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Bernanke - Yesterday's Congressional Address

Yesterday, as you almost certainly know, U.S. Federal Reserve Chair Bernanke addressed the Joint Economic Committee of the U.S. Congress on The Economic Outlook. I suspect that very few people read the text of Mr. Bernanke's various speeches, but rather rely on media reports as their sources of information on them. Mr. Bernanke speaks in terms most readers will readily understand, making his addresses comparatively easy to read.

As I see things, what Mr. Bernanke says is important to the prospective well-being of all of us - whether or not we live in the United States. This is because of economic globalization, and the current continuing importance of the U.S. economy to the world economy and the world financial markets. Hence, I think Mr. Bernanke's speeches ought to be read carefully by all those with a vested interest in both their country-specific economy, the world economy, and the financial markets - which when viewed from 20,000 feet includes pretty much everybody.

Having carefully read Mr. Bernanke's remarks made yesterday to Congress I have the following broad comment what he said, followed by several more detailed underlying comments. That said, I suggest you take the time to link to his speech and read it for yourself. See The Economic Outlook.

My broad overview comment is that I think Mr. Bernanke and the U.S. Federal Reserve finds themselves in a room without doors and windows, where the walls of the room are converging on them in circumstances where they have neither the ability to control the movement of the walls, nor a way to escape from the room. Stated differently, I think the U.S. Federal Reserve has run fore-square into a circular problem that it can only hope to escape from, but can't control given the current extent of economic globalization and country (including the United States) economic interdependence.

This seems clear to me in circumstances where I read Mr. Bernanke to say as much at the end of his address yesterday when he spoke about:

  • the Federal Reserve being "aware that a long period of low interest rates has costs and risks", which costs he identified as the low income returns 'savers' currently are generating from "savings accounts and government bonds";

  • the risk (which Mr. Bernanke described as a "cost"), which he specifically said is "one that we take very seriously", that if very low interest rates persist for "too long" (which he didn't define) that "could undermine financial stability", where "for example, investors or portfolio managers dissatisfied with low returns may 'reach for yield' by taking on more credit risk, duration risk, or leverage";

  • "recognizing the drawbacks of persistently low (interest) rates, the Federal Reserve's 'Open Market Committee' "actively seeks economic conditions consistent with sustainably higher interest rates";

  • however, 'unfortunately' if the Federal Reserve were now to withdrew its current monetary (quantitative) easing policies while interest rates might "rise temporarily", that "would also carry a substantial risk of slowing or ending the economic recovery and causing inflation to fall further" (i.e. read 'lead to recession or depression'; and,

  • the "best way to achieve higher returns in the medium term (undefined) and beyond is for the Federal Reserve - consistent with its congressional mandate - to provide policy accommodation as needed to foster maximum (U.S.) employment and price stability".

Following from this, Mr. Bernanke's message as I read it is "we clearly understand the game we are playing, but we are boxed in and have to stay with our current strategy. We hope for the best because we are out of options".

Other things in Mr. Bernanke's address I found of interest are:

  • his statements on the U.S. unemployment rate, in particular his reference to a continued 'weak job market' and his specific reference to "nearly 8 million (Americans who) are working part-time when they would prefer full-time work. All too often jobs are reported in the U.S. and other countries as if 'a job' is 'a job' is 'a job', without reference to job quality or pay scale;

  • his statement that "since last summer, financial conditions in the euro area have improved somewhat". I am unsure of his basis for that conclusion, as he didn't explain his reasoning. From my perspective, given what has developed since last summer in France, Italy, Portugal, and Spain - and throw in Cyprus, Slovenia, and ongoing recession in the eurozone - Mr. Bernanke's statement doesn't make sense to me; and,

  • his statement with respect to U.S. 2013 prospective GDP growth, specifically in the contexts of (among other things) the recent ending of the payroll tax cut, tax increases, and the so-called sequester. Collectively, Mr. Bernanke said these things are expected to reduce 2013 GDP growth by 1.5% from what it otherwise might be. I think importantly, Mr. Bernanke then said: "in present circumstances, with short-term interest rates already close to zero, monetary policy does not have the capacity to fully offset an economic headwind of this magnitude".

With respect to the last point, you may recall that I commented on the 'coming in force' of the 'sequester' on March 2 which cut U.S. federal government spending by $85 billion per year - see U.S.: Sequester and negative economics. In that commentary I said:

"To be clear, the point I was (and am) making is:

  • in the overall scheme of America's national debt and deficits, $85 billion per year is rather immaterial;

  • if one accepts $85 billion to be immaterial in a U.S. federal accounts context, the forecasted impact of the sequester cuts in a the next seven months on GDP (0.5% decline) is material, and lost jobs (400,000 - 750,000) are significant; and,

  • consider the negative impact on America's economy if this year's U.S. pre-sequester federal budgeted spend of $3.8 trillion was cut by $300 billion instead of by only $85 billion. Query: How much more would the negative leverage on U.S. economic performance then be, and would a $300 billion U.S. federal spending reduction result in an exponential negative economic impact?

Interestingly, I have seen no report or comment on what the resultant U.S. federal deficit is expected to be for fiscal 2013 following sequester cuts. If U.S. GDP indeed drops by 0.5% as a result of the sequester cuts, I would expect U.S. federal government revenues to fall from pre-sequester forecasts. If that is right, and I think it has to be, then what was forecast to be a $900 billion 2013 U.S. federal deficit will be more than the result derived by deducting the $85 billion in sequester cuts from the previously forecast $900 billion 2013 federal deficit ($815 billion)."

Mr. Bernanke's comment yesterday reminded me of what I had pointed out on March 2, and which I am unaware of anyone else writing about or commenting on. Namely, how close to the margin the U.S. is operating at if my analysis on the sequester is correct. I believe this is something that economists and commentators ought to actively research, and that those who invest in the financial markets ought to think hard about.

We live in interesting, and I think troublesome, times. Again, I suggest you take the time to read The Economic Outlook.

Reference: The Economic Outlook, from The Federal Reserve, May 22, 2013 - reading time 6 minutes.


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