Bernanke Deserves Blame for Sell-Off in Stocks

Ben Bernanke testified in Congress yesterday. Investors reacted by dumping stocks. Some insist that the sell-off had little to do with his remarks and more to do with other factors, such as Merrill Lynch's disappointing results. I doubt this is the case. After all, Merrill Lynch (MER) announced its results early yesterday morning and the market was holding up well--at least until Bernanke's testimony got under way.

The Chairman's remarks made it clear that he is very worried about the economy. Although he said the Fed is still not forecasting recession, he clearly indicated that growth will be disappointing. He mentioned the troubled banks, mortgage-related problems in the residential market, signs of weakness extending into the commercial market, weakening employment figures, and an uptick in core inflation.

Bernanke strongly hinted that the Fed will cut interest rates once again. Some investors are disappointed that the Fed may not actually implement a cut until the January 30 meeting. They want a cut right now.

Bernanke also asked Congress for fiscal stimulus. He apparently believes things are so bad that interest rate cuts alone are not enough to stimulate the economy. The mere fact that he was asking Congress for tax relief made investors nervous.

Cutting taxes is the best way to prevent recession. But Bernanke was not arguing for the kinds of tax cuts Republicans favor. Instead of cutting tax rates or making the Bush tax cuts permanent, he expressed a preference for something immediate but temporary. His comments were well-received by Democrats.

Alex Witt of MSNBC asked me about the political repercussions of all this. The bottom line is that things don't look good for the Republicans. Right or wrong, the party in power gets the credit if the economy does well. Likewise, voters blame the president and his party if a recession occurs. Voters demand change. At this point, an economic recession would improve the Democrats chances of taking the White House this fall. But with Democrats controlling both Congress and the White House, taxes are sure to go higher. Then we'll really know what a recession feels like.

Comments

[Reinko]

Only when taxes are raised feeling what a recession is like? No, it is far more worse: For example in the year 2006 US home owners took out about 650 billion US$ in home equity loans and cash-out refi.

If you subtract that extra debt from the 2006 GDP, the whole year 2006 was already a recession. So the mechanism is very easy to understand: If we subtract the extra debt from the last years, there is already a multi year recession going on.

The fact that Americans do not understand that debt driven GDP growth is a waste of money is their problem and not mine (don't forget the interest on the debt is often a multiple of de GDP growth that is generated by that fresh debt driven economical stimulus).

Thus all those plans to place a bit of money into the pockets of the tax payers will fail once more...

Recessions, depressions and defaults are Gods way to learn macro economics to the Americans.

[Malkiel]

Only when average Americans live surrounded by a social safety net not full of holes, have retirement, unemployment, medical and educational bases firmly covered, will the tax-cutting bromides of the conservatives reliably stimulate the economy. This is the lesson that the Wall Street Republicans never learn: the public sector takes off your back the obligations you don't want business to have to deal with any way. When America spends enough on its social welfare obligations, which it should start to do after November, the economy will recover because the fear discouraging the consumer will be replaced with optimism...