By Dan Kervick
It is being reported that the President will nominate Janet Yellen to be the next Chair of the Federal Reserve Board of Governors. Yellen was the obvious candidate all along, and it’s a very good thing that Obama’s earlier preference for Lawrence Summers, a key architect of the deregulated neoliberal regime of the 80’s and 90’s that helped bring us the financial collapse of 2008, was vigorously shot down by critics. The most important challenges for the next Fed chief will be in the area of financial system regulation, and despite the efforts by some of Summers’s closest friends and colleagues to give him a rush makeover as a born-again regulator, Summers was clearly not the right person for the job.
From what I am able to discern, Yellen is a highly professional economist and central banker. She appears to be driven primarily by a commitment to public service and a concern for sound policy, not by greed or vainglory. There are no indications that she is an insider party crony, a money-grubbing practitioner of revolving door politics and payoffs, or a would-be Emperor of the Universe. And so I am sincerely hoping that Yellen puts her professionalism into practice by fashioning herself into the least well-known and most unexciting Fed Chair in recent memory.
We need to end the barmy “maestro” system that has transformed Fed Chairs into rock stars, and turned every inadvertent nose-scratching by the Fed chief into a Page One story feeding hyper-reflexive and erratic market responses to real or imagined Fed signals. The maestro system, with its cult of superstitious fawning and slack-jawed wonderment at the Banker-In-Chief, has veered into extreme depths of perversity lately, as too-clever-by-half market practitioners attempt to outthink themselves at every turn, neglecting fundamentals and clinging to dotty theories about quantitative easing that turn good news into bad news and bad news into good news. The markets sometimes seem to have become nothing but free-floating postmodern casinos driven by arbitrary assignments of importance to Fed policy statements – and that’s a very dangerous thing for our economy. It will be interesting to see if Yellen is able to use her nomination hearings to make some suggestions about how to turn market attention back toward fundamentals, and away from self-accelerating monetary policy fantasies, pipe dreams and delusions. It will also be interesting to see if she is able to use the hearings to call on a derelict Congress to do its economic policy job.
I sincerely hope that five years from now hardly anyone pays attention to the news from the Fed, and that we hear little from our central bank other than some occasional inside page stories along the lines of “Banks Grumble about Tightening of Lending Rules”, “Fed Agrees with FDIC and OCC on Capital Rules Adjustments”, “Fed Shutters First Bank of Springfield” or “Fed Set to Release Newly Designed Ten Dollar Bill.”
The Fed is a bank, and serves as the organizing hub of our centralized banking system. It holds the deposits of its member banks and processes each member bank’s payments to and from the other member banks, as well as setting the interest rate at which these member banks lend to one another. The Fed also has broad powers to regulate its member banks, and as the central bank in the system, the Fed’s liabilities and credit functions are vital to the smooth internal functioning of the banking machinery. The Fed also manages the supply of interest payments from the government to the member banks and from the banks to the government, either by itself making or collecting these interest payments, or by playing an intermediary role in interest payments going to and from the US Treasury.
The Fed is also charged with supplying an elastic currency to the US economy. In carrying out this function, it broadly accommodates the expansion or contraction of money and credit in our economy, an endogenous process that is driven primarily by economic factors and government policies external to the banking system, and that the Fed helps stabilize, but no means directs or controls. The Fed’s own negotiable liabilities, in the form of physical currency, are supplied directly to the public in response to bank depositor demand during the ordinary course of bank lending and deposit management. And finally, the Fed holds the deposits of the US Treasury and acts as the US Government’s fiscal agent.
Somewhere along the ways and byways of economic theory, an unromantic grasp of the sober institutional reality just described was transformed into fantastical monetarist-inflected theories portraying the central bank as the omnipotent controller of the money supply, the guarantor of full employment and the driver of aggregate demand. A credulous tilt toward these extreme theories was even written into our laws during a period when monetarism was in the first flush of enthusiastic ascendancy, and a whole generation of economists and pundits has since been raised on them, and taught to look to the central bank to steer and power our economies. There is now a rather substantial cottage industry of influential economic pundits and policy economists who are personally and intellectually invested in central bank-oriented monetarism, and who have placed career bets on its continued thriving. So it may be hard to break the hold of these outworn and frequently failed theories on the public imagination.
Direction of macroeconomic policy in a democracy belongs with the political branches of government, not the central bank. The Fed should be a pliant accommodator of government policy, applying an unobtrusive stabilizing rudder as the ship of government pushes onward in whatever direction the people choose to sail it. The persistent magnification of central bank importance has helped lead to a generation of Congressional and Presidential buck-passing, and is in part responsible for the grossly inadequate and immoral response of government policy-makers to the crisis of 2008. Both in the United States and Europe, do-nothing legislatures and benighted or corrupt policy-makers have laid waste to a generation of unemployed and increasingly hopeless young people while the policy-makers sit back and pray for central bank rain dances and other snake oil cures to be effected by mere interest rate jiggering and asset shuffling.
The neo-baroque era of the Almighty Central Bank needs to end, and like a passing Sun King, the modern central bank as we have come to know and worship it needs to yield to a new era of engaged, democratic and politically responsive governments taking full adult responsibility for economic policy and the economic development of their societies. So here’s hoping for a successful, prosperous and entirely uneventful tenure for Janet Yellen as the Fed’s new chief, and a turn toward a new generation of activist economic policy driven by democratic citizens and their elected representatives, with central banks reduced to the role of providing helpful advice and obedient support.
Cross-posted from Rugged Egalitarianism