New Leader Of The Fiscal Scold Gang

Well, if you hadn't heard, the crisis in the financial markets ended, and everything's fine now. The banks were able to raise more capital than needed to comply with the stress tests, as investors swallowed all their stock offerings. And why not? The federal government put a virtual guarantee that the top banks would not be allowed to fail, and the stocks are already low, low, low, so there's almost no risk to the purchase. CEOs aren't buying the stock, so maybe they know this to be a bear-market rally, but they also know they have what amounts to a federal backstop. Sure, the next wave of foreclosures will degrade the quality of loans and mortgage-backed securities even further, but then the government will just buy the bad ones out. In fact, the banksters don't like the price right now, so they've put a plug in the legacy loan program:

The Federal Deposit Insurance Corporation indefinitely postponed a central element of the Obama administration’s bank rescue plan on Wednesday, acknowledging that it could not persuade enough banks to sell off their bad assets. . . .

Many banks have refused to sell their loans, in part because doing so would force them to mark down the value of those loans and book big losses. Even though the government was prepared to prop up prices by offering cheap financing to investors, the prices that banks were demanding have remained far higher than the prices that investors were willing to pay.

Just last week at least some banks wanted to participate in the program – to buy assets from themselves. Once Sheila Bair rejected that idea, I guess they lost interest. Essentially the stress tests placed a big government stamp of approval on their balance sheets, so their current strategy is to wait out the recession and hope the prices of their legacy loans recover. There’s no downside risk, because if the economy gets worse and they ever need to unload those loans, they can count on the plan being resurrected.

The Federal Reserve asked the banks to raise additional capital to comply with repaying their TARP money, but if they found it this easy to sell stock already, they should have no problem reaching that hurdle. Basically the industry made it through the worst, and now they exist on this fantasy plane where they remain too big to fail, socializing the risk while privatizing the profit.

So it should come as no surprise that, now that the crisis has lifted, I guess, the successor to the Maestro is immediately calling for fiscal discipline.

The Federal Reserve chairman, Ben S. Bernanke, said on Wednesday that the United States needed to develop a plan to restore fiscal balance, even as the government builds huge budget deficits as it tries to spend its way out of the worst economic crisis since the Great Depression.

In remarks to the House Budget Committee, Mr. Bernanke said that the government must address the immediate problems of a crippling recession that has erased trillions of dollars in household wealth, hobbled investment portfolios and raised unemployment to its highest levels in a generation. Still, he said, the government needs to think about putting its fiscal house back in order.

“Unless we demonstrate a strong commitment to fiscal sustainability in the longer term, we will have neither financial stability nor healthy economic growth,” he said [...]

“Even as we take steps to address the recession and threats to financial stability, maintaining the confidence of the financial markets requires that we, as a nation, begin planning now for the restoration of fiscal balance,” Mr. Bernanke said.

I thought the Fed dealt with monetary policy and the Treasury Department fiscal policy, but what do I know.

Let me pinpoint the years where the words "deficit" or "fiscal sustainability" never crossed the lips of someone of Bernanke's stature: Jan. 1981-Jan. 1993 and Jan. 2001-Jan. 2009. At that time deficits didn't matter. Now all of a sudden, in the midst of cleaning up the wreckage of the Bush regime, no discussion of economic policy can go by without the important mention of getting our fiscal house in order.

I believe deficits do matter, eventually. But it only makes sense to work on "fiscal responsibility" if you believe the crisis is over. And if that's what Bernanke thinks, we have serious problems. Because the housing market remains in free-fall. And unemployment is still going over the edge. What's happening here is that Bernanke is fronting for the fiscal scolds (so is Peterson Institute fellow Simon Johnson, who dresses up this talk in prettier language sometimes) who seek to eliminate the social safety net through "entitlement reform." Going back to the same old arguments as if the Great Recession has transformed into some boom time seems really premature.