I had hoped to hold off on posting about Fed governance for a bit—I’m close to finishing the first draft of a book on this topic, called The Structure of Federal Reserve Independence, and will be spending a lot of time blogging about its contents once it hits the shelves in the middle of next year.
The story is an independently fascinating one, about secret recordings and feckless bank regulators. As Lewis noted, though, “You sort of knew that the regulators were more or less controlled by the banks. Now you know.” There is nothing new to see here, folks.
What is interesting to me as a financial historian and legal scholar is not that this occurred—baked into the very DNA of the Reserve Banks is a banker orientation that has made these kinds of instances rather commonplace. Indeed, this was the manifest justification for the inclusion of the Reserve Banks into the original Federal Reserve System.
What is more interesting is why these Reserve Banks continue to exist in their present form at all. To be sure, they changed in form and structure dramatically in 1935: prior to this “second founding” of the Federal Reserve, the Reserve Bank Presidents—then called “Governors” to increase their stature within the System—were essentially autonomous from the Federal Reserve Board. But this ended in 1935 with the frank acknowledgment that the original System didn’t work, and the public accountability for the System’s central bankers was essentially non-existent.
And yet the Reserve Banks continued, albeit in weaker form, because of their political support from a fading giant. Carter Glass, the House architect of the Federal Reserve System turned Chairman of the System under Woodrow Wilson turned Fed protector in the Senate thereafter, fought hard to keep FDR and Marriner Eccles from resigning the Reserve Banks to the dust bin of history. Glass gave up much, but preserved their existence and their participation in the newly constituted Federal Open Market Committee. The Reserve Banks lived to fight another day.
But just because Carter Glass—who said that he loved the Federal Reserve System as it existed in 1913 as much as anything, next to his own family—thought they should doesn’t mean we should share the opinion. And I’ve got serious doubts on both constitutional and policy grounds. Constitutional grounds because they, especially through their votes on the FOMC, are exercising federal authority as principal officers of the government with neither an appointment by the President nor supervision of one the President appoints. Even if you accept the somewhat circuitous doctrine of appointments and removability as described most recently in Free Enterprise Fund v. PCAOB, the Fed just doesn’t pass muster: if the PCAOB was Humphrey’s-squared, as Judge Kavanaugh put it, the Reserve Bank presidents are Humphrey’s-cubed (as I’ve said elsewhere, don’t expect litigation to solve this problem: the DC Circuit has fashioned an unusual doctrine of justiciability specifically to avoid this kind of litigation, and anyway, judicial solutions to problems of central bank design ain’t exactly the best).
On policy grounds because, well, just listen to the tapes. Whatever benefits come from this kind of proximity—and as I argue in the book, there are real benefits—the conflicts of interest are just staggering any time the policy decision pits the banks against the public, rather than the banks against themselves.
What to do about this? I say we sprint toward one of two opposite directions, with ambivalence between them: either eliminate them entirely and let the Fed set up branches wherever it will (not unlike, by the way, the version of the Federal Reserve Act passed by the House in 1913). Or we give them more of stature that is also more discernible to the public by making the Reserve Bank Presidents subject to a traditional Appointments Clause procedure: the U.S. President appoints, the Senate consents. The mushy middle we occupy now—are they public? Are they private? Do they even know?—is bad for accountability, bad for Fed independence, bad for bank regulation, and anyway, probably unconstitutional.