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The heart of him who has understanding seeks knowledge, but the mouths of fools feed on folly. Proverbs 15:14

The term “cobra effect” is used when an attempted solution to a problem worsens the problem by unleashing unintended consequences. The name derives from a tale originating in Delhi, India. The government's concern about rampant venomous cobras prompted them to offer a bounty for each dead snake. Although the strategy initially worked well, citizens began to breed cobras for income. When the government discovered what people were doing, they ended the bounty program. The cobra breeders, with worthless venomous snakes on their hands, set them free.

Despite the best intentions, the solution made Delhi’s cobra problem worse.

As you might by now have figured, the cobra effect surrounds us in politics and economics.

Bastiat’s brilliance

Nineteenth-century French economist Frederic Bastiat has a well-known theory about unintended consequences. He uses a parable to explain what is seen and not seen. His lesson starts with a stone that shatters a shopkeeper’s window. Most noticeable to the town’s people is the economic benefit of the broken window. In their minds, the shopkeeper must buy a window and employ a glazier to install it. (Many economists peddle similar logic in the aftermath of natural disasters.)

Bastiat’s brilliance was pointing out the not so obvious opportunity cost of the broken window. In this case, after paying to fix the window, the shopkeeper has less money to spend elsewhere. The shopkeeper could have bought new equipment making his shop more productive and profitable. That would have had a positive impact on the shopkeeper’s wealth and the economy and the populace.

Instead, replacing the window is at best a neutral economic event. There is no net economic gain, but there is an opportunity cost. Financial and material resources were used in a non-productive manner.

With cobras and broken windows in mind, we look at the Federal Reserve’s long-standing monetary policies.