Allan H. Meltzer



Moral Hazard




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Carnegie Mellon economist Allan Meltzer

Two of his books:
"Money Supply Theory"
in B. Friedman and F. Hahn (ed.)Handbook of Monetary Economics, North Holland, (1991).
With: -K. Brunner)

"Keynes's Monetary Theory: A Different Interpretation", Cambridge University Press, (1988).

In this op-ed piece in today's Wall Street Journal, Allan Meltzer adds to the growing scrutiny of Ben Bernanke and crew at the Federal Reserve
Tim Iacono February 28, 2008

People soon recognized that avoiding possible recession overwhelmed any concern about inflation. Many concluded that inflation would increase over time and that the Fed would do little more than talk. Prices and wages fell very little in recessions. The result was inflation and stagnant growth: stagflation.
It's beginning to happen again.

One lesson of the inflationary 1970s: A country that will not accept the possibility of a small recession will end up having a big one when the politicians at last respond to the public's complaints about inflation. Instead of paying the relatively small cost of a possible recession, the public pays the much larger cost of sustained inflation and a deeper recession. And enduring the deeper recession is the only way to convince the public that the Fed has at last decided to slow inflation.

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Carnegie Mellon economist Allan Meltzer,
who is finishing the second volume of his history of the Federal Reserve,
warns that Bernanke is risking a disastrous replay of the 1970s
CNN January 21 2008

He warns that Bernanke is risking a disastrous replay of the 1970s, when high oil prices fueled double-digit inflation. Every time the Fed started to tighten and unemployment jumped, chairmen G. William Miller and Arthur Burns lost their nerve.

They lowered rates to boost job growth, and inflation inevitably revived, causing a vicious price spiral.

The Fed let the disease rage for so long that it took draconian action by chairman Paul Volcker in the early 1980s to finally defeat inflation.

The price was a deep recession, with unemployment hitting 11% in 1982. "The mentality is the same as in the 1970s," says Meltzer. "'As soon as we get rid of the risk of recession, we'll do something about inflation.' But that comes too late."

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For an opposite view, see:
Beware moral hazard fundamentalists
The world has at least as much to fear from a moral hazard fundamentalism
that precludes actions that would enhance confidence and stability
as it does from moral hazard itself.
Lawrence Summers, Financial Times September 24 2007

"One of the things Bernanke will surely be learning right now is how much pressure there can be.
Every crisis brings it out. The pressure on them is overwhelming, and saying 'no' is hard,"
says Allan Meltzer, a Fed historian.
FT Aug 30, 2007

The defining moment of his tenure as chairman lies ahead as he calibrates the central bank's policy response to the competing demands of the real economy and a financial system in shock.

The dilemma he faces has troubled central bankers for at least 140 years, since the Bank of England was first persuaded to declare it would act as a lender of last resort after a London discount bank collapsed and took its clients - commercial banks - down with it.

That expansion in the mission of central bankers, to include acting as guardians of a sound financial system in addition to being engineers of macroeconomic stability, opened a Pandora's box of moral hazard - the term for the problem that providing insurance will encourage excessive risk-taking - that Alan Greenspan, Mr Bernanke's predecessor at the US central bank, dabbled in when he cut rates aggressively after market shocks in 1987 and 1998.

Jean-Claude Trichet, the European Central Bank president, has cancelled plans to attend Jackson Hole for private reasons.

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