Federal Reserve Board of Governors member Kevin Warsh had an important opinion article in Friday’s Wall Street Journal. As the Journal’s David Wessel points out in his book In Fed We Trust, Warsh has been a key member of the Federal Reserve Board of Governors and is definitely in close touch with Chairman Ben Bernanke. It seems to me inconceivable that Warsh would have published this piece without Bernanke’s approval.
Here’s what I thought was the key passage:
“Nonetheless, I would hazard the view that prudent risk management indicates that policy likely will need to begin normalization before it is obvious that it is necessary, possibly with greater force than is customary, and taking proper account of the policies being instituted by other authorities.
“’Whatever it takes’ is said by some [i.e., Wessel, who makes this point over and over] to be the maxim that marked the battle of the last year. But, it cannot be an asymmetric mantra, trotted out only during times of deep economic and financial distress, and discarded when the cycle turns. If ‘whatever it takes’ was appropriate to arrest the panic, the refrain might turn out to be equally necessary at a stage during the recovery to ensure the Federal Reserve’s institutional credibility. The asymmetric application of policy ultimately could cause the innovative policy approaches introduced in the past couple of years to lose their standing as valuable additions in the arsenal of central bankers.”
My translation into English. The Fed used extraordinary measures to pump vast sums of money into the economy to keep credit from coagulating, and the Fed will scale these extraordinary measures back to zero to make sure that they don’t spark inflation—and it will do so before lagging indicators like unemployment start to move toward optimal rates. And, quite possibly, before the Obama administration and Democratic campaign strategists would like.
I see this as an addendum to Bernanke’s July 21 Journal piece setting out the ways in which the Fed could cut back on the money supply, about which I wrote at the time. Larry Kudlow reads it the same way I do. Bernanke was saying, we can prevent inflation. Warsh is saying, we will prevent inflation. I assume this is intended to assure players in financial markets and the public generally that the risk of inflation is low. But I think it might also be unsettling to some Democratic politicians, especially to senators who will be asked to confirm his reappointment as Fed Chairman. I suspect that Bernanke and Warsh are correct if they are wagering that the chances he will be denied reappointment, or will have serious difficulties in the reappointment process, are close. I think they’re right—but let’s see what happens.
