Tag: Fed

The Federal Reserve’s “Foreign Banking Organization” Rule Is Unnecessary

Last November, Arthur Long and I released a policy study on the likely impact of the Federal Reserve’s 2012 “Foreign Banking Organization” proposal.

We argued – along with many others – that the proposal amounted to little more than a costly corporate reshuffling exercise. Of even greater concern, we suggested that the proposal threatened the ability of global banks to allocate capital and liquidity in an efficient manner, would increase financial instability, and dampen economic growth.

Yesterday, the Federal Reserve released a final rule that is essentially the same as the original proposal. The final rule is more lenient only in the sense that it increases the timeframe for compliance, simplifies the leverage requirements a little, and impacts fewer organizations. To that end, the fundamental criticisms still apply, as does the confusion around why such a proposal is necessary.

Governor Tarullo – a leading proponent of the rule – has argued that the Federal Reserve extended financial “support” to foreign banks at unprecedented levels during the crisis and therefore should be given greater oversight of these banks’ activities. That sounds reasonable. But upon closer review, the support he refers to was limited to liquidity provided through the Fed’s discount window. Foreign banks were not eligible to receive TARP or other forms of bailout assistance.

Fed officials have gone to great lengths to argue that providing liquidity through the discount window (which may be provided only to otherwise solvent institutions on a fully collateralized basis) is a legitimate central bank function and is NOT financial assistance constituting a bailout.

I agree (although on this point, I note that I depart quite radically from some of my contemporaries). However, this argument does undermine the central pillar supporting the Fed’s new rule. In addition, if protecting U.S. taxpayers is the fundamental aim, why implement a rule that will close-off the channels of liquidity and support that the U.S. subsidiary could receive from the foreign parent? 

The Fed’s rule may well spark retaliatory actions from foreign regulators, who are even more annoyed about it than the banks they oversee. The losers will be both local and foreign banks and, most importantly, consumers of credit. Governor Tarullo himself noted during yesterday’s open meeting that the rule “may not strike the right balance indefinitely.” The Fed had an opportunity to lead from the front. That it failed to do so is unfortunate. 

Some Preliminary Thoughts on the New “Final” Volcker Rule

There was only one way that the five regulatory agencies tasked with drafting the Volcker Rule–the provision of Dodd-Frank limiting proprietary trading by banks–were ever going to meet the year-end deadline and give meat to a poorly drafted statutory provision. That was if they retained maximum ex post facto discretion to decide whether bank activity is permissible or not under the rule. Unsurprisingly, this appears to be exactly what they have done.

I have some particular concerns:

The rule will require a “maze of regulators” (via the Wall Street Journal)

You thought the debate over the extraterritorial application of cross border derivatives (i.e., the fight between the Securities and Exchange Commission and the Commodities Futures Trading Commission)was contentious? Volcker is going to be five times worse. The rule still requires ongoing monitoring and enforcement by FIVE separate agencies and, as Wayne Abernathy of the American Bankers Association noted, there is still no mechanism for coordination built into the rule.

The rule lacks “bright line distinctions” (per Janet Yellen)

Basically banks won’t know if they’re in compliance or not until their regulator determines it. Ominously, SEC chairman Mary Jo White said that the regulators would be available to add “clarification.” Needless to say, a final rule should not need clarification.

The devil is in the enforcement

Several of the regulators noted that the key to “successful” implementation of the rule is ongoing monitoring and enforcement. But how do you monitor and enforce a rule that doesn’t have a bright line? So much for the rule of law.

The rule contains an exception for sovereign debt

In other words, banks can trade in as much sovereign debt as they want for their own account, but if they were to engage in similar activity with respect to investment grade corporate debt–Exxon Mobil for example–this will be illegal proprietary trading. (I feel safer already!)

Much of the “new final” rule does not have the benefit of public input

The two SEC commissioners who voted against the rule both complained they did not have sufficient time to review the contents–one labeled the year-end deadline “wholly political”–and were concerned that many of the new provisions did not have the benefit of public comment. They are correct that, at the very least, the rule should have been re-proposed as a draft.

For a full transcript of the final rule and Volcker related materials, see here.

Yellen and the Fed

The Senate Banking Committee just voted 14 to 8 to confirm Janet Yellen’s nomination to be the new Chair of the Federal Reserve. She will likely go on to be confirmed by the full Senate.

Much of the coverage has focused on Yellen as a person, when the real story is on the Fed as an institution. Sometimes individuals have profound influence on Fed policy, such as Paul Volcker  in the late 1970s and 1980s. Over time, however, the institutional structure of the central bank and the incentives facing policymakers matter more.

The Federal Reserve famously has a dual mandate of promoting maximum employment and price stability. The Federal Open Market Committee, which sets monetary policy, has great discretion in weighting the two policy goals. As a practical matter, the vast majority of the time, full employment receives the greater weight. That is because the Fed is subject to similar pressures as are the members of Congress to which the Fed must report. In the short run, voters want to see more job creation. That is especially true today. The United States is experiencing weak growth with anemic job creation.

Never mind that the Fed is not capable of stimulating job creation, at least not in a sustained way over time. It has a jobs mandate and has created expectations that it can stimulate job growth with monetary policy. The Fed became an inflation-fighter under Volcker only when high inflation produced strong political currents to fight inflation even at the cost of recession and job creation.

The Federal Reserve claims political independence, but it has been so only comparatively rarely. Even Volcker could make tough decisions only because he was supported by President Carter, who appointed him, and President Reagan, who reappointed him. Conventionally defined inflation is low now, so the Fed under any likely Chair would continue its program of monetary stimulus. Perhaps Yellen is personally inclined to continue it longer than might some other candidates. But all possible Fed chiefs’ would face the same pressures to “do something” to enhance job growth, even if its policy tools are not effective.

The prolonged period of low interest rates has made the Fed the enabler of the federal government’s fiscal deficits. Low interest rates have kept down the government’s borrowing costs, at least compared to what they would have been under “normal” interest rates of 3-4 percent.

Congress and the president have been spared a fiscal crisis, and thus repeatedly punted on fiscal reform. They are likely to continue doing so until rising interest rates precipitate a crisis. How long that can be postponed remains an open question.

Easy Money from the Federal Reserve Is Not the Solution for America’s Economic Problems

Allen Meltzer, an economist at Carnegie Mellon University, writes today in the Wall Street Journal about the Fed’s worrisome announcement that it will continue the easy-money policy of artificially low interest rates.

Professor Meltzer’s key point (at least to me) is that the economy is weak because of too much government intervention and too much federal spending, and you don’t solve those problems with a loose-money policy – especially since banks already are sitting on $1.6 trillion of excess reserves. (Why lend money when the economy is weak and you may not get repaid?)

Meltzer then outlines some of the reforms that would boost growth, all of which are desirable, albeit a bit tame for my tastes:

[T]he United States does not have the kind of problems that printing more money will cure. Banks currently hold more than $1.6 trillion of idle reserves at the Fed. Banks can use those idle reserves to create enormous amounts of money. Interest rates on federal funds remain near zero. Longer-term interest rates on Treasurys are at record lows. What reason can there be for adding more excess reserves? The main effect would be a further devaluation of the dollar against competing currencies and gold, followed by a rise in the price of oil and other imports. …Money growth (M2) reached 10% for the past six months, presaging more inflation ahead.

…What we need most is confidence in our future. That calls for:

  • Reducing corporate tax rates permanently to encourage investment (paid for by closing loopholes).
  • Agreeing on long-term reductions in entitlement spending.
  • A five-year moratorium on new regulations affecting energy, environment, health and finance.
  • An explicit inflation target between zero and 2% to force the Fed to pay more attention to the medium term and to increase public confidence that we will not experience runaway inflation.

The president is wrong to pose the issue as more taxes for millionaires to pay for more redistribution now. That path leads to future crises because higher taxes support the low productivity growth of the welfare state, delay the transition to export-led growth, and do not reduce future budget liabilities enough.

Meltzer’s final point about the futility of class-warfare taxes is very important. He doesn’t use the term, but he’s making a Laffer Curve argument. Simply stated, if punitive tax rates cause investors, entrepreneurs, and small business owners to earn/declare less taxable income, then the government won’t collect as much money as predicted by the Joint Committee on Taxation’s simplistic models.

Of course, Obama said in 2008 than he wanted high tax rates for reasons of “fairness,” even if such policies didn’t lead to more tax revenue. That destructive mentality probably helps explain why not only banks, but also other companies, are sitting on cash and afraid to make significant investments.

But if you really want to understand how Obama’s policies are causing “regime uncertainty,” this cartoon is spot on.

The Ben Bernanke Variety Hour

April 27th begins a new chapter in Federal Reserve history: the Fed joins other major central banks in having a press conference after its monetary policy meetings (the Federal Open Market Committee).  Apparently the record lows in public support for the Fed, along with rising gas and food prices, have driven Bernanke to attempt to change the narrative.  After all, his appearance on “60 Minutes” did wonders for the Fed’s reputation.  I’m excited to hear even more about his childhood in Dillon, South Carolina or his time working at South of the Border.  Maybe an enterprising reporter could ask how much menu prices at South of the Border have increased since Bernanke took over the Fed.

Perhaps you’ve noticed that I don’t have high expectations for his press conference.  It is probably fair to say that no Federal Reserve Chair has had as much public exposure as Bernanke.  Yet with all those public appearances, he has consistently managed to avoid any real discussion about the costs and benefits of the Fed’s actions.  Are we likely to hear concern about food and gas prices, and how such are being driven by loose money?  Probably not…just more on how increasing world demand is to blame.  Just like it was the “global savings glut” that drove  interest rates earlier this decade, it is always somebody else’s fault – never the Fed’s.  They are capable of only good.

Hopefully Bernanke will at least avoid the Obama line that it is those “speculators” that are behind the increase in energy prices.  After all, if we believe the governments of Europe, those evil speculators brought down Greece too.

As per usual, I truly hope I’m wrong here.  Bernanke has a real opportunity to be honest and straightforward with the American public.  We don’t need another lecture.  We need to hear that the Fed isn’t a slave to some imaginary Phillips Curve or that we can’t have inflation with slack in the economy (where was Bernanke in the 1970s?).   The real risk is that Bernanke uses the press conference to drown out the many voices of concern and dissent on the FOMC.  Which, of course, would be a real irony given all of Bernanke’s talk about “democratizing” the Fed when he first became chair.

Federal Reserve to Hold Press Conferences

Today Federal Reserve Chair Ben Bernanke announced he would hold four annual press conferences, after select meetings of the Federal Open Market Committee.  The first such meeting will be on April 27 and will be webcast.

While I generally haven’t been a fan of Bernanke’s policy decisions, many of his “process” decisions, such as holding these press conferences, have been moves in the right direction of greater Fed communication with the public.  The Fed took some bold moves during and since the financial crisis – often without a word to the public.  Indeed, it is interesting that this announcement comes only a few days after the Supreme Court refused to hear the appeal of the Bloomberg suit demanding Fed disclosure of banks assisted during the crisis. 

It remains to be seen, however, if these press briefings provide any real substance or explanation of the Fed’s actions.  After all, I don’t think Bernanke’s appearance on “60 Minutes” really changed anyone’s mind.  But then again, the interview was fairly devoid of actual substance.  For these future press briefings to have any real value, the reporters involved are going to have to ask tough, insightful questions, rather than the fluff Bernanke is used to.

Then perhaps the real problem with the Fed’s communication strategy is that it has been only one-way.  By now we all know that Bernanke didn’t want to be the Fed chair that oversaw “Great Depression II,” or that he’s just a simple guy from Dillon, SC.  But how about some sense that Bernanke is not just lecturing, but listening?  Where’s the evidence that he understands the squeeze that rising food and gas prices put on the middle class?  Where’s the evidence that he gets that the “Phillips Curve” isn’t real?

I am going to hold out for the best.  Maybe these briefings will provide some substance where previous appearances have not.

Take Off the Blinders: Diversity Demands Educational Freedom

Yesterday, FoxNews.com posted a story on what appears to be a growing problem for public school systems across the country: accommodating Muslim holidays. Unfortunately, the report didn’t contain the solution to the problem. It did, though, contain a very succinct discussion of the root of the problem; an example of the good intent that causes people to ignore the problem; and the kind of “solution” that is ultimately at odds with the most basic of American values.

A quote from New York City mayor Michael Bloomberg captured the essence of the problem:

One of the problems you have with a diverse city is that if you close the schools for every single holiday, there won’t be any school.

There you have the basic conundrum in a nutshell: Whenever you have a diverse population – whether in a hamlet, city, state, or nation – and everyone has to support a single system of government schools, you cannot possibly treat all people – or even most of them – equally. Either there are winners and losers, or nobody gets anything.

Understanding why public schooling  can’t handle diversity – why, simply, one size can’t fit all – is really basic common sense. So why isn’t there more outrage over, or even just recognition of, the utter illogic of our education system? Mohamed Elibiary, President and CEO of the Freedom and Justice Foundation, illustrated the attitude that likely causes lots of Americans to wear blinders:

I’m a little torn. I want Muslims to be getting the same recognition as other Americans, but at the same time I don’t want to see public education systems be a battleground between religious identities, because then we’re missing the point of why we have a public education system to begin with.

No doubt many people truly believe as Elibiary does: that a major purpose of public schooling is to bring diverse people together and, by doing so, unify them. It’s a fine intention, but also a classic case of intent not matching reality. Indeed, the reality is often very much the opposite. Rather than unifying people, public schooling has repeatedly forced religious conflict (as well as conflict over race, ethnicity, political philosophy, curriculum, and on and on).

It started almost on Day One, when Horace Mann, a Unitarian, was locked in conflict with Calvinists over what kind of Protestantism the state’s nascent “common schools” would teach. When Roman Catholics began arriving in America in large numbers, battles – sometimes deadly – erupted over who would get what kind of Christianity in the public schools. When Tennessee outlawed the teaching of evolution, the Scopes “Monkey Trial” fired the first big blast in the war over the teaching of human origins, a fight we are still very much in. In the latter part of the twentieth century, the fighting moved to what, if any, religious expression is permissible in public schools. And now, we’re getting fired up over whose holidays will get the most deference from government schools. It almost seems like war without end.

Finally, the article gropes at – but doesn’t grab – the solution to our education and diversity problem. Says Georgetown University professor Bradley Blakeman:

That’s the beauty of having a school district responsive to the localities as opposed to blanket rules that affect multiple jurisdictions, states or even countries. One size doesn’t fit all when it comes to these kinds of rules and regulations. We’re not a homogeneous nation, which makes us so great.

Blakeman is heading in the right direction (even as federal policy pushes us the opposite way): The closer that control of education gets to individual people, the more easily it can be tailored to unique needs, values, and desires. Unfortunately, Blakeman fails to identify the obvious last step: completely decoupling government funding from provision of education. In other words, instituting universal educational choice. Making matters worse, Blakeman for all intents and purposes concludes that as long as decisions are made at the local level, and the majority gets its way, everything is fine:

A school should reflect the beliefs and practices of the community that they serve. And if school boards are sensitive to their populations, that’s fine, provided the decisions of the board reflect the majority opinion of its community.

It may sound harsh, but one way to describe this is simply ”tyranny of the majority” – whatever the majority wants, it gets, as long as it is the local majority. It’s a solution that completely ignores that ours is not supposed to be a nation of majority rule, but rule of law that protects individual freedom. And, of course, one of the most basic protections is the prohibition on government tipping the scales in favor of one religion, two religions, or no religion at all. 

This solution also fails, by the way, to address the problem at hand: School districts – not states or Washington – having to accommodate diverse populations. In other words, ”local control” is ultimately no solution at all.

Universal choice is, quite simply, the only system of education compatible with the most basic of American values – individual liberty – and the only way to avoid constant, divisive battles over who will get what out of the schools. Hopefully, people will come to realize that before our conflicts get even worse.

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