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[Bill Totten]

Mr Bernanke Spreads the Fire

by Michael Hudson

CounterPunch (March 17 2009)


On the March 15 CBS show Sixty Minutes, Federal Reserve Chairman Ben
Bernanke used a false analogy already popularized by President Obama in
his quasi-State of the Union Speech. He likened the financial sector to
a house burning down - fair enough, as it is destroying property values,
leading to foreclosures, abandonments, stripping (for copper wire and
anything else recoverable) and certainly a devastation of value. The
problem with this analogy was just where this building was situated, and
its relationship to "other houses" (for example, the rest of the economy).

Mr Bernanke asked what people should do if an irresponsible smoker let
his bed catch fire so that the house burned down. Should the neighbor
say, "it's his fault, let the house burn"? That would threaten the whole
neighborhood with fire, Mr Bernanke explained. The implication, he
spelled out, was that economic recovery required a strong banking and
financial system. And this is just what he said: The economy cannot
recover without yet more credit and debt. And that in turn requires
trillions and trillions of dollars given by "the neighbors" to the bad
irresponsible man who burned down his own house. This is where the
analogy goes seriously off track.

But watching Sixty Minutes, my wife said to me, "That's just what Mr
Obama said the other night. What do they do - have a meeting and agree
on what metaphor to popularize?" They seem to have an image that will
lock Americans into supporting a policy even though they don't like it
and many feel like letting the financial house (AIG, Citibank, and Bank
of America/Countrywide) burn down.

What's false about this analogy? For starters, banking houses are not in
the same neighborhood where most people live. They're the castle on the
hill, lording it over the town below. They can burn down and leave the
hilltop revert "back to nature" rather than having the whole town gaze
up at a temple of money that keeps them in debt.

More to the point is the false analogy with US policy. In effect, the
Treasury and Fed are not "putting out a fire". They're taking over
houses that have not burned down, throwing out their homeowners and
occupants, and turning the property over to the culprits who "burned
down their own house". The government is not playing the role of
fireman. "Putting out the fire" would be writing off the debts of the
economy - the debts that are "burning it down".

To Mr Bernanke the "solution" to the debt problem is to get the banks
lending again. He's spreading the debt-fire. The government is to lend
the "threatened neighbors" enough money so that credit customers of the
financial "house on the hill" can to pay it the stipulated interest
charges they owe. It is not burning down at all; the neighborhood's
money (in this case, tax money) is being burned up.

Mr Bernanke explained to the Sunday evening audience that his policy
aimed at helping the economy return to "normalcy". Fully in line with
what Mr Paulson was saying last summer, "normalcy" is defined as a new
exponential growth in the volume of debt. He talked about "sustainable"
recovery. But "the magic of compound interest" is not sustainable. It's
all a false metaphor.

Mr Bernanke then left the realm of metaphor altogether to give an
outright false explanation of the balance of payments and the upcoming
Gang of Twenty meetings in Europe. On Friday, China's premier expressed
worry over the health of the American economy, in which China had
recycled nearly $2 trillion of its dollar inflows in order to prevent
the yuan from rising in price against the dollar. The fear is that
despite this heavy recycling of dollars by foreign central banks, the US
exchange rate will still weaken as the trade balance continues unabated
and, just as seriously, US military spending keeps on pumping dollars
into the world economy as war spreads eastward from Iraq to Afghanistan
and Pakistan.

The way Federal Reserve Chairman Bernanke explained the problem on CBS,
America had to keep its markets attractive to "Chinese savers". The
image being conjured up again and again is that there is a world
"savings surplus". That is supposed to be what flooded the large US
banks and Wall Street with so much money that they were obliged to move
it into riskier and riskier investments. "They made us do it" was the
message not quite spelled out.

One would think that Mr Bernanke knows nothing at all about the balance
of payments or how the global monetary system works. Here's what really
has been happening. The US economy itself pumps "savings" into foreign
central banks by spending abroad on military bases. (Sixty Minutes
showed robot fork-lift machines moving around $40-million loads of US
currency through the New York Federal Reserve Bank the way that similar
machines have been doing in Iraq to buy off local supporters and
political groups.) US consumers likewise buy more than the country is
exporting. When these surplus dollars are turned over to foreign banks
for domestic currency, the banks turn them over to the central bank -
which has a problem.

Remember when an earlier US Secretary, John Connolly, said "It's our
deficit, but their problem"? He meant that the US was spending funds (at
that time mainly in Southeast Asia) that ended up in foreign central
banks, which faced a dilemma: If they let "the market" handle these
dollars, their own currency would rise. That would threaten to price
their exports out of world markets, and hence would cause domestic
unemployment. So foreign governments chose to recycle their dollar
inflows by keeping them in dollars - mainly in US Treasury bills and
then, when the supply began to run out, in federal agency securities
such as Fannie Mae and Freddie Mac.

So the "fire" in the international sphere was the US military-spending
deficit and trade deficit. This doesn't have much to do with Chinese
consumers saving too much. Central banks were doing the quasi-saving, by
being stuck with surplus US dollars like a hot potato. But one rarely
hears public officials mention the nation's military deficit. It is as
if foreign saving comes first, then a "market-based" decision to place
these in the US economy, "the engine of world growth". What actually
comes first is the US balance-of-payments deficit, pumping surplus
dollars into the economy - which foreign central banks find themselves
obliged to recycle within the dollar sphere. (This is the phenomenon I
discuss in Super Imperialism: The Economic Strategy of American Empire,
and Global Fracture.)

As for the surplus credit that Wall Street lent out, it is created out
of thin air. At least Mr Bernanke was clear about this, when he
explained that the Fed "creates deposits" for its member banks just as
these banks "create deposits" for their own customers at a stroke of the
computer keyboard.

The bottom line is that the American public is being fed a carefully
crafted mythology (no doubt "market tested" on "response groups" to see
which images fly best) to mislead the American public into
misunderstanding the nature of today's financial problem - to mislead it
in such a way that today's policies will make sense and gain voter support.

But this mythology is based on false analogies, not economic reality. It
is designed to make Wall Street appear as a savior, not an arsonist -
and to depict the Fed and Treasury as protecting the welfare of American
citizens by shoveling billions of dollars at the banks whose gambles
have caused the crisis.

While Mr Bernanke's Sixty Minutes interview was being broadcast, the
government was releasing the counterparties on the winning side of the
Wall Street casino in bets that AIG lost. To deflect the widespread
voter disapproval of giving $160 billion to AIG, the Treasury finally
released the names of the "counterparties" who ended up with the funds
AIG paid out to winning betters. Confirming rumors that had been
circulating for the past few months, Mr Paulson's own company, Goldman
Sachs, headed the list at $13 billion! Followed by Merrill Lynch ($7
billion), Bank of America ($5 billion), Citigroup ($2.3 billion and the
much-loathed junk-mortgage lender Wachovia ($1.5 billion). So as
Treasury Secretary, Mr Paulson turns out to have represented not the US
interest but that of his own firm and its Wall Street neighbors.

These neighbors were given US Treasury bonds in "cash for trash"
transactions. The rest of the economy will be paying interest on this
debt for a century to come. This is what causes "debt deflation".
Revenue is diverted from spending on goods and services to pay interest
and taxes. So the Treasury is spreading the fire, not putting it out.

_____

Michael Hudson is a former Wall Street economist. A Distinguished
Research Professor at University of Missouri, Kansas City (UMKC), he is
the author of many books, including Super Imperialism: The Economic
Strategy of American Empire (new edition, Pluto Press, 2002) He can be
reached via his website, mh at michael-hudson.com

http://www.counterpunch.com/hudson03172009.html


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