The great Ron Paul is associated with Elon Musk’s Department of Government Efficiency and is well known for wishing to abolish one of the least effective government entities: the Federal Reserve. As the Department of Education and other hallowed government entities become one with Nineveh and Tyre, Paul’s question should be asked, whose answer bears on the whole question of U.S. and global monetary policy: Should we End the Fed? After the last two decades, I believe the Fed’s overall track record is now bad enough that the answer to Paul’s question is “Yes”. This column will suggest why and how.
There is no question that the Fed for almost all its existence has done a job at best mediocre and descending for lengthy periods into bad, with the exception of William McChesney Martin’s early “take away the punchbowl” years, say 1951-60 and the 1979-87 period under Paul Volcker. Since 1995, Fed policy has become increasingly divorced from market reality, with Alan Greenspan ignoring the 1996-2000 bubble, then keeping interest rates low to create a housing bubble, then Ben Bernanke setting an inflation target of 2% instead of zero, followed by the imposition of a decade of interest rates that were zero in nominal terms but substantially negative in real terms, given Bernanke’s 2% inflation target.
The result has been a grossly excessive inflation in asset prices, with the stock market being more than three times its “correct” level of about 1,500 on the Standard and Poor’s 500 Index (which can be derived by inflating the index’s February 1995 level by the rise in nominal GDP since then). Moreover, big city real estate is so expensive that only the very rich can afford to live there. It is not surprising that voters revolted against economic policies to the extent of re-electing the mercurial Donald Trump; their only error was to give all the blame to the hapless and foolish Joe Biden, leaving none over for the Fed. While we may not follow Milton Friedman entirely in believing that inflation is “always and everywhere a monetary phenomenon” there is no question that Fed policies in holding interest rates artificially low for a decade played the major role in the 2021-23 burst of inflation. The only question for us as impartial observers is why inflation did not break out sooner and last for longer.
Currently, Jay Powell has begun lowering interest rates before inflation has been conquered and has begun a war of words with incoming President Trump. Both are misguided; if he continues current policy of lowering interest rates, Powell will be wrong but Trump will almost certainly support him, since as a real estate tycoon, he likes low interest rates and modest inflation, which bails out dodgy skyscraper projects.
If on the other hand Powell, having lowered interest rates twice to give a sunset glow to Biden’s last months then suddenly rediscovers the old-time Volckerite religion just as Trump takes office, he will rightly be accused by Trump and his acolytes of playing politics. Since we discovered recently that more than 90% of political donations by Fed employees go to Democrats, that accusation might be well founded; it is just another inevitable and insoluble problem of a funny-money regime managed by what are effectively politicians.
In any case, Powell’s term ends in May 2026, having been extended for four months by President Biden in 2022. Trump, if he wished, could signal a policy change well before that by designating as his successor some economist with sound monetary views, such as Judy Shelton, whom the Senate with a solid Republican majority would surely confirm even for the top job, as they disgracefully did not for Fed Governor in 2020. If that were done in May 2025, the markets would thereafter listen to Shelton, not Powell, allowing policy to change even before Powell left office.
Since markets are very overvalued, and inflation appears to be ticking back up and is in any case still well above 2% — “core” inflation (excluding food and fuel) is above 3% at both the consumer and producer price index levels – the optimal monetary policy currently remains restrictive. If Trump’s economic managers are smart, they will favor raising the Federal Funds rate to around 6.5% immediately and keeping it there for a year or so. That would make the real interest rate around 3.5%, which would be higher than it has been in this cycle and probably enough to burst the current asset and market bubble.
If this moderately restrictive, steady monetary policy were combined with the best efforts of the “Department of Government Efficiency,” a bonfire of idiotic regulations and a net deportation of illegal immigrants (reducing pressure on housing and labor markets), then Trump’s tariffs combined with these economies will bring the Federal budget back into balance, while the labor market remains fairly strong, except possibly in Bethesda, Md. and McLean, Va. – but into each life a little rain must fall, even lives of Federal bureaucrats!
Most important, apart from a temporary tariffs blip (which would be offset by deregulatory deflation) inflation would within 12-18 months descend towards zero, where it belongs. When inflation reaches zero, and not before, the Federal Funds rate could be reduced to around 4% — slightly high, as in the 1980s, to reimburse savers for all the losses they have sustained through inflation. Overall, the Republicans might then do badly in the 2026 midterms, but as in 1981-84, the economy should again be recovering nicely, albeit with stock markets at half the present level, in time for the 2028 Presidential election.
Paul would doubtless argue that this is not enough, and he would be right. The Fed would almost certainly revert to inflationary Bernankeism once Trump and Shelton had left office. To reform U.S. monetary policy permanently, the Fed should indeed be abolished. The idea of allowing Washington bureaucrats to set interest rates is a Soviet-style fantasy, bringing endless distortions of monetary and capital markets and thereby of the economy in general. Interest rates should be set by the market, and paper money should be anchored to reality by a fixed peg, with gold being the most obvious choice because of its excellent past track record. With gold trading above $2,500, this would not be especially deflationary – at that price the world gold stock is now approximately as large in terms of the global economy as it was in 1914.
A nominal anchor to gold would not work. The fallacy of such an arrangement was shown by the Bretton Woods nominal gold peg of 1944-71, where only U.S. and foreign bureaucrats were allowed to trade gold, which collapsed into inflation in 1971-73. For a true Gold Standard, ordinary citizens must be allowed to buy and hold freshly minted gold coins at a fixed dollar price and sell them back to the banking system at their bullion value. If that is permitted, then the Fed becomes merely a superfluous addition to the New York and international banking systems. To stop its meddling, Ron Paul is right; it must be abolished.
The most likely course of events if this problem is not addressed by the incoming Trump administration is that Powell, nagged by Trump, will continue reducing interest rates while inflation trends gradually upwards, probably boosted by Trump’s tariffs. By May 2026, it will be too late. Inflation will already have taken a firmer grip; even though deregulation and lower budget deficits will help it, the immediate effect of tariffs will be in the opposite direction, Should a new Fed Chairman start a restrictive policy in late 2026, it may already be too late. The inevitable recession and lingering inflation would make the economic picture of 2028 a gloomy one – in which case the electoral result would be a return to woke Marxist fantasy, with the reforms of Trump’s second term wasted, as were those of his first.
That would be a great pity. Monetary policy is therefore truly the nettle for the Trump administration to grasp first. Let us hope that they go the whole way and restore the Gold Standard rather than simply meddling at the edges, as so many past reformists have done. Ending the Fed is not only intelligent, it is also politically savvy!
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(The Bear’s Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that the proportion of “sell” recommendations put out by Wall Street houses remains far below that of “buy” recommendations. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)