Wednesday, August 5, 2009

Bernanke's Test - He has passed


Bernanke's Test: Ben Bernanke, Alan Greenspan, and the Drama of the Central Banker by Johan Van Overtvelt is as an even-handed discussion of the personalities driving the Fed as any I have read. It also provides a central bank perspective on the credit crisis over the last few years.

It confirms my belief that the Fed has done as good a job as possible given all the twists and turns this crisis has taken. The author makes a good case for Chairman Bernanke being the right man for the right time during this crisis. There is no one in the professional ranks of monetary economists who could have been better prepared for dealing with the combination of a great recession and deflation at the same time. He has also shown good skill at managing the Fed through the current prorblems.

Of course, the Fed is not without fault throughout the last two decades, but most of these criticisms are made in benefit of hindsight. However, there are four critical issues or questions which will have to be dealt with by the Fed as we move forward.

1. Is the Fed up to the task of being the best regulator of banks and other large financial institutions? Greenspan gave this area short shift and we have paid a dear price. It is not clear that running monetary policy requires active oversight and management of the regulatory process.

2. Can the Fed reverse their monetary easing at the right time? Bernanke and Greenspan were effective at lowering rates and providing lots of liquidity during a crisis. The real issue is whether they have the willingness to "pull the punch bowl" at the right time.

3. Is the Fed up for the task of protecting the economy from systemic risk? This is closely tied wit the issue of whether the Fed should try and stop asset price bubbles. The Fed has avoided attempts to control or stop run away asset prices. Isn't this one of the harbingers of systemic risk?

4. Can the Fed avoid the politics of a prolonged recession? The town hall meeting of Bernanke suggests that he is campaigning for his job. Do we want a central banker who wants to be the chairman of the Fed?

The book states that Bernanke has passed his test, but just because you graduate from one crisis does not mean that you will pass all future crisis. We never stop learning and we never stop being tested. We need to know how he will do with future tests.


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