Bernanke Feels the Heat but Can't Put Out the Fire
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The Fiscal Times
September 13, 2011

In many ways,  Federal Reserve Board Chairman Ben Bernanke did more to prevent a modern- day Great Depression  than either the Bush or Obama administrations. Bernanke used the central bank’s routine authority to cut interest rates, and when that wasn’t enough, he stretched the Fed’s  legal authority to  devise other ways to provide the needed funds to keep the nation’s financial system afloat. But now, with the economy almost flat-lining and unemployment stubbornly holding at 9.1 percent, a frustrated Bernanke finds himself hemmed in.

The central bank’s earlier successful sweeping actions and monetary  maneuvers  – including two rounds of massive bond purchases to pump more money into the system – are all but exhausted.  The few remaining tricks at his disposal are relatively  small bore. That grim reality,  as well as nasty criticism from Texas Gov. Rick Perry and other Republican presidential candidates and resistence from other Fed policy makers, has Bernanke walking a fine line in his effort to provide further help to the economy, according to some familiar with Fed deliberations.

Is Bernanke becoming the incredible shrinking Fed Chairman, with little left to bring to the table in addressing one of the worst recessions of modern times, or  will he find other ways  to help revive the economy?

At next week’s two-day policy making session of the Federal Open Market Committee, the Bernanke led majority is likely to approve selling some of the shorter-term Treasury securities the Fed holds and use the cash to buy others that mature several years down the road. That could reduce rates on longer-term securities and rates linked to them –including  those on home mortgages and private sector bonds.

However, with long-term rates already at their lowest level in decades the move would at best have a miniscule  impact on the economy compared to the 5-percentage point cut the Fed made beginning in 2007 in its key target for  interest on overnight  deposits, which is now close to zero. Similarly, as Bernanke has said, financial markets are functioning smoothly now, so all the special financing mechanisms used at the height of the crisis have been wrapped up.

“What can the Fed do at this point?,” asks Mickey Levy, chief economist at Bank of America. “I think the tools are limited and Bernanke knows they are limited. They are in a box.”

“Financial markets have had the notion that the Fed can always pull a rabbit out of the hat,” Levy told the Fiscal Times. “Well, in this situation it can’t because the problems facing the economy aren’t necessarily amenable to quick monetary policy solutions.”

Bernanke has said repeatedly that there are still actions the Fed can take to give the economy a boost. However, in a speech at the recent Kansas City Federal Reserve Bank’s annual conference in Jackson Hole, Wyo.,  the Fed chairman acknowledged this has been an unusual, disappointing recovery. The normal economic processes that foster recoveries after recessions have been blunted, he said.

“Unfortunately, the recession, besides being extraordinarily severe as well as global in scope, was also unusual in being associated with both a very deep slump in the housing market and a historic financial crisis,” Bernanke said. “These two features of the downturn, individually and in combination, have acted to slow the natural recovery process.”

Even rock bottom mortgage rates—such as those on 30-year fixed-rate mortgages that averaged only 4.22 percent in the week ended Sept. have not led to a snap back in home construction because of the overhang of distressed and foreclosed properties, still falling home prices and tight credit conditions facing both builders and buyers, he said.

Fed policies have helped bring down mortgage rates, but monetary policy alone can’t do much about the other factors.

Nor can the central bank do anything about the hit to both consumer and business confidence this summer caused by the unnecessary political clash over increasing the federal debt limit. Republicans caused the rancorous debate with their effort to embarrass President Obama. And if uncertainty over future government policies is a factor in slowing economic growth and business hiring, as many Republicans claim, the debt limit fight only made matters worse.

covered the Federal Reserve and the economy for 25 years at the Washington Post before joining Bloomberg News in 2004. In 2009 he began writing freelance pieces for, among others, Thomson Reuters, and is widely recognized for his ability to interpret the Fed.