Advice from Ben S. Bernanke, scholar, to Ben S. Bernanke, Federal Reserve chairman: Be bold.
As a Princeton economics professor from 1985 to 2002 and a Fed governor from 2002 to 2005, Bernanke -- a student of the Great Depression and Japan’s lost decade -- faulted central bankers for failing to act aggressively in both cases to provide credit and weed out sickly financial institutions as they tried to rescue their economies and combat deflation.
Bernanke admonished Japanese officials for their unwillingness “to experiment, to try anything that isn’t absolutely guaranteed,” in a 1999 paper on their monetary policy. “Perhaps it’s time for some Rooseveltian resolve,” he urged, referring to U.S. President Franklin Roosevelt’s sometimes unpopular efforts to push through Congress fiscal and social programs to pull America out of its worst slump.
Such conclusions from Bernanke’s scholarly research have shaped the 57-year-old Augusta, Georgia, native’s strategies for fighting the 2007-2009 U.S. recession and financial crisis, both the worst since the 1930s, and trying to rejuvenate the sputtering recovery.
He has used the Fed’s powers to go where no U.S. central bank chairmen, including Alan Greenspan and Paul Volcker, have gone before: providing emergency loans to investment firms, bolstering money-market mutual funds and making sure companies had access to commercial paper -- short-term financing businesses use to pay for supplies and salaries.
“He is, by far, the most activist chairman we’ve seen in modern history,” said former Fed Governor Lyle Gramley. “No other chairman has had a crisis of this magnitude to deal with, other than the people running the Fed in the late 1920s and in the 1930s, and they didn’t do a good job.”
With five of the nine economists on the academic panel that dates U.S. recessions saying the odds of a new slump are rising, Bernanke said in a speech today that the Fed still has tools to stimulate the economy, without providing details or indicating that the central bank will move ahead with a third round of government bond-buying.
“Although important problems certainly exist, the growth fundamentals of the United States do not appear to have been permanently altered by the shocks of the past four years,” Bernanke said in prepared comments at a symposium in Jackson Hole, Wyoming, hosted by the Kansas City Fed. “The Federal Reserve will certainly do all that it can to help restore high rates of growth and employment in a context of price stability,”
Last year, faced with a steadily weakening economy and 9.6 percent unemployment, Bernanke used his Jackson Hole presentation to signal that the Fed would embark on a second round of bond purchases to spur expansion and head off deflation.
While it’s difficult to tell whether the program, which included $600 billion in assets, helped the recovery, inflation expectations are higher now. The cost of living accelerated at an annual pace of 1.8 percent in July, excluding volatile food and energy costs. The gain was the largest in more than a year, according to Labor Department data.
Bernanke’s strategies have been driven by his work in academia, where he’s spent most of his professional life. Before Princeton in New Jersey, he taught at Stanford University in California, New York University and the Massachusetts Institute of Technology in Cambridge, where he earned a doctorate in economics after graduating from Harvard University.
He served as chairman of the President’s Council of Economic Advisers from 2005 to 2006, when he became Fed chairman; he started a second four-year term in 2010.
“His thinking is informed deeply by his scholarly works,” said economist Matthew Slaughter, associate dean of Dartmouth’s Tuck School of Business in Hanover, New Hampshire, who worked with Bernanke on the economic-advisers council under President George W. Bush. “He’d rather err on the side of doing too much, rather than too little, when dealing with the fallout from a financial crisis.”
Trying to avert a second Great Depression in 2008, Bernanke has said he was determined not to repeat the mistakes of Fed policy makers during the 1930s.
“Probably our most important finding is the confirmation of the view that monetary forces played an important role in the world Depression in both its early and later stages,” Bernanke wrote in a 1999 paper about the crisis. Even though the central bank’s actions were “generally expansionary” after 1931, they were “insufficient to counter the powerful deflationary forces that previous policy mistakes had unleashed,” he wrote.
‘Passivity to Timidity’
The initial responses from the Fed and President Herbert Hoover’s administration “ran the gamut from passivity to timidity,” Bernanke said in an April 8, 2010, speech in Washington. They erred by failing to act aggressively to prevent a wave of bank collapses, sever the link between the U.S. dollar and gold, and provide credit to stabilize the financial system, he wrote in essays on the era.
Then, in late 1936 and 1937, the Fed tightened credit too soon and Roosevelt’s administration made a mistake by tightening fiscal policy too soon, according to Bernanke, who blamed the actions for crippling the nascent recovery. The country fell back into a recession in 1937.
All this taught Bernanke that “policy makers must respond forcefully, creatively and decisively” and “crises that are international in scope require an international response,” he said in the April speech. He’s applied what he learned in engaging with his Fed colleagues in “what I call blue-sky thinking, generating many ideas,” he said.
Besides developing special lending programs aimed at breaking through credit clogs, Bernanke has taken other unprecedented steps. He slashed the Fed’s benchmark interest rate from 5.25 percent in early August 2007 to a near-zero record low in December 2008, where it remains.
He forced the nation’s biggest banks to undergo “stress tests” to see how they would hold up if the economy weakened. And the Fed, for the first time, bought mortgage securities in addition to government debt in a bid to revive the crippled housing market and spur Americans to spend more.
“Bernanke’s studies of the Great Depression taught him that it is better to jump in with both feet and take action,” Gramley said. “If he let the crisis spread and feed on itself, we would have gone down the tubes.”
After the Fed embarked on its $600 billion bond-purchase program in November, Bernanke called on Congress and President Barack Obama to follow up with more fiscal stimulus. They did: A stimulus package, including a payroll-tax cut, was enacted in late December.
His call echoed similar advice he gave to Japan as a Fed governor in 2003, when the world’s third largest economy was struggling with deflation and a stagnant economy.
“One possible approach to ending deflation in Japan would be greater cooperation for a limited time between the monetary authorities and the fiscal authorities,” he said. “The Bank of Japan should consider increasing still further its purchases of government debt, preferably in explicit conjunction with a program of tax cuts or other fiscal stimulus,” he said.
In his 1999 paper, Bernanke had chided Japan for not acting aggressively to fight deflation and revive its economy, saying its monetary policy “seems to be suffering from a self-induced paralysis.”
He urged the central bank to hold interest rates low until inflation picked up, buy government bonds to bolster the economy since interest rates were already at zero, and consider adopting an explicit inflation target in the 3 percent to 4 percent range and maintain it for “a number of years.” A commitment to keep rates at zero at least until deflationary concerns subsided was “a problem” because of “its vagueness,” he said, urging the central bank to link its pledge to achieving the inflation target.
“I do not see how credibility can be harmed by straightforward, honest dialogue between policy makers and the public,” Bernanke said.
He followed his own advice on Aug. 9, when he and a majority of his colleagues said they would keep the Fed’s target for the rate on overnight loans among banks at a record low at least into mid-2013. It was the first time the Fed had made such an explicit time pledge.
Although Bernanke’s unconventional measures have earned him recognition, including as Time magazine’s Person of the Year in 2009, they haven’t shielded him from criticism.
Lawmakers including Senate Minority Leader Mitch McConnell, a Republican from Kentucky, and House Majority Leader John Boehner of Ohio, have blasted Bernanke for the second round of asset purchases, saying it could lead to dangerously higher inflation and ignite a wave of speculative buying that could feed another asset bubble.
Other Fed chairmen also have been criticized for bold action. Volcker in the early 1980s pushed interest rates to a record 20 percent to target inflation above 13 percent. While prices eventually dropped, the economy fell into a 16-month recession in July 1981 after emerging from a six-month slump in July 1980.
Greenspan, after the 2001 recession, slashed the Fed’s benchmark interest rate to 1 percent in late June 2003, the lowest since 1958, and held it there for a year in a bid to fend off what he called a remote chance of deflation. Critics blame him for inflating the housing bubble that burst in 2007 and thrusting the economy into recession by holding interest rates too low for too long.
Even so, Bernanke has presided over even more economic upheaval.
“Bernanke walked into a hurricane and became the most activist chairman of the Fed,” said economic historian and author John Steele Gordon, whose books include “The Great Game: The Emergence of Wall Street as a World Power.” History “will judge whether his policies worked.”