Opinion

The Great Debate

Fed is split but QE2 looks a done deal

- The opinions expressed are the author’s own-

FOMC meetings are usually a strange combination of formality and easy-going familiarity but levity may be in short supply this week. The Fed’s institutional credibility is on the line, and the normal decorum that characterizes relations among committee members has become increasingly strained over the summer.

Divisions between proponents and opponents of a second round of quantitative easing (QE2) have been on display as never before. It is not clear what members will say to one another to fill two days since all the arguments have already been rehearsed in detail and in public over the last six weeks.

In a thinly veiled swipe at his colleagues, Kansas City Fed President Thomas Hoenig has stumped around his patch on the Great Plains denouncing QE as a “dangerous gamble” and “a bargain with the devil”.

Dallas Fed President Richard Fisher and Philadelphia Fed President Charles Plosser have made no secret of their skepticism or outright opposition to launching QE2 at this point. Minneapolis Fed President Narayana Kocherlakota has questioned whether it will work. Richmond Fed President Jeffrey Lacker has seemed to doubt whether it is necessary.

In contrast, the New York Fed (always the closest to the major money centre banks) and the St Louis Fed (the spiritual home of monetarism in the Federal Reserve System) have openly campaigned for the benefits of a second round of asset purchases.

Central banks face crisis of confidence

Central banks around the world are facing the worst crisis of confidence since the 1930s, as investors, households and firms question their commitment and ability to deliver price stability.

Whether it is inflation or deflation, outsiders question whether the major central banks will be able to regulate prices in the next few years.

TOO HOT ….
Bank of England Chief Economist Spencer Dale last week lashed out at what he branded “dangerous talk” the Bank had gone soft on inflation and was choosing to ignore price increases persistently above the target.

Uncertainty, distributions and fat-tails

In a thoughtful article published this week in the Financial Times, PIMCO Chief Executive Mohamed El-Erian and Columbia Economics Professor Richard Clarida explore the implications of a shift in the shape of investors’ and policymakers’ expectations about the future.

“It seems that, wherever we look, the snapshot for ‘consensus expectations’ has shifted: from traditional bell-shaped curves — with a high likelihood mean and thin tails (indicating most economists have similar expectations) — to a much flatter distribution of outcomes with fatter tails (where opinion is divided and expectations vary considerably).”

They do not go quite as far as Bank of England policymaker Adam Posen, who suggested in a recent speech that the distribution of outcomes has inverted and become U-shaped. But their focus on a bell-curve with fatter tails agrees with Federal Reserve Chairman Ben Bernanke’s characterisation of the economic outlook as “unusually uncertain” at present.

Locking up bank reserves is wrong policy focus

– John Kemp is a Reuters columnist. The views expressed are his own. —

Plotting an exit strategy and shrinking the Federal Reserve’s balance sheet has become a hot topic as policymakers try to underscore their commitment to price stability and markets ponder the risk of inflation.

But micro-managing the reserve base is a curiously inadequate way to respond to medium-term concerns about inflation. Interest rates (the cost of credit) and supervision (leverage) are broader, more appropriate tools.

Sluggish investment will hamper recovery

– John Kemp is a Reuters columnist. The views expressed are his own –

Unable to rely on the wounded consumer, the outlook for U.S. growth in the next three years depends on business investment and exports to take up the slack when stimulus programmes wind down.
Ultra-low interest rates will help. But with the economy struggling to work off a huge overhang of unused real estate assets, and not much sign of investment elsewhere, investment spending is set to remain sluggish, condemning the economy to a weak recovery in the medium term.

Federal Reserve Chairman Ben Bernanke and other senior U.S. officials have already warned the rest of the world can no longer rely on over-indebted U.S. consumers as the principal source of global growth. There is no choice but to rely on investment and exports to take up more of the burden.

There’s no way to hedge politics

Ben Bernanke in peril and the Volcker crackdown on proprietary trading by banks show two truths of the current dispensation: there is no effective hedge against politics and the reflation trade rests on fragile foundations.

Neither of these realities is particularly good for financial markets and neither is going away any time soon.

Both, too, are utterly related not just to each other, but to the Senate election in Massachusetts which installed a Republican into what had been a Kennedy seat, in the process terrifying Democrats who fear they will be sunk by association with a set of policies perceived to be favoring Wall Street.

Bernanke’s fearful asymmetry

saft2.jpg – James Saft is a Reuters columnist. The opinions expressed are his own —

Ben Bernanke may minimize the role of monetary policy in the housing debacle, but he minimizes two key factors: the effect of low rates and the Fed’s policy of cleaning up after but not popping bubbles had on risk-taking.

In what amounts to a defense of his own and Alan Greenspan’s legacy, Bernanke maintains that low interest rates didn’t cause the bubble, which he says required a regulatory rather than monetary solution.

from Commentaries:

Time for the Fed to stand up to its critics

John M. Berry is a guest columnist who has covered the economy for four decades for the Washington Post and other publications.

By John M. Berry

Financial crises and the policies to deal with them top the agenda at the Kansas City Fed's Jackson Hole conference. But what is actually going to be on everyone's mind at the august gathering is the uncertain future of the Federal Reserve itself.

Many members of Congress want to clip the Fed's wings for failing to prevent the crisis and for its actions since the meltdown began two years ago. In particular, most are angry about government bailouts, starting with the $29 billion in Fed backing for the purchase of Bear Stearns by JPMorgan Chase.

from James Pethokoukis:

Candidate Bernanke hits the campaign trail

JamesPethokoukiscrop.jpgIf Ben Bernanke were running TV ads, taking polls and holding town hall-style meetings, it wouldn't be any clearer that he's conducting an explicit reelection campaign for another four-year term as Federal Reserve chairman come next January. Oh, wait a second, he just did hold an unprecedented town hall meeting. And it was one worthy of a presidential candidate charming primary voters in Iowa.

At the Kansas City Fed last night, Bernanke answered a couple dozen questions from 190 area residents for a three-part public television broadcast. Like a veteran politico, he tossed out the occasional platitude ("The best way to have a strong dollar is to have a strong economy"), railed against Washington ("I don't think the American people want Congress running monetary policy"), gave a riveting and heroic personal narrative ("I was not going to be the Federal Reserve Chairman who presided over the second Great Depression"), and got downright folksy when talking about too-big-too-fail ("When the elephant falls down, all the grass gets crushed as well").

Message to America: Ben Bernanke, a pharmacist's son from Dillon, South Carolina, feels your pain. Now it's not as if previous Fed chairmen haven't campaigned for another four-year hitch. But the usual modus operandi is to curry favor with the Electorate of One -- the president -- who will be doing the renominating. And the precise mechanism has been a growth-friendly monetary policy.

On the Bernanke interrogation

James Pethokoukis – James Pethokoukis is a Reuters columnist. The views expressed are his own –

Ben Bernanke’s testimony to Congress about his involvement in the Bank of America-Merrill Lynch merger was a lot like an FOMC statement: short and unadorned, yet open to much interpretation.

When the Federal Reserve chairman wasn’t repeatedly saying “I don’t remember” or “I don’t recollect,” he was matter-of-factly stating that he didn’t intend to threaten Bank of America CEO Ken Lewis with termination if he didn’t go through with the Merrill deal.

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