Money Mischief_ Episodes in Monetary History - Milton Friedman [77]
Legally, the Treasury is limited in the volume of bonds it can sell directly to the Fed. But the limit is easily evaded: the Treasury sells bonds to the public; the Fed buys bonds from the public. The effect is the same as that of a direct sale, except for the commission collected by the intermediaries—their payment for providing the smoke screen.
Financing government spending by increasing the quantity of money is often the most politically attractive method, to both the president and the members of Congress. They can increase government spending, and provide "goodies" for their supporters and constituents, without having to propose or vote for new taxes to pay for spending and without having to borrow from the public.
A second source of higher monetary growth in the United States was the attempt to produce full employment. The objective, as for so many government programs, is admirable, but the results have not been. Full employment is a much more complex and ambiguous concept than it appears to be on the surface.
Moreover, there is an asymmetry that imparts a bias to government policy in the direction of adopting unduly ambitious targets of full employment. Any measure that can be represented as adding to employment is politically attractive. Any measure that can be represented as adding to unemployment is politically unattractive.
The relation of employment to inflation is twofold. First, government spending can be represented as adding to employment, government taxes as adding to unemployment by reducing private spending. Hence, the full-employment policy reinforces the tendency for the government to increase spending without increasing taxes, or even while lowering taxes, and to finance any resulting deficit by increasing the quantity of money. Second, the Federal Reserve System can increase the quantity of money in ways other than the financing of government spending. One way it can do so is by buying outstanding government bonds and paying for them with newly created high-powered money. That enables the banks to make a larger volume of private loans, which can also be represented as adding to employment. The pressure to promote full employment has given the Fed's monetary policy the same inflationary bias as it has given the government's fiscal policy.
These policies have not succeeded in producing full employment, but they have produced inflation. As Prime Minister James Callaghan put it in a courageous talk to a British Labour party conference in September 1976: "We used to think that you could just spend your way out of a recession and increase employment by cutting taxes and boosting government spending. I tell you, in all candour, that that option no longer exists; and that insofar as it ever did exist, it only worked by injecting bigger doses of inflation into the economy followed by higher levels of unemployment as the next step. That is the history of the past twenty years."
The third source of higher monetary growth in the United States was a mistaken policy of the Federal Reserve System. The Fed has the power to control the quantity of money, and it gives lip service to that objective. But it acts a little like Demetrius, in Shakespeare's A Midsummer Night's Dream, when he shuns Helena, who is in love with him, to pursue Hermia, who loves another. The Fed has given its heart not to controlling the quantity of money, which it can do, but to controlling interest rates, something it does not have the power to do. The result has been failure on both fronts: wide swings in both money and interest