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Bernanke: Go, Get the Helicopters!
Axel Merk
At his nomination hearing to succeed Federal Reserve (Fed) Chairman Greenspan, Ben Bernanke tried to diffuse his famous ‘helicopter’ remarks. He earned the nickname “Helicopter Ben” when he implied that deflation could be fought by dumping money out of helicopters (see his remarks). Even as he promises to use “blunt” language to speak clearly about Fed policy, he admitted that the reaction to his statement taught him to be more careful about his public comments.
Bernanke set the tone during the nomination hearing with his prepared remarks that the Fed should set a formal inflation target. Some observers have wondered what the commotion was all about, as Bernanke does not intend to change any fundamental Fed policy. Critics have pointed out that any firm target may be attacked by speculators in a crisis. Bernanke elaborated on the formal target in his July 2003 speech entitled ‘An Unwelcome Fall in Inflation’:
“What I have in mind here is not a formal inflation target but rather a tool for aiding communication. [..] with inflation presumably near the bottom of the acceptable range and trending down, and with considerable slack remaining in the real economy, the Fed could [..] signal its expectation that rates will be kept low for a protracted period, and indeed that they would be reduced further if disinflation were not contained.”
Notably, Bernanke’s inflation targeting seems motivated by a fear of inflation that may become too low. As we have pointed out in the past, the “cheapest” Fed policy is achieved through good communication: a stern comment at the right moment may make an interest move redundant. Bernanke has been a driving force at the Fed behind this policy; we have criticized this trend in the past as we have seen a shift away from managing fundamentals to managing perception.
A number of questions at Bernanke’s nomination hearing related to the current account deficit, and whether the dollar could maintain its value. Bernanke pointed out that foreigners invest in the dollar because they like to and that he sees no reason why they should not. Committee members added that the United States is the best place to invest in. At the same time, statistics were cited that foreign central banks have diversified their reserve holdings, e.g., to increase the euro at the expense of the dollar.
Bernanke was asked what he would do in a currency crisis, if the dollar were to drop sharply. He said the Fed policy would try to “insulate” the US economy from its effects. He was not asked to clarify what “insulate” means, neither did the media pick up on this comment. If there were a currency crisis, it would likely cause significant inflationary pressures as imported goods become more expensive. It is also quite likely that bonds would fall and with it, interest rates rise. It would likely have a slowing effect on the US economy. No matter how we look at it, we cannot find an interpretation that would “insulate” the US economy without serious market interference; traditionally, as central banks interfere in currency crises, a lot of ammunition is spent, but the fallout of the crisis cannot be avoided. Bernanke did say in response to other questions that it is the Fed’s role to provide ample liquidity to the banking system during any crisis. In the context of other comments we have heard from Bernanke in recent years, our interpretation is that he might consider artificially keeping interest rates on longer-dated securities down (e.g. through market intervention) while boosting money supply. We do not see how this would help the dollar, but it might delay a fallout in the US economy.
In the current environment, the Fed has been raising interest rates, yet at the same time adding substantial money supply, Richard Russell, publisher of the Dow Theory Letters, writes that the Fed is on course of adding one trillion dollars to the banking system within a year. Talk about trying to have it both ways – raising rates while adding money supply. Soon, the Fed will no longer publish M3, a broad measure of money supply. The official reason is that M3 is no longer a good measure for economic activity. While M3 has its deficiencies, removing public access to it only raises suspicions. We cannot help but suspect that the increased “transparency” the Fed is proclaiming is indeed an increased “management of expectations” – we are deeply concerned that this path will lead to an erosion of trust in the Fed.
While politicians cannot imagine why anyone would invest outside the US, let us have a look where the “BIG” money is flowing. We complain that US savings and investments are not adequate and worsen the current account deficit. In other articles, we have also pointed out that corporate America has been much more rational in the management of its finances than the American consumer or government. Corporate America has accumulated a lot of cash; part of the reason they have not invested more heavily in the US economy is because they see a debt-laden economy with a fragile consumer. To generate Gross Domestic Product (GDP) growth in a debt-laden economy is more difficult than in an economy with little or no debt; the more debt in an economy, the lower the marginal return on investments. In contrast, corporate America has been very willing to invest abroad. Billions are flowing into major ventures in China and other areas in the world. While good for the global economy, it is of little consolidation to the US worker who has been “outsourced.”
There is nothing patriotic about losing your purchasing power. If you are concerned about the dollar, you may want to consider investing in a basket of hard currencies, in gold, or in other investments that try to shield you from a re-balancing of the global economy. Should the imbalances be corrected one day, it does not help you to have been on the losing end; instead, if you have been able to preserve your purchasing power, you will be in the position to invest in future growth at home.
21 November 2005
Axel Merk is portfolio manager of the Merk Hard Currency Fund.
Axel Merk
At his nomination hearing to succeed Federal Reserve (Fed) Chairman Greenspan, Ben Bernanke tried to diffuse his famous ‘helicopter’ remarks. He earned the nickname “Helicopter Ben” when he implied that deflation could be fought by dumping money out of helicopters (see his remarks). Even as he promises to use “blunt” language to speak clearly about Fed policy, he admitted that the reaction to his statement taught him to be more careful about his public comments.
Bernanke set the tone during the nomination hearing with his prepared remarks that the Fed should set a formal inflation target. Some observers have wondered what the commotion was all about, as Bernanke does not intend to change any fundamental Fed policy. Critics have pointed out that any firm target may be attacked by speculators in a crisis. Bernanke elaborated on the formal target in his July 2003 speech entitled ‘An Unwelcome Fall in Inflation’:
“What I have in mind here is not a formal inflation target but rather a tool for aiding communication. [..] with inflation presumably near the bottom of the acceptable range and trending down, and with considerable slack remaining in the real economy, the Fed could [..] signal its expectation that rates will be kept low for a protracted period, and indeed that they would be reduced further if disinflation were not contained.”
Notably, Bernanke’s inflation targeting seems motivated by a fear of inflation that may become too low. As we have pointed out in the past, the “cheapest” Fed policy is achieved through good communication: a stern comment at the right moment may make an interest move redundant. Bernanke has been a driving force at the Fed behind this policy; we have criticized this trend in the past as we have seen a shift away from managing fundamentals to managing perception.
A number of questions at Bernanke’s nomination hearing related to the current account deficit, and whether the dollar could maintain its value. Bernanke pointed out that foreigners invest in the dollar because they like to and that he sees no reason why they should not. Committee members added that the United States is the best place to invest in. At the same time, statistics were cited that foreign central banks have diversified their reserve holdings, e.g., to increase the euro at the expense of the dollar.
Bernanke was asked what he would do in a currency crisis, if the dollar were to drop sharply. He said the Fed policy would try to “insulate” the US economy from its effects. He was not asked to clarify what “insulate” means, neither did the media pick up on this comment. If there were a currency crisis, it would likely cause significant inflationary pressures as imported goods become more expensive. It is also quite likely that bonds would fall and with it, interest rates rise. It would likely have a slowing effect on the US economy. No matter how we look at it, we cannot find an interpretation that would “insulate” the US economy without serious market interference; traditionally, as central banks interfere in currency crises, a lot of ammunition is spent, but the fallout of the crisis cannot be avoided. Bernanke did say in response to other questions that it is the Fed’s role to provide ample liquidity to the banking system during any crisis. In the context of other comments we have heard from Bernanke in recent years, our interpretation is that he might consider artificially keeping interest rates on longer-dated securities down (e.g. through market intervention) while boosting money supply. We do not see how this would help the dollar, but it might delay a fallout in the US economy.
In the current environment, the Fed has been raising interest rates, yet at the same time adding substantial money supply, Richard Russell, publisher of the Dow Theory Letters, writes that the Fed is on course of adding one trillion dollars to the banking system within a year. Talk about trying to have it both ways – raising rates while adding money supply. Soon, the Fed will no longer publish M3, a broad measure of money supply. The official reason is that M3 is no longer a good measure for economic activity. While M3 has its deficiencies, removing public access to it only raises suspicions. We cannot help but suspect that the increased “transparency” the Fed is proclaiming is indeed an increased “management of expectations” – we are deeply concerned that this path will lead to an erosion of trust in the Fed.
While politicians cannot imagine why anyone would invest outside the US, let us have a look where the “BIG” money is flowing. We complain that US savings and investments are not adequate and worsen the current account deficit. In other articles, we have also pointed out that corporate America has been much more rational in the management of its finances than the American consumer or government. Corporate America has accumulated a lot of cash; part of the reason they have not invested more heavily in the US economy is because they see a debt-laden economy with a fragile consumer. To generate Gross Domestic Product (GDP) growth in a debt-laden economy is more difficult than in an economy with little or no debt; the more debt in an economy, the lower the marginal return on investments. In contrast, corporate America has been very willing to invest abroad. Billions are flowing into major ventures in China and other areas in the world. While good for the global economy, it is of little consolidation to the US worker who has been “outsourced.”
There is nothing patriotic about losing your purchasing power. If you are concerned about the dollar, you may want to consider investing in a basket of hard currencies, in gold, or in other investments that try to shield you from a re-balancing of the global economy. Should the imbalances be corrected one day, it does not help you to have been on the losing end; instead, if you have been able to preserve your purchasing power, you will be in the position to invest in future growth at home.
21 November 2005
Axel Merk is portfolio manager of the Merk Hard Currency Fund.
