Whistle a Happy Tune

Whenever I feel afraid
I hold my head erect
And whistle a happy tune
So no one will suspect
I’m afraid.

Song, from The King and I, Lyrics by Oscar Hammerstein II

Ben Bernanke is afraid. Or, at least, that’s the message I took away from a speech he made before a conference in Atlanta:

As I have discussed today, the economic recovery in the United States appears to be proceeding at a moderate pace and–notwithstanding unevenness in the rate of progress and some recent signs of reduced momentum–the labor market has been gradually improving. At the same time, the jobs situation remains far from normal, with unemployment remaining elevated. Inflation has risen lately but should moderate, assuming that commodity prices stabilize and that, as I expect, longer-term inflation expectations remain stable.

Against this backdrop, the Federal Open Market Committee (FOMC) has maintained a highly accommodative monetary policy, keeping its target for the federal funds rate close to zero and further easing monetary conditions through large-scale asset purchases. The FOMC has indicated that it will complete its purchases of $600 billion of Treasury securities by the end of this month while maintaining its existing policy of reinvesting principal payments from its securities holdings. The Committee also continues to anticipate that economic conditions are likely to warrant exceptionally low levels for the federal funds rate for an extended period.

The full text of the speech is here.

He’s blown his wad (it’s a naval expression). He’s maintained interest rates near zero for far too long. He’s pumped money into the economy via quantitative easing. The policy has been effective: the stock market has risen sharply and inflation has risen (at least in the way that most people reckon it, by the prices of things they buy going up).

Much of the talk was devoted to prices as you can see from this word cloud of the speech, largely devoted to a defense of his policies. Increases in prices were attributed to anything other than his policies, “improving diets in the emerging economies” (quibble: do economies have diets?), production shortfalls, etc.

There is apparently a difference of opinion within the Fed. The New York Fed published a report that found:

…we see that 84 percent of all expenditures in the CPI basket were on items that experienced above-average increases in inflation in the last seven months.

which would seem to be in contradiction to the claim that most items hadn’t seen price increases.

Mish Shedlock:

Bernanke did everything possible to mitigate his role and the Fed’s role in this crisis. His unmitigated gall comes through loud and clear with this bald-faced lie:

“The Federal Reserve’s actions in recent years have doubtless helped stabilize the financial system, ease credit and financial conditions, guard against deflation, and promote economic recovery. All of this has been accomplished, I should note, at no net cost to the federal budget or to the U.S. taxpayer.”

For starters, were it not for the complete ineptitude of the Greenspan and Bernanke Fed the US would not be in this mess in the first place. Second, there most assuredly is a cost to the Fed’s policies.

Prices are higher, wages are not. Banks were bailed out at taxpayer expense. The Fed pays interest on reserves. That interest comes from taxpayers. The Fed’s balance sheet is loaded to the gills with garbage from Fannie Mae and Freddie Mac. The Fed is not at risk on that garbage because Congress approved unlimited backing for GSE debt. That unlimited backing is over $300 billion and counting. Those losses are not all on the Fed’s balance sheet of course. However let’s not ignore the Fed’s role in getting Congress to pass that blatantly stupid bill.

Bruce Krasting:

IMHO Ben should have stepped up to the plate and said to the world that in fact his policies have contributed to inflation. He should have confirmed, what we already know, the objective of current monetary policy is to stimulate inflation. After all, the idea that zero interest rates do not contribute to inflation is, well, a dumb idea that has no basis in fact.

There was another thing that jumped out at me from the speech:

Although it is moving in the right direction, the economy is still producing at levels well below its potential…

How is the potential of the economy measured? Is it measured relative, for example, to its state in 2006? Why is that the right comparison?

Is it not possible that the economy is producing at its potential but its potential is too low?

What should be done? First, the Fed should gradually start increasing interest rates to 1%, the level at which they should have been under the Taylor Rule. And they should clearly state and stick to a determination to operate under an open rules-based regime.

Second, no more quantitative easing. Dr. Bernanke strongly suggested that in his speech and they should stick to it.

Third, he should stop carrying water for the politicians in the Congress and in the Obama Administration. Monetary policy has exhausted its arsenal.

Either the Obama Administration believes in Keynesian stimulus or it does not. If it does, it should push for more stimulus in a form that the Congressional Republicans dare not refuse. To my eye a reduction or elimination of FICA would fit the bill.

If it does not, it would seem that austerity is the preferred strategy. The deficit for 2011 is expected to be more than $1.5 trillion. If this is austerity, it’s taking a form I do not recognize.

7 comments… add one

  • sam

    I have a question.

    “He should have confirmed, what we already know, the objective of current monetary policy is to stimulate inflation. ”

    Well, that’s the Friedmanian theory, right? That is, that the correct measure of inflation is not a rise in prices, but an increase in the money supply, correct? The whole point of monetarism is to control, influence, whatever, the economy by manipulating the money supply, right?

  • Drew

    Nice, comprehensive treatment. Observations:

    “He’s blown his wad (it’s a naval expression).”
    Heh. Steel mill version: shot his wad.

    “He’s maintained interest rates near zero………….the policy has been effective: the stock market has risen sharply and inflation has risen (at least in the way that most people reckon it, by the prices of things they buy going up).”

    Effective? Only in inducing “yield chase,” that’s the stock market. But preservation of low risk capital? No. And purchasing power? No.

    “…we see that 84 percent of all expenditures in the CPI basket were on items that experienced above-average increases in inflation in the last seven months.”

    Damned straight. As I have pointed out many times, much to sam’s chagrine. I won’t, in a real sense, be affected. But what about The Little Guy? The “government complex” is raising the price of food, gas, shelter, clothing etc all across America. Meanwhile (and my home office is in NY Metro) the stock market is keeping NY Metro roaring!! Just go there and look at housing, eateries etc. Booming. That’s obscene policy. Just obscene.

    “Bernanke did everything possible to mitigate his role and the Fed’s role in this crisis. His unmitigated gall comes through loud and clear with this bald-faced lie:

    “The Federal Reserve’s actions in recent years have doubtless helped stabilize the financial system, ease credit and financial conditions, guard against deflation, and promote economic recovery. All of this has been accomplished, I should note, at no net cost to the federal budget or to the U.S. taxpayer.”

    For starters, were it not for the complete ineptitude of the Greenspan and Bernanke Fed the US would not be in this mess in the first place. Second, there most assuredly is a cost to the Fed’s policies.

    Prices are higher, wages are not. Banks were bailed out at taxpayer expense. The Fed pays interest on reserves. That interest comes from taxpayers. The Fed’s balance sheet is loaded to the gills with garbage from Fannie Mae and Freddie Mac. The Fed is not at risk on that garbage because Congress approved unlimited backing for GSE debt. That unlimited backing is over $300 billion and counting. Those losses are not all on the Fed’s balance sheet of course. However let’s not ignore the Fed’s role in getting Congress to pass that blatantly stupid bill.”

    Mish hits the proverbial 450 home run.

    “Bruce Krasting:

    IMHO Ben should have stepped up to the plate and said to the world that in fact his policies have contributed to inflation. He should have confirmed, what we already know, the objective of current monetary policy is to stimulate inflation. After all, the idea that zero interest rates do not contribute to inflation is, well, a dumb idea that has no basis in fact.

    There was another thing that jumped out at me from the speech:

    Although it is moving in the right direction, the economy is still producing at levels well below its potential…

    How is the potential of the economy measured? Is it measured relative, for example, to its state in 2006? Why is that the right comparison?

    Is it not possible that the economy is producing at its potential but its potential is too low?

    What should be done? First, the Fed should gradually start increasing interest rates to 1%, the level at which they should have been under the Taylor Rule. And they should clearly state and stick to a determination to operate under an open rules-based regime.

    Second, no more quantitative easing. Dr. Bernanke strongly suggested that in his speech and they should stick to it.

    Third, he should stop carrying water for the politicians in the Congress and in the Obama Administration. Monetary policy has exhausted its arsenal.”

    Mr. Kasting pulls out his driver, and hits it 300 yards, with slight draw, to put himself in fine shape to hit a 3 iron and potential eagle on the dreaded par five 9th. He nailed it.

    “If it does not, it would seem that austerity is the preferred strategy. The deficit for 2011 is expected to be more than $1.5 trillion. If this is austerity, it’s taking a form I do not recognize.”

    Painful. But its called “stay the course.” Meanwhile, get the private sector juices going, and stop with the idiotic “government do something” mentality.

    If we don’t, Dave’s post will be repeated in 2 years.

  • Drew

    “Well, that’s the Friedmanian theory, right?”

    No. Friedman’s bedrock opinion was that exogenous variables were too powerful, unmeasurable and dynamic to be correctly counteracted by the Fed in a correct time fashion. Accordingly, and as an empirical fact, he observed that the Fed was always making ill-timed decisions.

    Hence, he was really a fatalist. Let the vagaries of the real world play out and self-correct, but let the money supply grow at a steady rate to accommodate the size of the economy.

    Critics point to changes in the velocity of money. (That is, if velocity declines you have to put the foot on the monetary gas.) But here we are in a low velocity environment, the gas pedal was pushed…….and what’s happening? Inflation. And GDP? Nowhere.

    May he RIP, and his correct theory be adopted.

  • Maxwell James

    Dave,

    What do you think of Scott Sumner’s critique of Taylor’s perspective here?

  • What do you think of Scott Sumner’s critique of Taylor’s perspective

    My recollection is that as a general rule Sumner prefers targeting nominal GDP whereas Taylor favors fighting inflation. In the specific context of that post, in which what was most concerning was the prospect of a liquidity trap, Sumner probably had a point. However, I don’t think that’s the case now.

    Whichever your poison, I believe we need significantly more rules-based decision-making at the Fed and significantly less putting a finger in the wind and making a decision.

  • steve

    ” GSE debt. That unlimited backing is over $300 billion and counting.”

    You would rather have that debt sitting on the balance sheets of the major banks?

    Steve

  • Maxwell James

    Thanks, Dave. I am attempting to develop an informed opinion on this topic and appreciate your perspective.

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