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"When should the Fed crash the party?"
That's the headline of a May 11 New York Times article by Peter Bernstein. I have tremendous respect for this financial consultant and author. In particular, I enjoyed his book "Against the Gods: The Remarkable Story of Risk."
However, while I find the Times article interesting -- and was surprised to see myself quoted, along with Jim Grant -- my column this week will serve as a rebuttal. That, as I find Bernstein's logic tortured and his conclusions unacceptable.
I'll begin with Bernstein's comments regarding those of us who believe the Fed should stop bubbles, which I guess would include almost anyone from the Austrian school of economics:
"As the world economy wrestles with the credit crisis and a shattered housing sector, there are those who grumble that too much prosperity caused the excesses that became the root cause of all our troubles. Now, they fear, aggressive countercyclical policies will lead to inflation and threaten a run on the dollar."
Lead to? They already have caused them.
Bubble vigilantes: No less lovers of prosperity
This is a mischaracterization. No one who thinks the Federal Reserve should stop bubbles thinks the Fed needs to manage prosperity. Bubbles (which are rather obvious), as opposed to prosperity, are what need to be avoided.As an aside, I am not a proponent of intervention generically. I prefer as little government meddling as possible, be it from the White House, Congress or the Fed.
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But since the Fed has decided that it's going to print money and manage the business cycle by picking the "right" interest rate, it needs to be particularly careful about setting off an asset bubble. Asset bubbles need to be stopped before they're started because they have dire consequences -- for example, the recession that followed the 2000 stock-market peak, the bust we're in now (which has plenty more to go) and the bust Tokyo experienced for a decade or so. That is what happens when asset bubbles are allowed to build.
Prosperity does not need managing. America has had booms and busts for its entire existence. There is no need to try to check prosperity.
Bernstein completely mischaracterizes those of us who oppose the creation of bubbles: "In some ways, those who echo (Treasury Secretary Andrew) Mellon's view about letting downturns run their course are inconsistent in their arguments. This school favors government intervention on the upside, but wants no part of government action when trouble develops."
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Should we worry about the economy?Today's state of the US economy may not seem apocalyptic, but a slow and steady beating could prove disastrous, MSN Money's Jim Jubak says.
That is not correct. We do not favor an asymmetrical approach to bubbles. What we believe is, if bubbles are stopped, there would be no need to ride to the rescue in the downturn.
(Having said that, if the Fed did intervene to stop a bubble, it would be less objectionable if the Fed then tried to help pick up the pieces during the bust. At least that would be symmetrical.)
Continued: Prescription for real prosperity
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