Why we’re in this mess

Everything you need to know about our current economic mess is contained in the recent Bernanke testimony before Congress.  Not his answers, which were mostly sensible, but the questions.  From the WSJ blog:

Sen. Tom Coburn (R., Okla.) asks whether all the major central banks easing might diminish the benefits and lead to trade protectionism.

“We don’t view monetary policy aimed at domestic goals a currency war,” [Bernanke] says. Easing policy can be “mutually beneficial” to other countries such as China, which depends on domestic demand in the U.S.

It’s a “positive-sum game, not a zero-sum game,” Bernanke says.

Exactly.  Not a zero-sum game.

What would be the effect on markets if the Fed were to liquidate a big part of its holdings?

Bernanke doesn’t have to answer that question as directly as Toomey may have hoped. “We could exit without ever selling by letting it run off,” he says.  In any case, the Fed has said it would sell its balance-sheet holdings “slowly, with lots of notice.”

Bernanke isn’t letting these barbs go easily. Maybe this is what you do in what could be your final year as Fed chairman.

Bernanke takes control to make a broader point about the economy: “There’s no risk-free approach to this situation. The risk of not doing anything is severe as well.”

Exactly.  Doing nothing is a highly risky policy.

Bernanke endorses the Bank of Japan’s new easy money approach. “I think they should try to get rid of deflation. I support their attempts to get rid of deflation.”

Thank God someone in the US government understands that Japan is being hurt by falling NGDP, and that the easier money required to end the deflation will likely lead to a lower nominal exchange rate.  Recall that the Very Serious People in Europe are outraged by Japan’s so-called “easy money” policy.

Bernanke gets hit with this question again: essentially, is the stock market getting bubbly?

“I don’t see much evidence of an equity bubble,” Bernanke says. Earnings are high and equity holders still are being somewhat risk-averse, he says.

Good, but I’d prefer he’d simply said that 1987 proved that massive stock market bubbles don’t matter, not even a tiny, tiny, tiny, tiny bit.

Then things get even worse:

A testy exchange between Sen. Bob Corker (R-Tenn) and Bernanke. Corker says Bernanke has sparked a global currency war and created “faux” wealth. Bernanke says he’s not engaged in a currency war or targeting the currency. Corker says Bernanke is the biggest monetary ‘dove’ since World War II, proud of it and degrading society. Bernanke shoots back that he’s got the best inflation track record among Fed chairman since World War II. Corker says Bernanke is punishing savers with his low interest rate policies and throwing seniors under the bus.

I can forgive Corker for not having read Friedman; for not knowing that low interest rates usually mean money has been tight.  Even for knowing absolutely nothing about what’s happened to Japanese interest rates over the past 20 years, as they’ve followed the deflationary policy the GOP seems to prefer.  But how can Corker not know that Bernanke has presided over the lowest inflation of any Chairman since WWII?  That’s a pretty basic piece of knowledge.

Now consider Bernanke’s response.  A policy of ultra-low inflation during a period of very high unemployment is shameful, and indeed violates the Fed’s mandate to focus on both employment and price stability.  The Fed is supposed to run below average inflation during booms and above average inflation during recessions.  Indeed they are legally required to do so!

So we have Bernanke essentially bragging that he broke the law and helped create mass unemployment, because it’s his only way of defending himself against those Senators who want him to break the law even more egregiously—to create even lower than post-war record low inflation in order to create even higher unemployment.  Despite my sarcasm, I sympathize with Bernanke.  Indeed I probably would have said the same thing.

As I keep repeating, future generations will shake their heads in disbelief when they survey this train wreck.  I used to wonder how policymakers could have been so stupid in the early 1930s.  I will never again ask that question.

PS.  Did anyone demand more monetary stimulus?  Did even one senator show any understanding of what’s going on?  (I didn’t see the full transcript.)

PPS.  I look forward to Bernanke’s memoir, when we find out what he really thinks of our public servants.  Let’s just hope there’s nothing on what he really thinks of our snarky bloggers.



26 Responses to “Why we’re in this mess”

  1. Gravatar of maynardGkeynes maynardGkeynes
    26. February 2013 at 20:13

    What did you think of Elizabeth Warren’s turn at bat? I think she was well-prepared and made a good point about the too big to fail subsidy given to banks. Bernanke’s reply was interesting. He said that the markets are wrong about this, which may come as a shock to those who think that tail-risk is largely out of the picture at this point.

  2. Gravatar of TravisV TravisV
    26. February 2013 at 21:58


    I think Prof. Sumner’s answer would be “it’s complicated.” He thinks that we should actually have no small banks and only big banks that are heavily regulated (like Canada’s system).

    But of course, if Bernanke actually said “who cares about the small banks” in a public testimony, the national outcry would be very counterproductive…..

  3. Gravatar of Ajay Ajay
    26. February 2013 at 22:15

    Chuck Schumer desired monetary stimulus:

  4. Gravatar of Gordan Friedman Gordan Friedman
    26. February 2013 at 22:15

    Elizabeth Warren – Ben Bernanke exchange for reference.


  5. Gravatar of Cameron DeHart Cameron DeHart
    26. February 2013 at 23:02

    For what its worth, I contacted my Senator (Sherrod Brown) about supporting more monetary stimulus a month ago. It doesn’t look like he even spoke during the hearing. Let’s hope some Representatives step up their game on Wednesday.

  6. Gravatar of Benjamin Cole Benjamin Cole
    26. February 2013 at 23:16

    Bernanke could have told Corker that seven of the last nine CPI readings have been flat or down–in fact currently, we are in deflation, as defined by the CPI.

    The pubic, even the cognoscenti, seems oblivious to this. Of course, the PCE deflator is used for serious work.

    Nevertheless, the public knows about the CPI, public office holders understand the CPI somewhat. The last five years on the CPI are the lowest sustained rates of inflation since the early 1950s.

    I do not know why more people have not honked about the CPI showing deflation. As evidenced by Corker, there is a demented yet persistent obsession, an unhealthy fixation, on inflation.

    It may the three most alluring words in the English language are not “I love you,” but, “We must control….”

    Control of inflation, carcinogens, communism, sexism, terrorism etc.

    If you say “we must control” to people, a large segment will become converts and zealots.

    Maybe we should change the language about inflation and deflation. We have to start talking about the “need to control deflation” or “to rout out deflation wherever it lurks,” or the “evils and rot of deflation.”

    Start equating deflation with weakness, corruption and sin—wait, that is what the anti-inflationists do.

    But it works.

  7. Gravatar of Rien Huizer Rien Huizer
    26. February 2013 at 23:31


    An anthropologist might suggest that these two Southern junior senators could be characteristically ignorant, but I do not think these two are all that bad. Coburn is an MD but he has picked up some economic folklore (and an interesting voting record) during his terms in Washington: competitive devaluations lead to bad results (like Roosevelt being successful). Corker was a very successful businessman whose cyclical timing in the construction and real estate industry has been perfect and who survived abrasive political contests with a relatively moderate stance and stayed out of trouble (ie did not get caught for anything) as a mayor and investor. Both men are far removed from the populist economics wing of the GOP. So who knows what the non-moderates might ask or suggest.

    One would expect that their questions were carefully chosen to serve their private positions and hence, probably, representative of positions/concerns their constituents are likely to have. The argument for higher interest rates comes up occasionally in Germany too, especially around the CSU with its large contingent of elderly savers. I guess if the BOJ would rotate the yield curve a bit (to say 3% short term and zero% for five years), and gave Abe credit for the move, that would guarantee the LDP uncontested supremacy or the next 1000 years (or until the population becomes extinct, whatever happens earlier). Why not? Higher rates stand for easier money..Good politics too!

  8. Gravatar of marcus nunes marcus nunes
    27. February 2013 at 02:59

    Maybe Bernanke should have been appointed Treasury Secretary. Likely he would have told the Fed Chairman that he could ‘put the pedal to the metal’ because he (Bernanke) would keep fiscal policy under a ‘tight leash’.

  9. Gravatar of marcus nunes marcus nunes
    27. February 2013 at 03:05

    I was surprised to read that you found Bernanke´s answers “sensible”. I think Congress missed a great opportunity to ‘nail’ Bernanke:

  10. Gravatar of Tom Hannaford Tom Hannaford
    27. February 2013 at 05:01

    Perhaps I’m missing something (I admit, most of my knowledge of economics above econ 101 has been absorbed via most of the blogroll on the side of this page lol), but after reading the stories in recent days detailing the potential difficulties the Fed faces in liquidating its assets in as “safe” a manner as possible I’m still not sure what to think of that aspect of the situation. It seems like there’s a decent argument for and against the notion that it actually matters, but maybe some of y’all can shed a little light on why it actually matters that the Fed might experience some losses in the near future (at least temporarily)? I get that there’s a fiscal aspect to it, but the amounts described seem marginal compared to the effects of lost tax revenue due to poor growth and I’m not really understanding why the Fed can’t tolerate some losses (I guess I’m not seeing how that is going to affect the markets at large, since we’ll all ostensibly be seeing the Fed’s exit strategy coming a mile away barring Ben going “full retard”)…

  11. Gravatar of Master of None Master of None
    27. February 2013 at 06:01

    Our elected officials appear to have fallen sway to the concept of Divine Right, believing that simply being elected grants them the knowledge and wisdom to make decisions and opine on subjects in which they were hitherto oblivious.

  12. Gravatar of Why we’re in this mess | Fifth Estate Why we’re in this mess | Fifth Estate
    27. February 2013 at 06:21

    […] See full story on themoneyillusion.com […]

  13. Gravatar of ssumner ssumner
    27. February 2013 at 06:41

    Maynard, I did not see that part of the testimony.

    TravisV, No, I am not opposed to small banks, I just don’t want to subsidize them. Thus I want to reform FDIC, which shovels lots of money to small bank depositors. I oppose TBTF, but do not want to heavily regulate big banks. I’d prefer smarter regulations–aimed at reducing moral hazard.

    Ajay, Good for Chuck.

    Rien, Since 99.9999% of people are clueless about monetary policy, why would we expect our senators to be different? I think the most plausible explanation is that they simply don’t understand the subject.

    Marcus, Sensible relative to the questions that were asked. Many of the quotes I provided above are things I’ve said in this blog.

    Tom, The “losses to the Fed argument” is a completely phoney issue that I’ve shot down 100 times. I guess I’ll have to do it again. Yes, your instincts are correct.

  14. Gravatar of Saturos Saturos
    27. February 2013 at 06:48

    Floyd Norris has similar comments at the NYT: http://economix.blogs.nytimes.com/2013/02/26/bernanke-by-unemployment-not-so-good/

  15. Gravatar of Morgan Warstler Morgan Warstler
    27. February 2013 at 07:54

    “Doing nothing is a highly risky policy.”


  16. Gravatar of Bernanke knows why ‘currency war’ is good news – US lawmakers don’t | The Market Monetarist Bernanke knows why ‘currency war’ is good news – US lawmakers don’t | The Market Monetarist
    27. February 2013 at 08:09

    […] stole this from Scott […]

  17. Gravatar of dtoh dtoh
    27. February 2013 at 08:19


    The “losses to the Fed argument” is a completely phoney issue.

    From a economic point of view, yes…. but probably not from a political point of view.

    That said, the Fed can just raise required reserves and set a low IOR if they want to avoid a loss.

  18. Gravatar of Michael Michael
    27. February 2013 at 08:41

    What would actually happen if the Fed stopped rolling over its bonds?

  19. Gravatar of John Papola John Papola
    27. February 2013 at 08:53

    At what point is the old trend of NGDP no longer relevant? 5 years after the crash and 5 years in to a new NGDP growth path, is the right monetary policy course really supposed to be returning to the old path? Are wages still “sticky” to a 5 year old trend line?

    It sure seems like there’s a legitimate argument for today’s unemployment being mostly driven by structural Eurosclerosis-style policies. Are there other nominal rigidities that make returning to something closer to the old trend worth doing?

  20. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    27. February 2013 at 09:15

    ‘…FDIC, which shovels lots of money to small bank depositors.’

    Which is exactly what Congressman Steagall intended it to do.

  21. Gravatar of Adam Adam
    27. February 2013 at 09:16

    The only saving grace is that at least the idiocy was entirely on the side of the people who aren’t actually making monetary policy decisions.

    Unfortunately those people do exert pressure on the otherwise mostly sensible guy who does.

  22. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    27. February 2013 at 09:54

    Thanks for the link to Elizabeth Warren’s moment in the sun. She had her lines down, but Ben didn’t let her off easily.

    Hope Simon didn’t have to watch it;


  23. Gravatar of Tom Hannaford Tom Hannaford
    27. February 2013 at 11:19

    Thanks for the info; I’ll have to peruse through the old postings to find a more in depth refutation of the losses argument…

  24. Gravatar of Eliezer Yudkowsky Eliezer Yudkowsky
    27. February 2013 at 19:22

    It actually makes you appreciate that Bernanke is holding the line surprisingly well against vastly greater depths of ignorance. If he were swayed by politicians or overly concerned with his own career, we could easily be in the middle of the next Great Depression right now, instead of the Great Recession that comes from having monetary policy that’s only *slightly* less advanced than the most advanced ideas currently in existence.

    We recently had a conversation at MIRI about what the most impressive example of politicians listening to scientists might be. Our leading contender was the Troubled Asset Relief Program.

  25. Gravatar of TallDave TallDave
    28. February 2013 at 13:05

    I lost what little respect for Warren when she asked why they didn’t take banks to trial. Everyone on the left was very excited, it was a great piece of anti-capitalist demagoguery, but the question was nonsensical — why would you take someone to trial if they capitulated to all your demands?

  26. Gravatar of ssumner ssumner
    28. February 2013 at 16:40

    Saturos, But Norris doesn’t seem to realize that the Fed’s policy contributed to the mess.

    John, You asked:

    At what point is the old trend of NGDP no longer relevant?”

    I’d say right now–it would be a mistake to try to return to the old trend line. But we aren’t even keeping up with the 5% trend rate, we are falling further and further behind. That is a big mistake.

    Eliezer, Good point, although I fear the TARP program distracted them from the real problem.

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