Two monetarist cheers for Ben Bernanke
Bernanke, despite his mistakes, is one of the great figures of our age
By Ambrose Evans-Pritchard
4:52PM GMT 31 Jan 2014
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Bernanke was entirely complicit in the Fed's tolerance of the sub-prime bubble, and all its linked deformations in leveraged finance. Photo: AP
Let us be clear about the chain of events. Fed chief Alan Greenspan picked him to be a junior governor on the Fed Board after hearing him argue at the Jackson Hole conclave that central banks should not lean against asset booms. They should let the bubble run their course, and "clean up" afterwards. No doubt Bernanke regrets that turn of phrase.
For the next five years or so Bernanke provided an academic and theoretical cover for the Greenspan doctrine. He was more than the Sorcerer's Apprentice. He was entirely complicit in the Fed's tolerance of the sub-prime bubble, and all its linked deformations in leveraged finance.
He stopped publishing the Fed's broad M3 monetary supply data, deeming it primitive nonsense. That was a colossal error. Had he been paying attention to monetary data he would have realized that M3 growth was spiralling out of control at a 15pc rate in the late phase of the boom.
I don't wish to be too harsh on this point since US inflation was otherwise tame and there was little evidence of overheating in the economy. Chinese excess capacity and the global savings glut were by then already casting their pall over the global economy, vastly complicating everything.
Having let the money supply go wild in 2006 to 2007, he then slammed on the brakes, and kept braking even harder into the 2008. That is when his catastrophic blunder occurred. The episode is dissected by the Richmond Fed's Robert Hetzel in the Great Recession and by Tim Congdon in Money in a Free Society, two excellent books arguing that the disaster was the result of monetary policy failure.
Having let the money supply go wild in 2006 to 2007, he then slammed on the brakes, and kept braking even harder into the 2008. That is when his catastrophic blunder occurred. The episode is dissected by the Richmond Fed's Robert Hetzel in the Great Recession and by Tim Congdon in Money in a Free Society, two excellent books arguing that the disaster was the result of monetary policy failure.
The months between March and August 2008 were crucial. By then the M3 and M2 growth rates were collapsing at pace not seen since the 1930s (as this newspaper wrote in July 2008 before the storm broke).
The Fed should have opened the floodgates of monetary stimulus. Instead it panicked because oil prices were soaring towards $148 and because the dollar was in freefall. One Brazilian starlet was even refusing to accept dollars, demanding only euros.
Rather than "looking through" the oil shock -- as Bernanke himself had argued that central banks should do, long before as a Princeton professor -- the Fed began to talk tough, effectively tightening monetary policy by 50 basis points along the futures yield curve.
The European Central Bank threw its own petrol bomb onto the fire in July 2008 by raising rates, even though Italy and Germany were already in recession.
By September 2008 the conflagration had started to engulf Fannie Mae and Freddie Mac, the $5 trillion twin pillars of the US mortgage system. Then it reached Lehman, then AIG, before the Fed acted. There was nothing ineluctable about this. These were unforced policy errors.
Bernanke got religion fast. His academic grounding in the Great Depression of the 1930s alerted him to the disaster ahead. From then he acted with great courage, speed, and foresight.
Quantitative easing was exactly what was needed to break the circuit, and then to offset the violent shock of deleveraging, then later to offset the slower fiscal drag of austerity cuts. It worked well, but not as well as it should have done. Bernanke wasted part of the QE1 effect by buying bonds from the banks, which has no effect on the broad money supply (it boosts the money base, which is another matter).
He stumbled into the right policy with QE2 and QE3, buying bonds from pension funds, insurers, and the like. He was never bold enough to risk direct monetary financing of fiscal policy in the manner of Japan's Takahashi Korekiyo in the 1930s, an approach that would have given QE more traction on the real economy. But that would have been harder to reverse later, and he would have been impeached by the Tea Party Congress if he had dared to try such an experiment.
The damp kindling wood gradually caught fire. The US economy has recovered, even if it is a tepid rebound within a secular depression.
The Bernanke Fed has put jobs above the protection of narrow creditor interests. Its twin mandate of jobs and inflation has proved its value. America's democracy and ruling institutions have weathered another fearsome challenge. The jury is still out on Europe.
So let us celebrate the quiet professor as he steps out of the Marriner Eccles Building and into the instant oblivion that awaits all public officials the moment they lose power. He is one of the great figures of our age.
And besides, life is never easy.
