Federal Reserve Chairman Bernanke is feeling the pressure of a potentially explosive monetary crisis--the first of his tenure. Five years ago, in Jackson Hole, Wyoming, then Chairman Alan Greenspan addressed the advisability of the Federal Reserve "popping" asset bubbles to rein in perceived excesses. Greenspan didn't come right out and say "It's not our job," (He never came right out and said anything) but he did comment as follows: ""The more flexible an economy, the greater its ability to self-correct in response to inevitable, often unanticipated, disturbances...." From his mouth to God's ears! That was the summer of 2002.
(photo courtesy Bloomberg)
In November that same year, then Federal Reserve Governor Bernanke addressed the National Economist's Club in Washington. commenting on "the resiliance and structural stability of the U.S economy." "Over the years," he said, "the U.S. economy has shown a remarkable ability to absorb shocks of all kinds, to recover, and to continue to grow."
The focus of the speech was not inflation. It was not a potential housing bubble. It was not lack of liquidity in the markets. Governor Bernanke's concern was deflation--the possibility that demand for goods would dry up, that interest rates could fall close to zero, as had happened in Japan, and that the Fed would be powerless to stimulate demand to kick start the economy.
Defining potential consequences, Bernanke told the gathered economists that "the economic effects of a deflationary episode...[would be] recession, rising unemployment, and financial stress." "Irving Fisher (1933,) he went on, "was perhaps the first economist to emphasize the potential connections between violent financial crises, which lead to "fire sales" of assets and falling asset prices, with general declines in aggregate demand and the price level."
Does that sound like today's real estate market? I'm betting on Ben to cut interest rates. The threat is not the one he anticipated, and he may appear to be caving to investor pressure, but today's liquidity crisis is just as dangerous to our economy as the one he anticipated in 2002. Perhaps even more so.
What can we expect from Chairman Bernanke in this trial by fire? In his own words from that conference, "...At times of extreme threat to financial stability, the Federal Reserve stands ready to use the discount window and other tools to protect the financial system, as it did during the 1987 stock market crash and the September 11, 2001, terrorist attacks."
From his mouth, to God's ears.
