Thursday, February 19, 2009

Ben Bernanke's speech yesterday

Ben Bernanke, chairman of the Federal Reserve, gave a speech yesterday.

Ben is a relatively clear communicator, insofar as economists go. He knows his sh*t and is using all the tools available to a central bank (i.e. monetary policy) to try to prevent a total deflationary spiral and economic meltdown. Note some of the things he mentions that I've mentioned previously:

Some observers have expressed the concern that, by expanding its balance sheet, the Federal Reserve will ultimately stoke inflation. The Fed's lending activities have indeed resulted in a large increase in the reserves held by banks and thus in the narrowest definition of the money supply, the monetary base.1 However, banks are choosing to leave the great bulk of their excess reserves idle, in most cases on deposit with the Fed.
I've previously noted that monetary policy isn't working because of deflationary expectations, i.e., the expectation on the part of banks that any loans they give out today are likely to default in the future and most of their current loans are also going to default (thus requiring their reserves to cover the loans) so they give out loans only to the most exceptional of borrowers. Bernanke verifies this observation on my part. Banks have basically turned all that dough into "mattress money", stuffing it under their collective mattresses because they believe it will be more valuable in the future, thus monetary policy has failed to increase the money supply despite all of "Helicopter" Ben's frantic printing press operations.

Also note that Helicopter Ben has a plan for preventing inflation once the economy starts turning up and banks start lending out some of that "mattress money":

However, at some point, when credit markets and the economy have begun to recover, the Federal Reserve will have to moderate growth in the money supply and begin to raise the federal funds rate. To reduce policy accommodation, the Fed will have to unwind some of its credit-easing programs and allow its balance sheet to shrink. To some extent, this unwinding will happen automatically, as improvements in credit markets should reduce the need to use Fed facilities. Indeed, where possible, we have tried to set lending rates and other terms at levels that are likely to be increasingly unattractive to borrowers as financial conditions normalize.

And finally:

Policy innovation has been necessary because conventional monetary policies, which focus on influencing short-term interest rates, have proven insufficient to overcome the effects of the financial crisis on credit conditions and the broader economy.
Helicopter Ben basically is saying that conventional mechanisms for increasing the money supply have failed and now we're in "oh shit" territory where drastic things must be done to prevent a total collapse of the money supply. He is a central banker and it would not be appropriate for him to comment directly upon the need for fiscal policy to do what monetary policy has failed to do, but reading between the lines he's saying "we need fiscal policy as well as monetary policy to get out of this."

In another post I'll do a reminder of why we need a stable value for our currency and thus why both deflation *and* more than a minor amount of inflation are bad for a free market system -- basically, capitalism cannot work without a stable currency. More in that post.

-- Badtux the Economics Penguin


  1. Why is it that the government (you) has to pay to fix the economy when it’s the greedy rich fucks that fuck it all up? Fuck them, they can fix it instead of always fucking everyone over and looking for handouts. They can just fucking give up their fancy homes and toys, I swear, American monkeys sure are stupid fucking idiots.

    Those politicians are just a bunch of business people, sheep in wolves clothing fucking us over more with their bullshit that makes so much sense to stupid people.

  2. So, are the banks going to start lending soon?

    Isn't that why they got bailed out?

  3. The answer, Nunya, is "no". They expect the future value of this money if they hold on to it and loan it later to be higher than if they loaned it today, so they're holding onto it waiting for the economy to turn around. If the Bush Administration had done the bail-out a year ago, before deflationary expectations set in, the money would have done some good. But done when it was done, it simply exposed the limits of monetary policy as a mechanism for handling depressions (which this is). Specifically, that you can pump all the money you want into the system, but if nobody has any propensity to spend (or lend) because they believe the money will be more valuable to them tomorrow, you're just pissing in the ocean -- it's gonna look good on the balance sheet, but do nada for moving goods and services in the economy.

    - Badtux the Monetary Penguin

  4. deflation and a crappy currency - are the recipe for you know what...


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