 Your client is Associate Professor of Applied Social Sciences and Director of the McQuinn Center for Entrepreneurial Research at the University of Missouri. Dr. John Taylor is the Mary and Robert Raymond Professor of Economics at Stanford University and George P. Schultz Senior Fellow in Economics at the Hoover Institute. Dr. James Galbreath is the Lloyd M. Benson, Junior Chair of Government Business Relations and Professor of Government at the Linda V. Johnson School of Public Affairs at the University of Texas at Austin. Dr. Alice Rivlin is a Senior Fellow in Economic Studies at the Brookings Institution and is former Vice Chair of the Federal Reserve Board of Governors. Without objection, your written statements will be made part of the record. You will now be recognized for a five-minute summary of your testimony. And we'll begin with Dr. Herbner. Chairman Paul. Ranking Member Clay and distinguished members. The mic up close, Ms. Sonora. And distinguished members of the committee, it is an honor to appear before you. Left to the market, the production of all goods, including money, passes the profit and loss test of socially beneficial production. Like all private enterprises, a gold mining company produces if the revenue from the sale of its output exceeds the cost of buying its inputs. Its production is socially beneficial because the value of inputs in producing the output to satisfy its customers exceeds the value of those inputs in producing other goods to satisfy other customers. In the market, money production is regulated by profit and loss. Changes in demands bring forth more production. If the demand for money increases, making the value of gold coins rise, then minting companies would increase production to capture the profit. As the supply of gold coins increase, their value would decline. And as the demand for resources increase, their prices would rise. The profit would dissipate and resource allocation into and production of money would be optimal for society at large. The production of fiat paper money and fiduciary media cannot be regulated by profit and loss. It is always profitable for a central bank to produce more fiat paper money since larger denomination bills have the same production cost as smaller denomination bills. It is always profitable for a commercial bank to issue more fiduciary media through credit creation since the interest it earns on the loan made always exceeds the nominal cost of issuing fiduciary media. Although the production of fiat money and fiduciary media cannot be justified by passing the market test of optimal production, it is claimed that an elastic currency will render an outcome superior to that of a monetary system of commodity money and 100% reserve money substitutes. Let me address three such claims for an elastic currency. First, that it can keep the price level stable. There is no social benefit from a stable price level, however. Entrepreneurs earn profits and avoid losses by anticipating changes in prices of all goods, including money. An elastic currency makes the entrepreneurial task more difficult by adding another dimension of uncertainty to the purchasing power of money. Second, it is claimed that an elastic currency can prevent price deflation. There is no social benefit from preventing price deflation, however. Faced with lower prices for their outputs, entrepreneurs reduce their demands for inputs, and their prices fall also. This leaves profit, production, and real incomes intact. Looking at the evidence across 17 countries over 100 years, Andrew Atkinson and Patrick Kehoe in a 2004 American Economic Review article demonstrated that there is no correlation between price deflation and economic downturns. The third claim for an elastic currency is that it can accelerate economic growth. There is no social benefit from attempting to accelerate economic growth beyond the rate people prefer, however. Instead of building up the capital structure of the economy more fully, monetary inflation through credit expansion generates the boom-bust cycle. In their research on the performance of the Fed, published in Cato Working Papers in 2010, George Selgen, William Lastrips, and Lawrence White concluded that under the Fed, the economy has suffered more instability than in the decades before the Fed's establishment, and that even its post-World War II performance has not clearly surpassed that of its predecessor, the national banking system. Economic theory and historical evidence demonstrate that an elastic currency system confers no benefit on society at large. Instead, it causes financial instability and business cycles. The Fed should be abolished, and a market monetary system of commodity money and money certificates should be established. A direct route to achieve this end is to convert Federal Reserve notes into redemption claims for gold with a 100% reserve of gold and to redeem the portion of reserve deposits banks hold at the Fed into cash so that banks hold 100% cash reserves against their checkable deposits. At that point, production of money and money substitutes should be done by private enterprises under the general laws of commerce. Thank you. Thank you, gentlemen. Recognize Dr. Klein's five-minute opening statement. Thank you, Mr. Chairman and members, for the opportunity to discuss such an important topic. My testimony analyzes the Fed and the reforms considered today from the perspective of an organizational economist. How does the Federal Reserve system measure up as an organization? Are its objectives, as mandated by current law, achievable and appropriate for a government agency? Are these objectives consistent with a healthy and growing economy? Is the Fed effectively structured, managed, and governed? Do key decision makers have the information and the incentives to make good decisions? Are they penalized for making mistakes? My answer to these questions are very strongly negative. The Fed has been given a task managing and stabilizing the US economy that is impossible for any government planning board. The Fed has vast authority and very little accountability. The Fed can take actions that do enormous harm to the US economy. Since 2008, the Fed has done exactly that. It has pumped money into the financial system at unprecedented rates. It has kept interest rates near zero, thus discouraging prudent behavior among consumers, entrepreneurs, and government actors, while encouraging reckless spending and the accumulation of vast public and private debts. The Fed has done everything it can to prevent the market adjustments needed for recovery from the financial crisis. All this has happened without oversight, without external check and balance, and without public discussion and debate. This kind of setup is a recipe for disaster. Everything we know about organizations with vast authority and without external check and balance tells us that they cannot possibly work well. Industrial planning fails because planners cannot and should not pick winners and losers among firms and industries. Likewise, monetary planners lack the incentives and information to make efficient decisions about open market operations, the discount rate, and reserve requirements. The Fed simply does not know the optimal supply of money or the optimal intervention in the banking system. No one does. Add the problems facing any public bureaucracy in efficiency, waste, mission creep, and it's increasingly hard to justify giving so much discretion to a single, unaccountable, independent entity. Mismanagement of the money supply not only affects the general price level, it also distorts the relative prices of goods and services. This makes it more difficult for entrepreneurs to weigh the costs and benefits of alternative actions, encouraging them to invest in the wrong activities, that is, to make investments that are not consistent with what consumers are willing and able to buy. Devaluing the currency and raising prices by injecting liquidity into the financial system rewards debtors while punishing savers. Just as artificially low interest rates rewards some market participants at the expense of others. Instead of winner picking, we should allow market forces to determine the value of money, the price of loans, the levels of borrowing and saving, and the direction of investment. I do support eliminating the dual mandate, getting the fed out of the full employment business, but I would drop the price stability requirement also. The belief that we need a central bank to fight inflation is based on a misunderstanding of the nature and causes of inflation. Price levels rise because the central bank has created too much money, not because the economy is somehow overheating, needing the government to cool it off. Central banks don't fight inflation, they create it. Nor do we need a lender of last resort, which protects not mom and pop savers and investors, but incompetent bank executives and their financial partners. I agree with Mr. Brady that a discretionary bailout policy encourages moral hazard, but an explicit, transparent, and even handed lender of last resort policy has the same result. If you know the government stands ready to bail you out, you'll take risks you should not take. Instead, we should allow banks to compete with each other and succeed or fail based on their ability to satisfy their customers. Reforms such as increasing the number of fed governors, shortening their terms, or changing how they're selected are fine, but do not get at the root of the problem. Instead, we should replace the old fashioned central bank with a modern, progressive, market-based alternative, such as a commodity standard, or competition among currencies. A market-based system would free entrepreneurs from the unpredictable and seemingly arbitrary whims of government planners, unleashing entrepreneurs to invest, innovate, and grow the economy, not only in the long run, but now when we so desperately need it. Thank you. Thank you. I recognize Dr. Taylor. Five minutes. Thank you, Mr. Chairman. For the opportunity, ranking member Clay, and thanks for bringing these important issues for public discussion. In your opening remarks, Mr. Chairman, you mentioned we have nearly a hundred years of Federal Reserve history to learn from, and it seems to me the lesson is very clear. Highly discretionary policy leads to problems and poor performance. More systematic, rules-based policy, steady as you go policy, leads to far superior performance. In the Great Depression, the Federal Reserve cut the growth of the money supply. Mike is on in close-up. I can't quite hear you. Has been on the whole time, but it sounds better to me, okay? In the Great Depression, the Federal Reserve cut the growth rate of the money supply. It raised unemployment to unprecedented levels. In the 1970s, a discretionary ghost-stop policy led to double-digit unemployment eventually, double-digit inflation, low economic growth, and double-digit interest rates. In the 80s and 90s, a more focused policy, more systematic, more rules-based, in my view, led to long expansions, low inflation, declining unemployment, and eventually higher economic growth. And unfortunately, more recently, we've moved back to a more interventionist discretionary policy, much less systematic, and the results have been a major financial crisis, a major recession, and now an abysmally low growth recovery. So you can look at the details, but it seems to me the evidence is pretty clear that we need to improve the degree to which monetary policy is rules-based rather than discretion. I think the legislation to change the dual mandate and focus on price stability, which is in Congressman Brady's bill, also in Congressman Pence's bill, would help in this regard. So many of these interventions have been based on an effort to address unemployment, and the result has been exactly the opposite. They've created these discretionary actions, which has been harmful. So for those who are worried that removing the dual mandate will actually increase unemployment, I think the historical evidence is exactly the opposite. You can look at the 70s, this highly interventionist policy, a very little systematic behavior, led to very high unemployment. You looked at the period in the 80s and 90s, was less interventions, less focus, and the chairman of the Federal Reserve at that point, Paul Volcker, explicitly tried to interpret the dual mandate in a way that focused more on price stability. The results were dramatically better unemployment. And then of course now, you have the Federal Reserve citing the dual mandate more than it has ever had before to justify these interventions. So I think the evidence is clear, and the idea is this unemployment rate is unacceptable. It's way too high, and I think part of the reason for that is monetary policy. Now I agree, Mr. Chairman, the dual mandate is not the whole answer, so I would also encourage the Congress to require that the Federal Reserve go back to the reporting requirements that were removed in 2000. There were requirements that the Fed had explicitly reported its goals for money growth and credit growth, and those were removed for whatever reason. But things like that could be replaced, a requirement that the Federal Reserve explicitly reported strategy for setting the instruments of policy, whether it's money growth or interest rates, whatever they wanna do. It's their job to determine that strategy, of course, not yours. And in fact, if there's an emergency and they wanna deviate from it, that's their business. But they need to explain why. They need to come back here and say why we deviated from the strategy which we told you we would follow earlier. So it seems to me these kinds of changes, in addition to the restrictions of the Federal Reserve, not purchase vast quantities of private securities, or the idea that we balance the voting responsibility among all the presidents, not just give special voting responsibility to some of the presidents. I think those reforms in Congress and Brady's bill would also help a lot. And in general, it seems to me these kinds of reforms go a long way to having the Congress exercise its responsibility for oversight of an independent agency. And at the same time, not get involved in the day-to-day operations, micromanaging that agency. Thank you very much, Mr. Chairman. I thank you and I now recognize Dr. Galbreath for his opening statement. Chairman Paul, Ranking Member Clay. It's an honor to be here, especially given that I am a former member of the staff of this committee and that I served on the team that drafted the Humphrey Hawkins Full Employment and Balanced Growth Act. I wish to speak mainly today in defense of the dual mandate, the plural mandate, the flexible and practical language of present law. That law was drafted at a time of acute theoretical conflict in economics and on the staff. I was a young, full employment liberal. One of our colleagues, James Pierce, former Federal Reserve Research Director, was a mainstream Keynesian at the time. Two other colleagues, Robert Auerbach and Robert Weintraub, were Chicago monetarists trained by Milton Friedman. We compromised on language that gave clear reporting, transparency and accountability requirements to the Federal Reserve in the presence of ultimate objectives, but that did not impose anyone's theoretical views. Had we done so, I fear the oversight process would have failed long ago, perhaps when mainstream economics adopted the concept of a natural rate of unemployment in the early 1980s, perhaps when the classical monetarism, the relationship between money and prices fell apart shortly after that. Instead, being flexible, the process has survived for over 35 years, even though the theories come and go. Now, price stability is written into current law as an objective of monetary policy. It is the presence of the maximum employment objective alongside price stability, in my view, that gives the Federal Reserve leeway to pursue inflation targeting at some rate other than zero if it chooses to do that. Similarly, if in some alternate universe, the Federal Reserve were to pursue a full employment strategy at all costs, the presence of the price stability language would give you legitimate cause to question its policies and the reasoning behind it. Having price stability alone in the Charter would put the Federal Reserve in the position presently occupied by the European Central Bank, very difficult to understand. We start to move. I don't think that one way to interpret your question is to ask whether there is a situation in which monetary policy says that inadvertently any other asset because we are the largest, most liquid and completely reliable market in the world for safe liquid assets. And I know, I'm sorry, I'm far too much time, but how much more capacity do you believe is pragmatic for the Fed to continue to grow at? I mean, did they go to a 4 trillion, 5 trillion? I mean, how big do these balance sheets get? That's a very interesting question for which Congressman, I have to tell you, I don't have an answer. Mr. Chairman, thank you for yielding. Thank you very much. We're gonna have a brief second round if you're able to stay, but I have a question for Dr. Rivlin and also for Dr. Klein. I don't want to get into so much on the cause, but I'm trying to get an assessment on how serious you think the world financial crisis is. A lot of us put a lot of blame on monetary policy in the Federal Reserve and the Dollar Reserve standard and excessive debt and these issues. We're not gonna resolve that today. Who's to blame? But do you consider the world financial situation to be a mess or something that will be taken care of soon and there's not that much to worry about? I'm very worried about Europe. I think the austerity... How exactly is the Fed going to unwind the balance sheet? Not how big is it going to get, but what will be the process by which they take these assets off of their books and what will the repercussions be in markets when they begin this process seriously of unwinding things? Well, there goes my bond bubble concern, but that's, what do I know? Dr. Rivkin, you've also been outspoken both on fiscal policy and that's always been appreciated to have other voices out there saying, we have some great difficulties. Has the fact that the Fed has been able to grow its balance sheets to such extraordinary levels, has in many ways, has that been a way to help Congress avoid fiscal policy? I don't think so. I think the Congress has not wanted to face up to the hard choices and the Fed's buying bonds as a small part of the whole world buying bonds, as Dr. Galbraith said, counter to reality, the world believes that we are a very safe investment. I would say that there is no other instance where the government has completely monopolized the production of something on the market. I'm gonna have to accept that as your answer and move to the next person. Mr. Klein? Yes, I mean, we can talk about the Federal Reserve System per se as an example of a central bank or the institution of central banking more generally. And in my written testimony, I give some reasons why the institution of central banking is not only unneeded, but is also harmful to a market economy. In your opinion, there should not be a central bank in the United States of America? Yes, sir, we don't have a central automobile manufacturer or a central dairy or a central computer. How did the structural structure give us fairly successful centuries? I'm very cautious about taking radical institutional steps when there is very little going on in the world that would give us confidence that they would be stabilizing rather than destabilizing. All right, Dr. I'm just an independent central bank. I think the evidence of the 19th century is not as encouraging as some would think. And the idea that the world's greatest economy could make do without a central bank, without a lender of last resort, without a monetary policy seems to me quite bizarre. Now, Dr. Thank You, let me go back now in reverse order and I'll start with you, Dr. First. And the question is, would we be at a disadvantage if we had no central bank? And I'm gonna go quick in the Fed. I recommend reforming the Fed. Okay, well. Unless there's some significant change in the role of the Fed or the structure of the Fed. I think so much of it's gonna lie in how we manage our federal budget going forward. Panel's got to get our fiscal house in order so that the debt is not rising faster than our economy can grow. And that's gonna take hard decisions and we gotta do it. There's a crisis and then we have to do something.