Wednesday, August 26, 2009

Ambrose Evans-Pritchard on Bernanke's Troubling Side

He doesn't get "intertemporal misallocation", says Evans-Pritchard:
It is this twin-sided nature of Bernanke that raises nagging questions about his reappointment as chairman of the Fed. He has admitted errors: it was wrong to think the sub-prime crisis could be contained. But he has yet to acknowledge that his economic ideology is deeply flawed.

Bill White, former chief economist at the Bank for International Settlements, said the error of the central banking fraternity over past 20 years has been to cut real interest rates ever lower to keep the game going. This has lured the world into a debt trap. The effect is to keep drawing prosperity from the future – until the future arrives.

"It does the job for a while but moves in interest rates have to be ever more violent to achieve the same effect. My worry is that we may have reached the point where the policy ceases to work altogether.

"These imbalances come back to haunt you, and that is where the world now is. People have been induced to bring forward purchases by taking on debt and there has been a massive expansion in corporate investment," he said.

Economists call this critique "intertemporal misallocation". It is a favourite of the Austrian School. It plays almost no role in the "New Keynesian"thinking of Bernanke.

His reflex is to see any fall in demand as an outside shock to be corrected by extra stimulus. What he does not accept is that the adrenal glands of the economic system have been depleted by perpetual credit stimulus, giving the world a form of Addison's Disease...

Bernanke's theoretical model is clearly wrong – since he was blind-sided two years ago – and must lead him into fresh error. The risk is that he will mismanage the Fed's "exit strategy"... He.. also seems to think he has basically licked our Great Recession of 2008-2009. Has he really?
The full Ambrose Evans-Pritchard column is here. Warning, if you read the full Evans-Pritchard column, it's clear that he doesn't get all the implications of the intertemporal misallocation problem, either,as he writes that he fears that Bernanke will not turn on the monetary spigots soon enough. If he really understood intertemporal misallocation theory, he would know that the downturn is the cleansing process from the misallocations, and that propping up the misallocations is the last thing an economy needs.

Evans-Pritchard thus recognizes that Bernanke doesn't get intertemporal misallocation theory, but neither thus Evans-Pritchard.

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