Bernanke’s the right man for rescue sequel

August 25, 2009

agnes1.jpgPresident Barack Obama’s decision to reappoint Ben Bernanke as head of the Federal Reserve in the dog days of summer rather than tap new blood means that “Credit Crisis 2: The Exit” has a better chance of being a hit.

That’s because timing and perception are essential in financial markets that ruthlessly punish uncertainty and any indication that the person at the helm of the central bank can’t manage the many lifelines thrown during the credit crisis.

By announcing its decision in late August, the Obama administration ends speculation about whether Bernanke, who has his share of critics, would be bumped aside by candidates-in-waiting such as White House economic adviser Larry Summers.

And it does so when many market participants, like the Obamas, are on vacation, meaning that when the markets come alive again after the summer holidays, investors can be certain that the man who put the supports in place will there to see their careful removal.

This is important, since markets abhor uncertainty — just take a look the punishment of bank stocks and bonds when an information vacuum earlier this year caused panic that the new Democratic administration would eventually nationalize troubled financial institutions.

The last thing the Fed or the Obama administration want are unnecessary distractions in the markets, which will have their hands full this fall trying to figure out whether improvements in the economy will stick, and how the Fed plans to unwind the mind-boggling amount of supports it’s built to keep the financial system from collapsing. The Fed has already indicated that it will allow its Treasury purchasing program to wind down by the end of October, but it still needs to sort out how it plans to pull out of the mortgage-backed securities market, where it has vacuumed up roughly $767 billion of bonds, and, of course, how to eventually raise interest rates from their rock-bottom range of zero to 0.25 percent.

To say this is going to be difficult is a gross understatement. The Fed, rightly or wrongly, has intervened in financial markets to such an extent that its exit from them will be just as important as the creative policies put in place that stopped the world from collapsing.

Some of the groundwork for this exit will be laid in coming months, since the mortgage-backed securities program, for one, is due to expire at the end of the year. After that it’s still unclear who will pick up the slack.

Financial markets, especially the bond market, are likely to start challenging the Fed on its interest-rate policy if economic growth snaps back in the second half of the year, as many economists now predict.

Keeping rates so low has had disastrous consequences before and it’s going to take a persuasive and steady hand at the helm to convince investors not to panic should the Fed need to keep them in place for longer than usual, to ensure the economy has enough momentum to grow itself.

Bernanke, after a bruising start to his term, has earned the markets’ confidence through his creative and quick-fire response to the credit crisis beginning two years ago. This isn’t to say he may not lose it again along the way, but it will certainly help smooth the initial transition toward a less interventionist Fed.

This isn’t to say Bernanke is a central bank saint, either. He was a Fed governor when many of the excesses built up, thanks to lax regulation. He also played down the importance of the subprime crisis on the broader economy early on, wasting an opportunity for earlier intervention.

It’s safe to say that senators won’t let him forget it when he sits for his confirmation hearings.

But he’s the right man for a job that’s far from finished.

4 comments

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Don’t you believe it! Bernanke is Obama’s puppet and is only concerned about keeping his job and will say or do anything that his employeer will tell him to do. The recession is nowhere being over, or improving. Lists of bankruptcies continue to fill our newspapers and employees have continually been laid off, with no end in sight. What our politicians tell the public is all smoke and mirrors. Anytime Bernanke says that our economy is improving, the stock market improves. Propaganda at it’s height.

Posted by Esther Humeston | Report as abusive

On the other hand, nominating Larry
Summers might distract for the Health Care debate. Sort of makes you nostalgic for Nixonian Machiavellianism.

Posted by ARJTurgot | Report as abusive

Quote: ‘The Fed, rightly or wrongly, has intervened in financial markets to such an extent that its exit from them will be just as important as the creative policies put in place that stopped the world from collapsing.’ Unquote – are you implying that the US is the centre of the Universe ? Just joking

Posted by Hour glass | Report as abusive

Sorry, AC, but you have bought the hype. Hook, line, and sinker. Bernanke and Co. are just setting us up for a shorter, more brutal bubble, and they don’t even have a valid plan yet for offloading the junk from the first one. If Summers was the only other candidate, then what does that tell you about Obama?

Posted by Patrick E. | Report as abusive

[...] be unwinding the many programs designed to support the financial system.  (Dealscape, WSJ, NYMag, Agnes Crane, Big Picture, [...]