What Currency Would Americans Choose?

In which our columnist questions his readers.

Published in The New York Sun.

In the spirit of the Declaration of Independence, let us ask whether the rights to “life, liberty and the pursuit of happiness” should include the right to use the money of your and your counterparties’ own choice. Or should you be forced to use the paper dollars which the Federal Reserve prints?

Under present circumstances one is forced to use what we call Federal Reserve Notes, because the government grants a complete monopoly in money to the Fed. We are so accustomed to this situation that we are likely to take it for granted. Yet it is not necessary that the Fed have the power to print as much money as it wants to print.

Or to lend as much as it wants to the government to spend. Or to create perpetual inflation, impose a constant inflation tax on the people without any approval by the Congress, and constantly depreciate the money, savings, and wages to finance the government’s deficits.

The philosopher-economist, Friedrich Hayek, put the question in his “Choice in Currency: A Way to Stop Inflation.” That was issued in 1976, two years after Hayek won the Nobel Prize in Economics. “Why,” Hayek asked, “should we not let people choose freely what money they want to use?” He understood that the Treasury and the Fed would hate this question, but a free people ought to take it up.

Hayek suggested that the key problem is not that the Federal Reserve gets to issue money, but that it gets a monopoly in doing so. He proposed that this monopoly be taken away, so that the Fed could still issue money, but the money it creates would have to compete with other money for the public’s confidence.

In Hayek’s proposed world, central banks would be disciplined by this competition in currency. “There could be no more effective check against the abuse of money by the government than if people were free to refuse any money they distrusted and to prefer money in which they had confidence.” Have governments abused their money power? Without doubt.

Hayek warned that nearly all governments “used their exclusive power to issue money in order to defraud and plunder the people.” His thoughts are congenial to those who want cryptocurrencies to compete with Federal Reserve notes. In 2025, Congress enacted with bipartisan majorities the “Genius Act,” favorable to the cryptocurrency called stablecoins.

It would be newsworthy if stablecoins were an example of Hayekian choice in currency, but unfortunately, they are not. Because stablecoins are tied one-for-one by definition and now by law to Federal Reserve dollars, when the Fed is depreciating your paper dollars, it is equally depreciating your stablecoins.

However, there have been historical examples of true parallel currencies in America. The most pertinent case was during the Civil War, when as described by Joseph Salerno of the Mises Institute, pure paper Treasury greenbacks “swiftly became the domestic currency… but gold continued as a parallel currency in the East, because of its use in foreign trade.”

This precedent is consistent with Hayek’s proposal to create competition for central bank paper currencies, because Hayek was really thinking about gold. That the best monetary competition would come from gold is something about Hayek’s essay often not understood.

When the essay was published in 1976, it had been only two years since the United States government had at long last rescinded its oppressive 1933 law making it a criminal offense to own any gold to protect yourself against government monetary depreciation. This is a good example of the warning of Psalm 146: “Do not put your trust in princes” — or, Hayek would add, central banks.

Wrote Hayek, “Where I’m not sure is whether in such a competition for reliability any government-issued currency would prevail, or whether the preference would not be in favor of some such units as ounces of gold. It seems not unlikely that gold would ultimately re-assert its place… if people were given complete freedom to decide what to use as their standard.”

So I turn to my readers. Had they the freedom to choose the money they really wanted, what would it be? Would it be gold, or the Fed’s inflationist paper currency, or a cryptocurrency, or something else? Do they, like Hayek, think gold would win in a free competition?

July 28 Federalist Society event: The CLARITY Act and Fed Master Accounts: Defining Crypto's Place in the U.S. Financial System

Register here.

Join us for a timely discussion on two developments shaping the future of digital assets in the United States. We will examine the CLARITY Act and its effort to establish clear rules for whether digital assets fall under SEC or CFTC oversight, as well as the ongoing dispute over Federal Reserve master accounts for crypto-focused banking institutions.

Together, these issues highlight a central question: will digital asset firms gain both regulatory clarity and meaningful access to the nation’s financial infrastructure? The webinar will explore how the interaction between market-structure legislation and banking access could influence stablecoins, institutional adoption, and the broader integration of crypto into traditional finance.

Opening Remarks

Hon. Cynthia Lummis, U.S. Senate, Wyoming

Featuring:

• Paige Paridon, Executive Vice President and Co-Head of Regulatory Affairs, Bank Policy Institute

• Alex Pollock, Senior Fellow, Mises Institute

• Corey Then, Deputy General Counsel of Regulatory Strategy and Global Policy, Circle

• Prof. David Zaring, Elizabeth F. Putzel Professor and Professor of Legal Studies & Business Ethics, The Wharton School, The University of Pennsylvania

• [Moderator] J.C. Boggs, Partner, King & Spalding

Register here.

The Map and the Bubble: A Review of Alan Greenspan’s ‘The Map and the Territory’

Originally published December, 2013.

The so-called “Great Moderation,” for which our fiat-currency central bankers gave themselves so much credit, turned out to be the Era of Great Bubbles.  The U.S., in successive decades, had the Tech Stock Bubble and then the disastrous Housing Bubble. Other countries had real estate and government debt bubbles.

Presiding over the Era of Great Bubbles as Chairman of the world’s principal central bank from 1987 to 2006, was Alan Greenspan, a man of undoubted high intelligence and great talent with scores of subordinate Ph.D. economists to build models for him.  He was then world famous as “The Maestro,” for supposedly being able to always orchestrate the macro economy to happy outcomes. The idea that anybody, no matter how talented, could really be such a Maestro is ridiculous, just as the idea that national house prices could never fall was ridiculous—but both were widely believed and expressed nonetheless. 

The central bankers, working diligently for their concept of economic Moderation, presided over the Era of Great Bubbles. Is this coincidence? Or does the one cause the other?

Greenspan, in his highly interesting new book, The Map and the Territory (2013), muses: 

The near quarter century from 1983 to 2007 was a period of very shallow recessions and seemingly extraordinary stability [aka “The Great Moderation”].  But protracted economic stability is precisely the tinder that ignites bubbles;1 

and further: “Central banks have increasingly been confronted by the prospect that their success in achieving stable prices has laid the groundwork for asset price bubbles.”2

Let us begin by pointing out that the first part of the period Greenspan cites was not notable for financial stability.  In the 1980s, the savings and loan industry infamously collapsed, taking its government deposit insurer (the Federal Savings and Loan Insurance Corporation) with it into irreparable insolvency.  For the ten years from 1983 to 1992, 660 savings and loans failed. So did 256 savings banks, and so did 1,321 commercial banks.  In all, this decade brought the failure of an appalling 2,237 U.S. financial institutions, an average of 223 per year for ten years.  Oil and farmland bubbles collapsed in the 1980s, the government-sponsored Farm Credit Banks needed a bailout, numerous foreign governments defaulted on their debt to U.S. banks, and the early 1990s featured a massive commercial real estate bust.

All of the 1980s disasters represent the aftermath of the Great Inflation of the 1970s, when annual inflation rates got to double digit increases.  This inflation was created by the Federal Reserve itself and its money printing exertions in the crises of those days.  Greenspan provides a notable contemporary quote:  “America is in the worst economic emergency since the Great Depression”—the date? 1975.3

In the next decade, with some success and by imposing a lot of pain, the Fed undertook “fighting inflation”—the inflation it had itself caused. Presumably the Fed learned from this experience.  So in the 2000s it performed a variation: the Fed first stoked the asset price inflation of the Great Housing Bubble and then worked to bail out the Bubble’s inevitable collapse.

To evaluate the Fed accurately, we have to confront how the Fed relates to bubbles not only through “economic stability,” as Greenspan suggests (although that does indeed play an important psychological role in bubbles), but through its money printing and financial market manipulations.  These can and do bring about asset price inflations. 

Sometimes this is intentional on the part of the Fed, when it is trying to bring about “wealth effects,” as it did with the housing boom in 2001-2004 and is now doing again with of so-called “quantitative easing,” including its $1.5 trillion mortgage market manipulation. Exaggerated asset inflations always end badly, needless to say, but those highly leveraged with debt are the worst. This is why, as Greenspan correctly says, the Housing Bubble was so much more destructive than the Tech Stock Bubble.

Fiat-currency central banks like the modern Fed are, among other things, in the business of money illusion—that is, trying to influence real resource costs and prices by depreciating the currency they issue at more rapid or less rapid rates.  The business of money illusion often turns into the business of wealth illusion: bubbles create illusory “wealth” that will evaporate.

In footnote 3 to his Introduction, Greenspan importantly observes, “I believe asset price causation is underrepresented in most models”4—he means macroeconomic forecasting models. He recognizes two problems here: the shortcoming of macroeconomic forecasting models, and the difficulty of knowing when asset price inflations become bubbles.

For example, “The model constructed by the Federal Reserve staff [recall those scores of economists], combining the elements of Keynesianism, monetarism, and other more recent contributions to economic theory, seemed particularly impressive.” But: “The Federal Reserve Board’s highly sophisticated forecasting system did not foresee a recession until the crisis hit.  Nor did the model developed by the prestigious International Monetary Fund.”5

With admirable candor, Greenspan relates that at the onset of the financial crisis in August, 2007, “I was stunned.”6

In short, “leading up to the almost universally unanticipated crisis of September 2008, macromodeling unequivocally failed when it was needed most, much to the chagrin of the economics profession.”7

Why did the models which seemed so impressive perform like Casey at the Bat?

For one thing, “models, by their nature are vast simplifications.”8 True even for extremely complex models.  Moreover, they do not deal so well with discontinuities, like the shriveling of prices in the collapse of bubbles and panics.  And: “a related obstacle for forecasting and policy setting,” Greenspan reflects, “is that we seek to identify in advance which assets or markets could turn toxic and precipitate a crisis.  It was not apparent in the early 2000s, as many commentators retroactively assume, that subprime securities were headed toward being the toxic asset they turned out to be.”9

This is fair. The senior-subordinated structures and techniques used to design these securities were viewed as a major financial innovation and a creative advance, which in fact they were.  But innovations, which are the creators of long-term growth, also create uncertainty and surprises, good and bad. 

Greenspan quotes the famous dictum of Joseph Schumpeter that economic growth depends on “creative destruction.”10  This is his only citation of Schumpeter, but he might have quoted that illustrious economic thinker at greater length to illuminate the problems of why models, sophisticated or simple, may fail at the most important times.  For example, Schumpeter wrote (in 1946):

 “The essential points about creative response are these…From the standpoint of the observer who is in full possession of all relevant facts”—say by hypothesis a Federal Reserve Chairman—“it can always be understood ex post; but can practically never be understood ex ante, that is to say, it cannot be predicted…. No deterministic credo avails against this.”11

Schumpeter considered “innovation, being discontinuous.”  He sharply contrasted “the concept of equilibrium, the continuous curves and small marginal variations…the circuit flow of economic routine”—easier to model-- with a real “theory of capitalist change,” which requires “the type and function of the entrepreneur, which will…destroy any equilibrium that may have established itself,” producing “cyclical waves which are essentially the form progress takes.”12 This applies to financial, as well as industrial and commercial, entrepreneurs.

Dipping into some classic financial wisdom, Greenspan considers “the ephemeral nature of market liquidity,”13 and the human “propensities related to fear [and] euphoria.” When mass euphoria turns to panicked fear, market liquidity vanishes.  He considers the propensity for “herding.”  Here we should especially add the dangerous propensity for cognitive herding, which affects the thinking and expectations of all kinds of actors in a financial bubble, central bankers and regulators, as well as investors, bankers and borrowers.  Then there is “optimism” which “encourages entrepreneurial initiatives” and “probably assures greater successes, but certainly more failures as well.”14  And not to be forgotten is the famous Greenspan phrase, “irrational exuberance.”

The collective optimism which helps induce bubbles tends to flourish during periods of prosperity, success and stability, as in the Greenspan quote above: “the tinder that ignites bubbles.”  This thought echoes Hyman Minsky, the theorist of the endogenous build-up of “financial fragility,” whose work has been summarized as “Stability creates instability.”  In slightly longer form, the logic is: stability creates optimism, optimism creates speculative debt, and speculative debt ultimately creates instability. However, Minsky’s insightful work on financial psychology and cycles is not mentioned in this book.

Neither is Frank Knight’s famous distinction between risk and uncertainty, although it seems highly relevant to the conundrums of economic forecasting and central banking. It will be recalled that in his famous 1921 book, Risk, Uncertainty and Profit, Knight proposed that the unknowable future is characterized not only by risk, but more importantly, by uncertainty.  With risk in Knight’s sense, you cannot know the outcome, but you do know the odds—like rolling fair dice or flipping a fair coin. But with uncertainty, you cannot even know what the odds are, so your ignorance of the future is more radical.  Knight thought that the essential function of the entrepreneur, and the source of all economic profit, was bearing uncertainty. In other words, uncertainty is at the heart of economic growth.   In contrast, many financial models which failed in the mortgage bubble thought their essential function was to deal only with risk, that they knew the odds—needless to say, they didn’t. 

Greenspan reasonably observes that “Having been mugged too often by reality, we forecasters appropriately express less confidence.”  Considering “the vagaries of human nature, forecasting will always be somewhat of a coin toss”—to quibble about the metaphor, it would be better to have something expressing uncertainty, rather than risk, here.  But we get the point.  “Euphoria will always periodically produce extended bull markets that feed off herd behavior [and herd thinking], followed by rapid fear-induced deflation of the consequent bubbles.”15

In his concluding chapter, Greenspan poses a profound question.  The enterprising market economy is “the most effective form of economic organization ever devised,” with the “remarkable gains in material well-being and life expectancy” which are obvious to all.  Then the “but”: “But at its core is creative destruction.” (16) Can the amazing record of economic progress happen without accompanying booms and busts?  Or are booms and busts  inevitably entwined in the energies which create the progress?

Greenspan’s thoughtful answer:  “I see no way of removing periodic irrational exuberances without at the same time significantly diminishing the average rate of economic growth and standards of living.” For “rising standards of living require innovators who have unlimited expectation of success and perseverance no matter how many times they fail….  Exuberance (the propensity for optimism) is required—even if at times it runs to excess.”16

All of us should ponder this, as well as pondering a further essential question which Greenspan, in spite of the many provocative ideas this book discusses, does not address.  Do the constant efforts of central banks to promote moderation and stability, by money printing and interest rate manipulation, all the while facing ineluctable uncertainty, and using models which fail when most needed, result in making the booms and busts better or worse?

Originally published December, 2013. Republished with permission of the author.

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1. p. 53

2. Ibid.

3. p. 133

4. p. 345

5. p. 7

6. p.37.

7. p. 7.

8. p. 5.

9. p. 51.

10. p. 93.

11. Joseph Schumpeter, The Economics and Sociology of Capitalism (1991), pp. 411-412

12. Schumpeter, Essays on Entrepreneurs, Innovations, Business Cycles, and the Evolution of Capitalism (1951), pp. 67, 69.

13. p. 92.

14. pp. 6, 32.

15. pp. 292-293.

16. pp. 299-300.

Update on Fannie Mae and Freddie Mac

Published with Edward J. Pinto in Housing Finance International Journal.

Since the fall of the American savings and loan industry four decades ago in the 1980s, U.S. housing finance credit has been dominated by the tightly government-connected firms of Fannie Mae and Freddie Mac. Until 2008, Fannie and Freddie were privately owned, privately managed companies, but they were always completely dependent on the guarantee they enjoy from the U.S. Treasury. They still are dependent on it and will continue to be. This guarantee now totals $7.6 trillion (that’s “trillion” with a “T”). It is not explicitly written down, but it is certainly a liability of the government; it is said by all to be an “implicit guarantee.” No informed person doubts that it is a real obligation of the government. We feel sure that that includes the officers of the U.S. Treasury.

This guarantee is egregiously provided to Fannie and Freddie for free. Neither has ever paid even one cent for it. It is part of the government’s attempt to promote housing, not to mention helping out the important political constituencies of the housing and housing finance industries that benefit from it. Fannie and Freddie could not exist for even a day without this huge and extremely valuable government guarantee, which, because it is free, acts as a giant subsidy.

Fannie and Freddie used frequently to claim that this institutional design, with them at the center of a taxpayer-guaranteed housing finance system, was “the envy of the world.” It wasn’t, but it did make and still makes the U.S. unique in global housing finance.

With the collapse of the great housing bubble which greeted the opening of the 21st century, Fannie and Freddie went broke and were recapitalized by the U.S. Treasury in a $190 billion bailout, making good the government’s guarantee and making whole every creditor. The government also took over complete control of the management of Fannie and Freddie. They are thus no longer privately owned and managed companies and can no longer properly be called, as they used to be, “government-sponsored enterprises.” Instead, they have become overwhelmingly government-owned and entirely government-controlled companies—simply part of the U.S. government.

The Treasury’s equity stake in Fannie and Freddie is now $367 billion. This is the liquidation preference of their combined senior preferred stock. Subtracting this government stake from the total equity of $179 billion leaves Fannie and Freddie with a private equity of negative $188 billion. On top of owning the bulk of the equity through its senior preferred stock, the Treasury has the right to acquire 79.9% of Fannie and Freddie’s common stock almost for free—the exercise price of the option it holds is one-thousandth of a cent per share. Hard to get closer to zero than that.

The Director of the Federal Housing Finance Agency, in his legal role as Conservator, has had total governance power over Fannie and Freddie since 2008. Under the law, the Conservator wields the power of the boards of directors and the executives, as well as being the regulator. He has moreover made himself Chairman of both of the boards. As Director of the FHFA, he is responsible to and removable by the President of the United States. A pointed recent example of Fannie and Freddie’s current governance was the instruction from the President for them to buy for their portfolio $200 billion of mortgage-backed securities. The FHFA Director announced that Fannie and Freddie would execute the order and they obeyed.

Fannie and Freddie’s primary ownership by the government and total governance by the government has so far lasted nearly 18 years. It has outlasted numerous attempts at legislative reform and many proposals for what has been called “privatization” but never really was, because all these proposals include maintaining the free government guarantee. In our opinion there is no credible escape from the current situation and it is likely to continue indefinitely.

As part of the government, Fannie and Freddie have become even bigger than they were before. With combined assets of $7.8 trillion and $7.6 trillion in liabilities, they are an essential part of the finances of the U.S. government. That the Treasury guarantees those trillions in liabilities means that they are in reality part of the government’s debt. Accurately reporting this $7.6 trillion as government debt, which it really is, would increase the reported U.S. government debt held by the public by about 25%—from $30.8 trillion to $38.4 trillion as of December 31, 2025. The even larger category of total U.S. government debt would increase to the pretty astonishing amount of $46.1 trillion.

Naturally there is a strong desire of politicians and Treasury managers to keep Fannie and Freddie’s debt off the government’s books. Nonetheless, that is where it belongs. We are not betting on its being properly reported there any time soon, however.

Fannie and Freddie operate at extremely high, non-market, government-guaranteed leverage. Their leverage and most of their profit is made possible by their free guarantee from the Treasury.

An essential question to understand Fannie and Freddie’s true nature is: What would happen to Fannie and Freddie if they had to pay a fair price for their guarantee? Of course, that includes the question: What would a fair price be?

There are two components to the guarantee fee Fannie and Freddie should pay the Treasury. First is the Risk Fee for the risk that Fannie and Freddie impose on the Treasury of future losses and future bailouts. The second is the Cost Offset Fee to make up for the increase in the cost of the Treasury’s own debt that Fannie and Freddie cause.

We estimate the Risk Fee by the close analogy to what the largest, “Too Big to Fail” banks pay the Federal Deposit Insurance Corporation for the implicit guarantee of all of their liabilities which they too receive from the government. We believe the Risk Fee should be about 12 basis points (0.12%) of Fannie and Freddie’s total liabilities per year. For the combined $7.6 trillion in liabilities, this fee would be $9.1 billion per year. To pay that would take about 36% of Fannie and Freddie’s combined 2025 pretax profit.

Further study may determine that the fair Risk Fee is higher or lower. In any case, it is absolutely certain that the right fee is not zero, which it has always been up to now.

The Cost Offset Fee reflects the fact that the constant presence of trillions of dollars of Fannie and Freddie mortgage-backed securities and debt compete with the Treasury’s own debt for the purchases of conservative global investors. Using and updating the Federal Reserve’s analysis of the relationship of the effects of Fannie and Freddie’s MBS on the cost of U.S. Treasury debt, the AEI Housing Center estimated the fair level of the Cost Offset Fee to be from 38 to 57 basis points (0.38% to 0.57%) per year on Fannie and Freddie’s liabilities, or a mid-point of 48 basis points (0.48%). This would just reimburse the Treasury for the added interest cost that Fannie and Freddie impose on it.

Adding together the two components of the appropriate guarantee fee gives an estimated total fee of 60 basis points (0.60%). To give Fannie and Freddie the benefit of the doubt, we cut this in half, to 30 basis points (0.30%).

What is the resulting effect of Fannie and Freddie? To pay the 30 basis point guarantee fee would require $22.8 billion, which is about 90% of their combined 2025 pretax profits. Others may of course have differing estimates of the right fee for Fannie and Freddie to pay the Treasury for the guarantee which makes their existence possible, but any legitimate fee would constitute a very significant portion of their pretax profits.

This result speaks to an essential truth: the essence of Fannie and Freddie is to convert a free government guarantee into their profit. If it is ever contemplated to move them out of the government and again into private ownership and management, this absolutely has to be fixed, which means adopting a fair guarantee fee they have to pay the U.S. Treasury. But such a fee makes it impossible for the potential private investors to want to invest.

The alternative, which we expect to continue, is for Fannie and Freddie to go along indefinitely under government ownership and government control, the 20th century idea of “government-sponsored enterprises” having failed.

July 3: Sympathy for Thomas Jefferson Day

Everybody knows about July 4, but what was happening on July 3, 1776?  On that day, the draft of the Declaration of Independence submitted by Thomas Jefferson was edited by the Continental Congress, meeting as a committee.  Jefferson had to sit there, “the writhing author,” says my well-worn history of the Declaration [1], while his words were criticized, deleted and altered.  Jefferson “was far less happy when his handiwork was subjected to what he called the ‘depredations’ of Congress.” He “kept silent for propriety’s sake,” but “in his opinion, they did a good deal of damage [as] the delegates took a hand in the drafting.”  

All those who have worked assiduously on their writing, then had it edited by a committee, will have lively sympathy for Jefferson every July 3!

The Congress “effected economy in words,”  “deleted unnecessary phrases,”  “eliminated the most extravagantly worded of all the charges [against King George],” “deleted a passage in which Scottish mercenaries were coupled with foreign [ones],” changed Jefferson’s final paragraph so as to include in it the precise language of the resolution of independence just adopted [on July 2]”, and “left out several moving phrases of his toward the end.”

I have reviewed the edits made by the Congress, and find that they definitely improved the final, world historical document.  Nonetheless, to sit there while your work suffers “depredations” by a committee of your colleagues, even if they are in fact improvements, is surely difficult.  Our sympathy for the author should be undiminished.

 July 3, 2023

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[1]  Dumas Malone, The Story of the Declaration of Independence, Oxford University Press, 1954.

The Crisis at the Fed That No One Talks About

It’s staring the new chairman of the central bank squarely in the face.

Published in The New York Sun.

Of all the issues facing the Federal Reserve’s new chairman, Kevin Warsh, one that gets little public attention is the financial condition of the Fed itself. In addition to its much-publicized roles of setting short-term interest rates, which may be headed back up, and creating inflation, which is already too high, the Fed is a giant financial enterprise. It has total assets of $6.9 trillion as of March 31 combined with negative real capital.

The Fed has lost hundreds of billions of dollars due to its huge interest rate risk position. This costly risk was established under the then-chairman, Ben Bernanke, who assured Congress it would be temporary. It wasn’t. It was continued under the regimes of Janet Yellen and Jerome Powell and remains embedded in the Fed’s balance sheet today, almost 18 years after Mr. Bernanke’s original gamble.

It’s waiting for Chairman Warsh. The interest rate risk position is fundamentally simple. It consists of making long-term, fixed rate investments financed by floating rate funding: invest long, borrow short. It closely resembles the risk of a typical 1980s savings and loan. Because it took this risk, the Fed reported large net losses for the three calendar years 2023, 2024, and 2025, with the losses totaling the egregious sum of $211 billion.

This is more than four times the Fed’s total book capital of $46 billion, which means that its capital is gone, even though the Fed refuses to show any reduction in the capital on its financial statements. The Fed argues that it can on its own decide on a special accounting treatment for itself, different from everybody else, which it would never allow its regulated banks to follow.

In addition to the annual operating losses, the Fed has suffered as of March 31 mark-to-market losses of $857 billion. The Treasury securities the Fed owns are worth on the market $546 billion less than it paid for them. Its mortgage-backed securities are worth $311 billion less than it paid. The operating losses and mark-to-market losses together add up to more than $1 trillion and are 23 times the Fed’s reported book capital.

The Fed has often claimed that no one should worry about its enormous losses, because it wasn’t set up to be a “profit maximizer.” However, the Fed most certainly was set up to make profits for the government. It forks over almost all its profits, which it always has had historically, to the Treasury. When it makes losses instead, payments don’t go to the Treasury, so the federal deficit and the national debt grow correspondingly bigger. The Fed’s losses are the Treasury’s and taxpayers’ losses.

The owners of the Fed’s stock should also care about its losses. All $39.7 billion of the Fed’s paid-in capital is owned by private banks. Under a little-known provision of the Federal Reserve Act, they are liable to be assessed up to twice their investment in the stock to offset losses. This is disclosed in the Fed’s financial statements, although pretty well buried down in the footnotes.

The Fed could reduce its interest rate risk by selling some of its long-term Treasury securities and mortgage-backed securities. If it did, though, the mark-to-market losses would become permanent cash losses. The Fed could no longer claim they were only “paper losses.” On top of that, serious Fed selling would push long-term Treasury and mortgage interest rates higher: Not a political winner.

In the first quarter of 2026, the Fed reported a modest profit of $1.4 billion. Does this mean its profitability and interest rate risk problems are over? It doesn’t. My estimate is that the Fed has — on a net basis — about $2.5 trillion in long-term assets funded short. The bond market is now expecting short-term interest rates to rise again this year. If they do, it would cost the Fed $25 billion or so per year for a 1 percent rise in rates.

Moreover, the profit the Fed reported for the first quarter was only possible because the Fed is being heavily subsidized by the Treasury. To do this, the Treasury holds huge interest-free deposits at the Fed — $893 billion of them on March 31. At current interest rates, these give the Fed an additional profit of $33 billion per year, while increasing the Treasury’s deficit for the year and increasing the national debt by the same $33 billion.

Why doesn’t the Fed pay the Treasury, and thus the taxpayers, the same interest rate on deposits that it pays the private banks? Obviously, it should, and Congress needs to fix this. When we subtract the Treasury’s generous subsidy, the central bank is still running a significant loss, which will grow larger if short-term interest rates rise again.

A New Head for the Fed

Here's what new Fed Chairman Kevin Warsh might be thinking about right now.

Published in Law & Liberty.

Being chairman of the Federal Reserve Board, which includes being its chief executive, is one of the very top jobs not only in the country, but in the world. In the US, the Fed is the central bank, money printer, inflation-creator, and emergency lender to the world’s most important economy and financial markets; it is also all of those to the global dollar-denominated system of payments, borrowing and investing. Its new chairman, Kevin Warsh, is highly intelligent and knowledgeable in finance, economics, and politics. He is also very thoughtful. Here are five of the issues he is or might be thinking about.

1. Shrinking the Fed: Chairman Warsh has been clear about his interest in shrinking the bloated balance sheet of the Fed, and in reducing its heavy interventions or so-called “footprint” in financial markets. In the first quarter of this year, the Fed grew by $35 billion, bringing its total assets to $6.9 trillion as of March 31, 2026. That is 7.5 times as big as the Fed was at the end of 2007, when it produced its last historically normal balance sheet. Ever since then it has been in the Ben Bernanke-induced, abnormally inflated balance sheet mode, which Warsh has often rightly criticized. Although Bernanke, when he was Fed Chairman, promised Congress that this would be temporary, it has not been, but has lasted more than 17 years, so far. Can the Fed shrink back to normal?

At the end of 2007, the Fed’s total assets were $894 billion. That was 6.2 percent of nominal GDP and 8.3 percent of commercial banking assets. To get to these same percentages today, the Fed would have to shrink by more than $4 trillion, including selling a couple trillion of long-term Treasury securities. In 2007, the Fed’s investment in mortgage-backed securities was zero, which is what it should be. How the Fed convinced itself to become and remain the biggest investor with the biggest footprint in mortgages is a puzzle indeed. To get back to zero, it would have to unload its $2 trillion in MBS, the purchase of which so distorted the mortgage market and house prices.

Chairman Warsh has of course considered how any material sales of investments to shrink the Fed would make the prices in the Treasury bond and MBS markets go down and their interest rates go up. Should the Fed push bond and mortgage interest rates up, increase the Treasury’s interest cost, and make houses even less affordable? That seems to have no chance of being a political winner.

On top of that, the Fed has a mark to market loss of $546 billion on its Treasury investments and a loss of $311 billion on its MBS. To sell them would be to move such losses from unrealized, “paper” losses, to realized, cash losses, which would have to be reported on its profit and loss statement. The Fed’s total mark to market loss of $857 billion is about 18 times its total book capital of $48 billion. The Fed insists that nobody cares about its losses, but such numbers would be truly enormous, embarrassing, and obviously poor PR.

Shrinking the Fed looks desirable, but is apparently a longer-term, not a short-term, project. Since the Fed’s most important function is to finance the government of which it is a part, I have suggested that a reasonable longer-term target size for the Fed might be 10 percent of the national debt. Today, that would mean a Fed about $3 trillion smaller than it is.

2. The Unknowable Right Interest Rate: Eight times a year we are treated to the melodrama of the Fed’s Open Market Committee meeting to set, and since the Bernanke time, to forecast with their “dot plots” interest rate paths. Upon reflection, it should be clear to everybody that no committee, including this one, can actually know what the right interest rate is, and certainly it cannot know what future interest rates will be. The committee’s forecasting record makes that apparent. As then-Fed Chairman Jerome Powell so rightly observed, “We are navigating by the stars under cloudy skies.” I think this saying should be forever enshrined in Fed lore right next to William McChesney Martin’s famous “punchbowl” line.

Chairman Warsh seems inclined to get rid of the “dot plot” forecasting and any inclination for the committee members to feel committed by their past recorded guesses. This is a good idea. In addition, will he privately brood about the larger question of whether it really makes sense to have a national price fixing committee for interest rates?

3. Perpetual Inflation at 2 percent?: Among the Fed’s heirlooms from the Bernanke years is the notion that the Fed can on its own, without Congressional approval, commit the United States to perpetual inflation at the rate of 2 percent per year—in other words, to quintupling prices in an average lifetime. The inflation targeting regime has given us the historically anomalous experience of central bankers claiming they have to get inflation up. This regime has presided over not only the runaway inflation of 2021–22, but also current inflation at nearly twice the target rate.

It is now 14 years since the Fed unilaterally announced its target of 2 percent inflation forever. It seems like time for a critical reconsideration of it. International financial expert William White has a forthcoming article: “The Inflation Targeting Framework for Monetary Policy Needs to be Challenged.” This seems right to me. Chairman Warsh’s comments on how to think about inflation suggest he may be open to such a reexamination.

4. The Role of the Money Supply: Did the Fed and other central banks somehow forget about the perennial role of creating too much money in fostering inflation and depreciating the currency? It seems that by rejecting a mechanical relationship of money supply and prices, they embarrassingly made the opposite error, which explains their woefully wrong forecasts of inflation and interest rates in the early 2020s.

The British economist Tim Congdon, whose forecasts in this period were based on money supply and were far superior to those of the Fed and the Bank of England, concludes that “the behavior of money growth must be restored to a central position in policy-oriented macroeconomic analysis.” Chairman Warsh might be thinking about whether the Fed should take this advice.

5. Thinking Clearly About the Fed’s Finances: Among other things, the Fed is a giant financial enterprise. It is designed to make money for the government, but in recent years has lost heavily instead, with combined reported net losses for the three years 2023–25 of $211 billion. To this should be added the $857 billion in mark to market losses discussed above.

The Fed reported a net profit of $1.4 billion in the first quarter of 2026, but this modest profit was only possible because the Fed is being heavily subsidized by the US Treasury. The Treasury does this by holding vast interest-free deposits in the Fed—of $893 billion on March 31 of this year. At current interest rates, these will give the Fed $33 billion in profit, which it will not return in remittances to the Treasury this year, only in the hazy future. This increases the current year’s federal deficit and runs up the national debt by the same $33 billion—not a very good deal for the Treasury or the taxpayers. To fix it, the Fed should simply pay the Treasury interest on its deposits, the same way it pays interest to banks.

For clarity, you can divide the Fed into three main functions: issuing currency, which at current interest rates makes profits of about $87 billion a year; the $33 billion in profit from the Treasury subsidy; and then everything else, which includes the Fed’s trillions in underwater long-term investments. This third function appears to be making losses at the rate of about $113 billion a year.

As chief executive of the Federal Reserve and a financial expert himself, Chairman Warsh might be thinking of how to provide rigorous explanations to Congress of the Fed’s financial performance, balance sheet and financial outlook, making these clear to the legislature, which is his boss.

Lives Entwined in the Great Stock Market Collapse

Published in Civitas Outlook.

Ross Sorkin's 1929 is not a book about macroeconomics, the causes of economic cycles, or theories of financial market behavior. It is a book about people.

In the Afterword to 1929, Andrew Ross Sorkin reflects that in this book, he wanted “to restore the texture and detail of the human lives at the center of an epic historical event. Who exactly were the people caught up in it, what did their lives look and feel like?” In this, Sorkin has fully succeeded. He has created a most readable account of the personalities, careers, opinions, decisions, actions, hopes, fears, risk-taking, and sometimes descent from hero to bum of those entwined in the intoxicating boom and crushing bust of the 1920s stock market. We can’t help being interested in the characters he deftly portrays.

This book is not about macroeconomics, the causes of economic cycles, theories of financial market behavior, or the author’s proposals for institutional redesign or grand reforms. There are no mathematical formulas or graphs, and no statistics, other than reporting the heady rise and headlong drop in stock prices of the time, and, in later sections, the staggering numbers of bank failures. It is a book about people.

In Sorkin’s drama, they appear in five acts:

-Life and personalities at the top of the great 1920s stock market bubble

-The Crash of October 1929

-The deepening Depression, leading to the banking panic of 1933

-Hoover exits; Roosevelt creates a heroic role for himself

-Aftermath: 1930s Congressional investigations, reform legislation, and criminal indictments; the later life of the characters.

A problem with writing this kind of history is that readers already know, in general, what happened. This can impart to the drama a retrospective inevitability that did not exist for the people at the time. Instead, they found themselves in a confusing present with an unknowable future, just as we do. Sorkin relates colorful examples of conflicting predictions of the time.

John Jabob Raskob, “one of the wealthiest men in the nation,” chairman of the Democratic National Committee, and an important character in the book, assured the public in 1929 that “with just $15 per month, ‘wisely invested,’ anyone could become wealthy through the stock market within twenty years.” Said the Literary Digest, “‘This is the greatest vision of Wall Street’s greatest mind.”

About the same time, Thomas Lamont, the second most senior partner in J.P. Morgan and Co. and a principal actor in the book, was in Europe, negotiating the restructuring of the German reparations from World War I. From there, he wrote his son, “Prices can go lower, so be sure to keep plenty of cash…I keep feeling cash is a good asset.”

The stock market reached its peak in September 1929, with the Dow Jones Industrial Average at 381. Of course, they didn’t know then it was the peak. “The market had experienced nearly seven years of uninterrupted growth,” as Sorkin observes. Had you been living then, do you think you would have been buying or selling at that point?

In that month, the brilliant and famous economist, Irving Fisher of Yale University, opined, “Stock prices are not too high and Wall Street will not experience anything in the nature of a crash.” He said, this reflected, among other factors, “inventions such as the world has never before witnessed.” (This may sound familiar.) In October, he further memorably pronounced: “Stock prices have reached what looks like a permanently high plateau.”

A sense of the times comes with another of Fisher’s arguments: The market had not yet “reflected the beneficent effects of Prohibition, which had made American workers more productive and dependable.”

On the opposite side, economist Roger Babson issued a famous forecast: “Sooner or later a crash is coming and it may be terrific. Wise are those investors who now get out of debt… The stock market boom will collapse like the Florida [land] boom.” (This is the only mention in the book of that other 1920s bubble.) Babson continued, “Sellers will exceed buyers…paper profits will begin to disappear…margin accounts will be closed out…there may be a stampede for selling which may exceed anything that the stock exchange has ever witnessed.” (Sorkin does not mention that Babson was also the Prohibition Party’s 1940 candidate for U.S. President.)

Charles Merrill, the co-founder of Merrill Lynch, gets only a bit part, but it includes his early call, which looks very good in retrospect: Merrill “had been telling his clients to get out of the market since March 1928.” But between the end of March 1928 and early September 1929, the market rose 80 percent.

So would you have listened to Merrill, or to Charles Mitchell, the Chairman of the National City Bank of New York (now Citibank), a leading banker of the day? Boarding an ocean liner for a four-week vacation in September 1929, Mitchell told the press, “There is nothing to worry about in the financial situation of the United States,” and upon his return in October, “Although in some cases speculation has gone too far…the markets generally now are in a healthy condition.” Mitchell is a prominent character in the book, starting the story at the top of Wall Street, falling hard and ignominiously in the 1930s, and rising again.

Herbert Hoover, a very intelligent and capable man, had become President of the United States in March 1929. He had long been convinced that the stock market suffered from excess speculation. Now, six months into the job, “rattled by the roller-coaster stock market and [the] conflicting comments from Babson, Fisher and Mitchell, the president dispatched an envoy [to] Lamont. … Should his administration do something to stop speculation before it was too late?” Lamont’s advice was that “Corrective action on the part of public authorities…need not at this time be contemplated.”

The Crash came. On Black Thursday, October 24, Babson’s scenario became reality with “a blizzard of sell orders…brokers liquidating the accounts of customers who couldn’t meet their margin calls… soon many stocks had no bids at all…everybody wants to sell out.”

This set the stage for the dramatic private intervention of the leaders of Wall Street. Sorkin tells the story very well. “Lamont remembered the Panic of 1907 and tried to think: What would J. Pierpont Morgan do?” The answer was for the leading firms to create a pool to buy stocks amid selling and stop the panic.

Richard Whitney, the Vice President of the New York Stock Exchange, was their broker. “At 1:30 p.m. the tall, supercilious Whitney strode unto the trading floor with a smile…to post 2 where in a loud, booming voice, he asked what the last bid for U.S. Steel had been. ‘One ninety-five,’ the specialist said ‘Ten thousand at two-oh-five,’ Whitney announced. … For a split second there was silence … Then a shout of elation went up and spread across the room.” Whitney proceeded across the floor, “loudly buying shares.” Would the plan work? It looked like it would. “The rout was halted. … Whitney was hailed as a hero [and dubbed] “Wall Street’s White Knight.”

But five days later, on Black Tuesday, October 29, it all came apart again, with renewed floods of selling and prices collapsing By the end of the day, the Dow Jones index had fallen to 230, or down 40 percent from its September peak The Wall Street elite’s best shot had failed Subsequently, despite various interim rallies and optimism, stock prices would fall for the next three years, ultimately going down by 89 percent from the peak.

Many interesting characters appear on Sorkin’s stage. Among them is Winston Churchill, out of political office, touring America to build an audience for his writing, who took time out to make heavy losses in the stock market.

There is Jesse Livermore, famous in his day as a big-time financial speculator, whose life was fictionalized in the popular 1923 novel Reminiscences of a Stock Operator. In October 1929, Livermore made huge profits by being short the market; his gains, Sorkin tells us, amounted to $100 million. Later, he lost it all and finally committed suicide, writing to his wife, “I am a failure.”

In the Washington D.C. scenes, Senator Carter Glass often appears, a Jeffersonian Democrat, great critic of Wall Street and of Charles Mitchell in particular, and co-sponsor of the landmark Glass-Steagall Act of 1933. About Black Tuesday, he said with schadenfreude, “It is just the result of Mitchellism … It is a sign the gamblers have reached their limit.”

As Sorkin takes the story into the 1930s, the Depression involves thousands of bank failures, literally. Hoover, having lost the 1932 election by a landslide, faced a nationwide bank panic during this lame duck period. He tried to get the newly elected Franklin Roosevelt to work with him on a national bank holiday, but Roosevelt refused.

With the country in the midst of a banking crisis, Hoover was outplayed by the master politician, manipulator, and rhetorician, Roosevelt, who then could take center stage as the hero with his own national bank holiday, using much of the material already worked out by the Hoover administration, and launching the New Deal, which dominated the rest of the 1930s. Near the end of that new drama, we may note, with Roosevelt’s policies, the 1939 unemployment rate was still 17 percent—but that is a different book.

1929 does not take up and is not interested in how the stock market finances productive investment, entrepreneurial ventures, and economic growth, and produces long-term profits. It focuses rather on how it can generate excesses, like the huge 1920s bubble and bust. Sorkin muses on the last page that overall “People will find new ways to believe the good times can last forever … humanity will again and again lose its head.” However, fundamental uncertainty means we can’t have one part of this fascinating combination without the other, and it is highly unlikely that we in the present are any smarter than the characters caught in the great drama of a century ago.

Seven Questions for Kevin Warsh, Newly Confirmed as Chairman of the Fed

And some startling answers from the Sun’s monetary columnist.

Published in The New York Sun.

The Federal Reserve is at the center of the pure paper money system of the United States and the world. As the Fed transitions to a new chairman, it is timely to consider some questions about this remarkable, powerful, dangerous, and allegedly “independent” institution. Here are seven questions for the new chairman, Kevin Warsh, and his colleagues:

Do we need a national price fixing committee for interest rates?

Answer: No.

Nothing is more obvious in free market economics than that having centralized price fixing by the government is a really bad idea. The constant discovery of clearing prices by competitive markets is what is needed. Yet the Fed’s Open Market Committee is a national price fixing committee by another name for one of the most important prices: interest rates. Amazing mistake, if you think about it.

Does the Fed know what it’s doing?

Answer: No.

As the outgoing chairman of the Fed, Jerome Powell wittily and correctly said about the Fed, “We are navigating by the stars under cloudy skies.” So it is, and so it must be. Neither the Fed nor anybody else ever knew or ever can know what the correct interest rates are. To do that they would have to know the future, and the economic future is always uncertain, not only unknown but unknowable. The Fed’s forecasting record is poor because it cannot know what it is really doing.

How much money has the Fed lost on its “QE” gamble — and whose money was it?

Answer: It has lost more than $1.3 trillion of the taxpayers’ money.

The Fed made a gamble on what it called “Quantitative Easing,” or “QE,” described by its chairman at the time, Ben Bernanke, as a “shot in the dark.” It was a macroeconomic gamble that stoked asset price inflations. It was a financial gamble with the Fed’s own earnings and capital.

The huge resulting total losses are the sum of three factors. The Fed reported net operating losses of about $220 billion since 2022. In addition, the QE losses wiped out more than $300 billion in profits the Fed made by issuing currency and holding interest-free deposits from the Treasury.

So quantitative easing’s operating losses exceed $500 billion. On top of that, QE has resulted in mark-to-market losses of $844 billion. In sum, the more than $1.3 trillion in losses mean that the costs will be borne by the taxpayers and suggest that the Fed has lost the entire $47 billion capital of its commercial bank shareholders about 27 times over.

Does the Federal Reserve Act assign the Fed a goal of “price stability”?

Answer: No.

“Price stability” is a tricky term that means, according to the Fed, perpetual inflation at some rate it chooses. It means that overall prices always rise. That is not what the Federal Reserve Act says. The Act assigns to the Fed an objective of “stable prices,” a clear term. It means prices that are stable. In other words, it means average inflation of approximately zero. The Fed was rhetorically clever to use “price stability” in all its presentations when it decided to pursue perpetual inflation, since it obviously was not pursuing stable prices.

Should the Fed have a monopoly in American money?

Answer: No.

As suggested by Friedrich Hayek in “Competition in Currency,” an essay now canonical among cryptocurrency enthusiasts, to control a central bank’s urge to impose inflation on the people, one could create competition in currency. Then the people could use the money they believe will best hold its value. The same essay shows that what Hayek really wanted was a renewed monetary role for gold to evolve from this competition.

Could there be a renewed monetary role for gold?

Answer: We should try to develop one.

The Fed might start by owning some gold to diversify its assets. Today, unlike most major central banks, it owns exactly zero gold and so has missed out on the great gold rally, which was really the great depreciation of the Federal Reserve dollar — by 99 percent against gold since 1971. Various American states have projects to make gold a legal tender, which might allow 100 percent gold-backed electronic currencies to compete with paper dollars.

Should the Federal Reserve be “independent”?

Answer: No.

No part of the government in any branch should be an independent fiefdom. Fundamental to our constitutional republic is that every part of the government must be a part of our system of checks and balances. In the Fed’s case, this means there needs to be much enhanced accountability to the Congress.

Fannie, Freddie, and the National Debt

Published with Edward J. Pinto in Law & Liberty.

Fannie and Freddie are part of the government and need to be included in its consolidated financial statements.

Fannie Mae and Freddie Mac are huge, with $7.8 trillion in assets and $7.6 trillion in liabilities. They are an essential part of the finances of the US government. But we do not find them as part of the government’s consolidated financial statements. We should.

This is due not only to their sheer size but also because of the giant taxpayer risk they represent, the government’s principal ownership of them, the total government control of their operations, and the obvious fact that these conditions are not temporary but long-term and ongoing. We believe that without consolidating Fannie and Freddie, a true and fair view of the government’s financial condition is not possible.

We understand the natural desire of politicians to keep Fannie and Freddie’s $7.6 trillion in liabilities off the government’s consolidated books. Accurately recording these obligations would increase the reported amount of government debt held by the public by about 25 percent—from $30.8 trillion to $38.4 trillion as of December 31, 2025. With Fannie and Freddie correctly consolidated, the total government debt would be $46.1 trillion.

Obviously, it is politically tempting to keep the obligations Fannie and Freddie impose on the taxpayers pushed obscurely down into the footnotes. Indeed, to get Fannie’s debt off the government’s books was the very reason for making it a so-called “government-sponsored enterprise” in 1968, a status later repeated for Freddie. We suggest that this twentieth-century idea has become obsolete.

Fannie and Freddie’s nature has changed radically in this century. When we apply the current facts about them to the governing accounting principles of the Federal Accounting Standards Advisory Board (FASAB), it appears the 2008 decision not to consolidate them is no longer defensible. To summarize today’s reality, Fannie and Freddie are no longer government-sponsored, privately-owned, and managed enterprises. Instead, they are government-owned and government-controlled agencies. Nothing is clearer than that the taxpayers are on the hook for all their debt and risk, and that government officers are fully in command. They are just parts of the government now and should be accounted for accordingly.

The governing “Statement of Federal Financial Accounting Standards No. 47, Reporting Entity,” defines the criteria to decide between a “consolidation entity” included in the government’s consolidated financial statements, and a “disclosure entity” which resides in the footnotes, off-balance sheet. These criteria are whether “as a whole, the organization: a) is financed through taxes and other non-exchange revenues; b) is governed by the Congress or the President; c) imposes or may impose risks and rewards to the government; and d) provides goods and services on a non-market basis.” Note 1 to the US Government Financial Statements adds the view that Fannie and Freddie’s “relationship to the government is not expected to be permanent.”

Taking these in order:

Fannie and Freddie’s financing completely depends on the government.

All of Fannie and Freddie’s revenues and financing depend upon the guarantee of their obligations by the government. Without this guarantee, neither of them could exist for a day. This guarantee means their revenue depends on access to the taxing power of the government. Moreover, the guarantee is provided to them for free, the essence of a non-exchange arrangement. This is a permanent arrangement.

There is no non-government governance of Fannie and Freddie and has not been for more than 17 years.

It is often said that this guarantee is “implicit,” but no informed person doubts that it is real. And everybody is right about this. President Trump, for example, has confirmed the government guarantee of Fannie and Freddie and stated that it will be retained. We feel sure that the reality of this guarantee, essential to Fannie and Freddie’s very existence, is a view shared by the US Treasury, by all Fannie and Freddie’s customers and creditors, and by FASAB, too.

Fannie and Freddie’s equity financing also depends on the government. The government’s stake in their equity is a $367 billion liquidation preference in their combined senior preferred stock. Subtracting this government stake from their total equity of $179 billion would leave them both technically insolvent, with a combined non-government equity of negative $188 billion. On top of this, the government has the right to acquire 79.9 percent of the common stock of both for one-thousandth of a cent per share. This totals to less than $55,000.

Fannie and Freddie are completely controlled by the government.

Fannie and Freddie are entirely subject to their conservator, who is the director of the Federal Housing Finance Board. Under the law, the conservator wields the complete power of their boards of directors and executives as well as being their regulator, and moreover, he has made himself the chairman of both of their subordinate boards. The director of the FHFB is removable by and responsible to the president of the United States. An excellent recent example of Fannie and Freddie’s governance is their instructions from the government to buy $200 billion in mortgage-backed securities. As reported by National Mortgage Professional, “In early January, President Donald Trump said he is ordering his ‘representatives’ [Fannie and Freddie] to buy $200 billion in mortgage bonds to bring down housing costs … FHFA Director Bill Pulte said on X that Fannie and Freddie will execute the purchase.”

There is no non-government governance of Fannie and Freddie, and has not been for more than 17 years.

Fannie and Freddie impose large risks on and offer rewards to the government.

Because it guarantees their $7.6 trillion in obligations, the government remains fully at risk for big losses at Fannie and Freddie, which may occur, just as it did when Fannie and Freddie went broke from bad loans in 2008. The Treasury provided them a $190 billion bailout, buying senior preferred equity that it still owns. Conversely, when Fannie and Freddie have been profitable under current arrangements, the government has benefited by dividends it has received, or by increases in the liquidation preference of its senior preferred shares, in effect, a dividend in kind. Any increase in the value of the Treasury’s option to acquire most of Fannie and Freddie’s common stock for less than $55,000 would also be a reward.

Fannie and Freddie provide financial services on a non-market basis.

Fannie and Freddie operate at extremely high, non-market leverage. Most of their earnings are made possible by their non-market, free guarantee from the government, for which, by the way, neither has ever paid even one cent. We have calculated that if they had to pay a fair rate for their $7.6 trillion of free government guarantee, it would absorb 50 percent to 100 percent of their pre-tax profit. The entire political rationale for Fannie and Freddie’s existence is that they create mortgage financing at interest rates below what the market would offer, possible only because of their deep links to the government, of which they have now become simply a part.

The characteristics that make Fannie and Freddie “consolidation entities” are not temporary, but are long-term or permanent. Having the government guaranty, being financially dependent on the government, imposing large risks on the government, and operating on a non-market basis are all permanent parts of Fannie and Freddie. Being mostly owned by and completely controlled by the government is not temporary, since it has been going on for 17 years, and the situation has outlasted many attempts at legislative reforms or attempted so-called “privatizations.” There appears to be a strong probability that the current situation will simply continue. President Trump has said as much: “I will stay strong in my position on overseeing them as President.”

Considering all these elements as a whole, we conclude that Fannie and Freddie should be consolidated in the US government’s financial statements. As a result, the proper consolidated total of government debt is $7.6 trillion greater than officially reported.

Letter: Here are three things the Fed is actually good at

Published in the Financial Times.

Your Big Read feature “Is Warsh set to be the next Fed fall guy?” (April 20) repeats a myth which should be long dead: that the Federal Reserve’s job includes “the management of the biggest economy on the planet”.

On the contrary. To “manage the economy” would require knowledge of the future that neither the Fed nor anyone else has, or can have.

At its creation in 1913, it was thought that the Fed would prevent future financial crises and panics. Obviously it didn’t.

In the heyday of Keynesian hopes in the 1960s, it was thought that the Fed could be part of ending financial cycles. Obviously it couldn’t.

As Fed chairman Jerome Powell brilliantly observed in August 2023, the Fed is “navigating by the stars under cloudy skies”. So it is and always must be.

The Fed actually is good at three things. One, printing money to finance financial crises. Two, creating constant inflation and depreciation of the currency it creates, and three, supporting the power of the government by monetising the government’s debt.

But “managing the economy” is far and forever beyond its capability.

How Much Should the Federal Reserve Shrink?

Whether our central bank should or could shrink, and if so, how much, has become a topic of public debate. 

Published in The New York Sun.

Robert Higgs, in his book “Crisis and Leviathan,” shows how the size, power, and intrusiveness of the government feed on crises. With each crisis, the government becomes bigger. After the crisis is over, it may shrink some, but it rarely goes back to its former size. 

The bloated balance sheet of the Federal Reserve is a perfect demonstration of this phenomenon. At the end of 2007, before the panic of 2008, the Fed produced its last historically normal annual balance sheet. It had total assets of $894 billion. It owned zero mortgage securities.

During the ensuing years, the Fed vastly expanded its balance sheet to a size that was previously unimaginable. By Peak Fed in March 2022, it had total assets of $8.9 trillion, or 10 times its 2007 level. It had investments in mortgage securities of $2.7 trillion, three times its total 2007 assets.

Since then, just as Mr. Higgs would predict, the Fed’s size has been reduced, but to nowhere near its previous level. As of the end of March 2026, the Fed’s total assets are still $6.7 trillion or 7.5 times their 2007 level and it still owns $2 trillion in mortgage securities, compared to the zero it should have. The Fed has stopped reducing its size — it is now $34 billion bigger than it was at the end of 2025.

Whatever happened to the assurance Chairman Bernanke’s gave in 2011 to Congress that “there will be no permanent increase… in the Fed’s balance sheet”? We can consider it either a memorable broken promise or a fully flubbed forecast. 

The Fed has two basic parts: the mundane job of simply buying Treasury securities with the United States currency it has the monopoly on issuing; and everything else. In 2007, the mundane “Currency Fed” had $792 billion in currency outstanding, so everything else in the Fed’s balance sheet totaled only $102 billion. 

At Peak Fed, the “Everything Else” part of the Fed, which had come to include in effect a giant savings and loan for holding mortgage assets and an even bigger hedge fund for investing in long-term Treasury securities financed overnight, totaled $6.7 trillion. In other words, the activist, interventionist, financial risk-taking part of the Fed had increased since 2007 by 66 times. As of today, that increase is still 42 times. 

The financial results of the Fed’s risk taking are an aggregate operating loss of $224 billion plus a mark-to-market loss of $845 billion, or well over $1 trillion in total. These are costs not just to the Fed itself but to the Treasury and the taxpayers. In addition, the Fed’s mortgage buying spree, by driving mortgage interest rates to abnormally low levels, pushed house prices up to abnormally high levels.

The “affordability crisis” in American housing thus significantly reflects the results of the Fed’s bloated balance sheet. Even though the Fed should get out of its mortgage investments, it certainly does not want to sell them now because doing so would create a more than $300 billion realized loss. On top of that, selling would drive mortgage interest rates up — a politically unacceptable result.

Whether the Fed should or could shrink, and if so, how much, has become a topic of public debate. How much shrinkage would it take to get the current Fed back to the 2007 base case, appropriately adjusted?

In 2007, the Fed’s assets were equal to 6.2 percent of nominal GDP and 8.3 percent of total commercial banking assets. To reach these same percentages, the Fed would have to shrink to $2 trillion in assets. This is not possible because the Fed’s assets must by definition be something greater than its currency outstanding, currently $2.4 trillion.

An essential mandate of the Fed, like all central banks, is to finance the government of which it is a part. Expanding its balance sheet is a way to force the commercial banking system to lend to the government. In 2007, the Fed’s assets were 9.7 percent of the national debt. To return to this level the Fed’s assets would need to fall to about $3.8 trillion, or be reduced by $2.9 trillion. 

A reasonable target for the normalized size of the Fed might be a rounded to 10 percent of the national debt. The Fed’s assets would then be $3.9 trillion instead of $6.7 trillion. Since we know the Fed cannot sell its mortgage securities, however, to its allowed assets might be added its $2 trillion in mortgage securities, provided that these mortgage investments be put and kept in run-off until they reach zero again.

That would suggest a current shrinkage of the Fed to $5.9 trillion, or shrinkage of $800 billion plus however much the mortgage assets run off. Of course, in the next crisis, all bets are off and the Fed’s balance sheet may bloat once more.

Event video: The GENIUS Act in Practice: Key Questions for Stablecoin Regulation

Hosted by the Federalist Society.

The GENIUS Act of 2025 was a watershed moment in the legal framework for stablecoins, but now implementing regulations are due in July, and many key questions are far from settled. How will the regulation will be carried out, how will systemic risks be addressed, how big a role will banks play in stablecoins, what role will stablecoins assume in the broader payment system, how will yield-bearing arrangements using stablecoins be treated, who will bear the regulatory costs?

 On March 31, 2026, the Federalist Society's Financial Services Practice Group will convene a panel of leading practitioners, regulators, and policy thinkers to examine these questions and the implementation landscape ahead. 

Featuring:

• Hon. Michael S. Barr, Member, Board of Governors of the Federal Reserve System

• Hon. Summer Mersinger, Chief Executive Officer, Blockchain Association

• Alex Pollock, Senior Fellow, Mises Institute

• Greg Xethalis, General Counsel and Chief Compliance Officer, Multicoin Capital 

• (Moderator) Gary Kalbaugh, Partner, Cahill Gordon & Reindel

U.S. house prices are falling in inflation-adjusted terms, but that is not enough

Published in Housing Finance International Journal.

In the Winter 2025 issue of Housing Finance International, I predicted that average U.S. house prices must fall because they have gone to bubble levels – by two reputable calculations, to 30% over their long-term trend line, or 35% over being affordable on a pre-pandemic basis. In the spring of 2026, that prediction still looks good.

The house price inflation to the current extreme level was driven by the financial manipulations of the Federal Reserve, which in unprecedented fashion, made itself the biggest mortgage investor in the country by far. It bought up mortgage securities with newly printed money to amass a peak portfolio of the previously unimaginable amount of $2.7 trillion, thereby pushing down the interest rate on mortgage loans to exceptionally low levels – as low as 2.7%. In U.S. practice, that is the interest rate for a 30-year loan, with its interest rate fixed for the entire 30 years, but which is also prepayable without penalty at any time at the borrower’s option. The Fed made these very long-term fixed-rate loans abnormally cheap.

By making mortgage loans abnormally cheap, the Fed made houses abnormally expensive. By making houses abnormally expensive, it made them widely unaffordable once mortgage interest rates returned to normal, as they did and remain. Home sales fell to three-decade lows. The unaffordability of houses is now a major American political issue, exercising both the President and the Congress.

The effects on the Fed’s own finances and the government’s budget deficit are also unfortunate. The Fed’s mortgage portfolio still totals $2 trillion and is now far under water, with the most recently published mark to market disclosure showing a $323 billion market value loss. The $2 trillion pile of mortgages is also causing ongoing cash losses. Its average yield is about 1.45% less than the cost of the Fed’s deposits, so in current operating results the Fed is losing on its mortgages about $29 billion a year—these are also losses to the U.S. Treasury.

The Fed has decided, correctly, that it should bring its mortgage portfolio back to zero, where it always was for the first 95 years of the Fed’s existence, until 2008. But it does not want to sell the mortgages because of the massive market value loss it would have to realize to do so. Moreover, the Fed’s selling in any material amount would drive the price of mortgage securities down, pushing mortgage interest rates higher and making houses even less affordable. This would be politically damaging to be sure. So, the Fed is stuck with a slow run-off strategy and will maintain its mistaken role as a very large government housing bank for years to come.

Some political commentary suggests that the current unaffordability of American houses reflects that mortgage interest rates, now at about 6%, are too high. Of course, 6% seems high compared to the abnormally low rates the Federal Reserve created. But 6% is a normal U.S. mortgage interest rate, historically speaking, not a high one.

Over the last 55 years, from 1971 to now, American 30-year mortgages had an average rate of over 7%. They were over 6% for about 70% of that time. They have averaged about 1.5% to 2% over the yield of the 10-year U.S. Treasury note. Since that yield is now about 4.1%, that suggests a normal mortgage rate would be 5.6% to 6.1%. Over the long term, the 10-year Treasury has yielded on average 1.95% over inflation. With inflation at 2.7% for 2025, the 10-year Treasury would be 4.65% on historical average and the 30-year mortgage over 6%.

The problem is not that mortgage interest rates are too high, but that house prices are much too high. The solution is that they need to come down.

Of course, house prices can come down in two ways: in absolute or “nominal” terms, and in inflation-adjusted or “real” terms. As an example of the second, if nominal house prices go sideways while inflation continues, it reduces house prices in real terms. If nominal household incomes rise with inflation, they would be gaining on house prices and affordability would be improving. That might be a “soft landing” scenario for house prices. In the alternative, nominal house prices could fall on a national basis, as they did fall from 2007 to 2012.

According to the AEI Housing Center’s most recent report, national house prices increased in nominal terms by 1.5% for the twelve months to January 2026, failing to keep up with consumer inflation for those months of 2.4%. Thus, real house prices fell by 0.9%. At this rate, it would take about 29 years to correct a 30% real terms overshoot.

Viewing things on a six-month time horizon, nominal U.S. house prices as measured by the Case-Shiller 20-City Composite Home Price Index, not seasonally adjusted, fell in the second half of 2025 from an index value of 343 in June to 336.9 in December, for a six-month house price reduction of 1.8%, or an annualized rate of 3.6%. With an annualized rate of inflation for this period of 2.7%, real house prices on this index fell at an annualized rate of 6.3%. If prices falling at 3.6% nominal and 6.3% real continued, it would take about 4.4 years to offset a real 30% bubble overshoot.

There are, of course, regional differences in house price behavior. In many areas in the U.S. West and South, where house prices previously rose very rapidly, they are now falling. The Federal Housing Finance Agency reports that house prices in 2025 rose less than the year’s inflation, thus fell in real terms, in half of the 50 U.S. states and in Washington DC. They also fell in nominal terms in nine states, including the large states of California, Texas and Florida, and in Washington DC. The national total was a decline in real terms of 0.9%.

On the overall national trend, the outlook seems to be for house prices to continue falling at least in inflation-adjusted terms. However, a pure “soft landing” scenario probably moves too slowly to correct the house price bubble the Federal Reserve so mightily puffed up. It continues to appear that the U.S. can expect nominal house prices to fall on a national basis.

That will be good for affordability and good for home buyers, but not so good for those with highly leveraged home ownership or for those with lower-quality credit exposures to mortgages. The price giveth and the price taketh away.

Letter: Pensions — from Bismarck to Pennsylvania Railroad

Published in the Financial Times.

When the German retirement age was set at 65 in the 1910s, Valentina Romei makes the point that “life expectancy was below 50” (“Five ways demographics are changing the economy”, The Big Read, March 6). In fact, the historical contrast with today is even sharper than you suggest.

When the German state pension system was established by Otto von Bismarck in 1889, he set the retirement age at 70. Bismarck himself was 74 at the time.

The corporate pension plan of the Pennsylvania Railroad in 1900 adopted a mandatory retirement age of 70. Early pension plans of American states likewise set 70 as the pensionable age. Correspondingly, the 1854 hymn, “Work, for the Night is Coming” (sadly no longer in the Methodist hymnal) urged us to keep working “under the sunset skies” and to “Work till the last beam fadeth”.

On average these days, that is a long way past 65.

AEI Event Video: The Future of Fannie Mae and Freddie Mac

Hosted by the American Enterprise Institute.

Event Summary

On March 23, AEI’s Howard Husock hosted experts to examine the role of Fannie Mae and Freddie Mac—enterprises that guarantee roughly 70 percent of US mortgages and are central to housing finance. Panelists emphasized that this uniquely American system concentrates risk within government-controlled entities, exposing markets to political influence and contributing to distortions in housing prices. Speakers traced the evolution of the government-sponsored enterprises (GSEs) from hybrid public-private institutions to entities effectively controlled by the federal government under conservatorship since the 2008 financial crisis. A central concern is the GSEs’ implicit federal guarantee—unconditional and practically free—allowing public risk to generate private or quasi-private gains.

The panel outlined three main paths forward: full government ownership, privatization with explicit payment for guarantees and stronger capital requirements, or continued conservatorship under the Federal Housing Finance Agency. Panelists broadly favored a smaller, more disciplined model—treating the GSEs more like large banks—and agreed on the need to shrink their footprint by limiting the size of purchasable mortgages, an incremental reform within regulatory authority. They added that technological improvements to mortgage processes may enhance efficiency. Still, in the absence of sustained political pressure, conservatorship may persist, leaving fundamental structural issues unresolved.

—Hadar Zeevi

Agenda

4:15 p.m.
Registration Opens

4:30 p.m.
Opening Remarks:
Howard Husock, Senior Fellow, American Enterprise Institute

4:40 p.m.
Panel Discussion

Panelists:
Anne Canfield, Partner, Majority Group
Edward J. Pinto, Senior Fellow, American Enterprise Institute
Alex J. Pollock, Senior Fellow, Mises Institute

Moderator:
Howard Husock, Senior Fellow, American Enterprise Institute

5:45 p.m.
Q&A

6:00 p.m.
Adjournment

Event Description

Fannie Mae and Freddie Mac, though in conservatorship, still play an outsized role in the US housing market, guaranteeing about half of all outstanding residential mortgages and representing a massive $7.8 trillion in assets. They are without doubt systemically important concentrations of mortgage risk.

Historically, they were privately owned companies with the public subsidy in the form of a free implicit guarantee of their obligations by the US Treasury. This guarantee led to their 2008 bailout, when they received $187 billion in taxpayer support; the government’s equity interest has since grown to $366 billion.

Join AEI for a discussion on how Congress could approach Fannie and Freddie’s future structure, ownership, role in the housing market, and the extent of the risk to the Treasury they will be allowed to pose.

Bernanke’s Broken Promise: Is It Time To Shrink the Fed Yet?

Published in The New York Sun.

“It’s a temporary action,” the Federal Reserve chairman, Ben Bernanke, testified before Congress on February 9, 2011, 15 years ago. He was referring to the radical expansion of the Fed’s balance sheet begun under his leadership in 2008 by so-called “Quantitative Easing,” which monetized long-term Treasury debt and 30-year mortgage securities. By 2011, QE had inflated the Fed’s total assets to $2.5 trillion. That was 2. 7 times their $915 billion at the end of 2007, the Fed’s last historically-normal annual balance sheet.

Mr. Bernanke further testified, in what certainly sounded like a promise, “what we are doing here is a temporary measure which will be reversed.” Note that was not “may” be or “can” be, but “will” be. Fifteen years later, it hasn’t happened.  

“At the end of this process,” Mr. Bernanke continued, “the amount of the Fed’s balance sheet will be normalized, and there will be no permanent increase, either in money outstanding [or] in the Fed’s balance sheet.”  That promise, or at least prediction, stands in striking contrast with reality.

Today the Fed’s total assets are $6.6 trillion.  That is 2.6 times as big as when Mr. Bernanke was testifying, and 7.2 times as big as in 2007. 

Among the Fed’s assets all these years later we find $1.6 trillion in Treasury bonds which still have more than ten years left to maturity.  More egregiously, we find $2 trillion in long-term mortgage securities.  

The Fed’s monetization of mortgages, which has massively distorted the housing market, should in my opinion be zero, as it always was from the creation of the Fed in 1913 until 2008. Today the mortgage portfolio alone is more than twice as big as the whole Fed was in 2007.

All this doesn’t sound too “temporary.” Even if one would be tempted to paraphrase President Clinton — “It depends on what the meaning of the word ‘temporary’ is”— one would have to admit that 15 years after Mr. Bernanke’s testimony and going on 18 years after the beginning of the QE program, it does not qualify as temporary.

The question of what is “temporary” was raised by Congressman Scott Garrett in the 2011 hearing.  “What you have is a difference between one’s interpretation of what is permanent and what is temporary,” Mr. Garrett said, insightfully adding, “I imagine no Fed Chairman would ever come to this witness table and say, ‘I am engaging in permanent monetization of the debt,’ [but] describe it as, ‘I’m only taking a temporary action’…. Isn’t that correct?”

Mr. Bernanke replied, “That’s what we are doing.  It’s a temporary action.”  That was doubtless what he intended at the time, but it isn’t what happened. What this “temporary action” was going to do to the Fed’s own risk and financial performance was raised by the chairman of the hearing, Congressman Paul Ryan. “Have you done a stress test on your balance sheet?” he responsibly asked.  “And what level of losses do you think is acceptable as you withdraw?”

The Fed’s most recent published mark to market of its investments, as of September 2025, provides the future answer to Mr. Ryan’s question: There would be a loss of $856 billion required to liquidate the Fed’s long-term investments. To this sum must be added the Fed’s accumulated operating losses of $224 billion since 2022, all caused by the financial risk of QE. If one uses only the losses of the QE program itself, removing the profits made by other parts of the Fed, the QE-alone operating losses since 2022 exceed $500 billion. These are equally losses to the U.S. Treasury.

Would Mr. Ryan have thought that “acceptable”?  Would Mr. Bernanke have?

Here is what Mr. Bernanke answered: “We have done multiple stress tests. Under most likely scenarios, the fiscal implications of the balance sheet are positive… Under most plausible scenarios, this policy will continue to be profitable.” Reality turned out not to be one of the “plausible scenarios.”

It’s too bad that Mr. Ryan did not follow up by asking for a copy of the Fed’s risk analysis for Congressional oversight of the unprecedented risk of QE. For now it appears that the Fed has lost another $2 billion in the first two months of 2026 despite the enormous subsidy it is receiving from the Treasury in the form of over $800 billion in interest-free deposits. These deposits generate income of about $30 billion a year for the Fed at current interest rates. They increase the Treasury’s deficit by the same amount.

Is it finally time to shrink the Fed to its normal size?  Unfortunately, because of the giant market value losses embedded in the Fed’s QE investments, selling them would be far too expensive. So Mr. Bernanke’s “temporary action” will continue into its 19th year.

Money Still Matters

The failure of pandemic-era forecasting calls for a return to monetary basics.

Published in Law & Liberty.

Most economists and central banks utterly failed to predict the inflationary outbreak in the wake of the monetary expansion that accompanied the Covid period. That is the starting point of Tim Congdon’s new book, Money and Inflation at the Time of Covid. Considering the Federal Reserve, Congdon writes: “In 2020 none of the Federal Open Market Committee’s 18 members expected inflation above 2.5 percent in 2021. In fact, consumer prices rose by 7 per cent in the year to December 2021.” After that came 6.5 percent in 2022. 

This miss of the looming high inflation by all the Federal Reserve Board governors and the Federal Reserve Bank presidents was an embarrassing whiff to be sure. These Open Market Committee members’ corresponding interest rate forecasts missed by more than a mile, as well.

The Federal Reserve was not alone in this failure of foresight. The Bank of England “was hopelessly wrong in its inflation forecasts for 2022 and 2023,” Congdon writes. Joining them in proving forecasts may be vain were “the European Central Bank, the Bank of Canada, the Reserve Bank of New Zealand, Norway’s Norges Bank and the Swedish Riksbank … all seven organizations committed serious errors in forecasting in the 2020s.”

Did no one get the coming inflation right? Well, Cogden is forced to admit and is “pleased to say,” he did, and he documents it. “In late March and April 2020, I could see that the astonishing money explosion then under way would have inflationary consequences.” In language that highlights that there are two related, interacting and essential kinds of inflation—asset price inflation and consumer price inflation—he continues, “the first result would be too much money chasing too few assets, so that the prices of shares and houses would be buoyant in late 2020 and 2021; the second inflation would be too much money chasing too few goods and services. Consumer inflation might reach double digits at an annual rate in 2022 or 2023.” 

“On 30 March 2020,” Congdon tells us, “I sent out a special email to subscribers,” which concluded that with the rapid money growth being created, “the message from history is that the annual increase in consumer prices will climb towards the 5 per cent-10 per cent area.” It did. Then, in June 2020, he published an op-ed in the Wall Street Journal, “Get Ready for the Return of Inflation.” Inflation returned. That same June saw a co-authored think tank essay that argued, “The extremely high growth rates of money will instigate an inflationary boom [but] central banks seem heedless of the inflation risks.” They were heedless: “In 2020, the year in which the USA saw the fastest growth in broadly defined M3 money since the Second World War, the minutes of the Federal Open Market Committee contained not one reference to any money aggregate.” 

Why was Congdon able to get right in the early 2020s what so many other experts and institutions got wrong? The wrong answers, he convincingly contends, came from the fact that “in recent decades, central banks have stopped referring to the quantity of money in their policy briefings and economic commentary. The silence on money may have accurately reflected what top central bankers believed, but what they believed proved false.” There is no question that the beliefs, and fashions in the beliefs, of central bankers are among the essential macroeconomic factors.

Congdon’s successful forecasts, in contrast, came from a continuing focus on the (one might think obvious) relationship between and the creation of money and inflation of both asset prices and consumer prices in the medium term. “The neglect of money aggregates in Bank of England research is therefore the dominant culprit for the fiasco of its inflation forecasts,” he says.

This leads to the core conclusion of the book: 

The behavior of money growth must be restored to a central position in policy-oriented macroeconomic analysis.

Here is the conclusion as re-stated in the coda that ends the book: Central bankers “must restore references to money aggregates in their research and policy statements,” for without this, they will be “ignorant and dangerous” (about the likely results of their own actions).

Congdon is arguing for a revised version of the classic Quantity Theory of Money and points out “the ancientness” of the theory. The classic theory is represented in the famous equation MV = PT, meaning that Money supply times the Velocity of money equals the Price level times the Transactions volume of real GDP. Thus, Money’s growing faster than the real economy makes Prices go up—as long as Velocity is fairly stable. This relationship of money expansion to inflation is intuitively appealing, and it is an enduring truth that creating a lot of excess money tends to push prices up. Central banks are very good at doing this. But critics of the classic formula are quick to point out that Velocity, which is by algebra merely the ratio of the nominal size of the economy to the money supply, is not always stable. That means the relationship is not mechanical. It is nonetheless essential, as the book argues.

Congdon is of course well aware of the historical debates. He quotes Paul Samuelson, the brilliant, Nobel Prize-winning author of the celebrated economics textbook that went through 19 editions. In this textbook, Congdon relates, the quantity theory “was said to be a ‘special, simplified doctrine,’ which most economists would not accept.” 

When it comes to brilliance, especially in economic forecasting, we must always remember Bottum’s Principle: It is easier to be brilliant than right! The failed 2020s forecasts were not the result of any lack of IQ or university degrees. Congdon cannot resist rhetorically enjoying a separate, completely failed forecast in the brilliant Samuelson’s textbook: “A recurrent assertion [that] the planned, communist economy of the Soviet Union would ultimately overtake the free market, capitalist economy of the USA.” 

Congdon’s updated quantity theory, which is less simple but appears to be more adequate than the classic version, requires three principal additional elements. First, it is based on broad money, not narrow money. Second, it must include asset price inflation as well as consumer price inflation and the effects of price changes of equities and real estate, especially residential housing. And third, it operates on a medium-term basis.

First, consider broad money. “Money” can be thought of, Congdon says, as only the monetary liabilities of the central bank or “base money”; or as including the demand deposits of the private banks, to get to “narrow money”; or as including “all the deposit liabilities of the banking system,” when “the system is consolidated to embrace both the central bank and the commercial banks.” This is “broad money.” He specifies that for his approach, “the phrase ‘the quantity of money’ should always be understood to mean ‘broad money.’” He makes a particular point of distinguishing this from the narrow money monetarism of Milton Friedman and the Chicago School. He concludes that to determine whether “too much money is chasing” assets and consumer goods with inflationary consequences, one must think in terms of broad money.

Next, asset prices. In Congdon’s quantity theory, “Changes in the value of variable-income assets (equities, real estate)—often due to changes in the quantity of money—are a central feature.” “Households care far more about the stock market and house prices than they do about bond yields.” So we need to “emphasize the impact of changes in money growth on the prices of assets like housing, commercial property and corporate equity, and the further effects of movements in these asset prices … on demand and output.” Here we have the same theory as did the Federal Reserve with its Quantitative Easing gamble to create “wealth effects.” Thus, “in the author’s view, a forecast of the values of the equity market and the stock of residential houses … has to be part of any meaningful macroeconomic forecast.” 

Finally, focus on the medium term. The money-creation to inflation effects may not be as immediate or precise as the classic quantity theory formula might imply, but on Congdon’s view, they should be expected in the medium term. Milton Friedman made “long and variable lags” a famous part of the discussion. Congdon further adds, “This is not an assertion that changes in the quantity of money and the price level are always equi-proprotional in actual experience.” He cites as an example “the steep collapse in velocity in 2008.” But over time, “the medium term relationship between money and inflation must also be quite close,” he maintains. 

I do think one recurring metaphor in the book needs revision. In many places, Congdon (like other economists) refers to economic activities as “mechanisms”—in particular, “the transition mechanism” for monetary changes. In my view, there is no “mechanism” involved. Economic events are neither mechanical nor subject to the mathematical determination that mechanisms are. They are rather interactions of human actions, ideas, intentions, strategies, beliefs, subjective valuations, hopes, and fears—including, for better or worse, the ideas and beliefs of central bankers. 

If the components of economics were mechanical, economists would by now have discovered the mechanisms, found binding formulas, and agreed with each other instead of forming perpetually competing schools. They would not have suffered the humiliating forecasting mistakes they so often have. Nonetheless, the mind can achieve powerful general insights in economics, like many in this book.

Reviewing his own text, Congdon says, “Talking of repetition, there is a lot of it in this book, perhaps too much.” He is right about that, and his discussion would have benefited from a reduction in repetition. Congdon adds, “The book is to a large extent an exercise in ‘I told you so.’” Well, yes, but the victory lap he takes is well-deserved.

All in all, I believe Congdon’s sharply pointed contrast between successful and failed forecasts is convincing, his defense of an updated quantity theory of money is well-argued, and his suggestions for central banking lessons are highly relevant.

The Fed Was Built on Non-Ph.Ds Like Warsh

See, for example, the central bank buildings named for Marriner Eccles and William McChesney Martin.

Published in The Wall Street Journal.

“The dumbest criticism,” as your editorial rightly says, of the good pick of Kevin Warsh for Federal Reserve chairman is that he “doesn’t have an economics Ph.D” (“Warsh Is the Right Fed Choice,” Jan. 31). That criticism also displays a total ignorance of Fed history. For example, the Washington headquarters of the Fed are named after Marriner Eccles, who was Fed chairman for 14 years, 1934-1948. Not only did Eccles not have a Ph.D. in economics, he never went to a university, but learned on the job as a successful banker and investor.

The nearby Fed building is named after William McChesney Martin, probably the greatest Fed chairman in my view, who served under five U.S. presidents from 1951 to 1970. Martin had a B.A., having studied English and Latin. The justly celebrated Paul Volcker, central banking hero and Fed chairman from 1979 to 1987, had an M.A. in political economy, but no Ph.D. And as you imply, the new chairman of the Fed will have hundreds of Ph.D.s at his beck and call for whatever studies he may desire.

Alex J. Pollock

Senior fellow, Mises Institute

Could — and Should — the Fed Own Gold?

Published in The New York Sun.

A world-historical financial event was the 1971 default by the United States on its international commitment to redeem dollars for gold, thereby creating a purely paper, Nixonian global monetary system. Since then, the value of the United States dollar in gold has dropped by more than 99 percent. The amount of dollars that an ounce of gold will buy has gone up by about 140 times.

During 2025, the dollar’s value in gold fell about 40 percent. Specifically, it fell from 0.38 ounces to 0.23 ounces of gold needed to buy $1,000. In 2026 so far, that has declined further to 0.20 ounces. In other words, one ounce of gold now buys about $5,000, compared to $35 until 1971. This trend has been highly profitable for the many central banks that hold gold as a classic monetary asset.

The Swiss National Bank, Switzerland’s central bank, reported a 2025 profit on its gold holdings of over 36 billion Swiss francs, or more than $46 billion. The SNB is required by law to mark all its investments, including gold, to market and report the results in its profit and loss statement and balance sheet.

Other central banks benefiting from gold as an investment and a reserve against their liabilities include, among others, the European Central Bank, the German Bundesbank, the Bank of France, the Dutch National Bank, the Bank of Italy, the Reserve Bank of India, the Bank of Japan, the People’s Bank of China, and the Monetary Authority of Singapore.

In comparison, how much profit has the Federal Reserve made on its gold? The answer is not one penny. The Federal Reserve owns no gold at all — not a single ounce. In the terse summary from the Federal Reserve’s official website: “The Federal Reserve does not own gold.”

This situation would have left the authors of the Federal Reserve Act surprised and dismayed. The law required that new Federal Reserve Banks hold gold backing equal to 40 percent of their outstanding dollar bills plus 30 percent of their deposit liabilities. One can imagine the founders of the Fed frowning down in disapproval from legislative Valhalla at the current lack of any gold held by their creation.

The original gold requirement was ended by the Depression-era Gold Reserve Act of 1934, when Congress took all their gold from the Federal Reserve Banks. From the Fed’s point of view, this was the opposite of “reserving” their gold. In exchange, the Fed got claims on the Treasury for paper dollars. With clever rhetoric, these were and are called “gold certificates.”

However, what they really certify is that the gold has been taken. The day after the taking, the dollar was devalued by 41 percent, increasing the dollars one ounce of gold would buy to $35 from $20.67. Since the Fed no longer owned any gold as of the day before, it realized no profit. The Fed has owned no gold since 1934.

The term “gold certificates” has led to widespread confusion. As probably intended by the political rhetoricians of the 1930s, the term has caused many people, even financial experts, to believe the Federal Reserve still owns gold because it has gold certificates. But the Fed’s own website is clear: “Gold certificates do not give the Federal Reserve any right to redeem the certificate for gold.” So much for the certificates and the 1930s.

Coming to today, could the Fed buy and hold gold if it wanted to?  Had it done so, after all, it would have greatly profited as other central banks have. The Fed itself is curiously quiet on this head. It appears that it does not wish to answer it, because the answer would be positive. 

Some commentators cite the 1934 act as preventing current gold purchases, but the relevant provisions of that act were repealed in 1974, more than 50 years ago. Public Law 93-373 of 1974 provides that beginning in 1975: “No provision of any law…may be construed to prohibit any person from purchasing, holding, selling or otherwise dealing in gold.” The term “any person” obviously includes the Federal Reserve Banks.

Moreover, the Federal Reserve Act in its current form provides that each Federal Reserve Bank has the power “to deal in gold coin and bullion at home or abroad.” Congress, which is the superior of the Federal Reserve, should require the Fed to answer clearly two questions: Could the Fed legally buy gold today? And if so, should it join other major central banks in holding gold among its assets?