Wall St. and Business Wednesdays: A Federal Reserve Chairman Ben Bernanke Could Lead America To Fulfill The Words of The Honorable Elijah Muhammad

I frequently read, study and reflect over The Muslim Program of the Nation Of Islam and the Honorable Elijah Muhammad. At times, I specifically think over a portion of the ninth point of the "What We Believe" half of that program which reads, "…We do not believe that America will ever be able to furnish enough jobs for her own millions of unemployed, in addition to jobs for the 20,000,000 black people as well."

Over the last few years I have thought of that part of The Muslim Program in terms of the role of the Federal Reserve in influencing the United States economy. More narrowly I have considered this in terms of a unproven, outdated and harmful economic concept called NAIRU for short, or the (the non-accelerating inflation rate of unemployment), which essentially holds that at a certain level of unemployment, there is a direct correlation between inflation and employment. Also referred to loosely as the "Phillips Curve", the idea is that, any unemployment level below, say, 5%, will result in a higher rate of inflation. On Wall St. and in economic circles some reduce the theory to the idea that the American economy "overheats" when the unemployment rate goes below a certain level. So, yes, in other words, too low of a rate of unemployment or too few Americans out of work, is bad for the economy because it would lead to too much inflation. This embodies the premise, proposition and conclusion of the argument.

If one follows the logic of NAIRU and "The Phillips Curve", one should be able to see how the words of the teacher of Minister Louis Farrakhan, Muhammad Ali, Imam Warith Deen Mohammed and others – "We do not believe that America will ever be able to furnish enough jobs for her own millions of unemployed, in addition to jobs for the 20,000,000 black people as well"- ring true. Many individuals, including Federal Reserve Vice-Chairman, Roger Ferguson, a Black American, do not support a role for NAIRU in U.S. monetary policy and have publicly said so. In a January 8, 2002 speech called, "Why Central Banks Should Talk", Mr. Ferguson said (italics and boldface emphasis is mine):

"When the central bank's mandate includes multiple goals, the quantification of objectives becomes even more problematic. For example, the Federal Reserve's mandate includes the long-run goal of maximum employment as well as price stability. How does one measure maximum sustainable employment?

As several economists have noted, estimating the non-accelerating-inflation-rate of unemployment (NAIRU), one possible measure of a full-employment objective, is even more controversial than selecting a target for a specific price index. Associated estimates of an output or employment gap would have an uncomfortably wide confidence interval. Some economists doubt the validity of the concept of NAIRU altogether. Thus, the uncertainty involved with setting such a real-side target and the temptation to hold the central bank accountable for achieving any numerically specified unemployment goal at all times should discourage quantifying an unemployment target for those economies with that goal. In any event, historical evidence suggests that maximum employment is best attained in the long run by ensuring price stability and not by attempting to achieve a pre-announced quantitative employment objective."

Although many believe otherwise, until the Federal Reserve rids itself of the influence that NAIRU has historically had on its decision-making, it will always be susceptible or vulnerable to decision-making that slows the economy down right at the moment when those who have been the hardest to employ would find opportunities.

When the announcement came last Monday that President Bush had selected Federal Reserve Board Member Ben S. Bernanke, to replace Fed Chair Alan Greenspan, whose term expires at the end of January 2006, speculation immediately centered around another controversial monetary policy philosophy – inflation targeting- and Ben Bernanke’s allegiance to it. Inflation targeting, although it comes in more than one form, boils down to the idea that a central bank, like the Federal Reserve, can effectively control the rate of inflation in an economy by explicitly stating it will target an acceptable rate or range of inflation (say, 2 to 3 percent) as defined by some measure (like the consumer price index, ‘CPI’) and use its monetary policy instruments – interest rates, reserve requirements , and the purchase and sale of bonds to control the amount of cash on the balance sheet of banks – to accomplish its objectives. So, if the central bank announced it would target an inflation rate of 2.5 percent annually, if the rate was estimated to be around 4%, the central bank could raise interest rates - if it preferred that instrument - in an attempt to slow down the economy and as a result, supposedly, lower the rate of inflation.

The only problem is that for a variety of reasons – whether an inadequate definition or measure of inflation; the difficulty in determining the demand or velocity for money in an economy; or because it can take as much as 9 months for instruments like interest rates to work their way through the economy – inflation targeting, from my perspective, does not work. Back in 2002, I co-authored a writing with Matt Sekerke which explained how, at that time, inflation targeting was a dismal failure in South Africa.

So, I too, among others, last week, was very interested in determining how serious Mr. Bernanke is about ‘officially’ instituting inflation-targeting, using it to guide the American economy. What I found is that for Mr. Bernanke, inflation targeting is no mere academic exercise. I believe he deeply believes in it, is even fascinated by it, and I suspect he is very anxious to see if it works as he hopes. One reading that persuaded me of Mr. Bernanke’s passion for inflation-targeting was his March 25, 2003 speech, "A Perspective On Inflation Targeting" delivered at the annual Washington Policy Conference of the National Association of Business Economists, in Washington, D.C.

If a Federal Reserve Chairman Bernanke is guided by the philosophy he embraced while a Fed Governor, I believe that it could represent an important aspect of a developing ‘perfect storm’ for the American economy. At a time when high gas and oil prices are running through the economy; concerns about the U.S. deficit coupled with its dependence on foreigners to finance that debt continue to grow; and the possibility that the U.S. housing market may crash soon; not to mention the realities of wars and natural calamities; if the Federal Reserve were to target inflation and do so by raising interest rates, it runs the risk of not only failing in its attempt (for reasons already mentioned) but also of raising interest rates so high that they make mortgages unattractive, slowing down that market, as well as the mortgage backed securities market. As for jobs, trying to fight inflation, with the NAIRU philosophy still lurking in the background somewhere, a Fed Chairman Bernanke would probably make it impossible for the United States economy to grow fast enough to “furnish enough jobs for her own millions of unemployed, in addition to jobs for the 20,000,000 black people as well,” as the Honorable Elijah Muhammad put forth some forty-plus years ago. Remember, with NAIRU and inflation-targeting, economic growth is ultimately an enemy.

The United States finds itself in this precarious position because of monetary policy blunders made by England and America over the last 130 years, and particularly for America, monetary and political policies instituted from the mid 60s to the early 1970s – mistakes and errors which resulted in the ultimate - a decision to sever the dollar from the gold standard. Of these decisions and policies, the Honorable Elijah Muhammad wrote the following:

The stronghold of the American government is falling to pieces. She has lost her prestige among the nations of the earth. One of the greatest powers of America was her dollar. The loss of such power will bring any nation to weakness, for this is the media of exchange between nations. The English pound and the American dollar have been the power and beckoning light of these two great powers. But when the world went off the gold and silver standard, the financial doom of England and America was sealed.
The pound has lost 50 percent of its value. America’s dollar has lost everything now as power backing for her currency, which was backed by gold for every $5 note and up. All of her currency was backed by silver, from a $1 note up.

But today, the currency of America is not backed by any sound value—silver or gold. The note today is something that the government declares they will give you the value in return, but does not name what the value is. But they definitely are not backing their currency with silver or gold.

This is the number one fall, and it is very clear that the loss of the power of the American dollar means the loss of the financial power of America.

The United States - a creditor nation just 20 years ago - today owes the world $2.5 trillion (if you net out American owned assets from abroad with foreign-owned assets in the U.S.) It now finds itself almost at the mercy of China - the second-largest holder of U.S. Treasury securities with $243.5 billion of U.S. government securities as of May 2005. If China ever exchanges its holdings of U.S. Treasury securities, it could single-handedly bring down the U.S. housing market.

This worst-case scenario, once seen as a wild conspiracy theory, was taken more seriously when China announced it would no longer tie its currency to the dollar, but rather would replace the dollar with a basket of currencies. What does that mean? According to a July 25, 2005 Wall St. Journal article called, "Revaluation May Cause Drop In U.S. Bond, Housing Prices; 'Shot Heard 'Round the World'?":

The most immediate -- and potentially most significant -- result of China's move has been to force U.S. bond yields higher. With China pegging the yuan to a basket of foreign currencies and with the dollar floating down, China could feel less need to buy dollars to hold the yuan down. That would limit Chinese buying of Treasury bonds, pushing bond prices down and yields up.

It is little wonder that one of the sharpest moves after China's announcement was in the bond market.
Higher bond yields would spill over into other sectors, pushing up mortgage rates and the costs of some corporate borrowing. That is why some analysts believe higher bond yields, with their negative impact on stocks and the broader economy, could be the single biggest result of China's move.
One of the sectors most affected by higher bond yields could be real estate, whose surge has been fueled by inexpensive mortgages. Could China prick the housing bubble?

"This could be the shot heard 'round the world, in the sense that it could start that significant move higher in interest rates that could ultimately curb housing activity," said Jeffrey Kleintop, chief investment strategist at PNC Advisors, the investment advisory unit of PNC Bank.

As a result of this potential that China has to hurt the American economy, as well as the dependence that Americans have on Chinese imports (The U.S. trade deficit just reached a record $18.5 billion with China) the United States government has been pleading with China – privately and publicly to – to revalue its currency against the dollar, to make the dollar less valuable and Chinese goods more expensive. The amount by which the American government wants China to revalue is ridiculously high – 20% - enough to cause enough economic misfortune and poverty to throw the country of 1 billion plus into a depression. Toward this end I have supported economist Steve Hanke’s efforts to bring sanity and realism back to economic policy makers in this country. His most recent Forbes magazine column entitled, "China’s War Chest" continues to make the case that what America is asking China to do, in order to help it out, is suicidal and counterproductive.

When looked at from the perspective of the last few decades, America’s inflation problem has spiraled out of control. A new Federal Reserve Chairman aiming to curb the problem by targeting an officially acceptable rate of inflation, is not only too little too late, it is another nail sealing this country’s financial and economic doom.

If Mr. Bernanke is serious about finding the right target, he should turn to gold, the only standard that I believe will delay or ward off the economic doomsday, the Honorable Elijah Muhammad pointed to.

Cedric Muhammad

Wednesday, November 2, 2005