December 23, 2013 marks the centennial of a disastrous transformation of the American Republic.  On December 23, 1913, the Federal Reserve System was created.

Woodrow Wilson believed that central planning could make America better.  His informal deputy, Colonel House (who was not really a colonel at all), had written Phillip Dru: The Administrator before Wilson was elected.  That book celebrated aggressive federal intervention in American life to end poverty, achieve social justice, etc.

It is ironic that the rolling out of ObamaCare should be on the one hundredth anniversary of the Federal Reserve System.  Both represent wholly misplaced attempts to replace the incremental influence of market forces with central planning by a national government. 

Milton Friedman in 1988 said that no American institution had performed so poorly and yet retained such a high reputation with the people as the Federal Reserve System.  The ostensible purpose of the Federal Reserve Act in 1913 was to prevent bank panics.  Other goals were to keep currency stable and to moderate inflation.  It has not worked. 

Inflation, for example, did not exist for the first 125 years of the Republic.  The purchasing power of $1.00 in 1789 had declined so slightly by1913 that a consumer would need $1.08 to buy the same things.  But during the last century, while the Federal Reserve System was exercising its powers over our money supply, the amount of money needed to buy what cost $1.08 in 1913 had risen to over $25.00 -- or, in other words, one dollar in 1913 is worth only about four cents in 2013.

There is a vast amount of ignorance regarding money in America before the Federal Reserve System.  The term "banknote" meant a document issued by a private bank promising to pay the bearer one "dollar" of gold.  The term "dollar" was not a money value, but rather a physical measurement, like an ounce or a milligram.  The private banks that issued these notes had a strong interest in being able to honor their obligations. 

The integrity, transparency, and prudence of the bank management determined the financial success or failure of the bank.  Moreover, because private banks transferred funds and held debt instruments from other private banks across the country, they had a strong interest in the honest and efficient operation of the American private banking system.

What about scoundrels and crooks?  No system can end these, but markets and moral pressure work much better than government officials.  Consider diamonds, a very portable source of great wealth.  The diamond cutters, originally in Amsterdam but much now in New York, meet to examine diamonds, and, because a close examination is often needed, a diamond cutter may carry someone else's diamond home.  The reputation for integrity of the diamond cutter -- as well as the strong social and moral pressures to be honest within the trade -- work so well that theft or attempted theft is almost unknown.

Self-regulation within industries works very well, because everyone involved ultimately has an interest in the industry's success.  There were bank panics and there were dislocations within the American economy as a result, but these problems were always self-correcting.  The Great Depression came two decades after the Federal Reserve System was created.  Bank panics did sink poorly run banks, but not banks generally. 

Friedman described how one well-run bank survived the bank runs of the Great Depression.  On the first day of a run on this bank, tellers were directed to pay every depositor in full, but to very carefully and slowly count out all the money paid.  People saw long lines at all the teller windows, but they also saw that every depositor was paid in full.  On the second day, tellers were instructed to pay each depositor very fast so that there were no lines.  This bank, customers of banking services deduced, was safe.

What America has today instead of private companies acting with enlightened self-interest is a vast, largely invisible, and almost wholly unaccountable system of manipulators of money supply, interest rates, and banking practices so that the notional wisdom of learned experts, instead of the open operation of market forces, determines our money supply.  This "money" is no longer in coin or in paper backed by certain defined quantities of gold or silver; rather, its worth lies only in the opinions and promises of so-called "experts," faceless bureaucrats, and feckless politicians. 

As America, and much of Europe, looks over a growing abyss of astronomical public debt and declining confidence in public "money," the only way out is to stop attempting to formulate government answers to market problems.  Radical reform and reduction of the Federal Reserve System is an excellent place to start.