Bernanke Fights Back!
Fed Chairman Bernanke was in Japan this weekend, attending a seminar sponsored by the IMF and Bank of Japan. Apparently, he was pretty fed up with being attacked for the FOMC’s ultra-accommodative monetary policy. (I’m sure he was thinking, “I could have just stayed home if I wanted to be attacked like this.”)
Other countries are complaining that our low rates are resulting into huge inflows into emerging markets. They claim that this is forcing their currency to appreciate and hurting their ability to export. In addition, there is fear that this could create an asset bubble in these countries. As an example of the emerging market displeasure, Brazil’s finance minister has accused the Fed of starting a currency war.
Below, you will find some of Bernanke’s response (in his Sunday speech).
1. “All…policy decisions are guided by our dual mandate to promote maximum employment and stable prices.” While this is a common line in Chairman Bernanke’s speeches, this time it sounded like, “I have a mandate and my mandate doesn’t include anything about you.”
2. Let me tell you why we’re doing what we’re doing. Our recently announced open-ended policy “will provide the Committee with flexibility in responding to economic developments and instill greater public confidence that the Federal Reserve will take the actions necessary to foster a stronger economic recovery in a context of price stability.”
3. “Concerns have been raised about the spillover effects of our policies on our trading partners. In particular, some critics have argued that the Fed’s asset purchases, and accommodative policy more generally, encourage capital flows to emerging market economies.”
4. “These capital flows are said to cause undesirable currency appreciation, too much liquidity leading to asset bubbles or inflation, or economic disruptions as capital inflows quickly give way to outflows.”
5. Bernanke said that low rates in the U.S. and other advanced economies do “shift interest rate differentials in favor of emerging markets and thus probably contribute to private capital flows to these markets.” In other words, “yes, you have higher interest rates and that could lead to money flowing into your country.” But, Bernanke said the he “would argue, though, that it is not at all clear that accommodative policies in advanced economies impose net costs on emerging market economies.” He said that there are several reasons:
Reason 1: You can’t just look at interest rate differences. Differences in growth rates (and the resulting expected returns) are the most important determinant of capital flows.
Reason 2: “Another important determinant of capital flows is the appetite for risk by global investors.” He said that the “risk-on” and “risk-off” trade results in capital flows. (Personally, I don’t think this is a compelling argument. Investor willingness to take risk and invest in emerging markets increases when the alternative is low-rate bonds in advanced economies.)
Reason 3: The effects of capital flows are not predetermined. Rather, they depend on choices made by the policymakers in the developing economies. If you systematically fight the appreciation of your currency, the result is that you’re going to have reduced monetary independence and you will be susceptible to imported inflation. If you want “the perceived advantages of undervaluation,” you’re also going to have the problem of unwanted capital inflows.
Reason 4: Bernanke continued on that if you allow your currency to float freely and you have independent monetary policy (and also add in fiscal policy), you won’t have to worry about these problems. He also said that this would put the global economy on a more stable and sustainable path. (I believe that at that point, Chairman Bernanke turned to his Chinese counterpart and said, “so nanny, nanny boo-boo.”)
Reason 5: One reason that the emerging markets are slowing is that you are having trouble exporting to the U.S. and Europe. So, if monetary policy helps the U.S., it will help you.
6. Chairman Bernanke ended by saying, “Assessments of the international impact of U.S. monetary policies should give appropriate weight to their beneficial effects on global growth and stability.”
Have a great week.
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