Wednesday, December 2, 2009

Today's secret word ... uh ... pablum narrative... is bubbles

(Thank you, thank you, and welcome to "You Bet Your Life." Say the secret word...uh...pablum narrative... and a swan will come down and debase your standard of living. Tonight's contestant is making a return engagement. -AM)

Wall Street Journal
March 19, 2009
By Michael M. Phillips

WASHINGTON -- Lawmakers really want the American people to know that they, too, are "outraged" about the $165 million in bonuses paid to American International Group executives.

They were so outraged, in fact, that they turned Wedndesday's congressional hearing on AIG into a daylong expression of outrage. Members of the House Subcommittee on Capital Markets, Insurance, and Government Sponsored Enterprises mentioned their outrage at the big insurer 18 times. And that was during 45 minutes of opening remarks, even before the immediate target of their outrage, AIG Chief Executive Edward M. Liddy, entered the room.

"I certainly join my constituents in their outrage," offered Rep. Ron Klein, a Florida Democrat.

The subcommittee chairman, Rep. Paul Kanjorski, gave Rep. Randy Neugebauer, a Texas Republican, only one minute to speak, so he didn't waste any time. "I'm going to go ahead and say I'm outraged as well," he began.

Some Republicans wanted credit for their earlier outrage, saying they aimed it at those who supported bailouts of AIG and others in the first place -- presumably Democrats. None mentioned the role of former President George W. Bush, who was in the White House when the rescue money started flowing to AIG.

Rep. Jeb Hensarling (R., Texas) forecast more anger to come. The furor over AIG bonuses is "simply the outrage of the week, and the week isn't half over yet.

(Today's pablum narrative is bubbles. -AM)

Wall Street Journal
December 2, 2009

Not so long ago, Federal Reserve officials were confident they knew what to do when they saw bubbles building in prices of stocks, houses or other assets: Nothing.

Now, as Fed Chairman Ben Bernanke faces a confirmation hearing Thursday on a second four-year term, he and others at the central bank are rethinking the hands-off approach they've followed over the past decade. On the heels of a burst housing-and-credit bubble, Mr. Bernanke now calls financial booms "perhaps the most difficult problem for monetary policy this decade."

With Asian property prices soaring and gold prices busting records almost daily, the debate comes at a critical time. Mr. Bernanke wants to use his powers as a bank regulator to stamp out bubbles, but the Senate Banking Committee, which will grill him later this week, is considering stripping the Fed of its regulatory power.

At the same time, pending legislation in the House could leave Mr. Bernanke running a less independent institution. The House Financial Services Committee has passed a measure that would subject the Fed's interest-rate decisions to scrutiny by the Government Accountability Office, an investigative arm of Congress. Mr. Bernanke and others at the Fed fear that with Congress looking over their shoulders, any decision they make about interest rates would be subjected to the winds of politics -- making it harder to control inflation or financial bubbles.

Fed officials used to think there was little they could or should do to prevent bubbles from inflating. For one thing, identifying bubbles with any certainty was deemed to be too difficult. And even if they could be accurately pinpointed, pricking them might do more harm than good. Raising interest rates to stop a bubble, for instance, could slow growth in other parts of the economy that were otherwise healthy.

The Fed's main strategy instead was to mop up after a bubble burst with lower interest rates to cushion the blow to the economy and restart growth. That strategy was a key conclusion of Mr. Bernanke's writings on the subject of bubbles when he was a Princeton professor, and again when he first came to the Fed as a governor in 2002. It was an approach embraced by his predecessor Alan Greenspan.

One of the few doubters was William Dudley, then chief economist at Goldman Sachs and now president of the New York Fed. He is one of the Fed's more outspoken proponents of preventing bubbles, and has said it's not as hard to spot them as many economists believe. "I can identify at least five bubbles that one could reasonably have identified in real time," including the tech boom, Mr. Dudley said in 2006 speech. He knew, he said, because he had speculated against three of them himself when he was at Goldman.

Now, Fed officials admit the stance didn't work. They're groping for alternatives. Of the two methods to prevent bubbles -- using regulations to protect the financial system from excess and changing monetary policy by raising interest rates -- Mr. Bernanke falls on the side of greater regulation, an idea he has advocated in the past.

"The best approach here if at all possible is to use supervisory and regulatory methods to restrain undue risk-taking and to make sure the system is resilient in case an asset price bubble bursts in the future," Mr. Bernanke said in answer to a question after a speech in New York last month.

Playing the interest-rate card, in contrast, is considered by many to be a more aggressive and risky move. On Tuesday, Philadelphia Fed President Charles Plosser said interest rates were "a very blunt instrument" to thwart a possible bubble. He said raising rates could "affect all other asset prices at the same time."

But some on the Fed's research staff are pushing senior officials to include interest rates in their plans -- and some officials say they can no longer rule that out. Kevin Warsh, a Fed governor who spent seven years on Wall Street before moving to Washington in 2002, says he's keeping close track of commodities prices, the dollar and movements in credit markets. The Fed, he says, has to be open-minded in its search for solutions to bubbles, including whether interest rates should be used to squash them.

Yet the question of whether and how to tackle bubbles before they burst is becoming a growing concern amid fears of new bubbles developing in commodities markets and in emerging economies. Gold prices are up more than 50% in a year's time. China's Shanghai Composite stock index is up more than 75% this year. Stocks in Brazil are up even more. Oil prices have rebounded. They remain far below last year's peaks but a return to those highs could fuel inflation in goods and services more directly than tech stocks or housing did.

"This is a very dangerous period," says Frederic Mishkin, a Columbia University economist and former Fed governor. If a new bubble threatens to emerge and the Fed decides to fight it more aggressively, he says, it could damage an already weak economy. "You don't want to be fighting the last war," he says.

The debate extends far beyond the Fed. Researchers at the Bank for International Settlements, a Basel, Switzerland-based group that coordinates central-bank activities around the world, are pushing to address bubbles more aggressively. On a recent trip to Asia, the Fed's Mr. Warsh and San Francisco Fed President Janet Yellen got an earful from finance officials in China and Hong Kong, who worry that low U.S. interest rates are prompting investors to borrow in the U.S. and drive up asset prices in Asia.

Fed officials are now debating the differences between bubbles as a way to understand them better and come up with the right solutions.

The most dangerous part of a bubble may not be the rise in asset prices, but the level of debt that builds up at financial institutions in the process, fueling even higher prices. That means keeping these debt levels down might be one way to prevent busts.

No one at the Fed has yet come out in favor of raising interest rates to stop the next bubble, but the idea is being discussed more seriously among Fed officials.

Donald Kohn, the Fed's vice chairman, was one of the strongest proponents of the old don't-pop-bubbles view. Today, he says, he has much less conviction about that strategy. Still, he worries that using higher interest rates to tame an asset boom would be like using a sledgehammer to drive a tack -- it might stamp out the boom but it would do a lot of peripheral damage in the process.

"You raise interest rates [to fight a bubble] and you damp all kinds of capital spending and consumer durable spending," said Mr. Kohn in an interview.

Mr. Bernanke is leaving himself hedged. If he felt stamping out a bubble with higher rates would forestall a rise in inflation or stabilize the economy, "We'd have to think about that very seriously," he told the New York Economic Club recently. "We can never say never."

(Hahahahahahahahaha ... oh my ...gasping for breath... heh heh heh ...dabbing eyes... that was great just great. Waiter another round for my friends please. Let's see what is next on the playbill ... adjusting glasses ...hmmm... Geithner discussing the strong dollar... and then...squinting.. it looks like a Congressional panel on deficit reduction. My oh my, what a show.-AM)


Anonymous said...

You got to laugh I guess. Otherwise it'll drive a person insane!

Outraged my foot. If they're outraged it's probably only because they weren't included in the bonuses.

Anonymous Monetarist said...

Laughter is the best medicine.

Unknown said...

Bernanke citing the sham stress tests as proof of the Fed's unparalleled expertise to oversee banks was both hilarious and disturbing. His choice as Foreign Policy's Top Global Thinker of 2009 is an encouraging sign for any arsonists being considered for FP's Top Global Firefighter of 2009 award.

Anonymous Monetarist said...

Ah the stress tests.

A sham not only in execution but design. Prior to the tests the Federales had sent Swat teams across the land presumably collecting the info that the 'stress tests' were supposed to capture. They were also supposed to make the 'pre-stress test' test results public, which they never did. In truth the stress tests were IQ tests, and the MSM failed.

One last bit on this nostalgic moment, here's a great article at the time ...

New York Post
Last updated: 1:47 am
April 8, 2009


The stress tests the government are about to conduct on some of the nation's largest banks is being blasted by insiders at Sheila Bair's Federal Deposit Insurance Corp., who say it's a pointless exercise that's more sizzle than steak.

The FDIC's basic beef with the stress test is that it is not a credible way to assess how much additional cash beaten-down banks will need to weather what many Wall Street experts predict will be more losses in the coming months.

The tests are conducted by the Treasury Department and the Federal Reserve on the nation's 19 biggest banks, including behemoths Citigroup, Bank of America and JPMorgan Chase.

"It's a sham," one source told The Post, describing the test as an "open-book, take-home exam" that doesn't actually work.