Bernanke Says Low Rates Didn’t Cause Housing Bubble

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Bernanke Says Low Rates Didn’t Cause Housing Bubble




"By Scott Lanman

Jan. 3 (Bloomberg) -- Federal Reserve Chairman Ben S. Bernanke said the central bank’s low interest rates didn’t cause the past decade’s housing bubble and that better regulation would have been more effective in limiting the boom.

Increased use of variable-rate and interest-only mortgages, and the “associated decline of underwriting standards,” were more responsible for the bubble, Bernanke said today in a speech at an economics conference in Atlanta. He reiterated the Fed is working to improve its supervision of banks, a role that some members of Congress want to remove.

Scholars such as Allan Meltzer, a historian of the central bank, have criticized the Fed for helping fuel the housing boom by keeping interest rates too low for too long. The bursting of the housing bubble led to the worst recession since the Great Depression and the loss of more than 7 million U.S. jobs.

“The best response to the housing bubble would have been regulatory, not monetary,” Bernanke said in remarks to the American Economic Association’s annual meeting. The Fed’s efforts to constrain the bubble were “too late or were insufficient,” which means that regulatory actions “must be better and smarter,” he said.

Bernanke didn’t discuss the outlook for the U.S. economy or Fed monetary policy in the speech or an accompanying slide presentation.

He left the door open to using interest rates for preventing “dangerous buildups of financial risks” should regulatory changes fail to be made or turn out to be insufficient.

‘Supplementary Tool’

“We must remain open to using monetary policy as a supplementary tool for addressing those risks -- proceeding cautiously and always keeping in mind the inherent difficulties of that approach,” Bernanke said.

Senate Banking Committee Chairman Christopher Dodd, a Connecticut Democrat, last month backed Bernanke for a second term while saying the Fed’s oversight of banks leading up to the crisis was an “abysmal failure.” Dodd in November proposed stripping the Fed and other agencies of bank supervision powers and moving them to a new regulator.

Bernanke devoted most of the speech to rebutting criticism that the Fed’s rate policy fueled the housing bubble. Monetary policy after the 2001 recession “appears to have been reasonably appropriate, at least in relation to” a formula based on the so-called “Taylor Rule.” In addition, Bernanke said Fed research shows the rise in housing prices had little to do with monetary policy or the broader economy.

Shorthand Formula

John Taylor, a Stanford University economist and former Treasury undersecretary, created the Taylor Rule, a shorthand formula that suggests how a central bank should set interest rates if inflation or growth veers from goals.

Under former Chairman Alan Greenspan, the Fed lowered its benchmark interest rate to 1.75 percent from 6.5 percent in 2001 and cut the rate to 1 percent in June 2003. The central bank left the federal funds rate, or overnight interbank lending rate, at 1 percent for a year before raising it at a “measured pace” of quarter-point increments over two years, from 2004 to 2006.

Bernanke, 56, joined the Fed as a governor in 2002 and supported all of the interest-rate decisions under Greenspan before being appointed chairman in 2006. After the financial crisis struck, he cut the federal funds rate almost to zero in December 2008 from 5.25 percent in September 2007.

Monetary Specialists

The standard Taylor Rule would have recommended that the Fed raise the rate to a range of 7 percent to 8 percent through the first three quarters of 2008, “a policy decision that probably would not have garnered much support among monetary specialists,” Bernanke said. A variation of the rule used by the Fed focused on anticipated rates of inflation, not actual rates, Bernanke said.

An index of U.S. home prices in October was down 11 percent from its peak in April 2007, the Federal Housing Finance Agency in Washington said last month. The federal tax credit for homebuyers has boosted demand, helping prices increase 0.6 percent in October from September, the first monthly increase since July.

One in four U.S. homeowners owe more on their mortgage than their house is worth, according to a November report by First American CoreLogic, a Santa Ana, California-based real estate research firm.

Foreclosure Record

Foreclosure filings in 2009 probably reached a record for the second consecutive year with 3.9 million notices sent to homeowners in default, RealtyTrac Inc., the Irvine, California- based company, said last month.

The Fed chief is now up for a second four-year term, and at least 12 senators oppose approving his renomination by President Barack Obama. Senator Richard Shelby of Alabama, the senior Republican on the Banking Committee, told Bernanke during a confirmation hearing last month that the Fed kept interest rates too low for too long before the financial crisis.

The central bank “appears to have learned precious little about how to avoid the situation in the first place,” Shelby said Dec. 3. Later last month, Shelby announced he would oppose Bernanke’s re-appointment, saying he “strongly” disapproved of some of the Fed’s actions."

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