A Dispirited Fed Chairman Emerges From Jackson Hole

This article originally appeared in the Daily Capitalist.


 "[M]ost of the economic policies that support robust economic growth in the long run are outside the province of the central bank." — Fed Chairman Ben Bernanke.

A thoroughly chastened and discouraged Fed Chairman Ben Bernanke gave his annual speech last Friday at the Fed conference in Jackson Hole, Wyoming. After reading this year's speech, and then re-reading last year's speech, I found his tone gloomy and dispirited. This is a far cry from the younger, more confident Ben Bernanke who in 2002 told Milton Friedman at his 90th birthday party that Milton was right about the Fed causing the Great Depression and "we won't do it again." Of course Milton was right about the Fed but for the wrong reasons, which could be part of our problem.

If you have followed Bernanke's speeches over the years, at least since the Crash of '08, you will get a flavor of the man. Like all Chairman his tone has to be sober, reservedly confident, and in control. Unlike The Oracle, Chairman Alan Greenspan, who gave little clarity or direction at all, Dr. Bernanke has tried to be more "transparent" in communicating Fed policies. It is my impression that while he has tried to exude confidence, he is now clearly discouraged. As well he should, since  none of the Fed's "suite of tools" have worked as intended and almost every forecast the Fed has given since the Crash has been wrong.

This malaise seems to have infected the leaders of other central banks as well as they convened with the Chairman last weekend. Perhaps there is something in the air at Jackson Hole.

Dr. Bernanke is always quick to remind us that the actions of the Fed were responsible for saving the world and averting disaster at the critical moment during the "Panic." It got him on the cover of Time. The only problem is that he has no way to prove that. The few papers I have seen on the topic (Blinder& Zandi; Brave and Genay; Gagnon, Raskin, Remache & Sack) have not been very convincing. Of course our own David Stockman has plenty to say about that topic (here and here).

If we even give him that point for the sake of argument, then nothing since then has worked. It's got to be discouraging for him. 

This latest speech is Exhibit No. 1.; he announces basically nothing new. It is what he didn't announce that was significant, much to the regret of an anxious Wall Street.

What has changed is his tone. Here are some quotes I picked out of this year's and last year's Jackson Hole speeches to give a comparison in his tone and outlook. I don't think I'm cherry-picking comments, but these quotes do illustrate my point:

I will let you go back and read all the forecasts made last year that were wrong, but here is an example: "Despite the weaker data seen recently, the preconditions for a pickup in growth in 2011 appear to remain in place."  I need not remind you that industrial production has fallen for the past 13 months. Also recall that the big fear last year was deflation and Dr. Bernanke opened the door to QE2. Their one "triumph" over the year: they licked the deflation thing – July 2011 CPI +3.6% and PPI +7.2%. 

This year Dr. Bernanke expressed the Fed's dismay for so badly misjudging the economy and the forces behind our boom and bust: "we have learned that the recession was even deeper and the recovery even weaker than we had thought." That kind of misjudgment is what destroy economies.

It gets worse though.

The Fed has long maintained, and Dr. Bernanke reiterates it in this speech, that the cause of the recession was the financial "meltdown." That is akin to saying the sickness of our patient is due to the fever rather than its cause. The Fed as an institution has no clue why we have economic malaise. If it did perhaps there is something they could do to help us recover. 

What caused our recession/depression is the Fed itself. By manipulating the money supply they create cycles that lead to false booms based on money steroids, and we go bust when the money drug is withdrawn. The result is a huge supply of things people don't want (this time, houses and commercial real estate) and the burden of debt. This is the Forever history of the boom-bust cycle. This is something the Austrians figured out a long time ago (Mises, Theory of Money and Credit, 1912).

Yet Dr. Bernanke, after all the Fed's failures,  says ingenuously:

The Federal Reserve has a role in promoting the longer-term performance of the economy. Most importantly, monetary policy that ensures that inflation remains low and stable over time contributes to long-run macroeconomic and financial stability. Low and stable inflation improves the functioning of markets, making them more effective at allocating resources; and it allows households and businesses to plan for the future without having to be unduly concerned with unpredictable movements in the general level of prices. The Federal Reserve also fosters macroeconomic and financial stability in its role as a financial regulator, a monitor of overall financial stability, and a liquidity provider of last resort.

Ignore for the moment that this sounds exactly like central economic planning. This statement is exactly the opposite of what they are achieving. 

Here though, is the frustrating part for Dr. Bernanke personally:

Normally, monetary or fiscal policies aimed primarily at promoting a faster pace of economic recovery in the near term would not be expected to significantly affect the longer-term performance of the economy. However, current circumstances may be an exception to that standard view ...

Notwithstanding this observation, which adds urgency to the need to achieve a cyclical recovery in employment, most of the economic policies that support robust economic growth in the long run are outside the province of the central bank.

I would like to think this is a revelation by Dr. Bernanke, leading him to question his econometric neo-Keynesian-Monetarism, but instead he has concluded that "economics" just doesn't work this time.  He acknowledges that "normally" economies can recover by themselves, which they do. He is puzzled though why this "virtuous circle" of restoration is not occurring now. It is "unusual" he says. It is unusual if you don't understand why it's happening.

The rest of his speech is devoted to chastising our politicians for being fiscally irresponsible.

We are witnessing the failure of contemporary economics on a grand scale. These policies are being played out on the worldwide stage much to the same result. Europe is experiencing a culmination of years of failed policies. 

What concerns me greatly is the next step. It doesn't look likely that the Fed will embrace Austrian theory economics.

Instead they will try the same things again. ZIRP has been continued to 2013. Perhaps the Fed will reduce interest on excess reserves, or not pay interest at all, in order to encourage banks to lend. Perhaps it will pursue "Operation New Twist" and roll its portfolio over into even longer term maturities. Perhaps it will reduce bank reserve requirements temporarily (assuming it could get by Dodd-Frank and Basel III). 

Then there is QE3, more monetary stimulus through direct injections of cash into the financial markets.

If there is one thing that Dr. Bernanke believes in it is his Monetarist view of the Great Depression. That view says the Fed caused the depression because it reduced money supply which dried up credit. The other view that Dr. Bernanke believes, a neo-Keynesian view, is that by pushing money into the economy in times of a "liquidity trap" people will spend the money, stimulate new economic activity, and thus, a recovery. Dr. Bernanke understands that QE is a last option monetary weapon and that it should not be overused, lest "inflation" get out of hand. Presently, in the view of the Fed, "inflation" has been moderate. Thus there should be no great harm from a bit more "inflation" since quantitative easing will stimulate growth. By this reasoning there is no reason to not do more quantitative easing.

The next step after "dispirited" is desperation. It is our belief that the economy will continue to stagnate with creeping price inflation. It is difficult to predict how long this period will continue, but we look to things like industrial production, manufacturing, money and credit, and the real estate markets to give us an indication of the path of economic growth. Presently these indicators are negative in our book; the economic forces that would allow recovery are moving too slowly.

What this means is that during the presidential election cycle, politically sensitive economic indicators such as unemployment will remain negative. This will result in a lot of pressure on the Fed and Dr. Bernanke to "do something." Like all former Fed Chairmen, it will be hard for Dr. Bernanke to resist these calls from politicians. He will earn his moniker as "Helicopter Ben" and unleash more quantitative easing, a dangerous and regressive policy. Like most drugs it becomes less effective over time. It will further destroy real capital and delay recovery.