TJP

Bernanke should not be reappointed

By Byron A. Ellis – August 25, 2009

 The role of the Federal Reserve (Fed) in the nation’s economic system is to provide a safer, more flexible, and more stable monetary and financial system. According to its mission, its duties fall into four general areas:

1. Conducting the nation's monetary policy by influencing the monetary and credit conditions in the economy in pursuit of maximum employment, stable prices, and moderate long-term interest rates.
2. Supervising and regulating banking institutions to ensure the safety and soundness of the nation's banking and financial system and to protect the credit rights of consumers.
3. Maintaining the stability of the financial system and containing systemic risk that may arise in financial markets.

4. Providing financial services to depository institutions, the U.S. government, and foreign official institutions, including playing a major role in operating the nation's payments system.

The Fed is, in essence, the controller of the economy, it is empowered by Congress to regulate the quantity of money and the banking system. It is capable through Federal Open Market Committee (FOMC) to stimulate or restrain the economy by controlling the quantity of deposits in the banking system and therefore the quantity of money in circulation.

However, the Fed, during periods of rising crude oil prices, implemented a policy of flat monetary growth. It is this policy that led to the decline in the real money stock (M1) and, thus a general decline in real income for Americans. The graph below shows that from 2005 to 2008 M1 was flat and that once the Fed recognized, late in 2008, that their policy of flat monetary growth had dealt a lethal blow to the American economy, they significantly increased the growth of M1.

It is therefore difficult to understand why Mr. Obama would reappoint Mr. Bernanke, a Republican that failed to maintain economic growth as Chairman of the Federal Reserve. The Chairman of the Fed is critical position that determines the performance of the American economy. Bernanke failed to recognize the adverse economic impact of rising crude oil prices on real income.

For example, if the price of a gallon of gasoline was $2, $100 would purchase 50 (= $100/$2) gallons. However, doubling of the price to $4 would require $200 to purchase the same 50 (= $200/$4) gallons. Therefore, in the face of rising energy and food prices consumers need more income to purchase the same amount of goods and services that they could have purchased prior to the price rise. Consumers' could have compensated for the loss of purchasing power if the Fed had increased the money supply (M1), but they did not.

Lastly, Bernanke recommended bailing out big financial institutions instead of consumers. As a result, we are poised for what appears to be a jobless recovery. The Fed could have used high power money (HPM) to protect the wealth of homeowners by recommending that the government act as mortgager of last resort. Such monetary stance would have supported a high level of demand and curtailed the existing deficit.

President Obama should not reward failure; the Fed under Bernanke failed its mission.

SAVE DARFUR