk for the Dollar (WSJ).

The following appeared in The WSJ on May 23, 2011.

Mundell: Deflation Risk for the Dollar
The Nobel winner says a stable dollar-euro rate is the best economic medicine.

By Sean Rushton

Conservative economists have been raising alarms for months about the Federal Reserve's second quantitative-easing program, QE2. They argue it has lowered the dollar's value, leading to higher oil and commodity prices—a precursor to broader, more damaging inflation.

Yet the man many of them regard as their monetary guru—supply-side economics pioneer and Nobel Laureate Robert Mundell—says dollar weakness is not his main concern. Instead, he fears a return to recession later this year when QE2 ends and the dollar begins its inevitable rise. Deflation, not inflation, should be the greater concern. Avoiding the recession is simplicity itself: Just have the U.S. Treasury fix the exchange rate between the dollar and the euro.

Mr. Mundell's surprising statement came at a March 22 conference in New York sponsored by the Manhattan Institute, The Wall Street Journal and the Ronald Reagan Presidential Foundation. His economic predictions carry great weight because, unlike most economists of his generation, he is often right. His analysis of international economics has revolutionized the field, making him the euro's intellectual father and a primary adviser to China's economic policy makers.

Nevertheless, with gold around $1,500 and oil above $100 a barrel, supply-siders are scratching their heads: How can he possibly see deflation ahead? How can dollar weakness not be the problem?

The key to Mr. Mundell's view is that exchange rates transmit inflation or deflation into economies by raising or lowering prices for imported items and commodities. For example, when the dollar declines significantly against the world's second-leading currency, the euro, commodity prices rise. This creates U.S. inflationary pressure. Conversely, when the dollar appreciates significantly against the euro, commodity prices fall, which leads to deflationary pressure.

From 2001-07, he argues, the dollar underwent a long, steady decline against the euro, tacitly encouraged by U.S. monetary authorities. In response to the dollar's decline, investors diverted capital into inflation hedges, notably real estate, leading to the subprime bubble. By mid-2007, the real-estate bubble had burst. In response, the Fed reduced short-term interest rates rapidly, which lowered the dollar further. The subprime crisis was severe, but with looser money, the economy appeared to stabilize in the second quarter of 2008.

Then, in summer 2008, the Fed committed what Mr. Mundell calls one of the worst mistakes in its history: In the middle of the subprime crunch—exacerbated by mark-to-market accounting rules that forced financial companies to cover short-term losses—the central bank paused in lowering the federal funds rate. In response, the dollar soared 30% against the euro in a matter of weeks. Dollar scarcity broke the economy's back, causing a serious economic contraction and crippling financial crisis.

In March 2009, the Fed woke up and enacted QE1, lowering the dollar against the euro, and signs of recovery soon appeared. But in November 2009, QE1 ended and the dollar soared against the euro once again, pushing the U.S. economy back toward recession. Last summer, the Fed initiated QE2, which lowered the value of the dollar, allowing a second leg of the recovery to take hold.

Nevertheless, Mr. Mundell views QE2 as the wrong solution for the problem. Instead, the U.S. and Europe simply should coordinate exchange-rate policies to maintain an upper and lower limit on the euro price, say between $1.30 and $1.40. Over time, the band would be narrowed to a given rate. Further quantitative easing would be off the table.

With a fixed exchange rate, prices could move free from the scourge of sudden deflation and inflation, allowing investment horizons and planning timelines to expand along with production levels on both sides of the Atlantic. To supercharge the U.S. recovery, he also recommends permanently extending the Bush tax rates and lowering the corporate income tax rate to 15% from 35%.

Above all, he made it clear that the volatile exchange rate is the responsibility of the U.S. Treasury, not the central bank. Without a breakthrough on exchange rates, he predicted another dollar appreciation following QE2, resulting in a return to recession and a worsening of the U.S. debt crisis. This would likely lead to a third round of quantitative easing, continuing the dysfunctional cycle.

Criticize the Fed all you like, Mr. Mundell says, but the key to recovery is to stabilize the dollar at a healthy level relative to the euro. Given his stellar track record, it's worth asking: Is anyone in Washington listening?

Mr. Rushton edits The Supply Side blog.

Tuesday summary: Domitrovic on Bretton Woods; Kudlow on the end of QE2; Gingrich sounds pro-growth.

From Forbes, Brian Domitrovic explains that Bretton Woods was meant to be a halfway point before returning to a classical gold standard.

On NRO, Larry Kudlow suggests the end of QE2, plus the likelihood of budget gridlock, may mean a stock market downturn.

Bloomberg reports the Federal Reserve may continue to provide monetary stimulus after QE2.

On The Kudlow Report, Newt Gingrich supports a sound dollar and makes the crucial link between faster growth and a lower deficit:



At Forbes, Charles Kadlec argues the President’s budget and tax plans would change America fundamentally.

In The Washington Times, Richard Rahn praises job creators.

On Forbes, Ralph Benko argues a government shutdown wouldn’t have major consequences.

From Fox News, Steve Forbes discusses the deficit but stresses that raising taxes is not the solution:


At Coffee and Markets, Art Laffer advises policy makers to focus on growth rather than deficits.

On Mother Jones, Dave Gilson acknowledges that the top one percent pay 32 percent of all income taxes but suggests they should pay far more.

Friday items: Woodhill discounts the Dow for gold; Lehrman and Grant testify on monetary policy; Geithner supports a world reserve currency.

From The Weekly Standard, Lewis Lehrman argues for a gold-backed dollar.

At Forbes, Louis Woodhill measures the Dow against the gold price.

U.S. Rep. Ron Paul (TX) held hearings yesterday on Federal Reserve policy and rising prices, featuring Lewis Lehrman and James Grant:



(Parts 2-8 of the hearing, here, here, here, here, here, here and here.)

(Lehrman’s written submission here, Grant’s here. H/t: Ralph Benko, Rich Danker.)

The Telegraph (UK) reports world markets were stunned by Treasury Secretary Tim Geithner’s suggestion that the U.S. supports a global reserve currency.

From last week, The WSJ recounts a hapless Fed official’s explanation to working people that price inflation is under control.

So Mr. Dudley tried to explain that other prices are falling. "Today you can buy an iPad 2 that costs the same as an iPad 1 that is twice as powerful," he said. "You have to look at the prices of all things."

Reuters reports that this "prompted guffaws and widespread murmuring from the audience," with someone quipping, "I can't eat an iPad." Another attendee asked, "When was the last time, sir, that you went grocery shopping?"

At RCM, Cato’s Kevin Dowd and Martin Hutchison tie dollar volatility to the recent boom/bust cycles and suggest investors are pulling out of the U.S. as a result.

From Future of Capitalism, Ira Stoll notes the Ways and Means Committee Chairman wants a top tax rate of 25 percent.

At Democracy Journal, supply-side critic Jonathan Chait laments the GOP’s refusal to raise tax rates.

We can identify three phases of supply-side craziness in Republican Party history. In phase one, the Republican establishment greeted supply-side economics with incredulity. The messianism and insouciant disregard for sound fiscal principles sounded more like a nutty left-wing scheme than anything a Dwight Eisenhower or even a Barry Goldwater might recognize. George H.W. Bush called it “voodoo economics.” A great blaze of tax cutting at the outset of the Reagan presidency quickly produced massive deficits, and the Reagan Administration — still dominated by an older generation of Republicans — quickly retrenched. It quietly raised taxes in 1982 and 1983, and then in 1986—aghast at the massive corporate tax loopholes that had grown out of its initial tax cuts—agreed to a tax reform that, even in the course of lowering nominal rates, shifted a larger share of the tax burden onto the rich by sweeping the tax code of subsidies for the wealthy.

Through the next decade, in phase two, the Republican Party stayed committed to anti-tax absolutism in rhetoric, but it remained largely tethered to fiscal reality in practice. In 1990, George H.W. Bush agreed to a major deficit-reduction package, including substantial spending cuts, in return for a small hike in the top marginal income tax rate, from 28 to 31 percent….

Which brings us to phase three. Over the last 20 years, the penetration of taxophobia within the Republican Party has been total. Reducing taxes, especially taxes on the rich, has been enshrined as the party’s unquestioned central policy goal. Virtually all Republicans at the national level have signed a pledge concocted by anti-tax fanatic Grover Norquist pledging never, under any circumstances, to support higher taxes. No such pledge exists for spending.

On Forbes, Peter Ferrara suggests Social Security accounts are still a viable option.

From Fiscal Times, Bruce Bartlett argues Tea Party Republicans are blowing it by focusing on small, unpopular budget cuts.

Weekend update.

At Forbes, Nathan Lewis explains why many economists favor floating currency.

Also on Forbes, Bill Flax makes the libertarian case for a gold-backed currency.

In The WSJ, monetarist Allan Meltzer likens current Fed policy to the 1970s:

In the 1970s, despite rising inflation, members of the Federal Reserve's policy committee repeatedly chose to lower interest rates to reduce unemployment. Their Phillips Curve models, which charted an inverse relationship between unemployment and inflation, told them that inflation could wait and be addressed at a more opportune time. They were flummoxed when inflation and unemployment rose together throughout the decade.

In 1979, shortly after becoming Fed chairman, Paul Volcker told a Sunday talk-show audience that reducing inflation was the best way to reduce unemployment. He abandoned the faulty Phillips Curve thinking that unemployment was the enemy of inflation. And he told the Fed's staff that while he thought highly of their work, he did not find their inflation forecasts useful. Instead of focusing on near-term output and employment, he changed the Fed's policy to put more emphasis on the longer-term reduction of inflation. That required a persistent policy that President Reagan supported even in the severe 1982 recession.

We know the result: Inflation came down and stayed down. The Volcker disinflation ushered in two decades of low inflation and relatively steady growth, punctuated by a few short, mild recessions. And as Mr. Volcker predicted, the unemployment rate fell after the inflation rate fell. The dollar strengthened.

From RCM, Larry Kudlow suggests the economy is in better shape than the recent employment report indicates, but he worries about inflation.

In Human Events, Tony Lee recounts Jack Kemp’s role in Reagan’s success.

On Fox, Steve Forbes argues Reaganomics would fix today’s economy as well:




Cato’s Dan Mitchell posts a good video of Reagan.

The NYT quotes Art Laffer supporting Reaganomics with an unfortunate simile:

[O]ne of the most damning testimonials comes from a fan, the economist Arthur Laffer, ardent proponent of supply-side economics and father of the Laffer Curve.

“Trickle-down economics is if you feed the horse enough oats, the sparrow will survive on the highway,” he explains cheerfully.

On The Kudlow Report, Larry, Mrs. Kudlow, Stephen Moore and Craig Shirley discuss Reagan’s successes:




On Forbes, John Tamny argues Walmart boosts the economy.

At Dallas Blog, Fr. Charles McCloskey reviews Kemp-staffer John D. Mueller’s Redeeming Economics.

A Cato Institute study blames Fed monetary policy for recent market bubbles and warns of decapitalization.

Wednesday round up.

At Forbes, Econoclasts author Brian Domitrovic illustrates similarities between the 1970s Dow and today’s.

The WSJ editorializes on President of the Philadelphia Federal Reserve Charles Plosser’s recent speech in Chile:

"I believe we have come to expect too much from monetary policy," Mr. Plosser said, quoting similar comments by Milton Friedman in 1967, another era when we were told the Fed could produce prosperity by manipulating money creation. "Monetary policy can sometimes temporarily stimulate real economic activity in the short run," he added, and it has a role to play in preventing deflation or offsetting productivity shocks.

But central bankers cannot create jobs or retrain a work force, or even—brace yourself—"reverse the sharp decline in house prices when the economy has significantly over-invested in housing." Though Mr. Plosser didn't say this, we would argue that the Fed's current historically easy policy is intended precisely to reflate the housing and job markets. How's that been working out?

At CNBC, David Malpass suggests loose U.S. monetary policy is causing inflation in China:



From last week, Malpass examines China’s currency.

On NRO, the editors dismiss yuan manipulation charges.

From November, Taiwan’s Next Media Animation releases a surprisingly substantive “currency rap battle,” between Presidents Obama and Hu:



At The Atlantic, Uri Friedman explains why the yuan isn’t the main issue confronting U.S.-China relations.

The NY Sun editorializes in support of Virginia’s bill to study a gold-backed currency:

America is at a remarkable moment in respect of the dollar. Suddenly a wide range of thinkers are waking up to the catastrophe that would be represented by the loss of the dollar. A former chairman of the Federal Reserve, Alan Greenspan, presented himself at the Council on Foreign Relations to warn that fiat money always goes to gold. The president of the World Bank, Robert Zoellick wrote an important op-ed piece in the Financial Times, of all places, to suggest that there may be a role for gold after all. The New York Times brought in no less a figure than James Grant to argue that the time has come to bring back the classical gold standard. The Wall Street Journal editorial page has been running a stream of important pieces on monetary reform. This week a committee has been set up to draft for the 2012 presidential campaign a candidate, in the person of Congressman Michael Pence, who might stand on a gold plank. The Congress of the United States has just put Ron Paul at the head of the subcommittee that oversees the Federal Reserve. What a golden opportunity for Virginia, which gave us so many fathers of the Constitution, to take the lead in studying what role the states themselves might have in a return to sound money.

From Bloomberg, Art Laffer applauds the President’s recent pro-business slant.

Tuesday round up.

On Bloomberg, supply-side guru Robert Mundell suggests the dollar soaring against the euro in 2009 and 2010 is responsible for the weak US economy, and predicts 2011 growth at two percent. He recommends a euro floor of $1.30. He also explains China’s interest rate hikes attract increased hot money flows but does nothing to raise its exchange rate value versus the dollar.

At Gold Seek Radio, Chris Waltzek interviews Steve Forbes on gold (play button towards the bottom).

On The Kudlow Report, Kellyanne Conway debates the President’s change of economic direction:




Pro-growth advocate and former-Godfather Pizza CEO Herman Cain is considering a run for President.

Rebelyid recounts the Mundellian policy mix, and the recent deviations from it.

On The Weekly Standard, Irwin Stelzer notes the rise of interest in sound money (hat tip: Ralph Benko):

All of which explains two important developments—the rise in the price of gold, and the sweeping gains by Republicans in the congressional elections. Gold opened the year at under $1,100 per ounce and is closing it at close to $1,400 per ounce. Despite substantial slack in production capacity, inflation expectations rose, and investors became worried about the long-term value of the dollar. Indeed, some economists are talking about the end of the era of fiat money and a return to the gold standard. The Federal Reserve Board is again printing money, and promises to print more if needed. With unemployment high, and the printing presses running at a rate that just might result in inflation down the road, talk of a return to the bad old days of Jimmy Carter and stagflation, or of a double dip recession, was heard in some boardrooms.

In The WSJ, Pete DuPont proposes spending cuts, reduced regulation, and improving Obamacare as Republican priorities.

From earlier this month, Cato’s Alan Reynolds notes the US is the world’s largest manufacturer.

On NRO, Heritage’s Michael G. Franc sees a loss of faith by entrepreneurs in the federal government.

From the archive, Milton Friedman analyzes the rise of capitalism in Dickensian England on NRO.

On C-SPAN, U.S. Rep. Ron Paul (TX) discusses his agenda, including Federal Reserve oversight.

At Forbes, Dean Zarras anticipates Paul’s tenure.

Tuesday summary.

On C-SPAN, a panel including Judy Shelton, U.S. Rep. Mike Pence (IN), Jack Kemp Jr., and U.S. Rep. Paul Ryan (WI) discusses the need for sound money.

At Forbes, historian and Econoclasts author Brian Domitrovic explains the Great Inflation’s role in Reagan’s fiscal deficits and Clinton’s surpluses.

On The Kudlow Report, Art Laffer and Brian Wesbury are optimistic about the President’s change of economic policy direction, while David Goldman is more skeptical:




At Alhambra Investments, Joseph Calhoun doubts the tax cut deal will be a major boost to markets.

Also from Alhambra Investments, Calhoun assesses the economy in light of quantitative easing, Europe’s troubles, and the budget commission’s proposal.

In The Washington Times, Richard Rahn critiques the Federal Reserve.

If you are skeptical about abolishing the Fed, just consider the following question: "Would those who voted for the Fed in 1913 have done so if they had known that:

1. After having a 125-year period of relatively stable money when the dollar was still close to its value in 1790, the dollar would be worth less than 5 cents at the end of the century?

2. The longest and severest depression the country had ever experienced would occur a mere 20 years after the creation of the Fed and that the Fed had a major responsibility for the disaster?

3. And the number of bank failures would increase and not decrease?"

The answer clearly would have been "no." Why are we keeping a failed institution?

On RCM, John Tamny sees the fiscal commission moving the debate in a positive direction.

At Forbes, Charles Kadlec bemoans excessive government spending.

On NPR, Alan Reynolds responds to the Fed's QE2 plan.

The DBS Research Group explains that Singapore’s currency management risks violating Robert Mundell’s impossible trinity.

Weekend round up.

On RCM, John Tamny argues lower housing prices are good for the economy.

Also on RCM, Larry Kudlow advocates pro-growth tactics to improve the employment picture.

From The Heritage Foundation, Steve Forbes makes the moral case for capitalism:





The NY Sun advocates an audit of Federal Reserve bail outs.

In The WSJ, John Fund reports the Americans prefer spending cuts to tax increases by 59% to 30%.

The Huffington Post reports just how grim the unemployment data really is:



At The San Francisco Chronicle, Lisa Smith summarizes the Laffer Curve.

From AEI’s The American, Donald Losman rejects deflation predictions, citing rising gold.

Also in The Journal, Holman Jenkins notes weakening support for the euro among former supporters.

Even faced with maximal turmoil, Europeans are still trying to have it both ways. The bailout to-ing and fro-ing by European authorities is conditioned largely on their unwillingness to choose between conflicting goals—on one hand, a continent of competitive and open economies; on the other hand, a "social model" that cushions established interest groups and voting blocs from the stress of competition.

A very different approach to managing the current crisis is imaginable. Put the European Central Bank in charge of printing liquidity to prop up the continent's banks. (Right now it's printing liquidity to prop up governments, which are propping up the banks.) Let badly indebted governments go into default and negotiate more manageable terms with their creditors (mostly banks). Let politicians in these countries invest their limited political capital in promoting growth rather than austerity. Let them cut taxes and deregulate their labor markets.

This would certainly sound preferable to voters than job-killing tax hikes and spending cuts to appease far-off German taxpayers who are being dragooned into refinancing their insupportable debts. The most encompassing description of Europe's problem, after all, is the one not mentioned enough: a shortage of growth.

Friday items.

A FreedomWorks press release says the organization will co-sponsor a panel discussion in Washington this week on sound money.

From Wednesday, Larry Kudlow reports on the stock market’s progress.

On The Kudlow Report, Stephen Moore analyzes the high jobless numbers:




At Encima Global, David Malpass assesses the jobless report.

On RCM, John Tamny takes a counter intuitive view of a US-debt default.

At Reason, Nick Gillespie downplays the role of economic growth in the current deficit:




The NY Sun notes silver's recent rise.

At National Review, Rich Lowry praises entrepreneurial innovation.

From the Mises Institute, George Selgin suggests the Fed has been a failure:




In The WSJ, John H. Cochrane suggests national debt defaults are preferable to bailouts.

On NRO, Kevin Williamson scolds Americans for Tax Reform for opposing the Simpson-Bowles tax plan.

Wednesday update.

In Forbes, historian and Econoclasts author Brian Domitrovic explains that high taxes on dividends reduce corporate accountability.

At NRO, Larry Kudlow suggests the economy is improving.

On The Kudlow Report, President GW Bush discusses the dollar’s decline during his administration:




From October, Doug Casey neatly summarizes the case against currency devaluation.

1. A strong currency only hurts exports over the short run. Nobody seems to remember that the German mark was at .25, and the Japanese yen at 300 before the Nixon devaluation of 1971. The mark afterwards quintupled, and the yen has almost quadrupled since then.
2. A strong currency reduces the cost of imports, helping to keep prices in check. If the price of your currency doubles, the price of imported oil, machinery, technology, and everything else is cut in half.
3. Strong currencies attract foreign capital and encourage domestic savings. Businesses prefer to invest in a place where values tend to rise with the currency.
4. A strong currency encourages producers to be as efficient as possible. When domestic costs rise with the currency, producers run a tighter ship and substitute technology for labor. That is the path to progress. Using cheap workers instead of technology is a poor alternative.
5. Conversely, devaluing the currency simply makes everyone poorer. Most people keep their savings in the national currency, so are directly impoverished by devaluation. The only people helped (and only over the short term) are the relatively few companies that export.

At Forbes, Charles Kadlec blames rising oil on the falling dollar.

From CATO, three scholars ask, Has the Fed been a failure?

The Fed has failed conspicuously in one respect: far from achieving long-run price stability, it has allowed the purchasing power of the U.S. dollar, which was hardly different on the eve of the Fed‘s creation from what it had been at the time of the dollar‘s establishment as the official U.S. monetary unit, to fall dramatically. A consumer basket selling for $100 in 1790 cost only slightly more, at $108, than its(admittedly very rough) equivalent in 1913. But thereafter the price soared, reaching $2422 in 2008 (Officer and Williamson 2009)…. [M]ost of the decline in the dollar‘s purchasing power has taken place since 1970, when the gold standard no longer placed any limits on the Fed‘s powers ofmonetary control.

On C-SPAN, David Malpass argues QE2 is unlikely to help. At Forbes, more Malpass:

Thursday items.

On RCM, Louis Woodhill posits the novel theory that the Fed’s Interest on Reserves program caused the 2008 financial crisis.

At Forbes, Econoclasts author Brian Domitrovic explains that the world is desperate for the U.S. to stabilize the dollar.

On The Kudlow Report, U.S. Rep. Paul Ryan (WI) discounts demand side economics and underscores sound money:




On Forbes, Charles Kadlec advocates a gold-based international currency system.

At NRO, Larry Kudlow expresses cautious optimism about the deficit commission report.

Reuters reports the commission’s tax reform options.

Also on Kudlow, James Pethokoukis debates how to pay for the Bush tax rate extension:




The NYT hosts a debate on the gold standard but can’t find a single pro-gold economist.

At IBD, Walter Williams debunks trade deficit paranoia.

From Vlad Signorelli at Bretton Woods Research:

Reports this morning that Obama may have 'conceded' on extending Bush-era tax cuts for upper incomes may have been premature. The National Journal reports that [presidential advisor David] Axelrod clarified his stance around 9am, signaling the White House is still opposed to the idea.

Nonetheless, Obama's rhetoric is slowly evolving for the better as he is now conceding that economic growth is at least just as good as tax increases in reducing the deficit. Today, Obama made the point in Seoul that if economic growth increased by "1 percentage point over time that could have as much impact as completely eliminating the Bush tax cuts." And he added, "The single most important thing we can do to reduce our debt and deficits is to grow." Therefore, despite Axelrod's inept comments this morning, Obama seems to be gravitating toward growth solutions, which may spare expiration of Bush-era tax cuts on all.

On Forbes, Rich Karlgaard sees the worst of the recession as past.

From 2007, Art Laffer clarifies the claim that tax rates pay for themselves.

Wednesday round up.

The President’s deficit commission recommends spending cuts along with lower tax rates and elimination of deductions.

From August, Louis Woodhill exposes the commission’s low growth assumptions.

On The Kudlow Report, Don Luskin comments on how to play loose money and fiscal austerity:




At Forbes, Brian Wesbury and Robert Stein argue against quantitative easing.

In The FT, Alan Greenspan doubts the wisdom of a weaker dollar.

The WSJ editorializes in favor of trade liberalization to improve global imbalances.

A country's trade balance is simply an accounting identity that by definition matches the flow of goods and capital. Some countries export goods (a trade surplus) and also export capital to help other countries pay for those goods (a capital deficit). Others import goods (a trade deficit) while importing the capital with which to buy them (a capital surplus). Japan and Germany fall in the first category, the U.S. and India in the second. Either is perfectly normal.

The real problem is that for several decades many economies, especially in East Asia, have attempted to thwart these natural flows by running both trade and capital surpluses, and thus accumulating extraordinary levels of foreign currency reserves. Japan has done this for so many years that it is running a capital account deficit even as it sits on an enormous pile of U.S. Treasurys. China and South Korea do the same today.

This is where freer trade becomes so important. Trade barriers have long been a central policy tool for governments trying to keep their economies oriented toward exports. Trade barriers raise domestic prices by depriving consumers of the benefits of competition, while also artificially limiting their consumption options. Meanwhile, consumers and businesses aren't sending as much capital overseas to pay for imported goods.

On The NY Sun, Seth Lipsky defends Robert Zoellick from critics.

Cato’s Dan Mitchell worries the Fed is turning the dollar into a joke.

At NRO, Larry Kudlow links to Dan Mitchell’s latest video opposing tax increases:




In The Washington Examiner, Ralph Benko suggests ways to help the economy.

Tuesday update.

The WSJ editorial board cheers Sarah Palin and Robert Zoellick for their sound money statements.

At Asia Times, David Goldman endorses Zoellick's analysis.

Adding the dimension of a gold reference point is brilliant. During the late 1980s, we supply-siders promulgated a “Ricardian” gold standard, in which central banks would buy and sell currencies in order to stabilize the gold price in each currency (they wouldn’t have to own a great deal of gold to do this). It is not a gold fractional reserve system, in which claims on the banking system are payable in bullion, but a gold price reference, as Zoellick indicates.

We used to argue that gold was a good long-term indicator of the price level and that a stable gold price portended price stability. That is a naive view I abandoned fifteen years ago. If that were true, then we should have experienced a great deflation as gold fell from $800 at Christmas 1979 to well under $300 an ounce between 2000 and 2002.

Gold, I argued in a 1996 paper for Laffer Associates, should be thought of as a put option on the currency; the opportunity cost of holding gold instead of interest-bearing assets (plus storage costs) are the option premium. If central banks managed their currencies well, gold would trade at its commodity value, that is, around the marginal cost of production, which is now $600 to $700 for the largest mining companies. But if there is a risk that paper currencies will devalue by some extreme margin, it is worth holding gold as a hedge. We cannot price the option using the usual Black-Scholes formula or its variants because we do not know the volatility of a currency over the long term; this is a political matter and inherently uncertain. But if we think that monetary policy is headed to a disaster (QE2 will end up like the Titanic, in short), we will pay more for gold.

On The Kudlow Report, Goldman discusses rising gold and commodities:




At RCM, John Tamny critiques Fed Chairman Bernanke’s QE justification.

In The WSJ, Alan Reynolds critiques the logic of Bernanke’s strategy:

Mr. Bernanke is unconcerned, however, because he believes (contrary to our past experience with stagflation) that inflation is no danger thanks to economic slack (high unemployment). He reasons that if people can nonetheless be persuaded to expect higher inflation, regardless of the slack, that means interest rates will appear even lower in real terms. If that worked as planned, lower real interest rates would supposedly fix our hangover from the last Fed-financed borrowing binge by encouraging more borrowing.

This whole scheme raises nagging questions. Why would domestic investors accept a lower yield on bonds if they expect higher inflation? And why would foreign investors accept a lower yield on U.S. bonds if they expect exchange rate losses on dollar-denominated securities? Why wouldn't intelligent people shift their investments toward commodities or related stocks (such as mining and related machinery) and either shun, or sell short, long-term Treasurys? And if they did that, how could it possibly help the economy?...

There is ample evidence from commodity and foreign-exchange markets that world investors are indeed confident the Fed will raise inflation. However, the growing interest in shorting long-term Treasury bonds shows that the market does not believe higher inflation is consistent with lower long-term interest rates.

In other words, Mr. Bernanke and his FOMC allies are risking higher interest rates and inflated commodity costs in the pursuit of the contradictory objectives of higher inflation and lower bond yields, seemingly oblivious to all the evidence that they are pursuing an impossible dream.

On NRO, Larry Kudlow opposes Fed policy too.

Monday update.

At The NY Sun, Seth Lipsky applauds World Bank President Zoellick’s op-ed advocating a gold-based monetary system.

Also in The Sun, Lipsky notes Sarah Palin’s opposition to a weaker dollar.

On The Kudlow Report, Stephen Moore discusses President Obama’s willingness to extend all the Bush tax cuts:




At Forbes, David Malpass advocates spending cuts.

In The WSJ, Fed Governor Kevin Warsh promotes a long-term growth agenda:

Policy makers should take notice of the critical importance of the supply side of the economy. The supply side establishes the economy's productive capacity. Recovery after a recession demands that capital and labor be reallocated. But the reallocation of these resources to new sectors and companies has been painfully slow and unnecessarily interrupted. We are feeling the ill effects.

Fiscal authorities should resist the temptation to increase government expenditures continually in order to compensate for shortfalls of private consumption and investment. A strict economic diet of fiscal austerity has greater appeal, a kind of penance owed for the excesses of the past. But root-canal economics also does not constitute optimal economic policy.

The U.S. would be better off with a third way: pro-growth economic policy. The U.S. and world economies urgently need stronger growth, and the adoption of pro-growth economic policies would strengthen incentives to invest in capital and labor over the horizon, paving the way for robust job-creation and higher living standards.

In City Journal, economist Douglas Holtz-Eakin promotes tax reform as key to restoring economic growth.

The WSJ editorial page supports Washington state’s resounding rejection of higher taxes on the rich:

So what's the matter with Washington? Clearly, its middle-class residents understand an economic reality that eludes Mr. Gates and many other already-rich advocates of higher taxes: The absence of an income tax has been Washington's greatest comparative advantage over its high-income tax neighbors in California and Oregon. Texas Governor Rick Perry even sent a letter to Washington state's biggest employers, inviting them to move to no-income-tax Texas.

The larger message, which also eludes the nation's leading proponent of soak-the-rich tax ideas—the fellow in the Oval Office—is that the average person simply doesn't believe that the taxers will stop with the wealthy. To protect both themselves and the greater economy outside their windows, voters prefer a tax system whose rates aren't rising—on anyone.

Also on Kudlow, Art Laffer sounds optimistic in response to the President’s tax cut move:

Business Week reports emerging economies may be flooded with hot money due to Fed easing.

At NRO, Nobel laureate Gary Becker analyzes the roots of the financial crisis.

On Forbes, John Tamny critiques the NFL’s economic policies.

Thursday round up.

At The Washington Post, Fed Chairman Bernanke justifies yesterday’s decision to add $600 billion to the economy.

The NY Sun editorializes that the dollar’s value will predict the fate of the Boehner Republicans.

On The WSJ, Dan Henninger argues Republicans should focus on economic growth over spending cuts:




At Asia Times, David Goldman outlines why quantitative easing won’t work.

On NRO, Larry Kudlow suggests stopping bad ideas may be the best outcome of the Republican House.

The WSJ editorializes against quantatative easing:

The Fed first tried QE, as it's called, with $1.75 trillion of bond purchases starting in December 2008, but that was at the height of the financial panic when markets were frozen. The Fed's justification for this current round is that inflation is too low and growth too slow to reduce unemployment. The Fed promised to buy $600 billion in bonds for starters, and to keep buying until the rate of inflation rises, presumably above its 2% target.

This is a terribly risky strategy for what we expect will be little economic gain. The Fed hopes the policy will have the effect of reducing long-term interest rates by 25 to 50 basis points or more, but the 10-year Treasury bond is already near historic lows. Marginal business borrowers aren't worried about the price of money; they're worried about the vagaries of economic policy. QE2 only adds to this uncertainty, as the Fed expands its role into fiscal policy and credit allocation.

Meanwhile, Mr. Bernanke's monetary cowbell will flow into higher commodity prices and other assets, perhaps leading to more bubbles. It has already caused havoc around the world, as investors flee the dollar for other currencies. Dollar-bloc countries are already seeing an increase in their price levels and several are contemplating capital controls.

In The Financial Times, U.S. Rep. Paul Ryan (WI) emphasizes growth – including sound money.

On The Kudlow Report, Brian Wesbury sees the Fed funds rate as too low and likely to lead to inflation:




At Forbes, Steve Forbes suggests provisions to change in Obamacare.

From the Mises Institute, Austrian Robert Murphy challenges "60 Minutes" on taxes.

Australia’s you.com discusses the effect of tax rates on the Rolling Stones (H/T: Greg Mankiw):

The Stones are famously tax-averse. I broach the subject with Keith in Camp X-Ray, as he calls his backstage lair. There is incense in the air and Ronnie Wood drifts in and out--it is, in other words, a perfect venue for such a discussion. "The whole business thing is predicated a lot on the tax laws," says Keith, Marlboro in one hand, vodka and juice in the other. "It's why we rehearse in Canada and not in the U.S. A lot of our astute moves have been basically keeping up with tax laws, where to go, where not to put it. Whether to sit on it or not. We left England because we'd be paying 98 cents on the dollar. We left, and they lost out. No taxes at all. I don't want to screw anybody out of anything, least of all the governments that I work with. We put 30% in holding until we sort it out." No wonder Keith chooses to live not in London, or even New York City, but in Weston, Conn.

Of course, it wasn't just the taxman's pinch that forced the Rolling Stones to focus on the bottom line. They also got screwed by record labels. "In the early days you got paid absolutely nothing," recalls Jagger. "The only people who earned money were the Beatles because they sold so many records."

Monday round up.

Bloomberg reports the Federal Reserve will announce $500 billion in new purchases on Wednesday.

Also at Bloomberg, Caroline Baum worries about Fed easing.

On The Kudlow Report, Rand Paul discusses his concerns about the dollar:




At Forbes, John Tamny advocates eliminating tax breaks in order to lower tax rates.

On The John Batchelor Show, Tamny explains why businesses and consumers are holding cash.

At Bloomberg, Kevin Hassett supports divided government.

Also on Kudlow, Larry debates the impact of Tuesday’s election and Wednesday’s Fed meeting on markets:




At Reuters, Justin Fox suggests the deficit increase stems mainly from reduced tax receipts.

On Econlog, Dave Henderson supplements Megan McArdle’s case for abolishing corporate taxes.

At NRO, Alan Reynolds argues California's Prop. 19 is good economics.

Weekend update.

At The Daily Reckoning, Nathan Lewis explains gold’s rise is due to the dollar’s collapse.

On NRO, Larry Kudlow predicts low growth and rising inflation will hurt Democrats on Election Day.

CNBC reports that the European Central Bank and the Federal Reserve are pursuing different strategies:




In Fortune, Nin-Hai Tseng chides China bashers for scapegoating an important trade partner.

At Super-Economy, Tino rebuts Paul Krugman’s claim that reduced revenue, not surging spending, accounts for the deficit:



At RCM, Harvard’s Jeffrey Miron explains why Keynesian stimulus is ineffective.

The WSJ editorial page analyzes the on-going malaise.

This [poor recovery] contrasts with all other recent recoveries, which climbed out of recession much faster to reach a new peak. Nearby we update our table contrasting the recovery of the early 1980s with the current one. We cite the 1980s because that contraction was comparably deep and the jobless rate reached an even higher peak of 10.8%. Yet after five quarters of recovery in the 1980s, the economy was roaring ahead at a greater than 8% annual pace. This time the rebound reached 5% for one quarter before decelerating to today's non-cruising speed.

The neo-Keynesians who designed the 2009 stimulus reject this comparison, saying that the recent recession was uniquely awful because it was rooted in financial distress. Whatever truth there is in this financial diagnosis, it also conveniently absolves Democrats from responsibility for the damage done by their policies. Never mind the uncertainty and costs imposed by ObamaCare, onerous new federal regulations on banks and other industries, record spending and deficits and the threat of cap and tax, union card check, and the huge tax increase looming on January 1. We are supposed to believe that none of this matters because a lousy recovery was foreordained by the financial crisis.

If the midterm election polls are right, the American public isn't buying this economic determinism. They don't like 2% growth and 9.6% unemployment, and on Tuesday they'll get a chance to declare what they really think about what we would call the new abnormal.