Ben Bernanke's Tightrope Act 16 comments
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Some analysts are saying that Fed Chair Ben Bernanke is walking a tightrope - if he does not drop interest rates quickly enough, the U.S. will be in recession, but if he goes too far, we'll see a resurgence of inflation. I am increasingly persuaded that's not an accurate description of the situation.
We've seen some quite remarkable movements in commodity markets the last two months. The graph below plots the price of 14 that I could get my hands on quickly through Webstract, with each price normalized at 100 for January 1. Every single one of these prices has risen dramatically since then. The most tame among the group has been zinc, which is up a mere 6.5% over the last two months, or 39% at an annual rate. Topping the group is wheat, up 46% over two months; I won't try to translate that one into an annual inflation rate because I don't want to scare you. Click to enlarge:
When Bernanke opined Wednesday:
diminishing pressure on resources is also consistent with the projected slowing in inflation,
he evidently wasn't referring to aluminum or barley or coffee or cocoa or copper or corn or cotton or gold or lead or oats or silver or tin or wheat or zinc.
If it were just a few commodities moving, I wouldn't be concerned, as any of these prices can be quite sensitive to small disruptions in supply. But we are clearly looking at an aggregate phenomenon here, and it seems unreasonable to suppose that the phenomenon has nothing to do with choices by the Fed. Although I have been skeptical of Jeff Frankel's story that low interest rates were the primary cause of the broad movements in commodity prices over the last several years, it is very plausible to me as one explanation of what we've seen happen over the last two months.
Bernanke's latest statement also included the following:
The projections recently submitted by FOMC participants indicate that overall PCE inflation was expected to moderate significantly in 2008, to between 2.1 percent and 2.4 percent (the central tendency of the projections). A key assumption underlying those projections was that energy and food prices would begin to flatten out, as was implied by quotes on futures markets.
Now it is true that if you look at the time profile of futures contracts on these commodities, you don't see an upward slope, a fact in which Bernanke has taken solace on a number of previous occasions as well. But even if there is no further increase in the price of wheat, surely it's reasonable to anticipate increases yet to come in the price of bread and Wheaties and pasta.
I think part of the basis for Bernanke's optimism on inflation must be the dourness of his outlook for real economic activity. The basic macroeconomic framework in Bernanke's textbook suggests that, for given inflation expectations, if output falls below the "full-employment" level, inflation should go down, not up.
But what exactly does the theoretical full-employment level of output correspond to in the present situation? There are fundamental problems with credit markets at the moment, and these arise not from a nominal interest rate or wage rate that are too high (the usual textbook suspects), but instead from a real disruption in the basic process of financial intermediation, as if somebody had dropped a bomb on our financial system, preventing it from efficiently allocating credit. To the extent that's the case, it may be that "full-employment GDP" would actually decline this year, and an effort to use a monetary expansion to prevent that would indeed be inflationary.
Of course, a serious problem in the market for credit is another area with which Bernanke the academic is quite familiar. But as I explained when I had an opportunity to address the Fed governors and presidents last fall, fiddling with the level of the fed funds rate is not a particularly efficacious tool for dealing with this problem. I'm not saying it's of no help. But I think the primary way in which monetary expansion could help alleviate the current credit problems was described by Brad DeLong with remarkable clinical coolness:
Yes, the financial system is insolvent, but it has nominal liabilities and either it or its borrowers have some real assets. Print enough money and boost the price level enough, and the insolvency problem goes away without the risks entailed by putting the government in the investment and commercial banking business.
The monetary cure for our ails of course also has a downside, in that we'll later need an artificial recession to bring the inflation back down. Greg Mankiw notes Allan Meltzer's displeasure at this prospect:
A country that will not accept the possibility of a small recession will end up having a big one when the politicians at last respond to the public's complaints about inflation.
I agree with Meltzer that the recent Fed rate cuts are buying us higher output at the moment at the cost of lower output in the future, for just the reason Meltzer gives. But I disagree that the recession Bernanke is trying to avoid would be a "small" one. The Fed chief must be worried that a recession in the present instance would precipitate major financial instability, in which case perhaps the choice between paying now and paying later argues in favor of latter.
In any case, the tightrope analogy seems a misleading way to frame the issue, in that it presupposes that there exists a choice for the fed funds rate that would somehow contain both the solvency and the inflation problems. In my opinion, there is no such ideal target rate, and the notion that we can address the difficulties with a sagely chosen combination of monetary and fiscal stimulus and regulatory workout is in my mind doing more harm than good. Better for everyone to admit up front just how bad the problem is, and acknowledge that there is no cheap way out.
No, I don't believe that Bernanke is walking a tightrope at all. But I do hope he's checked out the net that's supposed to catch him if he falls.
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This article has 16 comments:
also in 2004 he said
Bernanke and Reinhart (2004) discuss three alternative, though potentially
complementary, strategies when monetary policymakers are confronted with a short-term
nominal interest rate that is close to zero. As discussed in the introduction, these
alternatives involve (1) shaping the expectations of the public about future settings of the
policy rate, (2) increasing the size of the central bank’s balance sheet beyond the level
needed to set the short-term policy rate at zero (“quantitative easing”); and (3) shifting
the composition of the central bank’s balance sheet in order to affect the relative supplies
of securities held by the public. We use this taxonomy here as well to organize our
discussion of non-standard policy options at or near the zero bound.
now #1 states shaping the expectations of the public on policy settings? How through mass media like kuntlow and cnn hypnosis by media? Bond market sets rates not the feds
# 2 increasing balance sheet of central banks? how they gonna do that? Print more worthless money?
#3 shifting the balance sheet in order to affect the relative supplies of securities held by the public? which means making them the bagholders?
we all got a lot of thinking to do lol
Today's market sell off is the end of this Bear market's phase I, the denial phase. After a pause, phase II will start and the blood letting will begin. I'm betting on DOW 10k by August.
Cheers
my ocr is down...but oh well..
"
By early 1999, the japanese government had infused 10 trillion yen (83 billion USD) in capital into the banking industry.
In addition to that, the gov. spent aggressivley on fiscal stimulus programs to suport economic growth. In 2002, japan's deficit is expecte to amount to more han 7 % of Japans' GDP.
Now, there are growing concerns about how much longer the Japanese government will be able to continue its aggressive fiscal stimulus campaign. No other industrialized country has accuulated such large government debt in the post-war era. Tehse and other concerns prompted S & P to lower japan's credit rating twice in 2001 and a third time in 2002. Japan is not alone in its fiscal distress. many countries areound teh world are in distress- often resulting from systemic banking crises.
In May 2003 , Gov Bernanke visited Japan and conducted a series of meetings. he made a speech which stated that, in his opinion, the Fed would do whatever it took to keep the US from falling into deflationary recession, even if that meant printing money and buying treasury bonds to drive down their yields at the long end.
Between Jan 03 and end of march 04 BOJ printed 35Trillion Yen which the MOF used to buy US $320 BILLION. wITH those dollars, the Japanese authorities bough US dollar-denominated assets, most probably US tREASRY bonds and agency debt.
Was the BOJ/MOF conducting Gov Bernanke's unorthodox monetary policy on behalf of the Fed? There is no question that the BOJ created money on a very large scale, as the Fed would have been required to do under Bernanke's scheme.
"
wilson made the usa an anarchy according to t. jefferson..you remember him...he is on the nickel altho they cut off part of his face now. keyesian economics came from hamilton,,,not jefferson...so lets get real here
Peter Schiff sums it up in simple terms>
www.financialsense.com...
If you were to plot the relative valuation of the CRB and the S&P 500 over the last 15 years to look at this paper/real thing, you would have the chart shown recently in an article titled "Commodities Secular Bull Continues into 2008" (http:marketoracle.co.uk/Art...). This tell-tale chart shows that, even with the current runup, we have come way down in valuation of commodities relative to paper in general and stocks in particular over the last 15 years and that we probable aren't at the end of the commodities bull, but are entering a new phase of it (commodity bull markets historically run at leat 15 years and we are only about 6 years into this one). After a huge descent from the mid 90s, the chart shows a consolidation pattern over the last 6 years with 3 major runs at a resistance level. The first was in early '03 at the end of the last stock bear market. The second was in the middle of the stock bull market in May '06 when both stocks and commodities got clobbered together. Both of these runs failed to break the resistance. The third is happening now at what may be the beginning of a new stock bear market and this powerfull run has just now broken the resistance level and has a very long way to go before we approach the paper/real levels of the mid 90s. Think back to that time when stocks, intangible intellectual property rights, and complex debt leveraged deals were our preoccupation while we ran around in gas guzzling SUVs not giving a thought to real assets like oil and food. Now the preoccupation is what to do about oil and food and how to clean up the CDOs, CDSs, and other paper messes we have made.
The current "spike" in commodities can't really be compared to say the mid '06 run. There, the stock bull market was intact, the housing problem wasn't upon us yet, and the Fed was in the driver's seat. Now, it is a vastly different market condition. In addition to a strong investor turn away from paper in general and the Fed debased dollar in particular, we have emerging some very strong basic supply/demand forces coming to the aid of commodities like peak oil, peak food, and the combo of the two - the fuel crop frenzy.
Investor enthusiasm = sell is a concept that works well with individual stocks tied to an individual company story or even with a hot sector. But it's not so true of the more large scale, rare bull markets that tend to involve many sectors and have the legs to run well past initiating enthusiasm and attention. It is precisely this kind of more investable bull area that you want to find, not avoid.
Burnandkaput doesn't understand economics. You can't print your way to prosperity. If you could, he could send everyone a check for $10 million and eveyone can retire. It doesn't work that way. One way or another, Americans will be forced to live within their means. Unfortunately, that won't happen until the end of a hyperinflationary depression.
Enjoy!!
Let the Fed buy the entire federal budget this year all the while raising reserve ratios to counter-balance the purchases.
This is of course, economic nonsense. One dollar of borrowed reserves provides the same legal-economic base for the expansion of money as one dollar of non-borrowed reserves. The fact that advances had to be repaid in 15 days was immaterial. A new advance could be obtained, or the borrowing bank replaced by other borrowing banks. The importance of controlling borrowed reserves was indicated by the fact that at times nearly 10% of all legal reserves were borrowed.