Market Talk

No dilemma too tough for the Fed Chairman.

Ben Bernanke’s in a tough spot. I can understand his predicament: the Fed Chairman can’t allow as that his predecessor’s policies, i.e., a 1% fed funds rate, sparked the housing bubble that drove the financials market into the credit crisis that nearly toppled the entire economy.

Because to admit that mistake would lead some bright eyed listener to ask the obvious follow-up question: if a 1% fed funds rate did all that, well, by golly, what might a 0% rate do?

So the esteemed chairman basically threw sand in the bulls’ eye, so to speak. He “mounted a vigorous defense,” as the Journal wrote, of Fed policy at a big confab of economists down in Atlanta.

It wasn’t the Fed’s monetary policy, no. “Instead, he said, the problem was lax regulation.” In his speech, he essentially said the Fed didn’t force anybody to make shoddy loans, all it did was lower interest rates in response to conditions.

He does have a slight point, of course: the Fed, unlike, say, communist China, didn’t order anybody to make loans. But they sure did encourage it.

“What Bernanake seems to be overlooking in his exoneration of ultra-low rates was the impact they had on the world’s bond managers,” Barry Ritholtz writes at The Big Picture,” especially pension funds, large trusts and foundations. Subsequently, there was an enormous cascading effect of 1% fed funds rate on the demand for higher yielding instruments, like securitized mortgage.”

“It is fairly remarkable that the Fed Chairman can divorce monetary policy from the deterioration of credit standards (which are also a Fed responsibility on the regulatory front,)” BTIG chief market strategist Mike O’Rourke wrote. “Keeping rates so low and predictable for so long fueled the creation of SIVs and other carry trade vehicles that purchased the garbage paper creating a market.  Someone please tell the Fed Chairman that it was not a global savings glut but a doubling of leverage in the system.”

Bernanke’s speech is another example of somebody who’s got a vested interest and position, and is defending despite the fact that actual events have proven beyond the shadow of a doubt that the position is wrong. Keeping interests so low for so long in 200 and 2001 was wrong; it created more problems than it solved. Let’s hope that doing so now is not just as wrong, because the Fed Chairman certainly doesn’t think it is.