Hey, Ben!

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The Federal Reserve System is on the defensive. This has not happened before in my lifetime.

On Wednesday, April 28, Ben Bernanke will hold a press conference. This has never happened before. Journalists will be allowed to ask questions. It will be held at 2:15 in the afternoon, Eastern Daylight Time. The Bankrate site has set up a reminder program so that you won’t miss it. It will be broadcast on their site.

We are beginning to see lists of questions that people would like to see asked. These tend to be hostile questions.

I have 16 questions. I hope at least one of them gets asked and answered.

Here is what the session will not be. It will not be open to all journalists.

Each journalist will not submit one 3×5 card with his question.

Bernanke will not shuffle the cards and answer them in order for the duration of the session.

When he submits to that sort of inquiry, I will be impressed. Not until then.

Here are my questions.

1. WHAT EVER HAPPENED TO THE FED’S EXIT STRATEGY?

For two years, Bernanke spoke about a proposed exit strategy. The monetary base has soared. This is the FED’s balance sheet. Nothing like this had ever taken place in the era of the FED, not even in World War II. The exit strategy is the FED’s plan to reduce the monetary base. He never said what number is the goal.

Here is his testimony to the House Banking Committee in February 2010. It promised an exit strategy.

In mid-February 2010, the FED began a policy of reducing the monetary base. This was a faint hint of the promised exit strategy. It was maintained until early January 2011. Then it was abandoned with a vengeance. The chart issued by the Federal Reserve Bank of St. Louis reveals the extent of the reversal.

Not only is there no exit strategy in 2011, there has been a massive reversal. So, what happened to the exit strategy?

2. WHY DID THE FED ABANDON THE EXIT STRATEGY?

There must have been a reason. What was this reason? What did the staff economists report that persuaded the Federal Open Market Committee (FOMC) to reverse the tentative exit strategy of 2010?

3. WHY DID THE FOMC SELECT $600 BILLION?

The FOMC announced on November 3, 2010, that the expansion of the FED’s balance sheet would total $600 billion at a rate of $75 billion per month.

What was the basis of this figure? Why not $500 billion? Why not $800 billion?

4. WILL THE EXPANSION END IN JUNE, AS PROMISED?

Under what conditions might it not end?

5. WHEN WILL YOU TESTIFY TO RON PAUL’S SUBCOMMITTEE?

So far, no Federal Reserve official has testified before the United States House Financial Services Subcommittee on Domestic Monetary Policy and Technology. Under what conditions will you agree to testify before this subcommittee?

6. WHY ARE EXCESS RESERVES SO HIGH?

America’s commercial banks have over $1.3 trillion in excess reserves on deposit with the Federal Reserve System. This money is not being lent.

What are commercial bankers afraid of? Why are they refusing to lend money? They cannot earn enough money at the FED – slightly over zero percent – to meet operating costs with this unused capital.

7. WHAT WILL HAPPEN TO PRICES IF BANKS BEGIN LENDING?

Rising excess reserves offset increases in the adjusted monetary base. M1 has not doubled. The M1 money multiplier has fallen. Price inflation has been subdued ever since 2008.

M1 will rise when commercial banks begin reducing excess reserves and begin lending again. Why won’t this raise consumer prices?

8. WHY DOES THE FEDERAL FUNDS RATE MATTER?

The Federal Funds rate is the rate at which commercial banks lend overnight money to each other. They lend overnight money to banks that temporarily fall below legal reserve requirements.

Because most banks have no need to borrow overnight money, because the system has over $1.3 trillion in excess reserves, what does it matter what the FedFunds rate is? The FED can raise the FedFunds rate, but why would this have any effect on commercial bank policy? If they are not lending money to each other, why should they care what the rate is?

The FED shrank the monetary base in 2010, yet the FedFunds rate did not budge. It has inflated in 2011, but the FedFunds rate has not budged. What can the FED do to affect monetary policy if commercial banks maintain $1.3 trillion in excess reserves?

9. IS THE FED PUSHING ON A STRING?

The phrase, “pushing on a string,” refers to the inability of the Federal Reserve System to stimulate economic growth by expanding its purchase of Treasury debt or other forms of debt. We read on Wikipedia:

Crucially, central banks can limit money creation by either limiting the amount of base money extended, thus denying reserves and preventing commercial banks from extending further loans, or by raising the price of base money extended by increasing interest rates and thus making loans less profitable for the bank (raising the hurdle rate), and while relaxing these constraints can encourage money creation, central banks cannot force commercial banks to extend credit – monetary policy can pull but not push.

Isn’t this what has taken place in the United States since 2009? Commercial banks are piling up excess reserves with the FED rather than lending.

10.WHY IS THE FED BUYING MEDIUM-TERM BONDS?

Since the FED can no longer affect commercial banking’s lending policies by increasing the monetary base or by decreasing it, what is its present tool for directing the business cycle?

Is its purchase of T-bonds in 2011 an attempt to get around the recent impotence of the FED’s only previous tool of business cycle manipulation?

11. WHY HAVE T-BOND RATES RISEN?

The stated official goal of the new policy is this:

To promote a stronger pace of economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate, the Committee decided today to expand its holdings of securities. The Committee will maintain its existing policy of reinvesting principal payments from its securities holdings. In addition, the Committee intends to purchase a further $600 billion of longer-term Treasury securities by the end of the second quarter of 2011, a pace of about $75 billion per month. The Committee will regularly review the pace of its securities purchases and the overall size of the asset-purchase program in light of incoming information and will adjust the program as needed to best foster maximum employment and price stability.

The actual result of this policy has been to push up medium-term T-bond rates and mortgage rates.

In what ways do rising rates on medium-term Treasury debt “promote a stronger pace of economic recovery”? How do they “help ensure that inflation, over time, is at levels consistent with its mandate”?

At what rate for the 10-year T-bond will the present policy on monetary expansion cease?

12. HOW CAN THE FED AVOID ANOTHER 2008 IF IT DEFLATES?

If the FOMC adopts a policy of “no further purchases,” in order to keep T-bond rates from rising, how will this not produce a replay of 2008?

If the monetary base is stable, won’t short-term T-bill rates rise and long-term rates fall, as people seek to lock in high rates in T-bonds? Doesn’t that move the yield curve closer to an inverted yield curve? If this takes place, won’t this foster the return of recession?

In other words, if the present expansionary policy is necessary to keep the economy from faltering, how can the economy grow after the FOMC stabilizes the monetary base?

How can the FOMC ever reduce the monetary base back to the mid-2008 level? Won’t this produce a major recession?

13. IN A RECESSION, WON’T THE DOLLAR RISE?

The balance of payments deficit is in the $500 billion a year range. If exports rise and imports fall, this will move America closer to balance. How will a rising dollar increase exports? Exports will be more expensive. How will a rising dollar reduce imports? Imports will get cheaper.

So, how can the FOMC stabilize the monetary base without dramatically increasing the payments deficit?

14. IS A RECESSION BAD FOR INCUMBENT PRESIDENTS?

There will be a presidential election in 2012. In the year preceding election years, Federal Reserve policies are usually expansionary.

If the new policy ends in June, as announced in November 2010, what will be the likely result for the economy in November 2012?

15. HOW WILL RISING MORTGAGE RATES AFFECT HOUSING?

Fixed mortgage rates have risen in 2011. Housing prices continue to decline. If the present policy is extended beyond June, how will this affect mortgage rates?

On the other hand, if the FOMC stabilizes the monetary base by ceasing to buy any more Treasury debt, will this cause a return of 2008? If not, why not?

If banks refuse to lend, how can housing recover? How can commercial real estate recover?

If there is a recession in 2012, how can real estate recover?

In short, how can real estate recover?

16. WHY DID THE FED LEND BILLIONS TO FOREIGN BANKS?

According to documents that the FED refused to release to the government or the public until the U.S. Supreme Court said it had to, about 70% of the money lent by the FED through the discount window went to foreign banks.

Why?

CONCLUSION

The Federal Reserve is being dragged into public scrutiny. It has fought this every step of the way. It is now doing its best to present the illusion of transparency. This is like watching a dancing bear. It is not ready for “Dancing with the Stars.”

Bernanke should do more of these. I think the experience will do him no good, but it will do the public a great deal of good.

The days of wine and roses are over for Gentle Ben. He has no props to deflect scrutiny. He has neither a pipe, as Arthur Burns had nor cigars, as Paul Volcker had. He has no gift of gobbledegook, which sustained Greenspan. All he has is his beard. It may have protected him at Princeton. It will not protect him from YouTube.

Gary North [send him mail] is the author of Mises on Money. Visit http://www.garynorth.com. He is also the author of a free 20-volume series, An Economic Commentary on the Bible.

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