Jun 1 2010

Framing the Fed as Financial Philosopher Kings

'Independent' of the public, but not bankers

Ben Bernanke--Photo Credit: Flickr Creative Commons/Gerald R. Ford School of Public Policy

Ben Bernanke–Photo Credit: Flickr Creative Commons/Gerald R. Ford School of Public Policy

The fact that there was any doubt about Ben Bernanke’s reconfirmation as chair of the Federal Reserve drove corporate media into a state of high anxiety.

“The battle over Bernanke’s confirmation has been a test of central bank independence, a crucial element if the Fed is to carry out unpopular but economically essential policies,” an AP news story reported (1/28/10). A Washington Post editorial (1/25/10) fulminated:

By threatening his tenure for no apparent reason other than political panic and pandering, his new opponents have turned this confirmation process into a test of central bank independence, which is an indispensable element of modern economic management. If a stampede of spooked senators were to trample Mr. Bernanke’s confirmation, the message to markets would be that the value of the U.S. dollar is hostage to short-term politics. That would deliver a huge, possibly lasting, blow to the economy.

U.S. News editor-in-chief Mortimer Zuckerman (USNews.com, 11/23/09) wrote:

The Fed may be less popular today on Capitol Hill, but there is no other institution—certainly not Congress itself—that has the sophisticated understanding and detailed knowledge to monitor the financial health of the banking firms and that possesses the relative degree of independence from political pressures that the Fed has exhibited over many years.

This notion of “independence” envisions the Federal Reserve as an organization of financial philosopher kings who are above the nasty world of politics, allowing them to wisely guide the economy away from danger—so long as they don’t have their elbows jostled by know-nothing elected officials. There’s nothing like the Fed to bring out the establishment journalist’s disdain for democracy—or what a Denver Post editorial (1/26/10) called “political whimsy and passions.”

The L.A. Times (1/4/10) editorialized against a bill by Rep. Ron Paul (R.-Texas) that would allow congressional audits of the Fed, saying this “would just give lawmakers another way to browbeat the Fed to adopt monetary policies more popular with the voters back home.”

Even on the rare occasions when news outlets were critical of Bernanke—out of 22 daily newspaper editorials about his renomination, Extra! found only four opposing another term—the criticism was often presented as a defense of the Fed’s independence, rather than a challenge to it. As the Murdoch-owned Wall Street Journal (12/4/10) wrote: “We see little in the chairman’s policy history or guideposts to suggest he will be willing to endure the criticism that will come with tightening money amid a lackluster recovery, if that is what is required to protect the dollar or prevent an inflation outbreak.”

Largely missing from the discussion of Bernanke’s reconfirmation was a crucial word for understanding the Fed: bankers. What ensures the Fed’s “independence” from Congress is that key parts of the system are privately owned, and the owners are the nation’s largest banks. As William Greider, one of the Fed’s most clear-eyed critics, has written (Nation, 8/3/09):

The Fed was designed as a unique hybrid in which government would share its powers with the private banking industry. Bankers collaborate closely on Fed policy. Banks are the “shareholders” who ostensibly own the 12 regional Federal Reserve banks. Bankers sit on the boards of directors, proposing interest-rate changes for Fed governors in Washington to decide. Bankers also have a special advisory council that meets privately with governors to critique monetary policy and management of the economy.

Seven of the 12 members of the Federal Open Market Committee—which carries out the Fed’s main task of guiding the interest rates at which businesses and individuals can borrow money—are nominated by the president, while the other five are picked by the privately owned regional banks. So in theory, a slim majority represent the interests of the country rather than the interests of the banks. But in practice, the political appointees often come directly from the banking industry—one current member was president of the American Bankers Association in 2004-05—so the views of the financial industry inevitably prevail.

Can anyone argue with a straight face that companies like Goldman Sachs, Morgan Stanley, Citigroup and Wachovia—each of which has alumni on the FOMC—have the public good rather than their own private profits as their primary goal? Yet that is what media are in effect asserting when they insist that the Fed’s independence has to be protected against the meddling of politicians. As economist Mark Weisbrot (Guardian Unlimited, 2/15/10) has argued, “The problem is not that central banks need to be ‘independent’ of political influence—rather, they need to be held accountable to the public instead of answering to the all-powerful financial sector.”

The Fed is mandated by law to promote full employment as well as low inflation. The main way it is supposed to do this is through its power over interest rates, setting them low enough to encourage spending and investment but not so low as to encourage the economy to “overheat.”

As you would expect from an institution dominated by bankers, however, the Fed is generally much more worried about inflation than unemployment; since banks have a great deal of money, they have a powerful interest in maintaining its value. This is true even in a time like the present, when unemployment is punishingly high and inflation vanishingly low. (In 2009, for the first time in more than half a century, the Bureau of Labor Statistics’ inflation rate was actually negative—a 0.4 percent deflation rate.)

The Fed has responded to this situation by reducing its rate target to virtually zero, so there is nothing more that it can do with its basic tool to promote growth. But critics have pointed to a number of unconventional options that the Fed has to encourage economic expansion that it has not chosen to make use of (Paul Krugman, New York Times, 12/11/09; Yglesias, 1/27/10). When economist Brad deLong pointed out the Fed could help create jobs through one such policy that would allow for slightly more inflation, Bernanke’s response was telling (Yglesias, 12/17/09):

In theory, such an approach could reduce real interest rates and so stimulate spending and output. However, that theoretical argument ignores the risk that such a policy could cause the public to lose confidence in the central bank’s willingness to resist further upward shifts in inflation, and so undermine the effectiveness of monetary policy going forward. The anchoring of inflation expectations is a hard-won success that has been achieved over the course of three decades, and this stability cannot be taken for granted.

In other words, fighting inflation is more important than promoting employment—even when there’s no inflation at all, and one out of 10 workers is officially out of work (including one in six black workers). Thus the person tasked with guiding the U.S. economy embraces the perspective of the financial industry—with the overwhelming endorsement of the U.S. corporate press.


Research assistance: Kim Gynnerstedt, Carlos Sanchez.