Thursday, November 21, 2013

End of the Bernanke Era

Early next year, Ben Bernanke will step down as Chairman of the Federal Reserve Bank and for the first time in its nearly 100-year history, a woman will take his place. Janet Yellen, Berkeley Professor, and former president and CEO of the Federal Reserve Bank of San Francisco, will be handed the reins of an economy in recovery. After clearing the Senate Banking Committee on semi-bipartisan lines, she will be in charge of a Fed that has seen increasing scrutiny and calls for transparency (and abolition - see Ron Paul).

Bernanke's tenure mostly involved facing down the worst recession since the Great Depression. His time was marked by both the unprecedented steps he took to avoid a bigger financial catastrophe and the tools he employed to foster a (albeit slow) recovery. Under his watch, the Fed became more well-known and transparent body, even if pronouncements about the economy remained purposefully vague. In other words, the power of his words moved markets.

Bernanke presided over:

  • TARP (Troubled Asset Relief Program, AKA the "Bank Bailout") - Close to $450 billion paid to ailing banks to prop up their balance sheets after disastrous sub-prime mortgage market collapsed. To date, the return for taxpayers has been about 97%. 
  • Freddie/Fannie - Fed took control of Freddie Mac and Fannie Mae after they nearly collapsed over their low capital reserves and high amount of liabilities related to defaulted home mortgages. 
  • Federal Support of the Auto Industry (AKA, Auto Bailout, or Government Motors) - financial support for a failing auto industry. This program, which was approved by the Bush Admin, injected $25 billion into the ailing auto industry, mostly to the "big three" - GM, Chrysler and Ford. It was highly successful it making the companies profitable and all lines of credit extended have been paid back. 
  • Quantitative Easing (AKA, QE or Operation Twist) - Traditional monetary policy (keeping interest rates near zero) was not enough to stimulate the economy or grow employment, so the Fed decided to buy up government bonds to lower market interest rates. At the moment, QE3 involves buying up $85 billion/month. 
The significance of the steps that Bernanke took are embodied in both their immediate impact and their legacy. The policies, while necessary in staving off the worst effects of the recession, have left the recovery on such a dependency that any hint of easing monetary reforms have led to isolated market shock. Politicians and financial professionals have long held that bailing out institutions has brought an issue of dependence - if a bank can depend on a bail out even after risky, isolated behavior that does not benefit the public, there is no incentive to curb such activity. It is the quintessential problem that has defined "too big to fail." 

It will be up to the new chairwoman and the Fed to guide new policies on the risky behavior of banks. But, more importantly, Janet Yellen will have to make measured judgment about how and when to taper QE in a way that does not throw the US and the world back into uncertainty and recession.