In Depth: Federal Reserve

Fight against inflation: Markets, public await Bernanke's brand of battle

Traders on the floor of the New York Stock Exchange Standing shoulder to shoulder with his legendary predecessor Alan Greenspan, Ben Bernanke, '79 MIT Economics PhD, told the Senate Banking Committee in November that, if confirmed, his first priority would be to “maintain continuity with the policies and strategies established during the Greenspan years.”

While his goals might be in sync with Greenspan's, Bernanke's methods will likely differ.

Precise and proactive inflation targeting

Like Greenspan, Bernanke is known for his tough attitude toward inflation, and he is expected to hike interest rates if there is any sign that inflation is accelerating. But whereas Greenspan favored a highly personal, flexible approach to controlling inflation by masterful manipulation of interest rates, Bernanke advocates more precise and proactive inflation targeting.

In pursuing a policy of targeting, the central bank sets an explicit goal for inflation and is then held accountable for meeting that goal, a practice that would enable the Federal Reserve to be more transparent in its communications.

“You want to release information that helps the market and the public achieve more accurate expectations of future policy and the future state of the economy,” Bernanke said in a recent interview.

Best–practice inflation targeting, Bernanke contends, consists of two parts: a policy framework of constrained discretion and a communication strategy that attempts to focus expectations and explain the policy framework to the public.

Together, these elements promote price stability and well–anchored inflation expectations. And well–anchored expectations facilitate more effective stabilization of output and employment. Best–practice inflation targeting can therefore deliver positive results on output and employment as well as inflation.

Non–partisan approach

Bernanke's impact on the central bank has already been felt. The Federal Reserve's decision in 2005 to begin providing two–year inflation forecasts has been credited to his influence on the Fed's board of governors.

As Fed policy evolves under his tenure, Bernanke is expected to pursue policies that steer clear of partisan manipulation. He left no doubt in his confirmation hearing,

“I assure this committee that, if I am confirmed, I will be strictly independent of all political influences and will be guided solely by the Federal Reserve's mandate from Congress and by the public interest.”

‘Welfare of the average person’

Ben Bernanke clearly understands the impact the direction and decisions of the Fed will have on the citizens he is committed to serving.

“Good economic policy,” he has said, “makes a big difference to the welfare of the average person.”

To ensure the big difference is a positive one, The Economist thinks that Bernanke might have to play it hawkish early on to bolster his inflation–quashing credentials.

Kristin Forbes, MIT Sloan associate professor and a recent member of the White House Council of Economic Advisors, agrees. Bernanke will need to continue to raise interest rates “to ensure inflationary expectations remain well–contained,” she recently told the Boston Globe. “It's important for him to be aggressive.”

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