Bernanke and the Fed: Reading Between the Lines

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Kevin Lamarque / Reuters

Today we were treated to the second installment of the Federal Reserve’s new policy of openness with Chairman Ben Bernanke’s press conference. That followed on the heels of the statement by the Fed Open Market Committee about interest rates and the economy.

The statements were widely expected and had in fact been well telegraphed. The Fed acknowledged economic activity continues its long, steady and slow recovery, but “somewhat more slowly than the Committee had expected.” And as for employment, “recent labor market indicators have been weaker than anticipated.” Finally the Fed indicated that its $600 billion program of aggressively purchasing U.S. Treasuries (know as QE2) would indeed end this month, as it had said all along.

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None of these statements even flirt with the unexpected, and while Bernanke can always be counted on to give measured, intelligent answers, he can also be counted on to say nothing that remotely rocks the proverbial boat of conventional wisdom.

These events have the appearance of transparency, but in truth, they are part Kabuki theater and part exercises in not quite saying anything while appearing to say something. Investors pay attention, but less because professional traders and money managers are apt to take what the Fed says as a mirror of reality and more because many investors trade on sentiment and what the Fed says.

And how it is said can affect short-term attitudes towards markets and economies. So if the Fed uses the word “gradually” or “moderate” to describe the rate at which the labor market is recovering versus the word “slowly,” traders may be more inclined to buy certain stocks or recalibrate the duration of their bonds. They may do so only as a trade, in that they aren’t making any serious commitment to the buys or sells but instead are moving with the news du jour. But insofar as many do trade on these adverbs, what the Fed says can matter.

The larger question, however, is whether Fedspeak is any more meaningful than Soviet-era Pravda speak. In its defense, the Fed, and the words of its chairman especially, have the power to shape sentiment. So care must be taken. The same is true for the European Central Bank and for all central banks around the world. Saying too much, too explicitly, or saying something that markets don’t already know, carries risks. What if credit markets react to Bernanke saying that looming U.S. debt could seriously impede the ability of the United States to function? What if that leads to a global credit panic? Is it worth the candor?

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In the eyes of these institutions, the dance is between the appearance of candor and actual candor. There is an inherently patronizing and cynical relationship between the Fed and financial markets, and between the Fed and Congress. No one is deemed capable of reasoned, measured discussion about ambiguous data and uncertain future outcomes. And the behavior of politicians and investors in the face of either uncertainty or potential difficulty often justifies the belief that neither group can handle the truth. So Bernanke avers that while there are problems, they are temporary, and while unemployment is high, it is easing, even though temporary could be years, and easing could be at best the absence of worsening.

It’s worth recalling that until the 1970s, no one really noticed what the Fed did or when it did it, even on Wall Street. Yes, decisions mattered within the small closed world of banking, but the Fed was not looked to as a fount of economic wisdom or guidance. That mantle, worn so proudly by Alan Greenspan, now weighs heavily on Bernanke and likely will on his successors. But in truth, the Fed is only one of many actors in the national and global financial systems.

The irony now is that the more the Fed and its chairman speak, the more apparent it becomes how limited their influence actually is. The more visible they have become, the more it becomes clear that the mandarins guarding the temple of the economy are, like the rest of us, struggling to make sense of a complicated world.

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