Thursday, June 24, 2010
- Extraordinary Measures
Ben Bernanke, student of the great depression, is convinced like most monetarists that it was caused primarily by a contraction in the money supply. Several things contributed to that contraction, Smoot-Hawley tariffs etc. But if you have to point to a single cause, monetarists are firmly (and reasonably) convinced that money supply was it.
With that in mind you can imagine Ben Bernanke with a huge plunger, trying to force a fluid though a blocked pipe. As he adds pressure at his end, the risk to the whole system increases so long as nothing happens at the other end. That’s the case now. We’ve had zero interest rates for some time which has increased the pressure. But because of liabilities that are certain to increase (like new taxes and new regulation compliance costs) and political risks where the rules for the future themselves are unknown, (like the Employee Forced Choice Act, and some kind of carbon tax scheme) the people who’ve been receiving the money from the fed have simply been sitting on it rather than lending it as they would if this were a ‘normal time’.
Europe is contracting, US housing is pointing to a double dip, and unemployment continues to be higher than Obama would like, aprticuarly with 400,000 census workers to be laid off in September. So what will the Fed do now? QE2 (more quantitative easing) is the talk in some circles and with good reason I think. Especially when you consider team Obama’s reaction to what looked like the failure of their health care bill. In the face of what seemed like certain electoral failure they doubled down and used an obscure procedural process to pass a bill which was wildly unpopular with the voters, but that could still be spun as a victory by them at election time.
In effect they burned their ships and committed themselves, come what may, to piecemeal nationalization of the healthcare industry. That’s the political wind that’s blowing from Pennsylvania Avenue. That’s how they think this game should be played. And right now, coming into an election, not only is the president’s political party looking to take a pummeling, but the one economic statistic that all US politicians understand, unemployment, looks to be rising rather than falling. Obama is unlikely to take this lying down.
The financial reform bill the Democrats are pushing will be so detrimental to the capital formation process that it will negate much of what the Fed has tried to accomplish. It will take what has been a temporary blockage of the monetary policy pipes and make it permanent. The financial community understands this but congress doesn’t. Bernanke understands it too. That’s why I think that bill will free up Ben Bernanke to take ‘extraordinary measures’ without fear of inflationary consequences. As a student of the depression I think he fears inflation far less than deflation. So I believe this bill makes it certain that he’ll take further measures. And once ‘what to do’ is decided, the primary consideration for everyone involved becomes ‘when’.
That’s where pressure form the Whitehouse will come in. They don’t understand economics, but they understand elections, and the way they’re effected by unemployment. I think Bernanke will be pressure to begin taking further monetary measures in the next 30 to 60 days.