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Home > Blogs > Ian Fraser > Bernanke’s land grab falls flat

Bernanke’s land grab falls flat

Finance Blogger: Ian Fraser Ian Fraser

There’s an interesting tussle going on in the US over whether the Federal Reserve should be given more powers—or indeed whether the Washington-based central bank should have its wings clipped.

Those arguing in favor of the Fed gaining additional abilities perhaps unsurprisingly include its chairman “Helicopter” Ben Bernanke.

He has recently been claiming—to the wry amusement of some economic commentators and guffaws from others—that if only the central bank had had the powers to police niceties of the US residential mortgage market in 2003–07, it would have prevented house price inflation from reaching such dangerous proportions.

Bernanke seems to believe the Fed would have been able to tame the home-ownership mania that had become the rocket fuel for ambitious bankers and which had gripped American society—if only it had had responsibility for the regulation of “exotic” loan products such as adjustable rate mortgages (Arms) and interest-only mortgages.

In a speech given to academic economists in Atlanta in early January, Bernanke denied that the Fed’s prolonged low interest rate policy, introduced by his predecessor Alan Greenspan to limit the economic fallout of the terror attacks of 9/11, had anything to do with inflating the US house price bubble.

“Clearly, for lenders and borrowers focused on minimizing the initial payment, the choice of mortgage type was far more important than the level of short-term interest rates,” he claimed.

To many economic commentators this was simply risible.

Peter Schiff, president of Euro Pacific Capital and author of Crash Proof 2.0: How to Profit From the Economic Collapse, said: “In a tortured academic dissertation, Bernanke explicitly denied any Fed culpability for inflating the housing bubble … Despite his best efforts, no one seemed particularly convinced. By taking such an absurd stand, he has destroyed any credibility he may have had left.”

New York Times columnist David Leonhardt pointed out there is nothing in the contemporaneous public utterances from the Fed’s officials to suggest they were even aware of the housing bubble let as it stretched to bursting point in the mid-noughties. If they weren’t aware of it, argues Leonhardt in his NYT column, how could they possibly have taken steps to deflate it or defuse it?

Greenspan said in 2004 that US house prices were “not enough in our judgment to raise major concerns.” In 2005, Bernanke (then chairman of President Bush’s council of economic advisers) said a housing bubble was “a pretty unlikely possibility.” And in May 2007 as the mortgage-backed securities markets started to implode, Bernanke said Fed officials “do not expect significant spillovers from the subprime market to the rest of the economy.”

Leonhardt wrote: “The fact that Bernanke and other regulators still have not explained why they failed to recognize the last bubble is the weakest link in the Fed’s push for more power. It raises the question: Why should Congress, or anyone else, have faith that future Fed officials will recognize the next bubble?”

There is a distinct possibility that things could go the other way for Bernanke and the Fed. Ron Paul, a Republican Representative for Texas, is so exasperated with the Fed that he is pushing for Congress to have the right to review its interest rate decisions—and his proposal has already passed through the House of Representatives and is due to be heard by the Senate.

But economists are even more aghast at this latter proposal than they are at the idea the Fed needs more powers—it would of course lead to the politicization of interest rate decisions.

Schiff said: “Of course, as there is a campaign underway to expand the Fed’s regulatory authority, anyone expecting an honest assessment from its chairman and chief lobbyist simply does not understand politics.”

Further reading:

Tags: asset price bubbles , banking , Ben Bernanke , financial crisis , housing market , mortgages , regulation , US
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