The Bernanke Fed

The stock market took off today on President Bush's announcement that Ben Bernanke, the former Princeton University economist turned Federal Reserve Board governor, will take over the Fed when Alan Greenspan retires early next year. While the media immediately reported the market's response was due to perceptions Bernanke will be an inflation hawk like Greenspan, some of his recent speeches suggest his mind works in unconventional ways when it comes to prescribing medicine for imbalances in the economy.

Take the current account deficit, currently running somewhere north of $600 billion a year. We're not just importing significantly more goods and services than we export -- the trade deficit. The U.S. is also a major importer of capital with the exporting nations of Asia, especially China, being some our biggest lenders.

The traditional view is that this current account deficit is a mirror image of the nation's budget deficit, which the Bush administration has pushed to near record levels to support his war in Iraq, hurricane relief and undiminished domestic spending. He even faces a minor revolt in the House among fiscal conservatives who want to use the budget deficit to take another whack at what's left of discretionary federal spending. These allies of anti-tax activist Grover Norquist believe the current economic environment presents their best opportunity to, using his words, drown what's left of the government in a bathtub.

Greenspan could usually be relied upon to sound these conservative themes in his periodic trips to Capitol Hill. When it came to fiscal policy, the Ayn Rand devotee never drifted far from his roots.

But Bernanke may not be as reliable an ally for the deficit hawks. In two speeches earlier this year, the Fed governor downplayed the role of the federal budget deficit as a driver of the nation's current account deficit, which most economists see as unsustainable.

"I disagree with the view, sometimes heard, that balancing the federal budget by itself would largely defuse the current account issue," he said. "In particular, to the extent that a reduction in the federal budget resulted in lower interest rates, the principal effects might be increased consumption and investment spending at home rather than a lower current account deficit. Indeed, a recent study suggests that a $1.00 reduction in the federal budget deficit would cause the current account deficit to decline less than $0.20. These results imply that even if we could balance the federal budget tomorrow, the medium-term effect would likely be to reduce the current account deficit by less than one percentage point of GDP."

Supreme Court Justice nominee Harriet Miers will soon face the furies of the right. Bernanke may get the same treatment once the deficit hawks have had time to read of his recent speeches.

Posted by gooznews at October 24, 2005 09:51 PM