Wednesday, November 17, 2010

Regarding Alan Blinder's Defense of Bernanke

I do not possess a PhD in economics. Not even a BA in the subject. However, I do hold two business degrees, the completion of which provided me with a substantial amount of both micro and macro economic education, plus a healthy dose of anti-trust law and economics.

Thus, when I read Alan Blinder's In Defense of Ben Bernanke in Monday's Wall Street Journal, my initial reaction was one of potential academic inadequacy to question or critique Blinder's contentions. But, upon rereading his editorial, I realized that many of what I see as his errors are not those of abstruse higher-level economics, so much as those of reasoning and logic. On those bases, I feel quite comfortable discussing his piece.

Blinder begins by claiming "one current catchphrase is "job-killing spending.""

Really? Alan gives no cite on this. So much for PhD-level work, eh? His opening salvo is an unsourced complaint. Even so, it's not government spending that is killing jobs. It's over-regulation, erratic government takeovers of portions of the economy, and vague taxation policies. The spending, by the way, didn't go for infrastructure, as promised, but mostly for transfer payments. Which didn't create jobs, but allegedly saved some. Hardly the same thing.

He then uses an ad hominum argument by calling his friend's detractors "the economic equivalent of the Flat Earth Society." Again, hardly academic-quality reasoning. Or, maybe it is.

Only at the end, by the way, does Blinder tell you what his current position already should. As a Princeton economics professor, he would be well-acquainted with Bernanke. This isn't an objective defense of the Fed chairman. It's somehow personal.

But, back to Blinder's editorial.

Blinder then writes,

"Yet critics are branding QE2 a radical departure from past practices and a dangerous experiment."

He counters that QE2 is really just a big ol' open market operation like the Fed constantly performs. Nothing to be scared of.

But in this recent post, I discussed the Wall Street Journal's lead staff editorial which expressed concerned for QE2's heretofore unheard of effects on the Fed's balance sheet. It is, actually, a dangerous experiment. Blinder's attempt to gloss over type and maturity of assets is misleading.

He continues in his editorial,

"The next charge is that QE2 will be inflationary. Partly true. The Fed actually wants a bit more inflation because, now and for the foreseeable future, inflation is running below its informal 1.5% to 2% target. In fact, there's some concern that inflation will dip below zero—into deflation. The Fed, thank goodness, is determined to stop that. We don't want to be the next Japan now, do we?"

For a counter argument to this, read posts here, here, here and here regarding recent, true inflation rates among commodities and other economic inputs. Virtually every knowledgeable observer realizes that the Fed has switched inflationary measures in order to avoid admitting how commodities in everyday use, e.g., food, energy, metals, are skyrocketing thanks to two phenomena. One is dollar weakness, the other is increased demand by newly-enriched nations. Blinder is just wrong on this argument, following the Fed's lead and choosing convenient measures of inflation which aren't practical, but allow him to claim we're closer to deflation than inflation.

Blinder finishes his item-by-item defense with this passage,
"The final major charge, levied especially by a number of foreign officials, is that the Fed's new policy amounts to currency manipulation: deliberately lowering the international value of the dollar to gain competitive advantage for U.S. exporters. Is there any truth to this? Not if words have any meaning."

Blinder follows with a conventional description of interest-rate effects on capital inflows versus trade-related inflows thanks to a cheaper dollar, claiming nobody knows which will dominate, so Ben is innocent. I don't think that's an adequate or even relevant defense. Just because Ben isn't sure if the trade flows will win out doesn't mean he's not hoping they will.
Then there was Blinder's attempt to clean up various other troubling comments about QE2,
"More important, the U.S. is a sovereign nation with a right to its own monetary policy. So I was stunned when a top aide to the Russian president suggested that the Fed should consult with other countries before making major policy decisions. Come again? An independent central bank doesn't even consult with its own government.

Finally, there's that old hobgoblin: consistency. Critics tell us that QE2 won't give the U.S. economy much of a boost but will lead to rampant inflation. Both? How does that work?

If buying Treasurys is a weak policy tool, a view with which I have some sympathy, then it shouldn't be very inflationary. There is no magic link between growth of the central bank's balance sheet and inflation. People, businesses and banks have to take actions—like spending more, investing more, and lending more—to connect the two. If they don't, we will get neither faster growth nor higher inflation, just more idle bank reserves.

But I don't run the Fed. Maybe Chairman Bernanke's ideas are better than mine and, in any case, the planned QE2 is far better than doing nothing. It is not a shot in the dark, not a radical departure from conventional monetary policy, and certainly not a form of currency manipulation."

Blinder contends QE2 is weak medicine, so, no problem. He then lambastes those who believe that QE2's effectiveness and damage must be proportional. But that's not at all true. QE2 can easily trigger inflation without doing much in the way of boosting US economic activity. I think the more relevant approach is to ask Blinder to explain why the effects should be equal?

Then Blinder switches gears, and claims that if QE2 doesn't work, all we'll have is idle bank reserves. Here, he ignores the effects of all that money creation on the perceptions of the world's investors on dollar valuation.

Finally, is QE2 really "far better than doing nothing?" This is a peculiarly Keynesian view with which Austrian school economists, including Milton Friedman, would never agree. And it is certainly not the first two of Blinder's last three descriptors. And if it's not the third, it's a pretty good facsimile of it.

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