Bush's Fed Mistake Is Now Obama's

Yesterday President Obama confirmed what futures markets seemingly already knew, that Ben Bernanke would be reappointed as Fed Chairman. Whatever one's opinion of Bernanke, his successes and failures will now reflect on the man who chose to keep him in place at the Federal Reserve.

Bernanke's reappointment is yet another reminder that Washington is truly a different world. While business failures in the private sector are routinely starved of capital so that they can no longer bring harm to customers and investors alike, Washington failures get reappointed and are handed an expanded portfolio of duties.

About Bernanke, regardless of all the investor talk about the need for continuity and certainty within the world's most important central bank, the simple reality is that Bernanke's tenure has not been an impressive one. And whatever one's opinion of Alan Greenspan, it can't be stressed enough that he was mostly popular precisely because throughout the majority of his chairmanship, the economy and stock markets were doing pretty well.

The same cannot be said of Bernanke. At best it could be said that markets and the economy on his watch have been turbulent, and extremely uncertain. More to the point, most wouldn't favorably compare 2006 to the present to 1987-2005.

Unsurprisingly, Bernanke sees things differently. He has of course said that his actions last year essentially saved capitalism, but the more realistic assessment is that they discredited it. While enough's been written in this column about how TARP emasculated a banking system that is now a weakened ward of the state, not enough has been written about how the bailout of irresponsible financial institutions made capitalism less credible in the eyes of voters.

People who call themselves capitalists frequently complain about President Obama's anti-market instincts, but what will forever remain unknown is if Obama would currently be occupying the White House had the political party most associated with capitalism not retreated from it so grandly in 2008, Bernanke one of the more notable retreaters. As the late Jude Wanniski used to say, when voters are given a choice between soft socialism and socialism, they'll always take the latter.

The common response is that capitalism wouldn't have survived absent Bernanke's role in the bailout of the banking system. Nice rhetoric for sure, but if Japan's economy could roar back from the utter decimation wrought by World War II, it's beyond absurd for anyone to state that the U.S. economy couldn't have bounced back from one or several bank failures.

To suggest otherwise is to say that the failure of banks would have coincided with finance's disappearance, along with the vanishing of the individual talents that drive economic growth to begin with. More realistically, excessively tight capital markets in the aftermath of the bank implosions would have served as a signal to existing and potential sources of finance that intrepid lending would be rewarded.

Capitalism can only be defined as such when failures are allowed to fail, and successes allowed to prosper. But by virtue of the gasping nature of some of the banks in need of bailout money last year, far from essential inputs to economic growth, their troubles screamed lending and investing of the anti-growth and anti-capitalist variety. In short, to save them was to harm the economy and capitalism, not bolster it. For Bernanke apologists to suggest otherwise, as in a resuscitation of the dead banks was essential for economic growth, is for them to say that lending practices don't matter. Logic tells us they do, and once investors rendered their verdict, the Bernanke Fed should have stepped aside.

And while it's the height of hysterical optimism to assume functionaries at the Federal Reserve could somehow be equal to the job of regulating private sector banks, since the Fed is charged with bank oversight, it's fair to say the Bernanke Fed performed poorly there too. That being the case, why is it that the Obama administration seeks to expand the Fed's role to "systemic risk regulator" during a second Bernanke term?

On the employment front, under Bernanke the level of unemployment has doubled. So while it should be said repeatedly that the Fed should have no opinion whatsoever about how many or how few Americans are working, the Bernanke Fed has failed miserably when it comes to one of its most basic objectives.

With regard to inflation, Bernanke is a throwback to the happily bygone ‘70s when Establishment economists correlated economic weakness with low levels of inflation. In that sense, Bernanke's likely patting himself on the back for an unfortunate economy that supposedly has levels of inflation low.

The problem is that economists were wrong then about inflation, just as they are today. Indeed, if inflation was a function of economic growth, the 1930s and 1970s would have been deflationary, while the booming ‘80s and ‘90s would have been inflationary. In fact, the opposite is true. The dollar price of gold, not economic growth, tells the true inflation story.

And as is well known, in 1934 FDR reduced the dollar's value versus gold; the latter rising from $20.67/ounce to $35. So despite unemployment levels from 1933 to 1937 that ranged from 14 to 25%, the admittedly unreliable government measures of inflation during that period came in at 7 percent. The economy was hardly booming in the ‘70s, but with the dollar having collapsed versus gold during the decade, CPI inflation by 1980 had risen to 13%.

The price of gold fell fairly consistently throughout the ‘80s and ‘90s, but despite nearly uninterrupted economic growth from 1983 until the end of the millennium, inflation was quiescent. Translated, Bernanke is wrong about the causes of inflation, and assuming a major economic rebound, workers and the Obama administration will figure this out the hard way as Bernanke wrings his hands over too many people working, and acts to reduce the number.

In Bernanke's defense, the Bush and Obama administrations' eager acceptance of a weak dollar has played a major role in its decline versus gold this decade, but if the Fed is empowered to restrain inflation, the verdict on Bernanke is negative considering the doubling of its price since his nomination. The CPI has been slow to register the dollar's debasement since 2004, but if history is any kind of indicator, Phillips Curve advocates will once again have to explain rising consumer price inflation amid slow growth.

Probably the biggest argument against what is now a foregone conclusion has to do with Bernanke's allegiance to monetary policy. In truth, the dollar is insignificant except for as a store of value that enables consumers and investors to reliably provide money in return for goods and equities. In that sense, we don't need monetary policy, instead we need a dollar-price rule. But as CNBC's Larry Kudlow recently observed, "I have never heard Mr. Bernanke proselytize for a stable-dollar currency value of money."

In the end the markets got the certainty they desired, and President Obama was able to at least for now distract the media from his dying attempts to remake healthcare. But ultimately investors and workers will pay dearly for the reappointment of a systemic risk generator whose discredited beliefs on inflation assure continued dollar instability, and subpar growth. George W. Bush foisted this mistake on us, but Bush's mistake is now very much President Obama's.