Five Questions for Bernanke on Capitol Hill: Caroline Baum
Twice a year, the chairman of the Federal Reserve goes up to Capitol Hill to deliver the Fed’s semiannual monetary report to Congress.
And twice each year -- four times, actually, because he appears before both Senate and House committees -- we get to observe the spectacle of lawmakers delivering long-winded opening statements and reading staff-prepared questions for what appears to be the first time. This lack of preparedness is more prevalent in the House.
No one expects lawmakers to be experts in macroeconomics and monetary policy. They serve on many committees, specializing in budget issues, environmental protection, landmark (or is it earmark?) preservation, and financial services (our finances for their services).
To expect our elected representatives to have a good grasp on quantitative easing when Fed chief Ben Bernanke says the term is a misnomer is too much to ask.
That’s why I’ve decided to ease the burden and offer members of the Senate Banking Committee and House Financial Services Committee some questions for Bernanke when he appears before them March 1-2.
Question No. 1: Why $600 billion?
Chairman Bernanke, when the Fed announced a second round of quantitative easing, known as QE2, at the conclusion of its Nov. 3 meeting, the statement said simply that the committee “intends to purchase a further $600 billion of longer-term Treasury securities by the end of the second quarter of 2011.”
Why $600 billion? Why not $500 billion or $700 billion? Was the amount an educated guess? Was it based on a formula, or calculation of the money multiplier that equated an injection of X dollars in reserves to a Y percent increase in the broad money supply?
There’s been some suggestion that the $600 billion was derived from a decision to remove a certain amount of duration, or price risk, from the market. Is that true? And if so, why does the central bank want to socialize the risk, transferring it from investors, who choose or are able to take it, to taxpayers? (Background for lawmakers: Because the Fed turns its profits after operating expenses over to the Treasury, any reduction in profits means a bigger deficit and higher taxes for the rest of us.)
Question No. 2: About that global savings glut …
Back in 2005, you introduced the concept of a global savings glut, or GSG, to explain why long-term interest rates weren’t following the central bank’s lead in raising short-term rates. It also was a nice way of exempting the Fed from any responsibility for the housing bubble.
David Beckworth, assistant professor of economics at Texas State University in San Marcos, wonders why the GSG theory, if accurate, collapses in 2005. In a recent blog post, he notes that the U.S. current account deficit -- the other side of the GSG -- continued to grow as a percent of gross domestic product through 2006 while long-term interest and mortgage rates started to rise in 2005.
Mr. Chairman, in a Feb. 18 speech on global imbalances, you said that foreign countries have a range of tools, including exchange and interest rates, to offset the effect QE2 is having on their economies.
So which is it? Beckworth wants to know. Emerging market economies have tools to offset the effects of U.S. monetary policy, while the U.S. economy is a slave to emerging markets?
Which brings me to…
Question No. 3: What about the Fed’s tools?
If long-term interest rates didn’t budge when the Fed started raising its benchmark overnight rate in quarter-point increments in mid-2004, why not raise it faster or in bigger steps?
The long rate is the sum of the current and expected future short-term rates. Shove that baby up a full percentage point in a surprise move, assuming you want maximum bang for your buck, and watch those bond yields soar.
You stress that the Fed has the tools to unwind its $2.5 trillion balance sheet and raise interest rates when the time comes. What if another GSG interferes with your plan?
Question No. 4: Those dueling mandates …
Chairman Bernanke, you have justified the initiation and continuation of QE2 by citing the Fed’s dual mandate (stable prices and maximum sustainable employment). You point to the current rate of inflation, which is below the Fed’s target, and the 9 percent unemployment rate, which is unacceptably high. You seem to understand the damaging psychological impact long-term unemployment has on workers.
What if core inflation were to accelerate at a time when the unemployment rate is still unacceptably high: a kind of 1970’s redux? (Members, pay attention. This question has a right and wrong answer.)
Question No. 5: Knowing when it’s time to say good-bye …
How will the Fed know when to say sayonara to zero percent interest rates?
It’s not the tools I’m worried about. It’s the ability to know when to use them and the political will to carry it out. One year ago, the Fed had to hustle when it looked like an early exit was in order. Months later, QE2 was all the rage.
Mr. Bernanke, can you tell this committee what metrics you will use to begin the march toward a neutral policy? The unemployment rate? Inflation rate? Nominal or real GDP? Finger to the wind?
Since expectations are such an important part of Fed policy, what can you tell us that will raise our confidence that this time is different, that this time you’ll get it right?
I thank you for your time.
Caroline Baum, author of “Just What I Said,” is a Bloomberg News columnist. The opinions expressed are her own.)
To contact the writer of this column: Caroline Baum in New York at cabaum@bloomberg.net.
To contact the editor responsible for this column: James Greiff at jgreiff@bloomberg.net
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