William McChesney Martin, who was Fed Chairman from Truman to Nixon, famously remarked that his job was to take away the punch bowl once the party got going.
He was referring, of course, to the Fed's role in the economy; when the economy gets too hot, and prices rise, the Fed's job is to tighten credit and cool it off. When the economy falters and people lose jobs, the Fed does the reverse. That's the job that Ben Bernanke is signing up to do -- the job Alan Greenspan signed up for in 1987.
But six months into Greenspan's tenure, the stock market crashed. Suddenly the danger confronting the economy wasn't inflation or unemployment next year, but a financial panic that afternoon. The companies that let people trade stocks on the New York Exchange were on the verge of going broke. Had Greenspan not stepped in to rescue them, stock trading and the financial system would have stopped cold.
Over the next 18 years, while Bernanke was building a career as a distinguished economics professor at Princeton, Greenspan was making his rep as a crisis manager. He worked with Treasury Secretary Robert Rubin to bail out Mexico in 1994. Four years later, he came to the rescue of world markets when Asia, Russia, and Brazil turned into falling financial dominoes. And when the dot.com bubble burst in 2001, he came to the rescue again, making credit cheap to undo the damage of falling stock prices. Whatever his failures - including his endorsement of the 2001 tax cuts - Greenspan knew how to manage the world's financial crises; he was good at letting the world's financial markets sleep soundly at night.
Bernanke might have to be even better. Our government now spends more on wars, hurricanes, and tax cuts than it brings in, and foreigners - in particular the governments of China and Japan - are lending us the money to do it. But no one lends forever. What happens when these foreign lenders decide they’re putting too many eggs in our basket? The result could be higher interest rates, falling stock and home prices, a recession, and perhaps the failure of some banks - the mother of all financial crises.
Right now, the talk is about Bernanke's theoretical writings on monetary policy. He's a leading exponent of the theory that the Fed should announce how much inflation it's willing to tolerate - say, two percent - and then put its policies on autopilot to reach that target. But the responsibilities of being Fed Chairman will turn the most devout theoretician into a pragmatist in short order - ask Alan Greenspan. A financial panic sometimes means raising rates, sometimes lowering them; sometimes cooperating with other countries, sometimes confronting them; and sometimes making up new rules for private banks or trading exchanges. The textbooks don't say much about that.
Bernanke's ability to live up to this challenge one day may well define his tenure as Fed Chairman. It's one thing to know when to take away the punch bowl. It's another to know what to do when the party breaks into a brawl.
From Alan to Ben
William McChesney Martin, who was Fed Chairman from Truman to Nixon, famously remarked that his job was to take away the punch bowl once the party got going.
He was referring, of course, to the Fed's role in the economy; when the economy gets too hot, and prices rise, the Fed's job is to tighten credit and cool it off. When the economy falters and people lose jobs, the Fed does the reverse. That's the job that Ben Bernanke is signing up to do -- the job Alan Greenspan signed up for in 1987.
But six months into Greenspan's tenure, the stock market crashed. Suddenly the danger confronting the economy wasn't inflation or unemployment next year, but a financial panic that afternoon. The companies that let people trade stocks on the New York Exchange were on the verge of going broke. Had Greenspan not stepped in to rescue them, stock trading and the financial system would have stopped cold.
Over the next 18 years, while Bernanke was building a career as a distinguished economics professor at Princeton, Greenspan was making his rep as a crisis manager. He worked with Treasury Secretary Robert Rubin to bail out Mexico in 1994. Four years later, he came to the rescue of world markets when Asia, Russia, and Brazil turned into falling financial dominoes. And when the dot.com bubble burst in 2001, he came to the rescue again, making credit cheap to undo the damage of falling stock prices. Whatever his failures - including his endorsement of the 2001 tax cuts - Greenspan knew how to manage the world's financial crises; he was good at letting the world's financial markets sleep soundly at night.
Bernanke might have to be even better. Our government now spends more on wars, hurricanes, and tax cuts than it brings in, and foreigners - in particular the governments of China and Japan - are lending us the money to do it. But no one lends forever. What happens when these foreign lenders decide they’re putting too many eggs in our basket? The result could be higher interest rates, falling stock and home prices, a recession, and perhaps the failure of some banks - the mother of all financial crises.
Right now, the talk is about Bernanke's theoretical writings on monetary policy. He's a leading exponent of the theory that the Fed should announce how much inflation it's willing to tolerate - say, two percent - and then put its policies on autopilot to reach that target. But the responsibilities of being Fed Chairman will turn the most devout theoretician into a pragmatist in short order - ask Alan Greenspan. A financial panic sometimes means raising rates, sometimes lowering them; sometimes cooperating with other countries, sometimes confronting them; and sometimes making up new rules for private banks or trading exchanges. The textbooks don't say much about that.
Bernanke's ability to live up to this challenge one day may well define his tenure as Fed Chairman. It's one thing to know when to take away the punch bowl. It's another to know what to do when the party breaks into a brawl.