Defending the Fed

UPDATE: Inflation's not the problem. And the 2009 Fed audit is here.

More than a century after Democrat demagogue William Jennings Bryan's "cross of gold" speech, bashing bankers remains popular. This disease is bi-partisan, as shown by the 20+ Republican and Democrat Senators who opposed Ben Bernanke's January 28th confirmation for a second term as Federal Reserve System chair. As this week's Economist observes:

[S]enators in both parties looked for a scapegoat for both the financial crisis and continuing economic hard times. One of the few things populists of both left and right agree on is that bankers have been rescued at the expense of ordinary Americans, with the Fed’s help.

Two legislators highlighted in the Economist are Representatives Alan Grayson (D-Fla) and Ron Paul (R-Tx). I'm no fan of either. And each has championed GAO audits of the Fed, proposals now embodied in Section 1000A of the pending HR 4173 -- The Wall Street Reform and Consumer Protection Act of 2009 -- which passed the House in December.

Notwithstanding the cheerleadering of blogger and commenter bobn, such notions are misguided:

• The Fed isn't an ordinary Federal agency: It derives its authority from Congress, but isn't subject to ordinary oversight. Instead, the Fed was established to be:

  independent within the government--that is, although the Fed is accountable to the Congress and its goals are set by law, its conduct of monetary policy is insulated from day-to-day political pressures.

  This was deliberate, as Thomas Cooley recently wrote in Forbes:

  [B]efore we rush to tampering with the Fed's independence, let's review why it is important. The answer is fairly simple. An independent central bank can focus on monetary policies for the long term; that is, policies targeting low and stable inflation and a monetary climate that promotes long-term economic growth. Political cycles, alas, are considerably shorter. Without independence from the political cycle the central bank would be subject to political pressures, which in turn would impart an inflationary bias to monetary policy. In this area politicians in a democratic society are shortsighted because they are driven by the need to win their next election. This is supported by empirical evidence. A politically insulated central bank is more likely to be concerned with long-run objectives.

  Despite the current credit crunch, independence remains the proper policy. Congressional audits could result in unwanted Congressional influence on monetary policy. As National Review editorialized opposing the proposed audits:

  Paul’s crusade invites politicians with two-year attention spans to meddle in the working of what is intended to be an independent central bank. We have had our complaints about Greenspan and Bernanke, but we do not relish the prospect of replacing their leadership with that of [Rep. Barney] Frank and [Sen. Christopher] Dodd.

• The Fed doesn't take taxpayer money: The Fed isn't funded via Congressional appropriations; rather, it generates its own income from "open market" transactions and regulatory fees paid by banks. That gives the banks a better "incentive and ability to monitor the Fed," as opposed to Congress. And the Fed doesn't try to generate profits; indeed, it refunds any surplus to the U.S. Treasury each year. All of which lessens any objective concern.



• The Fed already is audited: Paul and other bank bashers blather about the Fed's supposed lack of transparency. Yet the Fed has always been required to report to Congress. And it conducts internal audits, plus annual financial statements reviewed by an independent auditor. Recently, the latter function has been performed by Deloitte & Touche--the 2008 audited financial statement is here. Grayson and Paul have not pointed to any flaw in the audits already existing.
  
  Further, the Fed publishes weekly balance sheets, available here. And the GAO already audits some functions of the Fed. This is well more transparent than, say, the President's stimulus package job counts.

Conclusion: Bankers are no better, or worse, than anyone else. They aren't immune from critique. But bankers in general, and the Fed specifically, don't deserve the jibes of conspiracy theorists -- whether in service of "silver coinage" or "reform".

America has enjoyed almost three decades of relative price stability, in part thanks to the Fed. Nothing about the current recession undermines the need to preserve an independent central bank. Especially one independent of Representatives Grayson and Paul.