One of the most obvious storylines for the next few weeks of regulatory-reform discussion is the Federal Reserve.
The Obama administration’s plan would beef up its responsibilities, making this secretive, undemocratic institution all the more powerful. I’ve been wondering when the press was going to pick up this theme. This morning it finally did.
The problems this raises are readily apparent. First of all, the Federal Reserve and its former chairman Alan Greenspan, is as responsible for the bubble as anybody. Greenspan kept an easy money policy for two decades, was an Ayn Rand-style zealot about deregulation, and refused to exercise powers given to him by Congress to rein in the mortgage industry. Only in Washington and on Wall Street could an institution be rewarded for such destructive incompetence.
Critics who wonder about the wisdom of the move say the Fed failed to use its authority to address loose lending practices and the housing bubble that pushed the U.S. into a recession.
But the problems are deeper than that. The Federal Reserve is set up to be independent from political pressure. That’s may be a good thing as it keeps politicians from pumping money in election years to boost their election prospects. But does it make sense to be basically unaccountable when we’re talking about regulation?
And it raises conflicts of interest, too. As the Journal says:
Mr. Dodd said there is well-founded concern the Fed’s responsibility for monetary policy, including setting interest rates, could conflict with its role monitoring systemic risk.
The Journal doesn’t expound on that. Why would it conflict? Tell us.
The Times is no better:
Mr. Dodd said giving the Fed a new role as overall risk regulator might also compromise its independent status and conflict with its mandate to control inflation and manage the supply of money by setting interest rates.
Fortunately, I talked to a former high-ranking regulator the other day and he mentioned this very point. If the Fed is responsible for monitoring the systemic risk of big banks and they get in trouble, mightn’t (to use a WSJ word) it be tempted to use its monetary powers to protect its flank if its banks get in trouble? Seems likely to me. And would we even know about it given the Fed’s secrecy?
I don’t know what the alternatives to concentrating these powers in the Fed might be, but the press ought to explore that in the coming days. It needs to be especially skeptical about plans to empower an institution as opaque and unaccountable as the Fed.
And read Felix Salmon’s solid interview with Peter Thal Larsen, a Reuters columnist, for more on why the Fed looks bad. Other central banks are discussing cracking down and splitting up Too Big to Fail entities. If we did that, the Fed wouldn’t have any systemically problematic banks to regulate.