Here’s how one well-respected equity analyst sees yesterday’s performance by Federal Reserve Chairman Ben Bernanke:
The Fed has a disconcerting power over the financial markets
The Fed is calling the tune – that much is clear. Many will argue this with me and they will make solid theoretical points: the Fed cannot create jobs; all the Fed is doing with QE is replacing long-duration assets with short-duration assets on private balance sheets; the Fed cannot force businesses to borrow or lenders to lend; the Fed cannot create wealth, etc. Again, solid points, but they have nothing to do with the day-to-day trading in the financial markets. The fact of the matter is that the Fed has grown enormously powerful – both in reality and in the eyes of traders. Clearly (I hate this word but no other word fits), the Fed has no political constraints. The institution played a leading role in the piecemeal construction of the most rickety, prone-to-failure economy in the history of civilization (just look at the debt-to-GDP levels – that’s all I ask) yet its “CEO” was not sacked. In fact, the President of the United States of America and his administration actually lobbied to have him reappointed for another term. The Question & Answer session during Chairman Bernanke’s testimony yesterday was – and I am trying to restrain myself here and remain analytical – a farce. Bad theater. Really bad. We had Bear Stearns/JPMorgan and we had AIG, episodes the dubious nature of which require no elaboration, and do you know what the penalty was for the Fed? Enormous new powers to head up a council of regulators which can make a subjective determination to shut down any financial firm it wishes. Who do you think is driving the bus during these Q&A sessions? The senators? Please. Watching the Q&A yesterday was like watching a homeowner interrogate a contractor over the job he did on the homeowner’s kitchen after the homeowner has paid the contractor in full. The contractor already has the money. He doesn’t care what the homeowner says, but maybe he’ll pretend to be polite for awhile if he’s in a good mood. Likewise, the Fed already has the power. Ben Bernanke looked almost bemused yesterday as some of the more cantankerous of the senators – Bunning for example – questioned him. Besides, for every Bunning that asked a tough question there were twice as many Corkers and Greggs to heap praise on the Chairman while throwing him softball questions.
The Federal Reserve’s easy money policies during the last 20-odd years were responsible for market participants taking on more risk than they could handle. Now we are at it again with more easy money as fears of a double dip recession have increased. The Fed is keeping rates near zero percent and is being encouraged to buy up assets with printed money aka quantitative easing. Now, market participants had been piling into risky assets before the double dip talk started but they are somewhat chastened now. Ben Bernanke said yesterday he was not ready to start up the helicopters. But if the Fed does go QE2, what happens then?
In the bad old days of anti-regulation, this led to a levering up and excessive risk-taking and crisis. But the Federal Reserve has been rewarded for its past work with more power to mitigate these risks. And we have just passed a significant regulatory overhaul that ostensibly gives regulators the tools they need to deal with these things.
Personally, I remain sceptical. But, make no mistake, whatever the Fed decides to do will have far-reaching consequences for the American and global economy. The Federal Reserve is more powerful an institution than ever.