Why Obama loves Bernanke’s big deficit warning

June 3, 2009

Ben Bernanke seemed to buy into the “bond vigilante” theory today in his House testimony as an explanation for the recent backup in long yields:

Maintaining the confidence of the financial markets requires that we, as a nation, begin planning now for the restoration of fiscal balance. … These increases appear to reflect concerns about large federal deficits but also other causes, including greater optimism about the economic outlook, a reversal of flight-to-quality flows, and technical factors related to the hedging of mortgage holdings.

Me: Some folks are interpreting this as bad news of Obamanomics, that deficit fears mean he’ll have to trim back his spending agenda. (I’ve seen plenty of posts about how Bernanke’s warning means he won’t get reappointed in 2010.) But recent history shows that deficit fears often lead to tax hikes (1982, 1990, 1993) and higher taxes are just what Obama needs to pay for “investments” in healthcare, energy and eduction. Here is a bit from a column that should go up later today:

Chatter about budget deficits and fiscal responsibility is exactly what Team Obama needs right now. Here’s why: If you buy the theory of bond vigilantism — that credit markets will force interest rates higher in reaction to unsustainable national budget deficits — then you also have believe the White House will need to raise taxes sharply to pay for all its spending programs or risk a revolt. Indeed, plenty of White House folks, particularly if they worked for Bill Clinton, likely do believe in the theory. Recall that it was Clinton who chucked his investment agenda in favor of a “bond market strategy” to boost growth by persuading credit markets that the administration would balance the books. As Clinton nicely boiled it down, “You mean to tell me that the success of the program and my reelection hinges on the Federal Reserve and a bunch of [expletive] bond traders?”

… And today, Bernanke’s sharp warning contributed to that effort. So not only has Bernanke’s unprecedented monetary stimulus allowed Obama to focus on pushing forward his policy agenda rather than a pure stimulus effort (such as a suspension of payroll taxes), but the weight of his authority is now being used to help persuade Americans that the budget deficit is the Next Scary Problem. In short, Bernanke is “preparing the battlespace” for Obama tax initiatives to pay for Obamacare and who knows what else. What more could one Fed chairman do for a Democratic president?

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Brilliant, except for the obvious: raising taxes works against recovery. Do you think that’s what Bernanke wants? No. Plainly not.

Instead, he’s saying: forget Obamacare, you can’t afford it.

[...] took that as a rebuke to both Congress and the White House on their profligate spending.  However, James Pethokoukis sees an opportunity for Barack Obama rather than a warning.  Bernanke’s statements could [...]

Pethokoukis, Yes I am sure Bernanke wants a massive tax increase in the middle of a massive recession. Afterall, what spells job increases like a massive tax on income. I do hope Obama takes Pethokoukis’s advice though. It takes a Carter to make a Reagan and 4 years from now we are going to be needing a Reagan big time.

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