Today's Senate Banking Committee Testimony

Federal Reserve Chairman Bernake appeared before the Senate Banking Committee as part of is semi-annual testimony on the state of the economy. Afterward, Treasury Secretary Paulson and Securities and Exchange Commission Cox joined to further examine the plan for backstopping Freddie Mac and Fannie Mae.

The Democrats who make up the majority of the committee went after Bernake with all of their pet economic theories, which usually have no basis in economics. Chairman Bernake very patiently explained basic economics to each of them. Secretary Paulson did the same regarding capital markets.

A couple of the Democrat's favorite themes today included:

• The deficit (which in the Democrats view of reality is entirely the fault of President Bush, although only Congress can authorize spending) is the cause of the weak dollar. Chairman Bernake explained that the current deficit had a minimal effect on the dollar.
• Speculators are the reason oil prices keep going up. Bernake’s explained that this was not true - oil “speculators” provide stable price discovery and liquidity. The fundamentals of supply and demand are the biggest reason oil prices are going up. Demand is increasing in a world of inelastic supply. The weaker dollar is a contributory factor, but not the main factor.
• Why didn’t we see this problem coming with Fannie and Freddie? On this one both Mr. Bernake and Mr. Paulson were completely exasperated. Paulson went through a litany of all the efforts of Treasury to get Congress to reform the GSE’s – with zero results. You can go back 10 years or more and look at Greenspan’s testimony to this very body practically begging Congress to reform the GSE’s. Instead Congress pressed the GSE’s over the last decade to increase their leverage and expand lending to facilitate mortgages to low-income borrowers. Now they have also approved Fannie and Freddie to increase their exposure to more expensive mortgages as well.

One spirited exchange had a Democratic Senator insinuating that Paulson did not understand capital markets! Whatever you think of Hank Paulson, former CEO of Goldman Sachs, the world’s most successful and highly regarded investment bank, he certainly understands markets.

The most embarrassing episode was SEC chairman Cox stating that he had issued instructions for “emergency powers” to be invoked to prevent naked short selling. Since naked shorting is already illegal, this was simply an admission that the SEC has been asleep at the wheel as usual and has not be enforcing their own regulations.

It also highlighted perhaps one of the stupidest decisions in SEC history, eliminating the uptick rule last year. Eliminating the uptick rule, combined with zero enforcement of naked shorting, has made it easier for hedge funds to lean into individual stocks and conduct “bear raids”.