Economy: Is Fed Chairman Ben Bernanke to Blame?

Student of history that he is, Ben Bernanke had a pretty good idea this was coming. It was Bernanke's academic work in understanding the causes of the Great Depression—how its trigger was a massive wave of bank failures—that led him to take one of the most heroic stands in the history of world economic crises in 2008, saving firm after firm in revolutionary ways. The former Princeton professor had studied the politics as well as the economics of that earlier era. Bernanke knew that this time, as before, there would be a vicious political backlash, a surge of public outrage looking for a target. He also knew there was a fair chance he would end up being the handiest villain, that all the anger would come crashing at his door as he sat for confirmation on Capitol Hill.

And so it has. After being approved 16-7 by the Senate Banking Committee, Bernanke now faces what is likely to be the largest "no" vote in the history of the Federal Reserve chairmanship when the Senate debates his second-term nomination in January. There's even an outside chance that Bernanke could go down. Such is the political mood that even many of his supporters, like Banking Committee chairman Chris Dodd—who faces a tough re-election fight himself over suspicions of softness on Wall Street—had to preface their endorsement of Bernanke with some sharp jabs. "The Fed failed in its oversight and consumer-protection responsibilities, allowing some of the largest holding companies to engage in very dangerous risk-taking and allowing much of the damage caused by those actions to fall on ordinary Americans, reflected obviously in lost jobs, lost homes, lost retirement, lost sense of hope," Dodd said. (That's an endorsement?) No doubt the Senate floor debate will follow the same pattern, leaving Bernanke badly battered even if he survives the vote.

The question is, does any of this reflect a fair assessment of the man and his tenure? The answer: not even close.

Yes, Bernanke made mistakes—serious ones—in the run-up to the financial crisis. He was an eager acolyte to Alan Greenspan, endorsing his predecessor's view that the Fed can't target bubbles with interest rates, among other things. He was embarrassingly short-sighted about the oncoming disaster. As late as March 2007, Bernanke was still insisting that the subprime issue was "likely to be contained." Giving congressional testimony in May, he said he saw only a "limited" impact of subprimes on "the broader housing market." The systemic collapse in the credit system began only three months later, in early August.

But by dwelling on where he fell short, critics miss the way that Bernanke has grown in the office—and above all, how he ultimately performed in the face of the most terrifying financial collapse in 70 years. The indisputable fact is that when the world was teetering on the abyss of a broad-based collapse of the financial system and a global depression in those critical autumn months of 2008, Bernanke was the main one who pulled us back. His actions at the Fed, in fact, dwarfed anything that was done on the fiscal side by either the Bush or the Obama administrations. He more than doubled the Fed's balance sheet—the amount it can spend—to nearly $2 trillion, and flung open new lending windows to commercial businesses and governments across the Atlantic.

Largely because Congress is channeling national outrage over the sins of Wall Street and Washington and he's the handiest scapegoat, Bernanke now faces all manner of attacks from both left and right. Some of it is accurate, but much of it has little to do with what he did or said or with the Fed's actual authority. Bernanke "felt that the Fed should not concern itself with asset bubbles, or call the attention of financial markets or the public to these bubbles by using its regulatory power to rein in lending, or explicitly using interest rates to target a bubble," wrote Dean Baker in Prospect magazine. Actually that's not quite true; the paper with which Bernanke made his name in Washington, published in 1999 with his coauthor Mark Gertler, did argue against a strategy of using interest rates to deflate asset prices. But the paper defended the Fed's use of other tools like regulation, especially in markets in which there was high leverage (which was not a major problem during the tech bubble Bernanke and Gertler were addressing). And in July 2008—though it was far too late to make a difference in the subprime scandal—Bernanke announced a new "Regulation Z," which finally created some common-sense lending rules such as forbidding mortgages without sufficient documentation.

On the right, Sen. Richard Shelby, the ranking member of the Banking Committee, delivered a somewhat incoherent broadside in coming out against Bernanke. The chairman, Shelby said, "ultimately failed to convince the market that the Fed had a plan." But it had been Bernanke who persuaded a reluctant Hank Paulson in the fall of 2008 to seek congressional approval for a plan—the TARP fund. Shelby conceded that "some Fed actions in the recent crisis were innovative ways to provide liquidity to a wide variety of financial institutions and market participants. Some actions, however, amounted to bailouts," he said. Is it possible to tell the difference in the middle of a historic crisis?

Perhaps the biggest problem with the anti-Bernanke crusade is that he's continually getting saddled with other people's offenses. Many of the financial institutions that were most troubled during the crisis, for instance, were outside the Fed's supervisory reach, in part because of yet another action that took place long before Bernanke joined the Fed: the Gramm-Leach-Bliley Act that repealed Glass-Steagall. Sometimes called "Fed Lite," it forced the Fed to defer to the primary regulator of nonbank holding companies—in the case of AIG, that was the Office of Thrift Supervision; in the case of Lehman and Bear Stearns, it would have been the Securities and Exchange Commission; and most of the big banks were directly overseen by the Office of the Comptroller of the Currency. Yes, Bernanke stepped in to help rescue (or in the case of Lehman, not) these firms, but it's more than a little unfair to lay the blame for their collapse on him as well.

Dean Baker also sounds this typical lament in opposing Bernanke's renomination: "Could we not have extracted something from the banks instead of just giving them free money? For example, restrictions on bonuses and proprietary trading." Well, yes, we could have and probably should have, but it's a bit rich to saddle Bernanke with all the blame for that. What about the Treasury Department and the Congress, both of which actually designed the TARP? Shelby said "the crisis of 2008 was not days or weeks in the making. It took years, and in many of those years Chairman Bernanke supported actions that contributed to the ultimate scale of the problems we encountered." Sure, he did, but so did virtually every other economic official in Washington, starting mainly with Greenspan but also including Larry Summers, Tim Geithner, Hank Paulson, and on and on. None of them, however, is currently up for renomination.

And has Bernanke risked a great wave of future inflation by keeping rates low in the face of record budget deficits? Yes, though there's scant sign of inflation now. Bernanke is betting that the greater risk is still another deep recessionary dip—the fear is a repeat of the premature tightening of 1937—and many economists say he's right. Indeed, any Fed chairman would be irresponsible at this juncture not to make such a bet. Faced with the choice of reprising the stagflation '70s or the Dust Bowl '30s, most people would choose the former.

Ben Bernanke is fighting not just for his job but for the integrity of his institution. He should be challenged over both his past and his future plans, and vigorously. But it seems clear that what's going on right now is more of a legislative cruci-"fiction"—with an emphasis on the fiction.