The Fed Won’t Release Its Bureaucratic Power Without a Fight

Annuit Coeptis by alexander amatosi (flickr) Federal Reserve, The FedSenator Dodd’s financial reform proposal removes the supervisory authority of the Federal Reserve Board over all but the largest banks, those with total assets of $50 billion or greater. Ben Bernanke, Chair of the Fed, testified before the House Financial Services Committee on Wednesday, and made it clear that he won’t relinquish that authority without a fight. In his prepared statement (pdf), he asserts that the Fed is really good at supervision, and gains information about the state of the economy from its supervisory work. He says the Fed has a vast amount of expertise in financial matters, and needs the factual data to operate its models.

He begins with the claim that the Fed has developed expertise in “examinations of risk-management practices” for banks of all sizes. There isn’t a footnote for this remarkable claim. Last year, 140 banks failed, and so far this year, another 36 have failed. That doesn’t include the ones that would have failed if the government hadn’t rescued them, such as Bank of America and Citibank.

There isn’t much sign of actual expertise in risk management at the Fed or anywhere else. No model deals with the real world. At best, they provide some very short-term information. At worst, they lead banks and regulators to think they know what they are doing, when in fact they don’t. I have discussed this issue here, and here. Yves Smith provides further explanation in her book ECONned, discussed here. The Report of the Examiner appointed in the Lehman Brothers bankruptcy case says that the Fed was in Lehman before the collapse, along with the SEC, and had no idea of the accounting tricks the company used to conceal its near insolvency. How can you trust someone who tries to tell you a story which has been debunked by reality?

Next, the barely confirmed Fed Chair tells us that in order for the Fed to do its job of managing our economy, it needs expertise in a number of areas, all of which the Fed has. That expertise sure would have come in handy in, say 2005, as the housing sector unmoored itself from reality, and speculation and outsourcing removed capital from the productive sector. Where was the Fed as people began to bet against the housing sector in a way that increased the flow of money into increasingly toxic mortgages? All that expertise, where was it?

After some bluster about the skill deployed by the Fed after 9/11 and the 1987 stock market crash, Bernanke explains that the supervision of small banks is important to the Fed’s understanding of the economy. Last Friday, the FDIC closed seven banks with total assets of $3.32 billion, and a total expected loss to the FDIC of $1.28 billion. Good work on that supervision. The information about those collapses is on the FDIC web page, Mr. Bernanke.

All of the information the Fed gets is in the form of reports. Perhaps the Chair can hire some people to download the reports from the Federal Financial Institutions Examination Council, of which the Fed is a member. Those reports are just as good whether they come from people who work for the Fed or the FDIC. In fact, given the aggressive work of the FDIC Chair Sheila Bair, perhaps Bernanke should ask for her reports if he thinks his people need information.

Annuit Cœptis courtesy of alexander amatosi

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