ECON430-Topic #1: The Fed and Its Critics

The Federal Reserve is a unique institution in the American political landscape. The composition of the seven member Fed Board of Governors is made by appointment, subject to confirmation from the Senate. Recently, Richard Shelby (R-AL) was able to spearhead the effort to prevent Peter Diamond from being approved to the Board. There are currently only five members on the Board with two appointments due in the near future. Two economists, Jeremy Stein and Richard Clarida are currently being considered by President Obama to fill the open seats. The Board often has a somewhat different outlook when compared to the Presidents of the Federal Reserve Banks who often disagree with the Board. Fed Presidents who often dissent from the FOMC include Minneapolis Fed President Narayana Kocherlakota,  Charles Plosser of Philadelphia, Richard Fisher of Dallas, and Jeffrey Lacker of Richmond. The Fed Presidents have recently been more concerned about inflation than the Board, but the structure of the FOMC has kept their voices at bay for the last several years. Richard Clarida, was noted as saying the original quantitative easing plan was too small, but his record of research on the Fed has been pretty much aligned with the current mainstream. Jeremy Stein has been researching monetary theory and regulation for some time, and has been a leading thinker when it comes to the Fed in general.

Aside from the Senate confirmation process, Republican Presidential candidates, Ron Paul, Rick Perry, and Michelle Bachmann have all criticized the Fed in one way or another for their quantitative easing and other actions. Ron Paul has proposed ending the Federal Reserve, and ending their monopoly on printing money. Candidates Perry and Bachmann haven’t made impassioned pleas like Paul’s regarding the Fed, but their official stance has been against current Fed policy.  Presidential candidates often avoid discussing the Fed, and leave them to be as independent of the political process as possible. However, when crises occur, it is sometimes difficult to keep the Fed completely insulated from the political process.

Questions you might consider (Do not answer all points, just focus on one):

  • Do you support the nomination of Clarida and/or Stein? What do you think about the rejection of Peter Diamond since he was not considered a monetary economist but more of a labor economist? Does the Senate’s blocking of nominations undermine the independence of the Fed, or is it an important check on their performance?
  • Do you agree with any of the Republican candidates regarding the Federal Reserve? Why or why not? Should the Fed be left alone to do their job, or should they be subject to more “auditing” and oversight? Think about the definition of “treason” as it relates to recent Federal Reserve action.
  • How should the Fed respond to criticism. Recently Chairman Bernanke has started doing press conferences where he is asked questions about monetary policy rather than only speak to Congress. Do you believe the press conferences are a good idea? Or do you believe they could create uncertainty if the wrong thing is said?

13 thoughts on “ECON430-Topic #1: The Fed and Its Critics”

  1. I find statements made about the Fed by numerous right-wing politicians, particularly Rick Perry, incredibly troubling. The Texas governor suggests that Bernanke, by keeping interest rates low, conspires to strengthen Obama’s reelection bid (“playing politics”). Perry, claiming to be concerned about the possibility of inflation, feels the need to give Ben Bernanke an Economics lesson. In Perry’s economics laboratory, the failure of various stimulus policies over the least three years is enough evidence to dismiss decades of Keynesian scholarship– as he put it, “we’ve already tried this.”

    Ignoring the disastrous policy suggestion (it’s tough to believe he seriously supports raising rates right now), Perry’s over the top accusation of treason is concerning primarily due to the precedent it breaks–Fed independence. The Fed, by definition, is charged with maintaining stability in the economy, a task only possible with the near-complete political independence it enjoys today. If the Fed were controlled by the politicians, the economy would undergo enormous monetary policy changes every four years–probably more often based on public opinion shifts. Even before considering the possibility for really bad policy implemented by an underinformed politician, an unstable Fed would itself harm the economy–as the saying goes, “uncertainty harms economic activity.” Call me an elitist, but I’m far more comfortable with an independent Fed controlled by one of the smartest economists ever to come out of the Ivy League than a guy like Rick Perry–or Barack Obama, for that matter.

  2. The Republican candidates are finally going back to their roots of sound money and a strong US dollar. After seeing the value of the US dollar fall precipitously on international exchange markets over the last 10 years, this is quite comforting. Loose monetary policy under Greenspan was a contributing factor to the real estate bubble and the subsequent financial collapse. Now Ben Bernanke is doubling down on Greenspan’s mistakes by holding interest rates even lower for longer periods of time. Republican candidates understand that you can print money but you can’t print jobs.

    Considering chairman Bernanke has been wrong most of his life, replacing him and auditing the Fed makes a compelling argument. (1) Money is much too serious a matter to be left to central bankers(Milton Friedman), the Federal Reserve system needs to be audited and become inconsequential in the economy.

    Calling the Fed Chairman treasonous is not too extreme. Printing money is destructive to private property rights and freedom. Inflation destroys middle class America, currently consumer prices are up 3.6% year-over-year and M2 money supply is expanding rapidly.(2)

    1-http://www.youtube.com/watch?v=9QpD64GUoXw
    2-http://www.europac.net/commentaries/gold_true_reserve_currency

  3. For the first time in years, 2011 Gallup polls reveal that more Americans distrust the Federal Reserve Bank than trust it (1). In terms of the press conferences, the Fed itself claims that the purpose of such events will be to “improve the clarity and timeliness of its monetary policy communication” (2). With increasing pressure from Republican candidates and calls for “auditing” of its past decisions, these conferences could be an appropriate balance for the Fed between informing the public and still being able to perform its job independent of political shifts.

    As we discussed in Lecture 3, our central bank is much less restricted than others – in New Zealand, for example the chairman of the central bank risks being fired for incorrect predictions. While Bernanke’s choice to hold press conferences is a new practice for our central bank, others such as The European Central Bank hold conferences after every decision made (3). Events such as these help hold central banks accountable for their decisions and while they may initially cause some skepticism, I believe the practice of sharing information should eventually foster some level of trust in the Federal Reserve.

    1) http://www.gallup.com/poll/147095/Americans-Trust-Governors-Business-Leaders-Economy.aspx
    2) http://www.federalreserve.gov/newsevents/press/monetary/20110324a.htm
    3) http://www.marketwatch.com/story/fed-chairman-to-hold-quarterly-press-conferences-2011-03-24

  4. I do support the nomination of both Clarida and Stein because they both have been the supporters of more regulation to the financial institutions which have enjoyed the freedom of risk investments for decades and as a result they have become a burden to tax payers whenever they fail. Having them on board will help to put the Fed in check should the issue of using tax payer dollars to bail the so called “too big to fail” arise while putting pressure on the financial institutions to make secure investments. Mr Clarida also supports the use of quantitative easing which is the last policy awaiting implentation if the policies that are already in place fail to boost the crippling economy. On the other hand Stein advocates for the monetary policy theory as a key weapon to financial stability which is beyond any form of regulation such as capital bank requirements.
    The rejection of Peter Diamond does not make sense, a person of his caliber with vast experience in economic issues cannot be denied to serve in the Fed just because of one senatorial vote. If we look into the basis of his rejection,I don’t think, being the person that taught the current chairman,he would be unable to deal with the core issues currently affecting the economy .This rejection is clearly based on politics and not Peter inability to do the job.

    http://www.zerohedge.com/article/bernankes-mentor-diamond-rejected-senate-fed-board-after-shelby-alleges-lack-inkjet-cartridg

  5. Though calling the institution of the Federal Reserve treasonous is a little outrageous, the Republican candidates, most notably Ron Paul, have some solid arguments against the Fed’s recent practices. The two rounds of Quantitative Easing have boosted asset prices in the short run but have not brought about the promised economic growth and lowering of unemployment, leaving many in main street America wondering where the Feds interests really lie. This sort of distrust further fuels the “Tea Party” movement.

    Politics aside, Paul’s Austrian view places the blame of the continued financial crisis on Fed interventionist policy that worsens the boom and bust cycle of the economy. Paul makes valid points about the inflation risk of the continued printing of money and even pushed for an unsuccessful Fed audit in 2010. Ben Bernanke has expressed his opinion that an auditing of the Fed would result in Fed Policy directed in the interest of short term political gain rather than long term economic growth. On the more extreme end, Dr. Paul pushes for a return to commodity backed money and the end of the Fed. Though the complete elimination of the Fed and fiat money is radical and would lead to great economic turbulence. Dr. Paul’s push for some Fed transparency is an honest and worthwhile pursuit that would help build trust between the American people and that institution.

    http://www.ronpaul.com/on-the-issues/fiat-money-inflation-federal-reserve-2/
    http://news.yahoo.com/blogs/lookout/bernanke-auditing-fed-violate-bedrock-principal-central-banking-20110203-112747-856.html

  6. @Daniel Wilson
    If money is much too serious an issue to be left to central bankers, why then does it makes sense to leave monetary control in the hands of a policy that subjects our entire nation to external demand and supply shocks? While the fixed exchange rate made possible with a gold standard might be attractive in the sense that it insulates against internal money demand and supply issues, it does not overcome the price stickiness that erodes market efficiency in an international exchange rate sense. In addition, core inflation has risen at 2% over the past 12 months (1). Inclusion of food and energy in inflation figures overestimates the fed’s monetary movements.

    source: (1) http://www.usinflationcalculator.com/inflation/us-inflation-rises-3-8-on-12-month-basis-consumer-prices-advance-0-4-in-august-2011/1000911/#more-911

  7. I agree with the Republican Ron Paul, regarding the Federal Reserve. According to Ron Paul, the value of American dollar cannot be just given to a “secret” Central Bank. The Congress has created the Federal Reserve but without the legal authority to do so. Congress does not have any access to the secret conversations of the FED. On the other hand, FED would not discuss their plans with the Congress. According to Ron Paul, FED actions reduced purchasing power of dollar. The dollar today is a lot less, compared to the dollar when the FED was created.

    In my opinion the FED should be audited, as we know Ben Bernanke hasn’t been doing a great job at the FED. Auditing the FED will reveal the truth that has been hidden from tax payers. People have the right to know the truth about the FED’s actions. I think if the government wants to improve the economy, the FED would be a great place to start.

  8. Ron Paul is one of the most interesting politicians of our time. His most recent book, “End the Fed” made very clear his views on the Fed, as suggested by the title. He summarizes “when we unplug the Fed, the dollar will stop its long depreciating trend, international currency values will stop fluctuating wildly, banking will no longer be a dice game, and financial power will cease to gravitate toward a small circle of government-connected insiders.” The idea is the manipulation of the money supply and interest rates is counteractive to the natural market equilibrium. While the elimination of the Fed probably is not going to happen in the near future, Congressman Paul will settle for an unprecedented audit of the Fed, which he has proposed in his latest bill.
    The recent political crisis has made the actions of the Fed more of a public concern then ever, bringing it under scrutiny. Trillions of dollars have been injected in the economy and still output has stalled and unemployment remains high. Wages aren’t growing and interested rates are hardly affected, being nearly zero. The problem is consumer spending hasn’t increased. Money was put into buying bad assets and not into the spenders’ pockets. Now companies and banks are holding onto large amounts of unproductive cash and wont invest because interest rates are so low, making bonds essentially a cash substitute, just like what happened with Japans liquidity trap. The Fed mismanaged the quantitative easing packages, but more transparency or a full audit is the wrong idea. Much of the Feds influence comes from their independence of the political system (another issue Bernanke has mismanaged). Congressman Paul wants the Fed to be held more accountable, although I am against any more government involvement. Fed presidents need to be held accountable to the market not government audits and officials (regardless of the cost of such and action). Right now the Fed operates virtually without consequence. Penalties for officials aligned with market objectives and performance will maintain the Fed independence while integrating them more with the market.

    http://www.cnbc.com/id/32881898/End_the_Fed_Save_the_Dollar_Ron_Paul
    http://www.youtube.com/watch?v=2NJnL10vZ1Y

  9. I agree with Michele Bachmann In that the central banks quantitative easing policies have been a series of errors that should certainly not be extended. Quantitative easing policies have been used in the past to attempt to stimulate the economy back to a level of equilibrium. Sure equity markets and emerging markets have surged in months after quantitative easing in the past, but GDP and labor markets are suffering as a result. Higher energy costs are tightening consumer spending, which is countering the policies “effectiveness in the first place”. A major issue that the fed needs to address is the impact of QE policies on world economies. The liquidity being flushed into the economy is largely affecting many other economies who fix there exchange rate to the US dollar. This is boosting demand as well as prices for commodities and oil in other countries. Inflationary pressures are rising with each program. While easing may buy us some time to figure out a real solution to the problem, the USD is losing value raising borrowing costs for the US government. This can’t be helpful considering we are over 14 trillion in debt.

  10. I personally do not agree with any of the criticisms of the fed by the Republicans. In the heat of a presidential campaign, it is in all of these candidates’ best interests to make as much noise and point their finger as much as possible. As economist Vincent Reinhart put it, these politicians are simply, “tapping into the voting public’s anger at deficits and debt.” Putting all this political pressure on the fed does nothing to help solve any problems. The more publicity the fed gets and the more people that demand to have unnecessary press conferences with Bernanke, the less time and energy there is to be focused on actually solving the problem. The Fed for years has operated in an environment where Presidents have left the Chairman of the Fed to run his due course and there was also no outside pressure from any “potential presidential candidates.” Treason is an awfully harsh word to describe a group of people who are doing everything in their ability to fix a broken economy despite the power conspiracies the votes hungry politicians love to voice so often. These are men and women who have had a lifetime donated to providing a positive economic environment because they are the smartest people for the job and have no disincentive to have a well-run economy.

    As we spoke on it in lecture 3, the moral hazard issue comes into play when you start auditing the fed. How can you change someone’s behavior in a certain way if they know you are trying to? By giving out the values of the dollar and other inside information, you are only taking control out of the economically educated hands. This doesn’t even account for the costs involved with auditing the fed, which would be a further huge cost to hire accountants to look over the many transactions the Fed makes every day. The recent boost in the power of the Fed is apparent in these financial times, but its just the same as the President in Wartime, sometimes you have to trust the people appointed or elected to do the job they are asked to do. This is not an easy solve so I understand the value of patience in these trying times and I believe it is in everyone else’s best interests to do the same. Overall, I find these recent lashings to be another political blame game that holds no real solution to a problem that is the tremendously complicated U.S. economy.

    1)http://www.nytimes.com/2011/08/26/opinion/bernankes-perry-problem.html?ref=federalreservesystem

    2)http://www.nytimes.com/2011/08/17/us/politics/17perry.html

  11. Ron Paul’s suggestion that the Fed should be audited by Congress shows that he does not understand the consequences if the Fed loses its complete independence from any political pressure. It is vital that the Fed remain a separate entity so that it will be able to focus on its own dual mandate of keeping stable prices and low unemployment without any outside influences. Politicians from Congress or the White House have different incentives than someone from inside the Fed to conduct monetary policy.
    Government expenditures can be financed either by taxes, borrowing, or printing off money. No politician wants to announce that they are going to raise taxes or borrow more since that will repulse voters. So the politician could enforce printing off money, which much of the American public is ignorant to the fact that it has the same repercussions on their purchasing power as higher taxes, yet he or she won’t receive all the gripe. A vast amount of empirical evidence shows that when central banks were under the influence of political pressure lead to higher inflation and interest rates without promoting growth in the long run because of political business cycles (1). Ron Paul wants Congress to have some oversight over the Fed because he wants them to be more accountable for the recent bailouts but he is failing to see the bigger picture and the conflict of interests.
    1) http://moneywatch.bnet.com/economic-news/blog/maximum-utility/the-importance-of-fed-independence/151/
    2) http://money.cnn.com/2010/11/12/news/economy/Bernanke_Paul/index.htm
    3) http://www.ronpaul.com/congress/legislation/111th-congress-200910/audit-the-federal-reserve-hr-1207/

Leave a Reply

Your email address will not be published. Required fields are marked *