By David Dayen, a lapsed blogger. Follow him on Twitter @ddayen
The House-Senate conference on the highway bill represents a choice, with the Federal Reserve pitted against the big banks that partially own them. It’s not a choice we should have to make; the highway trust fund has a shortfall because we haven’t raised the user fee on roads, i.e. the gas tax, in over 20 years, and the severe antipathy to taxes of any kind left Republicans to hunt around the couch cushions for an alternative. So we are where we are now. And this choice between big bank profits and central bank independence is firmly in the hands of Janet Yellen.
Yellen, you see, was the one who decided to speak up and protect the big banks, when an egregious, 100 year-old subsidy became the best alternative to filling the highway bill’s shortfall. As Yves wrote in July:
Budgeteers have woken up to the fact that banks get a difficult-to-justify perk from membership in the Federal Reserve system, that of getting 6% annual dividend on the preferred stock that they bought at the time they joined. A draft bill by Senate Majority leader Mitch McConnell includes a provision that would cut the dividends to member banks with more than $1 billion in assets from 6% to 1.5%. He’s proposing to use it to help shore up the highway trust fund […]
But Fed chairman Janet Yellen did her turn as a bank lobbyist. She can’t take up the claim that this change would increase systemic risks, since the central bank runs stress tests on the biggest institutions and can simply require any that might fall short to lower their dividends to strengthen their capital levels. Instead, she throws out the strained argument that cutting this subsidy would hurt the Federal Reserve system […]
“This is a change to the law that could conceivably have unintended consequences,” Ms. Yellen said while testifying before the Senate Banking Committee on Thursday. “And I think it deserves some serious thought and analysis.”
This was a victory for ideology over reality. The only consequence of removing a risk-free 6% subsidy (which is tax-free for banks like JPMorgan and BofA who’ve been around before 1942) was that they’d have to find some way to earn profits instead of having them handed to them. There is simply no upside to leaving the Fed system: nationally-chartered banks must be members, and state-chartered ones must abide by the conditions of membership anyway. They get access to Fedwire and the discount window and all sorts of other perks, and they don’t need to double their stock purchase every 17 years as an extra incentive.
Yellen’s remarks really mattered. In Bloomberg’s tick-tock over how Wall Street lobbyists killed the bank subsidy in the House, they note that they quoted Yellen’s statement repeatedly to lawmakers. It was a central part of their strategy.
But Yellen should have been careful what she wished for. Because instead of cutting the bank subsidy, Wall Street’s finest in the House swapped it out with a different pay-for: eliminating the Fed’s capital surplus account. I wrote about this a week or so ago:
That’s essentially the Federal Reserve’s reserve fund, used to absorb temporary losses when the central bank adds to its balance sheet. Without a loss buffer, the Fed could show losses on its balance sheet, prompting cries of insolvency from Tea Party types. This could nudge the Fed to undesirably focus on making money to cool the political heat instead of doing what’s best for the economy. It’s a stealthy way to undermine the central bank.
It’s also a massive budgetary gimmick. The Fed already remits earnings from its balance sheet to the Treasury Department annually. This liquidation — with the Fed selling off interest-bearing assets — would reduce future earnings, just like cashing out your savings account eliminates future interest gained. But because Fed remittances aren’t on budget, it appears like it raises money. A 2002 Government Accountability Office report explains that reducing the capital surplus account creates phantom revenue for budget accounting, but would “not produce new resources for the federal government as a whole.”
Liquidating the account does take away one of the Fed’s tools to conduct monetary policy. In fact, the main policy tool it has left to ensure a particular interest rate involves paying banks interest on their excess reserves, a payment that’s already at $6 billion a year and will subsequently grow higher as rates rise. So not only did the amendment protect one big bank subsidy, it facilitated the continuation of an even bigger one.
Yellen did all that work and put her reputation on the line to protect the banks from harm, and what’s the payback? A stealth attack on the agency she chairs.
What’s interesting is that Yellen hasn’t said a word since this came down, even though it’s an open question what will happen. The Senate version lowers the bank subsidy and the House version cuts the Fed surplus account. There’s a conference committee that has to come up with a final bill by the end of the week, when highway funding authorization expires. Yellen weighing in, just as before, could make a difference. But she’s kept her trap shut.
Her predecessor, Ben Bernanke, called the surplus account nixing “a budgetary sleight-of-hand.” The sober centrists at the WaPo editorial board termed it a raid on the Fed. Yellen’s own vice chair, Stan Fischer, said it would be dangerous to use Fed funds as “quasi-fiscal policy.” (Let me state clearly that I don’t agree, mainly because the Fed already remits the money; this is just a shift from an undefined to a defined transfer.)
But Yellen hasn’t made a peep, with just days to go before the decision gets made. She could hide behind the fiction that the Fed chair shouldn’t get involved in legislative matters; but of course she had no problem doing that when the bank subsidy was threatened. You have to conclude that she would rather allow the weakening of the institution she runs than allow banks to use some of the government dole they benefit from.
I mean, it’s a clarifying moment at least, right?
UPDATE: Congress looks set to pass a two-week patch to extend the deadline out to the first week of December. Giving Yellen all the more time to weigh in.