Berating Bernanke - Or Sympathy For The Devil?

Includes: TIP, TLH, TLT
by: Scott Sumner

The Atlantic has a new article on Bernanke (by Roger Lowenstein) entitled “The Villain.” The article itself praises Bernanke, saying the criticism from both the left and the right is unfair.

Matt Yglesias takes issue with Lowenstein: No Mercy For Ben Bernanke

Ryan Avent has a good post that provides the following quotation from the Lowenstein article:

This might seem to support Krugman’s thesis that Bernanke would like to boost inflation but has chickened out. But after talking with the chairman at length (he was generally not willing to be quoted on this issue), I think that, although Bernanke appreciates the intellectual argument in favor of raising inflation, he finds more compelling reasons for not doing so. First is the fear that inflation, once raised, could not be contained.

Does Bernanke really believe this? I doubt it. Consider the following quotation, also from the Lowenstein article:

Though he recognizes the potential for inflation, he told 60 Minutes in December 2010 that he was “100 percent” certain of his ability to control it (a surprising, and troubling, certitude for a normally humble banker).

That’s the Bernanke that I favored for Fed chair back in 2006. And since I’ve been so tough on him in this blog, let me say something good for a change. I believe that Bernanke has come to the realization that if the US is going to get a robust recovery, we will need a bit higher inflation. And I think this is starting to occur. The “low rates until 2014″ policy is pretty meaningless as officially stated, but in my view the markets are able to read between the lines, and see that Bernanke is actually signaling; “we will hold rates near zero at levels of inflation and real growth that would have normally triggered rate increases.” I agree with those (Ryan Avent?) who say the policy is neither fish nor fowl. It’s not an unconditional commitment. But it’s also not merely a commitment to hold rates at zero until 2014 unless the Fed model would normally call for a rate increase. And I think markets have figured this out. That’s why stocks have been strong in recent months, and 10 year bond yields are rising fast. And yes, higher interest rates really do mean easier money, and are thus good news.

The TIPS spreads have risen to well over 2% on the 5 year and over 2.4% on the 10 year Treasury. Those numbers may overstate actual inflation (according to the Cleveland Fed), but the trend is in the right direction.

So for now we seem to have turned a corner on monetary policy. There is some risk that the Fed would tighten again during the summer (as during the summers of 2010 and 2011) if oil prices soared, but overall this is the first time in 4 years where I’ve felt that monetary policy is merely “too tight” not “much too tight.”

Alternatively we are no longer digging sideways; we actually seem to moving toward above trend growth in NGDP. (That’s partly because the trend rate seems to have fallen below 4%.) I’d still favor QE3, as it would speed up the recovery, and speed up the date at which we could go back to 26 week unemployment compensation. But at least we seem to be entering a period where reasonable people could disagree. For the last 3 1/2 years I’ve found myself mostly battling against unreasonable people, who were content to dig sideways.

PS. I agree with Matt and Ryan that what the crisis really shows is a need for an NGDP target (level targeting.) But then I guess that’s no surprise. Even I would concede that it’s too late for this crisis. What we really need is for the Fed to stop stress testing banks, and instead stress test its own ability to control AD in the next recession, when nominal rates are quite likely to again fall to zero. I don’t see they’ve done that, but perhaps it’s an issue better examined in a non-crisis atmosphere, when the subject can be examined dispassionately.