Chairman Bernanke: The More Things Change, The More They Stay The Same

By: Paul Kasriel | Sat, Oct 29, 2005
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The first word out of Ben Bernanke's mouth after President Bush nominated him to succeed Alan Greenspan as chairman of the Federal Reserve Board was "continuity." Of course, this was to sooth the global financial markets that no radical changes in the conduct of monetary were imminent when Bernanke takes the helm. But I believe the continuity concept runs deeper than even Bernanke realizes.

Bernanke has been an advocate of the Fed adopting a formal target for the rate of growth in the prices of goods and services. That is, the Fed should pick some definition of a general index of goods/services price increases - e.g., the CPI or the PCE chain price index, perhaps with a core concept - and specify a minimum and maximum rate of tolerable growth in this index over some period of time, perhaps a two-year period. Would this be a radical change in policy conduct from Greenspan's tiller time? Not in substance, in my opinion. Everyone knows that the Fed is not going to sit idly by and let a general price index of goods and services rise out of control. Nor is the Fed going to let this price index fall. (By the way, you don't have to worry much about a general price index falling. The Fed was established in 1913 and started operations in 1914. As shown in the chart below, the CPI has never been lower than the year before the Fed started operating and has advanced steadily starting in 1934.) Moreover, the Fed now reports its forecast range for the rate of increase in the core PCE chain price index for the current year and the next year. Fed-watchers have come to view these price-index forecasts more akin to inflation targets than pure forecasts. After all, because the Fed is charged with maintaining price stability, how could it forecast rapid price increases two years ahead without opening itself up to charges of dereliction of duty?

But even if formally specifying a target rate of growth in the prices of goods and services were a radical departure from the Greenspan era, would it allow us to better anticipate how the Fed would operate? I don't think so. We still would not know how the Fed intended to move the fed funds rate to accomplish its goal. For example, what is the correct time path for the fed funds rate level in order for the Fed's price index target to be met? What is the Fed's vision of the correct time path? Would the Fed reveal to the public its vision of this time path? In other words, we would be guessing what the Fed intended to do with the fed funds rate over the next several months just as we do now.

Bernanke has the reputation for desiring greater "transparency" with regard to Fed policymaking. Does this mean that the Fed is going to release in real time its economic forecasts? I doubt it because this would reveal that the Fed is not a very good forecaster. As Jim Grant wrote in a New York Times October 26 op-ed piece (, the U.S. dollar is a faithbased currency. Part of the faith placed in the dollar is the faith that the Fed is omniscient like the Wizard of Oz. More transparency at the Fed would run the risk of global financial participants seeing that there is no omniscient wizard behind the curtain - just a mere mortal. And mere mortals are unable to consistently accurately forecast economic activity, especially at critical turning points.

All of which brings me to my final and most important point. Again, as Jim Grant wrote in the aforementioned op-ed piece, the Fed is a price fixer. It fixes the price of credit in the U.S. economy and, to some extent, the global economy when other central banks choose to peg their currencies to the U.S. dollar. Because the free market-determined equilibrium price of credit is in a constant state of flux as is the equilibrium price of corn, it would only be by pure coincidence that the Fed would target the fed funds rate at its marketequilibrium level. By preventing the price of credit from moving toward its equilibrium level, the Fed distorts the economically efficient allocation of resources just as the Soviet commissars did for 70 years. (For a more detailed discussion of how the Fed's price-fixing of credit creates monetary mischief and for a superior alternative operating procedure, see my commentary "Greenspan's Uncertainty Principle: Premise Accepted, Conclusion Rejected," Bernanke has given no indication that he intends to abandon credit price-fixing. Thus, the more things change, the more they stay the same.


Paul Kasriel

Author: Paul Kasriel

Paul L. Kasriel
Director of Economic Research
The Northern Trust Company
Economic Research Department
Positive Economic Commentary
"The economics of what is, rather than what you might like it to be."
50 South LaSalle Street, Chicago, Illinois 60675

Paul Kasriel

Paul joined the economic research unit of The Northern Trust Company in 1986 as Vice President and Economist, being named Senior Vice President and Director of Economic Research in 2000. His economic and interest rate forecasts are used both internally and by clients. The accuracy of the Economic Research Department's forecasts has consistently been highly-ranked in the Blue Chip survey of about 50 forecasters over the years. To that point, Paul received the prestigious 2006 Lawrence R. Klein Award for having the most accurate economic forecast among the Blue Chip survey participants for the years 2002 through 2005. The accuracy of Paul's 2008 economic forecast was ranked in the top five of The Wall Street Journal survey panel of economists. In January 2009, The Wall Street Journal and Forbes cited Paul as one of the few who identified early on the formation of the housing bubble and foresaw the economic and financial market havoc that would ensue after the bubble inevitably burst. Through written commentaries containing his straightforward and often nonconsensus analysis of economic and financial market issues, Paul has developed a loyal following in the financial community. The Northern's economic website was listed as one of the top ten most interesting by The Wall Street Journal. Paul is the co-author of a book entitled Seven Indicators That Move Markets.

Paul began his career as a research economist at the Federal Reserve Bank of Chicago. He has taught courses in finance at the DePaul University Kellstadt Graduate School of Business and at the Northwestern University Kellogg Graduate School of Management. Paul serves on the Economic Advisory Committee of the American Bankers Association.

The opinions expressed herein are those of the author and do not necessarily represent the views of The Northern Trust Company. The information herein is based on sources which The Northern Trust Company believes to be reliable, but we cannot warrant its accuracy or completeness. Such information is subject to change and is not intended to influence your investment decisions.

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