Tag: Federal Reserve

The Fed and Policy Uncertainty

How and when should the Fed unwind the enormous monetary expansion it undertook in response to the financial crisis and recession? The WSJ reports [$]:

As the Federal Reserve’s next meeting approaches in early November, an internal debate is brewing about how and when to signal the possibility of interest-rate increases.

The Fed has said since March that it will keep rates very low for an “extended period.” Long before it raises rates, however, it will need to change that public signal to financial markets.

Because the recovery is so young and is expected to be so weak, many central bank officials are comfortable, for now, keeping rates very low. But they are beginning to strategize about how to walk away from the “extended period” language.

My suggestion is that the Fed announce a path of gradual increases in the federal funds rate, say beginning next year and lasting for two years, until the rate is at some “normal level.”

This approach is different than what the Fed is likely to undertake; it will probably want to maximize “discretion,” the ability to adjust on the fly as conditions unfold.

My approach maximizes predictability and reassurance: it commits the Fed to shrinking the money supply and heading off future inflation. This reassures markets and takes substantial uncertainty out of the picture.

The problem with my approach is the pre-commitment: everyone knows the Fed could abandon a pre-announced path.

But such an announcement might still give markets useful guidance, and the Fed would know that any deviation would itself upset markets, and this might encourage adherence to the pre-commitment.

C/P Libertarianism, from A to Z

Federal Reserve as Cash Cow

Scheduled for consideration before the House Financial Services Committee this week is a draft bill creating a Consumer Financial Protection Agency. 

While there is a lot wrong with the bill – after all it is based on the premise that somehow consumers were tricked into not making a downpayment or re-financing thousands out of their homes, and then walking away – perhaps the most important provision, and the least discussed, is funding the agency by a transfer of cash from the Federal Reserve.  Section 119 of the bill requires the Federal Reserve to transfer an amount equal to 10 percent of its expenses to the new agency’s Director. 

This I believe is the first time in history that Congress is using the Federal Reserve to simply fund another agency.  Why stop there, how about have the Fed just prints trillions of dollars to pay for the rest of the government?  If Congress believes this agency will benefit the public, then the agency should be funded by the public, by a direct appropriations raised by taxes. 

Of course after watching Ben Bernanke turn the Fed’s balance sheet into a slush fund for Wall Street, it was only going to be a matter of time before someone in Congress decided to use that slush fund for their own purposes.  So much for transparency in government.

New Paper: Would a Stricter Fed Policy and Financial Regulation Have Averted the Financial Crisis?

Many commentators have argued that if the Federal Reserve had followed a stricter monetary policy earlier this decade when the housing bubble was forming, and if Congress had not deregulated banking but had imposed tighter financial standards, the housing boom and bust—and the subsequent financial crisis and recession—would have been averted.

In a new study, Cato scholars Jagadeesh Gokhale and Peter Van Doren investigate those claims and dispute them.

CAP’s Proposal to Add ‘Public Members’ to Corporate Boards Is Flawed

Today the Center for American Progress rolled out its proposal that we add “public directors” to the boards of companies that have been bailed out by the government.  CAP scholar Emma Coleman Jordan argues that “public directors will provide a corrective to the boards of the financial institutions that helped cause the crisis.”

One has to wonder whether Ms. Jordan has ever heard of Fannie Mae and Freddie Mac.  If she had, she might recall that a substantial number of the board members of Fannie and Freddie were so-called “public” members appointed by the President.  Perhaps she can ask CAP adjunct scholar and former Fannie Mae executive Ellen Seidman to review the history of those companies for her.

Where’s the evidence that any of those Fannie/Freddie “public” directors, whether they were appointed by Republican or Democrat Presidents, ever once look out for the public interest?  In fact all the evidence points to these public directors looking out for the interests of Fannie and Freddie, often lobbying Congress and the Administration on the behalf of these companies.

I suppose CAP would tell us that having the regulators pick the directors instead of the president would protect us from having those positions filled with political hacks.  Ms. Jordan argues that “regulators should determine most of the details of the public directorships—after all, they have the most direct experience in trying to regulate private companies that have received public funds.”  We tried that route as well.  In contrast to Fannie/Freddie, each of the twelve Federal Home Loan Banks had to have a number of its directors appointed by its then regulator, the Federal Housing Finance Board.  It was well known within the Beltway that these appointments were more often political hacks than not.  For instance one long time director of the Federal Home Loan Bank of Pittsburgh was the son of a senior member of the US House Committee on Finance Services.  Once again we’ve gone down this road, we know how this story ends.

If we are truly interested in protecting the taxpayer, we should, first, end the ability of the Federal Reserve to bailout companies, and second, as quickly as possible remove any government involvement in these companies.  Having the government appoint board directors only further entangles the government into our financial system; and if Fannie and Freddie are a good guide, actually increases the chances of future bailouts.

Reform Needed, but Obama Plan Would Result in More Financial Crises, not Less

Today President Obama took his financial reform plan to the airwaves.  While there is no doubt our financial system is in need of financial reform, the President’s plan would make bailouts a permanent feature of the regulatory landscape.  Rather than ending “too big to fail” – the President wants us to believe that with additional discretion and power, the same Federal Reserve that missed the boat last time will save us next time.

The truth is that the President’s plan will result in a small number of companies being viewed by debtholders as “too big to fail”.  These companies would see their funding costs decline, allowing them to gain market-share at the expense of their rivals, making these firms even larger.  Greater concentration in our financial services industry is the last thing we need, yet the Obama plan all but guarantees it.

Obama also chooses myth’s over facts.  The President claims that de-regulation and competition among regulators caused the crisis.  The facts could not be more different.  Those institutions at the center of the crisis – Fannie Mae, Freddie Mac, Bear Stearns, Lehman –could not choose their regulator.

The President’s plan chooses convenient targets and protects entrenched interests, rather than address the true underlying causes of the crisis.  At no time have we heard the President discuss the expansionary monetary policies that helped fuel the bubble.  Nor has the President talked about the global imbalances – the global savings glut that poured surplus savings from the rest of the world into the US.  But then the President appears to hope that loose monetary policy and continued American consumption funded by China will get him out of his own political problems with the economy.  It is especially striking that the President makes little mention of the housing bubble, as if it was only the bust that was the problem.

The President continues to say he inherited this crisis.  While true, he did not inherit the same individuals – Tim Geithner and Ben Bernanke – who were at the center of creating the crisis.  All Obama needs to do is find a position for Hank Paulson and he will have completely re-assembled the Bush financial team.

Without real reform – fixing Fannie and Freddie, scaling back the massive subsidies for leverage in our tax code, loose monetary policy – it will only be a matter of time before the next crisis hits.  If we implement the President’s plan, we will, however, guarantee that the next crisis will be even larger and severe than the current one.

No, the Fed Did Not Stabilize the Economy

Commenting on a recent article of mine in The Wall Street Journal, Peter Gartside claims that:

Prior to 1913, the U.S. annual gross domestic product changes oscillated between extremes of approximately plus or minus 15%.   After the establishment of the Federal Reserve Board, the limits of GDP oscillations narrowed to approximately plus or minus 6%.

You may well wonder where he got that idea, since there are no official estimates of gross domestic product (GDP) for years before 1929.  In the early 1960s, however, John Kendrick and Simon Kuznets bravely attempted to construct such estimates for gross national product (GNP).  That would be close enough to modern GDP data were it not for the primitive statistics and technology they had to work with.

The table (after the jump) shows these heroic old estimates for real GNP from 1889 to 1914.  In that period, there was only one year (1908) in which the drop in GNP exceeded 6% and none that remotely approaches the  “minus 15%” figure of Mr. Garstide’s imagination.

Real GNP
billions of 1958$

1889    49.1
1890    52.7
1891    55.1
1892    60.4
1893    57.5
1894    55.9
1895    62.6
1896    61.3
1897    67.1
1898    68.6
1899    74.8
1900    76.9
1901    85.7
1902    86.5
1903    90.8
1904    89.7
1905    96.3
1906    107.5
1907    109.2
1908    100.2
1909    116.8
1910    120.1
1911    123.2
1912    130.2
1913    131.4
1914    125.6

Historical Statistics of the U.S., Series F4

CEA chair Christina Romer’s research shows that these early estimates “exaggerate the size of cycles because they are based on the assumption that GNP moves approximately one for one with commodity output valued in producer prices.” If we tried to estimate recent GDP figures on the basis of commodity output and prices, then postwar cycles would look even wilder than they already do.  Consider, for example, using the recent gyrations in producer prices of oil and metals as a proxy for GNP.

Even if we relied on the ancient and flawed pre-Romer GNP estimates above, however, there were still no downturns before 1913 that were nearly as extreme as 1929-33 or even 1920-21.  And there was no recession between the 1870s and 1913 that lasted as long as the slump of 2008-2009.

Whether we’re talking about fiscal or monetary fine-tuning, all the technocrats efforts at taming the business cycle in the past 40 years appear no more successful than the pre-Fed policies of doing without a central bank and doing without deferred tax increases (debt-financed “fiscal stimulus” plans).

Embracing Bushonomics, Obama Re-appoints Bernanke

bernanke1In re-appointing Bernanke to another four year term as Fed chairman, President Obama completes his embrace of bailouts, easy money and deficits as the defining characteristics of his economic agenda.

Bernanke, along with Secretary Geithner (then New York Fed president) were the prime movers behind the bailouts of AIG and Bear Stearns. Rather than “saving capitalism,” these bailouts only spread panic at considerable cost to the taxpayer. As evidenced in his “financial reform” proposal, Obama does not see bailouts as the problem, but instead believes an expanded Fed is the solution to all that is wrong with the financial sector. Bernanke also played a central role as the Fed governor most in favor of easy money in the aftermath of the dot-com bubble – a policy that directly contributed to the housing bubble. And rather than take steps to offset the “global savings glut” forcing down rates, Bernanke used it as a rationale for inaction.

Perhaps worse than Bush and Obama’s rewarding of failure in the private sector via bailouts is the continued rewarding of failure in the public sector. The actors at institutions such as the Federal Reserve bear considerable responsibility for the current state of the economy. Re-appointing Bernanke sends the worst possible message to both the American public and to government in general: not only will failure be tolerated, it will be rewarded.