Bernanke suggests a shift at the Fed on bubble-busting

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Imagine a bubble-free future for the economy and financial markets.

Nah -- not gonna happen.

Nonetheless, Federal Reserve Chairman Ben S. Bernanke today suggested that there may be a role for the central bank in trying to keep dangerous bubbles from developing.

Here’s what the Fed chief said during a Q&A after a speech in New York, per Bloomberg News:


Bernanke said the central bank will consider discarding its long-standing aversion to interfering with asset-price bubbles. Officials should review how supervision and interest rates can minimize the ‘dangerous phenomenon’ of bubbles in housing, stocks and other assets that risk bringing the financial system and economy down with them when they burst, Bernanke said. ‘There is no doubt that as we emerge from the current crisis that we are all going to look very hard at that issue and what can be done about it,’ he said.

Bernanke said he believed that ‘supervisory and regulatory policy’ had a ‘significant role to play in constraining excessive leverage of risk taking and the other elements that lead to bubbles.’

Translation: Washington should make sure that Wall Street never again takes on the kind of leverage that got us to this sorry state. But that’s pretty much a given, at this point.

Of course, everyone now can see, after that fact, that it was a mistake to allow the housing bubble to become so gargantuan. But when you’re in a bubble, almost nobody wants it to end. It’s human nature.

The Calculated Risk blog today noted Bernanke’s comments and also reflected on former Fed Chairman Alan Greenspan’s famous laissez-faire view on bubbles.

Greenspan in 2002, per Calculated Risk:

‘If the bursting of an asset bubble creates economic dislocation, then preventing bubbles might seem an attractive goal. But whether incipient bubbles can be detected in real time and whether, once detected, they can be defused without inadvertently precipitating still greater adverse consequences for the economy remain in doubt.’

Those comments were in regard to the dot-com bubble and its aftermath.

Greenspan’s Fed at that point was well on its way to cutting short-term interest rates to 1% -- setting the scene for the biggest bubble of all time in U.S. housing.