Trouble at the Fed
In persistent denial that it was ample liquidity in the first place that caused the present dire economic situation, the head of the Fed holds the view that "too little inflation" has been the true threat all along. Fear of deflation is Ben Bernanke's recurrent nightmare. In fact, his deflation worries form the basis of the so-called Bernanke doctrine, which says that the cure is monetary expansion and, consequently, holding interest rates as low as possible.
Since his first days at the Fed, as a member of the Board of Governors in 2002, Bernanke has promised to be a big printer of money. And since he took over the helm from Greenspan as chairman of the US central bank in 2006, he has fully lived up to this pledge.
Among financial-market operators, Ben Bernanke gained early fame as "helicopter Ben." He announced in a speech in 2002 that the central bank should avoid deflation even by the use of helicopters to drop dollar bills across the land. Indeed, Bernanke's rule at the Federal Reserve Board has been impressive: his management has yielded a series of wild gyrations in the stock and bond market and the market for gold and commodities. This take-off from the apparent brink of deflation to the heights of hyperinflation is his greatest stunt yet.
Bernanke is an economist by trade, specializing in the study of the Great Depression. That was a bad omen from the beginning — because he has studied economics and the Great Depression in the framework of a particular, flawed paradigm. His studies make him believe that the central bank could have prevented the great economic decline of the 1930s if only it had more aggressively expanded the money supply. This was the lesson that Bernanke learnt from Milton Friedman. Apparently unfamiliar with alternative explanations 1, Bernanke has never doubted Friedman's thesis.
When trying to put Friedman's lesson into practice, Bernanke and his team face a terrible dilemma. While the chairman and most of his crew pretend to practice monetary policy in a "scientific" way, they are humiliated every day by the emptiness of this promise. The positivist approach of the money doctors breaks down because, as acting men, they themselves are part of the reality that they are supposed to manage.
This challenge is quite different from textbook models, with their neat separation between a definite object, a tested theory, and a neutral observer. It is one thing to do academic economic research; it is quite a different task to decide and to act on the basis of incomplete, contradictory, and largely false data.
It is hardly a wonder that Bernanke and his team are in a constant panic. The economic data they are so eager to get in order to make "rational" decisions are inaccurate, inconclusive, and always false: at the very moment when the data are gathered, economic constellations have already changed, often quite drastically.
Unsure about what the data say, but scared by the expectation that a deflationary depression might start at any moment, Bernanke has kept the floodgates of monetary expansion wide open.
Overwhelmed because the world of finance is not only exposed to risk but ruled by widespread uncertainty, Chairman Bernanke tries to make sense of inconclusive data with the help of macro models. Things don't fit. As a consequence, he falls into one of his repeated panics and slashes the interest rates with a vengeance. Financial-market operators watch in terror, and the markets begin to freeze.
Here he is, the lord of money, striking in anger like one of the ancient gods; in fact, it is only poor Ben suffering from temporary mental disturbances because he is unable to make sense of the mess of data. Under Bernanke, US monetary policy is made with the big hammer. It is no surprise that the economy is falling apart.
It is Bernanke's unwavering creed that central banking can be practiced as a science. If things don't work out as they are supposed to, it must be because of insufficient data and inadequate models. Thus, in his anguish, he decided to create a special "brain trust," a creation called MAQS: the Fed's "Macroeconomic and Quantitative Studies" unit. Bernanke wants this team to sift through as many models, projections, stats, and scenarios as possible.
Blinded by scientism, the chairman obviously is unable to see that no sound conclusion or reliable policy formulation can be reached this way. The more data the studies team collects and sifts, the more confusions and contradictions they will bring to light; the longer they collect and sift, the less relevant the data will become.
Let us imagine what the Fed chairman is doing on a typical workday. Let us imagine how Bernanke sits in his office at the Federal Reserve building in Washington, DC, pondering from dawn to dusk, sifting through an endless stream of data and contradictory models. With each passing hour, more of these statistics come in, new data appear, Fed economists provide a new avalanche of scenarios, and Bernanke's panic grows.
And things get worse: for each data set that comes in, some other data get revised; and for each standard projection, Bernanke's staff confronts the chief with "alt sims" — alternative simulations. Any moment after even a tiny break, when Bernanke looks at the computer screen again, financial markets have changed and economic reality is different from what it was a moment ago. Poor Ben, his head must be spinning.
Bernanke's challenge resembles the task at which the Gosplan of the Soviet Union failed. In most of the so-called "capitalist economies," modern central banks are supposed to accomplish a similar task: to make the economy and employment grow, to finance wars and fight depressions, to supervise and regulate financial markets, and all along to guarantee "price stability." In order to grapple with such a superhuman challenge, the Fed staff make up one model after another, only to have them each be immediately falsified by new data. As a consequence of this confusion, each erroneous policy measure is followed by the next.
Ben Bernanke is too much of a good guy to practice the art of deceit in the cynical way that is necessary for deception to work on a grand scale. His predecessor at the helm of the US central bank, Alan Greenspan, at least knew that central banking is not a science but a kind of show business whose very nature is the pretence of knowledge.
We do not need new monetary process models, more statistics, or better scenarios. All of these are in ample supply. We do not need a more competent chairman. By conventional measures, few are better qualified for the job than Bernanke. What we need is something else: the establishment of a different kind of monetary system, one that uses competitive markets in the area of money and banking, and that eliminates the currency monopoly of the state.