The Bernanke Confirmation Battle: Part II

By Richard A. Posner

Ryan Grim, in a posting January 21 on Huffington Post, states that "a recent poll [a Research 2000 National Poll] found that 47 percent of Americans think Bernanke cares more about Wall Street than Main Street, while only 20 percent think he works for Main Street. Independents, who swung heavily for Brown in Massachusetts, are even more opposed to Bernanke than Democrats or Republicans. Fifty percent of independents think he cares first about Wall Street; 15 percent think he prioritizes the needs of Main Street. That's a difficult vote in the face of an angry public." I'm not familiar with the "Research 2000 National Poll," and do not vouch for its accuracy, but I am sure that a lot of people do think that "Bernanke cares more about Wall Street than Main Street."

I'm sure that's not true. Bernanke is an academic, not a banker. One can criticize many of his decisions, as I have done, but his mistakes, if that is what they are, do not suggest a bias in favor of the banking industry. The reason it looks that way to people who are not well informed about depression economics (which is most people, including not a few macroeconomists) is that beginning in the fall of 2008, his focus has been on restoring the banking industry (including not only commercial banks but also shadow banks, which is to say companies that provide close substitutes for banking services without being regulated as commercial banks) to a level of solvency at which the banks will feel comfortable lending in a risky environment--risky because defaults are way up because of the depression. He (more precisely, the Fed in cooperation with the Treasury Department and the Federal Deposit Insurance Corporation) has done this by (1) encouraging the absorption of the major shadow banks, like Goldman Sachs and Merrill Lynch, into the commercial banking industry, either by acquisition by a commercial bank, as in the case of Merrill, or conversion to a bank holding company, as in the case of Goldman, to reduce the risk of further catastrophic bank failures like that of Lehman Brothers in September 2008; (2) flooding the banks with cash through open market operations (basically buying short-term Treasury securities from banks); and (3) purchasing other securities, such as mortgage-backed securities and Treasury bonds, to keep down interest rates (the greater the demand for fixed-income securities, the higher the price and therefore the lower the yield because the income of each security is, by definition, fixed).

These measures have succeeded to the extent of averting insolvencies of major banks and thus keeping the credit industry alive, and by doing so has prevented an even worse depression than we are experiencing. But a side effect is that some banks, most notoriously Goldman Sachs, cursed with a tin ear for public opinion, have made very large profits in the midst of the depression. By borrowing cheap (because interest rates are so low both because of Fed policy and because lenders are confident that the government will not allow big banks to fail) and using the borrowed capital for risky trades (again in the confidence that the government will not allow a big bank to fail), the banks have been enabled to profit from the depression. This upsets people. But there is no clear alternative that wouldn't make the country as a whole worse off.

Unfortunately, the administration is incapable of explaining the situation to the American people. Maybe it feels they are uneducable in such esoteric matters. (I disagree.) But the consequence is to endanger Bernanke's confirmation. The administration is busy denouncing "fat cat" bankers; Bernanke helped the banks; ergo he prefers fat cats (Wall Street) to thin ones (Main Street). A false syllogism, but hard for the administration to refute, because it is busy bashing bankers.

Bernanke may or may not be the best person for the job. That is almost irrelevant. If he is not confirmed, the independence of the Fed will take a terrible hit, because the next nominee will have to make outright promises to Congress of bank bashing, and of keeping interest rates way down regardless of inflation risk, in order to be confirmed.

This article available online at:

http://www.theatlantic.com/business/archive/2010/01/the-bernanke-confirmation-battle-part-ii/34092/