I just finished an interview with Robert Higgs about the Great Depression for a future EconTalk. After the formal interview was over, we were talking about how Bernanke seems obsessed with avoiding another Great Depression. Unfortunately, as Higgs observed, we don’t have a liquidity problem as we had in the 1930s but rather an insolvency problem akin to Japan’s when their housing bubble burst. And Bob and I both agreed that having lots of liquidity doesn’t help when there’s too much uncertainty about the rules of the game.
Federal Reserve Chairman Ben S.
Bernanke signaled he’s ready to dig deeper into the central
bank’s toolkit after cutting interest rates almost as much as he
can, opening the door to a shift by policy makers this month.
Bernanke yesterday said he may use less conventional
policies, such as buying Treasury securities, to revive the
economy, because his room to lower the main U.S. rate from the
current 1 percent level is “obviously limited.” Even so,
reducing the rate is “certainly feasible,” he said.
The article then goes on to talk about the parallels with the Japanese situation and how the Japanese central bank used such strategies between 2001 and 2006 to try to get the Japanese economy going. Then this quote:
Bank of Japan Governor Masaaki Shirakawa said in May that
while the strategy “was very effective in stabilizing financial
markets,” it had “limited impact” in remedying Japan’s
economic stagnation because banks wouldn’t lend and companies
Bernanke doesn’t seem to realize (nor does Paulson) that constantly changing strategies reduces the desire on the part of investors and borrowers to take risk.
Afraid to look passive, policy makers risk making things much much worse. It is a good time right now to talk less and probably even to do less. But the political incentives all point in the opposite direction.
Here is Higgs on regime uncertainty in the 1930s, which was the subject of about half of the upcoming podcast.