Brad DeLong on Bernanke and Paulson

Brad DeLong had some insightful and amusing observations on the priorities of Federal Reserve Chair Ben Bernanke and Treasury Secretary Henry Paulson. I can’t resist reproducing Brad’s comments with some annotations of my own.

Brad writes: Is 2008 our 1929? No. It is not. The most important reason it is not is that Bernanke and Paulson are both focused like laser beams on not making the same mistakes as were made in 1929.

JDH annotates: Said mistakes of 1929 being allowing widespread bank panics to destroy the ability of financial intermediaries to function and allowing the price level to fall by 1/3. “Not on my watch” seems to be Bernanke’s motto.

Brad writes: They are also focused, but not quite as much, on not making the mistakes made by Arthur Burns in the 1970s.

JDH annotates: Said mistakes of the 1970s being overestimating what monetary stimulus can accomplish and igniting inflation as a result. The desire to avoid repeating this error is what prevented the Fed from lowering the target for the fed funds rate last week despite the chaos. Notwithstanding, I expect that Bernanke would quite gladly accept some resurgence in inflation if that would help avoid a financial meltdown.

Brad writes: And they are also focused, but not quite as much, on not making the mistakes the Bank of Japan made in the 1990s.

JDH annotates: Said mistakes in Japan being allowing substantial deflation (which again I’m quite certain Bernanke will avoid at all costs) and allowing zombie banks— banks with negative net worth– to remain functioning, but paralyzing everyone with the fear that any changes could kill them off for good.

Brad writes: They want to make their own, original, mistakes…

JDH annotates: Heh.

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24 thoughts on “Brad DeLong on Bernanke and Paulson

  1. DickF

    I agree with Brad Delong but what is amusing is by attempting to not repeat the past by believing the myths they are acutally repeating the past.
    In 1929 the price level fell not because of deflation as the myth holds but because assets were overvalued as they are today and a price correction was needed. But that is not the only mistake common to today. Hoover called on business to keep prices and wages from falling (too high). B and P are doing everything they can to prevent mortgage backed securities from being correctly valued downward by the market. Bernanke especially wants to pump it up, as the professor has stated.
    They are also taking a similar approach to that of Authur Burns. B and P are searching for a way to pump in more liquidity while still defending the FED rate. Treasury did sell t-bills to allow the FED to replace those that they have sold off, but that could still effect the FED rate so they will have to do something more creative like paying interest on FED deposits so that the banks don’t borrow from one another.
    And like Japan they are not allowing the market to price assets and they are not allowing the necessary creative destruction that must take place especially with Fannie and Freddie. Just like Japan prop them up.

  2. DickF

    One thing B and P have accomplished is driving the price of oil back to $120 and the price of gold over $900. The people of the world are reacting to another huge expectation in inflation. Wow! Aren’t managed economies great!!

  3. W. Raymond Mills

    And what will those mistakes be? Assume that they have unlimited resources to throw at the problem. Trying to overcome uncertainity with money.

  4. RealThink

    Professor DeLong does not need to worry, because there is a most important difference between 1929 and today. Then the world economy was far away from the physical limits to growth, while today it is bumping against them, most notably, but not exclusively, in the global extraction rate of crude oil. Today’s price action in oil should be illustrative enough.

  5. Anarchus

    I’ve worried about Dr. Bernanke’s lack of common sense ever since reading his speech given at the Conference to Honor Milton Friedman, University of Chicago, Chicago, Illinois November 8, 2002
    on the occasion of Milton Friedman’s Ninetieth Birthday.
    The entire speech can be found here (, and the money paragraph is as follows:
    “Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.”
    I understand the comment is tongue-in-cheek and I also understand that the speech is in honor of the life’s work of a 90 year old economist. But there’s an air (dare I suggest err?) of deterministic hubris present here and elsewhere that has always bothered me about the man.
    My point is, hindsight and calculated analysis long after the fact is astonishingly easy relative to making decisions based on imperfect data in real-time with Congressmen standing i n your way and with bankers screaming for funding relief. NOBODY intended to take actions that caused the great depression of 1929 and many policies that were followed were those fully-approved of by the economic experts of the day.
    I wonder if Dr. Bernanke understands today how much harder it is to make decisions and implement programs when all the accepted policy prescriptions that should have fixed things correctly (and might have even worked if the macroeconomy was as simple as it was back in the 1950s or 1960s) turn out to be woefully inadequate for dealing with the complicated linkages of the 21st century?

  6. TedK

    JDH, DickF,
    Maybe off-topic, but hope you can explain.
    I was under the impression that you both, along with Scott Irwin, were of the opinion that high oil prices were based on fundamentals and not due to speculation by Funds.
    Please correct me if I misunderstood you.
    But if my understanding of your view is correct, how do you then explain today’s sudden spike in Oil prices? Surely, dollar depreciation alone can’t explain it.
    And DickF, it sounds to me that your claim that people of the world have a huge ‘expectation of inflation’ is just another way of saying it is due to speculation?

  7. JO

    Hi all, the government plan will effectively buy garbage debt at purposely inflated prices.
    Two comments today. Talk about a vision which was right on the money:
    1) I am a most unhappy man. I have unwittingly ruined my country. A great industrial nation is controlled by its system of credit. Our system of credit is concentrated. The growth of the nation, therefore, and all our activities are in the hands of a few men. We have come to be one of the worst ruled, one of the most completely controlled and dominated governments in the civilized world, no longer a government by conviction and the vote of the majority, but a government by the opinion and duress of a small group of dominent men.
    Woodrow Wilson, after signing the Fed Reserve Act in 1913
    2) If the American people ever allow private banks to control the issue of their currency, first by inflation, then by deflation, the banks and corporations that grow up around them will deprive the people of their property until their children will wake up homeless on the continent their fathers conquered.
    Thomas Jefferson
    All American taxpayers must voice their opinion to Congress and band together to stop this monumental fraud being perpetrated by these animals.

  8. todd

    $700 Billion Dollar Bailout Good For Economy
    WASHINGTON (AP) — It’s the largest government bailout in U.S. history and two days after it was introduced to the Americans paying for it, the proposal is still largely a mystery.
    Among the unanswered questions: How will the government mop up the bad mortgage debt on banks’ books, who will run the process and how much will it cost?
    Key elements of the plan remain in flux as behind closed doors Democrats demand modifications that would provide more help for ordinary Americans in return for bailing out the country’s financial giants.

  9. Anon

    I don’t expect a clear answer on exactly what is to be done with the $700 billion. And I don’t think we will get one.
    This is the bottom of the ninth and the team owner has called the coach in to explain the strategy?????
    There is only one strategy – try to draw the game and go to extra innings.
    Leave the coach to do what he must. There is no well laid out plan for what Team America faces. A lot will have to be handled by gut feel and plays will need to be called on the fly.
    I cannot fathom the colossal ignorance and stupidity of any politician that is so ill informed that they are asking questions when Team America is out of ammo and surrounded on all sides by enemy and is begging for an air strike to prevent what is absolutely certain to be total annihilation.
    I have followed this whole thing since July 2006 when the first serious thunderclouds formed – why is it that American politicians can be so utterly ignorant and unaware of the seriousness of the situation?
    The same politicians and regulators allowed our troops – Team America – to get into such a precarious risky position in unknown territory – are these same politicians now going to sit by idly and debate meanwhile – everyone – I mean everyone will be affected- innocents, bystanders and troops – all will get wiped out in what follows!
    This is NOT the time to ask Team America questions – NOW is the time to give them all we can and put our faith in B & P – lets stop second guessing these guys – they are, after all human, but they are probably the best we have to deal with the crisis – so let them do what they can!

  10. Anonymous

    One big difference between 1929 and 2007 was the ratio of national debt to gdp was 17% then and is 65% today.

  11. Ben

    Anon at 07:51 PM:
    “This is NOT the time to ask Team America questions”.
    I hope that was satire. If, hypothetically, you were actually serious, get a grip – this is precisely the time to ask questions and develop a coherent picture of what is actually happening.
    As satire, it’s a superb sample of the blend of sports and war that dominate the mindset of this generation of leaders, and possibly (the horror, the horror) the public in general.
    Thanks for the laugh. Or was it a scream? Hard to tell these days.

  12. MarkS

    Y’all seem to be in consensus, (assuming ANON is being satirical about letting B&P call the long bomb to tie the game). DickF is in my opinion correct, losses have to be recognized and the profligate eliminated, else we create another bubble to kick the problem out a couple more years with even more serious repercussions, or suffer 15-20 years of zombie banks, and rapidly accumulating national debt like Japan. Anonymous has brought up an important issue, 65% national-debt/GDP is excessive and will constrain the Treasury’s ability to re-inflate… If they do, we can look forward to an Italian economy.

  13. DickF

    TedK wrote:
    I was under the impression that you both, along with Scott Irwin, were of the opinion that high oil prices were based on fundamentals and not due to speculation by Funds.
    And DickF, it sounds to me that your claim that people of the world have a huge ‘expectation of inflation’ is just another way of saying it is due to speculation?
    Even oil prices based on fundamentals are determined by specualtion. If you invest in tomatoes and there is a bad tomato harvest you will buy futures speculating that the price of tomatoes will increase. You may even buy tomatoes to have for the weekend because you expect them to increase in price before then.
    It is not that I do not believe that prices go up and down because of speculation, of course they do, it is that I do not believe that specualtion is a problem.
    I do not believe that speculators can drive the price beyond fundamentals. Understand that there are situations where speculators either over bid or under bid but they take loses when the price returns to the price reflected by fundamentals.
    Understand that a price is nothing other than an agreement between two parties to an exchange that at the moment benifits both. Later one may have buyers remorse but that is different from the actual transaction. If both parties do not believe that they benifit they will not transact in a free market. Only in a command economy are transactions coerced.
    It is this free exchange to the benifit of both that allows the free market to price goods and services and it is the inability of a command economy to price goods and services that has created much of our existing credit problems. Without transactions no one knows how to price goods and services including mortgages.

  14. Anon

    “this is precisely the time to ask questions and develop a coherent picture of what is actually happening.”
    Sure. Lets hold a debate while the house is on fire – what is the best approach? Lets set up a committee to study the issue! That would be the academic solution. Unfortunately, we are on borrowed time already. Things really are extremely precarious in the real world right now – the time for oversight and debate is long over. The politicians and regulators were all asleep on their watch.
    Amaranth – HELLO
    JP Morgan – $90 Trillion in “notional derivatives” – HELLO
    Bear Stearns – HELLO
    Morgan Stanley Goldman Sachs running to mummy – HELLO
    Goldman Sachs average 2006 salary – $622,000 – HELLO
    Greenspan is on record as having welcomed new forms of lending such as subprime teaser rates – HELLO
    …I guess everyone has been asleep and just got woken out of bed and are grumpy. Huh what? There is a fire? Where? Mmmh – we need to discuss this before we do anything!
    There have been plenty of signposts already – several are mentioned above in previous posts!
    Why all the sudden do Politicians want to get to the bottom of what is going on and what started the fire and who is going to pay for the water to put it out – debate everything – now that the whole street is on fire and the fire department is pleading for help!

  15. RebelEconomist

    Call me an old cynic, but I have heard “the sky is falling” so many times (1987 crash, 1998 LTCM, 2000 Y2K then dotcom bust, 2001 9/11). Each time, the problem was averted at the expense of the prudent, and the imprudent did not learn their lesson. It has to end somewhere.

  16. DickF

    I would agree with you if we had never had the period 1928-1938. Not to mention Japan in the 1990s. Governments can in fact make mistakes for a long period of time and cause a lot of suffering.

  17. RebelEconomist

    Government made a lot more mistakes in the Depression than just allowing a bust. They tried to balance budgets, cut money supply in line with falling prices, and imposed tariffs and various kinds of business-discouraging regulations. I am sure that the spectre of the Depression was brought up in every one of those episodes I mentioned to justify populist easing, but the mistakes of the Depression would not be repeated.
    Japan, in my opinion, prolonged its bust by not liquidating sufficiently aggressively, but it has not been a bad place to be since its bubble burst – I go there every couple of years or so.

  18. ReformerRay

    SUPRISE- The credit clog has been unclogged, if I understand what is posted on the European Central Bank website. On Sept. 18 we read “Measures designed to address elevated pressures in the short-term US dollar funding markets”. This describes how this bank is going to provide “US dollar liquidity for as long as needed”. Under tender operations – allotment we read that 40,000 mn was provided (and used) overnight starting on the 24th and ending on the 25th with a marginal rate of 2.5%. If I understand this, the Central Bank is doing what the private banks will not do, that is lend overnight. This will provide the funds to keep lending going. So what is the problem remaining?
    The private sector is cut out of the profits that they used to make by lending.
    This will drive some of the banks and other lending institutions into bankruptcy. GOOD. Reduction in the number of financial institutions is necessary, now that fictious profits are prohibited.
    This does not solve the problems of Credit Default Swaps or mortgage contracts that cannot be priced because of uncertain default rates.
    OK. When are those problems going to surface and force a response? Paulson and Bernanke must be ready witgh a response.
    In the case of Crediit Default Swaps, when a crisis occurs, the proper response is a holiday on court enforcement of said contracts. They can continue to be fulfilled on a voluntary basis, but the U.S. courts will not be a party to enforcing them until the Sec. of the Treasury tells the Congress it is OK to life the suspension. While the holiday is in force, negotiations will be underway among all the parties to write a succession enforcement law that will spell out how the remaining contracts will be changed so as to make them elgible for enforcement by the government.
    As for the mortgages owned buy investors, a similar “time out” should be made available to them, but on a voluntary basis. Any investor who has a mortgage contract he does not want to sell under current market conditions and would not like that contract to cause him to write-down his assets, will be allowed to park this contract temporarily with a federal agency. During the time that contract is so parked, its market value will be assumed, by law, to be fixed at the level it had when deposited with the agency.
    I summary, this crisis is temporary and should be treated as one that will not be here a year from now, if the financial system can keep providing loans to maintain the economy for the next year. The changes already made by the FRB and those suggested here should enable the system to muddle along without strangling the real economy.

  19. Anon

    I don’t know where most of you on this thread work or if you are perhaps all mainly in academia.
    However big and solid as a rock businesses cannot roll over their debt without a 2% rate hike right now. I hope you understand what this means to investments and jobs as firms concentrate on paying down debt and postponing investment. IMHO, the longer and more severe the liquidity crisis lasts the deeper the recession will be.
    …just a layman here, no economics PHD, but I think people should think hard before suggesting to simply pull the plug on Wall Street greedy fat cats… (and yes, I hate those guys too, and I know Paulson has a net worth of $700 million)

  20. GNP

    The irony of the Bernanke and Paulson approach is that they are probably guaranteeing more “liberal” interventionist policy going forward and likely helping albeit inadvertently the fortunes of the Democratic Party.

    This crisis will have interesting and significant international security implications. In that arena, the US will inevitably be much less interventionist.

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