Spotlight on the Fed
"If there were no God," the French philosopher Voltaire famously opined, "it would have been necessary to invent one."
Once upon a time there was no Federal Reserve. But after the Panic of 1907, in which a group of bankers led by J.P. Morgan pooled their resources to bring order back to the nation's financial system, Congress and the Wilson Administration decided we needed a central banking authority to forestall future disruptions. Thus, the Federal Reserve was created in 1913.
So far the Presidential debates have been mercifully free of attacks on the Fed, but it will not last. More than a few of the candidates have been critical of the Fed in the past. Senator Rand Paul's father, Rep. Ron Paul, actually led a campaign to end the Fed, and is today demanding that the Fed be audited. Texas Governor Rick Perry has branded the Fed as "treasonous." New Jersey Governor Chris Christie warned the Fed's quantitative easing (QE) policies would "come home to roost" and Donald Trump said they had created a financial bubble.
Some of the distrust of the Fed harkens back to the Bretton Woods conference after World War II that led to abandonment of gold as the basis of U.S. currency, which some have never accepted. The 2008 financial crisis fueled a rebirth of Fed anxiety as the Fed slashed its target interest rate to zero and flooded the marketplace with $4 trillion in easy money through what it called quantitative easing. This action was unprecedented and made more than a few of us uneasy. The Fed made a compelling case that the nation was facing a dire crisis and that extreme measures were necessary, but some of us were concerned that the cure might prove worse than the disease.
The consensus among economists is that QE helped avert a possible depression. Even so, the crisis seemed to continue indefinitely and the downside was fairly obvious. By flooding the market with easy money, the Fed punished savers, fueled speculation, inflated the stock market and bailed out the big banks that caused the problem in the first place and do not seem in the least chastened by the experience.
Now the Fed is under the spotlight as it decides when and if to raise interest rates. Fed Chairman Janet Yellen needs to act decisively. A modest increase is unlikely to impact the economy very much and will serve to take the issue off the table going into an election year. To be sure, the hike is unlikely to mollify conservatives and will surely antagonize liberals who favor easy money policies. But it would be far better for the Fed to stir up its dust storm now and get it over with before the campaign season begins in earnest next year.
This is a delicate time for the Fed. There are many proposals in Congress that would curb the Fed's independence in one way or another. But while I am often a Fed critic, I do believe its independence from the political process must be respected. If monetary policy ever becomes a political football, the result will be chaos and instability that will roil world financial markets. The Fed must strive to fly beneath the political radar in the months ahead.