Dr. Hoenig, the Hawk: We Need More of Them

Dr. Thomas Hoenig, President of the Kansas City Federal Reserve Bank, has been known as a monetary policy hawk in the past. If he has been part of the Federal Open Market Committee's consensus supporting negative real interest rates, he is a dove no longer. He told the American Economics Association (AEA) meetings, “Experience both in the US and internationally tells us that maintaining large amounts of stimulus over an extended period risks creating conditions that lead to financial excess, economic volatility and even higher unemployment at some point in the future.” Amen!

Hoenig vs. Bernanke

Hoenig and our current Fed Chairman, Ben Bernanke offered opposing views of history at the AEA meetings.

As George Santayana taught us, "Those who cannot learn from history are doomed to repeat it." So at issue is what role monetary policy played in creating the real estate bubble that caused the so called Great Recession of 2007-9. To Hoenig and to me it is clear that the over-expansion of credit that inflated the bubble had as its root cause the Fed's war against the paper dragon of deflation. Negative real interest rates in 2002-2005 and much too low rates in 2006 subsidized the creation of ever more esoteric securities which was the stuff from which Wall Street's leverage binge was made.  Negative real interest rates inflate investment bankers' profits and bonuses, misdirect productive resources into speculation, cause a dangerous correlation of returns, and subsidize the ever increasing financial roundabout production we saw during the recent bubble. Short term interest rates are the price for the raw materials with which investment banks create leverage in securities markets and financial engineers manufacture designer securities.Subsidize the raw materials and increase the supply.

Bernanke is a better student of the Great Depression of the 1930s than of the recent bubble. As John Cassidy relates, that Ben Bernanke "[r]ather than conceding that he and his predecessor, Alan Greenspan, made a hash of things between 2002 and 2006, keeping interest rates too low for too long, he said the Fed’s policies were reasonable and the main cause of the rise in house prices was not cheap money but lax supervision." Cassidy is moved to wonder in the Financial Times whether Ben Bernanke is "Decended From the Bourbons?" recalling "Talleyrand’s quip about the restored Bourbon monarchs: 'They have learned nothing and forgotten nothing.'”