Daniel Gross thinks that new boss has taken a page or two from the old boss...
Ben Bernanke has clearly picked up some tips from his predecessor. Yesterday, he aimed to soothe the market by noting that everything is hunky-dory.
... and Dean Baker thinks this may not be such a good idea:
Let’s throw out a purely hypothetical scenario. Imagine that the bad news on new home sales, mortgage applications, durable goods orders, and productivity actually translates into an economy that is about go into a recession.
Now let’s suppose that the market has two types of investors. The first type are the high rollers. They move in and out of financial assets on a moment’s notice. Let’s call them “hedge funds.” The second type are naïve investors. They put money into the stock market at regular intervals and let it sit. We’ll call them middle class 401(k) investors...
Now, let’s suppose that Mr. Bernanke recognizes bad times ahead, but thinks that it is best to try to calm the financial markets, so he tells Congress that the economy is just fine. While this could be sufficient to assuage the middle class 401(k) investors, the assurances may not be sufficient to calm the hedge fund investors. Suppose they offload their stock over the next few weeks.
In this case, Bernanke’s soothing words would have the effect of keeping the market high while the hedge fund investors offloaded their holdings. The big losers would end up being the middle class 401(k) investors who keep buying into a sinking market.
Interesting point, and as Mr. Gross observes, soothing doesn't automatically work:
The next morning, as if on cue, the markets open nearly two percent down.
Fair enough, but it is worth pointing out that central bankers are actually pretty modest about their capacity to move markets. From the old boss, in May 1998:
We all have our capital asset models--more or less sophisticated time discount structures in which we evaluate what is going on in the market--but in truth we have to take account of the fact that we have an international market with millions of people who make decisions for a wide range of reasons. It is very difficult to forecast the market when we are dealing with a huge number of money market professionals who know as much about what is going on with individual stocks as anybody. These people currently are buying individual stocks at prices that create a Dow Jones industrial average of over 9,000. It is not that they are buying the market per se. In these circumstances, it is very difficult for us to judge whether the market is overvalued and is about to go down. One can readily say that the equity premium that one derives from a capital asset model is showing such and such and is a low number historically, that expected earnings are going up at an exceptionally high rate, and that this does not make sense because it implies that profit margins will increase indefinitely. One can make all those statements, as I do, and conclude that the stock market is significantly overvalued, which I do. But I ask myself, do I really know significantly more than money managers who effectively determine the prices of these individual stocks. I must say that I, too, feel a degree of humility about my present ability to make such a forecast.
... The question, essentially, is whether we have any great insight into how to handle asset values as a part of monetary policy... But how we can alter the the pattern of market valuations, as distinct from its effects on consumption and other sectors of the economy, is somewhat beyond me. I have concluded that in the broader sense we have to stay with our fundamental central bank goal, namely to stabilize product price levels.
Sage advice, that.