1
SomeHistoricalReflectionsontheGovernanceoftheFederalReserve
MichaelDBordo,RutgersUniversityandTheHooverInstitution,StanfordUniversity
Paperwrittenfor“CentralBankGovernanceandOversightReform;APolicyConference”
May212015HooverInstitution
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1.Introduction
SincetheFinancialCrisisof2007‐2008,therehasbeenconsiderableinterestin
reformoftheFederalReserveSystem.ManyblametheFederalReserveforcausing
thecrisis.Manycriticizeitforhowitwashandledandforhowtherecoveryhas
beenmanaged.Criticismsinclude:keepingthepolicyratetooloosefrom2002to
2005andtherebyfuelingthehousingboom:lapsesinfinancialregulationthatfailed
todiscouragetheexcessesthatoccurred;thebailoutsofinsolventfinancialfirms;
theuseofcreditpolicy;andconflictsofinterestbetweenDirectorsoftheNewYork
FederalReservebankandWallStreetbanks.
TheDoddFrankActof2010madesomeminorchangestoFederalReserve
governance–removingthevotingrightsofClassAReservebankdirectorsandtothe
FederalReserve’slenderoflastresortpolicy—limitingtheuseof13(3)discount
windowlending.Somehaveurgedthatthereformprocessgofurther,e.gConti
Brown(2015)arguedthattheReservebankPresidentsbeappointedbythe
PresidentwhiletherecentShelbybillincludesrequiringthischangeonlyforthe
PresidentoftheNewYorkFederalReservebank.1
AsimilarcacophonyofcriticismandcallforreformoftheFedoccurredafterthe
GreatContractionof1929to1933,whichPresidentFranklinRooseveltblamedon
1SimilarcallsforreformofFedgovernancewereproposedinCongressionalbillsin1977and1991,whichdidnotpass.
3
thebanksandtheFederalReserve.ItledtoamajorreformoftheFederalReserve
SysteminCongressionalActsin1933and1935.
InthispaperIexaminethehistoricalrecordonFederalReservegovernanceand
especiallytherelationshipbetweentheReservebanksandtheBoardfromtheearly
yearsoftheFederalReservetotherecentcrisis.FromtherecordIconsidersome
lessonsforthecurrentdebateoverreformoftheFederalReserve.
2.EstablishmentoftheFederalReserveSystem
AsignatureaspectoftheFederalReserveSystemisitsfederal/regionalstructure
andgovernance.TheFederalReserveActof1913waspassedfollowingalong
deliberationoverreformoftheU.S.financialsystemafterthePanicof1907.The
panicwasthestrawthat‘brokethecamelsback‘followingaseriesofbanking
panicsthatplaguedthepostcivilwarNationalbankingsystem.TheU.S.banking
systemwascharacterizedbyconsiderableinstabilityinvolvingfrequentbanking
panicssinceAndrewJackson’svetoofthecharteroftheSecondBankoftheUnited
States.Itscausesincludetheprohibitiononinterstatebranchbanking2andthe
absenceofalenderoflastresort.TheReformmovementthatfollowedthe1907
paniccalledforthecreationofsomethinglikeacentralbankbuttherewas
considerableoppositiontoaEuropeanstylecentralbankwhichhadallofits
financialpowerconcentratedinthefinancialcenter.TheAldrichVreelandActof
1908createdanetworkofNationalReserveAssociationswhichweremodeledon2ThiswasnotthecaseinCanadawhichneverhadabankingcrisis(Bordo,RedishandRockoff2015)
4
theplanoftheprivateclearinghousesinmanyUScities.Clearinghousesissued
emergencycurrencyduringpanicsandonanumberofoccasionssuccessfully
allayedthepanic(Gorton1985).TheAldrichVreelandActalsoestablishedthe
NationalMonetaryCommission(NMC)whichwastostudythemonetary
experienceofmanycountriesandmakerecommendationsforareformoftheUS
bankingsystem.
TheNMCin1912putforwardaplanforaregionalcentralbanksystem
calledtheAldrichPlan.ItwasbasedonanearlierplansuggestedbyPaulWarburg,
aninfluentialGermanbornbanker,whichwasinmanywaysanAmerican
adaptationoftheReichsbank.TheAldrichbillcalledfortheestablishmentofa
NationalReserveAssociation,headquarteredinWashington,DC.TheAssociation’s
brancheswouldbelocatedthroughouttheUnitedStatesandservemember
commercialbanks.TheAssociationwouldissueasset‐backedcurrencyand
rediscounteligiblepaperconsistingofshort‐termcommercialandagriculturalloans
foritsmembersatadiscountratesetbytheNationalAssociation’sboardof
directors.Thediscountratewouldbeuniformthroughoutthecountry.The
associationwouldalsobeabletoconductopenmarketoperations(Bordoand
Wheelock2010).
TheAldrichplanwasdefeatedintheCongressandaftertheelectionof1912
whentheDemocratstookpoweritwasgreatlyrevisedtoincludeastrongerrolefor
thegovernment.TheresultantFederalReserveActof1913representedthe
Wilsoniancompromisewhichgavearoleinthesystemtotheregionalcommercial
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banks(Mainstreet),themoneycenterbanks(Wallstreet)andtheFederal
government(Karr2013).
TheFederalReserveSystemdifferedmarkedlyfromAldrich’sproposed
NationalReserveAssociationintermsofstructureandgovernance.Ratherthana
centralorganizationwithmanybranches,theFederalReserveSystemconsistedof
twelvesemi‐autonomousregionalreservebanksandtheFederalReserveBoard,
whichhadageneraloversightrole.WhereastheFederalReserveBoardwasmade
upoffivemembersappointedbythePresidentandchairedbythesecretaryofthe
treasury,thereservebankswereownedbytheirmemberbanksandtheGovernors
(after1935calledPresidents)wereappointedbylocalboardsofdirectors.
TheFederalReservebankboardsofdirectorsconsistofninedirectorsthreeof
whom(includingthechairmanandvicechairman),areappointedbytheFederal
ReserveBoard(classB)andsix(threebankers(ClassA)andthreeothers(non
bankers,ClassC)areelectedbytheReserveBank’smemberbanks.Themember
banksarerequiredtopurchasestockintheirlocalreservebank.
AkeydifferencebetweentheFederalReserveactandtheAldrichplanwas
thattheindividualFederalReservebankssettheirowndiscountrates(subjectto
reviewbytheFederalReserveBoard)andeachbankwasrequiredtomaintaina
minimumreserveintheformofgoldandeligiblepaperagainstitsnoteanddeposit
liabilities.ThedemarcationofauthoritybetweentheReservebanksandtheBoard
inWashingtonwasnotclearlyspelledoutintheFederalReserveAct.Thisledto
seriousproblemsinthe1920sand1930s.
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3.TheEarlyYears1914to1935
TheFederalReservebanksopenedtheirdoorsinDecember1914justintimefor
theoutbreakofWorldWarIinEurope.ThewarmeantthattheFedfacedavery
differentenvironmentthanitsframersenvisagedandconsequentlyitchangedits
operationsinnovelways.Becauseofthewarmostcountriesleftthegoldstandard.
AlsooncetheU.S.enteredthewartheFedbegandiscountingcommercialbills
backedbygovernmentsecurities,atypeofcollateralnotpermittedintheoriginal
actwhichledtoarevision.AlsoasthewarprogressedtheFedpeggedshortterm
interestratestohelptheTreasuryfinancethewar.Thismeantthatitgaveupits
independencetotheTreasury.
Attheendofthewar,in1918,theFederalReservekeptitsdiscountratelow
attheTreasury’sbehest.Thisfueledamassivecommoditiespriceboomand
inflation.Facedwithdeclininggoldreservesinlate1919,theFederalReserve(the
memberbanksapprovedbytheBoard)raiseddiscountrateswhichledtoaserious
deflationandrecessionwhichFriedmanandSchwartz(1963)termedtheFed’s
firstpolicymistakeforwaitingtoolongtocutitsrates.Therecessionalsoledto
severecriticismoftheFederalReserve,causingittocutbackontheuseofdiscount
ratesasitskeypolicytoolandshiftingittowardstheuseofopenmarketoperations
ConflictbetweentheReservebanksandbetweentheReservebanksandtheBoard
beganquiteearlyoverthelackofcooperationinsettingdiscountratesand
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conductingopenmarketoperations.ThisoccurredbecausetheActwantedthe
ReserveBankstoconducttheirownmonetarypoliciestoinfluenceeconomic
conditionsintheirowndistrictsandbecausetheBoard’scoordinatingauthority
wasnotcleari.ewhetherthememberbankshadtofollowtheBoard’sinstructions.
Tocreateacoordinatingmechanism,theReservebanks,withouttheBoard’s
consent,setuptheGovernorsConferencein1921tocoordinatebothdiscountrate
andopenmarketoperations.InApril1922,theReserveBoardasserteditsauthority
anddisbandedtheGovernor’sConferenceandinitsplacesetuptheOpenMarket
InvestmentCommittee(OMIC)tocoordinateopenmarketoperationsatthe
nationallevel.ItwascomposedoftheGovernorsoftheReservebanksofNewYork,
Chicago,Boston,PhiladelphiaandCleveland.
AsitturnedoutGovernorBenjaminStrongofNewYorkbecamethedefacto
leaderoftheOMIC.AccordingtoFriedmanandSchwartz(1963)theOMICunder
StrongwasverysuccessfulatstabilizingtheUSeconomyandproducing“TheHigh
TideoftheFederalReserve”.Neverthelessmanyofitsactionswereresentedbythe
7ReservebanksthatwerenotonthecommitteeandbytheBoardwhichoftenfelt
thatitsauthoritywasbeingchallenged(Eichengreen1992).Alsoalthoughthe
Boardhadultimateauthorityonsettingratesandconductingopenmarket
operations,individualReservebankscouldoptout.,
Anumberoffamousexamplesofconflictgivesastrongflavorofthesteep
learningcurvethattheSystemfacedinitsearlyyears.Thefirstepisodewasin1927
whenStrongarrangedameetinginLongIslandbetweenhimselfandtheGovernors
ofthecentralbanksofEngland,FranceandGermany.Atthissummititwasagreed
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thattheNewYorkReservebankwouldloweritsdiscountratetohelptheBankof
Englandinitsstruggletostayonthegoldstandard.TheBoardwasnotpartofthe
negotiations.AfterthemeetingtherewasavociferousdebateattheBoardandin
theotherReservebanksaboutgoingalongwiththeratecut.IntheendtheBoard
reluctantlyapprovedbuttheChicagoReservebankheldout.TheBoard
subsequentlyforcedChicagotocutitsrate.
AdolphMilleroftheBoard,theonlyprofessionaleconomistintheSystem,
laterarguedthatStrong’spolicyfueledtheWallStreetstockmarketboomwhichled
totheGreatDepression,aviewadoptedmuchlaterbyHerbertHooverinhis
memoirs.
Thesecondnotableexampleofdiscordwasinearly1928whenNewYork
andChicagodisagreedoverraisingratestostemthestockmarketboom.Intheend
atighteningopenmarketpolicywasfollowed(Wheelock2000).
Thethirdexamplewasin1929whentheBoardandNewYorkdisagreed
overhowtostemtheWallStreetboom.TheBoardwantedtoengageinmoral
suasiontorationcreditagainstloanstofinancestockmarketspeculation.NewYork
andtheothersonOMICdoubtedifsuchapolicywouldworkandpushedforraising
discountrates.TheBoardblockedNewYork10timesuntilitfinallyacquiescedin
theearlysummerof1929whenitwastoolate.
ThefourthexamplewasaftertheWallStreetCrashinOctober1929.The
NewYorkReservebankunderGovernorGeorgeHarrisonunilaterallyengagedin
openmarketoperationstoprovideliquiditytotheNewYorkmoneymarketto
preventabankingpanic.HisactionswerecriticizedbytheBoardfornotfollowing
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protocol.LaterinNovember,Harrison’srequesttoengageinfurthereasingpolicy
wasblockedbytheBoard,undoubtedlyworseningtherecession.
InMarch1930,theBoarddisbandedtheOMICandcreatedtheOpenMarket
PolicyCommittee(OMPC).ItcontainedalltwelveReservebankGovernors.
AccordingtoFriedmanandSchwartz,thiswasahugemistakebecausethelarger
committee,withouttheleadershipofBenjaminStrongwhodiedinOctober1928,
wasunabletobedecisive.Itsdefectsbecameapparentasthedepressionworsened
andtheFedfailedtostemaseriesofworseningbankingpanics.
Bythespringof1932,underpressurefromtheCongress,theFederal
Reservebeganamassiveopenmarketpurchaseprogram.ItwasledbyHarrisonof
NewYork.Itwasquicklysuccessfulinreversingtherecessionbutitwasshortlived.
Reservebankgovernorsbegantoworrythattheirgoldreservesweredeclining
towardsthestatutorylimits.SomegovernorsandtheBoardalsoworriedthatthe
purchaseswouldleadtospeculation,anassetpriceboomandinflation.Oncethe
Congresswentonrecess,thepurchasesstopped(FriedmanandSchwartz1963,
Meltzer2003).
ThefinalandmostseriousexampleofdiscordintheSystemwasinthefirst
weekofMarch1933,duringthefinalpanicoftheGreatContraction.Thepanic,
unlikethethreeprecedingones,involvedaspeculativeattackagainsttheNewYork
Reservebank’sgoldreserves.Somearguetheattackreflectedthemarket’sbelief
thatthenewlyelectedPresidentRooseveltwouldtaketheU.S.offthegoldstandard
(Wigmore1987).TheattackledtoadepletionoftheNewYorkReservebank’sgold
reservestowardsthestatutorylimit,afterwhichitwouldhavetoceasefollowing
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lenderoflastactions.TheNewYorkFedturnedtotheChicagoReservebankwhich
hadamplegoldreservesandrequestedatemporaryloanofgold.Chicagoturned
NewYorkdown.TheBoardrefusedtointercede.Thecrisisworsenedandwasonly
endedwhenFranklinDelanoRoosevelttookofficeanddeclaredabankingholiday.
FriedmanandSchwartzcitetheseexamplesintheirindictmentoftheFederal
ReserveforcausingtheGreatContraction.TheybelievedthathadBenjaminStrong
livedthathewouldhaveeffectivelyusedtheOMICtopreventthemistakesthat
followedhisdeath.TheywereinfavoroftheconsolidationofpowerintheBoard
thatfollowedin1935.
Eichengreeen(1992),usingthetoolsofgametheorydemonstratedthathad
theReservebanksandBoardcoordinatedpolicyduringtheaboveexamplesof
discordthattheUSeconomywouldhavebeenmuchmorestable.Healsosupported
theconsolidationoftheSystemin1935.
Ontheotherhand,BrunnerandMeltzer(1968)Meltzer(2003),and
Wheelock(1991)arguedthattherealproblemthattheFederalReservefaced
wasn’tstructuralbutthetheoryofmonetarypolicyfollowed.Theyarguedthatthe
FederalReserveasawholefollowedtherealbillsdoctrineandavariantofitcalled
theBurgessRiefflerStrongDoctrine.Accordingtothisdoctrine,TheFederal
Reserveshouldfocusontwoindicatorsofthestanceoftheeconomy:memberbank
borrowingsandshortterminterestrates.Theyarguedthatfrom1930to1933,
becauserateswerelowandmemberbankborrowingwaslow,thattheFederal
Reserveviewedtheirpolicyaslargelyaccommodativeandhencedidnotseethe
needforfurtherloosening.MeltzerarguedthatStrongandmostReservebank
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GovernorsaswellasmembersoftheBoardbelievedinthisflaweddoctrine.Hence
accordingtothemtheRooseveltconsolidationoftheFederalReservewasnotreally
necessary.
Onecounterfactualquestionthatarisesishowwouldthestructural
problemsoftheFederalReservehavebeencorrectedwithoutamajor
reorganization.Inadditionastheaboveauthorsargue,theFederalReservedidn’t
reallychangeits(flawed)modelofmonetarypolicyuntilaftertheGreatInflation.So
whatforcescouldhavepushedtheFedtoimproveitspolicymakinginthemid
1930sintheabsenceofthereorganization?
4.ReformoftheFed
TheGreatContractionwasblamedonthebanksandtheFederalReserve,especially
theNewYorkReservebank.Thisledtomajorreformsofthe1913FederalReserve
Act.ThefirstreformwastheGlassSteagallActof1932whichamongstotherthings
greatlyincreasedthecollateralthatReservebankshadtoholdagainsttheirnote
anddepositswhichallowedthemmoreflexibilityintheirdiscountingpolicy.The
1933GlassSteagallactsplitcommercialfrominvestmentbankingandcreatedthe
FDIC.ItalsochangedthenameoftheOMPCtotheFederalOpenMarketCommittee.
The12ReservebanksremainedmembersoftheFOMCandtheFederalReserve
Boardwasgivenclearauthorityoverinitiatingopenmarketoperationsbutthe
reservebanksstillhadtheoptionofoptingoutofactionsrecommendedbythe
Board.
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Themostsignificantchangestotheactoccurredinthe1935BankingAct.
MuchofthelegislationwasdraftedbyMarinerEccles,Roosevelt’schoicetobe
ChairmanoftheBoard,andLaughlinCurrie,hisaideatTreasury.Eccleswasa
KeynesianbeforeKeynes’s,GeneralTheory(Meltzer2003).Hewantedthefederal
governmenttocontrolboththeleversoffiscalandmonetarypolicytoraise
aggregatedemand.HisplanwastoremovetheReservebankscompletelyfrom
FederalReservedecisionmakingandmakethembranchesoftheBoardin
Washington.HoweverhisbillwasblockedbyCarterGlass,oneoftheframersofthe
originalactandsointheactthatwaspassedtheReservebanksmaintainedan
importantbutsubsidiaryrole.
The1935actreplacedtheFederalReserveBoardbytheBoardofGovernors
oftheFederalReserveSystem.Thepresidentappointed7governors,subjectto
senateapproval.ThesecretaryoftheTreasuryandtheComptrolleroftheCurrency
wereremovedfromtheBoard.All12ReservebankPresidents(demotedfromthe
titlegovernor)remainedontheBoardbutonly5couldvote(oneofwhichwasthe
NewYorkReservebank).Theotherfourvotingpresidentsservedonarotating
basis.ThevotingproceduretonominateReserveBankPresidentswasnotchanged,
Otherimportantchangesweretothesupervisionandregulationofmemberbanks
whichbecameunderthepurviewoftheBoardthentobedelegatedtotheReserve
Banks.Alsotheresponsibilityforinternationaleconomicpolicyshiftedfromthe
NewYorkReservebanktotheBoard.
OncetheBillwaspassed,powerirrevocablyshiftedfromtheReservebanks
totheBoardofGovernors.Howeverfromthemid1930suntil1951,theFederal
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ReservewassubservienttotheTreasuryandmonetarypolicywasgearedto
pegginginterestratesatalowleveltofacilitateTreasuryfunding.TheFederal
Reserveactedindependentlyonlyonce,in1936‐37,whenitdoubledexcess
reservestopreventthecommercialbanksfromfuelinganotherspeculativeboom.
Thisaction,accordingtoFriedmanandSchwartz,ledtoasevererecessionin1936‐
37.DuringWorldWarIItheFederalReserve,adefactobranchoftheTreasury,
servedasanengineofinflationtofinancethewareffort.
5.BoardofGovernorsReservebankRelations1951to2006
Arunupofinflationinthelate1940sledtheFederalReserveSystemtopushfor
independencefromtheTreasurytobeabletoraiseinterestrates.PresidentSproul
ofNewYorkledthecampaignwhichwasfinallysuccessfulintheFederalReserve
TreasuryAccordofMarch1951.(seeMeltzer2003chapter7andBordo(2006),for
thedramaticdetails).WilliamMcChesneyMartinbecameChairmanoftheboardin
1951.UnderhistutelagetherewasconsiderableharmonybetweentheBoardand
theReservebankswiththepossibleexceptionofthedebateinthe1950sbetween
theBoardandNewYorkover“billsonly”(whetheropenmarketoperationsshould
beconductedonlyinshorttermTreasurybillsoralsoinbillsoflongerduration,the
Boardwantedbillsonly,theNewYorkFed,longerdatedsecurities),whichinthe
endtheBoardwon.
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IntheearlyMartinyearsbefore1965,theFOMCwasruninaverycollegial
mannerandtheReservebankmembers.,especiallyPresidentHayesofNewYork,
hadaconsiderablesay.TheearlyMartinFedwasmostconcernedwithmaintaining
lowinflationandmaintainingbalanceofpaymentsequilibriumtopreservethe
BrettonWoodsSystem.Problemsbeganin1965withthebeginningoftherunupin
inflationthatwouldbecometheGreatInflation.Underpressurefromthe
AdministrationtofollowexpansionarymonetarypolicytoeasetheTreasury’s
financingoftheVietnamWarandPresidentLyndonJohnson’sGreatSociety,the
Board,whosemembersbecameincreasinglyinfluencedbytheKeynesianthinking
oftheeconomicsprofessionandtheAdministration,followed“evenkeelpolicies‘
whichledtomonetaryexpansionandabuildupofinflation(Meltzer2010).
DuringtheseyearstheFederalReservebankofSt.LouisunderPresidentDarryl
Francisplayedanimportantroleas‘amaverickReservebank’.3Francisandhis
researchdirectorHomerJones(formerteacherofMiltonFriedmanatRutgers
University)adoptedthemodernquantitytheoryviewsofFriedmanandcontinually
criticizedtheBoardforitsinflationarypoliciesbasedonitstargetingof‘netfree
reserves’.(excessreserveslessborrowings)andthetargetingofshortterm
interestratestocontrolthe”toneandfeelofthemoneymarket”.Researchersat
St.Louispresentedpowerfulevidenceagainstthefreereservesdoctrine(Meigs
1976).TheymadeastrongtheoreticalandempiricalcasefortheFedtofocuson
targetingmonetaryaggregatesandtotalreserves.TheyarguedthatiftheFed
3Francis‘spredecessoratSt.Louis,D.C.Johnswasalsoapioneeradvocateformonetarytargetinginthe1950saswasPresidentMalcomBryantoftheAtlantaFed.SeeWheelock2000,andHafer,!997
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controlledthemoneysupplytheycouldreduceinflation.FrancisandJones’s
advocacydidnotswaytheBoardinthe1960s.Indeedsomememberswantedto
stifledissentandhavetheentireSystemspeakwithonevoicebutthiswasnot
strictlyenforced,eitherbyMartinorbyhissuccessor,ArthurBurns(whowas
considerablylessforgivingofdissent).
MonetaristideasbegantoinfluencetheFedduringthe1960sand1970s
whentheresearchstaffattheBoard,followingSt.Louis’slead,begantopresent
monetaryaggregatesdata,andintheHumphreyHawkinsActof1977,whenthe
CongressrequiredthattheFedpresentsuccessivelylowertargetrangesofmoney
growthtograduallyreduceinflationandtojustifysignificantdeparturesfromthe
targets.TheSt.Louisapproachwasfinallyvindicatedin1979whenPresident
CarterappointedPaulVolckerasChairmanoftheBoardwiththemandatetobreak
thebackofinflationandinflationaryexpectations.VolckertookapagefromtheSt.
Louisscriptanddrasticallycutmoneygrowthandallowedinterestratestorise
dramaticallyinacleardeparturefromtheFed’straditionaltargetingofshort–term
rates.
AftertheVolckershock,inflationandinflationaryexpectationsdroppedby
themid1980s.Otherseminalcontributionstothemonetarypolicydebateinthe
1970sand80sthatcamefromtheReserveBanksincludedrationalexpectationsand
theverticalPhillipscurve(WillesinMinneapolis);thecaseforapriceleveland/or
aninflationtargetwhichcamefromCleveland(Hoskins);andthecaseagainst
Federalreserveparticipationinexchangemarketinterventiononthegroundsthat
itconflictedwithcredibilityforlowinflationwhichcamefromRichmond(
16
Broaddus)andCleveland(Jordan).ThustheReservebankshadastrongvoiceinthe
makingofpolicyduringtheGreatInflationandtheGreatModeration.4
6.TheFinancialCrisisandBeyond
TheCrisisof2007‐2008wasmanagedbytheFOMCandtheNewYorkReserve
bank.Theyquicklydevelopedextensionstothediscountwindowmechanismto
overcometheproblemofstigma(theTAF)andmanyfacilitiesthatprovidedcredit
tothesectorsoftheplumbingthatlaybeneaththeshadowbankingsystem.They
alsoextendedtheBrettonWoodseraSwapnetworktothecentralbanksofthe
advancedcountriesandpreventedagloballiquiditycrisis(Bordo,Humpageand
Schwartz2015).DuringthisperiodseveralReservebankPresidents(Lackerof
Richmond,PlosserofPhiladelphia,HoeningofKansasCityandFisherofDallas)
expressedtheirconcernsoverthegrowingusebytheFedofcreditpolicywhichisa
formoffiscalpolicy,overthebailoutsofinsolventnonbankfinancial
intermediariesandthegeneralextensionofsection13(3)ofthe1935BankingAct
whichallowedtheBoardofGovernorstoextendthediscountwindowtononbanks
inthefaceof“unusualandexigentcircumstances”.Theywereconcernedthatthese
policiesposedathreattotheFederalReserve’sindependence.Afterthecrisis,these
issueswerebroughtupintheFinancialCrisisInquiryReportof2010.Anotherissue
thatgotconsiderableplaywasaconflictofinterestbetweentheDirectorsofthe4InthisperiodPresidentGaryStern(2004)raisedagrowingconcernabouttheriseof‘moralhazard”intheFed’slenderoflastresortpolicywhichsincethePennCentralbailoutin1974andthatofContinentalIllinoisin1984hadestablished“TooBigtoFaildoctrine”.AlsoseeBordo(2014)
17
NewYorkReservebankandsomeWallStreetfirmsafteritwasdisclosedthata
directoroftheFedsimultaneouslywasapartneratGoldmanSachs.Anothercritique
oftheNewYorkFed’sgovernancewasthecloseconnectionbetweenFedleaders
andWallStreet.Thishasbeenaperennialcritiquethatgoesbacktotheclandestine
JekyllIslandmeetingheldin1910thatcreatedtheoriginalAldrichAct.Asa
consequencetheDoddFrankActof2011madeasignificantchangetothevoting
proceduresoftheBoardofDirectorsoftheReservebanks.NolongerwouldClassA
directors(bankers)beallowedtovoteforthePresidentoftheReservebank.
OtherreformsrelevanttotheFederalReservethatcameoutofDoddFrank
weretheprohibitionof13(3)lendingtolargenonbankfinancialinstitutionsand
thattheFederalReservecouldonlyuse13(3)torescuegroupsofinstitutionsafter
clearancebytheTreasury.
TherehasbeenacontinuousbacklashagainsttheFederalReservesincethe
crisis.CongressmanRonPaulcalledforabolitionoftheFedandareturntothegold
standardandfreebanking.OtherCongressmanhaveadvocatedauditingtheFed’s
monetarypolicydeliberations,requiringthePresidentoftheNewYorkbanktobe
appointedbythePresidentsubjecttoSenateapproval—amovethatwould
strengthentheadministration’sinfluenceontheBoard.PeterContiBrown,alawyer
,arguedatarecentBrookingsconference(March2015)thattheFederalReserve
ActwasunconstitutionalbecausethePresidentoftheUnitedStateshadtogo
throughtwolayersofbureaucracytoremoveaReservebankPresidentforcause.To
dosowouldinvolve:firstrequestingtheBoardofGovernorstorequesttheremoval
18
totheReserveBank’sBoardofDirectors;andthentheReservebankBoardof
Directorswouldhavetoagree.
HemakeshiscasebasedonaSupremeCourtdecisionintheEnroncasein
the1990s.HeproposesthatalloftheReservebankpresidentsbecomepresidential
appointeesandthattheReservebanksbecomebranchesoftheBoardofGovernors,
i.ehewishestogobacktotheoriginalEcclesPlanof1935.Doingsowould,as
CarterGlassrealized80yearsago,maketheBoardadirectagentoftheFederal
Government.
DoesthecaseagainsttheReservebanksmakeeconomicsense?Tothis
authoritdoesnot.Historysuggeststhatthefederal/regionalnatureoftheFedis
oneofitsgreatsourcesofstrength.Reservebankshavelongbroughtfresh
viewpointstothepolicymakingtable.TheReserveBankresearchdepartments,
startingwithSt.Louisinthe1960shavebeenbehindmanyofthepositive
improvementsthathaveoccurredinFedpolicymaking.Theseincludetheendingof
theGreatInflation,theGreatModerationandtheadventofcredibilityforlow
inflationandtheinflationtarget.Theseimprovementsbefore2002greatly
enhancedtheindependenceoftheFed.
Onewondersifamonolithiccentralbankwithitsboardappointedbythe
Presidentcouldhavemadetheseaccomplishment.Theexperienceofother
advancedcountrycentralbanksinthetwentiethcenturysuggestsnot.TheBankof
England,theBanquedeFrance,theBankofJapanandtheBankofCanadawere
subservienttotheirTreasuriesuntilaftertheFedmadeitshistoricchangesinthe
1980s,whichservedasanexampletothem.TheonlytwoexceptionsweretheSwiss
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NationalBankwhichhasalwayshadacultureofpricestabilityandalsoafederal
structureliketheFederalReserve(BordoandJames2008),andtheBundesbank
whichwasfoundedbasedonthestabilitycultureofmaintainingstablemoney(
Beyeretal2013).
7.SomeLessonsfromHistory
Thekeylessonthatcomesfromthishistoricalsurveyisthatthefederal/regional
structureoftheFederalReserveshouldnotbetamperedwith.TheReserveBank
PresidentsshouldnotbemadePresidentialappointmentssubjecttoSenate
confirmation.ThiswouldonlymaketheBoardofGovernorsmorepoliticizedand
wouldgreatlyweakenitsindependence.
FederalReservepowerwasgreatlyincreasedbytheDoddFrankbillwhich
madetheChairmanoftheFedtheheadofFSOC,theFinancialStabilityOversight
Council.AlsothenewConsumerProtectionagencyishousedintheBoard.This
increaseinpower,inasensecreatinganeconomicczar,byitselfposesathreatto
FedindependenceandtoAmericandemocracy
ThisisnottosaythatreformstotheFederalReservearenotnecessary
,includingimprovementsingovernanceandsafeguardsagainstconflictsofinterest.
AnotherreformlongdueistogeographicallyredistributetheReservebanksto
reflectthemassivechangesinthedistributionofUSpopulationsince1913.
AnindependentFederalReservecommittedtomaintainlowinflation,macro
stabilityandtoserveaslenderoflastresortisasafeguardagainsteconomic
20
instabilityandaprerequisitetosustainedeconomicgrowth.Followingrulesbased
monetarypolicyandlenderoflastresortpolicywouldgreatlyenhancethat
outcome.
References
AndreasBeyer,VitorGaspar,ChristinaGeberdingandOtmarIssing(2013)“Opting
OutofTheGreatInflation:GermanMonetaryPolicyaftertheBreakdownofBretton
Woods“inMichaelD.BordoandAthanasiosOrphanides(eds)TheGreatInflation.
Chicago:UniversityofChicagoPressfortheNBER
MichaelBordo,AngelaRedishandHughRockoff(2015)“WhyDidn’tCanadaHave
abankingCrisisin2008,orin1930or1907…?”EconomicHistoryReviewVol68(2)
February.
MichaelBordo(2014)“RulesforaLenderofLastResort;AnHistorical
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