Thursday, December 4, 2008

Bernanke is Unwittingly Damaging the Labor Market

Federal Reserve chairman Bernanke wants banks to reduce homeowners' mortgage payments, but do so as a function of homeowner income. I have already explained that this gives homeowners no incentive to earn income. If widespread enough, this forgiveness policy can turn a recession into a depression.

Two weeks I warned about this on my blog and in an NBER working paper.

I am not surprised that Bernanke does not read this blog. I can also understand why he makes this mistake -- his academic work was about how loan overhangs prevented new loans from getting made. But he misses that, even if new loan markets were functioning well, the old loans themselves do damage because they encourage people to try to become forgiveable. If he wants debts forgiven, they should be forgiven without regard for borrower circumstances.

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