Bernanke Talks Nice But Leaves Weak-Dollar Policy Intact

There was at least something to like in Fed Chairman Ben Bernanke's Jackson Hole speech. He didn’t hint at using the Federal Reserve's open-ended power to buy up the national debt, so-called QE3, as he had in his year-earlier speech. Regarding monetary policy tools, he went no further than the already aggressive position taking in the early-August meeting of the Fed's Open Market Committee, saying only that: “The Federal Reserve has a range of tools that could be used..." and that in August the Fed committee had "discussed the relative merits and costs of such tools."

Since there were three dissents at the Fed's August meeting, the high costs of using the nation's central bank to subsidize the national debt -- the dollar's collapse, the price spikes in gold and oil, the 3.6% CPI inflation rate, and the uncertainty over what the Fed might buy next -- must be part of the policy debate. Add to those problems the comfort the Fed's 2010-2011 QE2 bond purchases gave the White House to propose wild spending in its February budget knowing the Fed was bailing them out. Of course the Fed hasn't yet said it won't do it all again in time for the 2012 election.

A bit more good news. Chairman Bernanke called for a new budgeting process to avoid a repeat of the August debt limit fiasco. As I've written on this page, fiscal conservatives should be using the forced debt limit increase to create a budget process that restrains spending. The current debt limit doesn't work that way -- it threatens default but doesn't cause spending cuts. No wonder -- it was written by Congress as a way to make deficit spending easier, not harder.

In his speech, Bernanke said: “The negotiations that took place over the summer disrupted financial markets and probably the economy as well." No kidding. He went on: "Similar events in the future could, over time, seriously jeopardize the willingness of investors around the world to hold U.S. financial assets or to make direct investments in job-creating U.S. businesses.” That's a reference to the rapidly approaching 2013 debt limit increase, which threatens to be a replay of 2011 where little was accomplished in the way of spending restraint.

As a goal for fiscal policy, Bernanke proposed ensuring that the debt-to-GDP ratio declines over time. Good idea. I think the debt limit should be rewritten so that it causes spending cuts, not default, whenever the debt-to-GDP ratio is above a ceiling that goes down year by year. We're in nose-bleed territory in terms of debt and should climb down. Unfortunately, the latest CBO deficit forecasts show no meaningful fiscal restraint underway, with debt going up every year and the debt-to-GDP ratio rising above 80% even with rosy economic assumptions.

As is regularly the case, the Chairman's speech didn't mention the weak dollar, probably the most important problem facing the U.S. economy. The elephant in the lodge at Jackson Hole? The giant sucking sound of capital fleeing the U.S. for safer havens -- gold, Swiss francs, Chinese yuan. By omitting any complaint about dollar weakness and skyrocketing gold prices, the Fed Chairman tacitly left in place the weak-dollar policy the U.S. launched in 2004. The consequence is lower living standards, lower real per capita incomes. A sinking middle class trounced George's Bush's economic performance and is doing the same to President Obama, undercutting business investment and shifting jobs and capital abroad.

Chairman Bernanke did tackle Europe's debt crisis, though briefly. It is one of the diceyist problems facing the world's central bankers. With Europe's fabled August vacations in full swing, policymakers there have sunk into paralysis. Dangerous fights have broken out over whether Greece should be forced to provide collateral for new loans and whether the European Central Bank has the authority to buy large quantities of government debt the way the Fed has been doing. Bernanke was circumspect: “I have confidence that our European colleagues fully appreciate what is at stake in the difficult issues they are now confronting and that, over time, they will take all necessary and appropriate steps to address those issues effectively and comprehensively.” That's an optimist for you.

David Malpass is president of Encima Global and was a senior official in the Treasury Department under President Ronald Reagan.