Bernanke May Defend Fed Powers in Senate Confirmation Hearing

By Craig Torres and Alison Vekshin

Dec. 3 (Bloomberg) -- Ben S. Bernanke, who led the most expansive use of the Federal Reserve’s powers in its 96-year history, may fight efforts to curtail its authority and independence during his confirmation hearing today.

Christopher Dodd, chairman of the Senate Banking Committee that oversees the Fed, wants to strip the central bank of its powers to supervise banks and protect consumers. A measure sponsored by Representative Ron Paul of Texas would subject Fed interest-rate decisions to congressional audits.

A majority of the banking panel’s members who will grill Bernanke today say they are likely to back the 55-year-old former Princeton University economist for a second term. Support for the chairman may not keep lawmakers from taking aim at the Fed itself, which many have blamed for failing to curtail the excesses that led to the financial crisis and then overstepping its powers with bailouts of firms including New York-based insurer American International Group Inc.

“Bernanke’s big mistake is that he’s veered into fiscal territory” with rescue programs, said Axel Merk, president of Merk Investments LLC, which manages $590 million in Palo Alto, California. “He has underestimated the political dimension. Being questioned all the time about all these activities erodes the credibility of the Fed.”

Weakened independence and long-lasting market-support programs could undermine the dollar and unleash inflation expectations, said Merk, whose Hard Currency Fund is positioned to shield investors from such an occurrence.

Consumer Protection

Republicans who want less government intrusion in financial markets and Democrats seeking to protect consumers have united in anti-Fed sentiment, making it more likely they will approve measures limiting the central bank’s powers, said Sarah Binder of the Brookings Institution in Washington.

“It is not unusual for members of Congress to beat up on the Fed when the economy has soured,” said Binder, a senior fellow of governance studies. “What is different is that this time it seems clearly bi-partisan.”

Dodd, calling the Fed’s record on supervision an “abysmal failure,” last month introduced legislation that would strip bank oversight from the Fed and create a single regulator. The Connecticut Democrat would also limit the central bank’s ability to lend to individual companies.

In March, 2007, four months before subprime mortgage defaults began to rock the global financial system, Bernanke told the Joint Economic Committee: “The impact on the broader economy and financial markets of the problems in the subprime market seems likely to be contained.”

‘Core Functions’

“I am trying to get them back to more of their core functions,” Dodd told reporters on Dec. 1. “It isn’t about being punitive.” In August, Dodd said that while he’s had “serious differences” with the Fed, reappointing Bernanke is “probably the right choice.”

Dodd would also remove the Fed’s rule-writing powers on consumer financial products and increase political oversight of district bank presidents.

The hearing on Bernanke’s nomination to a second four-year term is set to begin at 10 a.m. in Washington. A vote hasn’t been scheduled. Senator Bernard Sanders, a Vermont Independent who’s not on the banking panel, yesterday said he would seek to block Bernanke’s confirmation in the full Senate.

In the House, the Financial Services Committee last month approved Paul’s measure to strip the Fed of its protection from congressional audits of monetary policy. Investors say the proposal would open the door to interference by lawmakers.

“Bernanke must be the standard-bearer of Fed independence,” said Mark Spindel, chief investment officer of Potomac River Capital LLC, which specializes in inflation-linked bonds and manages more than $200 million in Washington.

Economic Stability

“A number of the legislative proposals being circulated would significantly reduce the capacity of the Federal Reserve to perform its core functions,” Bernanke wrote in a Nov. 29 commentary in The Washington Post.

In October, the Fed proposed new guidelines on pay practices at banks and said it will launch a review of the 28 largest firms to ensure compensation packages don’t create incentives for the kinds of risky investments blamed for the financial crisis.

Such steps may not defuse public anger over bailouts of financial firms, which has been amplified as Wall Street banks report rising profits while average Americans cope with the loss of 7.3 million jobs since the start of the recession in December 2007. Goldman Sachs Group Inc. said Oct. 15 that third-quarter profit more than tripled to $3.19 billion from a year earlier.

$1 Trillion

Many investors credit Bernanke with averting a second Great Depression as the Fed pushed interest rates to zero, rolled out liquidity backstops for markets for asset-backed securities and commercial paper, and pumped more than $1 trillion into the economy with purchases of securities.

The economy expanded for the first time in a year in the third quarter, growing at a 2.8 percent annual rate. The Standard and Poor’s 500 Financials Index has jumped 141 percent since March 6, and the cost of three-month dollar loans in London between banks fell to 0.255 percent on Dec. 2 from 1.41 percent at the beginning of the year.

“Bernanke will be taken to task,” said Richard Schlanger, who helps oversee $14 billion in bond investments at Pioneer Investment Management Inc. in Boston. “But ultimately he will be reappointed, and one day we will look back on this and thank our lucky stars that he was at the helm.”

To contact the reporters on this story: Craig Torres in Washington at ctorres3@bloomberg.net; Alison Vekshin in Washington at avekshin@bloomberg.net.