Damned if he does; damned if he doesn’t
This week, Ben Bernanke got the nod for another stint as head of the world’s most important central bank. Yes, he completely misunderstood the implications of the hugely negative US trade balance, believing that America did the world a favor by spending its “global saving glut.” And, yes, he missed the approach of the biggest financial disaster in three generations. Then, when it arrived, he mistook it for a routine recession, until finally, panicked by the collapse of Lehman Bros., he insisted that Congress pass a $750 billion spending bill – or “we may not have an economy on Monday.”
But except for things that really matter, he’s been a pretty good Fed chief. Besides, he has the right credentials. He was a professor of economics at Princeton and holds a Ph.D. from MIT – just like the most recent Nobel Prize winner in economics, Paul Krugman.
The United States has just averted the Second Great Depression, say the papers. “What saved us?” asks Krugman in a recent New York Times editorial. “Big government,” is his answer. Specifically, the big government of Ben Bernanke.
But the ghost of Milton Friedman haunts the central bank. Bernanke borrowed a phrase from Friedman, saying he’d even “drop money from helicopters,’ if necessary, to prevent deflation. This led to one of the surest trades of the Bubble Era was the so-called on the ‘Bernanke Put.’ Investors thought they could count on him. Buy stocks. If they went down, Ben Bernanke would make sure you didn’t lose. He’d add liquidity until the market bounced back. But the Bernanke Put trade went bad in ’07. The market fell. Ben Bernanke added liquidity. But so far, stocks have yet to regain 50% of what they lost. Meanwhile, consumer prices are falling. And yet, he does not drop money from helicopters. Why not?
Few people would have more authority on the subject than the group gathered at the Beverly Hilton in Los Angeles earlier this year. Michael Milken, the Junk Bond King, gathered them thither and picked up the tab for Gary Becker, Myron Scholes, and Roger Myerson…each of their names is preceded by ‘Nobel Prize winner.’ With that kind of brainpower on hand, you’d think you could come up with a good explanation. But the best they could do was a simple analogy. Gary Becker (Nobel awarded ’92) took the Friedman line; he argued that by putting out the little forest fires, the recessions of the ’90s and the early ’00s, the feds inadvertently created the conditions for an even greater conflagration. Instead of burning off the underbrush, the tinder built up until a huge blaze was inevitable. And in a speech honoring Friedman, Bernanke accepted Friedman’s criticism of the Fed in the ’30s. Yes, Bernanke admitted, the Fed made mistakes; but we won’t do it again, he said. The burden of today’s rumination is that he was wrong; he will do it again.
“Inflation is always and everywhere a monetary phenomenon,” said Friedman. But deflation doesn’t seem to be a monetary phenomenon at all. Despite huge inputs of new money from the Fed, prices are still going down. The Fed’s balance sheet more than doubled in the last 18 months. It will probably double again – to $4 trillion – before Bernanke’s next term is over.
Friedman won a Nobel Prize for his work. And he drew around him a community of scholars that won so many Nobel Prizes they ran out of room in the University of Chicago trophy cabinet. But it only makes you wonder about the Nobel committee. Friedman’s acolytes won their prizes for elaborating a series of mathematical proofs for things that were either self-evident or self-evidently absurd. Most of them were later shown to be wrong, irrelevant or misleading. Modern Portfolio Theory, Black-Scholes Option Pricing Model, Dynamic Hedging – the farther afield the scholars went, the more they lost touch with home. The more scientific their work became, the more it resembled alchemy or phrenology.
Friedman’s work itself was flawed in the same way. The general principle was correct – that the government that governs the markets least governs best. But when he got into the mechanics of ‘monetarism,’ he got lost. He believed that if the Fed kept its eye on the money supply; the free market would take care of everything else. But the free market didn’t take of everything, at least not as people hoped. Economist Murray Rothbard explained why in 1971. You cannot expect the free market to function perfectly if you leave in the hands of the government the power to control money. Either markets are free or they aren’t, was Rothbard’s point. If they’re not free, you can’t blame freedom when they fail.
But free market economists are now blamed for everything. The free-market Chicago boys are out. The MIT crowd is in. And investors are buying the Bernanke Put again, confident that the Fed chief will keep pushing money into the system and stocks will continue rising. But Ben Bernanke, for all his bluster, is a victim of the trade. Everyone knows what he is up to. They can’t help but look ahead and see where it leads.
As soon as Bernanke starts his helicopter engines, bond buyers get out their missiles; the Chinese – the biggest single customer for US debt – have warned that they will shoot him down. What can Bernanke do? He is damned if he doesn’t. But even more damned if he does. He can’t guarantee increases in either CPI or stocks. All he guarantees is that Big Government will play a larger role in the economy…and that Milton Friedman’s history of the Great Depression will turn out to be prophecy:
“The Fed was largely responsible for converting what might have been a garden-variety recession… into a major catastrophe…”
Ultimately, Bernanke does what his predecessors at the Fed did in the ’30s…and what the Japanese did in the ’90s. He hesitates. He makes mistakes.
And he wonders why he took the damned job in the first place.
Enjoy your weekend,
The Daily Reckoning
Since founding Agora Inc. in 1979, Bill Bonner has found success in numerous industries. His unique writing style, philanthropic undertakings and preservationist activities have been recognized by some of America's most respected authorities. With his friend and colleague Addison Wiggin, he co-founded The Daily Reckoning in 1999, and together they co-wrote the New York Times best-selling books Financial Reckoning Day and Empire of Debt. His other works include Mobs, Messiahs and Markets (with Lila Rajiva), Dice Have No Memory, and most recently, Hormegeddon: How Too Much of a Good Thing Leads to Disaster. His most recent project is The Bill Bonner Letter.
If they had let the chips fall where they may, all his friends in high positions would be broke and out of jobs, the rich have been bailed out for a few months at the expense of us all. The market (i mean the real market, not fake federal wall street market will prevail) will end up taking us all down with the rich A$$holes by the death of the dollar! I want justice, if i have no money or future job prospects when the market dies and we finally get what we have coming i will be leading the charge for JUSTICE!!!!! Only three things are true in this world, right, wrong, and punishment!
Tron “Only three things are true in this world, right, wrong, and punishment!”
You forgot truth itself. There is no force people fear and thus avoid more than the truth, the truth and nothing but the truth. Which is, by the way, the only thing which makes live worth living, nowadays.
“But except for things that really matter, he’s been a pretty good Fed chief.”
Substitute the second part of this sentence with “she’s been a pretty good wife” and how come I feel it is still true?
Thanks for your insights. BTW, this sentence in your profile: “Both works have been critically acclaimed and internationally.” is not grammatically correct.
Tron, Chairman O is working night and day. even while on vacation, to bring everything crashing down. When it happens and your group starts running around seeking “Justice!”, the Chairman’s Domestic Military Force, which he has said…is necessary for the country,will be waiting with their fingers on the triggers. Sorry.
REWARDING FAILURE is new American policy. Company has a loss? No problem, give the CEO big bonus. Company ships jobs overseas? No problem, give this company tax breaks. Bank fails? No problem, taxpayers (with no jobs) will bail them out. Government has no money? No problem, Bernanke will print some more.
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