Sometimes guest blogger Lune sent us a piece on a post by Willem Buiter, “Stigma, Schmigma,” that I had included in Links last night. I had been tempted to comment on it, but events intervened, and Lune independently took up the mission.
Willem Buiter does a great takedown of the Fed’s policy of not disclosing the banks it has lent to nor the assets it has bought.
As noted in a previous blog entry, Bloomberg News has filed suit against the Fed to force it to disclose the transactions it has undertaken through its various lending programs. While the details of statutory authority and application of the Freedom of Information Act to a private entity such as the Fed (more specifically the Federal Reserve Bank of NY) will have to be hashed out in court, Buiter analyzes the policy reasons behind the Fed’s secrecy and finds them wanting:
The argument is that to reveal that a bank has chosen to use (or been compelled to use) the lending facilities of the central bank, would cause this bank to be perceived as less creditworthy than before (and than it would have been if its use of central bank facilities had not been revealed). As a result, the bank becomes a less attractive counterparty in private financial transactions. It becomes more costly and more difficult, perhaps impossible, for that bank to fund itself privately. Using the loan facilities of the central bank could therefore, paradoxically, lead to the funding situation of the bank being worse than it would have been had it not borrowed from the central bank.
Buiter argues that there are three possible outcomes from Fed disclosure:
Banks aren’t stigmatized. No problem here.
Banks are stigmatized, but it’s a legitimite stigma (i.e. people do have reason to be concerned about its credit worthiness). Again, no problem, because if the Fed’s lending facilities do their job, the banks should become sound again, or else the banks should be folded up. That is the purpose of the Fed’s program right?
Banks are stigmatized, but this stigma is undeserved. Not a problem, because if it’s undeserved, then the banks have enough capital to continue to function. If “stigma” can force a “sound” bank to fail, then it’s not really sound in the first place.
In the second part, Buiter argues that the real cause of a bank’s “stigma” is not the revelation of its transactions with the Fed, but the lack of revelation of the rest of its transactions. This inability to accurately evaluate a bank’s balance sheet means that the market is unable to determine good credit risks from poor ones, and must use imperfect secondary information (such as borrowing from the Fed) to try to make a guess. Thus, stigma is caused by asymmetric information in general rather than because of Fed transactions. And thus, the answer to stigma is more disclosure, not less.
His final conclusions are worth considering as well:
In my view, the true reasons for the unwillingness of the central banks to make public the identities of the banks using their liquidity or lending facilities have nothing to do with stigma. For the banks, commercial confidentiality is an overriding concern. They see the revelation of the identities of banks borrowing from the central bank as the thin end of the wedge towards more onerous reporting and audit obligations. Even if shareholders might be interested, management and captive boards would not be, as it would dilute their discretion to manage the bank for their own purposes.
There are wider political externalities associated with accepting ‘stigma’ as an argument for hiding relevant information about the use of public resources. It would create a dangerous precedent as regards accountability for the use of public resources in other areas than liquidity support by the central bank. I am sure many other beneficiaries of state’s financial largesse would prefer to have their names kept out of the papers. They should not be granted this wish. Accountability for the use of public funds is well worth a bit of stigma.
For the central banks, the refusal to reveal the identities of the borrowers is partly just the manifestation in this particular setting of a long-standing central bank obsession with secrecy and confidentiality. This goes back to the period of central bankers as performers in quasi-religious mysteries, with central banks as their temples. Significant remnants of this ethic can still be found on the European continent and in the US – less so in the UK.
Many central banks are also far too close to the banks they deal with – they have been the objects of cognitive regulatory capture or other forms of regulatory capture. As a result they tend to act as advocates or lobbyists for the banking sector rather than as supervisors, regulators and sources of scarce public funds that have to be properly accounted for.
In addition, revealing the identities of the borrowing banks is likely to be seen by the central banks as part of a political drive towards greater accountability by the central banks for their use of public resources – as asset managers or indeed as portfolio managers. Central banks rightly fear that the pursuit of their traditional objectives – price stability (or price stability and full employment) and financial stability – could be impaired by too close a scrutiny of their performance as managers of ever larger and ever more risky portfolios of public and private securities. Well, welcome to the 21st century world of central banking.
This is all there is. You break it, you own it, even if you broke it in a worthy cause.
Buiter is right to note the dangerous precedent the Fed is setting. After all, the bailout of the auto makers has been debated in full view of the public, including congressional hearings where the CEOs themselves had to testify as to the health of their companies and their plans for the future. The automakers could easily argue that such open disclosure of their ill health has led to adverse effects (anyone seen the discount on GM’s commercial paper lately?). In the future, why should any industry be forced to endure such “stigma” if the banks are protected?