[StBernard] Bernanke's Airborne Policy

[Westley Annis]

Bernanke's Airborne Policy
William Baldwin and Robert Lenzner 10.22.08, 12:00 AM ET


The hard-money crowd called him Helicopter Ben. That was a sneering
reference to an offhand comment that Ben S. Bernanke made in a 2002 speech,
to the effect that if deflation loomed, the Federal Reserve could throw
money out of a helicopter, if it had to, to get the economy going.

The sneers are gone. Two-and-a-half years into his four-year term as Fed
chairman, Bernanke confronted the country's worst financial crisis since the
Great Depression. The mortgage-backed securities market froze up, banks
stopped lending to one another, corporations couldn't roll over their
commercial paper and businesses and consumers couldn't borrow.

Solution: Toss money out onto the sidewalk. The latest escapade by the
government into the money markets, announced Tuesday, has the Fed lending
$540.0 billion to new entities buying commercial paper and other short-term
private sector debt. Bernanke is also supporting the notion of fiscal
stimulus-i.e., either increased federal spending or another tax rebate.

In the past year assets of the Federal Reserve System have exploded to $1.7
trillion from $871.0 billion. The system's assets used to consist mostly of
gold and U.S. Treasury paper. Now there's a new item on the balance sheet:
$700.6 billion of IOUs from commercial banks and other nongovernmental
entities. The government has paid for this splurge by, in effect, printing
money. (You can see the newest weekly value of these loans on the current
version of Federal Reserve statistical release H.4.1; add the "Term auction
credit" and "Other loans" under "Factors Affecting Reserve Balances of
Depository Institutions.")

It's not literally paper money that is being printed. Federal Reserve notes
in circulation are up only $40.0 billion from a year ago. Instead, there is
a more subtle transaction going on, in which the U.S. Treasury borrows
money, then lends it to Bernanke's chain of Reserve Banks, which then lend
it to commercial banks and stockbrokers. The Fed, of course, doesn't
describe its activities as printing money. It says it's injecting liquidity
into the banking system.

Who better to do it than Bernanke? He has spent most of his professional
life studying the Great Depression and the Fed's role in that disaster. It
used to be popularly believed that the Depression was caused by the stock
market crash. Milton Friedman, the late Nobel-winning economist of the
Chicago School, had a different interpretation. His view, unconventional
when he and fellow economist Anna Schwartz first propounded it but accepted
wisdom now: If it weren't for the Fed's ineptitude, the troubles on Wall
Street would have led to only a mild recession.

At Friedman's 90th birthday celebration in 2002, Bernanke, then one of seven
Fed governors, paid tribute to the Friedman-Schwartz view: "Regarding the
Great Depression: You're right, we did it. We're very sorry. But thanks to
you, we won't do it again."

Bernanke, 54, got his doctorate in economics from Massachusetts Institute of
Technology with a thesis on the business cycle. He spent two decades in
academia, continuing his studies of crashes and expansions. His first
published economics paper, in 1981, explained how, during a recession,
lenders reduce their loan-making in order to remain solvent and cause the
recession to worsen. When credit stops, the economy flops.

In an Oct. 15 question-and-answer session at the Economics Club in New York,
Bernanke attributed the Depression to two mistakes. One was that
"inappropriate monetary policy" caused a deflation of 10.0% a year. The
other was that it took the government a long time (from the fall of 1929 to
President Franklin Delano Roosevelt's inauguration in 1933) to respond to
the crisis.

It's different this time, he said: "First, monetary policy is proactive and
progressive. Second, we didn't wait for three-and-a-half years to take
action to stabilize the financial system."

But he acknowledged the magnitude of the evolving crisis by noting that the
residential mortgage market is $14.0 trillion in size, while the bailout
legislation calls for only $700.0 billion of federal capital-5.0% of that
mortgage balance-to get credit flowing again. The bailout plan, he said, is
meant to be a stimulus, not a solution. There is only so much you can do
with a helicopter.