PDA

View Full Version : The US Federal Reserve – What does it do and who will replace Bernanke?




mrsat_98
09-02-2013, 06:08 PM
http://invezz.com/analysis/forex/119-the-us-federal-reserve-what-does-it-do-and-who-will-replace-bernanke

The US Federal Reserve – What does it do and who will replace Bernanke?

Time For A Woman At The Helm? 100 in December, the Fed has been mainly about men till now

by Frank Quin


‘Chairman’ originally ‘Governor’

There’ve been just 14 of them so far, an average of seven years’ service each, though two of them logged a total of 37 years and dealt with seven presidents between them. We are of course referring to the chairmen of the United States Federal Reserve System, to give the US central bank its full title. And yes, we use the gender-insensitive ‘chairmen’ advisedly, because there’s yet to be a woman in the job and because it’s the title which has been used by and in respect of every holder of the office since the Fed’s early days.

Although curiously not in the statute which brought the Fed into being, 100 years ago this coming December 23 with the signature of President Woodrow Wilson. In the Federal Reserve Act the ‘active executive officer’ of the Fed, appointed by the US president from amongst its governing board, is not the ‘chairman’ but the ‘governor’. The term ‘chairman’ was introduced by the Banking Act 1935, which amended the original statute. Perhaps ‘governor’ had on reflection smacked too much of absolute power and ‘chairman’ better reflected the collegiality with which the Board of Governors was supposed to operate.

Women originally not envisaged

And they weren’t in any event too bothered about gender sensitivity back in 1913, or 1935 for that matter, when the prospects of a woman holding the job of US Federal Reserve chairman must have seemed remote in the extreme. That may be set to change a century on though, with incumbent Deputy Chair Janet L. Yellen (note that subtle semantic change) a leading contender to succeed Chairman Ben Bernanke on his retirement next January 31. Assuming he does retire, and it’s being widely touted that he will. If Ms Yellen, a highly-respected West Coast academic and long-time public servant in a variety of roles, including a prior stint at the Fed itself, does get the job the media will have to get used to that ‘chair’ moniker, or perhaps ‘chairwoman’ will gain the ascendancy, but for sure ‘chairman’ is not going to cut it.

What does the Fed do?

So what does the Fed do, actually? Nowadays, its commonplace for countries of any consequence to have a central monetary authority operating outside the tripartite structure of government – owing its existence to the legislature and its key position-holders to the executive and of course answerable like everyone else to the courts. Even the People’s Republic of China has one – the predictably-named People’s Bank of China – looking and functioning for all the world like the Bank of England or Japan or indeed the US Federal Reserve, albeit in a one-party state where there can’t be any serious question as to who ultimately calls both the fiscal and the monetary shots (read: the Politburo Standing Committee of the Central Committee of the Chinese Communist Party).

But back in 1913, central banks were few and far between, at least in the New World. In the Old, the United Kingdom had one, as did The Netherlands – which can fairly claim to having the world’s oldest, the Bank of Amsterdam established in 1609 – and the model was well-established in a number of other European countries. But in the free-wheeling dawn of capitalism in the late-19th Century United States, the notion was anathema of some organ of central government telling the private sector how to organize its monetary affairs. A prior attempt had been abandoned in 1836.

The Panic of 1907


That lassez-faire sentiment came increasingly under pressure in a succession of monetary crises culminating in the ‘Panic of 1907’, as it came to be known. A bungled attempt in October that year to corner the copper market led to a run on New York banks and a crash on the NYSE which were prevented from going nationwide only by the bullying intervention – and millions in personally-risked funds – of mega-Rich Lister JP Morgan. In the aftermath, growing unease that the United States economy was essentially rescued by one private sector financier led to the formation of the National Monetary Commission, albeit chaired and populated by other private sector financiers, whose report led ultimately to the creation of the Federal Reserve.
Led to state intervention

Though not, as the commission had proposed, exclusively under the control of the nation’s commercial banks. The structure ultimately thrashed out in two years of congressional debate was – and remains – a curious admixture of private and public interest representation. At the core of that structure is the Board of Governors, whose seven members are nominated by the US president and confirmed by the Senate to serve a 14-year term. Typically the nominees are drawn from the upper echelons of academia and long-standing public service: of the current composition just one, Elizabeth Duke, came directly from the private sector and then from management in a community rather than commercial bank.

The district FR Banks and the FOMC

To the extent that the Federal Reserve has shareholders, these are the 12 regional (called ‘district’) Federal Reserve Banks, located in what were in 1913 all major cities of the United States, though each has branches elsewhere. Location-wise, the concentration is very much along the Eastern Seaboard and the Mid-West, with the West Coast having just the Federal Reserve Bank of San Francisco.

And dwarfing all the others in the size of its financial assets is the Federal Reserve Bank of New York, accounting for more than half of the $3.1 trillion in combined asset value of the 12 district banks. It gives the NY Fed special standing in the structure, a permanent voting place in a key plank of the Federal Reserve System, the 12-member Federal Open Market Committee, aka the FOMC.

As its name suggests, the FOMC’s primary role is to stand in the money markets, both domestically and internationally, for the purchase and sale of USD-denominated financial assets. With forex transactions, it’s obliged to coordinate with the US Treasury, which has responsibility for the dollar’s value as against other currencies, but otherwise the FOMC uses its trading function to influence short-term wholesale (and thereby retail) interest rates and the quantity of money in circulation. It does so with the aim of coordinating with the Fed’s other main planks for implementing monetary policy as calibrated from time to time by the Board of Governors, namely, fixing the interest rate for overnight interbank accommodation (the discount rate) and trading bank reserve requirements.

Apart from the Fed chair(man) him(her)self, the FOMC is the most visible face of the Fed. Its eight scheduled meetings each year are closely watched by the world’s financial markets and there is an entire industry built around the interpretation of member utterances outside the formal meeting environment.

The Fed – Money shock management

What then does the Fed do? In the end, the function of the Federal Reserve System today remains essentially what it was at its inception – the management of monetary shocks by an organ of elected government rather than their ad hoc remediation by a select group of extremely wealthy private citizens, the so-called ‘money trusts’ of 1907 vintage. Whether the focus is on curbing inflation, as in the 1970s say, or its stimulation as today, or short-term interest rates, or on GDP growth or employment, these are ancillary to the Fed’s raison d’etre, the maintenance of confidence in the US – and through it the global – monetary system.

By and large, and at least in the mainstream, the expert assessment is that the job has been done pretty well over the past 100 years. A singular exception is of course the Great Depression, which even incumbent chairman Ben Bernanke conceded – back in 2002, in a speech marking Milton Friedman’s 90th birthday – was precipitated by the Fed’s refusal to pour fresh accommodation into an increasingly starved money market, so turning a ‘Panic of 1907’ into a full-blown depression. It’s a mistake not being made today, with a staggering $85 billion being spent each month on quantitative easing – though the sentiment is growing both within the Fed’s governing board and FOMC and the financial markets that QE’s use-by date as an effective tool for economic recovery is drawing ever closer.


End of the Bernanke era?
Whether it’s Bernanke or his successor who presides over the end of open-ended ‘accommodation’ remains to be seen. Whilst Bernanke can put himself in contention for another four-year stint – his tenure as a Fed governor runs till 2020 - he’s been coy about whether he will, and as noted earlier the weight of market opinion is that he’s already decided he won’t. And of course he wouldn’t necessarily be re-nominated.

And start of the Yellen?

There are a number of eminently qualified candidates to replace him but we finish back with Janet Yellen. Possibly her star was made to rise a little prematurely earlier this year, when talk of Bernanke’s retirement was particularly active, and is now having trouble staying up, threatened by the ascendancy of other contenders, notably the Clinton-era Treasury Secretary and Obama economic adviser Lawrence Summers. If Yellen is to land the job – and presumably she would like to – she’ll have to push through not only the glass but the age ceiling. At 66 years old, she would be the oldest appointee to a job for which the average age so far on first appointment has been just 53.7 years.

Yellen in 1996: Inflation is good

In a sympathetic piece back in April this year, the New York Times recounted how, in 1996 during her previous stint as a member of the Fed’s Board of Governors, Yellen locked horns with the by-then-venerable chairman Alan Greenspan who had become seized with the notion of driving inflation all the way down to zero. As the Times put it, Yellen, ‘then a relatively new and little-known Fed governor, talked Mr. Greenspan to a standstill that day, arguing that a little inflation was a good thing’. She persuaded Greenspan to abandon the idea with carefully assembled analytical argument backed by meticulous research.

A few days ago, on 1 August, the NY Times reported that President Obama is currently talking both to Yellen and to two other candidates, being Summers – seen as Obama’s personal choice - and Donald Kohn, who preceded Yellen in the Vice Chair’s chair. But going forward, with the United States and other major economies taking extraordinary measures to actually stimulate rather than inflation, Yellen’s foresight as demonstrated 19 years ago could be exactly what is needed come next Spring. It’s hard to imagine a better argument for positive discrimination.