The Fed, having performed abysmally in recognizing the growth of a global debt bubble, and then having botched the early-stage reactions (after each of the first three acute phases, it went into Mission Accomplished mode), now is pushing not simply to hold its turf, but expand its sphere of influence. From the New York Times:
In a speech Wednesday to the Council on Foreign Relations in Manhattan, Richard W. Fisher, president of the Federal Reserve Bank of Dallas, compared the financial crisis to a near-fatal heart attack.
He warned that stripping the Fed of its supervision powers “would be the equivalent of ripping out the patient’s heart.”
Mr. Fisher added: “That would surely prevent another heart attack but would likely have serious consequences for the patient.
The amazing bit is that the Fed keeps shamelessly harping on the “we stopped the crisis” message, trying to drown out anyone who points out inconvenient facts, like its abject failures before and during the crisis, and even worse, its apparent lack of recognition that its performance left a great deal to be desired. For instance, why was the Fed caught utterly flat footed by the failure of Lehman and the risk posed by AIG? The big reason for not letting Bear go was concern over credit default swaps counterparty failures. Lehman, Merrill, and UBS were all known to be wobbly when Bear failed. The first order of business should have been to understand the CDS market much better, to map the nature and extent of exposures. The Fed, in concert with the ECB and the Bank of England, should have gone on full bore data gathering mission to understand the issues and problem involved with the CDS market. Even a superficial inquiry would have led them straight to AIG.
If the Fed exhibited some humility and had engaged in some post-mortems to understand what it needed to do better next time, I’d have far more respect for it as an organization. But it bears all the hallmarks of being arrogant, insular, jealous of its authority, and resentful of legitimate criticism.
The Fed refuses to recognize the fact that it failed abysmally as a regulator and it wants a bigger regulatory role. Or more accurately, it wants oversight responsibility, but is likely to continue to rely heavily on self-regulation. Willem Buiter, a former central banker and now chief economist of Citigroup, once said that regulation is to self regulation as regard is to self-regard.
And if you think I am exaggerating, consider: the Fed, in Congressional testimony, said it intended to rely on and improve on the stress test approach used in 2009 (and the improvements, needless to say, were on the macro data side). Yet the stress tests greatly understated the true capital needs of banks. Josh Rosner at the Roosevelt Institute Let Markets Be Markets symposium, pointed out that the stress tests had grossly underestimated losses from second mortgages, and allowing for that alone would reveal that many banks needed to go back to the TARP trough. But no one involved can possibly admit failure, so the charade that the stress tests were a good idea is not simply being kept alive as a necessary bit of propaganda, but are actually going to be hard coded into continuing practice.
So who does this arrangement serve? Aside from the Fed, the industry, of course. Simon Johnson, in his talk at the same conference, made an aside that if the IMF found a governance structure like that of the Fed, it would deem it to be unacceptable. Even though it came at the end of the article, the New York Times deigned to mention the Fed’s problematic structure and Congressional concern over it, which says the issue is still a live one:
Critics of the Fed say the district presidents are often too cozy with the banks they regulate. The 12 banks have their own boards, which choose the presidents, in consultation with Fed headquarters.
Member banks elect two-thirds of each board (half are bankers and half are other members of the public), and the Fed’s board of governors names the remaining third.
“I always thought that the reserve banks, the way they appoint the presidents, was a conflict of interest,” said Senator Richard C. Shelby, the senior Republican on the Banking Committee. He said of the member banks, “They appoint their own regulator, and I’d like to knock that out.”
Damon A. Silvers, policy director at the A.F.L.-C.I.O., agreed. “If the Federal Reserve is going to have additional regulatory responsibility, it should be clear that it’s a public body, and not a self-regulating body or an arm of the banks,” he said.
I am told that the fight over Bernanke’s reappointment did penetrate the Fed’s reality distortion sphere, but its response, like Team Obama, is that it needs to conduct a PR campaign rather than take the critics’ case seriously. That means that even more pressure needs to be applied.