Bernanke’s inflation head-fake?

Tom Gallagher, a fiscal and monetary policy specialist at the Scowcroft Group, e-mails to say that I’ve been too harsh on Ben Bernanke, and his rhetorical emphasis on inflation is a way of buying time and political space to ignore inflation:

Here’s a partial defense of Bernanke. The word cloud is interesting, but think of the tough talk on inflation as a substitute for tough action on inflation, not a leading indicator of Fed policy. Talking about inflation actually gives doves more leeway to respond to weak growth. Imagine the reverse — a Fed chair unconcerned with rising headline inflation. Inflation expectations would likely rise, constraining the Fed’s actions. Think of Rubin in the 90s with his strong dollar mantra. The only times he intervened were to weaken the dollar, something most Democratic Treasury Secretaries in history did not have the credibility to do.

The market judged the Fed yesterday to be more dovish than expected, despite the emphasis on inflation. As you can see in the chart, I think this happened because the Fed was less committed to tightening as its next move once QE2 is finished. It’s a nuance, so the market move was small, but that was the direction. To be clear, “more dovish than expected” isn’t the same as “appropriate.” That’s why the defense of Bernanke is partial. The optimal stance of policy is for more on the fiscal front. Since that’s not forthcoming, I’m not sure how far the Fed should go to compensate, especially since the Fed is already in uncharted waters.

The chart he’s talking about tracks the index for dollar futures, which fell on Wednesday. I couldn’t get Gallagher’s out at a sufficiently high quality, so I snagged a 5-day track from marketwatch.com. As Gallagher says, the index falls around the time of Bernanke’s speech, suggesting the market heard less about inflation than it had hoped.