The Other Bubble
Some highly placed people don’t want a serious discussion of quantitative easing.
By Amity Shlaes
Back in the late 1990s and right up to 2007, journalists occasionally wondered about two big enterprises called Fannie Mae and Freddie Mac. Fannie had come out of an obscure period of American history, the New Deal. Freddie had been created more recently, but no one could explain quite how. The official job of the pair was to provide liquidity in the housing sector in various ways, including creating a secondary market in securities backed by mortgage loans. Whatever Fan and Fred did, their form seemed a contradictory hybrid: On the one hand they were “private.” On the other hand their bonds sold at a premium over other bonds, suggesting that the Treasury or the Fed would always bail them out. These “government-sponsored enterprises,” as they were known, were both growing. Logic suggested that the more they grew, the more bailing them out would rattle markets.
Yet if a reporter took a stab at explaining these mystery entities in a story, or even merely spotlighted them, that reporter paid for it. Fannie and Freddie’s big executives, credentialed power brokers from both parties, hopped on the Shuttle and came to New York to bully the newspaper into shutting up. The executives suggested the journalists weren’t bright enough to appreciate the financial mechanics of Fannie or Freddie. This brazen effort at intimidation was unusual. Even senior editors could recall nothing like it — unless they were old enough to have met with a Teamster.
Those writers who experienced this finger-wagging and strong-arming in the conference room will never forget the queasy feeling they engendered. Fannie and Freddie’s lobbyists did not succeed in muzzling big news. From time to time, even after such a visit, editors ordered up and reporters wrote articles probing the GSEs. But when it came to big, sustained investigations, most newspapers turned to easier topics. When, much later, Fannie and Freddie proved to have been ticking time bombs and set off the financial crisis, the reporters told themselves that the very blatancy of the effort to intimidate should have tipped them off. They vowed to respond differently should that queasy feeling ever return.
Well, queasy is back. And this time, the strong arm belongs not to the boss of the company, Janet Yellen of the Fed, but to a media supporter, Paul Krugman of the New York Times. Unlike the old Fan and Fred execs, Krugman isn’t administering his punishment in the privacy of a conference room but rather in his columns and blogs. Example: This week, the professor’s target was actually another man qualified to be a professor, Cliff Asness, a University of Chicago Ph.D. who does his own academic work. Asness also runs tens of billions at a hedge fund, a fact that suggests he has thought about interest rates and the Fed quite a bit. To Asness Krugman wrote: “But if you’re one of those people who don’t have time to understand the monetary debate, I have a simple piece of advice: Don’t lecture the chairman of the Fed on monetary policy.”
What triggered Krugman’s pulling some kind of imagined rank on Asness was that Asness, along with me and others, signed a letter a few years ago suggesting that Fed policy might be off, and that inflation might result. Well, inflation hasn’t come on a big scale, apparently. Or not yet. Still, a lot of us remain comfortable with that letter, since we figure someone in the world ought always to warn about the possibility of inflation. Even if what the Fed is doing is not inflationary, the arbitrary fashion in which our central bank responds to markets betrays a lack of concern about inflation. And that behavior by monetary authorities is enough to make markets expect inflation in future.
Besides, the Fed cannot keep interest rates this low forever. As former Fed governor Larry Lindsey notes, the cycle of quantitative easing has become predictable: “QE1 ends. Stock market sells off. QE2 begins. Then, QE2 ends. Stock market sells off. Operation Twist starts to be soon followed by a full-blown start of QE3. Now here we are in October and QE3 is finally winding down. This time it was ‘tapered’ rather than abruptly ended. Still, stock market sells off.” Concludes Lindsey: “Whenever the Fed withdraws a stimulus it is going to be painful. Whenever officials flinch and ease because of the pain it just becomes harder next time.”
Given all the confusion, it would surely be useful have a vigorous debate on the Federal Reserve law and Fed policy — one that includes all kinds of arguments, and in which nobody calls anybody a “wing nut.” One that asks whether stock prices or, for that matter, housing prices may reflect inflation or deflation, or whether the dollar will always behave the way it does now. The authorities’ response — “We’re smart, so be quiet” — suggests that the greatest bubble of all bubbles may be the bubble of credibility of central bankers. Whenever that one pops, the whole world will feel queasy.