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Former Official Reveals the Fed’s “Dirty Little Secret”

Aaron Task
Editor in Chief
Fin - Daily Ticker - US

The dollar hit its lowest level since July 2008 Thursday, putting more pressure on savers, people living on a fixed-income and all consumers facing soaring commodity prices, most notably in energy.

Somewhere, Ben Bernanke is probably smiling.

Yes, Bernanke — and Treasury Secretary Tim Geithner — talked tough about the dollar this week but "currency depreciation is always a central bankers dirty little secret," says Vincent Reinhart, a former director of the Fed's Division of Monetary Affairs. "They don't mind some depreciation at time…The trick is to generate some depreciation but not a lot."

It depends on your definition of "a lot"…

Since Bernanke took office on Feb 1, 2006, the dollar's purchasing power has fallen 11%, and its down 21% in the past decade and 82% since the U.S. got off the gold standard in 1971, according to Miller Tabak.

Apparently, that doesn't count as "a lot" or "too much" depreciation for Bernanke's tastes.

"A design principle of Federal Reserve policy is to get inflation up — to create more dollars so inflation doesn't fall anymore; that's associated with currency depreciation," Reinhart explains. "Nothing the Fed chairman or Secretary of Treasury says is going to change that. [But] they've got to say 'a strong dollar is in the national interest' because they don't want to be seen as promoting a weak dollar."

Because of the Fed's dual mandate — full employment and price stability — "they're not really going to care about the dollar until they see inflation rise too much or inflation expectations begin to creep up -- and thus far they haven't seen that," he says. (See: Bernanke Speaks! Fed Chair Defends QE2, Says Inflation Not His Fault)

Similar to Christina Romer's recent comments here about the benefits of a weak dollar, Reinhart's comments are notable because they give some insight into the mindset of the central bank.

The market is clearly on to this game as currency traders are focused much more on what policymakers are doing vs. what they're saying.

Aaron Task is the host of The Daily Ticker. You can follow him on Twitter at @atask or email him at altask@yahoo.com