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Of course credit issuance can run too fast for too long, and specifically can be misallocated to narrow sectors at unsustainable prices. Yes inflation is a lagging indicator of that, and a better practice is as Bagehot knew well in the 19th century, to raise "bank rate" as soon as a boom is seen to be getting underway. Equally, you can adopt a rule to tighten somewhat when the trade balance turns adverse, or one could if most countries typically balanced their savings and investments domestically.

The Fed is instead slow and uses a CPI rule because the political forces in favor of boom financing are stronger than those in favor of long run price stability, as a policy objective for monetary policy. This results in booms a bit longer than we need, busts a bit deeper sometimes, and especially in a rate of inflation across full cycles that is 2% or so higher than it needs to be.

These issues are not instrinsic to a fiat money system with central banking, as better performances by other institutions have shown (e.g. the Bundesbank, Switzerland). But it is par for the course under present political conditions in the anglo saxon countries. It has also arguably kept the secular level of unemployment somewhat lower than it has averaged in tighter systems, with some real gains from that offsetting (somewhat) the capital market misallocation losses involved.

But all of the above is policy optima seeking, not liberty or justice principle about the right of institutions to issue new credit, or the expediency of central banking. The present monetary system is not perfect and it could be run better, but it isn't a "racket", as the populist luddites are pretending when they throw around their class warfare rhetoric, their "picking pockets" and their counterfeiting claims, and the like.

Too much is being asked of monetary policy by all concerned. Instead of demanding even more from it, we should be demanding decidedly less. More of the government's countercyclical policy should be conducted by tax policy changes and means testing of benefit payment systems, and a lot less by monetary policy intervention. Monetary policy should allow continued new credit issuance, but should moderate it sooner in booms (watching financial markets, commodity prices, and the balance of trade or the the savings rate), and should target full cycle inflation rates a percent or two lower than we've had historically, by doing so.

The reason to do that is not that inflation picks anyone's pocket, but that it interfers with rational intertemporal planning, and makes it harder to accurately forecast long run interest rates levels. That results in price swings to long dated assets that encourage capital misallocations through the cycle etc. The goal is not to abolish the cycle or abolish some supreme injustice in bare values changing - neither is achievable or worth aiming for - but simply to make private planning easier, by limiting (modestly) the amplitude of price swings.

In the busts, meanwhile, the system emphatically needs the flexibility to increase the money supply when private debts are rapidly contracting. The last time to get violently vigilant about inflation is when commercial paper is being run off at trillion dollar annual rates and major hundred billion dollar institutions are facing bankruptcy. That is simply stupid, the same sort of stupid as forcing the money supply to contract 30% in the early 1930s, trying to obey an idiotic gold rule.

Fiat money's one real benefit is its ability to replace deflationary absolute smashes with moderate real repricings, instead. That isn't something we should be trying to abolish, and crying over the split milk of the last cycle's slowness to tighten, is not helpful when you are already in the "smash" phase.

If you want to help the present system or improve it, calling it illegimate whenever there is a downswing isn't the way to do it. Calling for maximum tightness when everyone is deleveraging already, isn't the way to do it. You want to advocate greater tightness for the sake of price stability, fine, I'll support such calls - during a boom. We aren't in one.

More of the government's countercyclical policy should be conducted by tax policy changes and means testing of benefit payment systems, and a lot less by monetary policy intervention.

Are you sure you are not a Keynesian?

Calling for maximum tightness when everyone is deleveraging already, isn't the way to do it. You want to advocate greater tightness for the sake of price stability, fine, I'll support such calls - during a boom. We aren't in one.

We are in the deleveraging part of the boom that started, more or less in 1913 and WWI, peaked in 1938, started up in earnest in the 70's, paused briefly under Volker and became insane under Greenspan. Your assertion in previous posts is partly true, the Fed chairmen, including Bernanke, not including the ignorant windbag Greenspan, are good men trying to do the best job they can with the tools and rules they are given. The problem is that their job is based on a contradiction of Mises correct theory that credit booms must end in recession or destruction of the currency, no exceptions.

There were wars and other events outside of their control, but they applied the same doomed policy response every time: credit expansion. The early peak was 1938 at 2.8X GDP. The cure for that credit bubble was 1939 depression, the extreme sacrifice of WWII, and the postwar boom. I strongly believe in economic growth to pay down debt and that some debt can result in sustainable economic growth. But that has clearly not been the case in the creation of 2 million houses that nobody lives in.

Greenspan's problem was he applied credit expansion in spades to every potential economic problem, the 1987 crash (granted he was new on the job then), the 1988-1990 regional housing meltdown and S&L crisis fallout, the Asian crisis, the LTCM crisis, the tech and networking bubble popping, y2k, 9/11, and the general slump in equities into 2002. Granted he did tighten in between some of those events, but for the most part he responded to the markets, not to the economic indicators that he claimed to respond to. Greenspan is the person most responsible for the current credit bubble: $47T against a GDP of $14T.

That ratio is staggering, it means that 15% of GDP goes to debt payments, it means that even strong growth in GDP for decades would not bring it to sustainable levels. The only rational choice is to allow debt to evaporate through defaults and let the losers take their lumps. But even a tiny defaulting of a trillion or so (I don't know the numbers, but the banks are writing down in the 100's of billions) has thrown the markets and Fed into a panic. That is a trivial portion of the 47T.

The next step for the Fed is to monetize the "collateral". They have accepted these junk securities for 28 days and will keep rolling and extending the credit. Eventually they will stop demanding repayment of the T-Bills. After that they will run out of T-Bills to give away and will give away FRNs instead. That is the inevitable result as Mises has stated. The only other choice is recession, a severe one in our case due to the magnitude of the problem. The policy being advocated by you and Toddster, growing the credit bubble, does not avoid that choice. It postpones the decision, but it makes the resulting depression worse. It also makes it more likely that the solution will be not be depression, but destruction of the currency.

In reality what will probably happen is the currency will be destroyed and replaced with a new one to great cheers by you and your colleagues.