I’m as much of a fan of hyperbole as the next man, but some of the articles and comments on Ben Bernanke lately are a bit outlandish. In Eschaton blog, Bernanke is condemned as ‘evil’ for his apparent lack of economic stewardship as Chairman of the Federal Reserve. All of the comments are brimming with vitriol, though some are also mildly humorous. For instance, the commenter that suggested the Chairman change his last name to ‘Dover’ made me giggle. On the heels of his testimony before the Joint Economic Committee, progressives feel betrayed by the inaction of Bernanke, who did not signal for more monetary stimulus to aid the stalling recovery.
Bernanke himself has written papers on the unprecedented measures that can be applied once central banks have reached the zero-bound. Some current recommendations include more attempts at quantitative easing and setting a higher future inflation target. The latter incentivizes people that hold money to spend it now with the expectation that their cash will be worth less in the future.
Bernanke seems to be going out of his way to combat inflation and appears to be ignoring the other half of his mandate – unemployment. He even disregards advice he gave to Japan to avoid their ‘lost decade’, prompting economists such as Paul Krugman to ponder why Professor Bernanke is at such odds with Chairman Bernanke.
The reality is that the economies and their situations are not identical. Bernanke needs to ensure that he has not fully played his hand of monetary stimuli in the event that financial conditions in the Euro zone continue to worsen. The financial crisis of 2007 has passed, but the Euro zone crisis (of 2012? 2013? Ever?) looms on the horizon. The interconnectedness of financial systems ensures that American banks, investors, and the economy at large will suffer if that crisis fully materializes.
In addition, the short-term effects of abandoning the 2% implicit inflation target are potentially as perilous as persistent unemployment to the economy. A key to avoiding a financial Armageddon in American necessitates that US T-bills and T-bonds maintain their reputations as liquid, safe options. This allows for the government to continue accumulating as the economy’s actor of last resort, stimulating demand through expansionary fiscal policy.
The ability to accumulate this seemingly insurmountable debt is rooted in strict observance of inflation targeting. Creditors hate inflation – it lowers the real burden of debt. US debt is so attractive that even after the S&P’s downgrade the yield on Treasury bonds actually went down. T-bills and T-bonds are the safe haven for institutional investors and nations alike, and an inherent liquidity preference in holding US bills (or financial instruments) exists, which artificially suppresses their yields.
Bernanke isn’t evil – he’s addressing America’s foremost economic concern and leaving himself a few bullets in the chamber in the event that Euro zone defaults threaten the stability of the US financial system.
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