Been Bernanke's Tool Shed

Former Chairman Bernanke says Fed Has Many Tools to Deter Recession.

In a paper presented at a conference in San Diego on Saturday, Mr. Bernanke said asset purchases and public communication—tools that he largely pioneered during the financial crisis—would be effective in jolting the economy in a downturn.

“It has become evident that the costs and risks attributed to the new tools, when first deployed, were overstated,” he said. “The case for adding the new tools to the standard central bank toolkit thus seems clear.”

More Tool Nonsense

Bloomberg adds these important detail regarding Fed Tools.

“Low inflation can be dangerous,” Bernanke wrote in his blog. “Consistent with their declared ‘symmetric’ inflation targets, the Federal Reserve and other central banks should defend against inflation that is too low as least as vigorously as they resist inflation that is modestly too high.” 

If the equilibrium rate is much below that, as some Fed research has suggested, then QE and forward guidance won’t be sufficient to fight off a downturn. “In that case, other measures to increase policy space, including raising the inflation target, might be necessary,” he said.

Got That?

Bernanke says that forwards guidance won't work if the neutral rate is below 2%.

Amusingly, his solution is to raise forward guidance.

Dear Mr. Bernanke

Please do yourself a favor and stop making a fool out of yourself.

For starters, let me point out it was indeed impossible to unwind the Fed's balance sheet. How far did you get? And what is the Fed doing now?

Secondly, you would not know inflation if if jumped up and spit you in the eye. You and your group-think buddies never consider asset bubbles as inflation.

Ben Bernanke Why Are We Still Listening to This Guy?

CNBC: Tell me, what is the worst-case scenario? We have so many economists coming on our air saying ‘Oh, this is a bubble, and it’s going to burst, and this is going to be a real issue for the economy.’ Some say it could even cause a recession at some point. What is the worst-case scenario if in fact we were to see prices come down substantially across the country?

BERNANKE: Well, I guess I don’t buy your premise. It’s a pretty unlikely possibility. We’ve never had a decline in house prices on a nationwide basis. So, what I think what is more likely is that house prices will slow, maybe stabilize, might slow consumption spending a bit. I don’t think it’s gonna drive the economy too far from its full employment path, though.

Bernanke in His Own Words

Also consider Bernanke: In His Own Words

  • February 15, 2007: Chairman Bernanke said: "Overall economic prospects for households remain good. The labor market is expected to stay healthy. And real incomes should continue to rise. The business sector remains in excellent financial condition."
  • March 28, 2007: Chairman Bernanke said: “The impact on the broader economy and financial markets of the problems in the subprime markets seems likely to be contained.”
  • May 17, 2007: Chairman Bernanke said: “We do not expect significant spillovers from the subprime market to the rest of the economy or to the financial system.”
  • February 27, 2008: Chairman Bernanke said: "By later this year, housing will stop being such a big drag directly on GDP … I am satisfied with the general approach that we’re currently taking."
  • February 28, 2008: Chairman Bernanke said: “Among the largest banks, the capital ratios remain good and I don’t expect any serious problems … among the large, internationally active banks that make up a very substantial part of our banking system.”
  • June 9, 2008: Chairman Bernanke said: “The risk that the economy has entered a substantial downturn appears to have diminished over the past month or so.”
  • July 16, 2008: Chairman Bernanke said that Fannie Mae and Freddie Mac are “adequately capitalized” and “in no danger of failing.” Since then, Fannie Mae and Freddie Mac have received a $200 billion bailout and have been taken over by the federal government.

Fed Misunderstands Inflation

The Fed remains on a foolish mission to achieve 2% inflation.

In reality, the Fed produced massive inflation but does not know how to measure it.

Inflation is readily see in junk bond prices, home prices, equity prices, and credit expansion.

Note that small credit contraction in 2008-2010. Recall the 'Great Recession" damage that accompanied it.

I do not expect a repeat on that scale, all at once. But I do expect a prolonged period of credit stagnation as retiring boomers start to worry about their retirement. All it will take to set the wheels in motion is a prolonged downturn in the equity markets.

Economic Challenge to Keynesians

Of all the widely believed but patently false economic beliefs is the absurd notion that falling consumer prices are bad for the economy and something must be done about them.

My Challenge to Keynesians “Prove Rising Prices Provide an Overall Economic Benefit” has gone unanswered.

BIS Deflation Study

The BIS did a historical study and found routine deflation was not any problem at all.

“Deflation may actually boost output. Lower prices increase real incomes and wealth. And they may also make export goods more competitive,” stated the BIS study.

It’s asset bubble deflation that is damaging. When asset bubbles burst, debt deflation results.

Deflationary Outcome

The existing bubbles ensure another deflationary outcome.

So prepare for another round of debt deflation, possibly accompanied by a lower CPI especially if one accurately includes home prices instead of rents in the CPI calculation.

Central banks’ seriously misguided attempts to defeat routine consumer price deflation is what fuels the destructive asset bubbles that eventually collapse.

For a discussion of the BIS study, please see Historical Perspective on CPI Deflations: How Damaging are They?

Mike "Mish" Shedlock

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