Suddenly, Bernanke's Fed is a favorite punching bag. Why the pounding?

Ben Bernanke and the Fed are being lambasted, especially by GOP lawmakers, over policies to stimulate the economy. Some worry the criticism will sap the Fed's effectiveness.

Kai Pfaffenbach/Reuters
Ben Bernanke (r.), chairman of the US Federal Reserve, and European Central Bank President Jean-Claude Trichet arrived at a banking conference in Frankfurt Nov. 19. Critics question Mr. Bernanke's Fed policies.

The venerable Federal Reserve is in the political cross hairs for the first time since the 1980s, when irate people mailed two-by-fours to then-Chairman Paul Volker to protest interest rates hitting 20 percent.

Criticism of Fed efforts to stimulate the economy and promote job creation is coming in waves – from Congress to cartoons, from foreign leaders to former Republican officials.

Some of the fight is ideological, laced with arguments that the Fed's effort to reduce America's unemployment rate is usurping the powers of Congress and the president. Some of it is being waged on economic grounds – that the Fed is setting the stage for a bad bout of inflation once the economy hits its stride again. And some foreign countries, namely China and Germany, suggest Fed policy is actually intended to lower the value of the dollar, which would make American exports more appealing.

Criticism of the Fed has even hit A cartoon on the site implies that the central bank is run by people who don't understand economics. As of Dec. 1, the video had been watched 3.1 million times.

Hit from many sides, the Fed seems to have become the latest punching bag for those who believe the United States has taken the wrong course to economic recovery. Though criticism of the Fed is not new, the intensity level is the highest in recent memory, say former Fed officials.

"I've never seen the degree of politicization of the Fed like this," says Lyle Gramley, who served in the Reagan era as one of the seven Fed governors. "It's very worrisome."

Fed-flogging has increased since the central bank's Nov. 3 announcement that it would try again to stimulate the economy by buying $600 billion in Treasury bills. The Fed hopes its purchases will prevent deflation, during which prices fall, and reduce long-term interest rates enough so that businesses will expand, adding as many as 1 million jobs during the next two years. This policy, termed quantitative easing II, or QE2, differs from the Fed's normal policy of setting levels for short-term interest rates.

Much of the criticism comes from Republicans. On Nov. 4, the four top GOP congressional leaders wrote Federal Reserve Chairman Ben Bernanke, contending that the further monetary easing "could result both in hard-to-control, long term inflation and potentially generate artificial asset bubbles that cause further economic disruptions."

Then, on Nov. 18, former GOP vice-presidential candidate Sarah Palin, in a letter to the editor of The Wall Street Journal, called for the Fed to "refudiate" the "notion" that printing $600 billion "out of thin air will magically fix economic problems...."

Democratic leaders worry that the criticism will empower Federal Reserve governors who may disagree with Mr. Bernanke. Once any disagreement becomes public, it could shake the markets or, worse, make the Fed ineffective.

"Since so much of what the Fed does, it does through psychology, the criticism from within will undermine its effectiveness," says Rep. Barney Frank (D) of Massachusetts, current chairman of the House Banking Committee.

At least some Wall Street portfolio managers worry, too, about how the criticism of Fed policy will affect the stock market.

"Our concern is that all the discourse is creating uncertainty," says John Toohey, vice president for equity investments at USAA in San Antonio. "Maybe we can have intelligent debate, which would be good for the markets, because if the debate is not intelligent you get more uncertainty and more volatility."

Some economists warn that political interference with the Fed and its economic management might result in negative unintended consequences.

"History has shown across many countries that tighter political control over the central bank leads to high and variable inflation," says Karen Dynan, codirector of economic studies at the Brookings Institution, a think tank in Washington.

In an unusual move, 23 mainly conservative economists and former Bush officials complained Nov. 18 in an open letter to Bernanke about QE2.

"We disagree with the view that inflation needs to be pushed higher, and worry that another round of asset purchases, with interest rates still near zero over a year into the recovery, will distort financial markets and greatly complicate future Fed efforts to normalize monetary policy," they wrote.

Bob McTeer, president of the Dallas Federal Reserve Bank from 1991 to 2005, recalls, "Back when I was there, the criticism was from the left – the charge was that interest rates were too tight in an effort to keep inflation down," he says. "It is amazing, but now the Fed is accused of the opposite."

Even rarer is an attempt, spearheaded by Rep. Mike Pence (R) of Indiana, to change the mission of the Fed by eliminating one of its mandates – to promote "maximum" employment. Representative Pence, in a press release, said, "it is the job of the Congress and the President to put forth pro-growth policies." Past Fed policies have led to "short-term fixes with long-term inflationary consequences that will not lead to job creation," he said.

Mr. Gramley, the former Fed governor, worries that if Congress were to pass this type of legislation, Bernanke might resign.

"That would create a firestorm in the financial markets, and I don't think Congress understands that," he says.

That would be just fine with Rep. Ron Paul (R) of Texas, who is set to become chairman of a Fed oversight subcommittee. Representative Paul, who often espouses libertarian views, would like to eliminate the Fed and return to the gold standard. Now, he says he hopes to make enough noise to get Bernanke to resign.

Criticism of Bernanke's policies isn't limited to US shores.

The Chinese and the Germans have complained that the Fed is trying to devalue the US dollar. President Obama, on a recent trip abroad, had to defend against charges that making the dollar cheaper is the Fed's ulterior goal. Bernanke, in rare press interviews, has recently defended the Fed's efforts, saying there are plans to reverse its stimulative efforts after the economy improves.

However, the Fed projects that improvement will be very slow. In its latest estimate in November, the bank predicts the unemployment rate could still be as high as 7.4 percent by 2013 – down from 9.6 percent today.

Fed supporters say Bernanke and the Fed must act because the economy is dangerously close to a deflationary black hole, in which Americans put off buying anything in the expectation that everything will become less expensive in the future.

But to Omid Malekan, a real estate property manager and the creator of the YouTube video, Bernanke is wrong. The six-minute cartoon includes this discussion between two characters about whether it's good or bad to pay less:

"Isn't it good? Doesn't it mean the people can buy more of the stuff?" asks the woman.

"Yes, but the Fed says this is bad, especially during the recession," answers the male character.

"So they think that during the recession, when the people have less money, it is bad that the prices go down?"

"Yes, the Fed would rather have the inflation."

While lower prices may sound great to real consumers as well, falling prices have another ramification, warns Mr. McTeer. "The fact of the matter is that one person's cost is another person's income," he says.

Now a fellow at the Dallas-based National Center for Policy Analysis, McTeer says the cartoon "was a knockout blow," in that "just about everything in it was wrong, but it confirmed many people's suspicions." For example, the video refers to the Fed printing a "ton of money," as if that is bad.

"This is what central banks do," says McTeer. "You hope to keep it down to the rate the economy is capable of growing in real terms [after accounting for inflation]."

Despite all the criticism of the Fed, Representative Frank says he doubts Republicans can get the Senate or the House to pass any legislation. "Frankly, I don't think they want to bring it up in the House. That would be a fight I would welcome," he says. "The odds of getting the [Pence] legislation passed start at zero and go down from there."

Republicans warn it could be dangerous to ignore the legislation.

"Given the recent election results, anyone who says legislation that prevents further bailouts has no chance is taking the anger and voice of the American people for granted," notes Matt Lloyd, a spokesman for Pence, in an e-mail.

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