Friday, April 16, 2010

Bernanke Wants To Start Planning For Deficit Reduction

The Federal Reserve continues to maintain low interest rates, while admitting that it has still not formulated a credible plan to deal with the ballooning national debt. While the effects of massive federal stimulus spending and strategic nonpayment of mortgages have temporarily propped up consumer spending, a run-up in the inflation rate could create another economic crisis for the US. See the following post from Expected Returns.

From the New York Times, U.S. Must Start to Rein in the Deficit, Fed Chief Says:

The Federal Reserve chairman said Wednesday that the government must begin to make “difficult choices” to address its gaping deficits and warned that “postponing them will only make them more difficult.”

The chairman, Ben S. Bernanke, said that a “credible plan” for reining in federal deficits could help long-term interest rates and raise consumer and business confidence. “Although sizable deficits are unavoidable in the near term, maintaining the confidence of the public and financial markets requires that policy makers move decisively to set the federal budget on a trajectory toward sustainable fiscal balance,” he said.

Bernanke is a little late here. The window of opportunity to make "tough choices" regarding our fiscal position has already passed, and our leaders have failed miserably. Did bailing out AIG, Fannie and Freddie, Citigroup, GM (and the entire auto industry), and Bank of America at taxpayer's expense constitute a "tough choice"?

It appears to me our leaders took the easy way out, bailing out institutions that, coincidentally, contributed millions of dollars to their campaigns. Let's not forget one of Obama's economic advisors, Robert Rubin, was still a Director at Citigroup when they got bailed out to the tune of $40 billion dollars. The moral bankruptcy of our leaders will lead to a bigger crisis, there is no doubt about this.

By his own admission, Ben Bernanke has not formulated a credible plan to deal with the coming debt crisis. How is this possible? Can it be that the sovereign debt crisis will be an instant replay of the housing crisis, which Ben Bernanke didn't see coming? I'm afraid so.

Inflation and Higher Interest Rates

In testimony to the Joint Economic Committee of Congress, Mr. Bernanke did not address monetary policy or say how long the Fed would keep short-term interest rates near zero. When the committee’s chairwoman, Representative Carolyn B. Maloney, Democrat of New York, asked him to elaborate on what it meant for the Fed to keep its benchmark rate there “an extended period,” Mr. Bernanke said the time frame was based on “low resource utilization,” subdued inflation and stable inflation expectations.

“At some point, the markets will make a judgment, really not about our economic capacity but our political ability, our political will, to achieve longer-term sustainability,” Mr. Bernanke told Mr. Brownback. “At that point interest rates could go up and that would be, of course, a negative for economic growth and recovery. We don’t know when that point would be reached.”

Pressed on whether that point could be now, Mr. Bernanke replied that it was “absolutely possible.”
Inflation is only subdued in the Fantasyland world of CPI statistics. Doctored core CPI figures- which, of course, exclude "volatile" food and energy costs- mask the inflation that is already here.

Crude oil has doubled in a little over a year, and gasoline prices have followed suit. The rise in food and energy costs would normally curtail discretionary spending. However, the dual effects of the strategic nonpayment of mortgages and massive government handouts are keeping consumer spending propped up.

In the real world, food, energy, health care, and education costs are going up substantially. In the real world, about a quarter of spending is driven by government handouts. With people like Ben Bernanke dictating monetary policy, it's clear that the inflation coming down the pipeline will eventually make us long for the days of $4 dollar gasoline.

This article has been republished from Moses Kim's blog, Expected Returns.
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