Bernanke´s Failure!

Bernanke´s book Courage to Act was released today. I´m not much curious about the backstage discussion of how best to rescue the financial system or the “excitement” about Lehman because I fear that much of that was a consequence of monetary policy mistakes, so I will mostly want to read about his views on the monetary policy the Fed was pursuing.

I have the feeling he forgot about Friedman´s first and second dictum about what monetary policy can do.

The first and most important lesson that history teaches about what monetary policy can do-and it is a lesson of the most profound importance-is that monetary policy can prevent money itself from being a major source of economic disturbance.

When a Governor of the Board in 2002, Bem Bernanke made a speech at a conference honoring Milton Friedman on the occasion of his 90th birthday. He concludes thus:

For practical central bankers, among which I now count myself, Friedman and Schwartz’s analysis leaves many lessons. What I take from their work is the idea that monetary forces, particularly if unleashed in a destabilizing direction, can be extremely powerful. The best thing that central bankers can do for the world is to avoid such crises by providing the economy with, in Milton Friedman’s words, a “stable monetary background–for example as reflected in low and stable inflation.

Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.

I think Bernanke gave a too narrow interpretation of what was Friedman´s second dictum:

A second thing monetary policy can do is provide a stable background for the economy.

If instead of low and stable inflation he had pursued a stable growth path for nominal spending (NGDP) he would have avoided the crash.

And it´s not that Bernanke did not know that the level of the FF rate (“low” at the time) was not a good indicator of the stance of monetary policy. In 2003 he wrote on the Legacy of Milton and Rose Friedman:

As emphasized by Friedman (in his eleventh proposition) and by Allan Meltzer, nominal interest rates are not good indicators of the stance of policy, as a high nominal interest rate can indicate either monetary tightness or ease, depending on the state of inflation expectations. Indeed, confusing low nominal interest rates with monetary ease was the source of major problems in the 1930s, and it has perhaps been a problem in Japan in recent years as wellThe real short-term interest rate, another candidate measure of policy stance, is also imperfect, because it mixes monetary and real influences, such as the rate of productivity growth

The absence of a clear and straightforward measure of monetary ease or tightness is a major problem in practice. How can we know, for example, whether policy is “neutral” or excessively “activist”?

Ultimately, it appears, one can check to see if an economy has a stable monetary background only by looking at macroeconomic indicators such as nominal GDP growth and inflation

Unfortunately, he preferred to concentrate on inflation, and worse, the headline variety, which was being buffeted by the oil and commodity price shocks!

In looking at this

Courage to Act_1

He missed this

Courage to Act_2

And harvested mayhem!

BB makes me sick!

On the day that his book “Courage to Act” will be released, he writes an op-ed at the WSJ “modestly” titled How the Fed Saved the Economy – Full employment without inflation is in sight. The central bank did its job. What about everyone else?

For the first time in nearly a decade, the Federal Reserve is considering raising its target interest rate, which would end a long period of near-zero rates. Like the cessation of large-scale asset purchases in October 2014, that action will be an important milestone in the unwinding of extraordinary monetary policies, adopted during my tenure as Fed chairman, to help the economy recover from a historic financial crisis. As such, it’s a good time to evaluate the results of those measures, and to consider where policy makers should go from here.

He chooses to compare with Europe:

It is instructive to compare recent U.S. economic performance with that of Europe, a major industrialized economy of similar size. There are many differences between the U.S. and Europe, but a critical one is that Europe’s economic orthodoxy has until recently largely blocked the use of monetary or fiscal policy to aid recovery. Economic philosophy, not feasibility, is the constraint: Greece might have limited options, but Germany and several other countries don’t. And the European Central Bank has broader monetary powers than the Fed does.

Europe’s failure to employ monetary and fiscal policy aggressively after the financial crisis is a big reason that eurozone output is today about 0.8% below its precrisis peak. In contrast, the output of the U.S. economy is 8.9% above the earlier peak—an enormous difference in performance. In November 2010, when the Fed undertook its second round of quantitative easing, German Finance Minister Wolfgang Schäuble reportedly called the action “clueless.” At the time, the unemployment rates in Europe and the U.S. were 10.2% and 9.4%, respectively. Today the U.S. jobless rate is close to 5%, while the European rate has risen to 10.9%.

And wraps up with a bromide:

It is encouraging to see that the U.S. economy is approaching full employment with low inflation, the goals for which the Fed has been striving. That certainly doesn’t mean all is well. Jobs are being created, but overall growth is modest, reflecting subpar gains in productivity and slow labor-force growth, among other factors. The benefits of growth aren’t shared equally, and as a result many Americans have seen little improvement in living standards. These, unfortunately, aren’t problems that the Fed has the power to alleviate.

Noah Smith tweets a Q&A at the LSE in 20013:

LSE: What should economists and policymakers learn from the financial crisis?

Ben Bernanke: Well I was thinking about Olivier [Blanchard’s] comments. Certainly I agree that bringing financial markets into macroeconomics is obviously critical. I think back at the work I did–that I was involved with academically–and in some ways we had taken steps in that direction. I did work thirty years ago on the role of credit in the Great Depression. We had done work on the financial accelerator, and how financial factors could play a role in exacerbating a downturn, and so on.

But the point that Olivier made was very important: the details really matter. Here is a fundamental question: the decline in wealth associated with the tech bubble bursting [in 2001] and the decline in wealth associated with the decline in house prices as of, say, late 2008 was about the same–maybe even more on the [2001] stock [market] bubble. From a standard macro model or even one elaborated with financial factors, you would not have really thought that the housing bubble would have been more damaging than the stock bubble. Now the reason it was more damaging, of course, as we know now, is that the credit intermediation system, the financial system, the institutions, the markets, were far more vulnerable to declines in house prices and the related effects on mortgages and so on than they were to the decline in stock prices. It was essentially the destruction of the ability of the financial system to intermediate that was the reason the recession was so much deeper in the second than in the first. To understand that, you really have to know the details of how banks and individual institutions are exposed to housing and to mortgages, in ways that the institutions themselves did not fully understand at the time.

Apparently Bernanke missed out the fact of utmost importance in the 1930s – the very deep drop in nominal spending (NGDP) – and let it do a “moderated replay” in 2008-9! Moderated because he knew (from his research) that he couldn´t let the financial system implode. In 1987-88, nothing of the sort happened!

Bernanke´s Baseball Metaphor?

His latest post:

Saturday’s game also reminded me of one of the reasons that I like baseball so much. No other sport provides such a detailed record of performance, covering thousands of games and players back to the nineteenth century. That means that every game takes place in a rich historical context. In that context, Max Scherzer wasn’t pitching against the Pittsburgh Pirates; he was pitching against a standard of achievement established over decades. Thus, a one-sided baseball game on a hot and humid Saturday afternoon in Washington became a game that I and the other 41,000 fans there will always remember.

Bernanke´s “monetary policy pitch” was also memorable, but for negative reasons! He´s the “post-war champion” in the “worst pitch in the Nominal Spending category”!

BBs MetaphorThe outcome: Little real growth, low employment and below target inflation. A “triple crown” achievement!

Ben Bernanke 2002: We Need You

A Benjamin Cole post

“In practice, the effectiveness of anti-deflation policy could be significantly enhanced by cooperation between the monetary and fiscal authorities. A broad-based tax cut, for example, accommodated by a program of open-market purchases to alleviate any tendency for interest rates to increase, would almost certainly be an effective stimulant to consumption and hence to prices…A money-financed tax cut is essentially equivalent to Milton Friedman’s famous ‘helicopter drop’ of money.” Ben Bernanke-2002

I have plugged for QE-offset or -financed tax cuts for a long time. I did not know that former Fed Chairman and now multi-millionaire consultant Ben Bernanke also explicitly believed in the same thing. (My favorite is a FICA tax holiday, offset by $80 billion a month of Fed bond buying, and the purchased bonds placed in the Social Security and Medicare trust funds).

Today in the U.S. we have a sluggish economy marked by weak hiring and below-target inflation (a target that is too low anyway). We are a recession away from stumbling deep into ZLB-land, from which no modern nation yet has ever returned.

Bernanke 2002, we need you.

Greece

The situation in Greece, of course, is far worse. There, unemployment is about 25%, married to deflation. Whoever deserves blame, the point is Europe and Greek leadership are wrecking a nation and promoting extremism.  (I salute the Greek people for eschewing most hate groups. But for how long?)

The ECB-IMF is screaming for a Greek balanced budget. The Greeks are evidently incapable of that (like Americans, btw).

Obviously, Greece should exit the EU-ECB, hold the line on spending as much as possible, and print money to balance their budget. In a sense, money-financed tax cuts, just of the sort Ben Bernanke has advised for deflations. Set taxes at 100% of outlays, and then grant a 10% tax cut.

The pinch-faced money ascetics are, in general, a comfortable lot eager for others to belt-tighten.

But the Greek people are one-quarter unemployed. They need a macroeconomic policy that gets them back to full employment, with robust economic growth.

If not my way, then what have you got?

Bernanke´s “amnesia” caused the depression

Here´s what Bernanke knew long before becoming Fed chairman:

Bernanke (with Gertler & Watson) 1997 (on oil shocks)

Substantively, our results suggest that an important part of the effect of oil price shocks on the economy results not from the change in oil prices, per se, but from the resulting tightening of monetary policy. This finding may help to explain the apparently large effects of oil price changes found by Hamilton and many others.

Bernanke 1999 (on Japan)

Needed: Rooseveltian  Resolve

Franklin D. Roosevelt was elected President of the United States in 1932 with the mandate to get the country out of the Depression. In the end, the most effective actions he took were the same that Japan needs to take—- namely, rehabilitation of the banking system and devaluation of the currency to promote monetary easing. But Roosevelt’s specific policy actions were, I think, less important than his willingness to be aggressive and to experiment—-in short, to do whatever was necessary to get the country moving again. Many of his policies did not work as intended, but in the end FDR deserves great credit for having the courage to abandon failed paradigms and to do what needed to be done.

Bernanke 2003 (on Friedman)

As emphasized by Friedman (in his eleventh proposition) and by Allan Meltzer, nominal interest rates are not good indicators of the stance of policy, as a high nominal interest rate can indicate either monetary tightness or ease, depending on the state of inflation expectations. Indeed, confusing low nominal interest rates with monetary ease was the source of major problems in the 1930s, and it has perhaps been a problem in Japan in recent years as well. The real short-term interest rate, another candidate measure of policy stance, is also imperfect, because it mixes monetary and real influences, such as the rate of productivity growth

The absence of a clear and straightforward measure of monetary ease or tightness is a major problem in practice. How can we know, for example, whether policy is “neutral” or excessively “activist”?

Ultimately, it appears, one can check to see if an economy has a stable monetary background only by looking at macroeconomic indicators such as nominal GDP growth and inflation

The charts show the facts he confronted and actions taken after becoming chairman.

Amnesia_1

Amnesia_2

In June 2008 he “forgot” about his views on interest rates as an indicator of monetary policy and thought monetary policy was easy because the FF rate was “only” 2%! At that time the FOMC let it be known that the next rate move would likely be UP!

He “forgot” that the impact of an oil shock in the real economy resulted from the tightening of monetary policy, the stance of which was better indicated by nominal spending growth rather than the interest rate.

When the crash materialized due to the errors above, he “forgot” to adopt the “Rooseveltian Resolve” he had suggested to the BoJ!

PS: Scott Sumner once again reminds us that “Inflation doesn´t matter (NGDP growth does)

Bernanke takes on John Taylor and his (namesake) rule

I think Bernanke is still “taking it easy” in his blogging. I hope he´s “warming up” to what really matters, i.e. explaining why the Fed bungled in 2008!

Bashing the Taylor-rule is easy, even if, like me, you´ve never been a central banker. I did that in a number of posts (two examples, here and here).

In the following paragrah, BB disappoints, and indicates that the bad things that happened after 2008 were not the fault of the Fed. In fact, according to him, the Fed came out ahead of the pack!

As John points out, the US recovery has been disappointing. But attributing that to Fed policy is a stretch. The financial crisis of 2007-2009 was the worst at least since the Depression, and it left deep scars on the economy. The recovery faced other headwinds, such as tight fiscal policy from 2010 on and the resurgence of financial problems in Europe. Compared to other industrial countries, the US has enjoyed a relatively strong recovery from the Great Recession.

Ben (“Blade Runner”) Bernanke

The “Blade Runner” comes from his talk in the IMF´s “Monetary Policy in the Future” panel.

Scott Sumner wrote that

this is the post we’ve all been waiting for, isn’t it?  Ben Bernanke has a post discussing options for monetary reform. As you’d expect, it’s a really well thought out post—first rate.  And as you’d expect, I am still able to find a few points where I disagree. “

That was certainly not the post I was waiting for. I think Patrick Sullivan is more on “target” when he writes in Bernanke? … Bernanke?:

So, finally, the most authoritative scholar/policy expert on monetary policy–in a blogpost titled Monetary Policy for the Future–is going to get around to answering the Market Monetarists? No, that was just a feint;

Some of these approaches have the advantage of helping deal with the zero-lower-bound problem, at least in principle. My colleagues at the Fed and I spent a good deal of time during the period after the financial crisis considering these and other alternatives, and I think I am familiar with the relevant theoretical arguments.

Yes…yes…

 Although we did not adopt one of these alternatives, I will say that I don’t see anything magical about targeting two percent inflation.

What he thinks was (and is) magical is Inflation Targeting (2% is just the conventional point number or, in some cases the mid-point of a narrow band). A little over 15 years ago, long before becoming a Fed Governor and after editing the “Inflation Target Bible”, Bernanke (with Mishkin and Posen, his co-editors in the “Bible”) wrote an op-ed called “What Happens when Greenspan is Gone?”:

U .S. monetary policy has been remarkably successful during Alan Greenspan’s 121/2 years as Federal Reserve chairman. But although President Clinton yesterday reappointed the 73-year-old Mr. Greenspan to a new term ending in 2004, the chairman will not be around forever. To ensure that monetary policy stays on track after Mr. Greenspan, the Fed should be thinking through its approach to monetary policy now. The Fed needs an approach that consolidates the gains of the Greenspan years and ensures that those successful policies will continue; even if future Fed chairmen are less skillful or less committed to price stability than Mr. Greenspan has been.

We think the best bet lies in a framework known as inflation targeting, which has been employed with great success in recent years by most of the world’s biggest economies, except for Japan. Inflation targeting is a monetary-policy framework that commits the central bank to a forward-looking pursuit of low inflation; the source of the Fed’s current great performance; but also promotes a more open and accountable policy-making process. More transparency and accountability would help keep the Fed on track, and a more open Fed would be good for financial markets and more consistent with our democratic political system.

As our research on the use of this approach around the world documents, successful inflation targeting requires that the central bank and elected officials make a public commitment to an explicit numerical target level for inflation (usually around 2%), to be achieved over a specified horizon (usually two years). Equally important, the central bank must agree to provide the markets and the public with enough information to evaluate its performance, and to understand its reasoning when policy and inflation deviate from the long-run goal–as they inevitably will at times.

What I really want is for him to explain the reasoning behind, not the deviation of policy and inflation from the long-run goal, but the complete failure of policy in keeping inflation anywhere near close to the long-run goal, and the utter loss of the nominal stability that had characterized the previous 20 years!

Update: After accepting a position as adviser to Hedge Fund Citadel, it´s unlikely Bernanke will “explain” anything:

Former Federal Reserve Chairman Ben Bernanke, a key architect of the federal government’s rescue of the financial system, is joining Chicago hedge fund Citadel LLC as a senior adviser.

Mr. Bernanke will consult on developments in monetary policy, financial markets and the global economy, Citadel said in a release. “His insights on monetary policy and the capital markets will be extremely valuable to our team and to our investors,” said Citadel founder and chief executive Ken Griffin in the statement.

 

Ben is still in ‘easy blogging mode’

After a four-part series on low interest rates (GSG & SS), a detour on monetary policy and financial stability, Bernanke has two-part series series on Germany´s trade surplus and wages.

This last is not only obvious but what everyone who´s familiar with the Meade-Swan Diagram knows.

When will he get to the difficult part, which is explaining what led him and the FOMC to make so many costly mistakes in 2007/08?

Ben, we’re eager to learn!!

Ben brags and we´re easily duped!

After writing yesterday “Bernanke Brags”, today I felt that I was not exaggerating because the release of his memoirs later this year was announced. It´s the most self-serving title of a book that I´ve come across:

In THE COURAGE TO ACT, Ben Bernanke pulls back the curtain on the tireless and ultimately successful efforts to prevent a mass economic failure. Working with two U.S. presidents and two Treasury secretaries, Dr. Bernanke and his colleagues used every Fed capability, no matter how arcane, to keep the U.S. economy afloat. From his arrival in Washington in 2002 and his experiences before the crisis to the intense days and weeks of the crisis itself, and through the Great Recession that followed, Dr. Bernanke gives readers an unequaled perspective on the American economy. This narrative will reveal for the first time how the creativity and decisiveness of a few key leaders prevented an economic collapse of unimaginable scale.