Bernanke Gets His Chance


By Rich Miller It was a fashion faux pas of the first order. Ben S. Bernanke, the man nominated by President Bush to take over as chairman of the Federal Reserve in early 2006, wore tan socks with a dark suit to a meeting in the White House. The President pounced, calling the attention of other policymakers in attendance to the unfashionable attire. Undeterred, Bernanke, who's currently serving as chief economist to Bush, convinced Vice-President Dick Cheney and other senior Administration officials to wear the same outfit to their next get-together with the President. Bush was amused.

It's that sort of independence of mind yet ability to get along well with others that should serve the 51-year-old Bernanke in good stead in his new position as head of the world's most powerful central bank (see "No White House Yes Man"). The challenges he faces are huge: an overinflated housing market that some analysts fear could burst at any time, a big and growing trade deficit that threatens to drag down the dollar, and mounting inflation fears on the back of sky-high energy prices.

FOREIGN INFLUENCE. And Bernanke will face those challenges in a world where the Fed has less power to influence the ups and downs of the U.S. economy than during much of outgoing central bank Chairman Alan Greenspan's 8 1/2 years on the job. It's a world where the prices of assets over which the Fed has little control -- be they stocks, bonds, or homes -- will play an increasingly important role in shaping the economic outlook.

And it will be a world where the fate of the domestic economy will be more closely tied to what happens overseas, well outside the Fed's purview. "That's the big difference from when Greenspan took over," says Robert Hormats, vice-chairman of Goldman Sachs International. "Increasingly, U.S. monetary policy is being impacted by policies abroad."

In a sense, Bernanke has been training for the job for years. As a Princeton University professor, he delved deeply into the study of monetary policy and was considered one of the leading monetary economists of his generation. Then, as Federal Reserve governor for three years before joining the White House in June, he made a name for himself as a thoughtful analyst of the economy with an ability to explain arcane economic concepts in terms that people could understand (see "Answers About Ben Bernanke").

"VERY GOOD CHOICE." Unlike the man he'll replace, Alan Greenspan, Bernanke believes the Fed should establish specific, numerical targets for inflation. He has argued that setting a 1% to 2% target would enhance the central bank's credibility as an inflation fighter, especially after Greenspan steps down on Jan. 31 of next year. And he pushed that argument -- gently, but consistently -- while at the Fed, despite Greenspan's position that such targets would hamper the bank's ability to respond to crises (see "Greenspan's Signature Achievement").

Professional economists were quick to praise Bush's choice of Bernanke for the Fed job (see "Economists' Take on Bernanke"). "It's a very good choice" says Milton Friedman, the father of monetarism who's now at the conservative Hoover Institution think tank in California. Liberal Paul Samuelson, of the Massachusetts Institute of Technology, agrees: "He's the best choice of the many names that were mentioned."

The financial markets won't wait long to test Bernanke's mettle as Fed chairman. Although stock markets bounded higher on Oct. 24, partly in relief that Bush had avoided nominating an unknown loyalist to the Fed job, the bond market and the foreign currency market were more skeptical. Bond prices and the dollar both dropped as investors fretted that, target or no, Bernanke would end up being less tough on inflation than his predecessor. Part of that skepticism was fed by Bernanke's record while at the central bank, where he was a leading proponent of keeping interest rates low to fight what turned out to be a nonexistent threat of a deflationary downturn in the economy.

CONFRONTING CRISIS. But analysts who have closely studied Bernanke's time at the Fed contend that's a misreading. Yes, Bernanke favored a loose monetary policy when inflation was in the lower end of his 1% to 2% target range in 2003. But with core inflation, excluding food and energy costs, now at the top end of that range, Bernanke is more likely to err on the side of raising rates too far than in keeping them too low.

In his first days on the job, Greenspan, too, felt compelled to raise interest rates to stem the threat of rising inflation. And it was that tightening of credit that helped set the stage for financial market turbulence later in the year.

Greenspan was on the job for only four months before he was confronted by the October, 1987, stock market crash, which saw share prices lose almost of a quarter of their value in a single day. The then-rookie Fed chairman handled the crisis with aplomb, and the economy emerged virtually unscathed (see slide show, "Covering the Greenspan Era"). Although Bernanke has yet to prove himself as a crisis fighter, his independence, collegiality, and analytical skills give him at least a fighting chance of success.

Miller is a senior writer in BusinessWeek's Washington bureau


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