Bernanke's Recent Errors

By and large I have found Fed Chairman Ben Bernanke to be qualified, informed and vigilant in his position.


Beginning last summer, however, with the onset of the private sector's self-inflicted financial troubles, I have questioned Bernanke's ability to remain objective amidst media attacks.


Two recent pieces in the Wall Street Journal drew my attention to actions by Bernanke which I find to be troubling, and would even label as 'errors.'


The first was the Journal's lead editorial two Fridays ago, on February 29. In that piece, the authors noted that commodities such as gold, food and energy have been hitting record highs lately. Retrospectively, these are typically signs of coming inflation at the consumer level.


Meanwhile, Bernanke and the Fed have rather recklessly cut rates since this summer, attempting to solve a counterparty risk dilemma with lower rates and easier monetary policy.


To date, it's unclear that any of the extra Fed-supplied liquidity has affected the credit markets in a substantial, lasting manner. Instead, equity markets have reacted to the various rate cuts like heroin addict to his latest fix. After the effect wears off, he looks for the next dose, hoping it will be even larger.


The editorial points out that the Fed is notoriously bad at what used to be called "fine tuning." In this case, knowing when to suddenly switch from recession-fighting rate cuts to inflation-fighting rate hikes seems likely to be problematic.


As the Journal editorial put it so eloquently,


"For readers under age 30 who are wondering why they are suddenly paying $3.15 for gasoline and $2 for milk, the answer is that this is what an inflation looks like. Those of us of a certain age remember it well, if painfully, and judging by the noises coming from the Federal Reserve of late we had all better get used to it again.

First, Fed Vice Chairman Don Kohn declared that, while inflation was worrisome, the Fed now views recession as the more urgent danger to fight. Then on Wednesday, Fed Chairman Ben Bernanke told Congress that the Fed will do whatever it takes to stop the credit squeeze from becoming a recession. That's about as close as a central banker will get to saying that he's thrown price stability to the wind. If inflation rises -- as it now surely will -- then the Fed will worry about that later, after the economy is safely past the credit crunch."


Personally, I could not care less about Humphrey-Hawkins, the poorly-designed Senate law which foolishly commands the Fed to pursue both price stability and full employment.


The Journal concludes by noting,


"Then as now they were also dismissing such forward-looking price signals as gold and oil and instead focusing on such misleading indicators as "core inflation" and the money supply. Mr. Mishkin may be seen as a monetary wizard at the Fed, but to investors around the world he is beginning to look more like a high-class inflationist.

The people who aren't being fooled by all this are the American people. They don't pay their bills with "core" dollar bills, and they know those dollars buy less with each passing month. This explains their rising economic anxiety -- and anger -- better than trade or job losses do, especially since the job market has remained relatively healthy. Inflation is the great thief of the middle class, as even Americans who don't recall the 1970s are learning. With its all-in reflation bet, the Bernanke Fed is gambling with their money."


I have to admit, I am not happy with Bernanke. Rather than insulate himself from external critics and have the courage Paul Volcker did when he wrung inflation out of our economy over 25 years ago, Bernanke seems to actually be afraid of the Congressional Committees before which he must periodically appear.


As if all of this were not bad enough, yesterday's Journal reported that in Bernanke's recent speech to a conference of bankers, he said,



"In this environment, principal reductions that restore some equity for the homeowner may be a relatively more effective means of avoiding delinquency and foreclosure" than reducing the interest rate."


Meaning unilateral loan forgiveness under quasi-duress from the Federal government. In other language, this would known as a "taking-" the unlawful seizure of property without compensation. For the record, Barney Frank was thrilled to welcome Bernanke aboard his ideological investment confiscation train.


Reactions to Bernanke's sudden socialist uttering included,


"Reducing the principal rather than the interest rate is a "very different framework for thinking about the problem," said Andy Laperriere, an analyst at ISI Group, a brokerage firm. He said with so many borrowers under water, "any proposal that helps them will be very expensive for either the financial institution or the taxpayer," and a large program would potentially sweep in millions of borrowers who weren't going to default anyway.

Industry reacted coolly to Mr. Bernanke's proposal. The American Securitization Forum, which represents participants in the market for mortgage-backed securities -- pools of mortgages originated and sold by banks and other lenders -- said it had already developed procedures for modifying loans, including through principal reduction. To reduce principal, firms that service MBS pools on behalf of the end investors need "a clear basis for concluding that the related borrower is unable...rather than simply being unwilling" to repay."


No kidding! Doesn't Bernanke realize to what this sort of reward for an ultimate moral hazard- buying a home you can't afford- this will lead? Potential borrowers will never again take loss of their equity via foreclosure seriously. They'll simply wait to be part of a massive wave of subprime borrowing, the better to be part of those receiving the resulting Federal largess of loan forgiveness.


At a time when Congress complains that the Federal government is living beyond its means, but won't cut its own budget, we see it now demanding lenders allow US consumers to live beyond theirs, too.


I'd pay some extra tax dollars if it were targeted at bringing Tall Paul back out of retirement to lead the Fed for a few years. Not that I don't think Bernanke had been doing a good job until recently. Or that he doesn't understand the various aspects of his job. I just think Volcker was a Godsend whose discipline is now sorely missed, and will be, much more, I'm afraid, before too much longer.