Bernanke: Weak Regulation to Blame for Housing Bubble

BY Carolyn O'Hara  January 4, 2010 at 12:31 PM EST

In a speech to the annual gathering of the American Economic Association in Atlanta on Sunday, Fed Chairman Ben Bernanke defended the central bank from critics who have said low interest rates earlier this decade helped fuel the housing bubble in the United States.

Instead, Bernanke said, it was more the fault of lax regulation on mortgages than monetary policy set by the Fed. From his remarks:

Stronger regulation and supervision aimed at problems with underwriting practices and lenders’ risk management would have been a more effective and surgical approach to constraining the housing bubble than a general increase in interest rates.

The speech comes as Bernanke, whose term as chairman expires Jan. 31 and who is awaiting confirmation before the Senate, makes the case for the Fed to take a leading role in regulating the financial sector. The Fed’s critics, however, have cited the Fed’s failure to address the housing bubble as one of the reasons it should not be handed more power.

While Bernanke called monetary policy a “blunt tool” and said that higher interest rates in 2003 or 2004 would have “seriously weakened the economy” at a key moment during the recovery from the last recession, he left the door open to using monetary policy to correct asset bubbles in the future – a view that has evolved over the past decade when Bernanke and other Fed officials said the Fed couldn’t preemptively address financial bubbles. Bernanke said Sunday: > [H]aving experienced the damage that asset price bubbles can cause, we must be especially vigilant in ensuring that the recent experiences are not repeated. … However, if adequate reforms are not made, or if they are made but prove insufficient to prevent dangerous buildups of financial risks, 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.