Ben Bernanke just had a fine month. For allegedly saving the world from a second Great Depression, President Barack Obama awarded the Federal Reserve chairman a second four-year term. "As an expert on the causes of the Great Depression, I'm sure Ben never imagined that he would be part of a team responsible for preventing another," the president said. "But because of his background, his temperament, his courage and his creativity—that's exactly what he has helped to achieve."
"Mission Accomplished," the banner might have read.
Missing from Obama's speech was any mention of Bernanke's economic ideology. The New York Times and Bloomberg News have called him a strict Keynesian—a liberal fan of fiscal stimulus—and that label has stuck.
In reality, Bernanke is following the monetarist depression-prevention model hatched by Nobel laureate and libertarian patron saint Milton Friedman. Bernanke has repeatedly invoked the late libertarian economist in support of lowering interest rates to zero, bailing out banks, and pumping untold trillions of dollars into the financial system. The implicit goal of these policies is to ignite artificial inflation.
The story begins in 1963, when Friedman and co-author Anna Schwartz published The Monetary History of the United States. Their chapter on the Great Depression was spun off into a standalone book, The Great Contraction: 1929-1933, an epic revisionist history that changed America's understanding of the causes of the Depression. Friedman and Schwartz contended that the Federal Reserve—not capitalism or Wall Street—was to blame for the dismal '30s. "The fact of the matter is that it was the decision to tighten credit policy in 1928 that produced the Great Contraction," the 93-year-old Schwartz said by phone from her office at the National Bureau of Economic Research in New York City. Interest rate hikes had been undertaken in 1928 to curb what the Fed saw as rampant speculation on Wall Street—a conflagration of leveraging, margin buying, and outright Ponzi scheming fueled by cheap credit that was supplied in the first instance by the Federal Reserve. (Goldman Sachs' pyramid schemes of the era, when they collapsed, would generate losses of $475 billion in today's dollars.)
Friedman and Schwartz, however, denied that speculation had ever posed a problem, or that there had even been a credit bubble in the 1920s. In their narrative, a paranoiac Federal Reserve had needlessly constricted the money supply and thereby crashed an otherwise prosperous economy.
After the Great Crash of 1929, the Federal Reserve drastically cut interest rates; but, on occasion, the Fed was forced to abruptly raise them again in complicated maneuvers to stem outflows of gold into Europe. Friedman and Schwartz blamed these sporadic interest rate hikes for smothering several incipient recoveries, opening a vortex of deflation, and turning a recession into the Great Depression.
Friedman and Schwartz's overarching thesis was that the Depression would have never happened if the Federal Reserve had inflated the American economy. As Schwartz told me, "What the Fed had to do was increase the money supply. By taking that action, it would've revived the economy. That's the lesson of the Great Depression." In The Great Contraction, she and Friedman argued that the Fed had an infinite capacity to inflate. "The monetary authorities," they wrote, "could have prevented the decline in the stock of money—indeed, could have produced almost any desired increase in the money stock."
Which brings us back to the question of Ben Bernanke's economic ideology. When it comes to the Great Depression, Bernanke is a disciple of Friedman and Schwartz. In 2002, at Friedman's 90th birthday party at the University of Chicago, Bernanke was effusive. "Among economic scholars," he began, "Friedman has no peers." He developed the "leading and most persuasive" explanation of the Depression, whose impact on economics and the popular mind "cannot be overstated."
At the conclusion of his encomium, Bernanke made a stunning and ominous apology on behalf of the Federal Reserve. "I would like to say to Milton and Anna...regarding the Great Depression. You're right, we did it. We're very sorry. But thanks to you, we won't do it again."
Schwartz was also present at the birthday party. "I'm sure he was sincere when he said that," she recalled. And Bernanke stayed true to his word. In 2006, he replaced Alan Greenspan as chairman of the Federal Reserve. Greenspan had engineered an era of non-inflationary loose credit that won Friedman's endorsement: "There is no other period of comparable length in which the Federal Reserve System has performed so well," Friedman declared in The Wall Street Journal.
When the economy collapsed two years into Bernanke's watch because of a massive credit bubble, Bernanke slashed interest rates to zero and ordered the money-printing presses to full steam. He also embarked on a course of "quantitative easing," whereby a central bank convolutedly buys its own government's bonds with printed money so as to sink interest rates even further.
This approach was nothing new. Friedman had recommended quantitative easing, combined with ultra-loose credit and inflation, as a panacea for Japan's slump in the 1990s, which he described as an "eerie, if less dramatic, replay of the Great Contraction." As he did with the Depression-era Fed, Friedman emphasized that, "There is no limit to the extent to which the Bank of Japan can increase the money supply if it wishes to do so." In 1998, a year after Friedman penned his advice in The Wall Street Journal, Japan introduced monetary stimulus: a cocktail of zero interest rates and quantitative easing. But deflation continued. Today, Japan's exports are down an unthinkable 36 percent from last year and prices are plummeting at an all-time record pace.
Stateside, in light of the Fed's multi-trillion dollar balance sheet, it has been all too easy to mistake Bernanke for a Keynesian supporter of public works projects, socialistic safety nets, and government-led consumption. And while it's true that the Obama administration is pursuing Keynesian fiscal stimulus, the Federal Reserve, as an independent, semi-private institution owned by America's banks and largely walled off from the executive and legislative branches, has developed its own agenda. That agenda is monetarist. Yet the media consistently gets this crucial fact wrong.
The New York Times, for instance, has identified Bernanke as "a student if not necessarily a devotee of the British economist John Maynard Keynes." But Bernanke actually spent most of his academic career elaborating on Friedman's interpretation of the Great Depression. Though his research sometimes strayed into non-monetary subjects, it was always "an embellishment of the Friedman-Schwartz story... and no way contradict[ed] the basic logic of their analysis," as Bernanke assured Friedman at his birthday party.